Why Liquidity is Cyclical (the Anatomy of a Liquidity Cycle)
Liquidity cycles are the cheapest, deniable way to discipline leverage, herd behavior, migrate usage onto programmable rails, and re-select winners.
Everyone tracks liquidity nowadays, however, I’ve never seen anyone explain why liquidity is cyclical.
Why liquidity is cyclical
Core idea: Liquidity cycles are the cheapest, deniable way to discipline leverage, herd behavior, migrate usage onto programmable rails, and re-select winners — without the blowback of permanent financial repression. You engineer alternating abundance (risk-seeking, onboarding) and scarcity ( deleveraging, compliance) so that incentives do the policing for you.
There is a great Thomas Jefferson quote that simplifies this.
“If the American people ever allow private banks to control the issue of their currency first by inflation then by deflation the banks and corporations that will grow up around them will deprive the people of all property until their children wake up homeless on the continent their Fathers conquered... I believe that banking institutions are more dangerous to our liberties than standing armies... The issuing power should be taken from the banks and restored to the people to whom it properly belongs.”
There is a documentary (and a book) “Princes of the Yen” by Richard Werner that highlights exactly this.
Link to the documentary on odysee.
1) What liquidity cycles buy you (as the Controller)
Discipline leverage cheaply
Flood → everyone gears up. Drain → Value at Risk cuts, margin calls, covenant trips do your work.
No need to criminalize; math enforces. You get orderly pain with plausible deniability (“market conditions”).
Migrate users onto your rails
In abundance, you seed “free” convenience (stablecoin corridors, instant settlement, ID logins).
In scarcity, you make access contingent on those rails: better funding if tokenized collateral, faster payouts in KYC wallets, lower haircuts if assets live in approved custody.
Result: programmability becomes default — people opt in for survival.
Entrench policy-grade vendors
Scarcity shifts budgets to identity, audit, lineage, resilience — tools that make systems governable.
Abundance lets you scale those vendors across jurisdictions (harmonized standards).
Over cycles, discretionary “innovation” loses to admissible platforms (Palantir/Microsoft-Gov, policy-grade security).
Periodic re-selection of winners
A steady state would freeze incumbents (not necessarily yours).
Cycles let you prune balance sheets and reassign market share (credit windows, facilities, eligibility lists).
You can always claim “macro prudence” while redistributing the stack.
Constant clampdowns ignite backlash; cycles normalize control: fear → rescue → gratitude → new defaults.
Every crisis ratchets a parameter (reporting, KYC scope, provenance, tax split). Sunsets slip; norms harden.
2) The actual levers used to shape the cycle
Monetary / plumbing
TGA, RRP, and bill vs coupon issuance: push/pull Net Liquidity (Fed BS − TGA − RRP). Bill-heavy issuance and RRP drains support risk; coupon-heavy + TGA rebuild drains it.
Term-funding & swap lines: weekend facilities (BTFP-style) backstop the floor only after sufficient discipline.
SLR/LCR tweaks: make dealer balance sheets elastic/inelastic on cue; widen or narrow bid/ask when desired.
Collateral haircuts: procyclical by design — turn a scare into forced deleveraging without new laws.
Fiscal / legal
Eligibility lists: who can pledge, who gets guarantees, which assets count — subtle market share handoffs.
Macroprudential “guidance”: internal memos to banks/insurers on concentration, duration, or funding mixes.
Accounting forbearance: HTM/AFS relief, hedge accounting flips — smooth good losses, crystallize bad ones.
Perimeter policy (cheapest enforcement)
App store / bank Acceptable Use Policy (AUP) / cloud AUP: throttle distribution of non-KYC rails; promote “trusted” wallets and custody.
Market microstructure: short-sale constraints, exchange margin hikes, batch auctions on stress days — shape the tape.
Standardization: C2PA, Travel Rule+, e-invoicing/CTC, identity frameworks — “voluntary” in abundance, mandatory in scarcity.
Narrative
Crisis branding (bio, cyber, climate, finance) → Policy Synchronization Coefficient (PSC) spikes → the same knobs everywhere, faster.
3) Anatomy of a Controller cycle (8–18 months)
Loosen (onboard)
QE-adjacent posture, bill-heavy issuance, RRP bleed, stablecoin corridors get bank APIs, “pilot” ID wallets.
Risk assets levitate; users adopt the convenient defaults.
Overheat (bait)
Tight spreads, levered carry, retail option gamma, basis trades build. Nodes move to approved infra for cheaper funding.
Jolt (discipline)
Coupon-heavy quarter + TGA rebuild + term premium nudge; margin hikes; a “surprise” policy headline (not necessarily a law).
Value at Risk cuts; forced sellers puke the liquid winners.
Rescue (ratchet)
Facilities, swap lines, guarantees — but with new parameters: identity gating, provenance, custody rules, tax-split rails.
Access to support conditioned on compliant rails.
Normalize (entrench)
The new rails remain; the story moves on. Next cycle starts with a tighter base.
Each loop raises floor control without a visible coup.
4) Why this beats a steady state (from the Controller POV)
Minimax risk: cycles minimize tail blowups and political accountability; the system “self-corrects”.
Selection power: you can rotate the leadership cohort (firms, funds, vendors) under cover of “market discipline”.
Cost efficiency: carrots in expansion, sticks in contraction — cheap compared with permanent force.
Data accrual: each wave expands observability (who defaults, who complies, which rails convert), improving future control.
5) Concrete “revealed preference” breadcrumbs
Bill/coupon toggles used with precision before/after auctions; Net Liquidity steered to coincide with policy passages.
App-store rules and bank Acceptable Use Policy shifts precede enforcement waves; “voluntary” becomes “industry standard”.
Facilities that exclude certain collateral or venues — behavioral surgery via eligibility.
Standards (C2PA, ID, AML scope) get harmonized across blocs within weeks — Policy Synchronization Coefficient tells you the real intent.
6) Where the alpha hides (because LP memos can’t say it)
The true description — “cycles are governance” — is unsayable. So allocators size timidly.
You get paid to own the enforcement interfaces (ID, lineage, provenance, programmable payments) before they’re described as “just best practice”.
The tell isn’t speeches; it’s plumbing changes (issuance mix, Acceptable Use Policies, eligibility lists) and standards verbs: attest, revoke, trace, rollback, split.
7) TL;DR
Permanent repression is expensive and politically brittle.
Cyclicity lets incentives and math do the policing; every downturn is a quiet constitutional amendment to the rails.
Over time, the floor rises: more identity, more provenance, more programmability — sold as convenience in boom and as prudence in bust.
If you want to monetize it: buy the operators of those knobs, not the passengers.