MacroVoices #396 Luke Gromen: The Dollar Treasury Feedback Loop, Deconstructed
Luke Gromen analyzes the dangerous dollar-treasury feedback loop currently unfolding, where rising dollar strength forces foreign holders to sell $7.5 trillion in treasuries, creating a self-reinforcing cycle that could break the US financial system. He argues this paradoxically strong dollar signals the unwinding of the dollar system rather than US strength.
Summary
Luke Gromen provides a comprehensive analysis of what he sees as a critical dollar-treasury feedback loop threatening the global financial system. He explains that while the dollar could potentially rise to 115-122 on the DXY index as Brent Johnson predicted, this would actually break the US treasury market, banking system, and accelerate global de-dollarization rather than demonstrate US strength. The mechanism works through foreign holders of $7.5 trillion in treasuries being forced to sell as the rising dollar increases their cost of servicing offshore dollar debt. This creates a vicious cycle where dollar strength drives treasury sales, which drives rates higher, which drives the dollar even higher. The problem is compounded by US banks holding $4.1 trillion in treasuries and agency mortgages, making them vulnerable to credit losses as rates rise. Gromen traces the roots of this crisis to failed policy decisions, particularly the Fed's aggressive rate hikes combined with SPR releases that acted as oil price controls, artificially suppressing the price needed for US shale production growth. He argues that 90% of global oil production growth over the last decade came from US shale, which has a much higher decline rate and interest rate sensitivity than conventional oil. The artificially low oil prices undermined US energy production just as geopolitical tensions with Russia and China were escalating. He predicts Russia will weaponize oil this winter by cutting production and selling to China at half the price offered to Europe, further pressuring Western economies. Regarding investment implications, Gromen argues treasuries will continue to fail as portfolio ballast until the dollar weakens meaningfully and oil prices fall. In the short term, he recommends holding cash, but warns that once treasury yields reach a level where US government solvency is questioned (potentially around 7% as Jamie Dimon suggested), the Fed will be forced into yield curve control, leading to massive money printing. At that point, he expects stocks, gold, and Bitcoin to surge as the market reprices for Argentine-style fiscal dynamics. He notes that the stock market has become the key marginal driver of US tax receipts, with non-withheld receipts (capital gains and stock compensation) falling 20% last year despite strong employment, creating another source of fiscal pressure when markets decline.
Key Insights
- A rising dollar paradoxically signals the unwinding of the US dollar system rather than American strength, as it forces massive treasury selling by foreign holders
- Foreign entities hold $7.5 trillion in treasuries, and every tick higher in the dollar forces them to sell more to service offshore dollar debt and defend their currencies
- The Fed's aggressive rate hikes combined with SPR releases functioned as oil price controls that undermined US shale production, which provided 90% of global oil growth over the past decade
- US banks holding $4.1 trillion in treasuries face mounting credit losses as rates rise, forcing them to join the treasury selling cycle
- Russia will likely weaponize oil this winter by cutting production 10% while selling to China at half the price offered to Europe
- The oil price needed to sustain US shale growth is fundamentally incompatible with current deficit levels of 8.5% of GDP and debt-to-GDP of 120%
- US tax receipts fell 20% last year despite strong employment, with the decline coming entirely from capital gains and stock compensation, making the stock market critical for government financing
- Treasury yields around 7% could trigger a solvency crisis forcing the Fed into yield curve control, after which stocks, gold and Bitcoin would surge dramatically
- The convexity of net effective treasury supply means that in a recession, deficits could rise from $2 trillion to $5 trillion annually while foreign selling accelerates
- Western policymakers have made treasury demand procyclical over the past decade through regulation, meaning everyone is now on the same side of the trade and must sell simultaneously
- China storing massive oil reserves likely indicates advance knowledge of Putin's plan to weaponize energy markets this winter
- In the short term only dollar cash will work as an investment, but once the Fed pivots to money printing, hard assets will dramatically outperform as the US takes on Argentine-like market characteristics
Topics
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