Analysis of the Impact of US Dollar Liquidity on the Crypto Market

The remote ski entrance in Hokkaido's ski resorts offers excellent terrain, most of which can be easily accessed by cable cars. At the beginning of each year, the main concern for skiing enthusiasts is whether there is enough snow coverage to open these entrances. A significant challenge for skiers is "sasa," a type of bamboo plant. The stems of this plant are as thin as reeds, but its leaves are sharp as knives, and a moment's inattention can result in cuts on the skin. Skiing on "sasa" is very dangerous, as your ski edges may slip, leading to a perilous game of "man vs. tree." Therefore, skiing in remote areas can be extremely risky if there is not enough snow to cover the "sasa."

This year, the snowfall in Hokkaido reached a new high in nearly 70 years, with the powder snow being incredibly deep. As a result, the backcountry ski entrance opened at the end of December, whereas it usually opens in the first or second week of January in previous years.

As 2025 approaches, investors have shifted their focus from skiing to the crypto market, particularly on whether the "Trump Rally" can continue. In the latest article, I suggest that the market's high expectations for the actions of the Trump camp may lead to disappointment, negatively impacting the short-term market. However, at the same time, I must also weigh the stimulating effect of dollar liquidity.

Currently, the trend of Bitcoin fluctuates with the rhythm of the dollar's release, as the financial higher-ups of the Federal Reserve and the U.S. Treasury hold the power to determine the amount of dollars supplied to the global financial market, which is a crucial factor affecting the market.

Bitcoin bottomed out in the third quarter of 2022, when the Federal Reserve's reverse repurchase agreement (RRP) tools peaked. Under the urging of U.S. Treasury Secretary Yellen, the U.S. Treasury reduced the issuance of long-term coupon bonds while increasing the issuance of short-term zero-coupon bonds, thereby drawing more than $2 trillion from the RRP.

This has actually injected liquidity into the global financial markets. The cryptocurrency and stock markets, especially large tech stocks listed in the United States, have risen significantly as a result. The chart shows the relationship between Bitcoin and RRP: as RRP decreases, the price of Bitcoin rises.

In the first quarter of 2025, the question I sought to answer was whether the positive stimulus of US dollar Liquidity could overshadow the potential disappointment in the speed and effectiveness of Trump's so-called "pro-encryption" and "pro-business" policies. If so, then market risk would become relatively controllable, and funds should increase their risk exposure.

First, I will discuss the Federal Reserve, which is a small consideration in my analysis. Subsequently, I will focus on how the U.S. Treasury responds to the debt ceiling issue. If politicians delay in raising the debt ceiling, the Treasury will utilize its funds in the Federal Reserve's General Account (TGA), which will inject liquidity into the market and create positive momentum for the crypto market.

Federal Reserve

The Federal Reserve's quantitative tightening (QT) policy is advancing at a pace of $60 billion per month, which means that the size of its balance sheet is shrinking. Currently, there has been no change in the Fed's forward guidance regarding the speed of QT. I will explain the reasons in the later part of the article, but my prediction is that the market will peak in mid to late March, leading to a withdrawal of $180 billion in Liquidity.

The reverse repurchase agreement (RRP) tool has nearly fallen to zero, and the Federal Reserve has delayed adjusting the RRP policy interest rate in order to thoroughly deplete the funds of this tool. At the meeting on December 18, 2024, the Federal Reserve lowered the RRP rate by 0.30%, which is 0.05% more than the decrease in the policy rate. This move aims to link the RRP rate to the lower bound of the federal funds rate (FFR).

Currently, two funding pools will help curb the rise in bond yields. For the Federal Reserve, the yield on the 10-year U.S. Treasury bond cannot exceed 5%, as this level would trigger a significant increase in bond market volatility. As long as there is liquidity in the RRP and the Treasury General Account (TGA), the Federal Reserve does not need to make significant adjustments to its monetary policy, nor does it have to acknowledge that a fiscal-led situation is occurring.

Once the Treasury General Account (TGA) is depleted and subsequently replenished due to the debt ceiling being raised, the Federal Reserve will exhaust its emergency measures and will be unable to prevent yields from inevitably rising further following the easing cycle that began in September of last year.

This has little impact on the dollar liquidity situation in the first quarter; it is just a reflection on how the Federal Reserve's policy might evolve over the year if yields continue to rise.

The upper limit of the federal funds rate (FFR) and the yield on the 10-year U.S. Treasury bond clearly show that while the Federal Reserve lowers interest rates in the face of inflation above its 2% target, bond yields have risen.

The real issue is the speed at which reverse repurchase agreements (RRP) have fallen from about $237 billion to zero. I expect RRP to approach zero at some point in the first quarter as money market funds (MMF) withdraw funds and purchase higher-yielding Treasury bills (T-bill) to maximize returns. It should be made particularly clear that this means $237 billion of dollar liquidity will be injected in the first quarter.

After the RRP rate change on December 18, the yield on Treasury bills (T-bills) maturing within 12 months has exceeded 4.25%, which is the lower limit of the federal funds rate.

The Federal Reserve will reduce liquidity by $180 billion due to quantitative tightening (QT), while an additional $237 billion liquidity injection will be driven by the reduction of RRP balances caused by the Fed's adjustment of reward rates. This means a total net liquidity injection of $57 billion.

Ministry of Finance

Yellen told the market that she expects the Treasury to begin taking "extraordinary measures" to fund the U.S. government between January 14 and 23. The Treasury has two options to pay government bills: either issue debt or spend funds from its checking account at the Federal Reserve.

As the total debt cannot increase before the debt ceiling is raised by the U.S. Congress, the Treasury can only spend funds from its checking account, the TGA. Currently, the balance of the TGA is $722 billion. The first major assumption is when politicians will agree to raise the debt ceiling. This will be the first test of Trump's support among Republican lawmakers. Remember his governing margins - the Republican majority over the Democrats in the House and Senate is very slim.

Some Republicans like to puff out their chests and act high and mighty. Whenever the debt ceiling issue is discussed, they claim to care about reducing the size of an oversized government. They will delay voting to support an increase in the debt ceiling until they have secured some hefty returns for their constituents.

Trump has failed to persuade them that if the debt ceiling is not raised, he will veto the spending bill at the end of 2024. After suffering a devastating defeat in the last election, Democrats are unlikely to help Trump unlock government funding to achieve his policy goals.

Therefore, in order to promote the development of affairs, Trump will wisely include the debt ceiling issue in the agenda only when absolutely necessary, before proposing any legislation.

When failing to raise the debt ceiling could lead to a technical default on maturing government bonds or a complete government shutdown, increasing the debt ceiling becomes crucial. According to the 2024 revenue and expenditure data released by the Treasury, I estimate that this situation will occur between May and June of this year, when the TGA balance will be fully depleted.

The visualization of TGA usage speed and intensity helps predict the maximum effect moment for fund usage, as the market is forward-looking. Given that this data is all public, and we know that when the Treasury cannot increase the total amount of U.S. debt and accounts are nearing exhaustion, the market will look for new sources to acquire USD Liquidity. When the utilization rate reaches 76%, March seems to be the moment when the market will ask "What's next?".

If we add the total dollar Liquidity from the Federal Reserve and the Treasury by the end of the first quarter, it amounts to 612 billion dollars.

What will happen next?

Once the default and shutdown are imminent, a last-minute agreement will be reached, and the debt ceiling will be raised. By then, the Treasury will be able to borrow again in net borrowing terms and must refill the TGA. This will have a negative impact on dollar Liquidity.

Another important date in the second quarter is April 15, when taxes are due. As shown in the table above, government finances improved significantly in April, which is negative for dollar Liquidity.

If the factors affecting the TGA balance are the only determinants of cryptocurrency prices, then I expect a local market top to occur by the end of the first quarter. In 2024, Bitcoin reached a local high of about $73,000 in mid-March, then entered a period of consolidation and began a months-long decline before the tax deadline on April 11.

trading strategy

The problem with this analysis is that it assumes that US dollar liquidity is the most critical marginal driver of global total legal tender liquidity. Here are some other considerations:

• Will China accelerate or slow down the creation of Renminbi credit?
• Will the Bank of Japan start raising interest rates, which would lead to an appreciation of the USD-JPY and unwind leveraged arbitrage trades?
• Will Trump and Besant conduct a large-scale overnight devaluation of the dollar against gold or other major fiat currencies?
• How efficient is the Trump team in rapidly reducing government spending and passing legislation?

These major macroeconomic issues cannot be predetermined, but I am confident in the mathematical model of how RRP and TGA balances change over time. My confidence is further validated, especially by the market performance from September 2022 to now: the increase in dollar liquidity due to the decline in RRP balances has directly led to the rise in cryptocurrencies and stocks, despite the Federal Reserve and other central banks raising interest rates at the fastest pace since the 1980s.

Despite various warnings, I believe I have answered the question I initially posed. That is to say, the disappointment of the Trump team in their failure to deliver on the proposed legislation supporting cryptocurrency and business can be offset by an extremely positive environment of dollar liquidity, with an increase in dollar liquidity in the first quarter reaching as high as $612 billion.

As is the case almost every year, as planned, the end of the first quarter will be the time to sell, take a break, go to the beach, nightclubs, or ski resorts in the Southern Hemisphere, and wait for the dollar liquidity conditions to improve again in the third quarter.

As the Chief Investment Officer of the fund, I will encourage the risk-takers in the fund to adjust their risk to the "DEGEN" (extreme risk) mode. The first step in this direction is our decision to venture into the emerging field of decentralized science (DeSci). We like undervalued junk coins and have purchased BIO, VITA, ATH, GROW, PSY, CRYO, NEURON.

If things go as smoothly as I described, I will adjust the benchmark in March and jump into the "909 Open High Hat" phase. Of course, anything can happen, but overall I am bullish.

Perhaps Trump's market sell-off will occur between mid-December 2023 and the end of 2024, rather than mid-January 2025. Does that mean I'm sometimes a bad predictor? Yes, but at least I can absorb new information and opinions and make adjustments before they lead to significant losses or missed opportunities.

This is what makes the investment game so captivating. Imagine if you every