The primary driver behind the expansion of US dollar liquidity is in the midst of a significant transformation. As inflation has shifted from a latent to a visible threat, and with the appointment of the new Federal Reserve Chair, who advocates for balance sheet reduction, the era of exogenous money creation driven by Fed balance sheet expansion and fiscal deficits post-pandemic is likely drawing to a close. Concurrently, an expansion of endogenous money, fueled by AI-related capital expenditures, is already taking shape—the engine of liquidity is moving from the policy sphere to the real economy. This endogenous monetary expansion, on one hand, strengthens economic resilience and deepens inflation persistence. On the other hand, it accelerates the flow of capital from traditional real estate and consumption sectors towards the technological frontier, which promises higher expected returns. Looking ahead, asset performance may continue to diverge: assets solely reliant on exogenous liquidity drivers are likely to face pressure, while assets representing the direction of advanced productivity are poised to rise with the tide of endogenous monetary expansion.
Exogenous Money Peaking: The End of the Flood Era
Exogenous money refers to money creation through fiscal channels, typically involving increased government transfer payments to the private sector, with the Federal Reserve's balance sheet expansion facilitating fiscal expansion. Following the pandemic shock, the US government and the Federal Reserve jointly implemented this type of monetary injection, flooding global markets with substantial liquidity (Chart 1). However, with the new Fed Chair taking office, this dynamic is changing.
The new Chair has consistently opposed excessive expansion of the Fed's balance sheet and the normalization of quantitative easing, advocating instead for orderly balance sheet reduction and a return to the core principles of monetary policy. This philosophy has garnered support from key officials including the US Treasury Secretary and the Fed Vice Chair. Upon taking office, facing resurgent inflation risks, the Chair's primary task is to quickly establish policy credibility, which likely means demonstrating a commitment to fighting inflation in some manner.
There are two ways to demonstrate this commitment: one is to hint at potential future policy rate hikes, and the other is to control the money supply. Under current political and economic constraints, raising interest rates not only contradicts the preference for low rates but also faces public opposition and runs counter to the Chair's own inclination towards lower rates. In this context, strictly controlling the size of the balance sheet and signaling control over the total money supply may become the optimal policy choice at this stage. We believe this implies that the supply of reserves may shift from the previous "unlimited easing" to a "relatively scarce" environment, potentially marking the end of the narrative of massive, flood-like balance sheet expansion.
On the fiscal front, the liquidity impulse driven by the US fiscal deficit is also nearing its end. In the first half of 2026, tax refund arrangements related to the provided some temporary funding support for the market, but this essentially represents the "lagging tail-end effect" of existing policies. Entering the second half of the year, as the disbursements from this act gradually conclude, new liquidity injections from the fiscal side will be quite limited. Simultaneously, with US federal debt at historically high levels, constraints from the debt ceiling and rising interest expenses suggest very limited room for future fiscal stimulus.
In fact, the core fiscal legislation of the current administration has been largely "front-loaded." With control of both chambers of Congress following the 2024 presidential election, the administration leveraged this advantage in its first year, using the budget reconciliation process to swiftly pass the , making key tax cut provisions permanent. Subsequently, the administration only needs to wait for the execution and effects of this legislation, with no other major fiscal legislative plans in the near term.
The Rise of Endogenous Money: The Multiplier Effect of the AI Wave
Endogenous money refers to money creation formed through the private sector's credit expansion process, primarily relying on bank lending, capital market financing, and the resulting multiplier effects. Endogenous money does not depend directly on monetary and fiscal policy but on whether the real economy has strong investment and financing demand and whether financial institutions are willing to extend credit. Currently, the accelerated development of the AI industry is driving a significant expansion in corporate capital expenditures, forming a cycle of endogenous money creation.
According to the latest financial reports, the capital expenditure scale of the top five US cloud computing providers is projected to reach $735 billion in 2026, accounting for approximately 2.5% of US nominal GDP (Chart 2). At this stage, the primary source of funding for these capital expenditures is the companies' exceptionally strong free cash flow (Chart 3). This investment behavior functions in a "quasi-fiscal" manner—releasing demand through cash flow to upstream hardware, data centers, power facilities, engineering construction, and software services, thereby boosting the prosperity of related industries. In terms of scale comparison, the fiscal stimulus of the was around $300 billion, whereas the capital expenditure of cloud providers exceeds twice that amount.
This model is also set to evolve: tech giants are shifting from consuming their own cash to debt and equity financing. Within the framework of endogenous money analysis, this does not signify a tightening of financing conditions. Instead, leveraging their high credit ratings, these tech giants are more efficiently channeling society's idle funds and credit resources through capital markets into the AI sector, which represents future productivity growth. Therefore, the shift from cash flow to debt financing is not an absolute "negative"; rather, it represents the direction of financial resource allocation driven by market forces.
Credit data also indicates that endogenous money is in an expansion phase. Since the beginning of this year, the growth rate of loans from US commercial banks has shown a "structural recovery." Loans to non-bank financial institutions have maintained a high growth rate, while the growth rate of commercial and industrial loans has seen its most significant rebound since 2023. This likely reflects the substantial funding demand from the AI industry chain and its related sectors. In contrast, growth rates for real estate loans and consumer credit remain low. With 30-year mortgage rates and credit card rates persistently high, the traditional "real estate-consumption" credit channel continues to be suppressed (Chart 4).
This divergence also indicates that the US economy is undergoing a structural transformation—financial resources are accelerating their shift from traditional real estate and consumption sectors towards technology sectors, represented by AI, which promise high expected returns. The "internalization" of money creation methods is a manifestation of this transformation, and the continued expansion of endogenous money also provides favorable conditions for the aforementioned shift towards contraction in exogenous money (e.g., balance sheet reduction).
Market Implications: Structure and Divergence
Regarding growth, we believe the multiplier effect from AI capital expenditures will help enhance economic resilience. While this process may also intensify the "K-shaped" divergence within the economy, as long as endogenous credit expansion continues, the US economy retains a solid foundation. Its recovery momentum is likely to continue outpacing other major developed economies, exerting a spillover effect on the global economy.
On the inflation front, demand expansion driven by capital expenditures, combined with supply constraints triggered by tariffs and geopolitical conflicts, will push prices higher from both supply and demand sides, increasing inflation persistence. As noted in our mid-year outlook report, the greatest uncertainty in the second half of the year stems from inflation. This will not only constrain the Federal Reserve's policy space but also mean investors must adapt to a "higher for longer" interest rate environment.
For the markets, we believe corporate financing demand and bank credit expansion will exert pressure on the bond market, potentially leading to a higher yield floor for US Treasuries. As interest rates rise, the US stock market may transition away from a phase driven by Fed and fiscal easing and valuation expansion, entering a new stage driven by high profitability and the efficient conversion of capital expenditures. Whether tech companies can translate massive capital expenditures into actual profits will replace interest rate expectations as the core pricing variable. Market optimism about the tech revolution may continue to drive capital rotation from interest-rate-sensitive traditional sectors towards the AI-related industry chain, which benefits from endogenous credit expansion.
In contrast, assets that rely solely on liquidity drivers and benefit from the narrative of dollar over-issuance may face sustained pressure. Non-yielding assets such as gold and Bitcoin have already shown signs of significant adjustment over the past six months. This reflects the market's forward-looking pricing of the shift in liquidity sources. Consequently, we believe future asset performance will likely continue to diverge, with the differentiation criterion being whether an asset represents the direction of advanced productivity and whether it can benefit from the expansion of endogenous money.
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