How Dollar Liquidity Affects the Crypto Market: Q1 2025 Forecast

The remote areas of Hokkaido's ski resorts offer excellent skiing terrain, most of which can be easily accessed by cable cars. At the beginning of each year, ski enthusiasts are most concerned about whether there is enough snow to cover these areas. For skiers, a major challenge is "sasa," a type of bamboo plant. Its stems are as thin as reeds, but the leaves are sharp as knives, and a moment's inattention can result in cuts on the skin. Skiing on "sasa" is very dangerous because ski boards may slip and lead to a perilous game of "man vs. tree." Therefore, skiing in remote areas is highly risky if there is not enough snow to cover "sasa."

This year, Hokkaido has set a new record for snowfall in nearly 70 years, with an astonishing depth of powder snow. The ski entrance in the back mountain area opened at the end of December, while in previous years it usually didn't open until the first or second week of January.

At the beginning of 2025, investors' attention shifted from skiing to the crypto market, with particular focus on whether the "Trump market" can sustain itself. In my latest article, I suggested that the market's high expectations for the Trump camp's policy actions may lead to disappointment, negatively impacting the short-term market. However, I must also weigh the stimulating effect of USD liquidity.

Currently, the trend of Bitcoin fluctuates with the release rhythm of the US dollar, with the senior management of the Federal Reserve and the US Treasury holding the decision-making power regarding the supply of US dollars to the global financial market, which is a key factor affecting the market.

Bitcoin hit bottom in the third quarter of 2022, when the Federal Reserve's reverse repurchase agreement (RRP) peaked. Under the push from Treasury Secretary Yellen, the U.S. Treasury reduced the issuance of long-term coupon bonds while increasing the issuance of short-term zero-coupon bonds, extracting over $2 trillion from the RRP. This effectively injected Liquidity into the global financial markets. The crypto market and stock market, especially large tech stocks listed in the U.S., surged significantly as a result.

In the first quarter of 2025, the question I sought to answer was whether the positive stimulus of US dollar Liquidity could overshadow the potential disappointment regarding the speed and effectiveness of Trump's so-called "pro-encryption" and "pro-business" policies. If so, then market risks would become relatively manageable.

First, I will discuss the Federal Reserve, which is a minor consideration in the analysis. Then, I will focus on how the U.S. Treasury responds to the debt ceiling issue. If politicians delay in raising the debt ceiling, the Treasury will draw on its funds in the Federal Reserve's General Account (TGA), which will inject liquidity into the market and create positive momentum for the crypto market.

Federal Reserve

The Federal Reserve's Quantitative Tightening (QT) policy is advancing at a pace of $60 billion per month, meaning its balance sheet size is shrinking. Currently, there is no change in the Fed's forward guidance on the pace of QT, and I predict that the market will peak in mid to late March, resulting in approximately $180 billion of liquidity being withdrawn.

The reverse repurchase agreement (RRP) tool has nearly dropped to zero, prompting the Federal Reserve to adjust the policy interest rate for the RRP in order to completely exhaust the funding of this tool. At the meeting on December 18, 2024, the Federal Reserve lowered the RRP rate by 0.30%, which is 0.05% more than the decrease in the policy interest rate. This move aims to link the RRP rate to the lower bound of the federal funds rate (FFR).

Currently, there are two liquidity pools that will help suppress the rise in bond yields. For the Federal Reserve, the 10-year U.S. Treasury yield cannot exceed 5%, as this level would trigger a significant increase in bond market volatility. As long as there is liquidity in the RRP and the Treasury General Account (TGA), the Federal Reserve does not need to make significant adjustments to its monetary policy, nor does it need to acknowledge that a fiscally driven situation is occurring.

Once the Treasury General Account (TGA) is depleted (which has a positive impact on dollar liquidity), it will then be replenished due to the debt ceiling being lifted (which has a negative impact on dollar liquidity). The Federal Reserve will exhaust its emergency measures and will be unable to prevent yields from inevitably rising further after the easing cycle that began last September.

This has little impact on the dollar liquidity situation in the first quarter, merely serving as a contemplation of how Federal Reserve policy may evolve within the year if yields continue to rise.

I expect the RRP to approach zero at some point in the first quarter, as money market funds (MMF) withdraw funds and purchase higher-yielding Treasury bills (T-bill) to maximize returns. This means that $237 billion of dollar liquidity will be injected in the first quarter.

The Federal Reserve will reduce liquidity by $180 billion due to Quantitative Tightening (QT), while an additional $237 billion liquidity injection will be driven by the decrease in RRP balances caused by the Fed's adjustment of reward rates. This totals a net liquidity injection of $57 billion.

Ministry of Finance

Treasury Secretary Yellen told the market that she expects the Treasury to begin taking "extraordinary measures" to fund the U.S. government between January 14 and 23. The Treasury has two options to pay government bills: either issue debt (which has a negative impact on dollar Liquidity) or draw funds from its checking account at the Federal Reserve (which has a positive impact on dollar Liquidity).

Due to the total debt not being able to increase before the debt ceiling is raised in the U.S. Congress, the Treasury can only spend funds from its checking account TGA. Currently, the balance of TGA is $722 billion. The first major assumption is when politicians will agree to raise the debt ceiling. This will be the first test of Trump's support among Republican lawmakers.

There is a segment of Republicans who, whenever the debt ceiling issue is discussed, claim to be concerned about reducing the size of the bloated government. They will delay voting to support an increase in the debt ceiling until they secure some generous returns for their own constituencies.

Trump has failed to persuade them that if the debt ceiling is not raised, he will veto the spending bill for the end of 2024. After suffering a crushing defeat in the last election, Democrats are unlikely to help Trump unlock government funds to achieve his policy goals.

In order to promote the development of affairs, Trump will wisely include the debt ceiling issue on the agenda only when absolutely necessary, before proposing any legislation. Raising the debt ceiling becomes crucial when not raising it would lead to a technical default on maturing government bonds or a complete government shutdown. According to the 2024 revenue and expenditure data released by the Treasury, I estimate that this situation will occur between May and June of this year, when the TGA balance will be completely exhausted.

The visualization of TGA (Treasury General Account) usage speed and intensity helps to predict the moments of maximum effect for fund utilization, as the market is forward-looking. Given that this data is all public and we know that when the Treasury cannot increase the total US debt and the account is nearing depletion, the market will look for new sources to obtain USD liquidity. When the utilization rate reaches 76%, March seems to be the moment the market will ask "What's next?"

If we add the total dollar liquidity of the Federal Reserve and the Treasury by the end of the first quarter, it amounts to 612 billion dollars.

What will happen next?

Once the default and shutdown are imminent, a last-minute agreement will be reached, and the debt ceiling will be raised. By then, the Treasury will be able to borrow again on a net basis and must refill the TGA. This will have a negative impact on dollar Liquidity.

Another important date in the second quarter is April 15, when taxes are due. As can be seen from the table above, government finances improved significantly in April, which is negative for USD Liquidity.

If the factors affecting the TGA balance are the only determinants of cryptocurrency prices, then I expect a local market top to occur by the end of the first quarter. In 2024, Bitcoin reached a local high of about $73,000 in mid-March, then entered a consolidation phase, and began a several-month decline before the tax deadline on April 11.

Trading Strategy

The problem with this analysis is that it assumes that the liquidity of the dollar is the most critical marginal driving factor of the total global fiat liquidity. Here are some other considerations:

• Will China accelerate or slow down the creation of Renminbi credit?
• Will the Bank of Japan start raising interest rates, which will lead to the appreciation of the dollar-yen and unwind leveraged arbitrage trades?
• Will Trump and Bensent carry out a massive overnight devaluation of the dollar against gold or other major fiat currencies?
• How efficient is Trump's team in rapidly reducing government spending and passing legislation?

These major macroeconomic issues cannot be predetermined, but I am confident in the mathematical model of how RRP and TGA balances change over time. My confidence is further validated, especially by the market performance from September 2022 to now: the decrease in RRP balances has directly led to an increase in dollar liquidity, resulting in a rise in cryptocurrencies and stocks, despite the Federal Reserve and other central banks raising interest rates at the fastest pace since the 1980s.

Despite various warnings, I believe I have answered the initial question I posed. That is, the disappointment of the Trump team in failing to deliver on the proposed legislation supporting the crypto market and business can be offset by the extremely positive environment of dollar Liquidity, with an increase in dollar Liquidity of up to $612 billion in the first quarter.

As is almost every year, as planned, the end of the first quarter will be the time to sell, take a break, go to the beach, nightclubs, or ski resorts in the Southern Hemisphere, and wait for the liquidity conditions of the dollar to improve in the third quarter.

I will encourage risk-takers in the fund to adjust their risk to the "DEGEN" (extreme risk) mode. The first step in this direction is our decision to venture into the emerging field of decentralized science (DeSci). We like undervalued encryption currencies and have purchased some related tokens.

If things go as smoothly as I described, I will adjust the benchmark in March and jump into the "909 Open High Hat" phase. Of course, anything can happen, but overall I am bullish.

Perhaps Trump's market sell-off will occur from mid-December 2023 to the end of 2024, rather than mid-January 2025. Does that mean I'm sometimes a terrible predictor? Yes, but at least I can absorb new information and opinions and make adjustments before they lead to significant losses or missed opportunities.

This is why the investment game is so captivating. Imagine if every time you hit the ball, you scored a hole-in-one, every three-pointer in basketball went in, and every shot in billiards was successful; life would be so dull.