Abstract

Global capital flows are being reshaped by intensifying trade protectionism, and the US dollar's dominant position as a global reserve currency is being challenged. As the US fiscal and trade deficits continue to expand and debt levels become unsustainable, market confidence in the dollar as a safe-haven asset is wavering. This trend could lead to a reversal of dollar capital inflows, prompting global major institutions to readjust asset allocations, and in the long term, the dollar may face sustained and significant selling pressure.

Notably, we believe that the volatility of the past few months has further accelerated the decade-long decline of dollar dominance. The upcoming changes may become a critical turning point for Bitcoin and the entire crypto market. The current transformation of the dollar system makes store of value assets like gold and Bitcoin more attractive alternatives in the emerging monetary landscape. The Basel III Accord's upgrade of gold from a Tier 3 to a Tier 1 asset is a typical example. Especially Bitcoin, with its sovereign neutrality and immunity to sanctions and capital controls, is poised to become a viable supranational accounting unit in international trade.

We believe that the decline in dollar demand may encourage more countries to advance international reserve diversification. Based on conservative estimates, this trend could bring an incremental market value of approximately $1.2 trillion to Bitcoin. This also partly explains why an increasing number of countries are beginning to focus on strategic Bitcoin reserves, further highlighting Bitcoin's growing importance in geopolitics.

Continuation of Dangerous Decades

Over the past half-century, the US economic management model has undergone profound transformation. Since the stagflation crisis of the 1970s, economists like Milton Friedman challenged Keynesian demand management theory, driving the formation of the modern central banking system—centered on inflation targeting and the "natural rate of unemployment" theory. Subsequently, this framework was institutionalized through central bank political independence, with central banks primarily using interest rate policies (and later some macroprudential tools) to regulate money supply and achieve economic stability.

Over the years, this framework has faced continuous pressure from fiscal radicalism, including large-scale deficit spending and stimulus plans worth trillions of dollars. Although some expenditures were indeed necessary to address challenges like the global financial crisis and the COVID-19 pandemic, the US debt-to-GDP ratio has soared from 63% in 2008 to approximately 122% currently, clearly heading towards an unsustainable trajectory. Moreover, the Federal Reserve's aggressive interest rate hikes between 2022 and 2023 have significantly increased the US government's borrowing costs, with a surge in related interest expenditures further exacerbating the fiscal deficit problem. See Figure 1.

In this context, the rise of trade protectionism may reshape the global capital flow landscape. The dollar's status as a safe-haven asset is being impacted, meaning some large institutions (such as non-US pension funds, life insurance companies, and sovereign wealth funds) may alter their previous investment strategies. Over the past two decades, in a $33 trillion US dollar asset exposure (including $14.6 trillion in bonds and $18.4 trillion in stocks), approximately half has not been systematically hedged (source: Reuters). We believe that in the coming months or years, a new round of large-scale asset portfolio adjustments may occur globally. See Figure 2.

This is not the first time the US has experienced a reversal of dollar capital inflows due to "twin deficits" (simultaneous expansion of fiscal and trade deficits), but this occurrence coincides with profound changes in the global economic landscape. We believe the world is currently in a major transformation of the dollar system, a trend that may trigger a new round of large-scale dollar selling pressure.

Even if retaliatory tariffs are ultimately canceled, we still believe this trend is difficult to reverse. The reasons are: (1) The impact of confidence shock has left a deep impression on many investors; (2) Tariff reductions and tax cuts will weaken government fiscal revenues, further increasing deficit pressures. Of course, a weaker dollar to some extent helps reduce debt burden through "inflation" by lowering interest costs and may boost US exports. However, the cost of this process is undermining the credibility of the dollar as a store of value and global reserve currency, accelerating the market's search for alternative assets.

When we discussed "de-dollarization" in December 2023, we noted that the dollar was at a critical inflection point but believed this process might require "many generations" to truly materialize. However, a series of events in recent months seems to have significantly accelerated this process. In fact, the decline of dollar influence has long been observable—Harvard economist and crypto critic Kenneth Rogoff pointed out that the peak of dollar hegemony was around 2015, and this trend has further accelerated since the Russia-Ukraine war due to sanctions against Russia.

The Next Trend

But the question is, where are the alternatives? When monetary systems undergo fundamental transformation and the basis of monetary value is redefined, store of value assets like gold and Bitcoin, which have received widespread attention in recent years, become particularly important. In fact, in recent weeks, Bitcoin's positioning as "digital gold" has become increasingly clear, especially against the backdrop of outperforming US stocks on a risk-adjusted basis. Coinbase Asset Management noted in a recent report that the global store of value asset market might grow from the current $20 trillion to $53 trillion in the next decade, with an expected annual real return (inflation-adjusted) of 6%.

The logic is that incorporating assets like Bitcoin and gold into investment portfolios helps achieve risk diversification and enhance return stability during economic system transformations. Although Bitcoin is more volatile than gold, its higher potential returns can complement gold's stability, thus constructing a more balanced wealth preservation strategy.

Moreover, we believe Bitcoin's immunity to arbitrary government seizure and capital controls significantly distinguishes it from gold. A typical case is Roosevelt's Gold Reserve Act of 1934, which prohibited private gold ownership and mandated its transfer to US Treasury custody. Internationally, because gold relies on traditional financial infrastructure and physical custody (like banks and vaults), it faces sanction risks when held in large quantities; Bitcoin, however, offers digital self-management capabilities across various income groups. In 2022, for example, over 2,000 tons of Russian gold stored in friendly countries were frozen and unable to be monetized. Regarding capital controls, previous Argentine governments not only restricted citizens' access to dollars but also banned gold sales to prevent capital outflow.

For these reasons, we view Bitcoin as a supranational store of value asset and believe it has unique advantages in establishing monetary credit for international trade. Currently, over 80% of global international trade is still settled in dollars (see Figure 4), but as the world gradually moves towards a multipolar system, an increasing number of countries feel uneasy about continuously relying on the dollar as an intermediary. However, the realistic alternative options remain very limited.