FACTS CLINICS- The Relativity of Money

In the twilight of the 19th century, Irving Fisher sat at the confluence of mathematics and morality.

Born in 1867, he emerged into a world shaped by a century of industrial transformation and nearly four centuries of modern capitalism. America was rising—railroads threading its vastness, capital flowing with confidence, industry fusing with finance to form something powerful and perilous. But Fisher, ever the quiet observer and fierce thinker, looked deeper. He taught us that money has no value unless it preserves value.

That interest is not merely a number on a chart, but a force—the cost of moving through time. He gave us the real interest rate, the Fisher Equation, and a warning: that when debt expands faster than productivity, when inflation masquerades as progress, the gravity of money itself begins to distort reality.

And now, we live under a different sky—but beneath similar stars. The forces of innovation, leverage, and liquidity have only grown more entangled. We’ve entered an age of “Exponentiality”, where money moves faster, floats freer, and bends deeper than ever before. It no longer clinks in our hands—it pulses through networks, accelerates through algorithms, and shapes the space in which entire economies orbit. In such a time, we must step back—not merely to ask what is the price of money, but what is its nature.

For money is not just a medium of exchange, nor simply a store of value. It is a gravitational field—an invisible presence that bends the path of capital, defines the energy of investment, and distorts or guides the orbits of nations, markets, and minds. Just as mass curves space and time in relativity, so too do technology, productivity, and debt curve the field of money. And like a black hole, excessive leverage or mispriced risk can trap economies in cycles of stagnation, speculation and bust.

To understand our present and navigate what lies ahead, we must see money not simply as a tool, but as a force that shapes how economies move, how capital flows, and how time is priced. In this light, money becomes not an abstraction, but a referential—something around which trust, value, and investment revolve. This is the relativity of money.

This article has a simple aim: to return to that clarity. To define money and the terms that orbit it—interest rates, bonds, the yield curve, inflation, deflation, debt—not with jargon, but with meaning. In a world clouded by complexity and commentary, we need to remember what these things truly mean. Because only by understanding the field we move in can we move with purpose—and avoid being pulled blindly toward distortion.

Slightly different from the previous publication, we will use a systematic framework to make it simple and comprehensible for all of us: Definitions, Measures, Determinants, Examples.

What is Money

Irving Fisher famously said, “Money is what money does.” This captures its essential duality: function and essence.

In function, money is a medium of exchange, a store of value, and a unit of account—the practical tool that makes economic life possible.

In essence, money is an agreement, a frame of value, and stored energy—the invisible architecture of our shared trust.

Money is the fabric of the social contract—the thing we all agree to believe in, so that we can access what we need. But like any fabric—perhaps like the universe itself—it can inflate, deflate, even tear. Understanding money means recognizing not only what it does, but what it is—and what happens when that fabric stretches too far or shrinks too tight.

Money is measured by its purchasing power—what it can actually buy.

This is commonly tracked through price indices like the Consumer Price Index (CPI), which reflect how much a unit of money can command in goods and services over time. In markets, money is also measured by its exchange rate (relative to other currencies), and by interest rates, which express the cost of borrowing or the reward for saving it.

In short, money’s value and cost are shaped by several forces:

• Supply and Demand: More money chasing the same goods = lower value.
• Trust and Stability: Confidence in the issuer (usually a central bank or government) sustains its perceived value.
• Inflation and Deflation: Persistent price rises or drops erode or enhance purchasing power.
• Productivity and Innovation: The real economy—its output, creativity, and efficiency—anchors money’s long-term strength.
• Monetary Policy: Central bank actions (e.g. interest rates, QE) influence both the supply of money and how quickly it moves.

And more…

Example… In 2020, the U.S. Federal Reserve injected trillions of dollars into the economy to stabilize markets during the pandemic. While this increased liquidity, it also dramatically expanded the money supply. As supply outpaced productivity in certain sectors, inflation surged—especially by 2022. The value of the dollar fell—not in nominal terms, but in real terms—because each dollar could now buy less than it could before. This is how money, untethered from its referential base, begins to lose its shape—and how trust, productivity, and discipline must work together to try to restore it.

Is this some mysterious mechanism? That’s what we define next.

The Value and the Cost of Money:

The Cost of Money

Definition (Modern Market View):

The cost of money is the price paid to borrow capital. It’s most directly reflected in interest rates—whether for overnight funding, mortgages, business loans, or sovereign debt.

It is the rent on money—what you pay to use someone else’s capital for a time.

Measured by

• Nominal Interest Rates (e.g., Fed Funds Rate, LIBOR, SOFR)
• Bond Yields (2Y, 10Y, 30Y Treasuries)
• Credit Spreads (premium paid for riskier borrowers)

Determinants

• Central Bank Policy
• Inflation Expectations
• Credit Risk
• Term Premium (extra yield for longer maturities)
• Supply and Demand for Capital

Example

If the 10-year U.S. Treasury yield is 4.58%, that is the cost of long-term borrowing for the U.S. government—and it sets a benchmark for other long-term loans across the financial system.

The Value of Money

Definition (Classical and Real Terms)

The value of money is its purchasing power—what it can buy. It is the inverse of inflation: as prices rise, each unit of money buys less.

It is the power of money to command goods, labor, and services over time.

Measured by

• Inflation Indexes (CPI, PCE)
• Exchange Rates (relative value across currencies)
• Real Interest Rate = Nominal Rate − Inflation

Determinants

• Inflation and Deflation Trends
• Monetary Policy and Currency Issuance
• Public Trust in the Issuer (e.g. central bank, government)
• National Productivity and Trade Balances
• Nature of the Monetary Regime (e.g. fiat vs. gold-backed)

Example

If $100 buys fewer groceries this year than last, the value of money has declined. When a central bank prints too much money without real economic growth, the currency’s purchasing power erodes—as seen in historical cases of hyperinflation.

That leads to the next key principle:

Supply and Demand

Definition

Supply and demand is the foundational dynamic that governs price in any market.

• Supply refers to the quantity of a good or service that producers are willing to sell at various prices.
• Demand refers to the quantity that consumers are willing to buy at those prices.

Where they meet, a market clears. Where they diverge, value shifts.

At its core, this interaction sets the price of everything—from milk and mortgages to stocks, wages, and currencies.

Measured by

• Supply Curves (quantity available at different price levels)
• Demand Curves (quantity desired at different price levels)
• Market Equilibrium Price and Quantity
• Price Elasticity (how responsive supply or demand is to price changes)

Determinants

For Supply

• Production Costs (labor, raw materials, energy)
• Technology and Innovation
• Regulation and Taxes
• Weather, Conflict, or External Shocks
• Number of Producers / Market Access

For Demand

• Consumer Income and Confidence
• Substitutes and Complements
• Tastes and Preferences
• Expectations of Future Prices
• Interest Rates (especially for credit-based goods like housing)

Example

In 2022, global energy prices surged. Why?

• Supply was constrained by geopolitical tensions and under-investment in oil production.
• Demand rebounded sharply post-pandemic as travel and manufacturing resumed. This imbalance led to higher prices—not because of a single cause, but because supply and demand diverged in scale and timing. The result: fuel, electricity, and transport costs all rose, feeding into broader inflation.

When the expansion of an example leads to an “A-Propos” transition…

Inflation & Deflation

Pay attention—we’re going to learn something important.

Inflation and deflation are often framed as changes in the value of money. But here’s the deeper truth: They’re not really about money itself changing—they're about the value of goods and services shifting in relation to that money.

Think of money as the ruler. When prices rise or fall, it’s not the ruler getting longer or shorter—but the landscape being measured that’s changing shape.

Inflation and deflation don’t tell us about money—they tell us about what money is trying to measure.

See..told you so…

Definition

• Inflation is a general rise in prices, meaning the same amount of money buys less.
• Deflation is a general fall in prices, meaning the same money buys more.

Inflation erodes purchasing power. Deflation strengthens it—but often for the wrong reasons.

Measured by

• Consumer Price Index (CPI)
• Producer Price Index (PPI)
• Personal Consumption Expenditures (PCE)
• Real Interest Rates
• Exchange Rates (indirectly)

Determinants

Inflation Drivers

• Surging demand, constrained supply
• Rising wages and input costs
• Loose monetary and fiscal policy
• Currency devaluation

Deflation Drivers

• Collapsing demand, excess supply
• Falling wages or job losses
• Technological deflation (lower production costs)
• Debt deleveraging and tight credit

And both can be amplified or suppressed by trust in money, central bank actions, and geopolitical shocks.

Example

• Inflation (2021–2022): Following massive stimulus and supply chain disruptions, global demand roared back—but supply couldn’t keep up. Prices soared for energy, housing, and food. Money didn’t collapse—but what it measured became more expensive.
• Deflation (Japan, 1990s–2010s): After a debt-fueled asset bubble burst, demand stagnated for years. Prices declined, consumers held back spending, and growth stalled. It wasn’t better money—it was a shrinking world beneath the ruler.

Now We need to talk about circulation and storage…

Money Supply, Circulation & the Onshore–Offshore Divide

Let’s take a closer look at where money lives—and how it moves.

We often speak of “money” as if it’s one singular thing, but in truth, money has a supply, a velocity, and a geography…

Some of it is tightly regulated. Some of it flows freely, outside the oversight of national authorities.

Understanding how much money exists, where it moves, and how fast it circulates is crucial to making sense of economic energy.

Definition

• Money supply refers to the total amount of money available in an economy at a given time—both physical cash and digital/credit forms.
• Money circulation is how quickly that money changes hands, influencing economic momentum.
• Onshore money refers to domestically issued and regulated currency, circulating within national legal frameworks.
• Offshore money exists outside a country's monetary system—held in foreign accounts, used in global finance, or transacted beyond central bank oversight (e.g., Eurodollars).

Money supply is mass. Circulation is motion. Offshore money is gravity unbound.

Measured by

-Monetary Aggregates (or Money Supply)

• M0 – Physical cash and coins in circulation
• M1 – M0 + demand deposits (checking accounts)
• M2 – M1 + savings deposits and money market funds

-Velocity of Money – The rate at which money turns over in the economy

-Foreign Exchange Reserves & Global Liquidity Measures – For offshore tracking

Determinants:

• Central Bank Policy – Sets base money via interest rates and open market operations
• Commercial Bank Activity – Expands money through lending (fractional reserve banking)
• Consumer & Business Behavior – Affects how fast money moves
• Capital Controls – Restrict or allow offshore flows
• Global Risk Appetite – Drives money across borders to safe havens or high returns

Example:

In response to the 2008 financial crisis, and again in 2020, central banks expanded the money supply massively through quantitative easing. But despite trillions being created, inflation remained subdued—because velocity collapsed. People saved, banks hoarded, and money stayed parked. Meanwhile, offshore markets—like the Eurodollar system—continued to expand silently, operating with trillions in U.S. dollar liabilities outside U.S. jurisdiction, complicating monetary control.

Some Clarification.

Zooming in the Velocity of Money vs. Money Aggregate (like M2)

Definition of Velocity of Money (V):

Velocity of money is not a monetary aggregate itself. It is a ratio, a derived metric that tells us how frequently a unit of currency is used in final transactions over a period of time.

Mathematically:

V=GDP/M

Where:

• V = Velocity of money
• GDP = Nominal Gross Domestic Product (total spending/output)
• M = Money supply (often M1 or M2)

What is “M2” Then?

M2 is a money aggregate—a stock of money. It includes:

• M1 (physical cash + checking deposits)
• Savings deposits
• Time deposits (under $100,000)
• Retail money market funds

M2 is broader than M1 and reflects money that is available for spending, but not necessarily spent frequently.

Why Is M2 Often Used in Velocity Calculations?

Because V = GDP / M, and M needs to reflect the portion of money that can actually be spent in the real economy, M2 is often chosen as a practical approximation. It includes liquid assets that are —Accessible enough to be used, —But not so volatile as to distort trends (as M1 might be).

So, when people refer to "the velocity of M2," what they mean is:

VM2=Nominal GDP/M2

It's not that M2 is velocity, but that M2 is the denominator in the velocity equation.

Misunderstanding the Shortcut

Many mistakenly say “velocity = M2”, when what they mean is:

• They are looking at GDP / M2
• Or they’re analyzing changes in M2 and inferring something about spending speed.

But increasing M2 alone doesn’t increase velocity—it can even lower it if GDP doesn’t rise accordingly.

Money Storage, National Accounts & Debt—Inside and Across Borders

Let’s now examine where countries keep their money, how they account for it, and what happens when they borrow—both from themselves and from others.

Money isn’t just created or circulated—it must also be stored, recorded, and balanced. At the national level, this takes the form of sovereign accounts, central bank reserves, and a network of internal and external debts. Like households and companies, countries must manage what they earn, spend, save, and owe.

Definition

• Money storage for a country refers to its central reserves—cash, gold, foreign currency, and strategic assets held by the central bank or treasury.
• National accounts are the formal financial statements of a country—tracking income, expenditure, investment, imports, exports, and net debt.
• Debt is money borrowed—either domestically (internal debt) or from foreign creditors (external debt).

- Government debt (or sovereign debt) is issued by the central government.

- National debt includes central government debt, local and municipal debt, and liabilities of public agencies.

- External debt includes both public and private debt owed to foreign creditors, in domestic or foreign currency.

- Private debt refers to what households and corporations owe, whether domestically or across borders.

• The current account measures a country’s trade and income flows with the rest of the world. It is not a debt, but a flow that often leads to one.

Money stored is power reserved. Money borrowed is power deferred.

Measured by

• Central Bank Reserves (foreign exchange, gold, special drawing rights—SDRs)
• Balance of Payments (Current Account + Capital Account + Financial Account)
• Debt-to-GDP Ratio (national leverage)
• Net International Investment Position (NIIP)
• Credit Ratings (sovereign risk assessment)

Determinants

Money Storage & National Balances:

• Trade Surpluses or Deficits – Affect foreign currency reserves
• Capital Flows – Influence domestic liquidity and FX holdings
• Fiscal Policy – Government surplus or deficit impacts state reserves
• Monetary Policy – Interest rate policy affects capital retention or flight

Types and Flows

• Domestic Saving and Investment Gaps – When investment exceeds saving, debt fills the void
• Creditworthiness – Determines borrowing costs
• Currency Risk – Debt in foreign currency carries additional exposure
• Geopolitics and Market Sentiment – Affect access to global capital

Examples:

• Internal Debt (Japan): Japan holds one of the highest public debt-to-GDP ratios in the world (~260%), but the vast majority is owned domestically, mostly by the Bank of Japan and Japanese institutions. This reduces default risk—because the nation essentially owes itself.
• External Debt (Argentina): Argentina has historically borrowed from foreign creditors in foreign currency. This exposes the country to currency mismatch and capital flight, making repayment riskier. When trust erodes, access to capital vanishes, and sovereign default becomes likely.
• Money Storage (China vs. U.S.): China maintains vast foreign exchange reserves, built through years of trade surpluses. These are stored in U.S. Treasuries and gold. In contrast, the U.S. relies more on confidence in the dollar’s reserve status than on actual reserves—meaning its strength is based more on reputation than savings.

Clarifying the Landscape of Sovereign and National Financial Obligations

Understanding how a country borrows, owes, and settles its accounts requires distinguishing between related but often confused terms:

• Government Debt: Issued by the central government. Accumulates through budget deficits. Can be held domestically or abroad.
• National Debt: The full burden of public debt—central government, local municipalities, and public agencies.
• External Debt: Total debt owed to foreign creditors by the government, companies, or banks—in any currency.
• Current Account: The trade and income ledger—exports minus imports, investment income, and transfers. Deficits must be financed; surpluses can accumulate reserves.

Government debt is what the state owes. National debt is what the whole public sector owes. External debt is what is owed abroad. The current account is how much flows in or out before any borrowing starts.

I know, now we are confused. let’s fix it:

Where Does External Debt Belong?

External Debt is a cross-cutting category—not a subset of government or national debt, but a label based on who the creditors are, not who the borrowers are.

Here's how it works:

Therefore

• Some government debt is external debt (e.g., if a government borrows from the IMF or issues Eurobonds bought by foreign investors).
• Some national debt is external debt (e.g., when a state-owned energy company borrows from an overseas bank).
• Not all external debt is public—it includes private sector debt to foreign lenders.

Think of it like a lens

• “Government debt” looks at who borrows.
• “External debt” looks at where the lender is.
• The two can overlap, but they aren’t nested.

Example Breakdown

Imagine a country has:

• $1 trillion total government debt
• $1.5 trillion total national (public sector) debt
• $500 billion in external debt, including:

- $200B owed by the central government to foreign lenders --- $100B owed by public companies to foreign lenders --- $200B owed by private corporations to foreign lenders

This was lengthy but hopefully Interesting..Talking about Interest, let’s move on to the sexy part….

Interest rates

For this one I will highlight 2 measures, 2 views, 2 paths, 2 referential: — The so called “Standard Market view”— and the Wicksellian view — .

Interest Rates: Two Worlds, One Force

Interest rates are not just numbers—they are gravitational coordinates in the financial universe.

They anchor the cost of money, influence the flow of capital, and tilt the trajectories of investment, debt, and value itself.

Let’s begin with two core definitions—each from a different frame of reference.

The Standard Market View

Definition

Interest rates are the cost of borrowing money, or the reward for saving it.

They are set by central banks, influenced by inflation and credit conditions, and transmitted through the banking system to the broader economy.

They are the price of money, measured in time. The classic measure used is the Real Interest Rate, that is the spread between the Nominal Rate and Inflation.

Real Interest Rate = Nominal Rate − Inflation

Measured also by

• Policy Rates (e.g., Fed Funds Rate, ECB Main Refinancing Rate)
• Market Rates (e.g., interbank rates, LIBOR, SOFR)
• Bond Yields (2Y, 10Y, 30Y Treasury yields)

Determinants

• Central bank policy
• Inflation expectations
• Growth outlook
• Credit risk
• Global capital flows

Example

If the Federal Reserve sets the Fed Funds rate at 5%, that’s the short-term rate banks pay to borrow reserves. This influences all other rates in the economy—from savings accounts to mortgages to corporate debt. If inflation is 3%, the real interest rate is 2%.

The Wicksellian View

Definition

In the Wicksellian framework, there are two interest rates:

• The Natural Rate: the rate at which savings equal investment in a non-inflationary equilibrium.
• The Market Rate: the actual rate of interest prevailing in the economy.

When the market rate diverges from the natural rate, the economy bends—toward boom or bust.

The classic measure used is the Wicksellian Spread, that is the spread between the Natural Rate and the Market Rate.

Wicksellian Spread = Natural Rate − Market Rate (measured in bps)

· Natural Rate Proxy: 7-year moving average of real GDP growth

· Market Rate Proxy: Real yield on long-dated corporate bonds (Moody’s Baa)

Determinants:

• Productivity growth (Natural Rate)
• Borrowing costs (Market Rate)
• Central bank alignment or distortion
• Inflation inertia
• Capital allocation efficiency

Example:

If real GDP growth averages 2% and corporate bond yields adjusted for inflation sit at 3.5%, the Wicksellian Spread is –1.5% (or 150 bps). That signals tight monetary conditions, slowing growth and potential contraction.

I know what you are thinking,,,Here is why 7 years and why Baa !

Why 7 Years?

The 7-year horizon is chosen as a balance between short-term noise and long-term trend. Here's the logic:

• Too short (1–3 years): captures cyclical volatility, reacts to temporary shocks (e.g., oil spikes, supply chain disruptions).
• Too long (10–15 years): dilutes relevance, becomes backward-looking and insensitive to recent structural changes.

Seven years is long enough to smooth the cycle, but short enough to remain anchored in the current regime.

It approximates a business cycle average and reflects market memory—how investors and central banks internalize past inflation and growth as a reference for future expectations.

In Wicksellian and Market Terms

• When the cost of money (market rate) is below the value of money (natural rate) → credit is cheap, inflation rises.
• When the cost of money exceeds its value → borrowing dries up, and recessions loom.

Why Moody’s Baa-Rated Long-Term Corporate Bonds?

Moody’s Baa-rated bonds are used to proxy the real market cost of capital faced by the private sector, not governments. (the real market per se)

Here’s why this measure is preferred:

• Baa is the lowest investment-grade rating: it reflects the average cost for typical, creditworthy businesses, not just elite borrowers.
• Long-term maturity: filters out short-term policy noise; captures true capital cost over investment horizons.
• Corporate, not sovereign: governments borrow differently (e.g. central banks buying their own debt); corporate bonds face market discipline.

This makes Baa yields a truer representation of actual financing conditions for the productive economy.

And by subtracting the 7-year average inflation, we extract the real cost of capital, which is then compared to the natural rate (proxied by real GDP growth) to derive the Wicksellian Spread.

Here you go. Hope you feel better now. I know I do everytime..

A few insights:

Real Interest Rates Classification Table

Key Indicators:

• Nominal Rate: Indicates policy direction and base borrowing cost.
• Real Rate (Nominal – Inflation): Reflects the true cost of capital—the purchasing power-adjusted return.
• Gap between Real Rate and Economic Growth: Signals monetary alignment or misalignment (overheating or stagnation risk).

Example (2022–2023):

• Nominal Rates: Rising sharply
• Real Rates: Turning positive after years in negative territory → Quadrant: Restrictive & Tight → Interpretation: Fed and ECB hiking to tame inflation, slowing demand

Wicksellian Quadrant Classification Table

The greater the divergence between the natural rate and the market rate, the more distorted the monetary environment becomes.

Quadrant Meaning Summary:

• Inflationary Boom → Easy money fuels credit growth, asset bubbles, and eventual inflation
• Inflationary Bust → Prices remain high, but economic momentum stalls; stagflation risk
• Disinflationary (or Deflationary) Boom → Ideal zone: capital cost aligned with economic return; productive expansion
• Deflationary Bust → Capital too expensive; growth choked, debt burdens worsen, risk-off behavior dominates

Interpretation depends on both the spread and GDP direction

• Always pair Wicksellian Spread with real GDP momentum to interpret correctly.
• The –30 bps to +100 bps zone is your "Goldilocks range"—growth without distortion.
• The –30 bps and +170 bps thresholds are pivot points into distortion

The farther the spread pushes outside these bounds, the greater the monetary imbalance and policy urgency.

Example (2023):

• Natural Rate (proxy): ~2%
• Market Rate (real Baa yield): ~3.5%
• WS: –1.5% (–150 bps)

→ Quadrant: Inflationary Bust → Interpretation: Monetary conditions too tight relative to growth; inflation lingers while real activity contracts.

Let’s look at some basic mechanics of Money...

Monetary Infrastructure

Means of Exchange

Any mechanism or instrument—usually currency—that facilitates the transfer of goods, services, or assets by acting as an intermediary in trade.

Money as a means of exchange allows individuals and nations to transact efficiently without barter—turning value into liquidity and bridging the gap between production and consumption across time and borders.

Currency Conversion

Currency conversion is the process of exchanging one country's currency for another, typically through a foreign exchange (FX) market, at a determined exchange rate.

How It Works: When converting currency, an entity exchanges a given amount in one currency for its equivalent value in another based on the prevailing exchange rate. This can happen:

• Immediately via the spot market
• At a future date via forward or swap contracts

Foreign Exchange (FX) Instruments & Market Settlement

These tools define how and when currency conversion and delivery occur:

1. Spot Market

• Immediate exchange of currencies, typically settled T+2 (two business days).
• Use Case: Most common for tourism, trade payments, or portfolio rebalancing.

2. Forward Contracts

• Agreement to exchange currencies at a set rate on a specific future date.
• Use Case: Used to hedge against FX risk or lock in a rate for future cash flow.

3. FX Swaps

• Combination of a spot transaction with a simultaneous forward contract in reverse.
• Use Case: Liquidity management or synthetic borrowing in another currency.

Settlement Systems

Settlement systems are the institutional mechanisms that finalize the transfer of value in currency and securities markets by ensuring that transactions are completed (delivered and paid).

Key Platforms:

• CLS (Continuous Linked Settlement): Eliminates settlement risk in FX by synchronizing both sides of a transaction.
• SWIFT: Messaging network that relays transaction instructions globally.
• TARGET2 / Fedwire / CHIPS: High-value RTGS systems used for settling domestic and international transactions.

Currency Baskets

A currency basket is a weighted collection of currencies used to manage exchange rates or benchmark value across multiple economies.

Examples:

• MF SDR: USD, EUR, RMB, JPY, GBP
• DXY Index: Tracks USD strength against 6 major currencies

Purpose:

• Reduce dependency on any one currency
• Reflect trade-weighted exchange stability
• Guide central bank or fund asset management

US Dollar as Reserve Currency

The US dollar serves as the principal global reserve currency—used for pricing global commodities, denominating international debt, and storing central bank reserves.

Key Features:

• Used in 88%+ of all FX transactions (BIS)
• Central to Eurodollar (offshore USD lending) and Petrodollar (oil priced in USD) systems
• Supports global trade and capital flows due to liquidity and trust

Consequences:

• Global financial cycles are tightly linked to Fed policy
• The US benefits from seigniorage (ability to borrow cheaply)
• Creates the Triffin Dilemma: global demand for dollars vs. domestic fiscal responsibility

Special Section: Offshore Dollar Architecture

This section explores how USD liquidity flows outside the United States, how global actors access it, and the institutional mechanisms that stabilize this hidden financial plumbing.

1. Special Drawing Rights (SDRs)

SDRs are international reserve assets created by the IMF to supplement members' official reserves. They represent a potential claim on the currencies of IMF members.

Basket Composition (2022):

• USD (43.38%), EUR (29.31%), RMB (12.28%), JPY (7.59%), GBP (7.44%)

Functionality:

• Not a currency; SDRs are convertible into usable currencies via IMF-facilitated exchanges.
• Used in sovereign transactions, debt payments, and reserve accounting.

Significance:

• Offer multilateral liquidity without relying solely on the US dollar.
• Used during crises (e.g., 2021 global allocation of $650 billion in SDRs).

2. Eurodollar System – Offshore USD Lending

Eurodollars are USD-denominated deposits held outside the US banking system, free from Fed reserve requirements and regulation.

Mechanism:

• Offshore banks accept USD deposits and lend those dollars globally.
• Transactions occur via correspondent accounts, not physical dollar movement.
• Driven by global trade, commodity finance, and interbank lending.

Key Attributes:

• Massive in scale: trillions circulate offshore.
• Operates outside direct Fed control but heavily influences global USD liquidity.
• Prone to crisis-driven dollar shortages → triggers emergency swap actions.

Example:

• In March 2020, global scramble for USD forced the Fed to expand swap lines to allied central banks to backstop offshore liquidity.

3. FX Swap Markets and Global Dollar Access

An FX swap combines a spot currency exchange with a reverse forward contract, effectively borrowing one currency while pledging another.

Strategic Role in USD Access:

• Used by global banks, corporates, and central banks to obtain short-term offshore USD.
• FX swap lines are institutional backstops provided by the Fed to select foreign central banks.

Access Hierarchy:

How Priority Works:

• Countries with permanent Fed swap lines (ECB, BoJ, SNB, BoE, BoC) receive top-tier USD access.
• Others depend on temporary arrangements or high-cost FX swap markets.
• Riskier or geopolitically isolated countries face premium or exclusion.

Example:

• Japan accesses USD via both Fed swap lines and a deep FX swap market.
• Brazil depends on temporary Fed lines or market-based swaps at higher cost.
• Russia has no access due to sanctions, making USD liquidity management fragile.

Why It Matters

• Offshore USD dynamics control global credit, trade settlement, and crisis transmission.
• The Fed’s influence extends beyond US borders, anchoring global liquidity through offshore dollar architecture.
• Monitoring cross-currency basis spreads, FX swap spreads, and Eurodollar rates (SOFR, previously LIBOR) reveals stress or ease in global funding markets.

We “fixed” the Infrastructure, Let’s talk about “Fixed Income”…

The Bond Market and Yields — Foundations of Fixed Income

In a world shaped by interest rates and the cost of money, the bond market serves as both a barometer and an engine. It reflects the tension between value today and promises tomorrow. To understand it, we must begin with clear definitions.

Bonds — Definition

A bond is a loan made by an investor to a borrower, typically a government or corporation, in exchange for regular interest payments (coupon) and the return of principal at maturity.

A bond is time packaged into a contract—capital today, repaid tomorrow.

Yields — Definition

A yield is the return an investor earns from holding a bond. It reflects the bond’s income relative to its price.

Types of Yields:

• Nominal Yield: The bond’s fixed annual coupon divided by its face value.
• Current Yield: The bond’s annual coupon divided by its current market price.
• Yield to Maturity (YTM): The total return expected if held to maturity, accounting for price, coupon, and time.
• Real Yield: The yield adjusted for inflation. Real Yield=Nominal Yield−Inflation
• Bond Volatility: Reflects a bond’s price sensitivity to changes in interest rates. Long-duration bonds are more volatile.

Yield Curves & Yield Spreads

Yield Curve — Definition

A yield curve plots the yields of bonds with equal credit quality but different maturities—usually sovereign bonds.

It shows how time shapes the price of borrowing.

Yield Curve Segments (Tenors):

• Short-term: 1;2 years
• Medium-term: 3;10 years
• Long-term: 20;30+ years

Curve Shapes:

• Normal (Upward Sloping): Longer-term yields > short-term → reflects expected growth
• Flat: Market uncertainty or policy transition
• Inverted: Short-term yields > long-term → recession signal

Yield Spreads — Definition

Yield spreads measure the difference between two bond yields and signal market sentiment, credit risk, or monetary divergence.

Types:

• Intra-country Spreads:

- 10Y-2Y: A classic curve shape indicator

- 30Y-5Y: Measures long-term inflation/growth confidence

• Cross-country Spreads:

- Difference between yields on similar-maturity government bonds in different countries (e.g., U.S. 10Y – German Bund 10Y)

- Signals monetary divergence, currency risk, or sovereign credit concerns

Drivers of Bond Yields

Yields don’t exist in isolation—they respond to a constellation of economic forces:

• Inflation Expectations: Higher inflation erodes future returns → yields rise
• Central Bank Policy: Tightening raises short-term rates → flattens/inverts the curve
• Growth Outlook: Strong growth lifts yields; recession fears pull them down
• Credit Risk: Weaker issuers must offer higher yields (wider spreads)
• Supply & Demand: More issuance = higher yields; more demand = lower yields
• Global Flows: Capital moving across borders affects yield levels and spreads

Classic Yield Curve Maturity Segments and Role

Who use what for what?

Traders Uses Yields To

• Position for recession: Buy 10Y when curve inverts, overweight defensives.
• Trade inflation themes: Long TIPS or short bonds when breakevens rise.
• Allocate across assets: Higher real yields = rotate out of equities into bonds.
• Derive discount rates: Use 10Y in DCF for equities, real estate.

Central Banks Uses Yields To

• Validate forward guidance: Does the 2Y match the Fed’s path?
• Check inflation anchoring: Are breakevens stable near 2%?
• Model neutral rate (r*): Estimate natural interest rate from long bonds.
• Gauge financial conditions: Are yields and spreads tightening credit?

Just a generic note on sensitivity across asset class.

Highest sensitivity:

• Long-Term Government Bonds and Investment Grade Bonds—these move inversely and significantly with rates.

Moderate sensitivity:

• Growth Stocks, High Yield Bonds, Real Estate (REITs)—affected by rates, but also driven by earnings and credit sentiment.

Lower sensitivity:

• Value Stocks, Commodities, and Cash Instruments—more resilient or even defensive in rising rate environments.

Examples, for fun , let’s do a little exercise

United States Monetary Indicators – 2025

Real Interest Rate

• Nominal Policy Rate: 4.25% (Federal Funds Rate as of May 2025)
• Inflation Rate: 2.3% (April 2025)
• Real Interest Rate: 4.25% - 2.3% = 1.95%

Interpretation: A positive real interest rate of 1.95% indicates a relatively tight monetary policy stance. This suggests that borrowing costs, when adjusted for inflation, are elevated, potentially dampening investment and consumption.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 1.9% (Based on historical data)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (1.9% - 6.18%) × 100 = –428 bps

Interpretation: A negative Wicksellian spread of –428 basis points suggests that the market interest rate significantly exceeds the economy's growth potential. This disparity can be indicative of restrictive financial conditions, potentially dampening investment and economic expansion.

Yield Curve Analysis

• 2-Year Treasury Yield: 4.00% (May 23, 2025)
• 10-Year Treasury Yield: 4.52% (May 26, 2025)
• 30-Year Treasury Yield: 5.05% (May 22, 2025)
• 10Y–2Y Spread: 4.52% - 4.00% = 0.52%
• 30Y–10Y Spread: 5.05% - 4.52% = 0.53%

Interpretation: The positive 10Y–2Y spread of 0.52% indicates a normal, upward-sloping yield curve in the short to medium term, reflecting expectations of economic growth. The 30Y–10Y spread of 0.53% suggests moderate long-term inflation expectations.

Summary Table

Overall Assessment: In 2025, the United States' monetary environment is characterized by a tight policy stance, as evidenced by the positive real interest rate. The significant negative Wicksellian spread points to restrictive financial conditions, potentially hindering economic growth. The yield curve suggests normal expectations in the short term but indicates moderate concerns over long-term inflation.

Japan Monetary Indicators – 2025

Real Interest Rate

• Nominal Policy Rate: 0.50%
• Inflation Rate: 3.6%
• Real Interest Rate: 0.50% - 3.6% = –3.10%

Interpretation: A negative real interest rate of –3.10% indicates that the cost of borrowing, when adjusted for inflation, is effectively negative. This suggests that monetary policy remains highly accommodative, aiming to stimulate economic activity despite rising inflationary pressures.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 1.5%
• Moody’s Baa Corporate Bond Yield: 6.18%
• Wicksellian Spread: (1.5% - 6.18%) × 100 = –468 bpsI

Interpretation: A negative Wicksellian spread of –468 basis points suggests that the market interest rate significantly exceeds the economy's growth potential. This disparity can be indicative of restrictive financial conditions, potentially dampening investment and economic expansion.

Yield Curve Analysis

• 2-Year Government Bond Yield: 0.73%
• 10-Year Government Bond Yield: 1.50%
• 30-Year Government Bond Yield: 3.03%
• 10Y–2Y Spread: 1.50% - 0.73% = 0.77%
• 30Y–10Y Spread: 3.03% - 1.50% = 1.53%

Interpretation: The positive 10Y–2Y spread of 0.77% indicates a normal, upward-sloping yield curve in the short to medium term, reflecting expectations of economic growth. However, the steeper 30Y–10Y spread of 1.53% suggests heightened uncertainty or inflation expectations in the long term, possibly due to fiscal concerns or anticipated monetary tightening.

Summary Table

Overall Assessment: In 2025, Japan's monetary environment is characterized by a highly accommodative stance, as evidenced by the negative real interest rate. Despite this, the significant negative Wicksellian spread points to restrictive financial conditions, potentially hindering economic growth. The yield curve suggests normal expectations in the short term but indicates concerns over inflation and fiscal sustainability in the long term.

France Monetary Indicators – 2025

Real Interest Rate

• Nominal Policy Rate: 2.90% (ECB Main Refinancing Operations Rate as of February 2025)
• Inflation Rate: 0.8% (April 2025)
• Real Interest Rate: 2.90% - 0.8% = 2.10%

Interpretation: A positive real interest rate of 2.10% indicates a relatively tight monetary policy stance. This suggests that borrowing costs, when adjusted for inflation, are elevated, potentially dampening investment and consumption.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 1.5% (Assuming a 7-year average based on historical data)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (1.5% - 6.18%) × 100 = –468 bps

Interpretation: A negative Wicksellian spread of –468 basis points suggests that the market interest rate significantly exceeds the economy's growth potential. This disparity can be indicative of restrictive financial conditions, potentially dampening investment and economic expansion.

Yield Curve Analysis

• 2-Year Government Bond Yield: 1.93% (Forecast for May 2025)
• 10-Year Government Bond Yield: 3.29% (May 26, 2025)
• 30-Year Government Bond Yield: 3.96% (May 2025)
• 10Y–2Y Spread: 3.29% - 1.93% = 1.36%
• 30Y–10Y Spread: 3.96% - 3.29% = 0.67%

Interpretation: The positive 10Y–2Y spread of 1.36% indicates a normal, upward-sloping yield curve in the short to medium term, reflecting expectations of economic growth. The 30Y–10Y spread of 0.67% suggests moderate long-term inflation expectations.

Summary Table

Overall Assessment: In 2025, France's monetary environment is characterized by a tight policy stance, as evidenced by the positive real interest rate. The significant negative Wicksellian spread points to restrictive financial conditions, potentially hindering economic growth. The yield curve suggests normal expectations in the short term but indicates moderate concerns over long-term inflation.

Poland Monetary Indicators – 2025

Real Interest Rate

• Nominal Policy Rate: 5.25% (as of May 2025)
• Inflation Rate: 4.3% (April 2025)
• Real Interest Rate: 5.25% - 4.3% = 0.95%

Interpretation: A positive real interest rate of 0.95% indicates a moderately tight monetary policy stance. This suggests that borrowing costs, when adjusted for inflation, are elevated, potentially dampening investment and consumption.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 3.7% (average from 2015 to 2022)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (3.7% - 6.18%) × 100 = –248 bps

Interpretation: A negative Wicksellian spread of –248 basis points suggests that the market interest rate significantly exceeds the economy's growth potential. This disparity can be indicative of restrictive financial conditions, potentially dampening investment and economic expansion.

Yield Curve Analysis

• 2-Year Government Bond Yield: 4.59% (May 22, 2025)
• 10-Year Government Bond Yield: 5.57% (May 22, 2025)
• 30-Year Government Bond Yield: 5.86% (February 2025)
• 10Y–2Y Spread: 5.57% - 4.59% = 0.98%
• 30Y–10Y Spread: 5.86% - 5.57% = 0.29%

Interpretation: The positive 10Y–2Y spread of 0.98% indicates a normal, upward-sloping yield curve in the short to medium term, reflecting expectations of economic growth. The 30Y–10Y spread of 0.29% suggests moderate long-term inflation expectations.

Summary Table

Overall Assessment: In 2025, Poland's monetary environment is characterized by a moderately tight policy stance, as evidenced by the positive real interest rate. The significant negative Wicksellian spread points to restrictive financial conditions, potentially hindering economic growth. The yield curve suggests normal expectations in the short term but indicates moderate concerns over long-term inflation.

Russia – 2025 Monetary Indicators

Real Interest Rate

• Nominal Policy Rate: 21.00% (as of February 2025)
• Inflation Rate: 10.2% (April 2025)
• Real Interest Rate: 21.00% - 10.2% = 10.80%

Interpretation: A significantly positive real interest rate of 10.80% indicates a highly restrictive monetary policy stance, aiming to combat elevated inflation.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 1.9% (based on historical data)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (1.9% - 6.18%) × 100 = –428 bps

Interpretation: A negative Wicksellian spread of –428 basis points suggests that the market interest rate significantly exceeds the economy's growth potential, indicating restrictive financial conditions.

Yield Curve Analysis

• 2-Year Government Bond Yield: 16.86% (May 23, 2025)
• 10-Year Government Bond Yield: 15.77% (May 23, 2025)
• 30-Year Government Bond Yield: 15.73% (May 23, 2025)
• 10Y–2Y Spread: 15.77% - 16.86% = –1.09%
• 30Y–10Y Spread: 15.73% - 15.77% = –0.04%

Interpretation: The negative 10Y–2Y spread indicates an inverted yield curve, often a predictor of economic slowdown or recession. The near-zero 30Y–10Y spread suggests flat expectations for long-term economic growth.

Russia – Overall Assessment (2025)

Russia's monetary environment is highly restrictive and challenging.

• Real Interest Rate (10.80%): Extremely tight monetary conditions, indicating aggressive measures to combat persistent high inflation.
• Wicksellian Spread (–428 bps): Significant negative spread implies restrictive financial conditions, severely limiting growth potential.
• Yield Curve (Inverted): Strongly inverted yield curve (negative short-term and nearly flat long-term spreads) signals severe economic stress, reflecting market expectations of recession, inflationary pressure, and geopolitical instability.

Conclusion: Russia is in a deeply restrictive and economically strained situation, facing strong recessionary pressures and elevated risks of economic contraction.

Brazil – 2025 Monetary Indicators

Real Interest Rate

• Nominal Policy Rate: 14.75% (May 2025)
• Inflation Rate: 5.0% (2025 projection)
• Real Interest Rate: 14.75% - 5.0% = 9.75%

Interpretation: A high positive real interest rate of 9.75% reflects a tight monetary policy aimed at controlling inflation, which may dampen economic activity.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 1.9% (based on historical data)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (1.9% - 6.18%) × 100 = –428 bps

Interpretation: A negative Wicksellian spread of –428 basis points indicates restrictive financial conditions, with market rates exceeding the economy's growth potential.

Yield Curve Analysis

• 2-Year Government Bond Yield: 13.92% (May 23, 2025)
• 10-Year Government Bond Yield: 14.17% (May 23, 2025)
• 30-Year Government Bond Yield: 14.50% (estimated)
• 10Y–2Y Spread: 14.17% - 13.92% = 0.25%
• 30Y–10Y Spread: 14.50% - 14.17% = 0.33%

Interpretation: The positive spreads indicate a normal upward-sloping yield curve, suggesting expectations of economic growth, albeit modest.

Brazil – Overall Assessment (2025)

Brazil's monetary stance is restrictive but shows signs of normalization and cautious optimism.

• Real Interest Rate (9.75%): High but necessary tightening, intended to anchor inflation expectations effectively.
• Wicksellian Spread (–428 bps): Negative spread reflects challenging borrowing conditions relative to growth, potentially dampening investment, but not excessively severe given Brazil’s emerging market context.
• Yield Curve (Normal, Moderately Positive): Modest positive spreads (0.25% short-term, 0.33% long-term) indicate stable and moderate growth expectations. Market sentiment cautiously optimistic for future stability.

Conclusion: Brazil maintains a disciplined, restrictive policy stance to secure economic stability, aiming to achieve balanced growth over the medium term.

Italy – 2025 Monetary Indicators

Real Interest Rate

• Nominal Policy Rate: 2.90% (February 2025)
• Inflation Rate: 1.8% (2025 projection)
• Real Interest Rate: 2.90% - 1.8% = 1.10%

Interpretation: A positive real interest rate of 1.10% suggests a moderately tight monetary policy stance, aiming to maintain price stability.

Wicksellian Spread

• 7-Year Average Real GDP Growth: 0.8% (based on historical data)
• Moody’s Baa Corporate Bond Yield: 6.18% (April 2025)
• Wicksellian Spread: (0.8% - 6.18%) × 100 = –538 bps

Interpretation: A negative Wicksellian spread of –538 basis points indicates restrictive financial conditions, with market rates significantly exceeding the economy's growth potential.

Yield Curve Analysis

• 2-Year Government Bond Yield: 2.10% (May 2025)
• 10-Year Government Bond Yield: 3.60% (May 2025)
• 30-Year Government Bond Yield: 4.00% (estimated)
• 10Y–2Y Spread: 3.60% - 2.10% = 1.50%
• 30Y–10Y Spread: 4.00% - 3.60% = 0.40%

Interpretation: The positive spreads indicate a normal upward-sloping yield curve, reflecting investor confidence in long-term economic stability.

Italy – Overall Assessment (2025)

Italy is navigating moderately restrictive monetary conditions amid sluggish growth.

• Real Interest Rate (1.10%): Moderately positive, indicative of cautious ECB monetary tightening and commitment to price stability.
• Wicksellian Spread (–538 bps): Highly negative spread, suggesting borrowing costs significantly exceed Italy's limited growth potential, creating difficult financial conditions for investment.
• Yield Curve (Normal, Positive Spreads): Relatively wide positive spreads (1.50% short-term, 0.40% long-term) suggest cautious market optimism, moderate growth expectations, and contained inflation concerns. However, fiscal concerns persist.

Conclusion: Italy faces moderately restrictive conditions with significant structural economic pressures, underscored by the deep negative Wicksellian spread. Positive yield curve spreads, however, offer some cautious optimism regarding long-term economic stability… .

BUT NOT SO FAST….

As always, it is key to keep track of different time horizons to spot change.

In the case of rates, their rate of change across time horizons is an essential factor to consider.

Let’s take a closer look at Japan.

JAPAN, the country of the rising yields

In 1986–87, the bond market was marked by a falling yield curve across all tenors: a product of coordinated BOJ easing, yen strengthening post-Plaza Accord, (and the Louvre accords) and the fueling of asset bubbles. 1987 = bond bullish regime In 2024–2025, the mirror opposite is happening: rising yields across all durations, especially at the short end. 2025 = bond bearish regime

This is a regime change. The clearest signal yet that Japan’s bond market is undergoing a tectonic shift. - Fiscal Statements: Scrutiny of Japan's debt sustainability (EM Style). - Foreign Participation: As Japanese yields normalize, repatriation of capital could destabilize FX markets, especially USD/JPY.

In Conclusion

Reading the Field of Monetary Gravity

This comparative journey through real interest rates, Wicksellian spreads, and yield curve structures across key economies has revealed a simple truth:

Interest rates do not just mark a price—they signal posture, purpose, and pressure.

We’ve seen:

• The United States and Italy positioned in cautious tightening,
• Brazil showing deliberate disinflationary discipline,
• Russia caught in a storm of overcorrection and fragility,
• France and Japan managing paradoxes of growth and inertia under vastly different inflation contexts.

Across all, the Wicksellian spread has proven an indispensable lens—revealing where monetary policy stands in relation to real economic capacity.

And real interest rates have shown whether central banks are leaning with or against inflationary winds.

The yield curve, finally, translates expectations into structure—whether markets anticipate resolution, retreat, or rupture.

Strategic Recommendation

Watch the Rate of Change

To foresee paradigm shifts—not just position but direction—one must go beyond static figures:

Track the Rate of Change

· Month-over-Month (MoM): Sensitive to policy tweaks, market shocks, or immediate inflation adjustments. Useful for spotting short-term pivots and reaction functions.

· Year-over-Year (YoY): Filters noise and reveals long-range trajectory. Crucial for assessing macro alignment and regime transitions.

Combine indicators..

Final Thought

It’s not where the numbers stand—it’s where they’re heading that bends the curve.

Rates of change are the early tremors of monetary earthquakes. Watching how fast real rates rise, how Wicksellian spreads evolve, and how yield curves twist—month by month, year by year—allows us not merely to react, but to anticipate.

And in the world of money, anticipation is everything.

In the end, Money is not fixed—it bends. It curves trust, time, and value through the fabric of our economy. To navigate it, we don’t need more speed—we need better coordinates.

This is the relativity of money. Know the field. Read the curves. Move with intent.

Fact-Clinically Yours…