Why Global Liquidity Matters Now More Than Ever

CrossBorder Capital CEO Michael Howell examines the $170 trillion global liquidity system, safe asset shortages, and how currency wars between the US and China are reshaping international finance.

Key Takeaways

• Global liquidity has expanded sevenfold since 1990 to $170 trillion, representing 160% of world GDP
• Financial system has transformed from new financing to refinancing mechanism managing $70 trillion annual debt rollovers
• Safe asset shortage results from central bank QE programs removing pristine collateral from private markets
• China's liquidity contribution increased 90-fold since 1990, challenging US dollar dominance through yuan internationalization
• Bretton Woods architecture remains intact despite floating exchange rates, with dollar centrality and US military backing
• Digital currencies represent strategic weapons in escalating capital wars between major powers
• Current global liquidity contraction occurs faster than pre-2008 financial crisis levels
• Currency stability creates platform for reserve currency development, as demonstrated by Shanghai Accord Asian currency management
• Investment strategy requires distinguishing between monetary inflation (benefiting assets) and cost inflation (affecting consumer prices)

Timeline Overview

• 00:00–15:30 — Global Liquidity Fundamentals and Michael Howell's Background: Definition as money flow through world financial system, Salomon Brothers experience during financial capitalism emergence, Henry Kaufman's pioneering flow of funds analysis, measurement methodology across 90 economies totaling $170 trillion, correlation coefficients of 0.8 between liquidity and asset prices
• 15:30–25:45 — Evolution and Sources of Global Liquidity: Sevenfold increase since 1990 with US share up eightfold, central bank balance sheets expanding 17-fold, Federal Reserve role increasing 20-fold, China's contribution surging 90-fold from 6% to 28% of global total, three key sources being cross-border flows, Federal Reserve, and People's Bank of China
• 25:45–35:20 — Funding Versus Market Liquidity Distinction: Market liquidity as function of funding liquidity availability, Federal Reserve trade fails data indicating deteriorating conditions, gross versus net flow accounting framework focusing on balance sheet capacity rather than traditional economic net flows, distinction between means of purchase (credit) and means of settlement (money)
• 35:20–45:15 — Safe Assets and Collateral Shortage: Definition of pristine collateral including reserve currencies and government bonds, post-2008 shift from trust-based to collateral-based lending, central bank QE programs removing safe assets from private markets, German 10-year bond free float dropping to 10% due to ECB purchases, term premium going negative indicating shortage
• 45:15–55:40 — Refinancing System Transformation: $350 trillion global debt with 5-year average maturity requiring $70 trillion annual rollover, contrast with $10 trillion new investment financing, financial crises as refinancing rather than new financing failures, interest rates mattering less than rollover capacity in refinancing-dominated system
• 55:40–65:25 — Systematic Flows Over Discretionary Allocation: ERISA Act creating liability-driven investing requirements, passive fund growth from Pension Protection Act, liability managers comprising 42% of US transactions versus 18% in 1980s, duration matching requirements eclipsing Graham and Dodd value analysis, systematic flows replacing discretionary capital allocation
• 65:25–75:10 — Bretton Woods Continuity and Currency Wars: Dollar centrality, US military backing, and institutional policing remaining intact despite floating rates, exchange rates as price of money rather than interest rates, friend-shoring through selective swap line access, Janet Yellen's Atlantic Council speech on economic alliance structures
• 75:10–85:35 — China's Yuan Internationalization Strategy: Belt and Road Initiative requiring yuan usage for infrastructure exports, Shanghai Accord creating Asian currency stability platform, swap line development for trade re-denomination, digital yuan enabling peer-to-peer transfers, BRICS currency unit development challenging dollar dominance
• 85:35–95:20 — Geopolitical Monetary Policy and Yen Manipulation: Federal Reserve tightening aligned with geopolitical objectives, Japanese yen 82% annualized decline in 40 trading days from March-May 2022, Chinese PBOC liquidity injections coinciding with Ukraine invasion timing, currency instability transmission mechanisms across Asian economies
• 95:20–105:45 — Investment Strategy in Monetary Inflation Environment: Gold and cryptocurrencies as monetary rather than consumer price inflation hedges, longer-duration assets benefiting from liquidity expansion, money market funds attractive during liquidity crunches, real estate hedging high street inflation, demographic trends supporting continued cost deflation despite supply chain disruptions

Global Liquidity System Architecture and Measurement

• Global liquidity represents the flow of money through the world financial system, measured as cash and credit flows from central banks, commercial banks, shadow banks, and cross-border capital movements. The current $170 trillion aggregate represents 160% of world GDP and has expanded sevenfold since 1990, demonstrating unprecedented financialization.
• Measurement accuracy validates through high correlation coefficients of 0.8 between liquidity movements and subsequent asset price changes, plus strong correlations with real economic activity. Independent estimates align closely with Federal Reserve Z1 accounts while providing higher frequency monthly data versus Fed's quarterly releases.
• Three primary sources dominate contemporary global liquidity: cross-border capital flows, Federal Reserve operations, and People's Bank of China policies. This represents dramatic concentration compared to more distributed sourcing in earlier decades when conventional banking played larger roles.
• China's contribution exploded from barely 6% in 1990 to 28% currently, representing 90-fold growth that reflects both economic development and integration into dollar-based international financial system. This expansion occurred primarily through foreign exchange reserve monetization following WTO entry and trade surplus growth.
• Central bank balance sheets expanded 17-fold since 1990 versus sevenfold growth in total liquidity, indicating their outsized role in modern monetary architecture. Federal Reserve's role increased 20-fold over the same period, demonstrating dollar system's continued centrality despite predictions of decline.
• Flow of funds accounting framework focuses on sources rather than uses of money, examining gross rather than net flows to capture actual financial system dynamics. Traditional economics analyzes net flows while missing massive gross movements that drive asset prices and economic outcomes.

The Transformation to a Refinancing System

• Contemporary global finance operates primarily as refinancing rather than new financing mechanism, with $350 trillion outstanding debt requiring $70 trillion annual rollover versus only $10 trillion new investment financing. This 7:1 ratio fundamentally alters how financial markets function and what drives pricing.
• Average debt maturity of approximately five years means refinancing needs dwarf new capital formation, making rollover capacity more critical than traditional investment analysis. Financial crises consistently emerge as refinancing failures rather than new investment shortages.
• Interest rates matter less in refinancing-dominated systems because borrowers must secure rollover regardless of price to avoid default. This dynamic explains persistent low rates despite massive debt accumulation and creates different monetary transmission mechanisms than textbook models suggest.
• Liability-driven investing now comprises 42% of US financial transactions versus 18% in the 1980s, reflecting ERISA Act requirements, Pension Protection Act passive fund growth, and institutional duration matching needs. These systematic flows overwhelm discretionary security analysis.
• Duration considerations dominate modern fixed income markets as liability managers seek portfolio matching rather than value optimization. Martin Leibowitz's pioneering work at Salomon Brothers on duration analysis proves more relevant than traditional Graham and Dodd value investing approaches.
• The refinancing imperative creates structural demand for safe collateral that exceeds supply, particularly as central banks remove pristine assets through quantitative easing programs. This shortage drives negative term premiums and yield curve inversions beyond traditional recession signals.

Safe Asset Shortage and Collateral Constraints

• Safe assets consist of pristine collateral including reserve currencies (dollars, euros, sterling, Swiss francs) and major government bonds, particularly US Treasuries. These instruments provide stable value and low volatility essential for modern secured lending practices.
• Post-2008 financial crisis shifted lending from trust-based to collateral-based mechanisms as interbank confidence disappeared. Unsecured lending declined dramatically while secured transactions requiring safe asset backing expanded throughout the financial system.
• Central bank quantitative easing creates perverse dynamic by removing safe assets needed for private sector liquidity creation while simultaneously expanding central bank balance sheets. ECB purchases reduced German 10-year bond free float to merely 10% of outstanding issues.
• Collateral shortage manifests through widening spreads between secured and unsecured lending, negative term premiums on government bonds, and increasing trade fails among primary dealers. Federal Reserve standing repo facility and swap lines represent responses to chronic shortage conditions.
• Traditional monetary aggregates like M1 and M2 miss financial sector liquidity that drives asset prices and credit creation. Global liquidity measures capture money flows starting where conventional monetary statistics end, focusing on sophisticated financial market operations.
• Safe asset scarcity forces central banks to expand their backstop functions repeatedly, accepting progressively riskier collateral and extending support to broader asset classes. This creates moral hazard while addressing immediate stability concerns through ever-wider intervention scope.

Dollar Dominance and Bretton Woods Continuity

• Bretton Woods architecture remains fundamentally intact despite transition from fixed to floating exchange rates in 1973. Core elements include dollar centrality, US military backing of global trade routes, and institutional policing through IMF and World Bank using Washington Consensus principles.
• Exchange rates represent the price of money rather than interest rates, which are merely premiums on money. This distinction proves crucial for understanding currency relationships and international monetary dynamics in abundant global liquidity environments.
• Nixon's 1971 gold standard abandonment did not immediately devalue the dollar; actual depreciation occurred in spring 1973 when yen and Deutsche Mark began floating. Bill Simon's genius involved negotiating petrodollar recycling arrangements that created sustained dollar demand through oil pricing and Treasury investment requirements.
• Contemporary friend-shoring represents formalization of selective dollar access through Federal Reserve swap lines available to allies but denied to adversaries. Janet Yellen's Atlantic Council speech explicitly outlined economic alliance structures that divide world between friends and foes.
• US military policing of global shipping lanes, particularly Gulf routes, provides essential infrastructure for dollar-denominated trade that competitors cannot replicate. This hard power backing distinguishes dollar from purely economic currency arrangements.
• SWIFT payment system integration with US sanctions enforcement demonstrates how monetary architecture serves geopolitical objectives. Dollar's role extends beyond economic convenience to strategic weapon in international relations.

China's Yuan Internationalization Campaign

• China explicitly seeks dollar displacement through yuan internationalization, with People's Liberation Army generals publicly stating intentions to "knock the dollar off its pedestal." This represents existential challenge to US monetary hegemony requiring strategic response.
• Belt and Road Initiative necessitates yuan usage for infrastructure financing, creating natural demand for Chinese currency in recipient countries. Export of yuan rather than dollars enables China to capture seigniorage benefits currently accruing to US through exorbitant privilege.
• Shanghai Accord from 2016 created remarkable Asian currency stability centered on yuan, effectively establishing "Asian Euro" platform for reserve currency development. Minimal volatility across regional currencies demonstrated China's capacity for monetary coordination.
• Digital yuan development enables peer-to-peer transfers and programmable money features unavailable in traditional banking systems. China's centralized financial structure facilitates rapid implementation compared to US distributed banking framework.
• BRICS currency unit proposal including China, Brazil, Russia, India, and South Africa represents alternative to dollar-based trade settlement. Saudi participation would add crucial energy component to anti-dollar coalition.
• Swap line networks enable trade re-denomination away from dollars, leveraging China's position as world's largest importer and exporter. Such transitions can occur "with the stroke of a pen" given China's trade dominance.

Geopolitical Monetary Policy and Currency Warfare

• Federal Reserve policy increasingly reflects geopolitical objectives alongside domestic economic considerations, particularly following Russia's Ukraine invasion. Aggressive tightening aligns with strategic goals to pressure adversaries through dollar strength.
• Japanese yen experienced unprecedented 82% annualized decline over 40 trading days from March to May 2022, suggesting government intervention rather than market forces. US Treasury silence contrasts with typical currency manipulation complaints.
• Chinese PBOC liquidity injections occurred on exactly five days in 2022: two before Ukraine invasion, one during, and two after, indicating possible foreknowledge or coordination. Subsequent yen collapse suggests deliberate destabilization campaign.
• Asian currency instability transmits through supply chain integration, pressuring Chinese economy through trade partner devaluation. Economic warfare targets growth rather than direct military confrontation.
• Swap line access represents weaponized monetary policy, providing dollar liquidity to allies while denying access to adversaries. Federal Reserve effectively operates global branch offices in friendly countries only.
• Currency wars represent new form of international conflict using financial weapons rather than traditional military force. Success depends on maintaining alliance structures while isolating adversary financial systems.

Investment Strategy in Monetary Inflation Environment

• Gold and cryptocurrencies hedge monetary inflation rather than consumer price inflation, moving one-for-one with global liquidity expansion. Current weakness reflects monetary deflation from central bank balance sheet contraction rather than inflation hedge failure.
• Longer-duration assets including technology stocks and cryptocurrencies benefit most from liquidity expansion due to discounted cash flow effects. These represent optimal positioning for monetary inflation environments.
• Money market funds and short-term government bonds provide attractive returns during liquidity crunches, with two-year US Treasuries yielding 3% in uncertain environment. Front-end yield curve positioning makes sense during contraction phases.
• Real estate, particularly owner-occupied residential property, best hedges high street inflation affecting consumer goods. This differs from monetary inflation hedging and requires separate strategic consideration.
• Asset market volatility increases as financial system scale expands, requiring tactical positioning around liquidity cycles. Global liquidity monitoring provides essential timing signals for major allocation decisions.
• Demographic trends support continued cost deflation despite supply chain disruption concerns, as aging populations in major economies reduce labor force growth. Baby boomer labor force entry drove 1970s inflation; current aging drives deflation.

Current Liquidity Crisis and Future Implications

• Global liquidity currently contracts faster than pre-2008 financial crisis levels, creating dangerous conditions for asset prices and financial stability. Federal Reserve recognition of excessive tightening explains recent dovish pivot attempts.
• Systematic flows now dominate discretionary allocation to unprecedented degree, with passive funds and liability managers overwhelming traditional security analysis. Market dynamics reflect liquidity rather than fundamental valuation considerations.
• Central banks face impossible choice between allowing massive debt defaults or continuing expansion that feeds asset bubbles. Political pressure for support will ultimately force renewed quantitative easing despite inflation concerns.
• Technology sector positioning makes sense for long-term monetary inflation environment, despite near-term pressure from liquidity withdrawal. Duration characteristics create maximum sensitivity to policy changes.
• International monetary system approaches potential bifurcation between dollar and yuan blocs, requiring portfolio preparation for multiple currency scenarios. Gold provides hedge against transition uncertainty.
• Capitalism's dual dynamic of cost deflation and monetary inflation continues driving financial system evolution, with periodic crises requiring central bank intervention to prevent system collapse.

Conclusion

Michael Howell's analysis reveals how global liquidity has become the dominant force shaping modern financial markets, transforming capitalism from a new financing system into a massive refinancing mechanism managing $70 trillion in annual debt rollovers. The shortage of safe collateral created by central bank quantitative easing programs creates structural instabilities that require ongoing intervention, while China's 90-fold liquidity expansion since 1990 represents an existential challenge to dollar hegemony.

The current liquidity contraction exceeds pre-2008 crisis levels, suggesting major market dislocations ahead. Currency wars have replaced traditional trade conflicts as primary tools of international competition, with monetary policy increasingly serving geopolitical rather than purely economic objectives.

Future Predictions

• Liquidity cycle reversal — Central banks will resume quantitative easing within 12-18 months as asset price declines threaten financial stability, favoring longer-duration assets like technology and cryptocurrency
• Yuan bloc formation — BRICS currency unit will launch by 2025, creating alternative settlement system for 40% of global population and reducing dollar transaction volumes significantly
• Safe asset expansion — US deficit spending will increase substantially to provide collateral needed for global financial system function, regardless of stated fiscal discipline intentions
• Digital currency adoption — Central bank digital currencies will proliferate rapidly, with China leading implementation while US regulatory uncertainty handicaps private sector innovation
• Currency bifurcation acceleration — Global monetary system will split into dollar and yuan spheres by 2030, requiring portfolio diversification across competing currency blocs
• Systematic flow dominance — Passive and liability-driven investing will reach 60% of market transactions by 2028, further reducing traditional security analysis relevance
• Collateral shortage intensification — Safe asset scarcity will force central banks to accept progressively riskier collateral, expanding moral hazard throughout financial system
• Geopolitical monetary integration — Federal Reserve policy will explicitly incorporate strategic objectives, with swap lines and intervention targeting adversary financial systems
• Asset volatility amplification — Financial system scale expansion will create increasingly violent boom-bust cycles requiring larger central bank interventions
• Demographic deflation persistence — Aging populations in major economies will maintain cost deflation pressures despite supply chain reconfiguration, supporting asset price inflation over goods price inflation