May 13, 2024 • 48 mins
This week, we'll get fresh inflation data in the US, which will inevitably feed into the Federal Reserve's future decisions to raise, hold or lower benchmark interest rates. Meanwhile, the Biden administration is preparing to announce new tariffs aimed at curbing Chinese imports in key industries, including electric vehicles, batteries and solar cells. On this episode, we speak to Odd Lots favorite Viktor Shvets. The Macquarie strategist has a way of threading the needle between major global events and reaching back into history to provide context for our current macroeconomic moment. He describes the US central bank as a prisoner of its own policies, namely data dependency and the "dot plot." Meanwhile, China faces "massive" overcapacity problems as more and more countries put up barriers to its exports. We also talk about generational shifts and what they mean for investment.
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Episode Transcript
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Speaker 1 (00:03):
Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2 (00:20):
Hello and welcome to another episode of the Odd Blots podcast.
I'm Tracy Alloway.
Speaker 3 (00:24):
And I'm Joe Wisenthal.
Speaker 2 (00:26):
Joe, did you watch the FOMC presser recently?
Speaker 1 (00:29):
No?
Speaker 3 (00:30):
I did not, because we were recording an episode of
the Odd Lots podcast. Yeah, that happened, So I know
that you didn't watch it either, unless you watch it
on video afterwards, in which case you are a better
journalist than I am.
Speaker 2 (00:40):
I didn't. Just to clear that up. What I did
was I read a bunch of analysis of the FED
meeting and a bunch of news summaries of what happened.
And I have to say there was one term that
I really liked, one description. I think it was in
the ft and they sort of described the FED as
a monument to stasis.
Speaker 3 (01:00):
I mean that could be a good thing. First of all.
By the way, plug, there's a really the other thing
you can do if you miss a pressor on the
Bloomberg terminal and I forget the code right now, but
they produce transcripts very fast, and the transcripts aren't published
of the press conferences like they don't appear anywhere, so
plug for our terminal here. But yes, look, it's been
a weird year for the FED, right, because I mean,
(01:21):
inflation continue at least through Q one of the year,
inflation hot to then expect it, all these expectations of
cuts keep getting priced out. Everyone's higher for longer. It's
unclear whether the sort of simple models that we use, like,
I mean, I think everyone sort of knows this. Nobody
really knows how inflation works. But did everything seems to
be okay, right.
Speaker 2 (01:40):
I think one of the issues that the FED might
be facing is they put so much emphasis on data
dependency that it kind of means that like every monthly
reading of CPI can generate a completely different response. So
when CPI comes in stronger than expected, everyone starts panicking
about the lack of rate cuts, and maybe even you
(02:04):
get a rate hike at some point. When it comes
in weaker than expected, you know, as it was doing
up until fairly recently, everyone gets very excited and we
get that kind of goldilocks moment inequities.
Speaker 3 (02:17):
There does seem to be like this weird tension between
I know, they don't use like formal forward guidance anymore,
but in a way the dots sort of serve that
purpose and sort of imply the FED so called reaction function,
And so we're supposed to sort of take all of
these data points, plug them into this black box reaction function,
and then sort of implicitly see what that means for policy.
(02:39):
But it does seem like things move a lot from
data point to data point, so it becomes very present oriented.
Speaker 2 (02:44):
Man. Yes, that's a great way of putting it. And
then the other thing I would say is, in addition
to all the complexity around what's going on with the
US economy, and it's kind of phenomenal in many ways,
that we're still having intellectual arguments about what the impact
of higher interest rates actually is and whether or not
it actually does anything to bring down inflation. But beyond that,
(03:06):
the other thing that's starting to happen is we are
seeing international consequences and we've been talking about them on
the Show of the Higher for a longer stance. So
the dollar has been rising. I think the spot dollar
index is up almost four percent so far this year,
and then against specific currencies like the Japanese yen, it's
(03:27):
surged even more. And so we are seeing those tensions
between strength in the US economy, you know, ongoing inflationary pressures,
higher rates for longer, potentially kind of meet emerging markets
and also developed economies in the wider world totally.
Speaker 3 (03:43):
You know. We had that interview recently with Hugh Hendry.
Extremely colorful character to say the least. But one of
the points that I found very interesting was like, we're
not really used to an environment in which it's the
US that's out, that's lapping everyone else, growing much faster
than G seven or G ten or G whatever. Peers
sort of powering ahead all this domestic investment, and so
(04:06):
we get this upward pressure, higher rates, higher dollar stress elsewhere.
It's an interesting environment.
Speaker 2 (04:13):
G whatever is a good term.
Speaker 3 (04:16):
Can coin that, yeah, because I know Ian Brember has
the G zero, but like I don't, I like G whatever.
Speaker 2 (04:23):
The G whatever summit that should be a thing.
Speaker 3 (04:26):
Okay, any country can come.
Speaker 2 (04:29):
Okay, But when we want to connect the dots between
what's happening with central banks around the world, between the
US economy and the FED, and the global macro situation,
there's one person that we like to call in particular.
So today we are bringing back Victor Schwetz. He is,
of course a strategist over at McCrory, and we love
(04:50):
talking to him. So Victor, thank you so much for
coming back on all thoughts.
Speaker 4 (04:54):
Thank you for having me remind.
Speaker 2 (04:56):
Us before we begin, it's not just us, right, the
data dependency of the Fed. They have emphasized that a
number of times, and to some extent it seems like
it is coming back to haunt them whenever there is
a stronger than expected inflation print. And then we had
payrolls since CPI, and payrolls came in lower than expected
(05:17):
for the first time in ages and everyone got really
excited about that.
Speaker 4 (05:22):
You're absolutely right, Tracy, that what essentially we have is
a federal reserve is a prisoner of policies they start
putting in a couple of years ago, which is essentially
being extremely data dependent rather than forward looking. There is
another problem, and that's the dots, one of the most
destructive instruments from Bernaki era. So it's not anything to
(05:44):
do with j.
Speaker 5 (05:44):
Powell.
Speaker 4 (05:45):
I think if he could, he would have good rid
of dots today. The problem he has is that the
volatility getting rid of dots probably will be greater than
the volatility dots themselves are creating. So you're trying to
denigrate it by arguing that dots degenerate almost immediately as
soon as they are published, So he's trying to take
(06:06):
our attention away from dots. But as long as they
have published, they are the materials. So you've got a
data dependency on the one side, which is basically dependency
on a backward looking or at best contemporaneous numbers that
you have. You also have a lot of faulty numbers,
whether it is how you determine shelter expenses or ornery
equivalent rent, how do you relate secondhand cup prices, how
(06:30):
do you measure insurance policy or financial markets. But there's
also major problems with Bureau label statistics. I mean, I'm
glad that they've increased or revised hours work last week,
which basically showed the productivity miracle wasn't really there. So
you have quite a faulty numbers both from Bureau of
Labor statistics. On a labor market, you have mostly backward
(06:51):
looking or contemporaneous numbers. In terms of inflation, and if
you become data dependent, you starting to create exceptional volatility
because you basically like a deer in a in alarmed
in a light. You are stuck. You are you cannot
move to the left, you cannot move to the right. Now,
what I think jerrem Pal is doing quite well is
(07:13):
trying to introduce some degree of forward guidance. So essentially,
what he's saying, and what he said last week is
that if I think of the shelter expenses, they're not
quite as bad as the numbers look. And he's absolutely
right if he talks about other service oriented numbers again,
whether it's insurance or anything else, he kept emphasizing they're
(07:34):
not as bad as what they appear, BOSS and CPI
and PCEE, and he's been quite vocal that the labor
market actually a lot loser than what Bureau Labor statistics highlights.
But the problem is tracy. If you are a prisoner
of data dependency and dots, the chances of committing a
policy error increases. And so one of the questions I
(07:56):
struggle with whether in fact it matters if at a
reserve does commit a policy error.
Speaker 3 (08:01):
I feel like we could have a whole episode just
on the dots, and the problem with this is a
communication strategy. Maybe we will, but anyway, it's interesting you
said this just I guess it was either today, earlier today,
or yesterday. Minneapolis Fed Neil kesh Curry ended his speech
the final section of his speech shout out to our
old colleague Lukawa for flagging this. This is also a
(08:24):
communication challenge for policymakers. In my own summary of economic projections,
except the formal name for the dots submission, I have
only modestly increased my longer run nominal neutral funds rate.
Blah blah blah. This step does not provide a simple
way to communicate the policy that the neutral rate might
be at least temporarily elevated.
Speaker 5 (08:41):
De codet.
Speaker 3 (08:42):
What is the issue as you see it with the dots.
Speaker 4 (08:46):
Well, well, there are a couple of these shoes, Okay,
one of them. Dots work very well. If everything is plus,
it not a problem. Whenever you have a high degree
volatility ISAAC externally or internally driven dots really don't tell
you anything because it's really a personal opinion of several governors.
Some are voting, some are not voting right now, and
(09:07):
it's not linked to either federal policy. It's not vetted,
it's not researched. There is nothing in it so long
as the line of sight is relatively stable thoughts are
absolutely fine. As soon as you get the volatility, they
are not. And I think Philipplow, who was who retired
as a governor of Reserve Bank of Australia late last
(09:28):
year put it the best way. He said, central banks
will never see again inflation contained in a narrow range.
Now what it basically means that this idea that you
have relatively flatish outlaw and you try to manage it
on a margin, is becoming irrelevant. So for example, Federal
Reserve at the end of last year, on a number
of variables, they went past their mandate. In fact, they've
(09:51):
overachieved their amendate. And if you look at what subsequent
three or four months, suddenly they were ahead of their mandate.
And that's what Philip Law was highlighting that from now
on you're going to have a great deal of volatility
of those numbers. And I think the dots by themselves
magnify that volatility rather than creating a gretic sort of
clarity for market participants.
Speaker 2 (10:12):
So why do you say that a FED policy error
might not matter? And I should caveat this with you know,
Joe and I spend a lot of time online and
coing pie some of the you know social media discourse.
The world basically revolves around whether or not the Fed's
going to make a policy error. And the bias is
always the FED is doing something wrong in one way
(10:33):
or another. But why do you think it might not matter?
Speaker 4 (10:36):
Well? I usually say to people, Look, we had terrific tightening,
we had some withdrawal of liquidity. Could you explain to
me how high yield spreads only about three percent, which
is the lowest. Ever, how could you explain to me
it's a double b bad debt is trading at only
two percent spreads? How can you explain to me that
despite a very significant rise in US dollar, which both
(10:58):
of you have just highlighted, the basis swaps are only
five BIPs. They should be more like fifty BIPs are
above and so to me, the advantage of our era
is that, first of all, we have too much capital.
In other words, the idea of scarcity of capital that
underlines thinks like DCF calculation or underlines most of the
investment decision do not apply when you have too much capital.
(11:21):
Now it is not evenly or fairly distributed by any means,
But there is plenty of capital. And the way you
can measure it is essentially, what is the value of
all your financial instruments globally against real underlying economies and
what do you find? Depending how you do all balance
it commitments, how you do derivatives, you could be looking
(11:41):
five to ten times larger than the underlying economies. So
we have plenty of capital. What it basically means, no
matter what Federal Reserve does, it's very hard to tighten
because that capital just keeps circulating looking for diminishing returns.
The second thing we have, and Bloomberg plays a great
role in it, is that we have instantaneous repricing. So anybody,
(12:02):
any word in the market, it's instantaneously gets repriced. And
the third thing we have is that central banks are
rolling out policies and an incredible speed. They're not even
debating what is the outcome of those policies or what
are the implications of what we're doing. Usually something happens
on Thursday and Friday, and by Monday it's all fixed.
(12:22):
And so are we going to have new policies for
private capital or private debt equivalent to what we have
for Silicon Valley Bank? Are we going to have special
policies for perity trade basis trade from some of some
of the niches in a high yield market. Of course
we are so if you have too much capital, if
you're repricing instantaneously, and if central banks are willing and
(12:45):
prepared to plug the holes almost instantaneously, this is a
world of no risk. In other ways, the way I
put it, if the risk is everywhere, the risk is nowhere,
and if the risk is nowhere, then you can explain speculation.
You can explain goal price of bitcoin. You can explain
why high yields will be trading at only three percent
(13:06):
spreads because there is no risk. And the reason central
banks are doing it not because they're greedy for power
anything else. There is no shadow, you know, deep state
or anything like that. The reason they're doing it is
because of the dangers of not doing it. If you
sink of dot Com, that was only one asset price
going wrong. If you think of GFC, that's really a
(13:26):
bigger asset, but only one Today. You know, land mines
are everywhere, and those land mines, each one of them,
could be bigger than the original GFC. And so the
result is central banks really don't have a choice. So
even if Federal Reserve does commit a policy error, which
is possible, they can unwind it in split second. The
(13:47):
way I describe it in my notes is to say,
let's assume you get up, get in the morning, say
oh my god, it's going to be a terrible day.
By lunchtime, I know it's okay. And by evening, let's
have a dinner, and the whole thing just evaporated. Now
the key question, however, to ask what price do we
pay for it? And the price we pay for it
is a volatility of inflation rates. Is this volatility? It
(14:08):
is volatility of the neutral rates. In other words, the
way describe it, risk does not disappear. It just migrates.
So if you keep the market plus it, which is
what we're doing, risks simply migrates somewhere else. It migrates
into politics, it migrates into social sphere, it migrates into geopolitics.
And so we do pay a price. We do pay
a price for this. But to argue that central bank
(14:31):
is committing an error furniture must be broken is wrong.
Even if they commit the error, which is possible, they
can unwind it in thirty seconds.
Speaker 3 (14:55):
I want to get into maybe migrate the conversations geopolitics
and this migration of risks, because you write a lot
very well on that, but just sort of real quickly
before we do that. In your view, you describe this
world of like so much capital relative to GDP. You
know people, you know, they blame q E for stuff
like this or whatever. Is there like an original policy sin?
(15:18):
And I don't even know if.
Speaker 4 (15:19):
It's a same Paul Walker?
Speaker 3 (15:20):
Okay, explain, So what is this sort of original sin
that created this world.
Speaker 4 (15:24):
Of a Bundy? Well, if you say of Paul Walker,
he mostly known of course for squashing inflation, but if
you go back in time, I think his much bigger
legacy is creating that system of global recycling of capital
and addiction to dead and addiction to asset prices prior tonight. Well, essentially,
what happened. We've deregulated the financial sphere. We've deregulated the
(15:48):
regulating capital flow. The idea was that United States will
take the money from other people and stimulate consumption, and
those other people will be buying treasury bones, for example,
in order to get return to lower the cost for
US consumers, but also to reduce their currency and make
themselves more competitive. Now, Paul Walker was expecting that currency
(16:08):
eventualist will recalibrate this process, but they never did because
nobody ever wanted to have an appreciating currency, and so
we're stuck in the world of accumulating against disparities between
savings and spending. In other words, US and the UK
consistently net spender, Germany, Netherlands, China career, Japan consistently net saber,
(16:30):
and we've never really rebalanced it properly. So one of
the side effects of that was that it become easier
and easier to borrow, easy and easier to bring future
consumption to the present to maintain your lifestyle. It became
easy and easier to multiply credit. Instead of having one
instrument parasset, we can now have five instrument parasets ten
(16:50):
in each one of those instruments can be leveraged yet
again and yet again, and so all of that created
massive amount of capital. I mean, if you think of
the financial stability, or they tried to calculate the overall
level of financialization, they're usually behind time. They only have
twenty twenty two numbers. But essentially what they were showing
about five hundred trillion dollars, and that's based on the
(17:12):
net derivatives and not including any of balance IT commitments
or major ones, and so that's effectively was five times
global GDP. So that's what started. So if you were
to ask one person or one time when that happened,
it's really Paul Walker who created our debt and asset
based culture now green spent in late eighties, or he did.
(17:35):
He took Walker's idea and brought it to logical conclusion,
and that's was a green spent put which Bernark and
Yellen subsequently maintained.
Speaker 2 (17:44):
Yeah, it is interesting. I think I might have written
a little bit about this in the All Lots newsletter
or kind of thought out loud about it. It feels
like we're internalizing the idea that the supply of credit
can expand even as the cost of money goes up
via benchmark rates, which might not necessarily be a new
dynamic as you just described, but like one that was
(18:06):
probably underappreciating.
Speaker 3 (18:07):
Intuitive.
Speaker 2 (18:08):
Yeah, unintuitive and underappreciated until this very moment in time.
I want to ask one more thing on the US
economy and the FED before we maybe broaden out the
conversation to geopolitics and pressures in other parts of the world.
But I remember one of the things I really liked
about your framing of the post pandemic period was, unlike
a lot of other pundits, you did not go back
(18:29):
to the nineteen seventies as your preferred historical analogy. You
went back to the nineteen eighteen Spanish flu, which resulted
in a big run up in inflation, but then a
pretty rapid deflationary bust. And I'm curious, you know, here
we are in twenty twenty four. Inflation is still relatively strong.
(18:49):
We haven't seen interest rate cuts at all, and as
expected maybe back in late twenty twenty two, going into
twenty twenty three, there are a lot of people who
predicted we'd see cuts and recessions, and I think you
might have been one of them. But have you been
surprised by I guess, the stubbornness of inflation and the
higher for longer scenario in the US. And how is
(19:11):
that stacking up against that nineteen eighteen parallel.
Speaker 4 (19:15):
Well, the way I look at it, my argument was,
there will be no recessions in the US. There will
be no recession globally, because we don't have recession, there
is nothing to recover from, so don't expect any significant recovery.
That's why my global growth rates always pitched that around
two two and a half percent, which is at least
seventy five basis points less than what we used to
(19:35):
have with the previous decade, and about one hundred basis
points less than what we used to have in the pause.
My view, as you correctly said that as you have
sort of misilocation of demanded supply curves, as we have
destabilization of demanded supply curves, gradually winds down, inflation should
come out. No need for recession, no need for unemployment,
(19:55):
but there is a price we pay, and the price
we pay, there will be no recovery, and there will
more or less a circular stagnation argument. Globally, some countries
will grow a little bit faster than others, and that
will be primarily driven by primary deficits, because overall deficits
don't matter. Primary deficits doue and the US happened to
have the highest deficits. US is now running about three
(20:17):
three and a half percent of GDP primary deficits. Europe
is less than one. Japan is less than two. So
if you have a higher primary deficits, you push up
your neutral rates higher compared to for example, European Monetary
Union or Japan. Now, this inflationary trend in the global
is still continuing. Now. If you sink of G five CPI.
(20:38):
For example, when we were here last time in sort
of late twenty two early twenty three, the number was
five percent. In March it was two point four. Now
two point four. It's only twenty thirty BIPs higher than
it was over the previous twenty five years. But the
leadership changed. If you sing up the second half of
twenty three, this inflation in the US was extremely strong,
(21:00):
but inflation in Europe, UK and Japan actually was climbing,
not down. What you saw over the last four months
is it inflation start breaking in the UK, start breaking
at Eurozone, start breaking in Japan. This inflation got stronger
in China as we progress, but in the US it's
stuck and actually gone up a bit. Now the question
is whether that's something unique to United States a weather.
(21:23):
In fact, in the second half of twenty four, we're
going to relieve what we had in the second half
of twenty three and the United States will join the
rest of the world in a disinflationary trend. That's my
base case. Now what underpins it is neutral rates and productivity. Now,
my view is that neutral rate has not changed. Neutral
(21:43):
rate is a long term process. That's why almost all
models are still showing that neutral rates in the US
are fifty to one hundred basis points real, which means
policy rates should be closer to three, not five and
a half on that basis. But in a short term
you can have a spike in those neutrals rates. Now
I do sing neutral rate spike, despite the fact that
(22:03):
models don't show it. I think it did spike. Now
the question is whether it's already coming off or whether
somehow we can keep neutral rate at a much higher level.
One of the key elements there is productivity. Now, I'm
not a buyer that there will be any productivity improvements.
In other words, labor productivity or multi factor productivity is
not going to recover for at least ten years, possibly
(22:24):
even twenty years. Now, if you take a view that
productivity is not going to drive it, then either you
have to have much higher primary deficits continuing, or you
have to have some other form of shocks in the
system in order to drive it up. So if I'm
correct that neutral rates have not changed and it's still
fifty to one hundred bases points real, then it must
(22:46):
be coming off. As it comes off, deflator comes off
normenal GDP drops from In the US, it's already down
from twelve percent to five point four. As it starts
dropping towards four percent. You can't keep policy rates at
five and a half unless so you want to have
a recession. That's the only reason to have it. So
I'm still in the same camp, except as desynchronized or
(23:06):
going back to the Reserve Bank of Australia. It's violent
how it moves. Also, on more point, in the US,
inflation is really in pockets. In twenty two or twenty one,
even in early twenty three it was all over the place.
Right now is just in pockets. So all you need
to do is to bring those pockets down to a
low level.
Speaker 3 (23:26):
I mean, we could also just talk for an hour
about why it don't take twenty years before we see
a productivity boom, but let's talk a little geopolitics. So
this idea risk has been taken out of the financial
system and it migrates elsewhere. Maybe the politics, maybe the
geopolitics were obviously in a moment, and you can just
see it by all the trips people in the administration
(23:47):
take to trips to China, where there was a significant
amount of anxiety about China geopolitically, military to military communication,
cooling the temperature, coupled with industrial anxiety. Are they going
to own the EV market for the entire world, et cetera.
Draw that line for us, maybe start there, Draw that
line for us between the sort of taking out of
(24:10):
financial risk and that migration and how that fits into
the China phasis.
Speaker 4 (24:14):
Sure. Well, one of the things I disagreed with almost
everyone over the last two or three years. Remember the
view was that China is running out of people and
so China will be exporting inflation. Now, my argument all
along was China cannot export inflation. Their major export of disinflation,
and the reason for that is very simple. China, just
(24:35):
like Japan's seventies eighties, has a very high national saving rates.
I RUNIC at about forty five percent, just like Japan
and seventies eighties. Could have put policies in place to
consume it, but they didn't, neither have China. And so
the result is they must invest at least forty two
to forty three percent of GDP sink of the numbers.
That's an equivalent of nine to ten trillion dollars invested
(24:57):
every year. It's double of GDP of Japan invested every
single year. Now, if you invest in that sort of money,
it doesn't really matter what you invest in. You create
massive over capacities. And if you go into niches sayings
like what Chi shipping calls productive forces, seeings like electric vehicles, robotics, automation,
(25:18):
solar industry, if you go onto smaller niches, you almost
automatically create three times global demand, if not more. Now,
at that point they have very limited choices. Either they
change their pivot, their policies, dramatically send checks to people
instead of building another factory.
Speaker 2 (25:37):
You know, raise social safety.
Speaker 4 (25:40):
Now, raise universal basic income. They already have universal basic
income in China. Just raise it and equalize it across
across the country. So you either do that, But if
you're not willing to do that, which they're not, then
the only way you can do it is except that
you lost the capital and close the factories and we
will discover China potentially much smaller country than what we
(26:01):
thought it was, or the other alternative dump that access
capacity onto other countries. But given the amounts of money involved,
there is not much you can dumb on Kazakhstan that
there is only UK, European Monetary Union or EU, United States, Japan.
There's very few places that can take that sort of capacity.
(26:22):
And so what's happening those countries are putting up barriers now.
The reason they're putting up barriers is that China also
wants to change the world. They want to redesign everything,
whether it's human rights information, whether it's the role of
state versus individual, whether it's the role of state subsidies,
trade rules. They want to change everything. So if China
did not try to change the world, I think the
(26:44):
extent to which the barriers would have come up would
not have been as aggressive. But now China has a
catch twenty two barriers will come up, which means it's
harder to sell that access capacity. You don't want to
recognize the loss of the capital, and what you're trying
to do is to go on a charm offensive. That's
why a Chinese president is in Europe right now. From
(27:06):
a US perspective, what US is trying to do is
gradually grind China out of the Western system, but without
dislocating refrigerator prices or without dislocating things that housewives are using.
And the way you do it is starting from the top,
starting from the high tag, and just keep moving and
slowly grinding them out, slowly retarding their gross rates at
(27:29):
least relative to what you can do, but without triggering
a real conflict. So to me, that's a cold war.
You're walking at tritrop between degrading as much as you
can your opponent without triggering something really nasty. And I think,
so far, to be fair, whether it's Jenet Yellen, whether
it's Blinking, whether it's Sullivan, I think they've done pretty
(27:50):
good job of actually achieving that balance. Whether that can
be maintained, however, depends extent to which Chinese economy and
society perform to some extent, I mean, it also depends
what happens in the US, of course, but if you
just look at China, it depends on that because remember
normenal GDP in China already fallen from ten percent to
four now. In other words, as you create more disinflation
(28:14):
as you saw in Japan. It is really norminal GDP
that tells you the extent of the pressure. Now, if
economy and society a geared towards a double digit normal GDP,
if you can't raise it, inevitably pressure starts rising. And
so the question is extent to which the pressure rises.
What is China's response, both in terms of in terms
(28:36):
of geopolitics, in terms of politics, but also in terms
of economic policies, and how are you going to change them?
Speaker 2 (28:41):
Well, this is kind of what I don't get, and
this came up in the episode we did with Hugh
Henry recently as well, where he was talking about the
old traditional Chinese export model for reasons that you just
laid out as well, just isn't going to work anymore,
because you know, Europe is not going to accept a
flood of cheap electric vehicles coming in from China. And
(29:02):
so I guess I'm a little bit confused exactly what
China is planning here, because the resistance from the rest
of the world seems so glaringly obvious. When China first
started talking about building up, you know, technological independence in
things like semiconductors or strategically important technologies. I was under
(29:24):
the impression that, like some of the idea there was
to sell it into the domestic population so that you
don't have to worry about the US suddenly cutting you
off from important chips. You would have your own supply
and then you could do with it what you will.
But as you've laid out, like boosting domestic consumption doesn't
actually seem to be a priority right now, they still
(29:46):
seem to be very focused on exports. So I guess
I just don't get it, because to me, the problem
with that strategy seems so obvious.
Speaker 4 (29:55):
One of the ways I describe it is a way
I look at cheshipping and the well look at Chinese
leadership right now. It's sort of a mixture very stern,
paternalistic attitude. You know, being soft is bad, suffering is good.
That's one side of it. The other side of it is
very classical economics and Marxist economics. They effectively harping back
(30:16):
to the day of Quinsy, David Ricardo, Adam Smith, cal
Marx and those people were not thinking of prices, that
were thinking of value. Now, since late nineteenth century economy
is abundant value. So we only look at the prices.
So if you're a billionaire, you must have add value
because price is telling us you have Classical economy says no,
this guy just captured somebody else's value. He didn't create value.
(30:39):
And so if you take that mindset, who is creating value?
Who is destroying value? If you ask David Ricarda does
he think financial markets or capital markets value creative? The
answer would have be no. The best thing you can argue,
they're relocated, but they don't don't create it. Who is
creating value? And so for Ricardo or Adam Smith, or
even before that, the argument people who produce stuff, whether
(31:03):
it was agriculture early on, whether it's manufacturing, whether it's technology,
and so the emphasis seemed to be much more In supply,
the emphasis seemed to be much more production. The emphasis
is to start to strengthen as Chi Chi Pink calls
it productive forces, which is a classic Marxist argument productive
versus unproductive. Strengthen them, put obstacle in front of people
(31:26):
who you don't regard as productive, and they're incredibly suspicious
of capital markets and finance.
Speaker 2 (31:32):
So the disorderly expansion that's right, what.
Speaker 4 (31:36):
Carl Marx used to call fictitious capital, capital that multiplies
for its own sake without doing anything good to anybody else.
And so if you take that mindset, then that is
not the mindset of Western economists. But if you take
that mindset, the sort of stern, paternalistic attitude and the
emphasis of what he described productive forces, you understand why
they're reluctant to actually do anything about it. Now. Eventually,
(31:59):
as I said early on, the precious has to rise
and they will have to pivot. And we saw this
COVID in late October early November twenty twenty two, that
he can pivot very very quickly. That's why there was
a disorderly opening after COVID. And so there is a
possibility that there will be that moment when you actually
will have the change. But the longer he waits, the
(32:23):
worst it gets. And the reason is very simple. China
is not Japan. Japan had an open capital account and
fluctuating currency and convertible currency. So when Japan run into
the wall, they just collapse overnight. China has close capital account,
currency is not convertible, central bank is not independent, actually
lost all the power pretty much commercial banks are not
commercial and private sector is not really private. So when
(32:44):
you're operating behind the wall garden, you can't have Minski moments.
You can't just hit the wall and collapse. But what
you can do you can basically add increasing headwinds as
you keep going. So if Japan operated Chinese system in
nineteen ninety, they didn't have to go down. They could
have survived until ninety six or ninety seven. But the
(33:05):
longer you go with that, the worse it gets, and
so they need to recalibrate. So recalibration, which is needed.
Change your policy settings quite dramatically. Number two, change your
geopolitical stance quite dramatically. In a sense, stop trying to
rebuild the world and change the world and change domestic politics.
(33:25):
In other words, give a little bit of freedom for people,
both businesses and consumers and households. If there is is
pivot change, you still have to pay a price. Because
one of the things I highlight is capital stock. IMF
calculates it. And if you think of two thousand and four,
China had capital stock of I forgot like four trillion dollars.
(33:45):
India had one in twenty twenty eight, they will have
one hundred and five trillion dollars. US for example, will
have seventy seventy five India will only have six. So
China absorbed over one hundred trillion dollars of depreciated capital
in a couple of decades. When you absorb so much capital,
which is entire world GDP, when you absorb so much
(34:06):
capital so quickly, inevitably, you have an indigestion period. So
that indigestion period will be with you even if you
make a policy pivot today. But what will happen if
they do that? Risk premia will improve because China is
the only market in the world, and the only acid
in the world where risk premier over the last several
years have gone up almost everywhere risk premier actually for.
Speaker 3 (34:46):
I want to push on two specific things you said.
So one is you talked about Chinese dumping, and I
sort of understand conceptually the idea of dumping in a
commodity like steel or they're you know, produce bonds you
can't use it all at home, or maybe even like
solar or something like that. But a lot of the
Chinese exports success seems to be in making high quality
(35:09):
non commodities that are just very competitive for cost reasons
and in some arguably quality reasons. One example would be
people saying that the shell me phone now has a
better camera, say than the iPhone. So that's one thing.
And then the other thing is you say you credit
yelling and blink in for maintaining something reasonably. Well, this
attempt to degrade China, but not necessarily provoke something stronger.
(35:34):
What have they actually done substantively? Because I see the trips,
and I see the talk and the anxiety and the
you know, the ft columns about jumping and all that stuff,
but I don't really understand or can't quite internalize what
substantively they have accomplished.
Speaker 4 (35:48):
Well, what do you need to avoid is very dramatic moves. Okay,
So in other words, the last thing you want is
to stop slapping terraffs on very primitive products. But I
remember mostly actually does law great stuff. People focused on cameras, etc.
But a lot of China is basic chemicals, it's toys,
(36:08):
It's that sort of stuff. So try to avoid displacing
that trade as much as possible. Try to focus on
the areas that are important for you strategically, And that's
what Trump started to do but very chaotically, and what
Biden administration have done very systematically over the last four
years now, except that China trade will get rerouted. Now,
(36:29):
the fact that suddenly Mexico and Vietnam became major partners
of the United States have very little to do with
capacity of those countries to actually produce it. It's a
lot of Chinese trade gets rerouted through those places, and
accept that because you're getting some of the benefit of that,
including sometimes better quality law prices that consumers and businesses
in the United States can benefit from. At the same time,
(36:52):
what you're trying to do is re establish as much
contact as you possibly can, because as Defense Secretary was
saying back in Singapore when Chinese refused to talk to
him eighteen months ago, he said, with the Soviets, we
never agreed on anything, but we talked. And the same
is here. You need to maintain the lines of conversation
so that you know how far you can go, where
(37:14):
you cannot go, how far you can push, how high
you can bring it back. So what you try to
avoid is a chaos. What you try to avoid just
slapping stuff all over the place, trying to avoid pushing
China too far and at the same time gradually, as
I said, degrading it. Now there is a possibility, and
it is a small possibility right now, but there is
a possibility that something horrible is going to happen, either
(37:38):
in Russia Ukraine, or something horrible might happen across down
One Straits, and the whole thing will start escalating beyond
what you're trying to do. And at that point we
could potentially see zeroing out even of Chinese and Hong
Kong assets. You can even see US Department of Treasury
arguing that they don't recognize, for example, the currency in
(37:59):
Hong Kong dollar. Extreme you can have a very extreme
outcomes which I think are not likely so long as
there is no as I said, disasters occurring along the way.
Speaker 2 (38:11):
So we just have a few minutes left, and I
want to go back to what you said earlier, where
you were talking about the idea of financial risks migrating
into I guess, the real world, into the political sphere
in one way or another. And you are actually the
only Cell side analyst I know of who has mentioned
the Columbia protests specifically. We're here in New York. Columbia
(38:33):
is not that far from us. Talk to us a
little bit about how that kind of political discontent plays
out in your world, in the world of you know,
investment and macro and things like that. Why is that
on your radar?
Speaker 4 (38:48):
Well, Usually when you have generational replacement and everything is fine,
like economies are fine, finance is fine, technology is fine,
there is no displacement politically or geopolitic, then one generation
just slips into another almost unnoticed. That's what happened to
Baby Boomers and X generation. But whenever you have.
Speaker 3 (39:08):
An X generation, we never were. We slipped out before
we were even in are you no, No, I'm eighty,
I'm X.
Speaker 4 (39:18):
I go. But but whenever you have whenever you have
a major technological financial disruption, what happens is that you
have or whenever circumstances change massively for the better for
the worst, one generation cannot slip into another generation. That's
what happened to Baby Boomers. Compared to a silent and
(39:39):
GI generation. The Baby Boomers could not relate to their
parents or to their grandparents. They had verdically different views
what they wanted to do, and so the younger generation
anybody born sort of after sort of early eighties onwards
have a very different view of the world. And the
reason they have very different view of the world because
they did not experience a world where jobs were plentiful,
(40:02):
where you've gone to college, you automatically had a good job.
They found that the jobs degrade, They found the professional
lives degrede They found that technology gives you many tools,
but it also degrades both your pricing power and marginal
pricing power. They found that politics become disoriented as that occurs.
(40:22):
They found that democratic policies cannot solve the problem extreme polarization.
So they're in the mixture of technological, financial, and political revolution.
And when you have that change, that generation sinks very differently,
and eventually they become a very large cohort. And when
they become a large cohort, they demanded change. Now, what
(40:43):
Baby Boomas were asking for is not what this generation
is asking for, But they're asking for change. And my
view the change all the surveys that come out, the
change they're asking is very much community based, is very
much community of equals, is very much governments supported. In
other words, harping to their grand grandparents who lived in
(41:06):
nineteen forties and nineteen fifties rather than to their parents
and grandparents. And so usually it starts with those types
of demonstration. Doesn't really matter what the excuses, whether it's
the civil rights, whether it's a Cold War, whether it's
Vietnam War, whether it's inequalities, whatever, that is something triggers it.
But then as they get big and bigger part of
(41:27):
the population, they really drive the policy. So today late
millenniums in Z already almost fifty percent of the population,
but they are only about thirty nine percent of the adults.
They only twenty five percent of the voters.
Speaker 2 (41:40):
In the US.
Speaker 4 (41:41):
Mathematically, by twenty eight twenty nine, there will be majority
of adults, and by earlier to mid twenty thirties there
will be absolute majority of both voting and the adults.
And so the question is what type of policies, economic policies, political,
social policies would they demand. People must want it freedom,
(42:01):
free enterprise, personal responsibility. You give me the rope and
I can hang myself with it, or I can succeed
this guy's asking for something else, And so how would
all of those policies change? And I'm thinking they're going
to bring us back to nineteen fifties, that probably will
be a more likely outcome rather than sort of nineteen
nineties two thousands.
Speaker 2 (42:22):
I like how conceptually we've sort of come full circle
because we're back to I guess demographic changes driving potentially
higher deficits over the long term, fueling US exceptionalism in
some ways. Maybe, Yeah, let's take it. Victor Schwetz, thank
you so much for coming back on odd Lots.
Speaker 5 (42:39):
Thank you. I appreciate it.
Speaker 2 (42:40):
That was great.
Speaker 5 (42:41):
As always, Joe.
Speaker 2 (42:56):
I feel like any mention of generations always leads to
over the cutoff points.
Speaker 3 (43:02):
Well, I may have said, I don't know if I've
ever said on air, So I'll just say that I
have a very simple test for the dividing line between
X and millennial because some people say seventy nine or
eighty one or.
Speaker 2 (43:12):
Yeah i've heard nineteen eighty and above.
Speaker 3 (43:14):
Yeah I've heard that too. But I think there's a
very simple test to do it, which is, did you
have Facebook in college? Because that gets you in that
ballpark automatically, yeah, but also that's generationally transformative. Social media
is like clearly a dividing line. I did not have
Facebook when I was in college. I got my first
account I don't know, like twenty two. It was after
(43:34):
I graduated by a couple of years. You apparently did,
so I'm X your millennial. That makes a lot of sense,
Thank you. I think it's a test and apparently, I
guess it's probably rolled out to people in Harvard earlier.
The implication is that people at Harvard became millennial before
the rest of everyone else.
Speaker 2 (43:51):
Well, yeah, I was at LSE and I think we
were one of the first, yeah, so international universities to
get it. I have to say part of me kind
of misses the college era of Facebook, where like we
just spent an inordinate amount of time like poking each other.
I don't know if you remember that. Anyway, back to Macro,
there's so much to pull out of that conversation. It's
always great talking to Victor. I guess one of the
(44:12):
things that strikes me is, you know, he highlighted the
I guess unexpectedly loose financial conditions, and to me, it
does feel like that is a key part of what's
happening in markets right now, and it kind of goes
back to that point I was making earlier, where I
don't think anyone expected the cost of money to go
up so much viz. Benchmark rates and the FED rate hikes,
(44:36):
while the supply of credit continues to expand. And that,
to me is sort of like the key to a
lot of what's going on in asset prices. Why we
haven't seen that huge default cycle that people were predicting,
Why we haven't necessarily seen as many layoffs as a
lot of people were predicting, and things like that.
Speaker 3 (44:53):
Yeah, totally Like we can easily point to a few
different categories, like aspects of real estate and which. Sure, No,
it's totally true that it's sort of a puzzle, and
I don't think anyone is a great answer for why.
You know, people talk about refinancing and everyone has a
third year fixed. Maybe that has something to do with it. Still,
it's not entirely intuitive why that hasn't had a larger
(45:14):
compressing effect on asset prices. You know, there's so much
to pull out of that conversation and every conversation with Victor.
Like I said, we could have talked for like an
hour on the problem with the dots, and maybe we
should do that, because it does seem like that's getting
more attention to sort of being handcuffed by the dots
perhaps you know, obviously, and we'll do more China episodes.
But is it really possible? And I guess I have
(45:36):
my doubts. But what do I know, like to degrade
China's cutting edge capacity in such a way that doesn't
provoke actual geopolitical conflict something more mild, big questions there?
Speaker 2 (45:47):
Dots seem so innocuous to me. It's so it's it's funny,
Well what we're talking about them? As last?
Speaker 1 (45:53):
Wait?
Speaker 3 (45:53):
Can I give it confession? And I always do my
confessions at the end because I hope that no one's listening.
I always turn off turn off laws right here. I
always forget whether the dots are what the individual FOMC
member thinks should be the optimal path of monetary policy
going forward versus what that FMC member thinks the policy
(46:17):
will be going forward. And I like, I know there's
a right intern one, but I always forget which is which.
Speaker 2 (46:23):
Oh I hate stuff like this because it makes me
It's one of those things like you just talk about
kind of naturally without thinking about what you're actually looking at.
But I think it might be what they think appropriate
monetary policy should be.
Speaker 3 (46:35):
No, you're right, I just as I was saying, I
also pulled up the Bloomberg dots explainer anyway.
Speaker 2 (46:40):
Which I mean also you would expect it to be that, right, Yeah, right, well,
I mean yeah, bring back the boe fan charts. That's
what I say. Let go of the dots and let's
just do a range of probabilities for interest rates and
we can have either fan charts or those hair charts,
the hairy charts, the MEDUSA charts, which I love, or.
Speaker 3 (46:59):
Just go back to the old days where they don't
even tell you what rate that they sent and the
market has to figure it out because of the overnight rate.
That would probably be fine too. I don't think we
need all this communication. I appreciate it. I like the speeches.
They're interesting, but we don't even we went for years
without that.
Speaker 2 (47:14):
It would be very interesting, to Victor's point about sort
of real time repricing, to see what a system like
that would would mean for financial markets right now, maybe
it would be better. Let's all slow down.
Speaker 3 (47:26):
I think it's possible.
Speaker 2 (47:27):
All right, shall we leave it there?
Speaker 3 (47:28):
Let's leave it there.
Speaker 2 (47:29):
This has been another episode of the All Thoughts podcast.
I'm Tracy Alloway. You can follow me at Tracy Alloway and.
Speaker 3 (47:35):
I'm Joe Wisenthal. You can follow me at the Stalwart,
follow our producers Carman Rodriguez at Kerman Ermann Dash, Ol
Bennett at Dashbot and Kilbrooks at Kilbrooks. Thank you to
our producer Moses ONEm. For more odd Lags content, go
to Bloomberg dot com slash odd lotfere. We have transcripts,
a blog, and a newsletter comes out every Friday, and
you can chat with fellow listeners in our discord chat
(47:56):
room twenty four to seven. Talk about all these topics
scor dot gg slasht blots and if.
Speaker 2 (48:03):
You enjoy all blots, if you like it when we
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then please leave us a positive review on your favorite
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Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2 (00:20):
Hello and welcome to another episode of the Odd Blots podcast.
I'm Tracy Alloway.
Speaker 3 (00:24):
And I'm Joe Wisenthal.
Speaker 2 (00:26):
Joe, did you watch the FOMC presser recently?
Speaker 1 (00:29):
No?
Speaker 3 (00:30):
I did not, because we were recording an episode of
the Odd Lots podcast. Yeah, that happened, So I know
that you didn't watch it either, unless you watch it
on video afterwards, in which case you are a better
journalist than I am.
Speaker 2 (00:40):
I didn't. Just to clear that up. What I did
was I read a bunch of analysis of the FED
meeting and a bunch of news summaries of what happened.
And I have to say there was one term that
I really liked, one description. I think it was in
the ft and they sort of described the FED as
a monument to stasis.
Speaker 3 (01:00):
I mean that could be a good thing. First of all.
By the way, plug, there's a really the other thing
you can do if you miss a pressor on the
Bloomberg terminal and I forget the code right now, but
they produce transcripts very fast, and the transcripts aren't published
of the press conferences like they don't appear anywhere, so
plug for our terminal here. But yes, look, it's been
a weird year for the FED, right, because I mean,
(01:21):
inflation continue at least through Q one of the year,
inflation hot to then expect it, all these expectations of
cuts keep getting priced out. Everyone's higher for longer. It's
unclear whether the sort of simple models that we use, like,
I mean, I think everyone sort of knows this. Nobody
really knows how inflation works. But did everything seems to
be okay, right.
Speaker 2 (01:40):
I think one of the issues that the FED might
be facing is they put so much emphasis on data
dependency that it kind of means that like every monthly
reading of CPI can generate a completely different response. So
when CPI comes in stronger than expected, everyone starts panicking
about the lack of rate cuts, and maybe even you
(02:04):
get a rate hike at some point. When it comes
in weaker than expected, you know, as it was doing
up until fairly recently, everyone gets very excited and we
get that kind of goldilocks moment inequities.
Speaker 3 (02:17):
There does seem to be like this weird tension between
I know, they don't use like formal forward guidance anymore,
but in a way the dots sort of serve that
purpose and sort of imply the FED so called reaction function,
And so we're supposed to sort of take all of
these data points, plug them into this black box reaction function,
and then sort of implicitly see what that means for policy.
(02:39):
But it does seem like things move a lot from
data point to data point, so it becomes very present oriented.
Speaker 2 (02:44):
Man. Yes, that's a great way of putting it. And
then the other thing I would say is, in addition
to all the complexity around what's going on with the
US economy, and it's kind of phenomenal in many ways,
that we're still having intellectual arguments about what the impact
of higher interest rates actually is and whether or not
it actually does anything to bring down inflation. But beyond that,
(03:06):
the other thing that's starting to happen is we are
seeing international consequences and we've been talking about them on
the Show of the Higher for a longer stance. So
the dollar has been rising. I think the spot dollar
index is up almost four percent so far this year,
and then against specific currencies like the Japanese yen, it's
(03:27):
surged even more. And so we are seeing those tensions
between strength in the US economy, you know, ongoing inflationary pressures,
higher rates for longer, potentially kind of meet emerging markets
and also developed economies in the wider world totally.
Speaker 3 (03:43):
You know. We had that interview recently with Hugh Hendry.
Extremely colorful character to say the least. But one of
the points that I found very interesting was like, we're
not really used to an environment in which it's the
US that's out, that's lapping everyone else, growing much faster
than G seven or G ten or G whatever. Peers
sort of powering ahead all this domestic investment, and so
(04:06):
we get this upward pressure, higher rates, higher dollar stress elsewhere.
It's an interesting environment.
Speaker 2 (04:13):
G whatever is a good term.
Speaker 3 (04:16):
Can coin that, yeah, because I know Ian Brember has
the G zero, but like I don't, I like G whatever.
Speaker 2 (04:23):
The G whatever summit that should be a thing.
Speaker 3 (04:26):
Okay, any country can come.
Speaker 2 (04:29):
Okay, But when we want to connect the dots between
what's happening with central banks around the world, between the
US economy and the FED, and the global macro situation,
there's one person that we like to call in particular.
So today we are bringing back Victor Schwetz. He is,
of course a strategist over at McCrory, and we love
(04:50):
talking to him. So Victor, thank you so much for
coming back on all thoughts.
Speaker 4 (04:54):
Thank you for having me remind.
Speaker 2 (04:56):
Us before we begin, it's not just us, right, the
data dependency of the Fed. They have emphasized that a
number of times, and to some extent it seems like
it is coming back to haunt them whenever there is
a stronger than expected inflation print. And then we had
payrolls since CPI, and payrolls came in lower than expected
(05:17):
for the first time in ages and everyone got really
excited about that.
Speaker 4 (05:22):
You're absolutely right, Tracy, that what essentially we have is
a federal reserve is a prisoner of policies they start
putting in a couple of years ago, which is essentially
being extremely data dependent rather than forward looking. There is
another problem, and that's the dots, one of the most
destructive instruments from Bernaki era. So it's not anything to
(05:44):
do with j.
Speaker 5 (05:44):
Powell.
Speaker 4 (05:45):
I think if he could, he would have good rid
of dots today. The problem he has is that the
volatility getting rid of dots probably will be greater than
the volatility dots themselves are creating. So you're trying to
denigrate it by arguing that dots degenerate almost immediately as
soon as they are published, So he's trying to take
(06:06):
our attention away from dots. But as long as they
have published, they are the materials. So you've got a
data dependency on the one side, which is basically dependency
on a backward looking or at best contemporaneous numbers that
you have. You also have a lot of faulty numbers,
whether it is how you determine shelter expenses or ornery
equivalent rent, how do you relate secondhand cup prices, how
(06:30):
do you measure insurance policy or financial markets. But there's
also major problems with Bureau label statistics. I mean, I'm
glad that they've increased or revised hours work last week,
which basically showed the productivity miracle wasn't really there. So
you have quite a faulty numbers both from Bureau of
Labor statistics. On a labor market, you have mostly backward
(06:51):
looking or contemporaneous numbers. In terms of inflation, and if
you become data dependent, you starting to create exceptional volatility
because you basically like a deer in a in alarmed
in a light. You are stuck. You are you cannot
move to the left, you cannot move to the right. Now,
what I think jerrem Pal is doing quite well is
(07:13):
trying to introduce some degree of forward guidance. So essentially,
what he's saying, and what he said last week is
that if I think of the shelter expenses, they're not
quite as bad as the numbers look. And he's absolutely
right if he talks about other service oriented numbers again,
whether it's insurance or anything else, he kept emphasizing they're
(07:34):
not as bad as what they appear, BOSS and CPI
and PCEE, and he's been quite vocal that the labor
market actually a lot loser than what Bureau Labor statistics highlights.
But the problem is tracy. If you are a prisoner
of data dependency and dots, the chances of committing a
policy error increases. And so one of the questions I
(07:56):
struggle with whether in fact it matters if at a
reserve does commit a policy error.
Speaker 3 (08:01):
I feel like we could have a whole episode just
on the dots, and the problem with this is a
communication strategy. Maybe we will, but anyway, it's interesting you
said this just I guess it was either today, earlier today,
or yesterday. Minneapolis Fed Neil kesh Curry ended his speech
the final section of his speech shout out to our
old colleague Lukawa for flagging this. This is also a
(08:24):
communication challenge for policymakers. In my own summary of economic projections,
except the formal name for the dots submission, I have
only modestly increased my longer run nominal neutral funds rate.
Blah blah blah. This step does not provide a simple
way to communicate the policy that the neutral rate might
be at least temporarily elevated.
Speaker 5 (08:41):
De codet.
Speaker 3 (08:42):
What is the issue as you see it with the dots.
Speaker 4 (08:46):
Well, well, there are a couple of these shoes, Okay,
one of them. Dots work very well. If everything is plus,
it not a problem. Whenever you have a high degree
volatility ISAAC externally or internally driven dots really don't tell
you anything because it's really a personal opinion of several governors.
Some are voting, some are not voting right now, and
(09:07):
it's not linked to either federal policy. It's not vetted,
it's not researched. There is nothing in it so long
as the line of sight is relatively stable thoughts are
absolutely fine. As soon as you get the volatility, they
are not. And I think Philipplow, who was who retired
as a governor of Reserve Bank of Australia late last
(09:28):
year put it the best way. He said, central banks
will never see again inflation contained in a narrow range.
Now what it basically means that this idea that you
have relatively flatish outlaw and you try to manage it
on a margin, is becoming irrelevant. So for example, Federal
Reserve at the end of last year, on a number
of variables, they went past their mandate. In fact, they've
(09:51):
overachieved their amendate. And if you look at what subsequent
three or four months, suddenly they were ahead of their mandate.
And that's what Philip Law was highlighting that from now
on you're going to have a great deal of volatility
of those numbers. And I think the dots by themselves
magnify that volatility rather than creating a gretic sort of
clarity for market participants.
Speaker 2 (10:12):
So why do you say that a FED policy error
might not matter? And I should caveat this with you know,
Joe and I spend a lot of time online and
coing pie some of the you know social media discourse.
The world basically revolves around whether or not the Fed's
going to make a policy error. And the bias is
always the FED is doing something wrong in one way
(10:33):
or another. But why do you think it might not matter?
Speaker 4 (10:36):
Well? I usually say to people, Look, we had terrific tightening,
we had some withdrawal of liquidity. Could you explain to
me how high yield spreads only about three percent, which
is the lowest. Ever, how could you explain to me
it's a double b bad debt is trading at only
two percent spreads? How can you explain to me that
despite a very significant rise in US dollar, which both
(10:58):
of you have just highlighted, the basis swaps are only
five BIPs. They should be more like fifty BIPs are
above and so to me, the advantage of our era
is that, first of all, we have too much capital.
In other words, the idea of scarcity of capital that
underlines thinks like DCF calculation or underlines most of the
investment decision do not apply when you have too much capital.
(11:21):
Now it is not evenly or fairly distributed by any means,
But there is plenty of capital. And the way you
can measure it is essentially, what is the value of
all your financial instruments globally against real underlying economies and
what do you find? Depending how you do all balance
it commitments, how you do derivatives, you could be looking
(11:41):
five to ten times larger than the underlying economies. So
we have plenty of capital. What it basically means, no
matter what Federal Reserve does, it's very hard to tighten
because that capital just keeps circulating looking for diminishing returns.
The second thing we have, and Bloomberg plays a great
role in it, is that we have instantaneous repricing. So anybody,
(12:02):
any word in the market, it's instantaneously gets repriced. And
the third thing we have is that central banks are
rolling out policies and an incredible speed. They're not even
debating what is the outcome of those policies or what
are the implications of what we're doing. Usually something happens
on Thursday and Friday, and by Monday it's all fixed.
(12:22):
And so are we going to have new policies for
private capital or private debt equivalent to what we have
for Silicon Valley Bank? Are we going to have special
policies for perity trade basis trade from some of some
of the niches in a high yield market. Of course
we are so if you have too much capital, if
you're repricing instantaneously, and if central banks are willing and
(12:45):
prepared to plug the holes almost instantaneously, this is a
world of no risk. In other ways, the way I
put it, if the risk is everywhere, the risk is nowhere,
and if the risk is nowhere, then you can explain speculation.
You can explain goal price of bitcoin. You can explain
why high yields will be trading at only three percent
(13:06):
spreads because there is no risk. And the reason central
banks are doing it not because they're greedy for power
anything else. There is no shadow, you know, deep state
or anything like that. The reason they're doing it is
because of the dangers of not doing it. If you
sink of dot Com, that was only one asset price
going wrong. If you think of GFC, that's really a
(13:26):
bigger asset, but only one Today. You know, land mines
are everywhere, and those land mines, each one of them,
could be bigger than the original GFC. And so the
result is central banks really don't have a choice. So
even if Federal Reserve does commit a policy error, which
is possible, they can unwind it in split second. The
(13:47):
way I describe it in my notes is to say,
let's assume you get up, get in the morning, say
oh my god, it's going to be a terrible day.
By lunchtime, I know it's okay. And by evening, let's
have a dinner, and the whole thing just evaporated. Now
the key question, however, to ask what price do we
pay for it? And the price we pay for it
is a volatility of inflation rates. Is this volatility? It
(14:08):
is volatility of the neutral rates. In other words, the
way describe it, risk does not disappear. It just migrates.
So if you keep the market plus it, which is
what we're doing, risks simply migrates somewhere else. It migrates
into politics, it migrates into social sphere, it migrates into geopolitics.
And so we do pay a price. We do pay
a price for this. But to argue that central bank
(14:31):
is committing an error furniture must be broken is wrong.
Even if they commit the error, which is possible, they
can unwind it in thirty seconds.
Speaker 3 (14:55):
I want to get into maybe migrate the conversations geopolitics
and this migration of risks, because you write a lot
very well on that, but just sort of real quickly
before we do that. In your view, you describe this
world of like so much capital relative to GDP. You
know people, you know, they blame q E for stuff
like this or whatever. Is there like an original policy sin?
(15:18):
And I don't even know if.
Speaker 4 (15:19):
It's a same Paul Walker?
Speaker 3 (15:20):
Okay, explain, So what is this sort of original sin
that created this world.
Speaker 4 (15:24):
Of a Bundy? Well, if you say of Paul Walker,
he mostly known of course for squashing inflation, but if
you go back in time, I think his much bigger
legacy is creating that system of global recycling of capital
and addiction to dead and addiction to asset prices prior tonight. Well, essentially,
what happened. We've deregulated the financial sphere. We've deregulated the
(15:48):
regulating capital flow. The idea was that United States will
take the money from other people and stimulate consumption, and
those other people will be buying treasury bones, for example,
in order to get return to lower the cost for
US consumers, but also to reduce their currency and make
themselves more competitive. Now, Paul Walker was expecting that currency
(16:08):
eventualist will recalibrate this process, but they never did because
nobody ever wanted to have an appreciating currency, and so
we're stuck in the world of accumulating against disparities between
savings and spending. In other words, US and the UK
consistently net spender, Germany, Netherlands, China career, Japan consistently net saber,
(16:30):
and we've never really rebalanced it properly. So one of
the side effects of that was that it become easier
and easier to borrow, easy and easier to bring future
consumption to the present to maintain your lifestyle. It became
easy and easier to multiply credit. Instead of having one
instrument parasset, we can now have five instrument parasets ten
(16:50):
in each one of those instruments can be leveraged yet
again and yet again, and so all of that created
massive amount of capital. I mean, if you think of
the financial stability, or they tried to calculate the overall
level of financialization, they're usually behind time. They only have
twenty twenty two numbers. But essentially what they were showing
about five hundred trillion dollars, and that's based on the
(17:12):
net derivatives and not including any of balance IT commitments
or major ones, and so that's effectively was five times
global GDP. So that's what started. So if you were
to ask one person or one time when that happened,
it's really Paul Walker who created our debt and asset
based culture now green spent in late eighties, or he did.
(17:35):
He took Walker's idea and brought it to logical conclusion,
and that's was a green spent put which Bernark and
Yellen subsequently maintained.
Speaker 2 (17:44):
Yeah, it is interesting. I think I might have written
a little bit about this in the All Lots newsletter
or kind of thought out loud about it. It feels
like we're internalizing the idea that the supply of credit
can expand even as the cost of money goes up
via benchmark rates, which might not necessarily be a new
dynamic as you just described, but like one that was
(18:06):
probably underappreciating.
Speaker 3 (18:07):
Intuitive.
Speaker 2 (18:08):
Yeah, unintuitive and underappreciated until this very moment in time.
I want to ask one more thing on the US
economy and the FED before we maybe broaden out the
conversation to geopolitics and pressures in other parts of the world.
But I remember one of the things I really liked
about your framing of the post pandemic period was, unlike
a lot of other pundits, you did not go back
(18:29):
to the nineteen seventies as your preferred historical analogy. You
went back to the nineteen eighteen Spanish flu, which resulted
in a big run up in inflation, but then a
pretty rapid deflationary bust. And I'm curious, you know, here
we are in twenty twenty four. Inflation is still relatively strong.
(18:49):
We haven't seen interest rate cuts at all, and as
expected maybe back in late twenty twenty two, going into
twenty twenty three, there are a lot of people who
predicted we'd see cuts and recessions, and I think you
might have been one of them. But have you been
surprised by I guess, the stubbornness of inflation and the
higher for longer scenario in the US. And how is
(19:11):
that stacking up against that nineteen eighteen parallel.
Speaker 4 (19:15):
Well, the way I look at it, my argument was,
there will be no recessions in the US. There will
be no recession globally, because we don't have recession, there
is nothing to recover from, so don't expect any significant recovery.
That's why my global growth rates always pitched that around
two two and a half percent, which is at least
seventy five basis points less than what we used to
(19:35):
have with the previous decade, and about one hundred basis
points less than what we used to have in the pause.
My view, as you correctly said that as you have
sort of misilocation of demanded supply curves, as we have
destabilization of demanded supply curves, gradually winds down, inflation should
come out. No need for recession, no need for unemployment,
(19:55):
but there is a price we pay, and the price
we pay, there will be no recovery, and there will
more or less a circular stagnation argument. Globally, some countries
will grow a little bit faster than others, and that
will be primarily driven by primary deficits, because overall deficits
don't matter. Primary deficits doue and the US happened to
have the highest deficits. US is now running about three
(20:17):
three and a half percent of GDP primary deficits. Europe
is less than one. Japan is less than two. So
if you have a higher primary deficits, you push up
your neutral rates higher compared to for example, European Monetary
Union or Japan. Now, this inflationary trend in the global
is still continuing. Now. If you sink of G five CPI.
(20:38):
For example, when we were here last time in sort
of late twenty two early twenty three, the number was
five percent. In March it was two point four. Now
two point four. It's only twenty thirty BIPs higher than
it was over the previous twenty five years. But the
leadership changed. If you sing up the second half of
twenty three, this inflation in the US was extremely strong,
(21:00):
but inflation in Europe, UK and Japan actually was climbing,
not down. What you saw over the last four months
is it inflation start breaking in the UK, start breaking
at Eurozone, start breaking in Japan. This inflation got stronger
in China as we progress, but in the US it's
stuck and actually gone up a bit. Now the question
is whether that's something unique to United States a weather.
(21:23):
In fact, in the second half of twenty four, we're
going to relieve what we had in the second half
of twenty three and the United States will join the
rest of the world in a disinflationary trend. That's my
base case. Now what underpins it is neutral rates and productivity. Now,
my view is that neutral rate has not changed. Neutral
(21:43):
rate is a long term process. That's why almost all
models are still showing that neutral rates in the US
are fifty to one hundred basis points real, which means
policy rates should be closer to three, not five and
a half on that basis. But in a short term
you can have a spike in those neutrals rates. Now
I do sing neutral rate spike, despite the fact that
(22:03):
models don't show it. I think it did spike. Now
the question is whether it's already coming off or whether
somehow we can keep neutral rate at a much higher level.
One of the key elements there is productivity. Now, I'm
not a buyer that there will be any productivity improvements.
In other words, labor productivity or multi factor productivity is
not going to recover for at least ten years, possibly
(22:24):
even twenty years. Now, if you take a view that
productivity is not going to drive it, then either you
have to have much higher primary deficits continuing, or you
have to have some other form of shocks in the
system in order to drive it up. So if I'm
correct that neutral rates have not changed and it's still
fifty to one hundred bases points real, then it must
(22:46):
be coming off. As it comes off, deflator comes off
normenal GDP drops from In the US, it's already down
from twelve percent to five point four. As it starts
dropping towards four percent. You can't keep policy rates at
five and a half unless so you want to have
a recession. That's the only reason to have it. So
I'm still in the same camp, except as desynchronized or
(23:06):
going back to the Reserve Bank of Australia. It's violent
how it moves. Also, on more point, in the US,
inflation is really in pockets. In twenty two or twenty one,
even in early twenty three it was all over the place.
Right now is just in pockets. So all you need
to do is to bring those pockets down to a
low level.
Speaker 3 (23:26):
I mean, we could also just talk for an hour
about why it don't take twenty years before we see
a productivity boom, but let's talk a little geopolitics. So
this idea risk has been taken out of the financial
system and it migrates elsewhere. Maybe the politics, maybe the
geopolitics were obviously in a moment, and you can just
see it by all the trips people in the administration
(23:47):
take to trips to China, where there was a significant
amount of anxiety about China geopolitically, military to military communication,
cooling the temperature, coupled with industrial anxiety. Are they going
to own the EV market for the entire world, et cetera.
Draw that line for us, maybe start there, Draw that
line for us between the sort of taking out of
(24:10):
financial risk and that migration and how that fits into
the China phasis.
Speaker 4 (24:14):
Sure. Well, one of the things I disagreed with almost
everyone over the last two or three years. Remember the
view was that China is running out of people and
so China will be exporting inflation. Now, my argument all
along was China cannot export inflation. Their major export of disinflation,
and the reason for that is very simple. China, just
(24:35):
like Japan's seventies eighties, has a very high national saving rates.
I RUNIC at about forty five percent, just like Japan
and seventies eighties. Could have put policies in place to
consume it, but they didn't, neither have China. And so
the result is they must invest at least forty two
to forty three percent of GDP sink of the numbers.
That's an equivalent of nine to ten trillion dollars invested
(24:57):
every year. It's double of GDP of Japan invested every
single year. Now, if you invest in that sort of money,
it doesn't really matter what you invest in. You create
massive over capacities. And if you go into niches sayings
like what Chi shipping calls productive forces, seeings like electric vehicles, robotics, automation,
(25:18):
solar industry, if you go onto smaller niches, you almost
automatically create three times global demand, if not more. Now,
at that point they have very limited choices. Either they
change their pivot, their policies, dramatically send checks to people
instead of building another factory.
Speaker 2 (25:37):
You know, raise social safety.
Speaker 4 (25:40):
Now, raise universal basic income. They already have universal basic
income in China. Just raise it and equalize it across
across the country. So you either do that, But if
you're not willing to do that, which they're not, then
the only way you can do it is except that
you lost the capital and close the factories and we
will discover China potentially much smaller country than what we
(26:01):
thought it was, or the other alternative dump that access
capacity onto other countries. But given the amounts of money involved,
there is not much you can dumb on Kazakhstan that
there is only UK, European Monetary Union or EU, United States, Japan.
There's very few places that can take that sort of capacity.
(26:22):
And so what's happening those countries are putting up barriers now.
The reason they're putting up barriers is that China also
wants to change the world. They want to redesign everything,
whether it's human rights information, whether it's the role of
state versus individual, whether it's the role of state subsidies,
trade rules. They want to change everything. So if China
did not try to change the world, I think the
(26:44):
extent to which the barriers would have come up would
not have been as aggressive. But now China has a
catch twenty two barriers will come up, which means it's
harder to sell that access capacity. You don't want to
recognize the loss of the capital, and what you're trying
to do is to go on a charm offensive. That's
why a Chinese president is in Europe right now. From
(27:06):
a US perspective, what US is trying to do is
gradually grind China out of the Western system, but without
dislocating refrigerator prices or without dislocating things that housewives are using.
And the way you do it is starting from the top,
starting from the high tag, and just keep moving and
slowly grinding them out, slowly retarding their gross rates at
(27:29):
least relative to what you can do, but without triggering
a real conflict. So to me, that's a cold war.
You're walking at tritrop between degrading as much as you
can your opponent without triggering something really nasty. And I think,
so far, to be fair, whether it's Jenet Yellen, whether
it's Blinking, whether it's Sullivan, I think they've done pretty
(27:50):
good job of actually achieving that balance. Whether that can
be maintained, however, depends extent to which Chinese economy and
society perform to some extent, I mean, it also depends
what happens in the US, of course, but if you
just look at China, it depends on that because remember
normenal GDP in China already fallen from ten percent to
four now. In other words, as you create more disinflation
(28:14):
as you saw in Japan. It is really norminal GDP
that tells you the extent of the pressure. Now, if
economy and society a geared towards a double digit normal GDP,
if you can't raise it, inevitably pressure starts rising. And
so the question is extent to which the pressure rises.
What is China's response, both in terms of in terms
(28:36):
of geopolitics, in terms of politics, but also in terms
of economic policies, and how are you going to change them?
Speaker 2 (28:41):
Well, this is kind of what I don't get, and
this came up in the episode we did with Hugh
Henry recently as well, where he was talking about the
old traditional Chinese export model for reasons that you just
laid out as well, just isn't going to work anymore,
because you know, Europe is not going to accept a
flood of cheap electric vehicles coming in from China. And
(29:02):
so I guess I'm a little bit confused exactly what
China is planning here, because the resistance from the rest
of the world seems so glaringly obvious. When China first
started talking about building up, you know, technological independence in
things like semiconductors or strategically important technologies. I was under
(29:24):
the impression that, like some of the idea there was
to sell it into the domestic population so that you
don't have to worry about the US suddenly cutting you
off from important chips. You would have your own supply
and then you could do with it what you will.
But as you've laid out, like boosting domestic consumption doesn't
actually seem to be a priority right now, they still
(29:46):
seem to be very focused on exports. So I guess
I just don't get it, because to me, the problem
with that strategy seems so obvious.
Speaker 4 (29:55):
One of the ways I describe it is a way
I look at cheshipping and the well look at Chinese
leadership right now. It's sort of a mixture very stern,
paternalistic attitude. You know, being soft is bad, suffering is good.
That's one side of it. The other side of it is
very classical economics and Marxist economics. They effectively harping back
(30:16):
to the day of Quinsy, David Ricardo, Adam Smith, cal
Marx and those people were not thinking of prices, that
were thinking of value. Now, since late nineteenth century economy
is abundant value. So we only look at the prices.
So if you're a billionaire, you must have add value
because price is telling us you have Classical economy says no,
this guy just captured somebody else's value. He didn't create value.
(30:39):
And so if you take that mindset, who is creating value?
Who is destroying value? If you ask David Ricarda does
he think financial markets or capital markets value creative? The
answer would have be no. The best thing you can argue,
they're relocated, but they don't don't create it. Who is
creating value? And so for Ricardo or Adam Smith, or
even before that, the argument people who produce stuff, whether
(31:03):
it was agriculture early on, whether it's manufacturing, whether it's technology,
and so the emphasis seemed to be much more In supply,
the emphasis seemed to be much more production. The emphasis
is to start to strengthen as Chi Chi Pink calls
it productive forces, which is a classic Marxist argument productive
versus unproductive. Strengthen them, put obstacle in front of people
(31:26):
who you don't regard as productive, and they're incredibly suspicious
of capital markets and finance.
Speaker 2 (31:32):
So the disorderly expansion that's right, what.
Speaker 4 (31:36):
Carl Marx used to call fictitious capital, capital that multiplies
for its own sake without doing anything good to anybody else.
And so if you take that mindset, then that is
not the mindset of Western economists. But if you take
that mindset, the sort of stern, paternalistic attitude and the
emphasis of what he described productive forces, you understand why
they're reluctant to actually do anything about it. Now. Eventually,
(31:59):
as I said early on, the precious has to rise
and they will have to pivot. And we saw this
COVID in late October early November twenty twenty two, that
he can pivot very very quickly. That's why there was
a disorderly opening after COVID. And so there is a
possibility that there will be that moment when you actually
will have the change. But the longer he waits, the
(32:23):
worst it gets. And the reason is very simple. China
is not Japan. Japan had an open capital account and
fluctuating currency and convertible currency. So when Japan run into
the wall, they just collapse overnight. China has close capital account,
currency is not convertible, central bank is not independent, actually
lost all the power pretty much commercial banks are not
commercial and private sector is not really private. So when
(32:44):
you're operating behind the wall garden, you can't have Minski moments.
You can't just hit the wall and collapse. But what
you can do you can basically add increasing headwinds as
you keep going. So if Japan operated Chinese system in
nineteen ninety, they didn't have to go down. They could
have survived until ninety six or ninety seven. But the
(33:05):
longer you go with that, the worse it gets, and
so they need to recalibrate. So recalibration, which is needed.
Change your policy settings quite dramatically. Number two, change your
geopolitical stance quite dramatically. In a sense, stop trying to
rebuild the world and change the world and change domestic politics.
(33:25):
In other words, give a little bit of freedom for people,
both businesses and consumers and households. If there is is
pivot change, you still have to pay a price. Because
one of the things I highlight is capital stock. IMF
calculates it. And if you think of two thousand and four,
China had capital stock of I forgot like four trillion dollars.
(33:45):
India had one in twenty twenty eight, they will have
one hundred and five trillion dollars. US for example, will
have seventy seventy five India will only have six. So
China absorbed over one hundred trillion dollars of depreciated capital
in a couple of decades. When you absorb so much capital,
which is entire world GDP, when you absorb so much
(34:06):
capital so quickly, inevitably, you have an indigestion period. So
that indigestion period will be with you even if you
make a policy pivot today. But what will happen if
they do that? Risk premia will improve because China is
the only market in the world, and the only acid
in the world where risk premier over the last several
years have gone up almost everywhere risk premier actually for.
Speaker 3 (34:46):
I want to push on two specific things you said.
So one is you talked about Chinese dumping, and I
sort of understand conceptually the idea of dumping in a
commodity like steel or they're you know, produce bonds you
can't use it all at home, or maybe even like
solar or something like that. But a lot of the
Chinese exports success seems to be in making high quality
(35:09):
non commodities that are just very competitive for cost reasons
and in some arguably quality reasons. One example would be
people saying that the shell me phone now has a
better camera, say than the iPhone. So that's one thing.
And then the other thing is you say you credit
yelling and blink in for maintaining something reasonably. Well, this
attempt to degrade China, but not necessarily provoke something stronger.
(35:34):
What have they actually done substantively? Because I see the trips,
and I see the talk and the anxiety and the
you know, the ft columns about jumping and all that stuff,
but I don't really understand or can't quite internalize what
substantively they have accomplished.
Speaker 4 (35:48):
Well, what do you need to avoid is very dramatic moves. Okay,
So in other words, the last thing you want is
to stop slapping terraffs on very primitive products. But I
remember mostly actually does law great stuff. People focused on cameras, etc.
But a lot of China is basic chemicals, it's toys,
(36:08):
It's that sort of stuff. So try to avoid displacing
that trade as much as possible. Try to focus on
the areas that are important for you strategically, And that's
what Trump started to do but very chaotically, and what
Biden administration have done very systematically over the last four
years now, except that China trade will get rerouted. Now,
(36:29):
the fact that suddenly Mexico and Vietnam became major partners
of the United States have very little to do with
capacity of those countries to actually produce it. It's a
lot of Chinese trade gets rerouted through those places, and
accept that because you're getting some of the benefit of that,
including sometimes better quality law prices that consumers and businesses
in the United States can benefit from. At the same time,
(36:52):
what you're trying to do is re establish as much
contact as you possibly can, because as Defense Secretary was
saying back in Singapore when Chinese refused to talk to
him eighteen months ago, he said, with the Soviets, we
never agreed on anything, but we talked. And the same
is here. You need to maintain the lines of conversation
so that you know how far you can go, where
(37:14):
you cannot go, how far you can push, how high
you can bring it back. So what you try to
avoid is a chaos. What you try to avoid just
slapping stuff all over the place, trying to avoid pushing
China too far and at the same time gradually, as
I said, degrading it. Now there is a possibility, and
it is a small possibility right now, but there is
a possibility that something horrible is going to happen, either
(37:38):
in Russia Ukraine, or something horrible might happen across down
One Straits, and the whole thing will start escalating beyond
what you're trying to do. And at that point we
could potentially see zeroing out even of Chinese and Hong
Kong assets. You can even see US Department of Treasury
arguing that they don't recognize, for example, the currency in
(37:59):
Hong Kong dollar. Extreme you can have a very extreme
outcomes which I think are not likely so long as
there is no as I said, disasters occurring along the way.
Speaker 2 (38:11):
So we just have a few minutes left, and I
want to go back to what you said earlier, where
you were talking about the idea of financial risks migrating
into I guess, the real world, into the political sphere
in one way or another. And you are actually the
only Cell side analyst I know of who has mentioned
the Columbia protests specifically. We're here in New York. Columbia
(38:33):
is not that far from us. Talk to us a
little bit about how that kind of political discontent plays
out in your world, in the world of you know,
investment and macro and things like that. Why is that
on your radar?
Speaker 4 (38:48):
Well, Usually when you have generational replacement and everything is fine,
like economies are fine, finance is fine, technology is fine,
there is no displacement politically or geopolitic, then one generation
just slips into another almost unnoticed. That's what happened to
Baby Boomers and X generation. But whenever you have.
Speaker 3 (39:08):
An X generation, we never were. We slipped out before
we were even in are you no, No, I'm eighty,
I'm X.
Speaker 4 (39:18):
I go. But but whenever you have whenever you have
a major technological financial disruption, what happens is that you
have or whenever circumstances change massively for the better for
the worst, one generation cannot slip into another generation. That's
what happened to Baby Boomers. Compared to a silent and
(39:39):
GI generation. The Baby Boomers could not relate to their
parents or to their grandparents. They had verdically different views
what they wanted to do, and so the younger generation
anybody born sort of after sort of early eighties onwards
have a very different view of the world. And the
reason they have very different view of the world because
they did not experience a world where jobs were plentiful,
(40:02):
where you've gone to college, you automatically had a good job.
They found that the jobs degrade, They found the professional
lives degrede They found that technology gives you many tools,
but it also degrades both your pricing power and marginal
pricing power. They found that politics become disoriented as that occurs.
(40:22):
They found that democratic policies cannot solve the problem extreme polarization.
So they're in the mixture of technological, financial, and political revolution.
And when you have that change, that generation sinks very differently,
and eventually they become a very large cohort. And when
they become a large cohort, they demanded change. Now, what
(40:43):
Baby Boomas were asking for is not what this generation
is asking for, But they're asking for change. And my
view the change all the surveys that come out, the
change they're asking is very much community based, is very
much community of equals, is very much governments supported. In
other words, harping to their grand grandparents who lived in
(41:06):
nineteen forties and nineteen fifties rather than to their parents
and grandparents. And so usually it starts with those types
of demonstration. Doesn't really matter what the excuses, whether it's
the civil rights, whether it's a Cold War, whether it's
Vietnam War, whether it's inequalities, whatever, that is something triggers it.
But then as they get big and bigger part of
(41:27):
the population, they really drive the policy. So today late
millenniums in Z already almost fifty percent of the population,
but they are only about thirty nine percent of the adults.
They only twenty five percent of the voters.
Speaker 2 (41:40):
In the US.
Speaker 4 (41:41):
Mathematically, by twenty eight twenty nine, there will be majority
of adults, and by earlier to mid twenty thirties there
will be absolute majority of both voting and the adults.
And so the question is what type of policies, economic policies, political,
social policies would they demand. People must want it freedom,
(42:01):
free enterprise, personal responsibility. You give me the rope and
I can hang myself with it, or I can succeed
this guy's asking for something else, And so how would
all of those policies change? And I'm thinking they're going
to bring us back to nineteen fifties, that probably will
be a more likely outcome rather than sort of nineteen
nineties two thousands.
Speaker 2 (42:22):
I like how conceptually we've sort of come full circle
because we're back to I guess demographic changes driving potentially
higher deficits over the long term, fueling US exceptionalism in
some ways. Maybe, Yeah, let's take it. Victor Schwetz, thank
you so much for coming back on odd Lots.
Speaker 5 (42:39):
Thank you. I appreciate it.
Speaker 2 (42:40):
That was great.
Speaker 5 (42:41):
As always, Joe.
Speaker 2 (42:56):
I feel like any mention of generations always leads to
over the cutoff points.
Speaker 3 (43:02):
Well, I may have said, I don't know if I've
ever said on air, So I'll just say that I
have a very simple test for the dividing line between
X and millennial because some people say seventy nine or
eighty one or.
Speaker 2 (43:12):
Yeah i've heard nineteen eighty and above.
Speaker 3 (43:14):
Yeah I've heard that too. But I think there's a
very simple test to do it, which is, did you
have Facebook in college? Because that gets you in that
ballpark automatically, yeah, but also that's generationally transformative. Social media
is like clearly a dividing line. I did not have
Facebook when I was in college. I got my first
account I don't know, like twenty two. It was after
(43:34):
I graduated by a couple of years. You apparently did,
so I'm X your millennial. That makes a lot of sense,
Thank you. I think it's a test and apparently, I
guess it's probably rolled out to people in Harvard earlier.
The implication is that people at Harvard became millennial before
the rest of everyone else.
Speaker 2 (43:51):
Well, yeah, I was at LSE and I think we
were one of the first, yeah, so international universities to
get it. I have to say part of me kind
of misses the college era of Facebook, where like we
just spent an inordinate amount of time like poking each other.
I don't know if you remember that. Anyway, back to Macro,
there's so much to pull out of that conversation. It's
always great talking to Victor. I guess one of the
(44:12):
things that strikes me is, you know, he highlighted the
I guess unexpectedly loose financial conditions, and to me, it
does feel like that is a key part of what's
happening in markets right now, and it kind of goes
back to that point I was making earlier, where I
don't think anyone expected the cost of money to go
up so much viz. Benchmark rates and the FED rate hikes,
(44:36):
while the supply of credit continues to expand. And that,
to me is sort of like the key to a
lot of what's going on in asset prices. Why we
haven't seen that huge default cycle that people were predicting,
Why we haven't necessarily seen as many layoffs as a
lot of people were predicting, and things like that.
Speaker 3 (44:53):
Yeah, totally Like we can easily point to a few
different categories, like aspects of real estate and which. Sure, No,
it's totally true that it's sort of a puzzle, and
I don't think anyone is a great answer for why.
You know, people talk about refinancing and everyone has a
third year fixed. Maybe that has something to do with it. Still,
it's not entirely intuitive why that hasn't had a larger
(45:14):
compressing effect on asset prices. You know, there's so much
to pull out of that conversation and every conversation with Victor.
Like I said, we could have talked for like an
hour on the problem with the dots, and maybe we
should do that, because it does seem like that's getting
more attention to sort of being handcuffed by the dots
perhaps you know, obviously, and we'll do more China episodes.
But is it really possible? And I guess I have
(45:36):
my doubts. But what do I know, like to degrade
China's cutting edge capacity in such a way that doesn't
provoke actual geopolitical conflict something more mild, big questions there?
Speaker 2 (45:47):
Dots seem so innocuous to me. It's so it's it's funny,
Well what we're talking about them? As last?
Speaker 1 (45:53):
Wait?
Speaker 3 (45:53):
Can I give it confession? And I always do my
confessions at the end because I hope that no one's listening.
I always turn off turn off laws right here. I
always forget whether the dots are what the individual FOMC
member thinks should be the optimal path of monetary policy
going forward versus what that FMC member thinks the policy
(46:17):
will be going forward. And I like, I know there's
a right intern one, but I always forget which is which.
Speaker 2 (46:23):
Oh I hate stuff like this because it makes me
It's one of those things like you just talk about
kind of naturally without thinking about what you're actually looking at.
But I think it might be what they think appropriate
monetary policy should be.
Speaker 3 (46:35):
No, you're right, I just as I was saying, I
also pulled up the Bloomberg dots explainer anyway.
Speaker 2 (46:40):
Which I mean also you would expect it to be that, right, Yeah, right, well,
I mean yeah, bring back the boe fan charts. That's
what I say. Let go of the dots and let's
just do a range of probabilities for interest rates and
we can have either fan charts or those hair charts,
the hairy charts, the MEDUSA charts, which I love, or.
Speaker 3 (46:59):
Just go back to the old days where they don't
even tell you what rate that they sent and the
market has to figure it out because of the overnight rate.
That would probably be fine too. I don't think we
need all this communication. I appreciate it. I like the speeches.
They're interesting, but we don't even we went for years
without that.
Speaker 2 (47:14):
It would be very interesting, to Victor's point about sort
of real time repricing, to see what a system like
that would would mean for financial markets right now, maybe
it would be better. Let's all slow down.
Speaker 3 (47:26):
I think it's possible.
Speaker 2 (47:27):
All right, shall we leave it there?
Speaker 3 (47:28):
Let's leave it there.
Speaker 2 (47:29):
This has been another episode of the All Thoughts podcast.
I'm Tracy Alloway. You can follow me at Tracy Alloway and.
Speaker 3 (47:35):
I'm Joe Wisenthal. You can follow me at the Stalwart,
follow our producers Carman Rodriguez at Kerman Ermann Dash, Ol
Bennett at Dashbot and Kilbrooks at Kilbrooks. Thank you to
our producer Moses ONEm. For more odd Lags content, go
to Bloomberg dot com slash odd lotfere. We have transcripts,
a blog, and a newsletter comes out every Friday, and
you can chat with fellow listeners in our discord chat
(47:56):
room twenty four to seven. Talk about all these topics
scor dot gg slasht blots and if.
Speaker 2 (48:03):
You enjoy all blots, if you like it when we
try to figure out what the dot plot actually is,
then please leave us a positive review on your favorite
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with Apple Podcasts. Thanks for listening.
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