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The USDi Return for May is Not an Estimate!
This is just a brief note to clarify something about the construction of USDi, about which I’ve gotten a number of calls. Before I do, let me also tell you to be on the lookout for my blog next week, when I’ll tell you what I think about Probable-Next-Fed-Chairman Kevin Warsh. (In the behavioral economics world we call that a ‘precommitment’ strategy that has the effect of forcing me into doing it. It’s overdue anyway.)
In May, the USDi token (freely mintable at https://usdicoin.com/coin/ ) will return 12.59% annualized. That’s not an estimate, and it isn’t a typo. As I type this, USDi is in the midst of a month wherein its price is increasing at a 5.65% annualized pace. Its current price at the moment when I am writing this is 1.034237. At the end of April, its price will be 1.035424. At the end of May, its price will be 1.046286. The movement from the end-of-April price to the end-of-May price is 1.049% for the month, which annualizes to 12.59%.
Note that I am not saying its price ‘may be’ or ‘will be approximately.’ While the price you see if you buy USDi on Uniswap or another liquidity pool may not be exactly that, those are precisely the prices you can buy or sell at on our website if you do it at exactly the end/beginning of the months in question. (To be fair, I’ll also note there is a small fee to mint or burn. These are listed on the minting page under the header ‘What are the transaction fees,’ and they range from a low of 0% if you mint over $5mm, to a high of 0.05% – but at least a dollar – if you mint less than $100,000. So, your return will more likely be 0.99% for the month, or 11.88% annualized. Still pretty good).
This is an important nuance. USDi is not a tokenized money market fund, or some other tokenized fund, where the buyer gets a small share of the fund’s performance. If it was, then USDi would be a security and you couldn’t buy it at all in the U.S. unless we filed a Form D and performed AML and KYC on you. That wouldn’t be a very useful crypto tool. So we made USDi an indexed currency, similar to the Unidad de Fomento in Chile, that depends only on the value of the Non-Seasonally-Adjusted CPI index, mechanically. It accretes just like a TIPS bond, except that it does it every block, not just every day. I walked through the particulars last year in How to Calculate USDi’s Current Value.
Now, a TIPS bond – even a short-dated TIPS bond – also experiences changes in price. So while the principal of the October 2026 TIPS, and every other TIPS, will accrete 1.049% for the month of May…those bonds will also experience price changes. In particular, it is extremely likely that they (at least the short-dated ones) will decline in price over the course of the month since each successive buyer will have the right to less and less of that sweet accretion. Either way, you don’t know what you’ll have in a month if you buy a TIPS bond. But USDi has no maturity date. It is not a bond whose price declines when interest rates rise. It is inflation-indexed cash, or (if you prefer) analogous to an inflation-linked CD where the bank is paying you 12.59% for the month, but which you can cash out at any time with no penalty.
This remarkable return – which is likely to remain pretty attractive in June if the inflation swaps market is right about where NSA CPI will print when we get that data next month – is due to the spike in gasoline prices last month, which passed through fairly directly to the CPI.
The next logical question is ‘where does that return come from?’ I am going to skip that answer for now because when I talk about the underlying investment dynamics people tend to get confused and think that the underlying investment dynamics determines how USDi behaves. It doesn’t. Furthermore, the answer to that question does involve a fund that is a privately-placed security and which (therefore) it’s awkward to discuss on a public forum.
But mainly, I don’t want to confuse you. USDi this month is earning 5.65% annualized, and it will earn 12.59% annualized next month. The first estimate concerns June, and an estimate based on the inflation swap market suggests USDi will earn around 9% annualized in June. When we get the CPI in a few weeks, that return will crystallize and we will know June’s return absolutely.
I repeated this point about five times because it seems to me people are being very cautious about buying USDi at the very time that people should be agog over the known future returns and grabbing it. I understand why a big hedge fund might not want to buy $50mm of USDi without ever having experimented before. It is more confusing to me why folks aren’t buying $5k or $10k to try it out and see how it works. Don’t get me wrong, the flows are positive. They’re just…very timid. So just in case the concern is that ‘maybe this return won’t really happen after all,’ I wanted to be clear (here comes #6) that May’s return is baked in the cake. Go get some cake.
Profiting From Zero Duration Inflation
One of the nice features of the USDi digital currency is that its path is known with certainty well in advance. The price of USDi is determined by the interpolated CPI index value compared with the value on the reference day (315.605). So, for example, we know that today’s[1] USDi value is 1.02681 because today’s CPI index value is 324.06614, and we know that because we know how to interpolate between the CPI prints from 3 months ago (324.122) and 2 months ago (324.054).
Importantly, those numbers we are interpolating between are the Non-seasonally-adjusted CPI figures from December (released in January) and January (released in February). And that interpolation methodology is exactly the methodology that TIPS use.[2]
You will notice that the CPI from 2 months ago is lower than the CPI from 3 months ago. That means that prices actually fell, before seasonal adjustment, which means that USDi actually declined slightly over the course of the month. It was even worse in January, because the November CPI was – as I have noted before – complete garbage due to the fact that BLS procedures led them to assume zero inflation for a lot of the missing October data. In the chart below, you can see the sharp correction during which USDi actually declined during January (and slightly further, in February).
Now, because we can ‘see the future’ due to the interpolation mechanism, we know exactly where USDi will trade each day in March. That’s also indicated on the chart. So we know that in March, USDi will rise at a 4.53% annualized pace. One-month t-bills are 3.6% right now. You do the math.
It gets better: the same BLS procedures that led to the terrible November number lead to self-correction, so the CPI Index will catch up over time. The biggest part of that catch-up is due to the rotation of the rent sample over 6 months, so while we do not know exactly what CPI will print at for February, March, April, and May, we have a good confidence that it will be above trend. We can see that from the CPI “fixings” market where those particular CPI prints trade. The market price is the market price, and sometimes wrong, but based on what trades in the market right now we can anticipate (orange line above) that USDi will climb at an annualized rate of 5.63% in April and 5.53% in May before slipping back to a still-better-than-bills 4.17% in June.
What does any of this have to do with duration?
Well, you may read this and say to yourself “I can get the same benefit if I just buy short TIPS bonds.” But no, you can’t. That’s because when you buy a TIPS bond, the principal amount rises with inflation but you still have to deal with price. It turns out that TIPS traders are very aware that their accretion (what we call the uplift in principal) is going to be higher than TBill rates over the next few months, and so the current price of TIPS bonds fully discount this. The July 2026 TIPS, which will mature at the CPI index value of July 15th (which is interpolated between April’s CPI and May’s CPI, so it includes all of those rebound months), trades at a price of 100-13…and remember, it matures at 100. So you’ll gain the accretion, but lose on price. I’ll save you the math: that price means the real yield of that bond is about -1%, which is convenient since the CPI between now and then is going to be something around 1% higher than the Tbill yield.
Every day that passes, as the principal value of the TIPS bond accretes, the price will decline. The only way you can profit versus fixed-rate Treasuries is if you are smarter than the market, and your forecast of CPI is better than what is already embedded in the price of the bond.
USDi has a price, but it is completely insensitive to yields which means you do not have to pay a premium to buy it now (nor did you get a discount back in December knowing the bad January numbers were coming). You can buy USDi today knowing that you will earn those exciting forthcoming CPI prints, without sacrificing principal.[3] You can buy USDi against USDC on Uniswap, or simply go to https://usdicoin.com/mint.
I’ve told you before how interesting USDi is since it’s the zero-duration instrument. Here is another concrete example.
[1] I say “today’s” because I am illustrating all of this with daily interpolation, but in practice USDi interpolates every block or “hash,” which is just a few seconds in length.
[2] …except for the fact that TIPS interpolate daily and USDi almost continuously.
[3] Of course, this is not investment advice. Although it sure sounds like it. Do your homework!
Does Crypto Expand the Money Supply?
We live in interesting times, and let’s face it: mostly, in a good way. It doesn’t have to stay that way, naturally, and it won’t stay that way naturally.
This has always been the weak spot in any system that insists on centralized management of certain functions. Of course, that’s the fundamental flaw and conceit of socialism: it relies on the active intercession of omniscient beings to order activities better than the masses of private actors can. Usually, “better” means “less volatile” to the policymakers who set up the committees of omniscient beings (personally, I would say “better” means “less fragile,” which is the opposite of “less volatile”).
The best argument for using the collective wisdom of the anointed few is to prevent the tragedy of the commons, where individuals making private decisions can impact the use of public goods. And that brings us to money.
I think it is a fascinating question whether ‘money’ is a public good, which should be regulated and controlled. Or is a particular currency, such as the US Dollar, the public good which should be regulated and controlled? The argument the Federal Reserve would make is that, absent the control of the Federal Open Market Committee, the money supply would grow or shrink in dangerous and random ways. Or at least, that would be the argument they would make, if they cared about the stock of money any more.
There is no plausible argument in my mind that “interest rates”, which is what the Fed now works to control, is a public good that is better managed by the Smart Guys. So, weirdly, the Fed now manages something which they don’t have any knowledge about that should supersede private market actors (rates), but does not purport to manage something they could plausibly argue is a common good that no one directly controls (money).
** Separate question: are the Cognoscenti at the Fed any good at it? Chairman Powell said yesterday that the Fed is likely to stop running down its balance sheet soon. With the balance sheet still at 22% of GDP, compared with the pre-GFC normal of about 6% – see chart – “Until the job is done” has apparently become “until it’s time for my smoke break, and then you’re on your own.” What’s the matter with kids today?
So the answer to this ‘separate question’, as inflation remains at the highest level of this millennium and is now headed higher, is “of course they’re not. Why are we even asking that question?”
I actually want to go slightly further. The Fed no longer tries to control the money supply, which at least they might have an argument for doing, in preference to managing interest rates against the market-clearing actions of private actors. But over time (and accompanied by the whining and moaning of central bankers), the concept of money has gotten squishier and squishier. One of the reasons that central bankers want to control crypto is that they fear the power of money loose in the wild (ironically, given that they stopped worrying about money a long time ago), untamed by the Anointed Stewards of Money.
The question is, does crypto expand the money supply? For the purposes of this question, let’s ignore the official definitions of money, M1, M2, M3, etc and just focus on ‘spendable balances.’
If you give me a dollar, in exchange for something that feels like a dollar and that you can spend (say, a stablecoin like USDC), have we increased the money supply? The answer depends on what I do with that dollar. If it is deployed to a vault, then obviously the number of ‘dollarish’ units in circulation haven’t changed. You have minted $1000 USDC, but there are now $1000 USD that are sequestered in a vault and not spendable. The amount of spendable money hasn’t changed. If instead that $1000 goes to buy a Treasury bill from the government, then it is going to the government to spend. Normally, buying Treasuries doesn’t change the amount of spendable dollars, because in buying a Tbill I am deferring my decision to spend (instead, I hold securities) and delegating that decision to spend to the government. I exchange my future spending for the government’s current spending, and in the future that transaction is reversed when the Tbill matures. Some people think that means that Treasury issuance increases inflation because it increases money, but it doesn’t. The Treasury bill is just a token representing my deferral of spending into the future.
But if I was able to buy that Tbill because I issued a USDC token, which you can spend, and then gave the fiat money I received from you to the government in exchange for a Tbill, then I have doubled the number of spendable dollars in circulation: $1000 in the form of USDC, and $1000 in the form of dollars sent to the Treasury which will be spent. Essentially, what has happened is zero-reserve banking. If I were a bank and you deposited $1000, I could lend out only, say, $900 of that (“fractional reserve banking) and in principle the Fed can control that multiplier by changing the reserve requirement.[1] But now you’ve deposited $1000 and I am lending 100% of that to the government. Stablecoin manufacturers in this way are basically banks issuing their own currencies. Now, a lot of that money is going abroad, but it looks like money to me.
Worse are the vaporware crypto issuers who simply create supply out of thin air. If people accept bitcoin as money, rather than as a speculative chip to trade around, then I have created money with no reserves whatsoever, and no limit on how much ‘money’ I can so create.
If this is true, then the irony is that crypto – which was inspired originally by the desire to remove money from the ministrations of the Very Smart Bankers who could ruin money by creating too much of it – could be the very tool that creates the inflation its originators wanted to protect against. In that kind of world, I really don’t understand the use of a nominally-anchored stablecoin. If the overall money supply growth is unbounded and now essentially uncontrollable (once the size of the crypto world gets sufficiently big), then holding something that is pegged to the sinking ship seems counterintuitive to me.
While I didn’t start this article with the intention of pointing out that our USDi coin is a raft rather than an anchor (like stablecoins), it does seem to be relevant here to mention that you can now mint USDi directly from our website: https://usdicoin.com/coin . And, while the increase of USDi will contribute to the overall money supply – at least it has a built-in defense!
[1] …but it doesn’t really work like that any more. The Fed still has a dial to turn that limits how much lending can happen on a given depository base but it isn’t as clean as it was when there was a simple reserve requirement. This is well beyond the point of this article.
How to Calculate USDi’s Current Value
I haven’t been writing a lot during August, nor have I done many podcast episodes. I feel like I make this apology almost every year, but it seems every year August just gets slower, and slower, and slower – and any content I push out gets less engagement during August than during any other full month (although the end of December, naturally, gets very thin as well. It’s really remarkable how August has changed during my career. In the 1990s, there were maybe a couple of weeks that were a little thin in the markets, but that has metastasized so that now it’s all of August and a week or two into July. I am speaking of the US markets – Europe has always been slow for the second half of the summer, at least in my experience, and I don’t know if there has been much change in that over the last few decades.
In any event, I’m more than happy as a writer to take a little time off and recharge. As an entrepreneur? Not so much.
This is, though, a good time for a ‘utility’ post. As readers know, a few months ago we launched USDi, the first CPI-linked cryptocurrency that’s fully backed by traditional finance assets. Because those assets for the most part reside in a private fund (which, because it’s a private fund issued under Reg D, I can’t talk much about on a public post so forgive my vagueness here about what the fund does and how), there is regularly confusion when potential buyers of USDi think that they are buying a share of the fund. They are not, for two reasons. The first is that a coin that represents a tokenized share of a traditional-finance fund would clearly be a security under US law, which creates lots of other complexities that we don’t want: for example just as I can’t tell you much about the fund, if the token was a security then I couldn’t tell you much about that, either! Which would make distribution difficult, to say the least.
The second reason that we didn’t want the coin to represent a tokenized share of the fund is that then the coin would not exactly track CPI. It is important that the coin be a zero-risk instrument, and I illustrate why that’s important in the post “USELESS Coin vs Very Useful Coin”. Accordingly, USDi’s value is entirely formulaic, and known in advance by at least a few weeks. It’s my purpose today to explain how the value of USDi is derived from CPI prints.
USDi, like TIPS and US CPI swaps, is linked to the Non-seasonally Adjusted Consumer Price Index for All Urban Consumers…the NSA CPI for short. The CPI that is released every month is related to this number – specifically, the ‘headline CPI’ is the month-on-month percentage change in the Seasonally-adjusted number. Here is where you find that number (rounded, of course) in the monthly BLS release found at https://www.bls.gov/news.release/cpi.nr0.htm:
The problem with using a seasonally-adjusted number is, you guessed it, that the seasonal adjustment factors can change. Consequently, all inflation derivatives rely on NSA numbers, which are almost never revised. In the same report linked above, the BLS notes the NSA number:
The highlighted number, 323.048 in this case, is the number that TIPS traders and inflation swaps traders care about. And, if you buy USDi, you will care about this number as well. This is the price index value defined relative to the base of 100.000 representing the average of the 1982-1984 price level. The index value of 323.048 tells you that the (quality-adjusted) price level has risen 223.048% since the early 1980s, slightly more than a tripling!
(As an aside, the BLS has an enormous number of NSA series for different subcomponents available. You can see and chart a lot of them here: https://data.bls.gov/dataQuery/find?fq=survey:%5Bcu%5D&s=popularity:D )
Now, the BLS reports this number just once a month, and in arrears. It was mid-August when they reported the July CPI referenced above. So we have two things we need to account for when we turn this into an index that USDi (or TIPS or inflation swaps) can track: 1. We have a monthly number, and we need a daily number – or in USDi’s case, one number every block, and 2. We have numbers for every month ending in July, but today isn’t July, so we need something for today. Let’s call the index value that we are going to construct, to use for TIPS/swaps/USDi, the “Reference CPI.”[1]
The second problem is handled in the simplest way possible: we just lag the data.[2]
So when we got the July data this month, we have the Ref CPI for October 1 (the 323.048 number I mentioned above). We already have the Ref CPI for September 1 (that was the June CPI, reported in July, 322.561). So now, we can straight-line interpolate the Ref CPI for any day in between those two dates, based on the number of calendar days in that month. So, the Ref CPI for September 2nd is:
1/30 * 323.048 + 29/30 * 322.561 = 322.57723
Voila, that’s just what the Treasury calculates for September 2nd, which isn’t surprising because that’s how math works.
Now, the only subtlety to USDi is that while TIPS and CPI swaps have one settlement per day USDi in principle is tradeable 24/7. That means that if we changed the Ref CPI for USDi just once per day, at 1 second before midnight every day you could buy USDi and then sell it at 1 second after midnight and get the entire day’s interest. That doesn’t seem fair. The blockchain is much closer to continuous settlement, so we have to interpolate not by day, but by block. On Ethereum (where USDi exists, initially), a block is roughly 10-15 seconds long, so USDi accrues interest basically every 10 seconds. The actual code for USDi looks at the block number and does the exact same calculation that we do above except that it is interpolating between the first block in September and the first block in October. You can get very close to the right answer by simply using spreadsheet NOW() functions, which in Google Sheets has 1-second precision. I do the approximate calculation for USDi on a Google Sheet here: https://docs.google.com/spreadsheets/d/1UnPzAu-U2zy5TEIcxgLBqkVP7QNtBJhwrwLnHt9EitM/edit?gid=0#gid=0
Let’s see, why did I want to calculate the Reference CPI? Oh, I remember: I want to find the price of USDi for a given time, in the past or present or any time up until (for now) the end of September. We have done all of the work except for the last step, which is to divide the current price level index – the Reference CPI – by the base price level index. For USDi, we defined the denominator as the December 2024 CPI. This is why we say that USDi is a dollar that preserves the purchasing power of a December 2024 dollar.
The December 2024 CPI was 315.605. Since the December 2024 CPI was also the Reference CPI for March 1st (see the handy drawing above), that means the value of USDi on March 1st was (drum roll) 315.605/315.605 = 1.000000. The value of USDi on October 1st will be 323.048/315.605 = $1.023583.
So the USDi coin is not a fund, nor a share of a fund. It is a time machine.
[1] The Reference CPI for TIPS and swaps is identical. The Treasury calculates them too, and reports them at https://treasurydirect.gov/auctions/announcements-data-results/tips-cpi-data/ (look for the PDF and XML files for the “Reference CPI Numbers and Daily Index Ratios Table.”)
[2] In principle, we could take the recent data trend and project to the current date, which would make it contemporaneous but lose accuracy…since when the inflation data is actually released, we will find out that method isn’t perfect. It would also be confusing, since on any given day in the past there would now be the actual CPI data and the previously-used projected-trend data. Since the importance of the exact timing of the price level diminishes with distance, while the two-index confusion would persist, the simple-lag method makes sense to me.
USELESS Coin vs Very Useful Coin
It is rare, in the investment world, for an investment to honestly and fully disclaim its basic nature in a way that finishes the story and requires no further analysis from us before making an investment decision. I have found such an investment. It is a cryptocurrency/meme coin called, appropriately, USELESS. https://coinmarketcap.com/currencies/theuselesscoin/ If you were to buy all of the USELESS in existence, it would cost you (as of this writing) about $272 million dollars. This seems to me to be a lot of money to pay for something useless, but what do I know?
Now, it should be noted that there are lots of useless coins. DOGE coin. Fartcoin. I could go on and on. But the difference here is that as far as I can tell, USELESS is being completely honest. It is not usable as a payment rail. It is not redeemable for anything, at any time, and therefore it is guaranteed to one day be worth zero. It doesn’t even come printed on a nice certificate so that the scripophiles can frame it and put it on the wall.
To be fair, as I said it isn’t the only such memecoin that is useless. It is merely the only one that turns that uselessness into a dare. It is a game, of seeing who eventually gets the ‘pride of place’ as top-ticking it, paying the highest price for something that is useless and that never pretended otherwise. (People who bought Enron stock were buying something that turned out to be worth zero, but they didn’t know it at the time. USELESS buyers are fully aware and cannot possibly claim otherwise.)
And actually, ironically, that unlocks the reason this coin exists. It reminds me of a fantasy baseball auction. For those of you who don’t play fantasy sports, there are generally two varieties: the ‘draft’ kind, where people take turns drafting players, and the ‘auction’ kind, where someone offers a player and a price they will pay for that player, from a limited budget allotment. The other participants in the draft all take turns bidding until someone wins the player, and then the process is repeated until every fantasy team is full. Done correctly, a bidder doesn’t merely bid for the players he or she wants but also bids up the price of a player he or she does not want, in order to force someone else to pay more than that player is worth. This part of the auction is a game, trying hard to make someone else pay top dollar – which requires you to figure out what everyone else’s top price is – while not getting stuck with the now-overvalued hot potato.
I think that’s what USELESS is. It’s a game of trying to push the price higher and higher, until someone is stuck with the honor of having paid the highest price for an utterly worthless unit. It’s a game; it’s only a game; and it is just as much of an “investment” as is the forty-two dollars you paid to select Juan Soto for your fantasy team.
Now, as you all know by now I have been at least partially converted and no longer think that all crypto is useless. The absolute opposite of USELESS is the enormous utility of our inflation-linked stablecoin, USDi. And yes, I’ve written about it before. And yes, I will write about it again. Because it’s as useful as it gets. There is no such thing as inflation-linked cash in traditional finance space. I am not aware of any bank that offers an inflation-linked savings account. And this is not a little thing. This is a big, big thing.
The chart below shows a hypothetical efficient frontier made up of a lot of different asset classes; this frontier might look a little different from what you’re familiar with because the x-axis and y-axis are in real terms whereas most of us learned finance in nominal terms where you had a Treasury bill as the risk-free asset. But we don’t care about nominal returns (if we did, we’d own stocks in the most hyper-inflating country we can find) – we care about real returns. In the nominal world, Tbills or money market funds exist with sub-zero real returns most of the time. More importantly, they have significant risk in after-inflation terms. As a result, in real space we are confined to the blue curve as our efficient frontier (the curve shows the lowest-risk portfolio that achieves a given expected real return. Remember these numbers are all hypothetical but the point I am making doesn’t depend on the numbers).
But USDi is, as I said, super useful. It is the origin security, the zero-real-risk, zero-real-return point. And that means that it improves every portfolio in real terms, with the possible exception of very-high-risk portfolios.
Now, most of these securities don’t yet exist in the defi world. There really aren’t any tokenized commodities yet, except in the narrow edge case of gold and one or two other single spot commodities – and no tokenized commodity indices yet, and commodity indices have additional sources of return beyond the spot commodity return. No tokenized TIPS, and few tokenized equities. Someday, the defi world will have these things. But what it does have right now, which is really useful and a good enough reason to visit the crypto world, is the low-risk security: USDi. How useful is that?
[N.b.: USDi was originally launched in a manner only available to accredited investors. However, because of growing regulatory clarity about its status as a stablecoin or currency rather than as a security, we have re-launched USDi so that the mint/burn functions are available to all. The coin’s address on mainnet is 0xAf1157149ff040DAd186a0142a796d901bEF1cf1. We will be adding functionality to allow minting or burning via user tools on our website, but in the meantime users can make a public call to the blockchain to mint or burn versus USDC. Reach out via the https://USDiCoin.com website if you want more information.]
Inflation After 100 Days
It is hard to believe that a third of the year is already past. Some people, of course, would say that it seems like a hundred years have passed in the first hundred days of Trump’s second term, but to me it seems like a blink.
Here’s a quick mark-to-market summary of where I think we stand with respect to inflation and the economy generally…after which I actually have another point for this column:
Uncertainty. That’s the watchword, of course. One place this shows up is in the huge spread between survey data and hard data. The survey data is tinted with fear of uncertainty, and is very negative (and likely influenced by the media deciding that Trump’s Administration signals the End of Days); the hard data is clearly softening but not dramatically so – and frankly, that was already under way in some ways since at least 2023 when the Unemployment Rate started heading slowly higher. In my view the softening of the hard data won’t ever get to be dramatic in this recession, and this will end up being more like a garden-variety recession we used to have pre-2000.
Inflation will be higher than it would otherwise be, because of tariffs, but lower than many people think because people greatly exaggerate the effect of tariffs. Tariffs only affect goods, and only significantly if they are goods facing inelastic demand. There will be some shortages in the near-term, and unlike during COVID when many of the shortages were caused by too much demand induced by money-drops to consumers, in this case it really will be supply constraints. Look out for things like ibuprofen, which is 90% sourced from China which makes it hard to completely switch supply to domestic suppliers. But these are short-run or in some case medium-run disruptions as supply chains shift. As domestic or lesser-tariffed countries replace the highly-tariffed suppliers, the supplies will respond and prices will come back down – not all the way to where they were, but it will feel like deflation in some cases because we mentally refer to the most-recent price, not to the year-ago price.
But either way, the tariffs are a jump-discontinuity, a one-time effect. The uncertainty, less so but that will fade (as an aside, and as I’ve noted previously, the high uncertainty had the effect in Q1 of causing money velocity to decline very slightly for the first time in a couple of years). By the end of the year, things will be much more settled and inflation will be stabilizing again…but the story continues to be that inflation will stabilize in the high 3s, low 4s, not at 2%. This probably means the Fed will not be easing much, although if there is a significant slowdown not caused from net trade – the Q1 drag was significantly from the surge in imports due to front-running tariffs – the Fed will ease even if inflation hasn’t come down. They’ll point to tariffs being transitory, although I sincerely doubt they will use that word! And they’ll be right, but they’ll also be wrong. Money supply growth is still too fast to accommodate 2% inflation especially in a deglobalizing world.
We’ll talk more about all of these things in columns here and in my podcasts over the next few months. But today I am still very preoccupied with getting USDi[1] launched, getting investors involved, talking to crypto ecosystem providers, etc. And I want to address one question I get routinely these days – not just about USDi, which exactly tracks CPI but adds nothing on top, but about the underlying investment strategy that I’ve been running/marketing for 3.5 years. The question is, “why should I buy something that returns CPI when inflation is at 3% and I can buy Tbills and earn 4.25%?” Here are two important pieces of the answer – and they’re just as important to investors who operate wholly in the traditional finance world as it is to people operating in the crypto world.
The first part of the answer is that while Tbills are above inflation now, that is not exactly guaranteed. In fact, for the last quarter-century it has been fairly unusual.
Sure, if you go back to the 1980s and early 1990s, when inflation was high and coming down and the Fed was following inflation down, you can find a lengthy period when Tbill rates were above inflation. Is the current period, with inflation where it is, comparable to the period when inflation was descending from double-digits and the FOMC was dominated by hawks? Do you think Trump will replace Chairman Powell and other Fed governors whose terms expire, with hawks? It doesn’t seem that way to me. I think it’s important to realize that is the bet you’re making, if you hold short cash instruments as an inflation hedge.
The second part of the answer is that holding a cash instrument does not protect you during an inflation spike because the Fed cannot respond fast enough, and a cash instrument in nominal space does not protect you from a dollar crisis. Almost nothing does, in fact, as stocks and bonds both do poorly in those cases as do ‘inflation hedge’ products based on equities or bonds. Here is a chart of the recent inflation spike. How well did your Tbills, or short-duration bonds (VTIP) or long-duration inflation bonds (TIP), keep up? Did they ever catch up?
To me, any allocation to low-risk securities that is meant to serve as a volatility buffer for a portfolio, but does not hold inflation beta, is completely missing the value of that beta in certain scenarios where very little else is helpful. When inflation spikes, stocks and bonds become correlated (down). You can (and should) add commodity allocations to your portfolio, but those consume part of your risk budget and push out the equities, hedge funds, private equity, and other higher risk asset classes. If you can get the inflation beta from a very low-risk part of your portfolio, you ought.
The foregoing is, transparently, partly self-serving. But the products I’ve been involved with developing have never been developed because they produce big fees or are easy to sell.[2] I’ve developed them because they’re useful to investors. And, parenthetically, I do think that the worker is worthy of his wages.
If you want to find out more about USDi, I urge you to visit the home page https://usdicoin.com, where you can see the current value of the coin increasing minute-by-minute with inflation. If you’re a denizen of the crypto world, then you might also be interested in joining the Telegram read-only group for the USDiCoin, available at https://t.me/USDi_Coin. That group is where we will make announcements about the coin, post the price of the coin periodically (at least daily; automation in process), post the monthly reports confirming the collateralization of the coin, announce new market-makers and markets…and also post some inflation-related charts, such as I used to do on Twitter on CPI morning, when Twitter allowed such automation. If you’re at all interested in inflation and/or the inflation-linked coin, hop on.
[1] If you don’t know what USDi is yet, read my prior article https://inflationguy.blog/2025/04/15/announcing-usdi-inflation-linked-cash/
[2] Understatement of the century.
What Makes a Stable Coin Stable?
The early growth of Bitcoin and the cryptocurrency space was originally stimulated by the mistrust of centralized control of monetary policy and financial institutions. While Bitcoin is a fiat currency, in the sense that it is not ‘backed’ by anything and has value only because other people believe it has value, the rules for the expansion of the total float of Bitcoin are mechanical and so the unit benefits from being isolated from the whim of flesh-and-blood central bankers. Milton Friedman once said in an interview with the Cato Institute that “We don’t need a Fed…I have, for many years, been in favor of replacing the Fed with a computer [which would, each year] print out a specified number of paper dollars…Same number, month after month, week after week, year after year.”[1] And, with Bitcoin, that is exactly what you have. Management of Bitcoin is decentralized, automatic, and the rules are stable.
Unfortunately, ‘fiat’ cryptocurrencies are anything but stable. Moreover, since their value depends entirely on the trust[2] of other actors in the economic system that these currencies will have value, it is entirely possible that any of them could crash just like any fiat currency sometimes crashes when confidence in the currency issuer vanishes. There is no intrinsic value to a fiat currency – digital, or analog – which means that they are stable only when looked at in a self-referential frame. A US Dollar has a stable value of $1 but is volatile from the viewpoint of a Mexican-peso-based observer. I will return to this observation presently.
Because these fiat cryptos are unstable when looked at by a participant in the analog world, the concept of ‘stablecoin’ was developed. In Coinbase’s summary ‘What is a stablecoin?’, the first two bullet points are:
- Stablecoins are a type of cryptocurrency whose value is pegged to another asset, such as a fiat currency or gold, to maintain a stable price.
- They strive to provide an alternative to the high volatility of popular cryptocurrencies, making them potentially more suitable for common transactions.[3]
Why is a stable price important? The answer goes back to the question of whether Bitcoin and similar cryptos are money, or assets. In the conventional definition of money, such a label only applies to units that provide a medium of exchange, store of value, and unit of account. First-generation cryptos certainly serve as a medium of exchange but are sketchy on the ‘store of value’ and ‘unit of account’ dimensions. Nothing natively is priced in BTC, so it is not a good unit of account, and the high volatility creates a high barrier to any argument about being a store of value. Cryptos are most assuredly financial assets. It is hard to argue that they are money.
Enter the stablecoin. By pegging the value to an existing currency, a stablecoin ‘borrows’ the characteristics of that currency as a store of value and unit of account. It’s true by mathematical association: if USDC is equal to one US dollar, and the US dollar is money, then (as long as it’s accepted a medium of exchange) USDC is money because it has equal ‘store of value’ and ‘unit of account’ dimensions.[4] A stablecoin maintains its stability by means of holding reserves and being fully convertible on demand into the underlying currency.[5]
But Stable with Respect to What?
Stability, though, depends on the frame of reference. Consider a stablecoin linked to the US Dollar, which always can be minted or burned at $1 (ignoring fees). Consider a second stablecoin linked to the Japanese Yen, which always can be minted or burned at ¥1. Which one is stable?
Figure 1 – US Dollar Frame – US Dollar is stable
Figure 2 – Japanese Yen Frame – Japanese Yen is stable
The answer, of course, depends on your frame of reference. From the standpoint of someone in Japan, who is buying goods and services with Yen, a stablecoin like USDC that is linked to the dollar is most assuredly not stable in any useful sense of the word. Conversely, a US dollar investor would not find a Yen stablecoin to be stable. This, then, is an important element of defining a stablecoin: something which matches the volatility and behavior of the basis of the frame you are in, is stable with respect to you. This raises an interesting question when it comes to stablecoin regulation. A coin could very easily be regulated as a stablecoin in one jurisdiction, and not be regulated as such in a different jurisdiction – even between regulatory jurisdictions that are congruent in their treatment of most assets.
What passes for stability, in short, depends on the transactional frame – literally, the underlying currency in which transactions happen – of the observer.
Stable with Respect to When?
The meaning of stability also fluctuates with the time horizon of the observer. Fixed-income investors are very familiar with the concept of Macaulay duration, which is the future horizon at which the value of a bond holding is completely insensitive to parallel shifts in the yield curve, because the change in the value of reinvested coupons (which goes up with higher interest rates) exactly offsets the change in the value of the remaining cash flows (which go down with higher interest rates). What is the riskiness of a bond with a 7-year duration? Or more to the point of this discussion – which is riskier, a 1-month Treasury bill, or a 7-year zero coupon bond?[6]
As it turns out, it depends on the applicable horizon of the observer.
Suppose an investor pursues one of two strategies: in the first strategy, he or she buys a 1-month Treasury bill, initially at 5%, and then rolls the proceeds every month for 7 years. Alternatively, he or she could buy a 7-year zero coupon bond yielding 5%. Using a simple two-factor model with no drift, I generated 250 iterations of T-bill paths and yield curve shapes, to produce hypothetical monthly time series of returns for the two strategies. For example, here is one such random path (Figure 3):
Figure 3 – Illustrative single random path of cumulative returns for two strategies
The a priori expected return is approximately the same for both strategies; sometimes the T-bill roll strategy ends up ahead and sometimes the buy-and-hold strategy wins. With similar expected returns, a rational investor would therefore choose the one which has the lowest risk. But the riskiness or stability of the returns depends very much on the observer’s time horizon. Each of the following three charts is drawn from the same 250 Monte Carlo iterations, but the cumulative return is sampled at a different horizon. In Figure 4, the cumulative returns are sampled at the 1-month horizon. In Figure 5, the sampling is at the 3-year horizon. In Figure 6, the sampling is at the 7-year horizon. For each figure, the cumulative return for the T-bill strategy is shown on the x-axis and the cumulative return for the zero-coupon-bond buy-and-hold strategy is on the y-axis.
Figure 4 – 1-month T-Bill strategy is riskless at a 1-month horizon
Figure 5 – Both strategies are relatively risky at a 3-year horizon
Figure 6 – The 7-year zero-coupon-bond is riskless (in nominal terms) at a 7-year horizon
Although this conclusion is trivial and inevitable to fixed-income investors, the reason for our observation here is to point out that what is considered ‘stable’ not only depends on one’s functional currency but also on one’s holding period horizon.
Is the Nominal Frame the Most Important Frame?
The prior points are likely obvious to most investors. If you are investing with the intention of spending the proceeds in US Dollars, then a USD frame is most relevant. If you are investing for a known future nominal payout (for example, a life insurance company hedging scheduled annuity flows), then an investment that matures to a given value at the time when the money is needed is the most-relevant frame. However, investors sometimes lose track of one of the most important frames, and that is the “real” frame where values track the price level.
While a $1 bill is ‘stable’ in nominal terms – it will always be worth $1 – it is very unstable in purchasing-power terms.
Figure 7 – A dollar is inherently unstable in the main consumer frame
The framework where we ignore the value of the dollar, in preference for the fixed price of the dollar at $1, is the “nominal” framework. When inflation is low and stable, this frame is a useful shorthand in much the same way that when traveling abroad a tourist in the year 2000 might translate Mexican Peso prices into US Dollar prices by dividing by 10 even though the exact exchange rate differs from 10:1. In the short term, such a shortcut framework makes up for in convenience what it surrenders in precision. But in the long term, what starts out as mild imprecision becomes wildly inaccurate as the Peso exchange rate has gone from 10:1 to 20:1.
Similarly, while the nominal frame is the default for short-term comparisons it is clearly not the most important one to a consumer. Someone who is negotiating a salary at a new job, who knows he or she made $40,000 per year in 2004, would be ill-suited to use that figure as the starting point. The frame that matters over time is the real, or inflation-adjusted, frame. In the chart above, if we plotted the purchasing power of an inflation-adjusted 1983 dollar, it would be a flat line at $1.[7] On the other hand, if we plotted the nominal value of that same inflation-adjusted 1983 dollar, it would show a mostly steady increase from $1 to $3.15 over the same time period.
As before, the frame matters. A dollar that is stable in nominal space is very unstable in purchasing-power space. A unit that is stable in purchasing-power space looks unstable in nominal space.
If an investor or consumer had to choose one frame to care about, it would surely be the one in which his or her money represents not just a medium of exchange and a unit of account, but also a store of value. What this means is that a coin that is native currency and inflation-adjusted in the local price level is the most stable of stablecoins. And what that further implies is that what we currently call ‘stablecoins’ are stable only in the narrow context of being fixed at a certain nominal value of domestic currency…and that is suboptimal since all investors and consumers live in a world where prices change.
Tying Frames Together
What is interesting is that each of these frames describes “stability” in a different context. People in one frame see their own side as stable and the other side as volatile – and the exact same thing is true, in reverse, for the other side.
The various frames do traffic with each other. A holder of US Dollars (in the nominal-USD-short-term-stable frame) exchanges those dollars with a person who holds Euros (in the nominal-Euro-short-term-stable frame). We call that an exchange rate. And what ties together the nominal dollar and the inflation-linked dollar is the price index.
Figure 8 – Exchanging dollars with different purchasing power is functionally the same as exchanging currencies with different purchasing power.
In fact, the relationship between the Dollar and the Euro is so much like the relationship between the nominal dollar and the inflation-linked dollar that in 2004 Robert Jarrow and Yildiray Yildirim wrote a paper describing how to value inflation-protected securities and derivatives using a model designed for foreign exchange.[8] And that highlights the fact that an inflation-linked stablecoin isn’t some strange construct but rather an important new product to be added to the cryptocurrency universe. It is just another currency – one that is fixed in time, rather in nominal dollars, that is exchangeable to today’s dollars at the ‘inflation exchange rate’. If a 1983 dollar existed today, it could be exchanged for $3.15 current dollars because the dollar that was frozen in time in 1983 buys more than today’s dollars. That’s just an exchange rate!
Conclusion
It seems that ‘stability’ is not a stable term. Perhaps a more accurate description of the current crop of ‘stablecoins,’ which are exchangeable 1:1 with the base currency, is “fixed coins.” Only an inflation-linked coin would be a “stablecoin” in the true sense of the word, and only because being stable in purchasing-power space is the most important frame.
[1] http://www.cato.org/publications/commentary/milton-rose-friedman-offer-radical-ideas-21st-century
[2] This is not to be confused with the trustless nature of the transaction verification process of the blockchain, where the peer-to-peer nature of the process allows transactors to be certain their counterparty has the amount of bitcoin in question before completing a transaction. Rather, this is a comment on the entire system itself.
[3] https://www.coinbase.com/learn/crypto-basics/what-is-a-stablecoin
[4] Arguing that a coin pegged to gold or other commodities is a stablecoin is a bit of a stretch. Such a coin may be granted intrinsic value by such backing, and it may even be a better store of value in the long run because of such backing, but it is lacking as a unit of account (nothing is priced in gold units) and as a short-term store of value it leaves a lot to be desired.
[5] So-called ‘algorithmic stablecoins’ are mostly stable because of fiat reasons. That is, only because people believe the algorithm can guarantee that the coin is fully backed, will they behave as if they are. My usage of ‘stablecoins’ leaves out algorithmic stablecoins.
[6] I made this a zero-coupon bond to make it easier. A zero-coupon bond has a Macaulay duration equal to its maturity. However, at the 7-year horizon, any bond with a 7-year Macaulay duration has the same risk to a parallel shift of the yield curve: none. The point of this paper, though, is not fixed-income mathematics so take my word for it for the sake of this argument.
[7] Naturally, whether it is truly precisely flat depends on whether the price index we are adjusting with is an accurate representation of changes in purchasing power. Of course, such an index would look different for every person based on his or her consumption patterns so the line would not be truly flat for any person. But it would be much more stable than the non-inflation-adjusted dollar.
[8] Jarrow, Robert A. and Yildirim, Yildiray, Pricing Treasury Inflation Protected Securities and Related Derivatives Using an Hjm Model (February 1, 2011). Journal of Financial and Quantitative Analysis (JFQA), Vol. 38, No. 2, pp. 337-359, June 2003, Available at SSRN: https://ssrn.com/abstract=585828
