Liquidity Reload: Part 2
Five factors are aligning. Institutional skeptics are pushing back. Here’s the full picture.
The Setup
Everyone’s watching the Bank of Japan raise rates by 0.25%. That’s the headline. Meanwhile, the Fed and China are quietly injecting liquidity at scale, the money is actually flowing this time, and positioning is clean.
This bulletin breaks down five pillars, addresses the institutional counter-arguments, and gives you specific levels to monitor.
Pillar 1: Fed Plumbing
The Fed controls liquidity through several mechanisms most investors never track. Here’s the current state:
| Metric | Current | What It Means |
|---|---|---|
| Reverse Repo (RRP) | $11.7B | A facility where institutions park excess cash. Was $2.55T at peak. Now empty. No buffer left to absorb new liquidity. 🟢 |
| Treasury General Account | $833B | Government’s checking account at the Fed. Down $109B in 30 days. When Treasury spends, cash enters the system. 🟢 |
| Fed Balance Sheet | $6.5T | Flat month-over-month. Quantitative tightening has effectively stalled. 🟢 |
| Bank Reserves | $2.96T | Cash banks hold at the Fed. Near the ~$3T floor. Limited room to drain further. 🟡 |
| SOFR | 3.75% | Secured Overnight Financing Rate. The benchmark for overnight lending between banks. Stable and declining means no funding stress. 🟢 |
Key point: The Fed began $40B/month in Treasury bill purchases on December 10. This isn’t called “QE” but functions similarly. It’s a steady bid that keeps short-term funding markets stable.
Pillar 2: Central Bank Scorecard
| Central Bank | Action | Net Effect |
|---|---|---|
| Federal Reserve | QT paused, $40B/mo T-bill purchases, rate cuts expected | 🟢 Expansionary |
| PBOC (China) | ¥1T MLF injection in November (¥100B net after maturities). Ongoing support via reverse repo. | 🟢 Expansionary |
| Bank of Japan | 25bps hike (0.50% to 0.75%) | 🟡 Marginal |
Two of three major central banks are adding liquidity. Japan raised rates by a quarter point from near-zero. With Japanese inflation at 2.9%, real rates remain negative. Net global effect: expansionary.
Pillar 3: Macro Conditions
| Metric | Current | Signal |
|---|---|---|
| CPI (YoY) | 2.7% | 🟢 Down from 3.0% |
| Core CPI | 2.6% | 🟢 Cooling |
| DXY | 98.63 | 🟢 Down 8.3% YTD |
Cooling inflation gives the Fed room to continue easing. A weaker dollar loosens global financial conditions. Both support risk assets.
Caveat: The 43-day government shutdown disrupted CPI data collection. Shelter costs may be understated. January’s print could show a catch-up spike. This is the near-term wildcard for the Fed pivot narrative.
Pillar 4: Global M2
| Metric | Current | Signal |
|---|---|---|
| Global M2 Supply | $114.65T | 🟢 Breaking highs |
| YoY Growth | +8.54% | 🟢 Accelerating |
| BTC Correlation | ~2-3 month lag | 🟡 Gap to close |
Global money supply (M2) historically leads risk assets by 2-3 months. M2 is at all-time highs and accelerating. Bitcoin has consolidated in the $90-100K range. If the correlation holds, there’s a gap to close.
Note: A portion of USD-denominated Global M2 growth reflects dollar weakness (DXY down 8.3% YTD). If DXY reverses, the headline figure compresses even without liquidity withdrawal.
Pillar 5: Positioning
| Metric | Status | Signal |
|---|---|---|
| Leverage | Purged Oct 2025 | 🟢 Clean |
| Funding Rates | Normalized | 🟢 Neutral |
| Liquidation Volume | $19B flushed in 24hrs | 🟢 Flushed |
October 2025 delivered the largest liquidation event in crypto history. Over $19 billion in leveraged positions were wiped out in a single 24-hour period on October 10-11, triggered by tariff announcements. Funding rates are now neutral. The crowded-long setup that precedes sharp corrections is absent.
The Counter-Thesis
Institutional desks at BoE, JPM, and quant funds are skeptical. Their core argument: liquidity trap.
| Bullish Thesis | Institutional Critique |
|---|---|
| Fed T-bills are stealth QE | Just maintaining a fragile repo market |
| Reserves at floor forces liquidity into assets | Banks are hoarding cash to cover unrealized losses |
| China injection is global tailwind | Trapped in domestic debt restructuring |
| M2 predicts BTC | Historical overfitting. Velocity collapse negates M2 growth |
| BOJ is a sideshow | Japanese repatriation risk is real |
| Positioning is clean | Basis trade leverage (hedge funds) at record highs |
Their thesis: central bank injections get absorbed by falling money velocity and institutional risk aversion. Liquidity doesn’t reach markets.
Rebuttal #1: Velocity Has Stabilized
The velocity argument was valid in 2020-2022. M2 exploded but money sat idle. Velocity (how fast money circulates) collapsed.
That’s no longer true:
| Period | M2 Velocity |
|---|---|
| Pre-COVID | 1.39 to 1.46 |
| COVID bottom (Q2 2020) | 1.13 |
| Current (2025) | 1.39 |
Velocity recovered to pre-COVID normal and flatlined for three quarters. The transmission mechanism from liquidity to assets is functional again. The drag is gone.
Rebuttal #2: SOFR Shows No Funding Stress
The basis trade critique: hedge funds are short Treasury futures against long physical bonds at record scale. A spike in repo rates would trigger forced unwinds.
SOFR data doesn’t support this:
| Period | SOFR |
|---|---|
| Peak (Aug 2023) | 5.35% |
| Post first cut (Sep 2024) | 4.82% |
| Current (Dec 2025) | 3.75% |
Steady decline. No spikes. The Fed’s $40B monthly T-bill purchases are keeping funding markets stable. The “fragile plumbing” critique isn’t showing up in the data.
What Risks Remain
| Risk | Why It Matters |
|---|---|
| 🟡 Japanese repatriation | Japanese yields at multi-decade highs. If pension funds and insurers bring capital home, global bond yields spike. Threshold crossed but effects not yet visible. |
| 🟡 CPI catch-up | January’s inflation print could show a spike from shutdown data gaps. Would pause the Fed pivot narrative. |
Synthesis
| Layer | Confidence | Status |
|---|---|---|
| Liquidity Stock | High | 🟢 Global M2 at $114T+, rising |
| Liquidity Flow | High | 🟢 Velocity stable, transmission clear |
| Funding Stress | High | 🟢 SOFR at 3.75%, no spikes |
| Central Bank Bias | Medium-High | 🟢 Fed + PBOC outweigh BOJ |
| External Risk | Monitoring | 🟡 Japanese yields elevated |
Invalidation Dashboard
Monitor weekly. The thesis holds until these levels break:
| Metric | Current | Danger Zone | Status |
|---|---|---|---|
| SOFR | 3.75% | > 3.85% | 🟢 Clear |
| Japan 10Y Yield | 2.02% | > 1.50% | 🟡 Monitoring |
| Services CPI | 3.0% | > 4.0% | 🟢 Clear |
| US 10Y Yield | 4.14% | > 5.0% | 🟢 Clear |
What these mean:
- SOFR > 3.85%: Funding stress emerging. Basis trade unwind risk rises.
- JGB > 1.50%: Japanese capital repatriation risk. Yield has breached this threshold following the BOJ’s December hike to 0.75%. However, the expected transmission effects—yen strength, US yield contagion, funding stress—have not materialized. The yen weakened to 157 post-decision. Elevated but not invalidating.
- Services CPI > 4.0%: Fed trapped in “higher for longer.”
- US 10Y > 5.0%: Yield gravity overwhelms liquidity tailwind.
Three clear. One monitoring. Thesis intact.
Bottom Line
The bullish setup holds after stress-testing institutional critiques. Velocity has recovered. SOFR shows no stress. The transmission from liquidity to assets is functional.
What changes the thesis: SOFR spiking above 3.85%, yen strengthening sharply (indicating actual repatriation flows), or US 10-year yields breaking above 5%.
What doesn’t change the thesis: BOJ hikes at this magnitude without yen strength. China headlines. Generic valuation concerns without yield backup. JGB yields crossing thresholds in isolation without transmission effects firing.
Five pillars confirmed. Transmission validated. External risk elevated but contained. The setup is primed.
Data: FRED (RRPONTSYD, WTREGEN, WALCL, WRESBAL, M2V, SOFR), Bloomberg, PBOC, Coinglass, BLS, TradingView. December 2025.
Pierce & Pierce Research. Educational purposes only. Not financial advice.
