In recent years, a new term has emerged --- dollar circulation. Many people do not have a clear understanding of the dollar circulation, and even the word gives people a very vague feeling. But the issue of dollar circulation has to be discussed, because the dollar circulation is a key to understanding many problems in the global economy. Why do the currencies of various countries depreciate relative to the dollar, the dollar has appreciated sharply, and why are the economies of various countries in recession? These are all related to the dollar circulation.
Therefore, the establishment of a logical framework for dollar circulation can better understand problems and understand the market.
Reasons for the formation of the dollar circulation
We all know the ocean circulation. Similarly, there is also a currency circulation, which can be called the dollar circulation. Why do global currencies exist in the global economic circulation system in the form of US dollars? This is mainly due to the dominance of the US dollar in the post-war global monetary system. The main driving force of dollar circulation is the difference in investment yield.
When talking about this point, two important knowledge modules have actually been involved. The first knowledge module, when did the U.S. dollar dominate after the war? It was during World War II that the Bretton Woods system that emerged in 1944 established the dominance of the U.S. dollar. The global currency is linked to the U.S. dollar, and the U.S. dollar is linked to the gold behind it, forming a currency mechanism centered around the U.S. dollar.
The second knowledge module involves the history of the world reserve currency. What is the world reserve currency? What kind of currency can become the world's reserve currency? To sum up, there are three points.
Conditions for becoming a world reserve currency
This currency must have a high degree of liquidity, what is liquidity? When the assets in hand are sold in the market, everyone will scramble to grab them, and no one will refuse to accept them. The stronger this ability, the better the liquidity. Gold has historically had the highest liquidity.
In addition, there is the most convenient exchangeability, which is to exchange any assets with it, and the cost is very low.
The third element is that it has the highest international recognition, that is, everyone has formed a convention in history to recognize it as a reserve currency asset.
For example, gold has the above three conditions at the same time. Now it's dollars.
In the nearly 500 years of currency reserve history, Portugal, its currency was the first to become a reserve currency. From 1450 to 1530, it lasted for 80 years, then Spain, then the Netherlands, then France, and then the United Kingdom. After 1921, the position of the pound was gradually replaced by the dollar. With the above foreshadowing, we can better understand the dollar circulation.
Dollar circulation continues
When did the latest round of dollar circulation start? Year 2008. To be exact, after the outbreak of the financial crisis in 2008. Because the United States is facing the risk of bankruptcy of financial institutions (including some large banks). In order to save the banking system, the Federal Reserve launched the quantitative easing policy, hoping to push them back to profitability.
This process starts a new round of thermal circulation of the dollar, and the dollar begins to flow from the United States to other countries. In the final analysis, thermal circulation flows from low-yield assets to high-yield assets, or from low-risk areas to high-risk areas. This is a problem that has emerged after 2009.
Because after the United States carried out quantitative easing, the interest rate was gradually reduced to 0. In this case, a large number of dollars occupy the U.S. market, and the United States will face the dilemma of deteriorating yields.
what to do? These funds have to go overseas to find assets with higher yields and higher risks for investment, which has caused a large flow of dollars from the United States to the world.
After the dollar flocks to the world, it will inevitably lead to the expansion of the national currencies of various countries, which will induce asset price inflation in various countries. Many assets in the financial markets will rise sharply.
For example, the current rate of return in the United States is 1%, while the rate of return in China is 8%, then the money will flow to China. The key is how? For some Chinese companies, the cost of borrowing and financing in China is too high. If they issue US dollar bonds internationally, or borrow from US banking institutions, the interest rate is very low (after all, the Federal Reserve tends to 0 interest rate), so A large number of Chinese companies will borrow U.S. dollars. After they borrow the money, they exist in the form of U.S. dollars and cannot be directly consumed or invested in China.
How to do it? China has a foreign exchange settlement system, and these U.S. dollars are sold by companies to Chinese banks, and these banks get U.S. dollars, and finally sell them to the central bank, and finally form China's foreign exchange reserves.
After the central bank had these foreign exchange reserves, it began to issue more RMB. For example, if you collect one dollar in US dollars, issue 6 yuan in renminbi, and then hand over the renminbi to these companies, and these companies can invest.
In this process, China's foreign exchange reserves will definitely rise sharply, and at the same time, the domestic currency will also undergo a large-scale expansion.
Pay attention to the process. When U.S. dollars flow into any country on a large scale, no matter what kind of settlement system the country’s central bank adopts, as long as the local currency does not want to appreciate sharply against the U.S. dollar, it will inevitably purchase U.S. dollars on a large scale and depress the value of the local currency. Therefore, this process will definitely lead to the over-issuance of national currencies in various countries.
Like China, there are other emerging market countries have such a situation. What is the result of over-issuance of local currency? If there is more currency, the excess currency will definitely chase limited assets, which will cause asset prices to rise. So in this process, after 2009, various countries experienced asset price inflation.
QE
In fact, two important knowledge modules are involved. The first is the quantitative easing we are talking about, commonly known as QE. What is QE? If you don't understand the process of QE, you can't understand why the dollar was created and flowed to the world. To put it simply, the process of QE is that the central bank prints money and buys the two most important financial assets on a large scale in the financial market. For example, if the printed U.S. dollars are exchanged for treasury bonds and mortgage bonds held by some financial institutions, the U.S. dollars will flow out.
These financial assets bought at the same time inflated the Fed's balance sheet, which means that the currency printed by the Fed to buy these assets is actually an exchange. Assets come in and money goes out, so the entire balance sheet will be inflated. swell.
At the same time, a large amount of U.S. dollar cash will be injected into these financial institutions. After these financial institutions get the cash, the biggest dilemma is that the US treasury bonds or bonds held by the two companies in the past have some interest income, but now these financial assets are turned into This is a big hassle for financial institutions.
There is interest income when holding assets, but no cash, what should I do? You must know that these financial institutions also borrow other people's money, and then earn their own money, playing a game of funds.
Therefore, when it is not possible to hold assets with interest income, it is impossible to give investors a rate of return, which forces these financial institutions to look for assets with higher yields overseas. This is how they make money by taking the interest rate difference between the cost of financing and the rate of return.
Functions of the bank
In addition to this, there is also a knowledge module, how is the dollar created? This involves the fractional reserve system. A very important function of the banking system is to carry out monetary expansion. Many people may not understand that banks just collect people's savings and then lend them out? It's just a function of it.
One of the most important functions is the issuance of bank currency. In fact, most of the currencies in the market are created by banks. Like bank checks, bank deposits, etc., exist in this form. The M2 we often talk about is actually created by banks.
The asset prices of various countries are constantly rising due to the expansion of their currencies, and at the same time it has another effect, which is to make the debts of each country rise simultaneously, which involves another concept.
Rising asset prices lead to rising liabilities
Why does rising asset prices lead to rising liabilities? Let's take an example:
Assuming that the house price at that time in 2009 was 20,000 per square meter, if you bought 100 square meters, it would cost 2 million. However, due to the rise in real estate prices, the house price has changed from 20,000 to 40,000, and the house price of 100 square meters will rise from 2 million to 4 million, doubling.
But within the same period of time, it is impossible to double your income, what should you do? That means you have to take out more mortgages to be able to afford a house.
For example, it was enough to borrow 1.5 million in the past, but now you may have to borrow 3 million. This doubling speed exceeds the speed of your income growth, so the debt ratio of your personal debt has risen sharply.
This principle is the same for the whole country, because the country is composed of countless people. If every person or enterprise is in this situation, the total debt ratio of the whole country will rise sharply.
What is the total debt in the world now? The average total debt is about 286%, but what is the ratio of China's total debt divided by GDP? It is 282%.
In other words, the debt ratios of China and the whole world are similar, and these debt ratios are actually higher than before the financial crisis, which also makes all countries in a highly indebted situation.
Under this kind of debt pressure, every country's economy has to bear heavy debts, so the development speed will be relatively slowed down. This is a basic manifestation of the new normal.
Due to US dollar liabilities, companies in various countries will borrow US dollars on a large scale in the international market, which will form the accumulation of US dollar liabilities. Of course, this kind of dollar debt has formed local debt within each country, so the two kinds of debt exist at the same time, pushing up the debt ratio together.
This raises a question, what problems will arise when the dollar debt is gradually expanding? When the interest rate in the United States is very low and quantitative easing continues to run, that is, when the Federal Reserve keeps printing new banknotes and injecting new dollars into the international market, everything is fine, because it is very convenient to borrow dollars and borrow new money. Debts are repaid, and the debt rollover can be maintained continuously.
reversal of circulation
But when the United States stops quantitative easing and no new dollars flood into the international market, it will become more and more difficult to obtain dollars, eventually forming what we call a dollar shortage. There will be a problem. When the US dollar debt expands to a certain extent, the US dollar debt will form an inverted pyramid, and the high degree of debt will oppress the limited liquidity (that is, limited cash). What will happen in the end? When the U.S. dollar cannot be found, the only option is to sell assets to obtain cash, and then exchange it with local currency.
In this process, the dollar will automatically form a scarcity of dollars, and this scarcity will automatically push up the value of the dollar. Because there are too many U.S. dollar debts, once new U.S. dollars cannot be obtained to repay old debts, a strong U.S. dollar will inevitably occur. This has nothing to do with whether the U.S. economy is good or bad. If the U.S. economy grows by 2%, the dollar will be strong, and if the U.S. economy grows by 2%, it will also be strong. This is caused by the supply and demand formed by the global currency mechanism, and it is a logical necessity.
From a data point of view, in September 2014, the Bank for International Settlements issued a report that the total US dollar liabilities outside the United States had reached 9.2 trillion at that time, a significant increase of 50% compared to 2009. This new debt is mainly from the Asian region and emerging market countries.
The U.S. dollar liabilities of emerging market countries reached $5.7 trillion. Among the US$5.7 trillion in liabilities, most of them are US dollar loans, and some are US dollar bonds, which together constitute a huge US$5.7 trillion in US dollar liabilities. Among them, the total amount of debts borrowed by Chinese enterprises in US dollars is as high as 1.4 trillion US dollars.
Borrowing so many U.S. dollars, and various countries have not effectively hedged the borrowing of U.S. dollars. This creates a problem: once the direction of the dollar circulation is reversed, and the hot circulation turns into a cold circulation, it will cause a major dollar solvency crisis.
The dollar circulation is cooling, what does it mean? It means that the global dollar will gradually cool and shrink, and those people or institutions around the world who are locked up in dollar liabilities must find dollar cash in the market, otherwise they will not be able to repay their debts. With the dollar shrinking, it is difficult to find enough dollar cash, and the process becomes a vicious circle.
Everyone is scrambling to sell their assets, to run on the dollar reserves of central banks of various countries, and to repay the debts in dollars, which will lead to the depreciation of the local currency, the central bank reserves will be run, and at the same time the financial markets of various countries will start to turmoil. These vicious circles will gradually bite each other. Together, in this process, they will jointly promote the continuous appreciation of the dollar.
Cold circulation coming
In July 2014, this was an important inflection point, because in this month the circulation of the US dollar began to cool, and the foreign exchange reserves of central banks around the world fell from the peak. This situation only appeared during the 2008 financial crisis.
When the central bank's total reserves begin to shrink, it means that the local currencies of various countries will face strong contraction pressure.
Because for each country (including China), foreign exchange reserves are basically an important basis for issuing local currency, and this phenomenon is especially obvious in China. Therefore, when the foreign exchange reserves begin to decrease, there will inevitably be a severe currency contraction.
Under such circumstances, there will be problems in the economies of various countries. If you look at the main indicators in the figure below, you will find a very obvious similarity, that is, the time is highly focused on July 2014.
For example, oil prices, it was in July 2014 that oil prices began to plummet; similarly, around July 2014, to be precise in May, many commodities other than oil began to plummet turning point.
In July 2014, global trade began to shrink, and the total volume and value of global trade began to decline sharply. This is not an isolated phenomenon.
It was also in July 2014 that the U.S. dollar began to strengthen. When the total global currency reserves began to shrink, when everyone faced the reduction of the Federal Reserve’s U.S. dollar liquidity, or stopped supplying the same amount of newly added U.S. dollars to the international market, 92,000 The reality of the huge US dollar debt problem has become increasingly prominent, exerting increasing pressure.
Under this kind of pressure, the countries bearing dollar debts want to repay their debts as much as possible, so as to reduce this pressure, it counts as much as it can reduce. This is the fundamental reason why the US dollar began to strengthen sharply in July 2014.
When the entire circulation system is known, there will be an overall understanding of the exchange rate of the US dollar, including the exchange rates of various countries relative to the US dollar. The currencies of various countries are depreciating against the US dollar. Why? In fact, the fundamental reason is that the dollar circulation began to reverse. (Of course, with the advent of the epidemic, the Federal Reserve and various central banks have loosened one after another, and the dollar circulation has once again turned into a thermal circulation, but how long it can last is a big question mark. It may be only temporary, or it may be completely reversed)
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