One, the core reason for losses: the backlash effect of the interest rate hike policy

  1. The direct impact of interest rate inversion
    In 2022-2023, the Federal Reserve rapidly raised the benchmark interest rate from 0% to 5.25%-5.5% to curb inflation. This operation led to a situation where its holding of $8 trillion in Treasury bonds (accounting for 60% of total assets) createdInterest rate inversion:

    • The yield on old bonds is about 2.6% (purchased before the rate hike), while the interest rate paid to banks on reserves is 4.4%.

    • Just the interest differential alone will cost the Federal Reserve about $180 billion in 2024, far exceeding the returns from its bond portfolio.

  2. The structural contradiction of the balance sheet
    The liabilities of the Federal Reserve are mainly bank reserves ($3.4 trillion), which must pay interest at the policy rate; the assets are primarily long-term Treasury bonds. ThisShort-term liabilities for long-term investmentsstructure will inevitably magnify losses during an interest rate hike cycle.

Two, the dialectical relationship between policy tools and financial sustainability

  1. The monetary illusion of 'book losses'
    Although the loss figures are enormous, the Federal Reserve, as a central bank, possessesthe unlimited right to print money, and its liabilities are essentially currency issuance. The real constraint lies in:

    • Market confidence: if losses persist, it may undermine international demand for US Treasury bonds and the dollar, creating a self-reinforcing expectation of depreciation.

    • Political pressure: The Trump administration has publicly demanded that the Federal Reserve cut interest rates and even attempted to 'manufacture' profits by revaluing gold reserves (book value of $11 billion vs. market value of $76 billion).

  2. The trade-offs of interest rate cuts
    The Federal Reserve is expected to need to cut rates by 200 basis points to balance its income and expenditure, but currently only plans to cut by 50-75 basis points within the year. ThisGradual adjustmentsAimed at:

    • Avoiding a rebound in inflation (the median PCE inflation forecast for 2025 still reaches 2.7%);

    • Maintaining a strong dollar to attract international capital (currently, the scale of US Treasury bonds has exceeded $36 trillion).

Three, the chain reaction in the global market

  1. The delicate balance of the dollar's status

    • Short term: Expectations of Federal Reserve interest rate cuts have lowered the dollar exchange rate, with the dollar index down 4% from its peak in March;

    • Long term: If losses lead to a decline in the attractiveness of US Treasury bonds, it may force a change in the structure of global dollar demand (such as a shift to gold or renminbi assets).

  2. The policy dilemma of emerging markets
    When the Federal Reserve raises interest rates, emerging markets are forced to follow to prevent capital outflows; however, during the current Federal Reserve interest rate cut cycle, economies like China faceCounter-pressure from policies(for example, needing to cut rates to combat deflation, but a weaker dollar may raise import costs).

Four possible paths for future evolution

  1. Technical repairs
    ThroughQuantitative tightening (QT)to reduce high-cost liabilities or issue floating-rate bonds to hedge interest rate risks. However, QT may exacerbate banks' liquidity pressures (in 2024, some banks have already been fined for insufficient reserves).

  2. Political interventions
    The Trump administration may push for amendments to the Federal Reserve Act, allowing the Federal Reserve to directly write off losses (similar to unconventional operations during the 2008 crisis).

  3. Market forces drive reform
    If international investors turn to other safe-haven assets (such as gold ETFs, which have surpassed 1200 tons), the Federal Reserve may be forced to adjust its inflation target (from 2% to 3%) to create room for interest rate cuts.

The essence of the Federal Reserve's losses is the cost of the inconsistency in monetary policy timing: the initial liquidity injection stimulates the economy, followed by a contraction that inevitably incurs asset revaluation losses. The way it responds will profoundly impact the global financial cycle, and what the market needs to be vigilant about is — when central bank 'tool rationality' yields to political considerations, traditional economic models may fail.

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