How to understand the recent decline: The first wave of "Trump shock" is coming

Author: @Web3_Mario

Abstract: The cryptocurrency market experienced a large pullback last week, which was generally attributed to the so-called "hawkish rate cut" by Federal Reserve Chairman Powell, which triggered concerns in the risk market about inflation and economic recession. However, according to the author's analysis, this is probably only a secondary factor causing capital panic. The real impact lies in the strong pressure on Congress's short-term spending bill initiated by Trump and Musk last Wednesday, and even the uncertainty caused by threatening to cancel the debt ceiling rule, which triggered the risk aversion of funds.

Powell may be caught in the crossfire, and macro data is not enough to cause panic in the market about monetary policy risks

The FOMC interest rate decision in the early hours of last Thursday was in line with market expectations, ending with a 25BP reduction. The market generally attributed the decline in the risk market to two aspects. First, according to the dot plot, there was no unanimous consensus in this session, among which Cleveland Fed Chairman Hammack tended to keep the interest rate unchanged. In addition, the median target interest rate for 25 years was raised to 3.75%~4.00%, compared with the median target interest rate of 3.25%~3.5% in the last September dot plot, and the expectation of interest rate cuts was lowered from 4 times to 2 times. Here is a brief introduction. The so-called dot plot refers to a chart tool used by the Federal Reserve to express monetary policy makers' expectations of the future interest rate path. It is part of the Summary of Economic Projections (SEP) released at the Federal Open Market Committee (FOMC) meeting, which is usually released four times a year and is mainly used to observe the policy consensus within the Federal Reserve.

In addition, in the subsequent Q&A session, some of Powell's remarks were interpreted by the market as hawkish guidance, mainly including two aspects: first, he seemed to show a concerned attitude towards the inflation outlook for the coming year, and Powell did not give a positive response to the Fed's attitude towards establishing Bitcoin reserves. However, after reading the full text, it feels that Powell's concerns about inflation risks do not come from changes in certain macro indicators, but more from the uncertainty of Trump's policies. At the same time, he also revealed enough confidence in the outlook for the future economic prospects.

Then let's take a look at why we say that. First, let's look at the changes in the U.S. Treasury yield curve before and after the Fed's resolution and related content are made public. We can see that the long-term interest rate has indeed risen, but the impact on the 1-year yield is not very large, which shows that the market is indeed more concerned about the long-term economic outlook, but at least the risk is not in the short term.

From the price of the 30-day federal funds futures contract expiring in December 25, it can be seen that in fact, the market has already responded to the prospect of two future rate cuts as early as November, so it seems that it is not enough to attribute the callback mainly to the risk of the Fed's future interest rate decision. Here I would like to add that the calculation of the implied interest rate is 100 minus the current futures price.

Next, let's look at several sets of macro data, PCE index, non-agricultural and unemployment rate and GDP growth details. It can be seen that the US PCE index has not risen significantly at least in the past period of time. Both the year-on-year growth rate of PCE and the year-on-year growth rate of core PCE have remained below 2.5. At the same time, the expected inflation rate of the University of Michigan has remained stable, and the unemployment rate has not increased significantly. At the same time, non-agricultural in November has also increased compared with the previous period, which also shows that the job market has also shown a strong side. Considering Trump's tax cuts and GDP growth, it has also stabilized in the end, and there has been no obvious decline in any item. Therefore, from the perspective of macro data, there is no data to support the judgment of inflation rekindling or economic recession in the next year. This also shows that Powell's concerns still come from Trump's uncertain policy effects.

Here is a little more explanation. The Dow Jones Index has been falling for a record period. Some friends think that this reflects the market's pessimism about the future prospects of US industrial development. However, after a detailed understanding, the main reason for this impact does not seem to be systemic risk, but mainly comes from the substantial downgrade of UnitedHealthcare. First of all, the Dow Jones Industrial Average (DJIA) is a price-weighted index, which means that the impact of the price of each component stock on the index depends on the absolute value of its stock price, not its market value. This means that high-priced targets will have higher weights in the Dow Jones Industrial Average. As of November 2, 2024, UnitedHealth Group has the highest weight in the Dow Jones Industrial Average, accounting for 8.88%. In the latest individual stock weights, UNH's weight has dropped to 7.08%. The stock price has dropped from 613 on December 4 to the current 500, a drop of 18%, while other high-weight stocks have not seen such a drop. Therefore, the main reason for the decline in the Dow Jones Industrial Average is the single-point risk of the high-weight stock UNH, rather than the systemic risk. So what happened to UNH? The main cause was that UNH CEO Brian Thompson was shot several times by a gunman outside the Hilton Hotel in Manhattan, New York on December 5 and died after being sent to the hospital. The gunman's name is Luigi Mangione, and he has a good social background. The interrogation process showed that his behavior was more due to UNH's exploitation of the American people in terms of medical insurance, which aroused widespread sympathy for him in society and triggered the long-standing contradiction of expensive medical costs in the United States. This is also in line with Trump's medical insurance reform policy direction. Therefore, the resonance of the two caused the stock price to plummet, which will not be elaborated here. Of course, regarding the episode about Bitcoin reserves, I think Powell’s attitude is not too important. As he said, the right to decide whether to promote this proposal lies with the congressmen, not the Fed. At the same time, referring to the establishment and management framework of the US oil and gold reserves, the former belongs to the US Department of Energy, and the latter to the Treasury Department. Of course, the management process involves the collaboration of other departments, such as the SEC, CFTC and other regulators, as well as the policy influence of the FED. However, in this process, these departments played a more collaborative role.

Why did the market react so violently? I think the main reason is that Trump and Musk launched strong pressure on the short-term spending bill of Congress last Wednesday, and even threatened to cancel the debt ceiling rule, which triggered the uncertainty of risk aversion of funds.

Trump and his powerful forces threatened to permanently cancel the debt ceiling, casting a shadow on the traditional US dollar credit system, and the market began to hedge.

I don’t know how many friends paid attention to the game about short-term spending in the US Congress last week. On Tuesday, December 17, House Speaker Mike Johnson reached a short-term agreement with the Democrats on government spending, which will extend government funding until March next year to avoid a government shutdown. At the same time, in order to pass the bill, Johnson also made some concessions to the Democrats and attached several bills supported by both parties. However, on December 18, Musk began to criticize the proposal in X, believing that the proposal seriously infringed the rights of taxpayers, which led to the rapid rejection of the proposal.

At the same time, the whole process also won the support of Trump. Trump claimed in True Social that Congress needed to abolish the ridiculous debt ceiling rules before Trump officially took office on January 20, because he believed that these debt problems were caused by Biden’s Democratic government and should be solved by him. After that, the Republicans quickly amended the new spending bill, not only deleting some compromise spending, but also supplementing the proposal to abolish or suspend the debt ceiling. However, the proposal failed to pass the House of Representatives on Thursday (December 19) with 174 votes in favor and 235 votes against. This also triggered the risk of a government shutdown. Of course, the House of Representatives finally passed a new temporary spending bill on December 20, just a few hours before the deadline, and deleted the proposal to amend the debt ceiling from the proposal.

Although the new spending bill was passed, avoiding a partial shutdown of government departments, the author believes that Trump's attitude towards the abolition of the debt ceiling has obviously caused market concerns. We know that Trump's power is the greatest among all US presidents, especially in the House of Representatives, and he has also gained absolute voice. The new members of the House of Representatives will be sworn in and officially take office on January 3, when the possibility of passing the abolition of the debt ceiling will be greatly increased, so let's analyze the impact of this.

The US debt ceiling refers to the maximum legal amount that the US federal government can borrow. It was first established in 1917. This amount was set by Congress to limit the growth of government debt. The purpose of the debt ceiling is to prevent the government from over-borrowing, but it is not actually an effective means to control the debt level, but the upper limit of the government's legal borrowing. In addition to establishing fiscal discipline, the debt ceiling is also a very important weapon in the game between the two parties. Often, the opposition party will gain more bargaining chips by attacking the spending bills of the ruling party and the risk of government shutdown.

Of course, the US debt ceiling has been suspended many times, usually through legislation, with Congress passing a bill to suspend the application of the debt ceiling. Suspending the debt ceiling means that the government can continue to borrow without being restricted by the set ceiling until the deadline specified in the bill or the debt reaches a new level. The more typical cases are as follows:

• 2011-2013: In 2011, the United States faced a serious debt ceiling crisis. At that time, Congress and President Obama had fierce negotiations on how to raise the debt ceiling, and finally reached an agreement to temporarily raise the debt ceiling and take some budget cuts. In addition, in order to avoid government default, in October 2013, the U.S. Congress passed a bill to suspend the debt ceiling and allow the government to borrow until February 2014. At that time, the U.S. debt level was close to the limit, and suspending the debt ceiling avoided the risk of government default.

• 2017-2019: In 2017, the U.S. Congress again passed a bill to suspend the debt ceiling and allow the government to continue borrowing until March 2019. The bill also included other fiscal matters and was linked to the agreement on the budget and government spending. This suspension allowed the U.S. government to avoid a possible default.

• 2019-2021: In August 2019, the U.S. Congress passed the Two-Year Budget Agreement, which not only increased the ceiling on government spending, but also suspended the debt ceiling, allowing the government to borrow more money until July 31, 2021. This suspension allows the government to continue borrowing without being restricted by the debt ceiling, thereby ensuring the normal operation of the government and avoiding government shutdowns and debt defaults.

• 2021: In December 2021, in order to avoid a default by the U.S. government, Congress passed a temporary debt ceiling adjustment bill, raising the debt ceiling to $28.9 trillion and allowing the government to borrow until 2023. This adjustment was made at the last minute before the expiration in October 2021, avoiding the risk of debt default.

It can be seen that each suspension of the debt ceiling is to deal with certain special events, such as the financial crisis in 2008 and the epidemic in 2021. But why does the re-mention of abolishing the debt ceiling at this time have such an impact? The core lies in the current debt scale of the United States. The ratio of US public debt to GDP has reached a historical high of more than 120%. If the debt ceiling is abolished at this time, it means that the United States will not be bound by any fiscal discipline for a long time in the future. The impact on the US dollar credit system is actually unpredictable.

Why does Trump need to do this? The reason is very simple. In order to survive the short-term debt crisis risk, we already know that in Trump's focus of governance, tax cuts and reducing public debt are the two most important goals. However, although the tax cut policy can increase economic vitality, it is bound to cause a reduction in government revenue in the short term. Of course, the resulting fiscal gap may be made up by increasing tariffs, but considering that manufacturing countries can respond by lowering the exchange rate, this is why the US dollar index has remained strong recently during the interest rate cut cycle. The core is that countries are preparing for a possible trade war. At the same time, the decline in profits of local companies that may be caused by cutting fiscal spending has also cast a shadow on the potential for economic growth. Therefore, in order to survive the pain period of implementing this policy, Trump certainly hopes to solve this problem once and for all. Therefore, it is very appropriate to abolish the debt ceiling and continue to borrow in the short term to survive the fiscal crisis.

Finally, let's take a look at why it affects cryptocurrencies. I think the core lies in the attack on the narrative of Bitcoin reserves. We know that in the recent core narrative of cryptocurrencies, the United States' solution to the debt crisis by establishing Bitcoin reserves is an important part of it, but if Trump directly abolishes the debt ceiling rule, it is equivalent to indirectly attacking the value of this narrative. In the previous analysis, we have already reduced it to the stage where cryptocurrencies are currently looking for new value support, and it is easy to understand that the profit-taking and risk aversion caused by this is also easy to understand. Therefore, I think that in the next period of time, the priority of observing the Trump team's policies is obviously higher than other factors, and it needs to be continuously paid attention to.