Evergrande Moment 

Doug Nolan


Evergrande owes over $300 billion – to banks and non-bank financial institutions, domestic and international bond holders, suppliers and apartment buyers. 

It has bank borrowings of $90 billion, including to Agricultural Bank of China, China Minsheng Banking Corp and China CITIC Bank Corp. (reports have 128 banks with exposure). 

Thousands of suppliers are on the hook for $100 billion. 

It appears an Evergrande debt restructuring is inevitable. 

From a few decades of close observation, these types of situations generally prove worse than even the more bearish analysts fear. 

Assume ugly and messy. 

The presumption all along – by bankers, investors and apartment purchasers – was that Beijing would never allow a collapse of such a huge player. 

This fundamental market perception is in serious jeopardy.

Evergrande is the most indebted of a highly levered Chinese developer sector (top three in revenues). 

It “owns more than 1,300 projects in more than 280 cities.” 

Evergrande employs 200,000 – and “indirectly helps sustain more than 3.8 million jobs each year.”

From CNN (Michelle Toh): 

“Outside housing, the group has invested in electric vehicles, sports and theme parks. 

It even owns a food and beverage business, selling bottled water, groceries, dairy products and other goods across China. 

In 2010, the company bought a soccer team, which is now known as Guangzhou Evergrande. 

That team has since built what is believed to be the world's biggest soccer school, at a cost of $185 million to Evergrande. 

Guangzhou Evergrande continues to reach for new records: It's currently working on creating the world's biggest soccer stadium, assuming that construction is completed next year as expected. 

The $1.7 billion site is shaped as a giant lotus flower, and will eventually be able to seat 100,000 spectators.”

Evergrande epitomizes China’s historic Credit Bubble. 

It has borrowed and spent lavishly, in what history will surely view as a company that operated at the epicenter of an extraordinary Bubble of asset inflation, speculation and reckless debt-financed mal-investment.

Estimates have Evergrande bond holders receiving 25 cents on the dollar in a restructuring. 

It borrowed $20 billion in the booming off-shore dollar bond marketplace. 

As a focal point of the global Bubble in leveraged speculation, China’s offshore debt market has ballooned during this protracted cycle. 

From the FT (Hudson Lockett and Thomas Hale): 

“Chinese issuers face their largest-ever wave of dollar bond maturities this year at $118bn, according to Refinitiv. 

But even that is dwarfed by the Rmb7.8tn ($1.2tn) of onshore debt maturing in 2021. 

The latter figure could have big repercussions for offshore bondholders, especially if the restructuring of onshore debt is prioritised.”

“Money” has flooded into China this year, in yet another example of the incredible “Terminal Phase” dynamic, where speculative finance inundates a system even in the face of acute Bubble fragility. 

Unwieldy speculative flows only exacerbate systemic vulnerabilities. 

Trouble for Evergrande, the developers and Chinese high-yield debt marks a momentous inflection point for Chinese and global leveraged speculation. 

From CNN (Michelle Toh): 

“Goldman Sachs analysts say the company’s structure has also made it ‘difficult to ascertain a more precise picture of [its] recovery.’ 

In a note this week, they pointed to ‘the complexity of Evergrande Group, and the lack of sufficient information on the company’s assets and liabilities.’”

When a Bubble is inflating - asset prices rising and finance flowing freely - the “complexity” of corporate structure and lack of transparency matter little. 

Then suddenly, when speculative financial flows reverse, Bubbles falter and finance tightens, attention shifts to risks embedded within tangled financial arrangements. 

Why worry about Chinese debt if Beijing is there to underpin the marketplace (not to speak of the entire financial system and economy)? 

Besides, one can always hedge risks as necessary. 

Quite simply, the risk vs. reward calculus for speculating in high-yield Chinese debt could not have appeared more attractive (especially in a yield-starved world!). 

But these bullish perceptions are now being blow apart. 

Understandably, Beijing is reluctant to become entangled in this financial quagmire. 

And who today is willing to write default protection on Evergrande-related obligations? 

Who’s would want to sell flood insurance with torrents of rain coming down?

Bloomberg (Laura Benitez): 

“Evergrande Bondholders Find No Takers in Efforts to Hedge Risk: ‘Absolutely no bank is willing to provide a hedge, at least not in size,’ Jochen Felsenheimer, a managing director at XAIA Investment in Munich who trades CDS and bonds, said… Both speculators and bondholders are failing to find counterparties to hedge their liabilities, he added.”

Developments point to a momentous shift in speculative dynamics. 

Bond prices are collapsing in increasingly illiquid markets. 

Evergrande bonds faced trading halts during the week. 

Hedges for a company with hundreds of billions of liabilities are no longer available. 

Such circumstances dictate that speculative leverage must be reduced, with losses and illiquidity impacting the risk vs. reward calculus for other sectors and markets – in China, Asia and globally. 

Contagion gathered important momentum this week.

September 16 – Bloomberg (Sofia Horta e Costa): 

“Intensifying concern over the impact of a China Evergrande Group default is rippling through the nation’s financial markets. 

Developers led declines on the Hang Seng China Enterprises Index, with Country Garden Holdings Co. -- the nation’s largest developer by sales -- losing 7.2% and Sunac China Holdings Ltd. sinking 11%. 

This week alone the two stocks have fallen more than 21%. 

China’s high-yield dollar bonds fell as much as 4 cents on the dollar Thursday…, with those issued by Fantasia Holdings Group Co. -- a weaker-rated developer -- down about 10 cents. 

Yields on China’s junk notes have climbed to an 18-month high…”

According to Bloomberg (Shuli Ren): 

“Its inventory quality is really poor. 

To redeem its investors, apartments were offered at 28% discount to their market value, and parking lots were given away at a 52% discount… 

That’s because most of Evergrande’s projects are not prime real estate. 

As of 2020, 57% and 31% of its land acquisitions were in Tier-3 and weak Tier-2 cities… 

As of June, it was already taking the developer over 3.5 years to sell unfinished projects.”

“On top of this, Evergrande has sold wealth management products to its employees, suppliers and apartment buyers over the years. 

We don’t know how much is at stake — it was essentially off-balance-sheet shadow banking, which means its actual debt could be much greater. About 70,000 retail investors were tied up in these products, according to a REDD report.” 

Beyond the stated $305 billion of balance sheet liabilities, there is likely a major issue with “off-balance-sheet shadow banking.” 

Bloomberg, May 20th: 

“The [off-balance sheet] funding is often masked as equity offerings that are debt-like in nature. 

Another avenue is to provide guarantees to joint ventures or associates that borrow on behalf of the developers, Cheng said. 

Funding sourced via such guarantees for joint ventures accounted for about 9% of total debt issued by Fitch-rated developers last year, based on Fitch estimates, reaching a record 460 billion yuan ($71 billion). 

It’s outside of mainland China where the impact on developers has been most telling. 

One of the popular approaches in the past three years has been using so-called orphan special purpose vehicle structures to issue private debt, said Chen Yi, head of global capital markets at Haitong International Securities Group Ltd. 

Under such a structure, the issuer of the debt is an orphan that is not an affiliate or subsidiary of a company, so the debt won’t appear on the companies’ balance sheet… 

Companies that rely on joint ventures for financing could see such off-balance sheet debt accounting for as much as 40% of their debt, said Cheng.”

September 13 – Reuters (Clare Jim and Samuel Shen): 

“Cash-strapped property group China Evergrande Group said… it has engaged advisers to examine its financial options and warned of default risks amid plunging property sales… 

The real estate giant has been scrambling to raise funds it needs to pay lenders and suppliers, with regulators and financial markets worried that any crisis could ripple through China’s banking system and potentially trigger wider social unrest… 

Evergrande said two of its subsidiaries had failed to uphold guarantee obligations for 934 million yuan ($145 million) worth of wealth management products issued by third parties. 

That could ‘lead to cross-default’, which would ‘would have a material adverse effect on the group's business, prospects, financial condition and results of operations,’ it said…”

Evergrande issues go much beyond the bond market and financial engineering – to literally millions of individuals and businesses. 

Its employees, customers, and suppliers are heavily exposed.

September 14 – Bloomberg: 

“China Evergrande Group’s high-yield consumer products have become a lightning rod for the embattled developer, with investors protesting losses and delayed payments from accounts marketed as safe. 

More than 70,000 people across China have bought the wealth management products, Du Liang, general manager of Evergrande’s wealth division, said… About 40 billion yuan ($6.2bn) of them are now due, Caixin reported, citing people briefed by Du. 

Such off-balance sheet investment offerings are a key source of funding for cash-strapped Evergrande. 

The demonstrations that are breaking out across China could sway any bailout decisions by the government, which places a high priority on social stability.”

From Reuters: 

“Many of the [wealth management] investors are Evergrande workers, after the company encouraged staff to purchase the products. 

In Anhui province alone, 70% to 80% of local employees bought them and that’s likely to be the situation for branches nationwide…”

Reuters: 

“Hundreds of thousands of uncompleted units… need to be delivered to buyers.” 

“I collapsed when I heard that construction had halted. 

How my heart hurts,’ a middle-aged woman… told Reuters outside the sales office. 

“For regular folks like us, all our life-savings had gone into the house.”

September 16 – Reuters (David Kirton): 

“Wu Lei says his small construction company in central China has accepted commercial paper from property developer Evergrande as payment for two years but with that paper’s value now in doubt, his firm is on the verge of collapse. 

China Evergrande Group, saddled with more than $300 billion in total liabilities equivalent to 2% of China’s GDP, is in the throes of a liquidity crisis that has it scrambling to raise funds to pay its many lenders and suppliers… ‘We were working for Evergrande, so our suppliers trusted us with the materials without us paying upfront. 

Now they’re suing me, courts have frozen my property and I’ve sold my car. 

And I still have employees who need to be paid,’ he said. 

The plight of Wu and many others like him has thrown a spotlight on the extensive use of commercial paper in China’s property sector. 

Developers favour it as they prefer to not pay upfront and because it doesn’t count as interest-bearing debt.”

It's being dubbed “China’s Lehman Brothers Moment.” 

While a pivotal development for China’s vulnerable Bubble, it still seems premature to invoke the “Lehman Moment” comparison. 

The Lehman blowup was the culmination of 15-months of unfolding Crisis Dynamics. 

The crisis of confidence in Lehman’s “repo” market liabilities was the catalyst for panic liquidation and dislocation throughout the repo marketplace. 

In the “Periphery vs. Core” analytical framework, the U.S. repo market was at the system’s very core – perceived safe and liquid “money” suddenly viewed as involving significant risk. 

With the “repo” market providing a core funding source for the securities and derivatives markets, illiquidity and dislocation proved cataclysmic. 

The resulting panic unleashed de-risking/deleveraging dynamics that risked a systemic meltdown/financial collapse. 

Market perceptions abruptly shifted from “Washington will never allow a housing bust” to fears that crisis dynamics were spiraling out of the Fed’s control. 

At this point, the Evergrande crisis remains at China’s “Periphery.”

While they could allow defaults and a painful restructuring, markets remain confident that Beijing will safeguard China’s $55 TN banking system. 

Beijing is still perceived to be very much in control. 

And this explains why China’s top-tier onshore bond market has not been rattled. 

It also explains why the unfolding Evergrande collapse has yet to reverberate to U.S. and European Credit markets. 

Bloomberg: 

“Real estate contributes to about 29% of China’s economic output if its wider influences are factored in, according to a joint research by Harvard University and Tsinghua University.”

While not yet a “Lehman Moment,” a strong analytical case can be made that Evergrande presents a major catalyst for a deflating China Bubble. 

Bond investors will now approach housing finance with a much keener focus on risk. 

Apartment buyers will be less willing to provide developers big purchase deposits. 

Evergrande and others will unload apartments, with downside pressure on housing prices. 

Declining prices would likely see large quantities of unoccupied units (purchased for speculation) come to market, further depressing prices. 

Estimates have between 50 and 65 million empty Chinese apartments. 

Sinking prices would spur bankers to tighten lending conditions. 

Apartment bust.

September 14 – Bloomberg: “China’s residential property slowdown deepened last month, signaling that regulatory tightening and an escalating crisis at the country’s most indebted developer are hurting buyer sentiment. 

Home sales by value slumped 20% in August from a year earlier, the biggest drop since the onset of the coronavirus shut swathes of the economy at the start of last year, according to Bloomberg calculations based on National Bureau of Statistics data…”

Back during the U.S. mortgage financial Bubble period, the CBB would highlight a metric “Calculated Transaction Value” (CTV) – multiplying home sales by average selling prices. 

This was reflective of mortgage Credit creation, finance fueling housing inflation, and new purchasing power propelling the Bubble Economy. 

And when a tightening of mortgage Credit led to slowing transaction volumes and falling prices, CTV indicated the degree of Credit slowdown weighing on the economic boom. 

There is now ample evidence of a marked Chinese Credit slowdown. 

It may not be a “Lehman Moment,” but it’s definitely an “Evergrande Moment.” 

And it’s difficult to envisage sufficient Credit growth to sustain China’s historic Credit and apartment Bubbles.

“The U.S. will not allow Mexico to collapse” – 1994. 

“The West will never allow Russia to collapse” – 1998. 

“Washington would never tolerate a housing bust” – 2007. 

“Beijing has everything under control and will do whatever it takes to sustain China’s boom” – 2021.

Late Bubble cycle exultant confidence in policymakers is the kiss of death. 

After all, faith that crisis dynamics will be summarily quashed by omnipotent central bankers and government officials ensures aggressive risk-taking, speculation and leveraging. 

I’ve studied these dynamics for a while now, but I’ve never witnessed such faith in the competence and power of a government as is these days afforded to the great Beijing meritocracy – and that’s here in the U.S. as much as in China.

September 14 – Financial Times (Sun Yu and Tom Mitchell): 

“China’s biggest cities have suspended land auctions after new central government rules failed to rein in prices, in a setback for President Xi Jinping’s campaign to reduce social inequality. 

The rules were introduced as part of Xi’s efforts to promote ‘common prosperity’ by cracking down on the high property costs borne by middle-class families, and were intended to reduce demand and runaway house prices. 

But they had the opposite effect, serving to drive up red-hot real estate costs.”

China has over 160 cities with populations of at least one million. As they say, “real estate markets are local.” 

And as I’ve been saying, China – their policymakers, bankers, apartment owners/speculators, regulators… – have no experience with the downside of Bubbles – no background in controlling housing manias. 

Evergrande is in serious trouble, and this places China’s Bubbles in jeopardy. 

Copper sank 4.6% this week. 

Iron Ore collapsed 16.0%, with Nickel down 5% and Lead 6%. 

Global resource stocks were under significant selling pressure. 

The commodity currencies were sold. 

It appears markets began discounting a Chinese housing downturn, with negative economic ramifications for China and the world. 

Silver fell 5.7%, Platinum 1.9%, and Gold 1.9%. 

As for precious metals weakness, perhaps traders are moving to get ahead of further dollar strength, a rally that would gain momentum in the event of abrupt renminbi weakness. 

Global markets showed signs of nascent speculator de-risking/deleveraging, with Chinese contagion stealthily gaining momentum. 

China, after all, evolved during this cycle into the marginal source of global Credit and, I believe, speculative leverage. 

The unfolding “Evergrande Moment” portends trouble ahead for myriad global asset and speculative Bubbles. 

However, complacency continues to reign throughout U.S. markets. 

Evergrande ramifications are dismissed, while attention remains fixated on a Fed seemingly determined to ride its reckless experiment in monetary inflation for as long as it can. 


The Stagflation Threat Is Real

There is a growing consensus that the US economy’s inflationary pressures and growth challenges are attributable largely to temporary supply bottlenecks that will be alleviated in due course. But there are plenty of reasons to think the optimists will be disappointed.

Nouriel Roubini


NEW YORK – I have been warning for several months that the current mix of persistently loose monetary, credit, and fiscal policies will excessively stimulate aggregate demand and lead to inflationary overheating. 

Compounding the problem, medium-term negative supply shocks will reduce potential growth and increase production costs. 

Combined, these demand and supply dynamics could lead to 1970s-style stagflation (rising inflation amid a recession) and eventually even to a severe debt crisis.

Until recently, I focused more on medium-term risks. 

But now one can make a case that “mild” stagflation is already underway. 

Inflation is rising in the United States and many advanced economies, and growth is slowing sharply, despite massive monetary, credit, and fiscal stimulus.

There is now a consensus that the growth slowdown in the US, China, Europe, and other major economies is the result of supply bottlenecks in labor and goods markets. 

The optimistic spin from Wall Street analysts and policymakers is that this mild stagflation will be temporary, lasting only as long as the supply bottlenecks do.

In fact, there are multiple factors behind this summer’s mini-stagflation. 

For starters, the Delta variant is temporarily boosting production costs, reducing output growth, and constraining labor supply. 

Workers, many of whom are still receiving the enhanced unemployment benefits that will expire in September, are reluctant to return to the workplace, especially now that Delta is raging. 

And those with children may need to stay at home, owing to school closures and the lack of affordable childcare.

On the production side, Delta is disrupting the reopening of many service sectors and throwing a monkey wrench into global supply chains, ports, and logistics systems. 

Shortages of key inputs such as semiconductors are further hampering production of cars, electronic goods, and other consumer durables, thus boosting inflation.

Still, the optimists insist that this is all temporary. 

Once Delta fades and benefits expire, workers will return to the labor market, production bottlenecks will be resolved, output growth will accelerate, and core inflation – now running close to 4% in the US – will fall back toward the US Federal Reserve’s 2% target by next year.

On the demand side, meanwhile, it is assumed that the US Federal Reserve and other central banks will start to unwind their unconventional monetary policies. 

Combined with some fiscal drag next year (when deficits may be lower), this supposedly will reduce the risks of overheating and keep inflation at bay. 

Today’s mild stagflation will then give way to a happy goldilocks outcome – stronger growth and lower inflation – by next year.

But what if this optimistic view is incorrect, and the stagflationary pressure persists beyond this year? 

It is worth noting that various measures of inflation are not just well above target but also increasingly persistent. 

For example, in the US, core inflation, which strips out volatile food and energy prices, is likely still to be near 4% by year’s end. 

Macro policies, too, are likely to remain loose, judging by the Biden administration’s stimulus plans and the likelihood that weak eurozone economies will run large fiscal deficits even in 2022. 

And the European Central Bank and many other advanced-economy central banks remain fully committed to continuing unconventional policies for much longer.

Although the Fed is considering tapering its quantitative easing (QE), it will likely remain dovish and behind the curve overall. 

Like most central banks, it has been lured into a “debt trap” by the surge in private and public liabilities (as a share of GDP) in recent years. 

Even if inflation stays higher than targeted, exiting QE too soon could cause bond, credit, and stock markets to crash. 

That would subject the economy to a hard landing, potentially forcing the Fed to reverse itself and resume QE.

After all, that is what happened between the fourth quarter of 2018 and the first quarter of 2019, following the Fed’s previous attempt to raise rates and roll back QE. 

Credit and stock markets plummeted and the Fed duly halted its policy tightening. 

Then, when the US economy suffered a trade war-driven slowdown and a mild repo-market seizure a few months later, the Fed returned fully to cutting rates and pursuing QE (through the backdoor).

This all happened a full year before COVID-19 broadsided the economy and pushed the Fed and other central banks to engage in unprecedented unconventional monetary policies, while governments engineered the largest fiscal deficits since the Great Depression. 

The real test of the Fed’s mettle will come when markets suffer a shock amid a slowing economy and high inflation. 

Most likely, the Fed will wimp out and blink.

As I have argued before, negative supply shocks are likely to persist over the medium and long term. 

At least nine can already be discerned.

For starters, there is the trend toward deglobalization and rising protectionism, the balkanization and reshoring of far-flung supply chains, and the demographic aging of advanced economies and key emerging markets. 

Tighter immigration restrictions are hampering migration from the poorer Global South to the richer North. 

The Sino-American cold war is just beginning, threatening to fragment the global economy. 

And climate change is already disrupting agriculture and causing spikes in food prices.

Moreover, persistent global pandemics will inevitably lead to more national self-reliance and export controls for key goods and materials. 

Cyber-warfare is increasingly disrupting production, yet remains very costly to control. 

And the political backlash against income and wealth inequality is driving fiscal and regulatory authorities to implement policies strengthening the power of workers and labor unions, setting the stage for accelerated wage growth.

While these persistent negative supply shocks threaten to reduce potential growth, the continuation of loose monetary and fiscal policies could trigger a de-anchoring of inflation expectations. 

The resulting wage-price spiral would then usher in a medium-term stagflationary environment worse than the 1970s – when the debt-to-GDP ratios were lower than they are now. 

That is why the risk of a stagflationary debt crisis will continue to loom over the medium term.


Nouriel Roubini, CEO of Roubini Macro Associates, is a former senior economist for international affairs in the White House’s Council of Economic Advisers during the Clinton Administration. He has worked for the International Monetary Fund, the US Federal Reserve, and the World Bank, and was Professor of Economics at New York University's Stern School of Business. His website is NourielRoubini.com, and he is the host of NourielToday.com.

US investors bank on derivatives to guard against stocks slowdown

Money managers seek to protect double-digit gains as Delta variant and slowing global growth temper expectations

Eric Platt and Joe Rennison in New York

The S&P 500 has already returned more that 20% this year, making investors wary of the potential for further gains © Bloomberg


Investors are increasingly turning to derivatives strategies to guard against a slowdown in the $51tn US equity market, suspecting that the white-hot rally this year is starting to run out of steam.

Large institutional money managers have already shown a cautious tilt in recent weeks, opting for funds likely to do well in tougher economic or market environments.

Now they are trying to protect some of their double-digit gains this year while still staying invested in the market, as concerns over the spread of the Delta coronavirus variant and slowing global growth have tempered expectations for further stellar returns from stocks.

“Investors need and want equity market exposure and yet don’t want to take full-on risk with markets already at all-time highs,” said Paul Stewart, a portfolio manager at Gateway Investment Advisers.

Gateway runs one of the largest call overwriting funds, a term used to describe a strategy of selling options linked to the S&P 500 index or individual stocks to bolster an equity portfolio.

The derivatives give the buyer on the other side of the trade the right to buy a stock or the index at a pre-agreed price above where the market is currently trading. 

If the market price simply trundles along or even declines, the call overwriting fund will face no payout, but still collect a premium for selling the option, boosting returns.


This year, the strategy has trailed behind the overall stock market. 

While the S&P 500 has returned more than 20 per cent, the Cboe’s S&P 500 buy-write index, which tracks the call selling strategy, has gained a smaller 14.5 per cent.

But brisk demand for some funds suggests the strategy’s fortunes are expected to change.


Call overwriting funds recorded their largest monthly inflows in July since 2012, according to investment bank Barclays, even excluding shifts made by pension funds and endowments in separately managed accounts, outside of the eye of public mutual funds. 

JPMorgan Asset Management earlier this year closed one of its hedged equity funds to new investors given its strong inflows.

“The stock market is up 20 per cent year to date,” said Michael Purves, founder of Tallbacken Capital. 

“People are saying they still like the story but that it’s just not going to be as good going forward.”

Bankers also say they are fielding more requests for these types of trades.

James Masserio, co-head of equities and equity derivatives for the Americas at Société Générale, said his bank’s trading desk had seen an increase in interest from investors looking to overwrite call selling on existing and new stock positions. 

“It’s still a bullish strategy,” he said. 

“You hope the market goes up, just that it goes up in a controlled manner.”

Rish Bhandari, a senior portfolio manager at hedge fund Capstone, said the demand was particularly pronounced from public and corporate pension plans as their assets have swelled in size alongside the stock market rally. 

That has prompted some to shift to these call overwriting strategies, given they are at their best funding levels since the start of the financial crisis in 2008, according to data from actuarial group Milliman.

If the market rises above the strike prices on the call options and the pensions are forced to sell the stocks they own, they are content capping their gains and reducing their equity holdings, Bhandari added.


Inside the Coming War Over Digital Currencies—and What It Means for Your Money

By Daren Fonda

Illustration by Glenn Harvey


The war over money is heating up: For the first time in more than a century, the dollar’s supremacy is being challenged. 

The rise of cryptocurrencies and “stablecoins” has spurred a rethinking of what a currency is, who regulates it, and what it means when it’s no longer controlled by a national government. 

The dollar itself may be getting an overhaul, transformed into a digital currency that can travel instantly around the world, holding up against Bitcoin or any other token.

The old battle lines between national currencies are being redrawn by an onslaught of crypto insurgents. 

These privately issued currencies are fragmenting monetary systems, banking, and payments. 

The landscape calls to mind the “wildcat” money era of the mid-1800s, when a scrum of banks supplied their own notes—prompting the Federal Reserve to establish a national currency. 

Commerce doesn’t run as efficiently without a “no questions asked” currency, and governments risk losing control over fiscal and monetary policies if multiple currencies vie for economic activity.

What kind of upheaval will the new currencies wreak? 

No one knows. 

And there are plenty of legitimate use-cases for cryptos and applications built on top of blockchain networks. 

But the technology is so disruptive that it’s triggering calls for a cascade of new regulations, and it’s spurring governments around the world to think about digitizing their currencies, at least partly to remain relevant and maintain control over their economic interests. 

The Fed itself is expected to weigh in with its own report in coming days.

“The advent of digital currencies may allow people and businesses to get around banks,” says Thomas Hoenig, a former president of the Federal Reserve Bank of Kansas City. 

“If cryptos become a substitute for the dollar, they could create a separate money environment that would make monetary policies more difficult to implement.”

Cryptos are now worth $2.1 trillion, doubling in value this year alone. 

Bitcoin, worth nearly $900 billion, recently became legal tender in El Salvador—a controversial monetary shift in the country, but one that may pave a path for other developing nations. 

Capital is flooding into companies that are building everything from trading platforms to exchanges for trading new digital assets like non-fungible tokens, or NFTs. 

Investors are also trading tokens on decentralized exchanges like Uniswap, and they’re earning high yields by “staking” their tokens to network operators.

Cryptos and other tokens aren’t (yet) close to denting the $19.4 trillion U.S. money supply or the 50% of international trade that’s invoiced in dollars. 

One measure of the dollar’s hegemony—its share of central bank reserves—has been declining for 25 years, but at 60% it remains three times that of its closest rival, the euro. 

Vast markets of global commodities are priced in the dollar. 

Trillions of dollars in sovereign and commercial debt are pegged to the “risk free” rate of Treasuries.

But challenges to the dollar posed by blockchain technologies aren’t so easy to dismiss.

Cryptos, stablecoins and NFTs are becoming the native tokens of gaming and e-commerce platforms. 

Virtual-reality platforms are being designed to incorporate NFTs or other private currencies. 

As economic activity shifts to these walled gardens, banks and government-backed money could wind up on the outskirts.


Challenging the Incumbents

Big money is at stake, especially for banks and other companies that effectively charge “rents” for moving dollars around. 

North American banks, card networks, and nonbank “fintechs” earn huge sums for payment and credit-card services—$500 billion a year, according to data from consultancy McKinsey. 

That amounts to an estimated 2% toll on U.S. gross domestic product—much of it in credit card fees.

Many banks and financial companies, including Visa (ticker: V) and JPMorgan Chase (JPM), are working to integrate cryptos and stablecoins, aiming to capture fees on brokerage, custodial, and payment services. 

But they face technologies that threaten their revenues—and, perhaps more important, access to data.

Solana, for instance, is a relative newcomer in crypto. 

Developed by a former software engineer at Qualcomm, the network claims to handle 65,000 transactions per second at a cost of $0.00025 per transaction, making it far faster and cheaper than bigger rivals like Ethereum. 

It’s taking off for stablecoins and NFTs—new digital playthings for art, video, and music. 

Solana’s blockchain network is also attracting high-frequency trading firms that see it as a platform for ultrafast data feeds and trading applications for cryptos, stocks, and other securities.

BTIG analyst Mark Palmer calls Solana the “biggest blockchain breakout of 2021,” noting that it’s powering a much-anticipated “metaverse” game called Star Atlas that uses NFTs for in-game assets. 

“The speed that Solana’s architecture facilitates is a literal game-changer in the NFT gaming world,” he wrote in a recent report. 

The network crashed this past week as usage surged, pulling its token down. 

But its fall may also reflect some profit-taking after a 9,166% rally this year, pushing the token from $1.50 to $139, giving it a $41 billion market value.

The Battle for a Digital Dollar

One of the biggest financial-policy battles that’s shaping up in Washington is over digitizing the dollar—turning it into a token that may be issued directly to consumers by the central bank. 

A much-anticipated report is expected soon from the Fed, outlining its perspective on a central-bank digital currency, or CBDC. 

Other countries, led by China, have already launched CBDCs in pilot programs, putting pressure on the Fed to develop a rival.

A digital dollar could take many forms. 

The basic idea is that the central bank would issue a new digital instrument for transactions and deposits, alongside physical cash or entries on a bank ledger (essentially deposits). 

Payments could settle in real time, proponents argue, and fees could fall sharply since the Fed doesn’t have a profit incentive. 

That could be a huge win for the 6% of the population that’s “unbanked” and pays steep fees for check-cashing. 

People sending money overseas could also pay much lower fees for “remittances,” cutting out middlemen like Western Union (WU) and MoneyGram.

International pressure is building as China and other countries take the lead in CBDCs. 

“The time has passed for central banks to get going,” said Benoît Coeuré, head of innovation at the Bank for International Settlements, in a speech in September. 

“We should roll up our sleeves and accelerate our work on the nitty-gritty of CBDC design.”

Fed officials seem split on the idea, however, let alone the specifics. 

Governor Lael Brainard, who may be in line for Chairman Jerome Powell’s job next year, has indicated support for a CBDC. 

But governor Christopher Waller is a skeptic, describing a digital dollar as a “solution in search of a problem.” 

As he sees it, commercial banks and the Fed are already developing real-time settlement; stablecoins may put pressure on banking fees, he argues, and most of the unbanked don’t even want accounts, according to surveys. 

“The government should compete with the private sector only to address market failures...and I don’t think that CBDCs are the case for making an exception,” he said in a speech last month.

Politicians, not Fed officials, are likely to have the final word. 

A bill backed by Sen. Sherrod Brown (D., Ohio) envisions the Fed offering “digital dollar wallets.” 

Commercial banks would maintain the wallets, entitling owners to a share of the bank’s reserves held at the Fed. 

For consumers without access to branches, he sees the Postal Service turning into a digital-dollar bank.

None of this appeals to bankers, of course, who worry that the Fed could siphon away their deposits and undermine lending. 

“The drawbacks appear to be more pronounced than the benefits, at least in the U.S.,” says Rob Morgan, a senior vice president with the American Bankers Association.

JPMorgan is calling for “minimally invasive CBDCs,” according to a recent report by Joshua Younger, head of U.S. fixed-income strategy. 

CBDC deposits that are limited to $2,500 would mitigate the potential for the Fed to “cannibalize” deposits, he argues. 

He also says that U.S. banks are already “partially nationalized,” with 15% of their assets held as Fed reserves and Treasury securities, levels that may increase if the Fed got into commercial banking.

Taming the Crypto Wild West

Regulators aren’t sitting idly as digital currencies plant roots. 

Federal and state agencies are working on rules to keep tabs on the industry. 

Gary Gensler, the new chairman of the Securities and Exchange Commission, laid out an expansive agenda to regulate crypto tokens, trading, and lending platforms in a Senate hearing this past week. 

“Large parts of the field of crypto are sitting astride of—not operating within—regulatory frameworks,” he said. 

Automated exchanges could be in for more scrutiny, along with lending platforms like BlockFi, where investors can earn high yields on crypto deposits.

Congress sees plenty of opportunity to raise revenue by taxing crypto. 

Democrats in the House have included “digital assets” in their $3.5 trillion reconciliation bill, including a provision that would subject cryptos to “wash sale” rules, which prevent investors from claiming a tax loss if they buy the same security within 30 days (before or after) of the sale. 

That measure alone could raise an estimated $16 billion over a decade.

Still, it won’t be easy for regulators to tax or police the entire industry. 

Crypto brokerages outside the U.S. handle much of the trading volume. 

Exchanges like Uniswap use protocols and “smart contracts” to process transactions, operating independently of any centralized entity like a bank or brokerage firm. 

“The underlying protocol is operating on its own, and users can still trade the assets, irrespective of the SEC,” says Anthony Georgiades, a crypto investor with Innovating Capital. 

“It’s sufficiently decentralized so that even if they try to delist the assets, they couldn’t.”



Washington still can’t agree on whether to classify cryptos as a currency, security, or commodity. 

The Internal Revenue Service calls cryptos “property,” while the Commodity Futures Trading Commission has oversight over the crypto futures market, and a patchwork of agencies oversee the banks and exchanges.

A few states aren’t waiting around for more federal rules. 

BlockFi is in trouble with regulators in New Jersey and Texas, states where it could soon be illegal for residents to open an account with the company. 

BlockFi CEO Zac Prince says uniform federal banking rules are needed. 

“It’s gonna come down to federal regulators...creating a path for this type of activity to happen,” he said at a conference this past week.

Stablecoins pose perhaps the biggest regulatory conundrum. 

The tokens have a fixed value of $1, typically pegged to the dollar. 

More than $110 billion are in circulation, primarily in Tether and USD Coin. 

Investors use the coins as dollar substitutes to transact on exchanges; they’re also gaining traction for international payments and peer-to-peer, or P2P, transactions.

A game-changing “stablecoin” may be coming from Diem, a consortium of 26 companies, originally conceived by Facebook (FB). 

Diem is trying to launch a “regulatory friendly” version, says Christian Catalini, chief economist of the Diem Association. 

Its underlying network, backed by companies including Uber Technologies (UBER), Coinbase Global (COIN), and Spotify Technology (SPOT), will levy fees expected to be less than 0.10% per transaction, far below what banks and card networks now charge.

Diem could be a blockbuster. 

The token could quickly gain traction for things like Uber fares, Gucci bags on Farfetch (FTCH), or subscriptions on Spotify—cutting out payment middlemen with lower transaction fees.

The network is also designed for P2P transactions, including remittances, and the underlying blockchain technology could move programmable digital assets in the future. 

The Diem coin itself, however, might be short-lived if a digital dollar launches. 

“We’ve committed to phasing out the token when there is a digital dollar,” Catalini says.

Diem has pledged to hold high-quality assets as reserves for its coins, backed at least one-to-one by cash or Treasuries. 

It might not have much choice: Regulators are starting to view stablecoins as a source of financial instability, and they may be close to issuing new rules on capital and reserve requirements for issuers.

The concern is that coin issuers aren’t backing their tokens with 100% cash reserves, using proxies like commercial paper, bank “repo” agreements, and other securities. 

That might be fine in normal market conditions, but it could be destabilizing in a crisis. 

Money-market funds have experienced runs that spilled over into other areas, prompting the Fed to stabilize the market, most recently in March 2020. 

“It’s a central problem that the Fed worries about from a stability point,” says Morgan Ricks, a law professor at Vanderbilt University and former Treasury official.

Tether, the largest stablecoin, has run into legal trouble over its reserves, agreeing last February to more disclosure in a deal with the New York attorney general. 

But its reserve composition remains opaque. 

Tether, backed by the Bitfinex exchange, holds only 3.9% of the coin’s reserves in cash and 2.9% in T-bills, according to its latest disclosure, with 65% in commercial paper. 

Tether says its tokens are “always 100% backed by our reserves.”

The Treasury Department recently convened a task force to develop a framework for regulating stablecoins. Some leading economists say it’s overdue. 

“Policy makers may view stablecoins as an up-and-coming financial innovation that does not pose any systemic risk,” wrote Yale University economist Gary Gorton in a recent paper co-authored with a Fed attorney, Jeffery Zhang. 

“That would be a mistake because this is precisely when policy makers need to act.”

The Dollar Won’t Go Away

The dollar won’t go down easily. It has deflected multiple threats since President Richard Nixon ended its peg to gold in 1971, turning it into a free-floating “fiat” currency. 

A bout of inflation in the 1970s, the rise of the Japanese yen in the 1980s, and the euro’s ascent in the early 2000s all failed to knock it down.

A common marketing case for Bitcoin, the largest crypto, is that it’s “digital gold” with a fixed supply of 21 million tokens; by design, it can’t be increased, unlike fiat currencies that may be depreciated by governments for political or economic gains. 

Central banks have embarked on a money-printing spree—the Fed’s balance sheet has ballooned to $8.3 trillion from $1 trillion in 2008. 

Crypto backers argue that the dollar’s purchasing power will diminish due to inflationary forces tolerated by central banks, while cryptos will hold more of their value.


Yet for all the carping about currency “debasement,” or an erosion of purchasing power in the dollar, the economics are far more complex. 

Inflation hasn’t proved deeply problematic in North America since the early 1980s. 

Before the pandemic, it was so low that policy makers worried about deflation. 

Rising labor costs and global supply-chain disruptions pose near-term inflationary threats, but their persistence isn’t assured. 

The forces that have kept a lid on inflation—including aging populations in developed economies and productivity gains from technology—aren’t going away.

History is also on the dollar’s side in the sense that governments have never allowed rival currencies to usurp their authority. 

Technologies make the job tougher but not insurmountable, and the greater the success of currencies like Bitcoin, the more governments may try to kill it.

What It Means for Investors

What’s the impact for investors in crypto-infrastructure stocks and currencies? 

For now, not much. 

Crypto stocks and prices for digital currencies have climbed for months, despite tighter regulatory scrutiny. 

Capital is flooding into the industry as use-cases for cryptos, stablecoins, and decentralized-finance, or DeFi, networks expand. 

New rules will take months or years to be written and implemented by regulatory agencies. 

A digital dollar could become a partisan battle that gets bogged down in Congress.

Clarity from regulators may be welcomed, since they could open the floodgates to investment products and services, expanding the market with advisors and institutional fund managers that oversee trillions of dollars in global assets. 

Banks also want a level playing field to cut down on “regulatory arbitrage” that may now give pure-play crypto companies an advantage.

The crypto industry, for its part, is also becoming a lobbying force. 

The industry exerted its influence in August as lawmakers added tax-reporting requirements on crypto companies to the Senate infrastructure bill. 

The lobbying blitz failed, but the battle isn’t over—it will probably shift to regulatory agencies.

As for the dollar, the very currencies that are nipping at its heels could help preserve it. 

Cryptos and other tokens haven’t been tested in a crisis when investors dump anything with a whiff of risk. 

The diciest currencies fall the hardest during panics, and cryptos could follow precedent. 

“If there is a crisis, all these parallel currencies will take flight into the sovereign,” predicts Hoenig. 

Digital or not, the dollar will live to fight another day.

How Paradigm Blindness Leads to Bad Policy

Though we live in a highly complex, networked world, the paradigm that guides policymaking is largely linear, mechanical, and “rational.” This leaves us blind to the obvious – including our own blindness – and vulnerable to conceptual traps and collective-action problems.

Andrew Sheng, Xiao Geng


HONG KONG – We live in an age of systemic gridlock, policy chaos, and sudden-shock failures. 

How is it possible that Afghan security forces – built and trained by the United States military at a cost of $83 billion over two decades – succumbed to a militia of fighters in pickup trucks in a mere 11 days? 

How could America’s best and brightest intelligence experts and military leaders have failed to foresee that the rapid withdrawal of US air support and reconnaissance would spell disaster for Afghanistan, and plan their retreat accordingly? 

Are these not examples of systemic failure?

Look at almost any crisis, and you will see multiple causes and drivers. 

That is as true for the situation in Afghanistan as it is for the COVID-19 pandemic – another multi-dimensional crisis for which there is no silver-bullet solution. 

Even carefully designed policies, motivated by the best of intentions, can fail to have the intended effect – and often exacerbate problems in unexpected ways – owing to implementation mistakes.

The problem can be boiled down to a complexity mismatch. 

The various crises and challenges we face – such as terrorism, pandemics, and disinformation – have viral, entangled qualities, and complex global networks allow locally generated problems to grow and spread much faster than solutions. 

Yet the paradigm on which we base our policymaking is linear, mechanical, and “rational.”

This approach can be traced back to political philosophers like Thomas Hobbes, who offered a straightforward, top-down approach to governing human society, based on “universal” truths. 

The Newtonian-Cartesian paradigm that guides economic thinking is similarly mechanical, pursuing a timeless, one-size-fits-all Theory of Everything.

But, while such an approach might help us to understand or govern small states or communities, it is impractical in a highly complex global system. 

And yet, we remain committed to it. 

This leaves us blind to the obvious – including our own blindness – and vulnerable to conceptual traps and collective-action problems that perpetuate indecision, inaction, and inconsistency. 

Without a new approach that captures the true complexity of our world, we will continue to be blindsided by systemic failures.

We should look to nature. 

As the biologist Stuart Kauffman has pointed out, the eighteenth-century philosopher Immanuel Kant observed that everything in nature “not only exists by means of the other parts, but is thought of as existing for the sake of the others and the whole” – that is, “as an (organic) instrument.” 

In other words, the whole is greater than the sum of its parts, and both negative and positive feedback mechanisms link the various parts that form – and transform – the whole.

If the Earth is a single living system, managing each component separately will not only be ineffective; it will have potentially disastrous unintended consequences. 

Likewise, in our broader global system, which includes both living and non-living parts, policies based on zero-sum logic or siloed thinking will always fall short – or worse.

A superior approach, as the late Donella Meadows argued, would be to focus on so-called leverage points in complex systems, “where a small shift in one thing can produce big changes in everything.” 

Problems are not nails to be hammered, but symptoms of systemic flaws that are best addressed by acting on a range of load-bearing institutions.

This could mean, for example, making changes to subsidies, taxes, and standards; regulating negative feedback loops and encouraging positive feedback loops; improving or limiting information flows; or updating incentives, sanctions, and constraints. 

Crucially, it could also mean changing the mindset or paradigm from which system goals, power structures, rules, and culture arise.

Nobel laureate political scientist Elinor Ostrom also offered vital insights for managing complex systems – specifically, escaping the collective-action trap. As Ostrom explains, the trap arises from zero-sum, binary thinking. 

The key to avoiding it, therefore, is to create local commons comprising shared ideas, property, values, and obligations. 

With our fates and interests intertwined – and operating on longer time horizons – different parties are far more likely to work together to avoid the “tragedy of the commons.”

Unfortunately, the male-dominated mainstream has largely ignored Meadows’ and Ostrom’s insights. 

But their ideas do align with the Chinese worldview of organic materialism, as articulated by British sinologist Joseph Needham.

Like Meadows, the Chinese would “act on the underlying trend of forces” (顺势而为). 

And in the spirit of Ostrom, the Chinese eschew the view of the Sino-American rivalry as a zero-sum competition between Western democracy and Chinese autocracy, and instead advocate cooperation on shared challenges.

China’s organic approach reflects its long history of managing systemic collapse and rejuvenation. 

This experience has shown that while top-down mechanical planning is useful, it must be combined with bottom-up implementation and adaptation. 

Rigorously monitored two-way feedback mechanisms ensure that national, local, and community goals are aligned, policy missteps are corrected, and micro-level behaviors that threaten systemic and social stability are checked.

When something is not working, Chinese engineers and planners act on leverage points – or “key entry points” (切入点) – for example, refining standards, incentives, regulations, information, or goals. 

When direct or “positive” (Yang阳) interventions fail, indirect or “negative” (Yin阴) approaches are employed. It is this open, experimental approach – which recognizes that the economy is a complex adaptive system – that enabled China’s economic miracle.

The point, as Meadows explained, is to “stay flexible.” 

After all, “no paradigm is ‘true,’” and “every one, including the one that sweetly shapes your own worldview, is a tremendously limited understanding of an immense and amazing universe.” 

Why limit ourselves further – and invite further gridlock and chaos – by clinging to zero-sum logic, binary thinking, and futile competition?


Andrew Sheng, Distinguished Fellow of the Asia Global Institute at the University of Hong Kong and a member of the UNEP Advisory Council on Sustainable Finance, is a former chairman of the Hong Kong Securities and Futures Commission. His latest book is From Asian to Global Financial Crisis.

Xiao Geng, Chairman of the Hong Kong Institution for International Finance, is a professor and Director of the Institute of Policy and Practice at the Shenzhen Finance Institute at The Chinese University of Hong Kong, Shenzhen.