The fragmentation of the global economy is intensifying, and the combination of wars and frequent supply-side shocks is not only pushing up the risk of stagflation, but also exacerbating the already fragile fiscal imbalances in various countries. Every adjustment in fiscal and monetary policy will be directly reflected in cross-border liquidity, bond yields and exchange rate fluctuations (which is also one of the core pricing logics of precious metals, foreign exchange, bond and stock markets).

A new global economic equilibrium has not yet been formed, which means that global liquidity can never return to the extremely loose state of the past. The restoration and return of liquidity will most likely only occur in the latter half of the war situation when it tends to ease.



Looking back at the aftermath of the global financial crisis, the key to preventing the economy from falling into a deep recession was the concerted efforts of fiscal and monetary policies. At that time, the core of policy coordination was to support the economy by rationally releasing liquidity.

The principle of liquidity regression

The effectiveness of this policy synergy hinges on the simultaneous easing of fiscal and monetary policies. This approach aims to boost aggregate demand and offset deflationary pressures without compromising fiscal stability, thereby maintaining moderately ample market liquidity. However, this foundation has been completely shattered by the US-Iran conflict.

Supply shocks are frequent and far more severe than ever before, rendering traditional fiscal and monetary policy combinations completely ineffective. These supply disturbances either stem from war-related policy choices or are amplified by geopolitical games, thereby exacerbating trade fragmentation and geopolitical imbalances, and directly impacting the global economy, monetary system, and liquidity cycle that have been established since the war.

To hedge against this risk, stronger international cooperation, more unified global rules, and more efficient international institutions are needed to stabilize the geopolitical situation and thereby repair the transmission chain of global liquidity.

An integrated policy framework that can resist economic fragmentation and hedge against geopolitical conflicts is the fundamental way to balance fiscal sustainability, stable inflation, and stable liquidity.

If geopolitical tensions between the US and Iran escalate without a buffer mechanism, supply disruptions and negative shocks could directly lead to a confrontation between fiscal and monetary policies, resulting in a sudden tightening of liquidity or runaway inflation, and exacerbating global asset volatility.

Core theoretical logic: Inflation, liquidity, and fiscal sustainability are deeply intertwined.

Why is inflation a core variable determining fiscal sustainability, while also being deeply intertwined with market liquidity?

From a theoretical perspective, all monetary models implicitly involve the synergistic relationship between fiscal and monetary policies, and this relationship is directly reflected in the pace of liquidity injection and withdrawal.

The core logic is very clear: when the central bank tightens monetary policy to combat inflation, it essentially tightens market liquidity, which will directly push up real interest rates and suppress economic growth.

We often use "economic growth rate - government bond yield" to measure a country's debt repayment capacity and deficit trend. This monetary tightening will directly expand the primary fiscal deficit and increase the actual debt repayment pressure.

According to the fiscal theory of debt (FTPL), the current real value of government bonds (i.e., the face value of government bonds / price level) is equal to the discounted value of all future fiscal surpluses.

Unless the government simultaneously tightens spending and increases taxes to boost future fiscal surpluses—which is difficult for most governments to achieve in the context of war—the increase in household income resulting from interest payments on government bonds will indirectly inject liquidity into the market, directly boosting aggregate demand.

Inflation then continued to rise until the real value of national debt matched expectations of future fiscal and tax adjustments.

In other words, attempting to correct imbalances without fiscal consolidation is fundamentally at odds with the central bank's goals of controlling inflation and stabilizing liquidity.

Under the FTPL theoretical framework, future fiscal surpluses depend on economic growth, but this logic is difficult to apply in the context of the collapse of the global order triggered by the US-Iran war:

First, non-productive expenditures such as military spending are forced to increase due to the war, resulting in a rigid deficit.

Second, the supply chain restructuring caused by the war reduced economic efficiency;

Third, the sharp fluctuations in commodity prices due to geopolitical risks make it impossible for central banks to accurately predict the path of inflation.

This means that even if the government intends to promote fiscal consolidation, the volatile geopolitical environment may force it to maintain a high deficit.

In a loose monetary policy, the situation is even simpler. In peacetime, interest rate cuts aim to stimulate investment by increasing liquidity. However, under the shadow of the US-Iran conflict or when war prevents the country's economy from growing in an orderly manner, the new liquidity will not flow to the supply chains that have been cut off by the war. Instead, it will flow to both ends of the supply chain, with funds pouring into crude oil, gold, and strategic materials for arbitrage. This liquidity not only does not create GDP, but also further increases the production costs of enterprises and exacerbates the risk of "stagflation".

Simply put, funds will be locked in the US dollar, US Treasury bonds, and gold, and then in crude oil, natural gas, and food. Only when the first two layers of funds overflow will they flow into equities and general manufacturing.

Wartime liquidity effects: squeeze distortions and functional shortages under quantitative easing

An escalation of the US-Iran conflict would directly trigger a severe squeeze on global liquidity and structural distortions.

First, the "liquidity black hole" fueled by risk aversion takes effect: funds will withdraw from emerging markets and non-US assets on a large scale and flock to safe-haven assets such as the US dollar, short-term bonds and gold, leading to a rapid depletion of liquidity in non-US markets.

The liquidity at this point has not disappeared, but rather is locked up in safe-haven assets and cannot flow into real production.

Secondly, the uncertainty of war will depress the value of financial collateral and increase haircuts: as geopolitical risks rise, counterparty risk in the interbank market surges, and financial institutions will demand higher collateral discounts, meaning that less cash can be borrowed for bonds of the same value.

This implicit tightening of liquidity will trigger passive deleveraging in the market. Even if there is ample base money, the money multiplier in the financial market will shrink significantly due to fears of war.

Furthermore, the surge in oil prices is tantamount to imposing a "liquidity tax" on non-oil-producing countries:

Industrial companies and consumers are forced to spend more cash on energy bills, directly squeezing out free liquidity that would otherwise be used for investment and consumption;

Meanwhile, global commodities are mainly settled in US dollars. The doubling of oil prices means a surge in global immediate demand for dollar liquidity. If the Federal Reserve does not provide additional swap lines, it will further exacerbate the global "dollar shortage" and liquidity pressures on non-US economies.

Ultimately, the war between the US and Iran plunged global liquidity into a contradictory situation of "abundant liquidity in general, but functional shortage in practice": governments continuously injected money to support the war, pushing up the total amount of liquidity, but funds could not flow smoothly to the real economy due to risk aversion, energy premiums, and the depreciation of collateral, resulting in a break in the transmission of liquidity.

Traditional monetary easing tools are ineffective in this scenario, with funds continuing to accumulate in safe-haven sectors, while the real economy continues to face a "cash crunch." This is the core characteristic of global liquidity changes in the context of war.

In this context of war with distorted liquidity, the key to success for investors lies not in predicting how many basis points the central bank will raise interest rates, but in monitoring the extent to which liquidity accumulates in safe-haven assets and the energy black hole.

Only when oil prices, gold, resources, and the US dollar stop rising, and the conflict begins to ease, will other currencies and investment products regain liquidity.