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Interest rates

Why Interest Rates Count (and don’t anymore)

Key Takeaways

  1. Rising Liquidity and Asset Prices: The consistent rise in liquidity is expected through 2024 and 2025,  propelling the demand for monetary inflation hedges such as cryptocurrencies, tech stocks, gold, and equities.
  2. Accelerating Fiscal Deficits: accelerating fiscal deficits worldwide, particularly in the US, where debt levels have nearly doubled in the past eight years, are increasing government financing needs, leading to higher asset prices.
  3. High Interest Rates and Spending: Despite high-interest rates, debt levels, and government spending, there is a demand for more liquidity injections to finance these deficits, which in turn pushes up asset prices.
  4. Central Banks' New Strategy: The shift from Quantitative Easing (QE) to Quantitative Support (QS) by central banks and governments worldwide as a strategy to continue providing the necessary liquidity without the stigma associated with traditional QE.
  5. Interest Rates' Reduced Role: Interest rates, while still important for those with debt, play a diminished role in controlling economic variables like inflation, leading to prolonged periods of high rates.
  6. Impact on Debt and Asset Prices: With continuing high-interest rates, the burden of government debt grows, leading to more debt monetisation and, consequently, higher asset prices.
  7. Crypto and Tech as Hedge Investments: Pointed out that the best hedge against monetary debasement is investing in cryptocurrencies and technology due to their rising adoption and inherent potential to appreciate in value.
  8. Macro Trends and Investment Opportunities: The strong long-term trend towards increasing liquidity, tech adoption, and the expanding user base of cryptocurrencies, which is expected to reach 4 billion by 2030, is highlighted.
  9. Investment as Participation in Technological Revolution: Investing in cryptocurrencies is not just a financial decision but participation in a major technological revolution, benefiting investors through their ownership and support of the network and its projects.
  10. Urgency and Long-term Benefits: The compounding effect of financial decisions and significant macroeconomic opportunities available suggest that investing today could potentially benefit one's future financial state.

The world we live in is simple and complex. Simply because liquidity is one of the most important factors in understanding the financial markets, and when you have understood this, the rest becomes crystal clear (as explained in our previous articles). Complex because to understand how liquidity is shaped, a lot of moving parts are involved, and some new flows or mechanisms have emerged and are changing some rules. To start, the cycle is unfolding as planned and is following the normal route so far. 

Liquidity is rising and will continue to rise through 2024 and 2025, making monetary inflation hedges the most wanted assets (crypto, tech stocks, gold and equities), but something new or rather a confirmation of something we were seeing potentially happening is unfolding in front of us. The acceleration of fiscal deficits around the world accelerates government financing needs. Indeed, US debt, for example, has nearly doubled in the last 8 years and is to continue to accelerate as funding at current interest rates makes the picture look self-realising. The International Monetary Fund (IMF) just warned that by 2030, the average world government debt to GDP ratio will be around 98%, levels never seen before. 

This combination of high-interest rates, high debt levels, and high spending is ultimately screaming for more liquidity injections (as illustrated on the charts below) to finance deficits, which will, therefore, push all asset prices up. 

Fed net liquidity
Source: Raoul Pal the Journey Man
US debt and global liquidity go hand in hand
Source : Econometric, FRED
Us national debt on course to double in just 8 years
Government debt

We are in a moment in the cycle where we have retraced quite a bit, where liquidity for seasonality reasons has been withdrawn from the system (tax season in the US, for example), but let’s not fool ourselves that this is only a bump in the road, and the long term trend remains unchained. Even more so, it’s more than ever exasperated. But how will governments be able to add the liquidity needed when they are publicly fighting inflation levels that are not going down and that QE in the general public mind has fuelled inflation (even if it’s not completely true, the real inflation it created is asset world)? The answer is through traditional banks.

Central banks and governments around the world have started moving on to the next way, called Quantitative Support (QS), which is, in fact, a disguised form of Quantitative Easing (QE). Indeed, the general understanding of QE doesn’t allow the usage of it anymore, but the economy and the financial markets need liquidity, and the government and agencies don’t have any other choice than to fund this one, or we will get into a refinancing crisis. 

So while we are all focused on forecasting when and how central banks will cut rates, the cuts we were all anticipating might not happen and will crash asset prices, invalidating the forecasts. The magic is happening behind the scenes (as illustrated in the chart below ).

Treasury and Agency securities, all commercial banks

Not saying that interest rates don’t matter. They do, as everyone living with some debt will benefit from paying less interest, and the government will lower their borrowing costs and stop exacerbating the debt spiral. But they are less than in the past, as explained in our previous articles, and they are not, for the moment, an instrument the FED, for example, can use as inflation is not showing the trend allowing them to cut. Therefore a new paradigm is emerging. As CPI is not slowing down, interest rates are set to stay higher for longer; this makes the debt burdens higher and higher for the government as they are not reducing their mandatory spending (rather increasing them with an ageing population and wars risks increasing). Therefore this leads to higher costs of debt, given all the reasons explained above and in our series of articles, leads to higher debt monetisation (see charts below) and debt monetisation leads to asset price increase. 

US annual interest payments
GMI total liquidity index, annualised growth rate
Source: Raoul Pal the Journey Man

The liquidity will continue to rise, and with that, asset prices. This trend has no way of reverting for the moment for all the reasons mentioned above and in our previous series of articles. Even more so, the recent events around the world (war risks increasing, CPI not slowing as much as expected in the US etc.) are pushing for higher monetary debasement. To protect your future self from this, to not get robbed by this insidious force, you need to be invested and the best asset to hedge yourself against this crypto, as illustrated below. Indeed liquidity increases drive crypto asset prices up (as well as all other assets) or down (when the cycle reverses), but cryptos benefit from adoption and therefore rise more in the long run. 

GMI total liquidity index
Source: Raoul Pal the Journey Man
Digital assets have been the best performing assets in 11 of the last 14 years
Source: Raoul Pal the Journey Man
Risk vs return
Source: Fidelity

The trend remains, and the risk-reward has never been better as we are now entering the macro summer. All signals are flashing green, and liquidity will continue to increase in the coming months for all the reasons explained above.

All signals are flashing green, and liquidity will continue to increase in the coming months
Source: Raoul Pal the Journey Man
All signals are flashing green, and liquidity will continue to increase in the coming months
Source: Raoul Pal the Journey Man

But the long-term trend is stronger than ever. Tech adoption + crypto adoption has yet to continue, as illustrated in the chart below. Crypto users will probably be around 1 billion at the end of this current cycle and 4 billion in 2030 (see chart below).

Crypto users vs internet users over same time
Source: Raoul Pal the Journey Man
Source: Raoul Pal the Journey Man

Let’s remember that this is a gift. We are given the biggest macroeconomic play possible, and it’s accessible to all. By investing today, you allow your future self to be better off, but as well you are participating in one of the biggest technological revolutions as being a crypto holder, you own your share of the network. You foster innovation by supporting projects, and you benefit from the adoption curve and the macro play. As always, it’s part of our mission to help our community become financially free (whatever this means for them) and help them understand the forces in place. Yesterday you said tomorrow. Every day the compounding effect serves or deserves you. 

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