What is the essence of raising interest rates?

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Easy to understand, what is the Fed's interest rate hike?

To understand the Fed's interest rate hike, we need to first understand the basic structure and functions of the Fed.

The Federal Reserve consists of three parts: the Federal Reserve Board (FRB), the Open Market Committee (FOMC) and 12 regional federal reserve banks in major cities across the country. There are about 2,000 member banks under these 12 reserve banks.

The Federal Reserve Board has seven executive members, including the chairman, vice-chairman and five other members. All seven executive members must be nominated by the President and confirmed by the National Assembly before they can take office. The term of office of the executive members is 14 years, and the term of office of the chairman and vice-chairman is 4 years. The Open Market Committee has 12 members, consisting of 7 executive members of the Reserve Committee and 5 chairmen of 12 regional federal reserve banks, of which the chairman of the new york Federal Reserve Bank has the right to vote, and the other 11 banks elect 4 members to get the right to vote in turn. For details, please refer to the following figure:

In terms of responsibilities, the Federal Reserve Board is the authority. The central Federal Reserve Board has the right to approve the appointment of the chairman of the regional federal reserve, and has the leading power in the process of monetary policy decision-making and implementation. It can decide the bank deposit reserve ratio and reserve interest rate, and review the discount rate. The Open Market Committee is the executive body, which meets once every six weeks, which is what we usually call the Fed's meeting on interest rates. The meeting decides the policy of open market operation, that is, the adjustment direction of monetary policy, which is usually called the benchmark interest rate. There are three adjustment directions: if interest rates are raised, interest rates will be raised; If the interest rate is lowered, it will cut interest rates; There is also keeping the current interest rate unchanged; Twelve local reserve banks, as important participants, participate in the implementation of Fed policies and the feedback of economic market conditions.

Fed members are mainly divided into two factions: doves and hawks. Traditional doves are basically economists from the east and west coasts of the United States, such as doctors who graduated from MIT, Massachusetts Institute of Technology and Berkeley Department of Economics in California. They like to use academic models extensively to represent the interests of traditional financial industries. Traditional hawks basically come from the midwest and southern States of the United States. They represent the interests of manufacturing, energy, agriculture and other industries in the United States. They advocate market decisions in philosophy, hope to raise interest rates, and hate quantitative easing and real estate speculation.

The struggle between these two factions will make the Fed's policy swing from side to side. Before each interest rate meeting, some hawkish or dovish members will make speeches on raising or lowering interest rates, which will affect the market's ups and downs for a short time, but the meeting result may be just the opposite of the speeches of these members.

Different from other countries, the Federal Reserve is a private central bank, whose main function is to maintain and stimulate the economic growth of the United States and ensure the stability and employment of the American market. However, it does not care much about asset price bubbles and inflation.

Knowing the basic structure and functions of the Federal Reserve, we can better understand the path and essence of the Fed's interest rate hike.

The Fed's interest rate hike is essentially to raise the borrowing rate between the Fed and commercial banks, leading to an increase in the borrowing cost between banks (federal funds rate, the benchmark interest rate in the United States), and then to raise the borrowing rate between commercial banks, enterprises and residents, and finally to affect the investment and consumption of the whole society through the way of interest rate hike.

Specifically, all financial institutions that absorb depositors' deposits in the United States have a reserve account in the Federal Reserve, and the balance of each institution's reserve account cannot be lower than a certain proportion of its short-term deposits, which is called the reserve ratio or deposit reserve ratio. Under normal circumstances, banks with insufficient reserves can make short-term loans to banks with excess reserves to replenish their reserves. The interest rate of short-term loans between financial institutions in the market to meet the requirements of reserve funds is called the federal funds rate.

The Federal Reserve influences the interest rate of the federal funds through open market operation, which refers to the behavior of the Federal Reserve to put or withdraw money from the market by buying and selling bonds. After the Open Market Committee set the federal funds interest rate target, the Federal Reserve changed the circulation of money in the market through open market operations to achieve the pre-set target interest rate.

The Fed's interest rate hike and interest rate cut is actually to achieve the target interest rate announced at the interest rate meeting through the above path. During the economic recession, the Federal Reserve supported economic growth by lowering interest rates. On the contrary, when the economy is overheated or inflation is too high, the Fed will raise interest rates to curb investment and consumption.

It can be said that raising interest rates is a result, and a series of operations are needed to achieve this result. Therefore, after the Federal Reserve announces that it will raise interest rates at every interest rate meeting, the market will not collapse immediately, and may even rise by a wave of inertia. Until the interest rate target is achieved, the market will eventually fall and collapse. Just like turning off the tap, the "charterer" first tells the tenant to limit the water supply and turn off the tap, but she needs to go downstairs and then limit the water by turning the gate by hand. In this process, the water is gradually reduced, giving the tenant a reaction time.

As the US dollar is the world currency and dominates the global financial and monetary system and trade settlement system, it means that the Fed's interest rate hike will not only affect the US economy and other economies in the world, but also affect all investment markets including the encryption market.

What is the essence of raising interest rates?

The essence of the Fed's interest rate hike can be described from two aspects, one is for the United States itself, and the other is for other countries/regions or a certain industry.

For the United States itself, a simple understanding is that the essence of the Fed's interest rate hike is to develop the American economy through the adjustment of monetary policy. In fact, whatever the Fed does, its ultimate goal is to protect the economic development of the United States. If it is beneficial to the economic development of the United States, it will do it, which is not conducive to the economic development of the United States. Generally, it will not do it unless it is forced by something more deadly.

When the Fed formulates policies specifically, it mainly considers three things: GDP growth and fiscal deficit, inflation rate and unemployment rate, and economic cycle. The motivation of the Federal Reserve to raise interest rates can be basically inferred by analyzing these three aspects. However, it should be noted that these three aspects will give different weights according to different seasons. After all, many times, it is a fish and bear's paw to formulate monetary policy to achieve a certain goal. What needs to be said in particular is that although the Fed is mainly focused on these three aspects, among them, GDP and fiscal deficit are the ones that need to be strictly guarded against. If it cannot be maintained, it is not a simple economic recession, but the collapse of the United States.

For other countries/regions or an industry, the nature of the Fed's interest rate hike may be much more complicated, or to put it bluntly, according to the history of the Fed's interest rate hike in the past, the Fed's interest rate hike may often evolve into a financial harvest of the United States for other countries/regions or an industry. Whether this "harvest" is subjective or not, objectively, every round of interest rate increase by the Federal Reserve in history will have disastrous consequences on a global scale, and some regions or industries will even face extinction.

The global financial crisis in 2008, the technological Internet bubble at the beginning of this century, the Southeast Asian financial crisis in the last century, the Japanese economic crisis and the Latin American debt crisis can all be said that, to a large extent, the Federal Reserve's interest rate hike at that time detonated its internal contradictions and was harvested after the collapse.

The background of this round of Fed's interest rate hike is that countries around the world, including the United States, have released unlimited quantitative easing "printing money" because of the economic recession caused by the epidemic. Although it temporarily stabilized the economy, it also caused serious hidden dangers.

Only in terms of the size of the US federal government debt, this year it has exceeded the $30 trillion mark, which is just a stone's throw from the current US federal government debt ceiling of $31.4 trillion. On average, every American bears more than $90,000 in federal government debt. This figure is $7 trillion higher than the GDP of the United States in 2021 (about $23 trillion), and the debt scale has just increased by $7 trillion in the two years since the outbreak of the COVID-19 epidemic.

The main reason for this situation is that since the outbreak of the epidemic, the Federal Reserve has printed trillions of dollars to maintain economic development. In 2021 alone, 21% of the total dollars poured into the market, creating the largest record of "water release" in human history. When the Fed finally announced that it would accelerate the reduction of bond purchases, that is, slow down the speed of "printing money"-its balance sheet has reached nearly 9 trillion US dollars.

Of course, the Fed's massive water release has indeed promoted the development of the US economy. The data released by the US Department of Commerce last month showed that the US economy grew by 5.7% in 2021, the highest since 1984, and the nominal growth was as high as 10.05%. The most important difference between this nominal growth and the actual growth is inflation. According to the latest data released by the US Department of Labor, the CPI of the United States rose by 7.5% in January 2022, the highest increase since February 1982.

As a developed country, the United States has already entered the era of low growth, which is universally acknowledged, and now it has suddenly increased by 10% in nominal terms. Doing so is actually equivalent to an elderly person taking tonic, and the risk can be imagined.

It is precisely because of such a grim situation that the Federal Reserve will rush to reduce its bond purchases, and constantly let the wind out to start raising interest rates as soon as possible. But it is precisely because of the unprecedented severity that all countries and investors in the world are afraid of the Fed's interest rate hike, fearing that the storm brought by this interest rate hike will bring disaster to themselves.

For example, every round of interest rate hike by the Federal Reserve is like the United States blowing the horn of hungry wolves to eat, releasing hungry wolves and wandering around the world. When they see weak or available prey, they will pounce on it and kill it to temporarily treat their hunger and illness.

From the previous crises caused by the Federal Reserve's interest rate hike, we can see that the United States used the status of the US dollar as an international currency to blow up bubbles again and again, fatten up its "prey" and then raise interest rates to release hungry wolves. The world needs more and more nutrients to nourish this monster, and every time the Fed raises interest rates, it is like a witch's horn, which means a new round of "hunting" begins.

Of course, from the current point of view, or from this year's point of view, there is no need to worry too much, because the first half of the Fed's interest rate hike is often not the most dangerous time, but at all levels, when the layout is made, the real risks will be exposed when all preparations are almost complete. As mentioned above, raising interest rates is the final result. To ensure this result is favorable, the United States must make preparations in other aspects before and at the beginning of raising interest rates, which is in line with expectations, otherwise it will be ineffective or easy to get out of control.

This preparation time is also a precious buffer period for the encryption market and investors. Although we believe that the current encryption market is still in the early stage of rapid development, and the encryption market is inherently global, the ability to resist risks is better than most investment markets in the environment of the Fed raising interest rates. However, there are no eggs under the nest. If this round of Fed interest rate hike really causes a more terrible global storm than before, then now, before the lid is lifted, we need to prepare for it and make our own countermeasures.