October 20, 2025 • 40 mins
Gold has been surging. Risky assets (with a few minor hiccups) have also been surging. And yet, central bankers (most notably the Fed) are in rate cutting mode. Why is this? And what kind of risks are being conjured up? On this episode of the podcast, we speak with Raghuram Rajan, a professor at the Booth School of Business at the University of Chicago, as well as the former Governor of the Reserve Bank of India. Rajan famously was one of the first to raise alarms prior to the Great Financial Crisis in 2008. We discuss why financial markets are doing what they're doing and whether central bankers are sufficiently attuned to the growing risks.
Read more:
Gold Holds Drop as Traders Focus on US-China Trade, Credit Woes
AI Stocks Are in a Bubble, Most Investors Say in BofA Survey
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Episode Transcript
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Speaker 1 (00:02):
Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2 (00:18):
Hello and welcome to another episode of the Odd Lots podcast.
Speaker 3 (00:22):
I'm Joe Wassenthal and I'm Tracy Alloway.
Speaker 2 (00:24):
Today listeners get a special live episode of the podcast
that we were recorded in Washington, DC at the annual
meeting for the Institute for International Finance.
Speaker 3 (00:33):
That's right. We spoke with Ragoram Rajan. He is a
professor at the University of Chicago Booth School of Business
and of course the former head of India's Central Bank,
and he is exactly the person you want to talk
to when everyone seems to be talking about risks in
the market.
Speaker 2 (00:49):
That's right, of course, and we bring it up in
the conversation. He was sort of famous for being one
of the early pupil to warn in I Guess two
thousand and five about brewing risks of the financial system.
So we talked about what's behind the surgeon gold, what's
going on with central banks, and how seriously they're taking inflation,
speculative fervor and frenzy in the market. All of the
(01:10):
things that are relevant right now.
Speaker 4 (01:12):
So take a list.
Speaker 2 (01:14):
Let's get started. Why is gold up so much? Let's
start with the really important question, What is your story
or theory behind the seemingly NonStop demand for gold?
Speaker 5 (01:24):
Right, Well, there's no single story, right, it's a number
of stories. First it started taking off what twenty twenty three.
Clearly there is an element of geopolitical risk. Many central banks,
looking at the militarization or the weaponization of payments, are
basically saying, do I want all my reserves in developed
(01:45):
country currencies? Do I want something which I control directly?
So a movement to gold for that reason may have
started initially a lot of central banks moving to more gold,
but there are the reasons. I mean, what's the safe
acet if you look around the world. Certainly, if you
look at Japan, you know, huge amount of debt, probably
(02:09):
higher inflation than in the past, and interest rates really low.
Is that a place you want to put a lot
of money? In the Euro area, well, it's always been
a question of whether it's a cohesive unit, who's going
to bail the system out when there's a problem, And
of course the United States running large fiscal deficits you
know till the eye can see, So you know a
(02:30):
lot more questions about savee acets today, and that's the
second feature. Third of cause interest rates coming down, gold
is easier to hold. At that point, A bunch of
reasons why this is happening, I would say at this
point also that there is a fair amount of fraust,
so you can't completely discount the fact that gold prices
are probably moving along with the frauth as everything else.
Speaker 3 (02:55):
Was this something that was on your radar when you
were at the RBI. Head of the RBI, how did
you think of out reserve diversification?
Speaker 5 (03:02):
Then, well, yes, you do want to diversify your holdings.
The worry about your reserve assets and developed countries being
sequestered because of an angry president or prime minister wasn't
as big a concern, but there was definitely a view
that you needed some diversification. And you know, once you
(03:23):
get beyond the big reserve currencies, you know it's harder
to deal with the smaller countries. Gold is not liquid,
that is a problem. It sits on your bandsheet, but
if you want to transform it into something, it's sitting
in your walls. How do you convince the others that
it's a lot of countries have their gold in New
York or in London. There it's a question of moving
(03:44):
from one wall to another. But if it's in your
home country, it's harder. You need to rent a seven
four seven to take it elsewhere.
Speaker 2 (03:52):
Yeah, I was talking to someone last night who pointed
this out. You know, there's this for a long time,
the price of gold could sort of be model or
linked to real raids in some way, and there's a
sort of nice stable relationship. And they point out, you know,
if you really look at when the divergence occurred, is
not long after Russia's invasion of Ukraine, and of course
the seizure of Russian assets, which fits into what you're
(04:14):
talking about, which is that if you are, you know,
a reserve manager at a bank or whatever, did that
wake people up to the possibility that your fiat currency
that isn't some foreign central bank or some foreign entity
could just disappear one day in a way that your
own custodied gold cannot.
Speaker 6 (04:32):
I think it did.
Speaker 5 (04:33):
I think that's a strong reason you see the movement
starting in twenty two twenty three, it starts peaking up
more strongly. But it's also the willingness to weaponize a
lot of stuff. As you know, a number of countries
are trying to build alternatives to Swift, because Swift can
be weaponized. Now, these need not be your traditional sort
(04:57):
of quote unquote rogue countries, which you know have been
on the list of sanctions for a long time. This
could be any country which fears political change. I mean,
if Canada can turn out to be antagonistic to a
close neighbor, what about a country five thousand miles away.
So trust has broken down in the system, and that's
(05:19):
part of the reason why people are trying to build
alternatives which don't make them dependent. Payments are so crucial
you don't want to be dependent on any one country
that can change the nature of payments.
Speaker 3 (05:30):
So it feels like we're at this really weird juncture
where there's a lot of distrust in the system, a
lot of unpredictability around the behavior of the United States
in particular, and yet the US dollar and US treasuries
form the basis of the global financial system. How do
you see that evolving over time given some of these concerns,
(05:51):
given concerted efforts to for instance, create a new.
Speaker 5 (05:54):
Swift, Well, I think part of the reason is the
Tina factor. There is no alternative, right, The US market
is still the deepest market in the world, treasure markets
and so on. It is liquid. Many institutions operate here,
and yeah, people still trust the rule of law prevailing
in the US. Potentially, the fact that there's been so
(06:16):
much agonizing about the seizure of Russian reserves is actually
a good thing because it says that it doesn't happen
on a whim, that countries actually think about it and
then are finding ways that sort of look legal to
actually sequester them.
Speaker 6 (06:33):
And so I think that's to the good.
Speaker 5 (06:35):
Of course, fact that it's even questioned is what a
number of other countries worry about, that we may not
have control of those reserves.
Speaker 2 (06:44):
Speaking of dollar alternatives, there is no alternative, Okay, we
talk about gold. President Trump perceives the existence of this
entity called the bricks to be an assault on the
US dollar. You know, I always think it's pretty wild
that there is this entity that exists because O'Neill thought
it was a good acronym over twenty years ago. These
were gonna be growth markets. But like, how seriously should
(07:06):
we take this entity? What does it represent to you?
Is there a germ of something that could represent so
build something that is an alternative to the dollars.
Speaker 4 (07:14):
So how should we think about this this entity.
Speaker 5 (07:17):
Well, Jim O'Neil thought of it initially as this fast
growing group of countries and it has, I mean, there's
been differences across this group. China and India have grown
much faster than the rest, and of course China has
been spectacular in the early years of the brigs nomenclature.
Is there a cohesive structure there on some issues where
(07:40):
for example, it's sort of the emerging market collective against
the industrial country collective issues such as green transition, who
has responsibility? But again there's a lot of divergence. China
has much more of an industrial base than say India.
If you look at who emits you know most in
the world, it's China. So even on the green issue,
(08:02):
there is a divergence in opinion. I think with the
addition to bricks of all these countries like Iran and
so on, it becomes much less cohesive and seems much
more like a anti West kind of structure, which certainly
India doesn't subscribe to, which Brazil probably doesn't subscribe to.
Speaker 6 (08:23):
Again to the extent that some of the.
Speaker 5 (08:24):
Others, and of course within the bricks there are antagonisms, right,
India and China for the border conflict in twenty twenty.
So I think the sense that it is a cohesive group,
it's a talking place, the sense that they will come
together with a common currency, I mean, forget about it.
Speaker 6 (08:42):
That's not going to happen. May they build up a
payments system which is different.
Speaker 5 (08:47):
Yeah, I mean yeah, I'm happy as a country to
be part of five different payment systems.
Speaker 6 (08:53):
Gives me diversification.
Speaker 5 (08:54):
If somebody tries to put the squeeze on me, I
move to a different payment system.
Speaker 6 (08:58):
But does that mean I'm going to quote with a currency.
Probably not.
Speaker 3 (09:02):
So we started out talking about gold, which seems to
reach a record high every day.
Speaker 1 (09:07):
Now.
Speaker 3 (09:08):
Stocks are also still pretty high. I know we had
something of a correction recently, but yeah, for five minutes.
In general, things seem to be going relatively well for
equities as well, which is a very strange situation where
you have the safe haven asset going up along with
stocks still quite high. I know you famously presented a
(09:30):
paper at the two thousand and five Jackson Hole where
you talked about financial stability and risks that you saw
in the system, and I think Alan Greenspan wasn't very
nice about it at the time and probably lived on
to regret that. But when you look at the market landscape, now,
what risks do you see?
Speaker 2 (09:48):
Please say something equivalently historic, understand for our podcast, that's
all we're asking.
Speaker 5 (09:53):
Let me say something historic in the sense of talking
about history. Okay, look at every financial cris in the
last one hundred years, and there are a couple of
papers that have been written recently about it. If you
look at the monitary policy settings before those crises, they.
Speaker 6 (10:10):
Always have a U shape.
Speaker 5 (10:12):
Easy times that's when the risks build up. Tightening that's
when it starts crumbling and it falls apart.
Speaker 6 (10:20):
Okay.
Speaker 5 (10:21):
Whether that use shape is policy rates or whether it's
some kind of deviation from neutral, it's always accommodative followed
by tightening. That's when the financial collapse occurs. And the
more the credit in the easy phase, the worst it is. Okay,
that's what's been established post global financial crisis. And you
(10:42):
can see that shape before the global financial crisis, and
including in Europe where there were countries at the periphery
where the shape was more pronounced because they have higher inflation.
So the monitary policy setting was too loose for them
and countries at the core where it was much more
eq and so Germany France didn't have the kind of
(11:03):
financial crisis except through their lending to the peripheric countries,
as did the peripheric countries. So what does that tell us.
It tells us be really careful when you have a
long period of easing followed by tightening. Now immediate reaction. Well,
we had a tightening, nothing happened. Well, we had a
tightening after an enormous amount of spending by governments which
(11:25):
essentially took the debt up from the private sector. Banks
got bailed out, remember the provision at the beginning of
the pandemic. Nothing actually happened because things like the paycheck
prorection program gave them the money back. So we had
a lot of support from the public sector to the
private sector. And that's why when the tightening happened, barn
sheets weren't really adversely affected. But credit keeps growing, not
(11:51):
in the households but in the corporate sector. So we
haven't had a really strong tightening. Except remember in the
tightening phase, we had Silken Valley Bank, which was people
forget the largest crisis in terms of nominal losses in
the US banking system, and yet twenty two bank runs
at the same time as Silicon Valley Bank happened. Enormous
(12:14):
intervention by the FED to support the banking system, including
by pushing out reserves and back into the system and
giving people an easy way to borrow against full nominal
value of their liabilities. We forget that that was a
big crisis which we avoided because of intervention. Going forward,
you have a lot of frauth in the system. And
(12:36):
now we're talking about cutting rates, But we're talking about
cutting rates when inflation has been high for a reasonable
amount of time. It's plat road at three, it's still
nowhere near two. People are saying, is there a new
sort of target three?
Speaker 6 (12:50):
Not two?
Speaker 5 (12:51):
And you're seeing that demand is still strong, whether it
comes from resilient households, whether it comes from the AI boom,
whether it comes from government spending, even while supply in
the US is more constrained because of the immigration constraint
that is being put so strong demand weaker supply. Is
that really conducive to disinflation?
Speaker 6 (13:13):
Maybe not?
Speaker 5 (13:15):
And so what's the bottom line. You have a lot
of frauth in anticipation of further cuts, and you have
some risks that in fact it may go.
Speaker 6 (13:23):
The other way.
Speaker 5 (13:25):
And the system in many ways, whether it stocks, whether
it's leveraged in some parts of the system, as we've seen,
is priced for perfection.
Speaker 2 (13:49):
You hear from people that the FED and other officials
and like policy has been modestly restrictive, somewhat restrictive. But
as you just described, inflation is not close to to
it's closer to three percent. Obviously, risky assets are surging
even with some of the little like credit cockroaches. I
think Jimmie Diamond used that term like, actually spreads have
(14:11):
totally been fine. Do you think that term restrictive is
at all appropriate to describe the current stance of monetary
policy in the US.
Speaker 5 (14:18):
So restrictive is always in famous central bank speak relative
to an r star, And nobody knows what our star is,
what the equilibrium rate is. But if you think the
strong demand and somewhat more constraints supply, our star is
higher than it was historically. But look at another indicator.
And I know people sort of complain about financial conditions
(14:40):
indices and say what does it really mean? But look
at the Chicago Financial Conditions Index. You know, almost right
from the time of the FED raising interest rates, it
has actually been coming down, becoming more supportive rather than less.
So whatever the FED is saying about restrictive, yes, there's
one part where it's really restricted.
Speaker 6 (15:01):
Nobody is getting a mortgage today at these rates. That's
an exaggeration.
Speaker 5 (15:05):
But you're seeing the mortgage market is tight, so household
borrowing against houses is dead in the water. But everywhere
else look at credit spreads, they're really at historic lows.
And that's suggesting that we have a funny financial market,
which is actually quite frothy in many places. So I
worry about that, and I worry because central banks sort
(15:28):
of seem to say somebody else is going to take
care of financial stability. Where about inflation versus growth? And
when you talk about all the discussion about FED policy,
there's not a lot of talk about where the financial
markets are. And what I told you about the U
shape suggests we should be paying more attention because this
is the time the kind of vulnerabilities get created in
(15:51):
the frenzy. Maybe it is AI investment moving from being
financed internally to being financed by credit. Maybe it is
some of the credit standards that are building first brands,
as an example, is when the problems are built, and
we should keep that in mind.
Speaker 3 (16:08):
You know, you mentioned the investment boom that we're seeing,
and it does feel like AI related companies are spending
enormous amounts of money, are ranging some very interesting, somewhat
circular financing deals to each other with your central banker
hat on how should a central bank deal with inflationary
(16:30):
pressures that come from an investment boom versus, for instance,
some other type of boom in the system.
Speaker 5 (16:37):
Well, this is the great Austrian dilemma, right what the
Austrian economists used to call malinvestment. Is this malinvestment or
is this good investment? Almost surely if you draw the
parallel with say the telecom investment during the dot com boom,
some of this infrastructure will be used.
Speaker 6 (16:58):
Eventually, the AI will.
Speaker 5 (17:00):
Get good enough for many companies to use it and
improve productivity. I mean, we all know spectacular examples of
AI in our work, and Bloomberg sort of summarizes a
whole lot of stuff using AI. My turget writing becomes
much more accessible. When I say, you know, make this engaging.
I tell Chad GPT so there are ways that we
(17:23):
all think the promise of AI will eventually show up.
But it's that transition from when the infrastructure is created
to when people use it and pay for it, which
is the big issue, right because these are investments which
are large, which have high depreciation rates at this point,
and so they need the revenues in order to make
(17:45):
them justify the investment costs. And there I worry a
lot more. We've seen all these surveys saying companies, yeah,
they have that toe in the water, but are they
rolling out in a big way. Yeah, Goldman Sachs will
because it has really smart programmers and people capable of
doing that. The average company on the street is probably
(18:06):
not that advanced, and maybe it's not as much into
services etc. That it can employ it in such a
big way. It will come, But the pace is really important,
and the Austrians always talked about the fact that the
pace is critical. If the pace is much longer down
the line, at some point the markets realize that the
(18:28):
net present value of these investments are not that high,
especially if you add in that little piece about interest
rates being higher than being lower, or star being higher,
long rates therefore being higher and that would make the
present value of the revenues lower than we anticipate. So
I do worry that this investment is something that may prove.
Speaker 6 (18:52):
A little more elusive the returns. What does the central
Bank do about it? I think cautions.
Speaker 5 (18:58):
I think it tells the supers look for this kind
of lending, make sure that it is it is reasonable,
but it has to have an eye on the credit
expansion that is taking place and say, well, that's part
of my calculation as to whether we're really in a
boom time and whether I need to cut rates further.
So I would factor that into my rate decision, and
(19:21):
I presume that's part of what they're looking at.
Speaker 2 (19:24):
You know, we started this conversation and talk a little
bit about geopolitics, the seizure of Russian gold and other
sort of big, deep issues related to trust. Something I'm
very interested is not geopolitics but politics. I mean, we're
in DC right now where the government is currently shut
down with no imminent prospect as far as anyone knows,
of reopening. There are similar evident dysfunctions elsewhere in the
(19:48):
rich world. The complete collapse of the two party system
in the UK, for example, seems to be getting a
lot of attention when you think about, you know, the
sort of ability of central banks to do their job
to address concerns. How worried are you about the political
environment that buttresses the independence of the autonomy of these institutions.
Speaker 6 (20:10):
It's a great question, you know.
Speaker 5 (20:12):
The view about what distinguished developed countries from emerging markets
and developing countries was always is the institutions, and Trio
won the Nobel Prize for it. Last here, the developed
countries have strong institutions. The developing and emerging markets don't
(20:33):
have strong institutions. So was the prescription for development, build
the institutions.
Speaker 4 (20:39):
It's that simple. Just build good institutions, was the change.
Speaker 6 (20:42):
It didn't work.
Speaker 5 (20:44):
You put in, you know, inflation targeting regimes in other countries,
maybe politicians got into the act, pushed the center bank.
Didn't work as well. What worked was getting the politics right,
consensus amongst the parties in a country that this was
the way to develop. Let's not go to the extremes
on spending. Let us, you know, have a much more
(21:06):
modest spending program.
Speaker 6 (21:08):
Let's bring inflation in check. Let's give the.
Speaker 5 (21:11):
Central bank its independence. Okay, When the politics became more
conducive to macroeconomic stability the institutions naturally developed. I would
argue that in Brazil it was a combination of the
parties deciding that we don't want to go the old way.
So Cardoso is the guy who brought in inflation targeting,
(21:34):
but it was Lula who appointed governors who would continue
that rather than reversing it as soon as he came
into power. That combination right left combination, which built into
the consensus, gave Brazil a strong institution, the Central Bank,
which actually carries it through and has carried it through.
We're not seeing the kind of inflation in Brazil that
(21:55):
we're seeing in Argentina. Brazil broke from.
Speaker 6 (21:57):
The back, and I think you can see this again and.
Speaker 5 (22:00):
Gain in many emerging markets. Why am I telling the
story because our confidence in industrial country institutions should be
directly proportional to our confidence in the politics being consensual.
And that consensus, as you say, has broken down in
part because parties of the extreme left and the extreme
right are looking more appealing than parties at the center
(22:22):
because they offer unorthodox solutions. Solutions we've tried before in history,
often when not work. But it's time to try them
again because we haven't seen them not work recently. Let's
try the old experiment again, shut down the economy and
see what happens. So my sense is that we blame
it on the institutions not being strong enough. These institutions
(22:44):
are as strong as we can make them, but it's
the politics that has to support them. When the center
bank is assaulted at every corner by the administration, there
is no set of structures can protect it, and almost
surely it will bend. It is naturally, you know, you
(23:06):
protect the tenure of the central bank governor or the.
Speaker 6 (23:09):
Chairman, that's not going to help.
Speaker 5 (23:11):
If you can affect its finances, you can affect who's
appointed next. There's so many levers the government has, so
institutions cannot be made fully independent. They will always bend.
And that's what we're saying. It's the politics that has changed,
not so much the institution.
Speaker 3 (23:31):
Is there anything a central bank can do to, if
not be fully independent, at least protect its ability to
say no.
Speaker 5 (23:39):
Well, I think ultimately it comes down to the integrity
and the backbone of the people there. They can try
and be as persuasive as they can, but there's some battles.
They really have to fight and say, look, you know
I've tried. You said no, no, no, It's my turn
to say no. And that can take you a little
way because you have some institution protection, not a whole lot.
(24:02):
I think cheer Powell has in this country has done
as good a job as could be expected from anyone.
He has had the integrity, had the backbone, has ignored
all the slights and the arrows that have come his way.
Speaker 6 (24:17):
But there's only so much he can do.
Speaker 4 (24:19):
And actually the term expires.
Speaker 6 (24:21):
One of his term expires. But he also has to
keep an eye center.
Speaker 5 (24:25):
Banks have to play out the politics also without being
elected politicians. What would be harmful for the FED is
if it becomes obvious that the Fed sort of created
a recession. They're being set up in a sense to
be the four guys if there is a recession, and
(24:46):
that is why you ben, because you don't want to
be the guys who held rates so high that there.
But that comes at the cost of potentially sort of
weighing the risks on both sides and maybe cutting when
inflation is still a much bigger issue in other times,
you might be more resistant to these cuts.
Speaker 4 (25:08):
I was gonna ask.
Speaker 2 (25:09):
Is the fact that, again the FED would never say
that we're comfortable at two point five. They're never gonna
officially say that. But the facto, you look at that
line and it came down quite a bit from its
peak in twenty twenty two or whenever that was. So
they made a lot of progress, but it sort of
stalled out. That gap between where they are now and
what the official goal is to some extent is that
(25:31):
itself an indication of the political change that extra mile
or whatever it is, is not worth it in this environment.
Speaker 5 (25:39):
First, I agree with you, they will never say that
extra mile is not whether and I don't think it's
in front and center of their mind. They think that.
I do think they believe that the risks are more
towards economic weakness. Now, of course, we don't know whether
the weak jobs numbers are because of demand or supply,
and that's still an open question. When we get the
(26:02):
jobs data, etc. We're going to look at it more closely.
Companies are not firing, they're also not hiring, and maybe
they don't at this point productively gains, etc. So it's
still an open question whether.
Speaker 6 (26:13):
There's economic weakness.
Speaker 5 (26:15):
I think the FED is putting some weight on that. Now,
what I'm arguing is maybe they're putting more weight on
that because back of their mind, it's also this view
that they don't want the FED to be blamed for
a recession. This is the wrong time to have a
FED created recession. From the larger institutional perspective. Again, there's
not front of mind. This is back of mind, and
(26:37):
you would keep that in mind. So yeah, it's not
that they say three percent is okay. They would love
to go towards two. It's just which risk is bigger
right now.
Speaker 3 (27:04):
When you were at the RBI and you had to
make the decision basically are you going to try to
get control of inflation or are you going to focus
on short term growth? At that time, what were the
sort of political considerations going through your mind.
Speaker 5 (27:20):
Well, they made very clear to you what the political
considerations are. The politicians always want lower interest rates. They
hear it from the industrialists, they hear it from every constituency.
And while I was at the RBI, we didn't have
an inflation committee, which is what I pushed, and we
got that over my term.
Speaker 6 (27:40):
But I was always making the decision.
Speaker 5 (27:42):
The problem when you're making the decision is that there's
a single point of contact for people to pressure. And
so I heard it from a lot of politicians, this
is what we like. What you have to tell them is, look, yeah,
that's what you like, but you also like low inflation.
And in order to get low inflation, I have to
be more restrictive, and as soon as I can, I
(28:04):
will reduce rates. But believe me, at this point it's
not in your interest for me to do it. And
they respect that when you explain it to them very
carefully and you say, look, they would push you, but
if you succumb, you bear the entire blame because they
will say, you know, he could have said no, and
(28:26):
of course what would happen if he said no.
Speaker 6 (28:29):
We don't know.
Speaker 5 (28:29):
But you are meant to be their protection and it's
important you recognize that and have the backbone to stand
up now. Fortunately, and you have this very long title
for me. Initially I had a tenured position in academia,
so I could say no and you know.
Speaker 6 (28:46):
Lose my job.
Speaker 5 (28:47):
I go back to a position in academia. Many civil
servants don't have that luxury, but that gives you back
moon the fact that you can say No, is very
very important, and you know Powell has that he doesn't
need the job, he doesn't need the money. He obviously
cares about doing a good job for the country, and
he cares about his legacy. So I think it's good
(29:10):
to be that way. Less good if you're a careerist
and appointed precisely because you've said yes.
Speaker 2 (29:17):
I have an Indian economy related question that's a little
bit sideways from central banking and macro. There is a
lot of fantasizing or dreaming or hoping that India could
be a manufacturing center. That's sort of another gravitational poll
that's separate from China. I'm sure Apple they're doing a lot,
but they would love to have more of their sort
(29:38):
of advanced production in India. There's moving some final assembly.
What are the main constraints? How realistic in your view
is that prospect that there could be a meaningful shift
of supply chains to India outside of China.
Speaker 5 (29:52):
India has made changes over the last decade or so
in terms of infrastructurectually started before the Global Financial crisis.
The Global financial crisis interrupted that process, but if you
look at Indian infrastructure today, it's come a long way
from the Indian.
Speaker 6 (30:09):
Infrastructure of old.
Speaker 5 (30:11):
Look at the Indian airports. I mean they're as good
as the best in the world, certainly in the major cities,
but across railways improving their ability to freight. There are
some private sector ports which have the efficiency that posts
elsewhere in the world have. So infrastructure great job makes
it much easier. Still some issues to be ironed out.
(30:33):
Power is an issue that needs to be more fixing.
But green power is a big, big growth area and
that contributes a lot to the par grad Lots of
positives some states. India is not a uniform country. The
South and the West are more developed, more advanced in
terms of labor capabilities, a lot of manufacturing coming there.
(30:54):
I sort of advise the state of tham Nada. There's
a lot of Asian manufacturing which is coming. Crocs opening
up plant there. We have Fox Gone etc. A lot
of them looking at Indian women, discipline, workforce, educated and
they want them to work in their factories. So that's
the good news. India still has, you know, issues with bureaucracy.
(31:18):
It has issues with taxation. We need to make the
taxation much more predictable. It has still issues with Yes,
there are a strong group of Indian engineers that you
can do to improve engineering. This is why the whole
number of companies are starting what they call global Capability
centers in India to do.
Speaker 6 (31:38):
Their R and D.
Speaker 5 (31:40):
But getting high school educated, good quality workers, you've got
to go to the South and the West because they're
not so available in other parts.
Speaker 6 (31:48):
Of the countries. So India has to work harder there.
If we didn't have.
Speaker 5 (31:52):
The kind of tariffs that the US put on India,
it would look a lot more attractive. I think they're
working on it. You know, there's some good news emerging
on Indian purchases of Russian oil and so on, so
I think there will be a deal done. India could
well be one of the alternatives to China. But is
there a place for a one point four billion country
(32:14):
even as China stays in manufacturing with a one point
four billion population. Probably not, And that's where India is
going to be much more focused on services. We have
to see what AI does there. But Indian services is
the positive growth story for India. India now accounts for
about four and a half percent of service exports in
the world, and that's growing really fast. Indian service exports
(32:37):
are on power with Indian manufacturing exports. So it's something
that I think you will look to more. You know,
where's the labor arbestrage today? It's not in your low
skilled worker, it's in your high skilled worker. And Indian
MBA costs you fifty thousand dollars from the best schools
in India, a US NBA who whom I teach, costs
(32:58):
you about five times that amount. That's where the labor
arbitrage is because today you can employ that worker there
and give a presentation to your client here.
Speaker 6 (33:08):
That's what the pandemic did.
Speaker 5 (33:09):
That's why services are exploding.
Speaker 3 (33:12):
Since you mentioned tariffs and we were talking about manufacturing,
what responsibility, if any, and what ability does the central
bank in India have to offset the impact of the tariffs.
Speaker 5 (33:24):
This is true of central banks everywhere right. The tariff,
since it's largely set by the US and others haven't
joined in yet, is a demand shock for the rest
of the world. They're not seeing as much in terms
of demand in the US, and is a supply shock
for the US. So that's another reason why inflation may
be higher in the US where our star is sort
(33:46):
of higher and for the rest of the world, it's
an opportunity to lower lower rates. And I mean, if
you look at Indian inflation, it's been lower than anticipated. Again,
I usually don't comment to Indian monasty policy. People think
I know more than I.
Speaker 6 (34:02):
Do, and I don't.
Speaker 5 (34:04):
But across the world, I think there's more scope for
the central banks to come in. I would still say
that you do need to look at you know, Froth,
more so in the US where the frauth seems to
be more pronounced, but certainly I mean, Japan is a
place where inflation is picking up and people are getting
(34:24):
more antsy about inflation, and central bank has sort of
stayed a little behind the curve to make sure that
it is sustained inflation. At some point it will have
to react. So but barring that, most of the countries
have room to actually cut rates.
Speaker 2 (34:38):
Let's actually let's go back to Froth with our a
few minutes left. You mentioned the sort of risks that
emerge when the central bank isn't cutting them out at
a time when financial conditions are already loose, et cetera.
Speaker 4 (34:50):
Push that forward a little bit.
Speaker 2 (34:51):
If there is some event something bad happens, it's not
going to look like two thousand and eight. Most likely,
the balance sheets of households are allow stronger. Banks seem
to be much stronger.
Speaker 6 (35:02):
Than they were.
Speaker 2 (35:02):
Where would you look for something actually bad emerging out
of this sort of cocktail that you described.
Speaker 5 (35:10):
That's a great question because leverage, So the dot com
bust wasn't as big a deal. Yeah, and that's what
gave the FED confidence. You remember the Alan Greenspan speech
in two thousand and four. Effectively, we can't predict bubbles,
what's the bubble and what's not when it's building, but
we can pick up the pieces when it bursts, and
(35:32):
so therefore we're not going to try and.
Speaker 6 (35:34):
You know, ward off bubbles.
Speaker 5 (35:35):
This is despite his Irrational Exuberance speech, which was precient,
but it didn't act on it. Right, he made that
speech in ninety six. Now, the point I'm trying to
make is it's leverage which kills because leverage then transmits
through the system. The one hundred billion in subprime mortgage
backed securities that were to.
Speaker 6 (35:56):
That was what that's the problem.
Speaker 5 (35:59):
We don't so I can tell you the candidates. There's
been a huge increase in private credit. There is a
huge increase in low quality bonds without the bond covenants,
and the kind of credit events and the what's the
violence on creditors that's happening.
Speaker 6 (36:16):
How much of that?
Speaker 5 (36:18):
But it also depends on who holds them. Are these
entities that have runnable claims? Are these entities that a
lot of other borrows depend on, so that when they
shut down, somebody gets cut out of the market, and
then there's this sequence of defaults. Is there a contagion
built in somewhere? So if you look at the two
(36:39):
thousand and eight seven eight crisis, when did the problems
really build up?
Speaker 6 (36:43):
In five six seven?
Speaker 5 (36:44):
And John Taylor sort of has this graph showing that
the FED policy was too easy, should have raised rates
much more at that point according.
Speaker 6 (36:52):
To the tailor rule.
Speaker 5 (36:54):
One can debate that, and Bernanke has debated that. But
the point is the problems emerge in the time of
too easy money before it collapses. So we are in
that period when things look really good, the future looks
infinitely rosy, and this is where you know you can
see that that credit standards may may weaken. Banks have
(37:16):
a lot of money that they want to lend. They
are lending to the guys who pass the private credit
on and so there's a lot of exposure there. You know,
the IMF came out with some statements yesterday that a
whole bunch of banks that Tier one capital would be
wiped out if there was serious defaults in the private
credit industry. So lots of connections, building frauth, a huge
(37:40):
technology which promises in finite bounty. These are all worrisome signs.
Does it have to lead to a bus No. But
there's a famous paper in two thousand and two by
Claudia Boio and Philip Low, who became Governor of the
Reserve Bank of Australia, which basically says the combination to
warry is an increasing asset prices and an increase in
(38:03):
credit when you see both run for the hills. So
we're seeing that emerging.
Speaker 3 (38:10):
Shall I try one more time to get that headline
very very quickly? Is private credit your candidate for an
upcoming financial blow up?
Speaker 4 (38:19):
No?
Speaker 6 (38:19):
Would?
Speaker 5 (38:19):
I would say it's a combination of the untested private
credit and the fact that we have huge hopes built
into the future and are investing accordingly. It's that combination
credit plus asset prices. We seem to project a glorious future,
which I worry about.
Speaker 6 (38:41):
Again.
Speaker 5 (38:41):
It's not a certainty about a blow up, but it's
a cost for worry.
Speaker 4 (38:44):
And you also said run for the hills. I'm going
to make that.
Speaker 2 (38:47):
I'm going to make the twit rug around Roger, and
thank you so much for doing this. Really appreciate getting
the chance to chat it.
Speaker 3 (39:08):
All right. That was our episode with ragu Rejon, recorded
live in front of an audience at the annual IIF
meetings in Washington, DC. This has been another episode of
the Authoughs podcast. I'm Tracy Alloway. You can follow me
at Tracy Alloway.
Speaker 2 (39:22):
And I'm Jill Wisenthal. You can follow me at the Stalwart.
Follow our producers Carmen Rodriguez at Carman armand Dashel Bennett
at Dashbot and Kelbrooks at Keilbrooks. From our odd Lots content,
go to Bloomberg dot com slash odd Lots with the
daily newsletter and all of our episodes, and you can
chat about all of these topics twenty four to seven
in our discord Discord dot gg slash od lots and if.
Speaker 3 (39:43):
You enjoy ad thoughts, if you like it when we
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Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2 (00:18):
Hello and welcome to another episode of the Odd Lots podcast.
Speaker 3 (00:22):
I'm Joe Wassenthal and I'm Tracy Alloway.
Speaker 2 (00:24):
Today listeners get a special live episode of the podcast
that we were recorded in Washington, DC at the annual
meeting for the Institute for International Finance.
Speaker 3 (00:33):
That's right. We spoke with Ragoram Rajan. He is a
professor at the University of Chicago Booth School of Business
and of course the former head of India's Central Bank,
and he is exactly the person you want to talk
to when everyone seems to be talking about risks in
the market.
Speaker 2 (00:49):
That's right, of course, and we bring it up in
the conversation. He was sort of famous for being one
of the early pupil to warn in I Guess two
thousand and five about brewing risks of the financial system.
So we talked about what's behind the surgeon gold, what's
going on with central banks, and how seriously they're taking inflation,
speculative fervor and frenzy in the market. All of the
(01:10):
things that are relevant right now.
Speaker 4 (01:12):
So take a list.
Speaker 2 (01:14):
Let's get started. Why is gold up so much? Let's
start with the really important question, What is your story
or theory behind the seemingly NonStop demand for gold?
Speaker 5 (01:24):
Right, Well, there's no single story, right, it's a number
of stories. First it started taking off what twenty twenty three.
Clearly there is an element of geopolitical risk. Many central banks,
looking at the militarization or the weaponization of payments, are
basically saying, do I want all my reserves in developed
(01:45):
country currencies? Do I want something which I control directly?
So a movement to gold for that reason may have
started initially a lot of central banks moving to more gold,
but there are the reasons. I mean, what's the safe
acet if you look around the world. Certainly, if you
look at Japan, you know, huge amount of debt, probably
(02:09):
higher inflation than in the past, and interest rates really low.
Is that a place you want to put a lot
of money? In the Euro area, well, it's always been
a question of whether it's a cohesive unit, who's going
to bail the system out when there's a problem, And
of course the United States running large fiscal deficits you
know till the eye can see, So you know a
(02:30):
lot more questions about savee acets today, and that's the
second feature. Third of cause interest rates coming down, gold
is easier to hold. At that point, A bunch of
reasons why this is happening, I would say at this
point also that there is a fair amount of fraust,
so you can't completely discount the fact that gold prices
are probably moving along with the frauth as everything else.
Speaker 3 (02:55):
Was this something that was on your radar when you
were at the RBI. Head of the RBI, how did
you think of out reserve diversification?
Speaker 5 (03:02):
Then, well, yes, you do want to diversify your holdings.
The worry about your reserve assets and developed countries being
sequestered because of an angry president or prime minister wasn't
as big a concern, but there was definitely a view
that you needed some diversification. And you know, once you
(03:23):
get beyond the big reserve currencies, you know it's harder
to deal with the smaller countries. Gold is not liquid,
that is a problem. It sits on your bandsheet, but
if you want to transform it into something, it's sitting
in your walls. How do you convince the others that
it's a lot of countries have their gold in New
York or in London. There it's a question of moving
(03:44):
from one wall to another. But if it's in your
home country, it's harder. You need to rent a seven
four seven to take it elsewhere.
Speaker 2 (03:52):
Yeah, I was talking to someone last night who pointed
this out. You know, there's this for a long time,
the price of gold could sort of be model or
linked to real raids in some way, and there's a
sort of nice stable relationship. And they point out, you know,
if you really look at when the divergence occurred, is
not long after Russia's invasion of Ukraine, and of course
the seizure of Russian assets, which fits into what you're
(04:14):
talking about, which is that if you are, you know,
a reserve manager at a bank or whatever, did that
wake people up to the possibility that your fiat currency
that isn't some foreign central bank or some foreign entity
could just disappear one day in a way that your
own custodied gold cannot.
Speaker 6 (04:32):
I think it did.
Speaker 5 (04:33):
I think that's a strong reason you see the movement
starting in twenty two twenty three, it starts peaking up
more strongly. But it's also the willingness to weaponize a
lot of stuff. As you know, a number of countries
are trying to build alternatives to Swift, because Swift can
be weaponized. Now, these need not be your traditional sort
(04:57):
of quote unquote rogue countries, which you know have been
on the list of sanctions for a long time. This
could be any country which fears political change. I mean,
if Canada can turn out to be antagonistic to a
close neighbor, what about a country five thousand miles away.
So trust has broken down in the system, and that's
(05:19):
part of the reason why people are trying to build
alternatives which don't make them dependent. Payments are so crucial
you don't want to be dependent on any one country
that can change the nature of payments.
Speaker 3 (05:30):
So it feels like we're at this really weird juncture
where there's a lot of distrust in the system, a
lot of unpredictability around the behavior of the United States
in particular, and yet the US dollar and US treasuries
form the basis of the global financial system. How do
you see that evolving over time given some of these concerns,
(05:51):
given concerted efforts to for instance, create a new.
Speaker 5 (05:54):
Swift, Well, I think part of the reason is the
Tina factor. There is no alternative, right, The US market
is still the deepest market in the world, treasure markets
and so on. It is liquid. Many institutions operate here,
and yeah, people still trust the rule of law prevailing
in the US. Potentially, the fact that there's been so
(06:16):
much agonizing about the seizure of Russian reserves is actually
a good thing because it says that it doesn't happen
on a whim, that countries actually think about it and
then are finding ways that sort of look legal to
actually sequester them.
Speaker 6 (06:33):
And so I think that's to the good.
Speaker 5 (06:35):
Of course, fact that it's even questioned is what a
number of other countries worry about, that we may not
have control of those reserves.
Speaker 2 (06:44):
Speaking of dollar alternatives, there is no alternative, Okay, we
talk about gold. President Trump perceives the existence of this
entity called the bricks to be an assault on the
US dollar. You know, I always think it's pretty wild
that there is this entity that exists because O'Neill thought
it was a good acronym over twenty years ago. These
were gonna be growth markets. But like, how seriously should
(07:06):
we take this entity? What does it represent to you?
Is there a germ of something that could represent so
build something that is an alternative to the dollars.
Speaker 4 (07:14):
So how should we think about this this entity.
Speaker 5 (07:17):
Well, Jim O'Neil thought of it initially as this fast
growing group of countries and it has, I mean, there's
been differences across this group. China and India have grown
much faster than the rest, and of course China has
been spectacular in the early years of the brigs nomenclature.
Is there a cohesive structure there on some issues where
(07:40):
for example, it's sort of the emerging market collective against
the industrial country collective issues such as green transition, who
has responsibility? But again there's a lot of divergence. China
has much more of an industrial base than say India.
If you look at who emits you know most in
the world, it's China. So even on the green issue,
(08:02):
there is a divergence in opinion. I think with the
addition to bricks of all these countries like Iran and
so on, it becomes much less cohesive and seems much
more like a anti West kind of structure, which certainly
India doesn't subscribe to, which Brazil probably doesn't subscribe to.
Speaker 6 (08:23):
Again to the extent that some of the.
Speaker 5 (08:24):
Others, and of course within the bricks there are antagonisms, right,
India and China for the border conflict in twenty twenty.
So I think the sense that it is a cohesive group,
it's a talking place, the sense that they will come
together with a common currency, I mean, forget about it.
Speaker 6 (08:42):
That's not going to happen. May they build up a
payments system which is different.
Speaker 5 (08:47):
Yeah, I mean yeah, I'm happy as a country to
be part of five different payment systems.
Speaker 6 (08:53):
Gives me diversification.
Speaker 5 (08:54):
If somebody tries to put the squeeze on me, I
move to a different payment system.
Speaker 6 (08:58):
But does that mean I'm going to quote with a currency.
Probably not.
Speaker 3 (09:02):
So we started out talking about gold, which seems to
reach a record high every day.
Speaker 1 (09:07):
Now.
Speaker 3 (09:08):
Stocks are also still pretty high. I know we had
something of a correction recently, but yeah, for five minutes.
In general, things seem to be going relatively well for
equities as well, which is a very strange situation where
you have the safe haven asset going up along with
stocks still quite high. I know you famously presented a
(09:30):
paper at the two thousand and five Jackson Hole where
you talked about financial stability and risks that you saw
in the system, and I think Alan Greenspan wasn't very
nice about it at the time and probably lived on
to regret that. But when you look at the market landscape, now,
what risks do you see?
Speaker 2 (09:48):
Please say something equivalently historic, understand for our podcast, that's
all we're asking.
Speaker 5 (09:53):
Let me say something historic in the sense of talking
about history. Okay, look at every financial cris in the
last one hundred years, and there are a couple of
papers that have been written recently about it. If you
look at the monitary policy settings before those crises, they.
Speaker 6 (10:10):
Always have a U shape.
Speaker 5 (10:12):
Easy times that's when the risks build up. Tightening that's
when it starts crumbling and it falls apart.
Speaker 6 (10:20):
Okay.
Speaker 5 (10:21):
Whether that use shape is policy rates or whether it's
some kind of deviation from neutral, it's always accommodative followed
by tightening. That's when the financial collapse occurs. And the
more the credit in the easy phase, the worst it is. Okay,
that's what's been established post global financial crisis. And you
(10:42):
can see that shape before the global financial crisis, and
including in Europe where there were countries at the periphery
where the shape was more pronounced because they have higher inflation.
So the monitary policy setting was too loose for them
and countries at the core where it was much more
eq and so Germany France didn't have the kind of
(11:03):
financial crisis except through their lending to the peripheric countries,
as did the peripheric countries. So what does that tell us.
It tells us be really careful when you have a
long period of easing followed by tightening. Now immediate reaction. Well,
we had a tightening, nothing happened. Well, we had a
tightening after an enormous amount of spending by governments which
(11:25):
essentially took the debt up from the private sector. Banks
got bailed out, remember the provision at the beginning of
the pandemic. Nothing actually happened because things like the paycheck
prorection program gave them the money back. So we had
a lot of support from the public sector to the
private sector. And that's why when the tightening happened, barn
sheets weren't really adversely affected. But credit keeps growing, not
(11:51):
in the households but in the corporate sector. So we
haven't had a really strong tightening. Except remember in the
tightening phase, we had Silken Valley Bank, which was people
forget the largest crisis in terms of nominal losses in
the US banking system, and yet twenty two bank runs
at the same time as Silicon Valley Bank happened. Enormous
(12:14):
intervention by the FED to support the banking system, including
by pushing out reserves and back into the system and
giving people an easy way to borrow against full nominal
value of their liabilities. We forget that that was a
big crisis which we avoided because of intervention. Going forward,
you have a lot of frauth in the system. And
(12:36):
now we're talking about cutting rates, But we're talking about
cutting rates when inflation has been high for a reasonable
amount of time. It's plat road at three, it's still
nowhere near two. People are saying, is there a new
sort of target three?
Speaker 6 (12:50):
Not two?
Speaker 5 (12:51):
And you're seeing that demand is still strong, whether it
comes from resilient households, whether it comes from the AI boom,
whether it comes from government spending, even while supply in
the US is more constrained because of the immigration constraint
that is being put so strong demand weaker supply. Is
that really conducive to disinflation?
Speaker 6 (13:13):
Maybe not?
Speaker 5 (13:15):
And so what's the bottom line. You have a lot
of frauth in anticipation of further cuts, and you have
some risks that in fact it may go.
Speaker 6 (13:23):
The other way.
Speaker 5 (13:25):
And the system in many ways, whether it stocks, whether
it's leveraged in some parts of the system, as we've seen,
is priced for perfection.
Speaker 2 (13:49):
You hear from people that the FED and other officials
and like policy has been modestly restrictive, somewhat restrictive. But
as you just described, inflation is not close to to
it's closer to three percent. Obviously, risky assets are surging
even with some of the little like credit cockroaches. I
think Jimmie Diamond used that term like, actually spreads have
(14:11):
totally been fine. Do you think that term restrictive is
at all appropriate to describe the current stance of monetary
policy in the US.
Speaker 5 (14:18):
So restrictive is always in famous central bank speak relative
to an r star, And nobody knows what our star is,
what the equilibrium rate is. But if you think the
strong demand and somewhat more constraints supply, our star is
higher than it was historically. But look at another indicator.
And I know people sort of complain about financial conditions
(14:40):
indices and say what does it really mean? But look
at the Chicago Financial Conditions Index. You know, almost right
from the time of the FED raising interest rates, it
has actually been coming down, becoming more supportive rather than less.
So whatever the FED is saying about restrictive, yes, there's
one part where it's really restricted.
Speaker 6 (15:01):
Nobody is getting a mortgage today at these rates. That's
an exaggeration.
Speaker 5 (15:05):
But you're seeing the mortgage market is tight, so household
borrowing against houses is dead in the water. But everywhere
else look at credit spreads, they're really at historic lows.
And that's suggesting that we have a funny financial market,
which is actually quite frothy in many places. So I
worry about that, and I worry because central banks sort
(15:28):
of seem to say somebody else is going to take
care of financial stability. Where about inflation versus growth? And
when you talk about all the discussion about FED policy,
there's not a lot of talk about where the financial
markets are. And what I told you about the U
shape suggests we should be paying more attention because this
is the time the kind of vulnerabilities get created in
(15:51):
the frenzy. Maybe it is AI investment moving from being
financed internally to being financed by credit. Maybe it is
some of the credit standards that are building first brands,
as an example, is when the problems are built, and
we should keep that in mind.
Speaker 3 (16:08):
You know, you mentioned the investment boom that we're seeing,
and it does feel like AI related companies are spending
enormous amounts of money, are ranging some very interesting, somewhat
circular financing deals to each other with your central banker
hat on how should a central bank deal with inflationary
(16:30):
pressures that come from an investment boom versus, for instance,
some other type of boom in the system.
Speaker 5 (16:37):
Well, this is the great Austrian dilemma, right what the
Austrian economists used to call malinvestment. Is this malinvestment or
is this good investment? Almost surely if you draw the
parallel with say the telecom investment during the dot com boom,
some of this infrastructure will be used.
Speaker 6 (16:58):
Eventually, the AI will.
Speaker 5 (17:00):
Get good enough for many companies to use it and
improve productivity. I mean, we all know spectacular examples of
AI in our work, and Bloomberg sort of summarizes a
whole lot of stuff using AI. My turget writing becomes
much more accessible. When I say, you know, make this engaging.
I tell Chad GPT so there are ways that we
(17:23):
all think the promise of AI will eventually show up.
But it's that transition from when the infrastructure is created
to when people use it and pay for it, which
is the big issue, right because these are investments which
are large, which have high depreciation rates at this point,
and so they need the revenues in order to make
(17:45):
them justify the investment costs. And there I worry a
lot more. We've seen all these surveys saying companies, yeah,
they have that toe in the water, but are they
rolling out in a big way. Yeah, Goldman Sachs will
because it has really smart programmers and people capable of
doing that. The average company on the street is probably
(18:06):
not that advanced, and maybe it's not as much into
services etc. That it can employ it in such a
big way. It will come, But the pace is really important,
and the Austrians always talked about the fact that the
pace is critical. If the pace is much longer down
the line, at some point the markets realize that the
(18:28):
net present value of these investments are not that high,
especially if you add in that little piece about interest
rates being higher than being lower, or star being higher,
long rates therefore being higher and that would make the
present value of the revenues lower than we anticipate. So
I do worry that this investment is something that may prove.
Speaker 6 (18:52):
A little more elusive the returns. What does the central
Bank do about it? I think cautions.
Speaker 5 (18:58):
I think it tells the supers look for this kind
of lending, make sure that it is it is reasonable,
but it has to have an eye on the credit
expansion that is taking place and say, well, that's part
of my calculation as to whether we're really in a
boom time and whether I need to cut rates further.
So I would factor that into my rate decision, and
(19:21):
I presume that's part of what they're looking at.
Speaker 2 (19:24):
You know, we started this conversation and talk a little
bit about geopolitics, the seizure of Russian gold and other
sort of big, deep issues related to trust. Something I'm
very interested is not geopolitics but politics. I mean, we're
in DC right now where the government is currently shut
down with no imminent prospect as far as anyone knows,
of reopening. There are similar evident dysfunctions elsewhere in the
(19:48):
rich world. The complete collapse of the two party system
in the UK, for example, seems to be getting a
lot of attention when you think about, you know, the
sort of ability of central banks to do their job
to address concerns. How worried are you about the political
environment that buttresses the independence of the autonomy of these institutions.
Speaker 6 (20:10):
It's a great question, you know.
Speaker 5 (20:12):
The view about what distinguished developed countries from emerging markets
and developing countries was always is the institutions, and Trio
won the Nobel Prize for it. Last here, the developed
countries have strong institutions. The developing and emerging markets don't
(20:33):
have strong institutions. So was the prescription for development, build
the institutions.
Speaker 4 (20:39):
It's that simple. Just build good institutions, was the change.
Speaker 6 (20:42):
It didn't work.
Speaker 5 (20:44):
You put in, you know, inflation targeting regimes in other countries,
maybe politicians got into the act, pushed the center bank.
Didn't work as well. What worked was getting the politics right,
consensus amongst the parties in a country that this was
the way to develop. Let's not go to the extremes
on spending. Let us, you know, have a much more
(21:06):
modest spending program.
Speaker 6 (21:08):
Let's bring inflation in check. Let's give the.
Speaker 5 (21:11):
Central bank its independence. Okay, When the politics became more
conducive to macroeconomic stability the institutions naturally developed. I would
argue that in Brazil it was a combination of the
parties deciding that we don't want to go the old way.
So Cardoso is the guy who brought in inflation targeting,
(21:34):
but it was Lula who appointed governors who would continue
that rather than reversing it as soon as he came
into power. That combination right left combination, which built into
the consensus, gave Brazil a strong institution, the Central Bank,
which actually carries it through and has carried it through.
We're not seeing the kind of inflation in Brazil that
(21:55):
we're seeing in Argentina. Brazil broke from.
Speaker 6 (21:57):
The back, and I think you can see this again and.
Speaker 5 (22:00):
Gain in many emerging markets. Why am I telling the
story because our confidence in industrial country institutions should be
directly proportional to our confidence in the politics being consensual.
And that consensus, as you say, has broken down in
part because parties of the extreme left and the extreme
right are looking more appealing than parties at the center
(22:22):
because they offer unorthodox solutions. Solutions we've tried before in history,
often when not work. But it's time to try them
again because we haven't seen them not work recently. Let's
try the old experiment again, shut down the economy and
see what happens. So my sense is that we blame
it on the institutions not being strong enough. These institutions
(22:44):
are as strong as we can make them, but it's
the politics that has to support them. When the center
bank is assaulted at every corner by the administration, there
is no set of structures can protect it, and almost
surely it will bend. It is naturally, you know, you
(23:06):
protect the tenure of the central bank governor or the.
Speaker 6 (23:09):
Chairman, that's not going to help.
Speaker 5 (23:11):
If you can affect its finances, you can affect who's
appointed next. There's so many levers the government has, so
institutions cannot be made fully independent. They will always bend.
And that's what we're saying. It's the politics that has changed,
not so much the institution.
Speaker 3 (23:31):
Is there anything a central bank can do to, if
not be fully independent, at least protect its ability to
say no.
Speaker 5 (23:39):
Well, I think ultimately it comes down to the integrity
and the backbone of the people there. They can try
and be as persuasive as they can, but there's some battles.
They really have to fight and say, look, you know
I've tried. You said no, no, no, It's my turn
to say no. And that can take you a little
way because you have some institution protection, not a whole lot.
(24:02):
I think cheer Powell has in this country has done
as good a job as could be expected from anyone.
He has had the integrity, had the backbone, has ignored
all the slights and the arrows that have come his way.
Speaker 6 (24:17):
But there's only so much he can do.
Speaker 4 (24:19):
And actually the term expires.
Speaker 6 (24:21):
One of his term expires. But he also has to
keep an eye center.
Speaker 5 (24:25):
Banks have to play out the politics also without being
elected politicians. What would be harmful for the FED is
if it becomes obvious that the Fed sort of created
a recession. They're being set up in a sense to
be the four guys if there is a recession, and
(24:46):
that is why you ben, because you don't want to
be the guys who held rates so high that there.
But that comes at the cost of potentially sort of
weighing the risks on both sides and maybe cutting when
inflation is still a much bigger issue in other times,
you might be more resistant to these cuts.
Speaker 4 (25:08):
I was gonna ask.
Speaker 2 (25:09):
Is the fact that, again the FED would never say
that we're comfortable at two point five. They're never gonna
officially say that. But the facto, you look at that
line and it came down quite a bit from its
peak in twenty twenty two or whenever that was. So
they made a lot of progress, but it sort of
stalled out. That gap between where they are now and
what the official goal is to some extent is that
(25:31):
itself an indication of the political change that extra mile
or whatever it is, is not worth it in this environment.
Speaker 5 (25:39):
First, I agree with you, they will never say that
extra mile is not whether and I don't think it's
in front and center of their mind. They think that.
I do think they believe that the risks are more
towards economic weakness. Now, of course, we don't know whether
the weak jobs numbers are because of demand or supply,
and that's still an open question. When we get the
(26:02):
jobs data, etc. We're going to look at it more closely.
Companies are not firing, they're also not hiring, and maybe
they don't at this point productively gains, etc. So it's
still an open question whether.
Speaker 6 (26:13):
There's economic weakness.
Speaker 5 (26:15):
I think the FED is putting some weight on that. Now,
what I'm arguing is maybe they're putting more weight on
that because back of their mind, it's also this view
that they don't want the FED to be blamed for
a recession. This is the wrong time to have a
FED created recession. From the larger institutional perspective. Again, there's
not front of mind. This is back of mind, and
(26:37):
you would keep that in mind. So yeah, it's not
that they say three percent is okay. They would love
to go towards two. It's just which risk is bigger
right now.
Speaker 3 (27:04):
When you were at the RBI and you had to
make the decision basically are you going to try to
get control of inflation or are you going to focus
on short term growth? At that time, what were the
sort of political considerations going through your mind.
Speaker 5 (27:20):
Well, they made very clear to you what the political
considerations are. The politicians always want lower interest rates. They
hear it from the industrialists, they hear it from every constituency.
And while I was at the RBI, we didn't have
an inflation committee, which is what I pushed, and we
got that over my term.
Speaker 6 (27:40):
But I was always making the decision.
Speaker 5 (27:42):
The problem when you're making the decision is that there's
a single point of contact for people to pressure. And
so I heard it from a lot of politicians, this
is what we like. What you have to tell them is, look, yeah,
that's what you like, but you also like low inflation.
And in order to get low inflation, I have to
be more restrictive, and as soon as I can, I
(28:04):
will reduce rates. But believe me, at this point it's
not in your interest for me to do it. And
they respect that when you explain it to them very
carefully and you say, look, they would push you, but
if you succumb, you bear the entire blame because they
will say, you know, he could have said no, and
(28:26):
of course what would happen if he said no.
Speaker 6 (28:29):
We don't know.
Speaker 5 (28:29):
But you are meant to be their protection and it's
important you recognize that and have the backbone to stand
up now. Fortunately, and you have this very long title
for me. Initially I had a tenured position in academia,
so I could say no and you know.
Speaker 6 (28:46):
Lose my job.
Speaker 5 (28:47):
I go back to a position in academia. Many civil
servants don't have that luxury, but that gives you back
moon the fact that you can say No, is very
very important, and you know Powell has that he doesn't
need the job, he doesn't need the money. He obviously
cares about doing a good job for the country, and
he cares about his legacy. So I think it's good
(29:10):
to be that way. Less good if you're a careerist
and appointed precisely because you've said yes.
Speaker 2 (29:17):
I have an Indian economy related question that's a little
bit sideways from central banking and macro. There is a
lot of fantasizing or dreaming or hoping that India could
be a manufacturing center. That's sort of another gravitational poll
that's separate from China. I'm sure Apple they're doing a lot,
but they would love to have more of their sort
(29:38):
of advanced production in India. There's moving some final assembly.
What are the main constraints? How realistic in your view
is that prospect that there could be a meaningful shift
of supply chains to India outside of China.
Speaker 5 (29:52):
India has made changes over the last decade or so
in terms of infrastructurectually started before the Global Financial crisis.
The Global financial crisis interrupted that process, but if you
look at Indian infrastructure today, it's come a long way
from the Indian.
Speaker 6 (30:09):
Infrastructure of old.
Speaker 5 (30:11):
Look at the Indian airports. I mean they're as good
as the best in the world, certainly in the major cities,
but across railways improving their ability to freight. There are
some private sector ports which have the efficiency that posts
elsewhere in the world have. So infrastructure great job makes
it much easier. Still some issues to be ironed out.
(30:33):
Power is an issue that needs to be more fixing.
But green power is a big, big growth area and
that contributes a lot to the par grad Lots of
positives some states. India is not a uniform country. The
South and the West are more developed, more advanced in
terms of labor capabilities, a lot of manufacturing coming there.
(30:54):
I sort of advise the state of tham Nada. There's
a lot of Asian manufacturing which is coming. Crocs opening
up plant there. We have Fox Gone etc. A lot
of them looking at Indian women, discipline, workforce, educated and
they want them to work in their factories. So that's
the good news. India still has, you know, issues with bureaucracy.
(31:18):
It has issues with taxation. We need to make the
taxation much more predictable. It has still issues with Yes,
there are a strong group of Indian engineers that you
can do to improve engineering. This is why the whole
number of companies are starting what they call global Capability
centers in India to do.
Speaker 6 (31:38):
Their R and D.
Speaker 5 (31:40):
But getting high school educated, good quality workers, you've got
to go to the South and the West because they're
not so available in other parts.
Speaker 6 (31:48):
Of the countries. So India has to work harder there.
If we didn't have.
Speaker 5 (31:52):
The kind of tariffs that the US put on India,
it would look a lot more attractive. I think they're
working on it. You know, there's some good news emerging
on Indian purchases of Russian oil and so on, so
I think there will be a deal done. India could
well be one of the alternatives to China. But is
there a place for a one point four billion country
(32:14):
even as China stays in manufacturing with a one point
four billion population. Probably not, And that's where India is
going to be much more focused on services. We have
to see what AI does there. But Indian services is
the positive growth story for India. India now accounts for
about four and a half percent of service exports in
the world, and that's growing really fast. Indian service exports
(32:37):
are on power with Indian manufacturing exports. So it's something
that I think you will look to more. You know,
where's the labor arbestrage today? It's not in your low
skilled worker, it's in your high skilled worker. And Indian
MBA costs you fifty thousand dollars from the best schools
in India, a US NBA who whom I teach, costs
(32:58):
you about five times that amount. That's where the labor
arbitrage is because today you can employ that worker there
and give a presentation to your client here.
Speaker 6 (33:08):
That's what the pandemic did.
Speaker 5 (33:09):
That's why services are exploding.
Speaker 3 (33:12):
Since you mentioned tariffs and we were talking about manufacturing,
what responsibility, if any, and what ability does the central
bank in India have to offset the impact of the tariffs.
Speaker 5 (33:24):
This is true of central banks everywhere right. The tariff,
since it's largely set by the US and others haven't
joined in yet, is a demand shock for the rest
of the world. They're not seeing as much in terms
of demand in the US, and is a supply shock
for the US. So that's another reason why inflation may
be higher in the US where our star is sort
(33:46):
of higher and for the rest of the world, it's
an opportunity to lower lower rates. And I mean, if
you look at Indian inflation, it's been lower than anticipated. Again,
I usually don't comment to Indian monasty policy. People think
I know more than I.
Speaker 6 (34:02):
Do, and I don't.
Speaker 5 (34:04):
But across the world, I think there's more scope for
the central banks to come in. I would still say
that you do need to look at you know, Froth,
more so in the US where the frauth seems to
be more pronounced, but certainly I mean, Japan is a
place where inflation is picking up and people are getting
(34:24):
more antsy about inflation, and central bank has sort of
stayed a little behind the curve to make sure that
it is sustained inflation. At some point it will have
to react. So but barring that, most of the countries
have room to actually cut rates.
Speaker 2 (34:38):
Let's actually let's go back to Froth with our a
few minutes left. You mentioned the sort of risks that
emerge when the central bank isn't cutting them out at
a time when financial conditions are already loose, et cetera.
Speaker 4 (34:50):
Push that forward a little bit.
Speaker 2 (34:51):
If there is some event something bad happens, it's not
going to look like two thousand and eight. Most likely,
the balance sheets of households are allow stronger. Banks seem
to be much stronger.
Speaker 6 (35:02):
Than they were.
Speaker 2 (35:02):
Where would you look for something actually bad emerging out
of this sort of cocktail that you described.
Speaker 5 (35:10):
That's a great question because leverage, So the dot com
bust wasn't as big a deal. Yeah, and that's what
gave the FED confidence. You remember the Alan Greenspan speech
in two thousand and four. Effectively, we can't predict bubbles,
what's the bubble and what's not when it's building, but
we can pick up the pieces when it bursts, and
(35:32):
so therefore we're not going to try and.
Speaker 6 (35:34):
You know, ward off bubbles.
Speaker 5 (35:35):
This is despite his Irrational Exuberance speech, which was precient,
but it didn't act on it. Right, he made that
speech in ninety six. Now, the point I'm trying to
make is it's leverage which kills because leverage then transmits
through the system. The one hundred billion in subprime mortgage
backed securities that were to.
Speaker 6 (35:56):
That was what that's the problem.
Speaker 5 (35:59):
We don't so I can tell you the candidates. There's
been a huge increase in private credit. There is a
huge increase in low quality bonds without the bond covenants,
and the kind of credit events and the what's the
violence on creditors that's happening.
Speaker 6 (36:16):
How much of that?
Speaker 5 (36:18):
But it also depends on who holds them. Are these
entities that have runnable claims? Are these entities that a
lot of other borrows depend on, so that when they
shut down, somebody gets cut out of the market, and
then there's this sequence of defaults. Is there a contagion
built in somewhere? So if you look at the two
(36:39):
thousand and eight seven eight crisis, when did the problems
really build up?
Speaker 6 (36:43):
In five six seven?
Speaker 5 (36:44):
And John Taylor sort of has this graph showing that
the FED policy was too easy, should have raised rates
much more at that point according.
Speaker 6 (36:52):
To the tailor rule.
Speaker 5 (36:54):
One can debate that, and Bernanke has debated that. But
the point is the problems emerge in the time of
too easy money before it collapses. So we are in
that period when things look really good, the future looks
infinitely rosy, and this is where you know you can
see that that credit standards may may weaken. Banks have
(37:16):
a lot of money that they want to lend. They
are lending to the guys who pass the private credit
on and so there's a lot of exposure there. You know,
the IMF came out with some statements yesterday that a
whole bunch of banks that Tier one capital would be
wiped out if there was serious defaults in the private
credit industry. So lots of connections, building frauth, a huge
(37:40):
technology which promises in finite bounty. These are all worrisome signs.
Does it have to lead to a bus No. But
there's a famous paper in two thousand and two by
Claudia Boio and Philip Low, who became Governor of the
Reserve Bank of Australia, which basically says the combination to
warry is an increasing asset prices and an increase in
(38:03):
credit when you see both run for the hills. So
we're seeing that emerging.
Speaker 3 (38:10):
Shall I try one more time to get that headline
very very quickly? Is private credit your candidate for an
upcoming financial blow up?
Speaker 4 (38:19):
No?
Speaker 6 (38:19):
Would?
Speaker 5 (38:19):
I would say it's a combination of the untested private
credit and the fact that we have huge hopes built
into the future and are investing accordingly. It's that combination
credit plus asset prices. We seem to project a glorious future,
which I worry about.
Speaker 6 (38:41):
Again.
Speaker 5 (38:41):
It's not a certainty about a blow up, but it's
a cost for worry.
Speaker 4 (38:44):
And you also said run for the hills. I'm going
to make that.
Speaker 2 (38:47):
I'm going to make the twit rug around Roger, and
thank you so much for doing this. Really appreciate getting
the chance to chat it.
Speaker 3 (39:08):
All right. That was our episode with ragu Rejon, recorded
live in front of an audience at the annual IIF
meetings in Washington, DC. This has been another episode of
the Authoughs podcast. I'm Tracy Alloway. You can follow me
at Tracy Alloway.
Speaker 2 (39:22):
And I'm Jill Wisenthal. You can follow me at the Stalwart.
Follow our producers Carmen Rodriguez at Carman armand Dashel Bennett
at Dashbot and Kelbrooks at Keilbrooks. From our odd Lots content,
go to Bloomberg dot com slash odd Lots with the
daily newsletter and all of our episodes, and you can
chat about all of these topics twenty four to seven
in our discord Discord dot gg slash od lots and if.
Speaker 3 (39:43):
You enjoy ad thoughts, if you like it when we
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Hosts And Creators
Joe Weisenthal
Tracy Alloway
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