The Federal Reserve, in its latest meeting minutes released on May 26th, reiterated that the ongoing Russia-Ukraine conflict poses a high degree of uncertainty to the U.S. economy. The Fed plans to raise interest rates by 50 basis points at both the upcoming June and July meetings, bringing the rate to 2.00%.

Since March of this year, the U.S. has already raised interest rates by 75 basis points, and the Federal Reserve will also begin to reduce its balance sheet starting in June. It is expected that by the end of 2022, there will be a significant contraction of $1 trillion in base liquidity, and by mid-2025, it is projected to shrink from the current nearly $9 trillion to around $5.9 trillion.

Loretta Mester, President of the Cleveland Federal Reserve, stated that the sharp fluctuations in the U.S. stock and bond markets, influenced by the ongoing Russia-Ukraine conflict affecting energy and food prices and supply chains, will not deter the Federal Reserve's policymakers.

This also indicates that the Federal Reserve's passive yet aggressive rate hike process will raise the cost of dollar borrowing (interest rates and the relative exchange rate of the dollar) faster and more significantly than the market expects. The core of U.S. financial market volatility is the pace and expectations of interest rates and balance sheet expansion, which further suggests the emergence of a financial nuclear bomb for the U.S. financial market.

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As some analysts have said, since the Federal Reserve was informed that they are no longer allowed to trade stocks, the Fed's toughness towards the U.S. financial market has been surprising. However, there are some new changes now.

Following the release of the Federal Reserve's meeting minutes on May 26th, the market has already begun to speculate that the Fed might surrender. Even the Fed's "big hawk" governor, James Bullard, indicated that if the Fed can tame inflation by 2023, the next move would be to cut interest rates. This is because, with the signs of a U.S. economic recession becoming apparent, combined with the uncertainty of the Fed's balance sheet reduction, the U.S. financial market has already faced significant challenges.

Bank of America strategists stated on May 27th that if the U.S. economy contracts in the second quarter and inflation falls back, the Fed may pause its monetary tightening policy in September, maintaining the benchmark overnight rate within the range of 1.75% to 2%.

This also means that the Fed's credibility is once again under threat, which will further heat up inflation expectations, making the Fed's monetary policy uncertain and bringing continuous instability to the U.S. financial market. This will intensify market concerns about financial stability, and sometimes the panic caused by this uncertainty can even exceed the financial nuclear bomb of interest rate hikes and balance sheet reduction.

The consequence is that the U.S. financial market system will be in a risk-averse state, becoming more complex and variable, and will exacerbate the shocks in the U.S. financial market.

According to surveys by several major Wall Street investment banks, even if the hawkish expectations of the Federal Reserve ease, the selling in the U.S. financial market will still intensify, and the S&P index may fall further by 10% until the Fed ends its hawkish actions. It is worth noting that the U.S. stock market sell-off has now lasted for five months, and the U.S. stock market has experienced a double-digit decline due to expectations of rapidly rising interest rates and the resulting economic recession.Goldman Sachs anticipates that regardless of the changes in the Federal Reserve's interest rate hike path, the severe damage to the liquidity of the U.S. financial market will begin after it starts to reduce its balance sheet in June. This will lead to the depletion of excess reserves, intensifying the volatility in the U.S. financial market and exerting upward pressure on short-term real interest rates. In this process, we have observed that the U.S. Dollar Index has once again strengthened.

This also implies that the hoarding effect of this strong dollar cycle on the global market has already begun, which will become more complex and variable against the backdrop of the ongoing Russia-Ukraine conflict affecting supply chains, rising oil prices, high inflation, and the fluctuating ascent of the U.S. Dollar Index. This trend will become more pronounced as dollar liquidity transitions from "flood to drought" in the ebbing process, which also means that the market may face the arrival of a "dollar shortage" phenomenon in the second quarter of 2023, as warned by Goldman Sachs in its report released on May 6th. What does this mean for the global market?

The research team has emphasized on multiple occasions that due to the dollar's dominant position and channels in global finance, foreign exchange, and commodity settlement currencies, the U.S. can transfer its debt deficit risks and high inflation to some fragile markets with singular economic structures, high external debt, and short foreign reserves, thereby collecting seigniorage.

For example, countries such as Turkey, Argentina, and Chile have experienced sovereign debt defaults multiple times against the backdrop of rising dollar borrowing costs. Now, the risk of these three countries being harvested again by the strong dollar cycle will also be relatively greater.

Subsequently, Sri Lanka announced a sovereign debt default on May 20th and warned that the inflation rate could soar to 40%. This is the country's first default in its history. Data shows that since 2022, Sri Lankan sovereign bonds have performed at the bottom of the global sovereign bond market, with investors suffering losses close to 60%. Behind this is the country's dwindling available foreign reserves, facing a dollar shortage. For more than three years, affected by the global public health crisis, the country's economic pillar industry, tourism, has been continuously hit hard, becoming one of the vulnerable economies impacted early after the Federal Reserve threw a financial nuclear bomb.

Subsequently, a recent report released by Bloomberg pointed out that in addition to Sri Lanka, Turkey, Argentina, and Chile, countries including Lebanon, Brazil, the Czech Republic, Pakistan, Malaysia, Poland, Egypt, and Indonesia, which have relatively fragile economies and financial markets, may also face a dollar shortage dilemma due to high external debt and short foreign reserves, falling into a vulnerable pattern of severe currency devaluation and sovereign debt crisis.

The recent plunge in Vietnam's stock market further implies that the hoarding effect of this strong dollar cycle on the market has already begun in advance. According to data reported by Vietnam Express on May 26th, since the ongoing Russia-Ukraine conflict, Vietnam's VN30 Index has plummeted 20% from its 2022 peak.

Especially in the last two weeks, Vietnam's stock market, known as the "internet celebrity," has wiped out a 10.9% increase. Due to strong selling pressure, international funds are withdrawing from Vietnam's financial market in advance. As of May 20th, foreign net sales reached 396 trillion Vietnamese dong in securities assets, 2.8 times that of the same period in 2021, and on the week of May 22nd, it recorded the worst performance since March 2020.

Research institutions believe that Vietnam's economy is mainly concentrated in the lower and middle parts with lower added value, and it is a country dominated by low-end manufacturing with not much added value. Its infrastructure is relatively weak and is susceptible to the impact of U.S. financial market shocks. Because its economic scale and market do not have the broad moat that outsiders imagine, and with Vietnam currently intensifying the rectification of its financial market, coupled with global risk-aversion sentiment, this poses a threat to high valuation assets represented by Vietnam's stock market and is prone to creating a domino effect. This downward risk will continue to dominate the market, becoming the market most impacted since the Federal Reserve threw a financial nuclear bomb.Vietnamese Currency

In the latest report released by the International Monetary Fund (IMF) in May, it is estimated that although Vietnam's foreign reserves are not as fragile as those of the aforementioned 12 countries, the expansion of Vietnam's external dollar debt has been extremely rapid. The country has been listed by international institutions as the one that most needs to consolidate its finances in Southeast Asia. At the same time, Vietnam is also facing an increase in macro risks such as intensified fluctuations in global financial conditions, rising inflation, shortages in raw material supply chains, climate change risks, and real estate and corporate debt market risks. This means that once there are problems in the world economy or Vietnam's domestic economic environment, Vietnam will amplify the impact of the external environment several times over.

According to an article published last week, as the risks in Vietnam's macroeconomic environment rise and the downside risks in the financial market environment spread, there is a risk that Vietnam's economy may regress by 20 years. Even in terms of the proportion of dollar debt borne externally, it may be becoming a fragile country. Similarly, Vietnam's economy has also sounded the alarm for the aforementioned 12 fragile countries, as these countries are also facing the same risks and may not be able to avoid the predicament of being harvested by dollar capital.