Speaker 1: Hello, and welcome to another episode of the Ad Thoughts Podcast.
Speaker 1: I'm Tracy Allaway. Joe is sick today and so I
Speaker 1: am very pleased to say that I have a guest
Speaker 1: co host, Matt Bosler. He is an economics editor for Bloomberg. Hi.
Speaker 2: Everyone, I'm Matt Bosler. Excited to be here.
Speaker 1: So, Matt, I'm so glad you're doing the show today.
Speaker 1: It is an interesting time in the US economy, and
Speaker 1: particularly this week. We're recording on September twenty eighth. We've
Speaker 1: just seen this massive sell off in the bond market
Speaker 1: following the recent FOMC meeting. There's lots of talk about
Speaker 1: higher rates for longer, lots of concerns over whether or
Speaker 1: not inflation is maybe picking up again given the rise
Speaker 1: that we've had in the oil price recently. But overall,
Speaker 1: it kind of feels surprising how resilient the US economy
Speaker 1: has so far proven to higher interest rates.
Speaker 2: Yeah, it's really interesting. You know, the Fed has been
Speaker 2: raising its benchmark short term interest rate for eighteen months now.
Speaker 2: We haven't really seen an aggressive move up in long
Speaker 2: term interest rates until just the last several weeks, so
Speaker 2: it's almost like, you know, the tightening cycle. Maybe it's
Speaker 2: just gotten started here.
Speaker 1: Right thirty year yield I think when I last looked
Speaker 1: at four point seven percent something like that. You also
Speaker 1: have all these headline risks sort of lurking. There is
Speaker 1: the looming government shut down of that might actually have
Speaker 1: started by the time we release this episode. There's questions
Speaker 1: over the UAW strike. All these sorts of idiosyncratic risks
Speaker 1: also starting to come into play. And here on odd lots.
Speaker 1: I think people know that we always like to try
Speaker 1: to tie the macroeconomic outlook and monetary policy to the
Speaker 1: real business stuff that's happening on the ground. So I
Speaker 1: am very pleased to say that we do, in fact
Speaker 1: have the perfect guest with us today to discuss all that.
Speaker 1: We're going to be speaking with Tom Barkin, the president
Speaker 1: of the Richmond Fed. Tom, thank you so much for
Speaker 1: joining all th lots.
Speaker 3: I'm looking forward to it, and you certainly laid out
Speaker 3: a long list of things we need to cover.
Speaker 1: I know, and we only have about forty minutes, but
Speaker 1: we'll try to do our best. Maybe just to begin with,
Speaker 1: I know you have taken a kind of I don't
Speaker 1: want to say unusual approach, but maybe a special approach
Speaker 1: to your job as president of the Richmond FED. You
Speaker 1: like to go out and talk to businesses within your region.
Speaker 1: And I'm curious. I know that you were previously at McKinsey,
Speaker 1: but how does that kind of feed into your thinking
Speaker 1: around monetary policy? What do you get out of those discussions.
Speaker 3: So we have a beautiful twenty four story building in Richmond.
Speaker 3: If you drive down nine ninety five you'll see it.
Speaker 3: It's quite literally an ivory tower. And so one thing
Speaker 3: I figured out pretty early, and my tenure was that
Speaker 3: the data comes in late, it's then revised three times,
Speaker 3: and so it's awfully hard to know what's actually going on.
Speaker 3: And so I just made a personal commitment that with
Speaker 3: the exception of the two weeks around the FOMC meeting,
Speaker 3: I'm going to be out every week. And in the
Speaker 3: last month, I've been on the Eastern Shore, I've been
Speaker 3: in the cold country in South Carolina. I've been in
Speaker 3: southern Virginia. I've been in the northern Virginia suburbs. I've
Speaker 3: been in western Virginia. And in every one of those trips,
Speaker 3: I'm meeting with business people, I'm meeting with nonprofits, I'm
Speaker 3: trying to understand what's actually, you know, happening in the economy,
Speaker 3: and that's where I get my information to sanity check
Speaker 3: the data as it's coming in and try to develop
Speaker 3: my own unique perspective on what's happening.
Speaker 1: I think, to my knowledge, you're the only FED president
Speaker 1: who has actually mentioned the Beyonce and the Taylor Swift
Speaker 1: concerts in a speech, a formal speech.
Speaker 3: I don't know if that's true, but my daughter also
Speaker 3: wanted me to put in a few quotes from the
Speaker 3: Barbie movie, and I managed to withstand doing that.
Speaker 2: You know, we have so many people here in New York,
Speaker 2: in this building and in the surrounding area right just
Speaker 2: pouring over every monthly economic statistic, whether it's the jobs report,
Speaker 2: the inflation report. When you're going out to all of
Speaker 2: these places, are you hearing things from businesses that are
Speaker 2: not necessarily being reflected in the data right now?
Speaker 3: Yeah, So a couple great examples. Demand If you look
Speaker 3: at the recent data we've gotten on consumer spending, it's
Speaker 3: been unbelievably resilient. As you said up front, when you
Speaker 3: talk to businesses, you'll hear it's okay, right, that's a
Speaker 3: pretty big gap and I was with a big retailer
Speaker 3: about three weeks ago that started talking about, you know,
Speaker 3: what they perceive to be the different segments of consumer spending.
Speaker 3: The high end consumer who's still spending on experiences, you know,
Speaker 3: like Taylor Swift and Beyonce. There you go, I got
Speaker 3: it in there again, versus the low income consumer who
Speaker 3: we all know, you know, saving has been somewhat depleted.
Speaker 3: And he started talking about the middle income consumer, and
Speaker 3: the way he described it was, they're trading down. You know,
Speaker 3: they're going to the grocery store, the branded grocery store
Speaker 3: for their food, but they're buying the kids notebooks at
Speaker 3: a dollar store. And you know, you hear those sorts
Speaker 3: of things, and then you try to find the evidence
Speaker 3: in the data to talk about what's happening on the
Speaker 3: labor side. I was with a manufacturer in South Carolina
Speaker 3: who said that they're losing people to Bojangles, which was
Speaker 3: an awfully, you know, strange idea for those of you
Speaker 3: who don't know. Bo Jngless a fried chicken place largely
Speaker 3: in my district in the South. But it turns out
Speaker 3: it's an indoor environment, not an outdoor environment. Shift flexibility
Speaker 3: is obtainable so you can work the hours you want
Speaker 3: to work, and the pay abou jngles has actually narrowed
Speaker 3: most of the gap with the manufacturer. Then two weeks later,
Speaker 3: I told you I was in coal country. I was
Speaker 3: talking to a guy who owns a coal mine, and
Speaker 3: he was describing his problems getting workers, and I said,
Speaker 3: wait a second. You know this is West Virginia. There's
Speaker 3: all these stories of the coal mines not being able
Speaker 3: to operate enough in all these unemployed workers. He said, yeah,
Speaker 3: but the thing you have to understand is that cell
Speaker 3: phones don't work inside of mine, and people don't want
Speaker 3: to work if they can't bring their cell phone to work.
Speaker 3: And so I've been you know, you ask what's different
Speaker 3: from the data. Data would suggest to you that the
Speaker 3: labor market has settled. But what I'm hearing is that
Speaker 3: the labor market, which was very stable for a long
Speaker 3: time and the hierarchy of jobs has gotten thrown up
Speaker 3: in the air. And there's a set of jobs that
Speaker 3: used to be paid X and are now paid Y
Speaker 3: where they're more advantaged, and other people are being left behind.
Speaker 3: Think state and local governments that can increase their pay.
Speaker 3: There are other jobs that offer remote work versus or
Speaker 3: you know, cell phone access in your workplace, and others don't,
Speaker 3: and those are getting ahead, and so employers are struggling
Speaker 3: to catch up with the new hierarchy of jobs. And
Speaker 3: if you're in one of those jobs, think childcare or teachers,
Speaker 3: or state and local government or nonprofits, you know, those
Speaker 3: folks still have more to do to get their jobs filled,
Speaker 3: to get people into jobs, to retain people. And there's
Speaker 3: wage inflation, you know, potentially related to that. So that's
Speaker 3: the kind of thing I'm trying to pick up when
Speaker 3: I'm out there, and I think it helps make me
Speaker 3: think about the economy in a totally different way than
Speaker 3: just what the data shows.
Speaker 1: That's so interesting because of course, when you look at
Speaker 1: the data, it's all aggregated, so you can't see those
Speaker 1: types of like qualitative variations that you just described, just
Speaker 1: on the notion of companies. Some companies maybe still struggling
Speaker 1: to find workers. You had a really good speech, I
Speaker 1: thought back in August where you basically argued that one
Speaker 1: of the big reasons we haven't seen a recession in
Speaker 1: the US yet is that memories of the pandemic are
Speaker 1: still very fresh, and so companies are still reacting to
Speaker 1: past shortages as opposed to really worrying about excess capacity.
Speaker 1: Do you think that dynamics starts to change as interest
Speaker 1: rates go higher? And what I mean by that is,
Speaker 1: at some point, does the added expense of investment at
Speaker 1: higher rates kind of start to outweigh concerns over future capacity.
Speaker 3: And I'll say two things I was getting at in
Speaker 3: that speech. One of them is that if you just
Speaker 3: spent a year trying desperately to fill empty jobs, you're
Speaker 3: going to be a little cautious before laying people off cavalierly.
Speaker 3: And I think if you look at the layoff announcements
Speaker 3: by businesses over the first half of the year, for example,
Speaker 3: you'll see they're massively disproportionately professionals, not frontline workers, not
Speaker 3: skilled skilled trades and manufacturing construction workers. And I think
Speaker 3: that's because people genuinely are concerned they won't be able
Speaker 3: to find those people, you know, if they lay them off.
Speaker 3: You Know. The other thing I was getting at there
Speaker 3: is we've been predicting this recession for a long time.
Speaker 3: It's been sixteen seventeen months where the leading economic indicators
Speaker 3: have all been pointing to recession. If you're a business
Speaker 3: and I've talked to a bunch of businesses about this
Speaker 3: last year's plan, they scaled back. This year's plan, in
Speaker 3: other words, the twenty twenty four plan, they're scaling back,
Speaker 3: so they're being cautious. They're not investing in discretionary spending
Speaker 3: or extra they're making those kind of investments. And so
Speaker 3: if you do have a downturn, right the implications are
Speaker 3: just going to be much less because people have already
Speaker 3: prepared for it. When it comes to the question of
Speaker 3: business investment, businesses, interest rates and how they affect it.
Speaker 3: I saw a great chart last week that was interest
Speaker 3: expense as a percent of revenue, yeah, for American corporates,
Speaker 3: And what it showed is, I think it's now basically
Speaker 3: exactly where it was in twenty nineteen. That doesn't mean
Speaker 3: there's some people who aren't paying a lot more, but
Speaker 3: on average, a lot of people refinanced, you know, during
Speaker 3: the COVID era, a lot of people aren't as dependent
Speaker 3: on borrowing, and so in total, people aren't paying more
Speaker 3: in interest. Corporations aren't paying more in interest right now,
Speaker 3: not yet, I mean, presuming that'll come.
Speaker 1: Just on that note, I'd be curious to hear what
Speaker 1: you have to say about the impact of higher rates
Speaker 1: in general and where you see the effects of the
Speaker 1: recent tightening the most in terms of the real economy. So,
Speaker 1: for instance, it sounds like it's not having that much
Speaker 1: of an impact on investment for the reasons that you
Speaker 1: just laid out, But is it having a noticeable effect on,
Speaker 1: for instance, consumption.
Speaker 3: Well so, the place you can see it most clearly
Speaker 3: is what i'll call interest sensitive sectors. Housing obviously was
Speaker 3: in very fraud when we start our interest rate increases,
Speaker 3: It's gotten less fro the you know, automobiles, durables, furniture,
Speaker 3: all those sorts of things. Banking you obviously see have
Speaker 3: seen the impact so far. You know, on the consumer side,
Speaker 3: you'd expect to see and I would have expected to
Speaker 3: see more impact than we've seen today. I have to
Speaker 3: say there's still a lot of the pandemic in the economy,
Speaker 3: and what I mean by that is the excess savings
Speaker 3: that came through for people not spending as much or
Speaker 3: retaining whatever stimulus. Another interesting thing I ran into the
Speaker 3: other day is that adjustable rate mortgages, which back in
Speaker 3: the two thousand era were a very large part of
Speaker 3: the mortgage base. Options and all of that, exactly in
Speaker 3: two thousand and three are eight percent of all mortgages.
Speaker 3: And so whereas you might have thought that interest rates
Speaker 3: would reset very quickly, they actually haven't reset all that quickly.
Speaker 3: Commercial real estate is a place you clearly see it
Speaker 3: another intrasensitive sector. So we see it in intrasensitive sectors.
Speaker 3: Business investment is fly, is how i'd put it. Consumption
Speaker 3: still remains very healthy, but I still think there's impact
Speaker 3: of the rates in train. I still think it's coming
Speaker 3: in train, but I'd agree it hasn't been nearly as
Speaker 3: impactful as you would have imagined when we started increasing
Speaker 3: rates a year.
Speaker 4: And a half.
Speaker 2: You mentioned housing, and I mean, I think that's a
Speaker 2: really interesting example to look at here because we usually
Speaker 2: think about that as the sector that is traditionally most
Speaker 2: linked to monetary policy, and of course it's also historically
Speaker 2: played such an important role in the US business cycle overall. Right,
Speaker 2: but we're in a situation here with housing now where
Speaker 2: mortgage rates have shot up, people are not moving, so
Speaker 2: you're seeing that impact on kind of sales and construction,
Speaker 2: and yet house prices are already back at record highs.
Speaker 2: So how do you assess the impact that you're having
Speaker 2: in a situation like that where activity has fallen off
Speaker 2: a lot, but you're not really seeing any sort of
Speaker 2: follow through at the price level, which is perhaps one
Speaker 2: might think what FED officials care most about.
Speaker 3: Well, so let me just talk for ten seconds about
Speaker 3: housing before getting to your question, which is, I just
Speaker 3: think there's been a secular change in the priority people
Speaker 3: placed on housing, in their demand, in their wallet. Right,
Speaker 3: if you're spending five days a week at home, three
Speaker 3: days a week at home, seven days a week at home,
Speaker 3: you know your house matters a lot more. Your office
Speaker 3: matters more, your patio manage matters more, your furniture matters more.
Speaker 3: And we saw that during COVID, and so I just
Speaker 3: think people are much more focused on their house than
Speaker 3: they were before, and that has created a demand increase.
Speaker 3: In addition, you had a generation of millennials who are
Speaker 3: now having kids and thinking I kind of need a house,
Speaker 3: and that has also been a demand increase in a
Speaker 3: generation of seniors who think that nursing homes aren't quite
Speaker 3: as attractive as they were before COVID, and that's had
Speaker 3: a supply decrease we increase interest rates. I do think
Speaker 3: that has brought demand down. I mean when you hear
Speaker 3: from home builders and others who are selling houses, demand
Speaker 3: for houses has clearly moderated from the frothy twelve offers
Speaker 3: for every house at twenty thousand over lists that we
Speaker 3: had about a year and a half ago. That said,
Speaker 3: the supply is still short, and it's short for the
Speaker 3: obvious reason that if you have a three percent mortgage,
Speaker 3: you're not dying to sell that house and get into
Speaker 3: a seven percent mortgage. It just changes the financial formula.
Speaker 3: And so what we see in terms of the effect
Speaker 3: is you still very limited supply of houses for sale.
Speaker 3: Residential construction, which you said is cyclical and normally, it's
Speaker 3: actually not as weak as you'd think it would be
Speaker 3: because the big home builders are saying I can sell
Speaker 3: every house I can make, and so they're building houses.
Speaker 3: Right that ten percent of the market is actually pretty vibrant.
Speaker 3: Because people still need houses is they can't find them,
Speaker 3: and so they're buying new houses as opposed to existing houses.
Speaker 3: But the existing house market is I'll say, the supply
Speaker 3: is very weak. The demand is coming off, but it's
Speaker 3: still an excess to supply and that's what's keeping the prices. Hi,
Speaker 3: how do we look at impact? I mean, we have
Speaker 3: one tool called interest rates. It's a pretty blunt tool.
Speaker 3: When I talk to home builders and realders, you know,
Speaker 3: I'm asking questions is demand coming off or not? It
Speaker 3: is quite clear that demand's coming off. It's quite clear
Speaker 3: there are fewer bids per house. You know, when is
Speaker 3: price coming down? That's a much more difficult, you know,
Speaker 3: thing to get to. And it's definitely stabilized from the
Speaker 3: you know, extreme spikes we were seeing a year and
Speaker 3: a half ago, but it certainly hasn't come down in
Speaker 3: any kind of scale.
Speaker 2: So two quick follow ups then, is the upshot basically
Speaker 2: that perhaps the most you can hope for here in
Speaker 2: this kind of supply constraint environment is just that you
Speaker 2: are going to slow the rate of growth of price increases.
Speaker 2: And then also does that kind of then change the
Speaker 2: way you think about the monetary policy transmission mechanism in
Speaker 2: that maybe you have to lean harder on other sectors
Speaker 2: of the economy to get the overall type of slow
Speaker 2: down that you're trying to achieve with higher interest rates.
Speaker 2: If housing is not going to play as central of
Speaker 2: a role to the whole story. Yeah, because this.
Speaker 1: Is also slightly different to what Palell said I think
Speaker 1: like a year or maybe two years ago, where he
Speaker 1: was talking about the need to put some sort of
Speaker 1: dampening pressure on house prices.
Speaker 3: Here's what I'd think about it. To bring pricing into alignment,
Speaker 3: you want supply and demand to get into better balance.
Speaker 3: That means both the supply side and the demand side matter.
Speaker 3: We are seeing progress on the supply side. A lot
Speaker 3: of the supply chain issues we had a year or
Speaker 3: two ago, with the exception of chips and switch gears,
Speaker 3: seem to be in much better shape. You've seen labor
Speaker 3: force returning to the market at much higher level. So
Speaker 3: you're getting some help on the supply side, and we're
Speaker 3: doing what we do on the demand side, right, and
Speaker 3: we're just trying to calibrate that. And so to get
Speaker 3: to where you need to get into balance, you can
Speaker 3: get there with lots of different goods and services pricing
Speaker 3: in very different ways. You don't just have to get
Speaker 3: one element shape. Now, housing is a big part of
Speaker 3: the economy, and so if rents come into line and
Speaker 3: housing comes into line, that would be useful. But you know,
Speaker 3: relative prices move all the time, and if what we've
Speaker 3: had is a secular shift toward more demand for housing,
Speaker 3: that might mean somewhat less lessening of housing prices and
Speaker 3: somewhat more lessening about other set of prices.
Speaker 1: Can I ask more generally, how you're thinking about you know,
Speaker 1: if we assume that a lot of the recent inflation
Speaker 1: has been driven on the supply side, and you know,
Speaker 1: maybe that's a big assumption, but when you raise interest rates,
Speaker 1: there is this argument that maybe you're dampening future expansion
Speaker 1: and investment at a time when you really want to
Speaker 1: see it expand, and housing is kind of an example
Speaker 1: of that, even though a lot of construction has been
Speaker 1: stronger than people have expected. How are you sort of
Speaker 1: viewing that tension between higher rates maybe impacting capacity versus
Speaker 1: trying to reduce demand.
Speaker 3: I think it's just a time horizon question, because inflation
Speaker 3: doesn't help in building capacity either. And so if we
Speaker 3: can raise rates for a relatively short period of time,
Speaker 3: get inflation under control, and bring the economy back to
Speaker 3: the kind of economy we've had with stable prices and
Speaker 3: you know, good employment and strong GDP, that will be
Speaker 3: good for investment. If we don't. Then you know, you've
Speaker 3: seen countries that don't control their inflation. That's a totally
Speaker 3: different investment stature. So it's one thing if you said,
Speaker 3: oh no, wait a second, we're going to constrain the
Speaker 3: economy forever. But people who invest aren't investing based on
Speaker 3: one or two year horizons. They're investing on long term horizons.
Speaker 3: And I think they think us taking the moves we're
Speaker 3: taking to get inflation under control are actually helpful for investment,
Speaker 3: not the other way around. So I'm talking to lots
Speaker 3: of businesses and one of the questions I ask them is,
Speaker 3: you know, what's your investment posture going forward? And folks
Speaker 3: are still leaning forward on investment. We got a Durables
Speaker 3: Goods report this morning that was actually pretty healthy. Businesses
Speaker 3: are still investing. Now, that doesn't mean they're going crazy,
Speaker 3: you know, I talked about that earlier. But they're still investing.
Speaker 3: Their investing levels are actually pretty solid. I think that
Speaker 3: is completely just to bet on the medium to long
Speaker 3: term perceived health of this economy.
Speaker 1: We touched on house prices, but I wanted to ask
Speaker 1: you a sort of wider question on pricing decisions that
Speaker 1: businesses are making. Now, I would be really curious to
Speaker 1: get your thoughts on this whole idea of seller's inflation
Speaker 1: or profit led inflation. So we've heard some ECB members
Speaker 1: talk about it, this idea that maybe companies are using
Speaker 1: these industry wide shocks to propagate higher prices, and we
Speaker 1: have seen a lot of shocks over the past couple
Speaker 1: of years. I think Brennard might have mentioned this way
Speaker 1: back in January, but of course she's not at the
Speaker 1: FED anymore. Is the FED thinking about this dynamic at all?
Speaker 3: I'll put a little different because I do believe in capitalism,
Speaker 3: and I do believe that companies raise price when they
Speaker 3: have an opportunity and lower price.
Speaker 1: I'm very carefully avoided the greedflation.
Speaker 3: Yeah, but here's I think what's going on. It's been
Speaker 3: twenty or thirty years before COVID of two to three
Speaker 3: percent inflation, very stable prices. Part of that, I hope
Speaker 3: you think was good leadership by the FED, But part
Speaker 3: of that was a set of elements in the economy
Speaker 3: that held businesses back. E Commerce meant that people could
Speaker 3: electronically shop prices. You go to a bookstore and you
Speaker 3: just click and compare it to Amazon, Big companies, autos
Speaker 3: being the first, but many big companies invested in big
Speaker 3: purchasing departments that allowed people to negotiate. Your big box
Speaker 3: retailers were famous for saying, don't give me any price increases,
Speaker 3: or I'll take manufactured to China. You had offshore production,
Speaker 3: you had offshore labor, you had demographics, you had fracking.
Speaker 3: There was a whole set of things that kept pricing
Speaker 3: under control and frankly, kept businesses away from pricing. So
Speaker 3: when the tariffs happened in twenty eighteen, I talked to
Speaker 3: a lot of businesses affected by the tariffs and I said,
Speaker 3: are you going to increase price? And they said, well,
Speaker 3: I'll increase them to this segment of my customer base,
Speaker 3: but I can't take it to one of the big
Speaker 3: home improvement chains because they won't accept it. And that's
Speaker 3: market power, and that was being deployed in an effort
Speaker 3: to keep price in a control. But businesses also didn't
Speaker 3: have the confidence to raise prices. So then you have
Speaker 3: these supply constraints, you have the stimulus, you have the
Speaker 3: inflation comes in in every boardroom in this country. Some
Speaker 3: business person put their plan together and the board said, well,
Speaker 3: why aren't you being more aggressive with price? And so
Speaker 3: those folks who had big cost squeezes or availability problems,
Speaker 3: they increased their price. And those people who colorably could
Speaker 3: explain that they might have those things also increase their price.
Speaker 3: And I don't think that's greedflation or I mean, that's
Speaker 3: just how businesses react. And the way I think about
Speaker 3: it is, after twenty years, thirty years of price not
Speaker 3: being on the table as a lever, it's now on
Speaker 3: the table as a lever. And I would say, having
Speaker 3: been a consultant in my life, it is the quickest
Speaker 3: way to make more money. If you're successful, price goes
Speaker 3: straight to the bottom line. You don't have to hire
Speaker 3: any other people. You know, it's a very good profit
Speaker 3: lever if it works. And so businesses that got that
Speaker 3: opportunity aren't going to stop trying until either their customers
Speaker 3: or their competitors, you know, make them stop. Now you
Speaker 3: see in many sectors, you know, prices coming down or
Speaker 3: even going the other way. Apparel, used cars, you know,
Speaker 3: being example. So I'm not saying this is a permanent thing,
Speaker 3: but it's part of why I think inflation, once having blossomed,
Speaker 3: is somewhat slower to settle, because I just think it
Speaker 3: takes time to get back. I'd remind you that we
Speaker 3: didn't get the vulgar inflation fighting team. I think the
Speaker 3: number is in by nineteen eighty six had gotten inflation
Speaker 3: down to four percent, and it took down to the
Speaker 3: nineties to get it to two percent. Just takes a
Speaker 3: while once you've unleashed inflation to put it back in
Speaker 3: the box.
Speaker 2: This is so interesting, So let's bring wages into the
Speaker 2: picture now, right, because it seems like there's a lot
Speaker 2: of new research emerging from various corners of the FED system.
Speaker 2: Some FED presents have been talking about this idea that
Speaker 2: it looks like in the data, wages are more likely
Speaker 2: to follow prices than the other way around. Now, of course,
Speaker 2: when we think about kind of the textbook explanation of
Speaker 2: how monetary policy works, it's like you raise interest rates,
Speaker 2: that loosens the labor market, that puts downward pressure on wages,
Speaker 2: and then that downward pressure on wages filters through to prices.
Speaker 2: So which side of this argument do you kind of
Speaker 2: come down on.
Speaker 3: Well, I'm not a trained economist, but I kind of
Speaker 3: want to say both sides. So let me try to
Speaker 3: explain that you.
Speaker 1: Can get away with italy as an untrained economist.
Speaker 3: So there's no question in my mind that this bout
Speaker 3: of inflation wasn't driven by wages. It was driven by
Speaker 3: a set of other things, supply constraints and fiscal stimulus
Speaker 3: which increased demand and that sort of thing, And so
Speaker 3: prices went up. And then a bunch of people, including
Speaker 3: I'm sure the two of you, said, huh, I wonder
Speaker 3: why my merit increase is only two and a half
Speaker 3: percent when inflation's five or six. Shouldn't I have a
Speaker 3: higher merit increase. I mean, that's how the war works.
Speaker 3: So in that part of the world, prices drove wages.
Speaker 3: And when I talk to people this year about merit increases,
Speaker 3: they'll say, well, inflation's come down, so maybe I won't
Speaker 3: give three, maybe i'll give four. Prices are driving wages.
Speaker 3: But there are other places where wages drive prices, And
Speaker 3: the most obvious places are service sectors where most of
Speaker 3: your cost structure is wages, and people had availability issues
Speaker 3: and so you had to pay more for gardeners or
Speaker 3: barbers or whatever, and so you have no option but
Speaker 3: to pass that through in price. So I definitely believe
Speaker 3: in this episode the price inflation drove wage inflation. But
Speaker 3: there are sectors even now. Hospitals will be a great example.
Speaker 3: Hospitals nurses increased in price significantly during COVID. Hospitals have
Speaker 3: very little pricing power, at least in the short term.
Speaker 3: They get their money from Medicaid and from the health insurers.
Speaker 3: But hospitals whose margins are squeezed are going to have
Speaker 3: to go back to commercial insurers and ask for more,
Speaker 3: and those commercial insurers will, in fact, it will then
Speaker 3: pass that on to customers. And so in that case,
Speaker 3: wages will drive prices. You maybe prices drove wages within
Speaker 3: dry prices. That's how you get into this circular argument.
Speaker 1: This is a nice segue into some of the labor
Speaker 1: issues that I mentioned at the top, notably the United
Speaker 1: Auto Workers strike. How are you thinking about the potential
Speaker 1: impact on the auto supply chain and inflation and GDP
Speaker 1: given that it seems like it's coming at a time
Speaker 1: right when we were beginning to see the price of
Speaker 1: used cars start to drop after many, many months of
Speaker 1: abnormal activity there. What does that suggest to you? And
Speaker 1: are those strikes kind of looming a bit larger in
Speaker 1: the FEDS thinking nowadays.
Speaker 3: Well, we've had a series of labor disputes or near disputes,
Speaker 3: starting with I guess there were some airlines and ups,
Speaker 3: and of course the writers just settled their strike. You
Speaker 3: get the autos, and in all those cases their implications
Speaker 3: for supply and their implications for employment, and potentially that
Speaker 3: we'll see implications on pricing, and all those fit as
Speaker 3: best I can tell, into the we'll see category. You know,
Speaker 3: one of things I liked about our posture coming out
Speaker 3: of the last meeting is that with demand relatively strong
Speaker 3: by all accounts, labor markets still relatively strong, and inflation cooling,
Speaker 3: we have the latitude to say, let's see how this developed.
Speaker 3: So I could tell you stories of this creating inflationary pressure.
Speaker 3: I could tell you stories of this creating excess labor,
Speaker 3: but I'd just be telling you stories. I think we
Speaker 3: have to see how this turns out.
Speaker 2: So Voker famously attributed the breaking of the air traffic
Speaker 2: controller strike as kind of an elemental turning point in
Speaker 2: bringing the inflationary period of the nineteen seventies to heal.
Speaker 2: Do you think about it similarly?
Speaker 3: I'm actually pleased to say I remember that that was
Speaker 3: nineteen eighty one, so that was what forty two years ago. Yeah,
Speaker 3: I believe in the seventies and eighties, the common wisdom
Speaker 3: on inflation was that there were two sets of sources,
Speaker 3: you know. One was the role of the FED and
Speaker 3: its unwillingness to stay the course in terms of battling inflation,
Speaker 3: and the second was, you know, wage price pressure, where
Speaker 3: wages were in fact driving prices. So I haven't heard
Speaker 3: that quote. If he said it, he's probably talking about
Speaker 3: union power and what that did to that part of
Speaker 3: the equation. But I was in college studying monetary policy
Speaker 3: at the time. But all I've read and learned about
Speaker 3: monetary policy would give Vulcar a lot more credit than
Speaker 3: to say, breaking of one strike. I think the willingness
Speaker 3: to stand up to high inflation and say we will
Speaker 3: do what we need to do to get it under
Speaker 3: control in a way that was broadly seen eventually as
Speaker 3: quite credible has to be the key element in getting
Speaker 3: inflation under control, as opposed to anyone, you know, government
Speaker 3: union in the strike.
Speaker 1: So I promise that we would try to get to
Speaker 1: all of the sort of headline risks and developments that
Speaker 1: I mentioned in the intro, and you're right, there were
Speaker 1: a lot of them, but one of them is the
Speaker 1: bond market sell off that we've seen. Were you surprised
Speaker 1: at all by the market reaction to last week's meeting,
Speaker 1: given that, you know, we had the dot plot kind
Speaker 1: of suggesting higher for longer, but it came with better
Speaker 1: growth projections as well. And yet fast forward a little
Speaker 1: over a week and it feels like there has been
Speaker 1: this very dramatic reaction in the market.
Speaker 3: I don't think I understand the market well enough to
Speaker 3: give you much commentary on it. It does move around,
Speaker 3: and it moves around for lots of reasons, which undoubtedly
Speaker 3: include what we do, but also include a lot of
Speaker 3: foreign country dynamics, you know, Japan or China, and who's
Speaker 3: buying and who's not. Treasury supply, you know, and all that.
Speaker 3: And so my interpretation of the SEP, and I should
Speaker 3: remind everybody that it's nineteen individuals individual forecast and then
Speaker 3: there's a median, and so the median is not the
Speaker 3: median individual, it's the median inflation and the median GDP.
Speaker 3: But it seemed pretty straightforward to me that it marked
Speaker 3: up GDP based on a pretty strong summer of growth.
Speaker 3: It marked down the unemployment rate based on a pretty
Speaker 3: strong summer of growth, and it kept inflation the same.
Speaker 3: And the only way to square those would be to
Speaker 3: have a somewhat higher for longer rate path so that
Speaker 3: those things went together, at least in my estimate. If
Speaker 3: I'm wrong on my inflation forecast or I'm wrong on
Speaker 3: my unemployment forecast, then I'm wrong on my Fed funds
Speaker 3: rate forecast. We'll see what happens.
Speaker 2: So you can definitely let us know if you're out
Speaker 2: of step with the median after I asked this question.
Speaker 2: But you know, one of the striking things about those
Speaker 2: projections that you put out last week was the pretty
Speaker 2: decent upgrade to GDP growth in twenty twenty four. So
Speaker 2: the story kind of coming into this meeting is that,
Speaker 2: you know, a lot of people earlier in the year
Speaker 2: I thought we were going to have a recession and
Speaker 2: the growth forecasts were very weak, and then over the
Speaker 2: last several months people have been surprised by the resiliency
Speaker 2: of the economy, so they've dropped the recession forecast. I
Speaker 2: guess my question is, is this the kind of situation
Speaker 2: where we've been surprised by growth over the last three
Speaker 2: months or so, and therefore we're marking up our growth
Speaker 2: forecasts all the way through the end of next year.
Speaker 2: How do you think about that.
Speaker 3: Second quarter GDP came in at two point one percent,
Speaker 3: higher than trend and significantly higher than most people would
Speaker 3: have thought, you know, six or nine months ago. We'll
Speaker 3: see what happens to third quarter GDP. But one of
Speaker 3: the big forecasting firms I saw today marked it down
Speaker 3: from four to three point six percent. So that's a
Speaker 3: very healthy number of three point six percent. And I
Speaker 3: think there is a case to be made that the
Speaker 3: US economy is a lot more resilient than we thought
Speaker 3: it was, resilient to interest rates, resilient to all the
Speaker 3: shocks we've talked about, and those people who believe that,
Speaker 3: you know, I think might well be sensible to mark
Speaker 3: up their growth forecast for twenty twenty four. I still
Speaker 3: want to believe, personally, not want to believe. I still
Speaker 3: believe personally the rates have an effect with a lag
Speaker 3: that some of the things we're talking about are going
Speaker 3: to have you know, we haven't talked about oil prices
Speaker 3: are going to feed through to the US economy. That
Speaker 3: inflation is going to be more stubborn than we think,
Speaker 3: and that eventually, you know, people will start to trim
Speaker 3: back just a little bit on their way to a
Speaker 3: somewhat slower economy in twenty twenty four. So that's my instinct.
Speaker 3: You know, if you said, there's a great question in
Speaker 3: the SEP, which is do you think the risks are
Speaker 3: on the high side of the low side, and do
Speaker 3: you think uncertainties higher or lower? I think uncertainty is
Speaker 3: a lot higher because the economy in the third quarter
Speaker 3: looks like it's going to come in and we're only
Speaker 3: a day away from being done with it a lot
Speaker 3: stronger than I would have said just a quarter ago.
Speaker 3: So I have to open myself up to the pot
Speaker 3: disability that maybe my forecasting is wrong.
Speaker 1: You mentioned oil. I'm going to take the bait because,
Speaker 1: of course, when we look at that sell off in bonds,
Speaker 1: it wasn't just the FOMC meeting. There are a lot
Speaker 1: of concerns over supplies you mentioned, but also we've seen
Speaker 1: the price of oil start to pick up again and
Speaker 1: that's been fueling the sell off. How's the FED thinking
Speaker 1: about energy prices as an inflationary risk at this point
Speaker 1: in time. Is it sort of an idiosyncratic thing that
Speaker 1: you can look through, or is it the type of
Speaker 1: thing that you worry about, because maybe it propagates and
Speaker 1: spreads to a whole bunch of other things that happened
Speaker 1: to be in the CPI index, like airfares and food
Speaker 1: and stuff like that.
Speaker 3: Yeah. Both, Okay, I thought Jay said it pretty well.
Speaker 3: If what you have is a modest and time limited
Speaker 3: increase in oil prices or gasoline prices, gasoline prices are
Speaker 3: a very visible signal to the American people. It's just
Speaker 3: in front of you every day. It absolutely has an
Speaker 3: impact on consumer sentiment. It absolutely has an impact on
Speaker 3: consumption because people reprioritize consumption toward gas and away from
Speaker 3: other things. And it absolutely has an impact on headline inflation.
Speaker 3: If two months from now it comes back down again,
Speaker 3: then it's the kind of thing you look through. If,
Speaker 3: on the other hand, you get an extended period of
Speaker 3: higher oil and gas prices, then it does have the
Speaker 3: potential to feed through everything to cost to plastics, to
Speaker 3: parcel delivery surcharges or airfare surge charges and those sorts
Speaker 3: of things. And so it's really hard to make much
Speaker 3: out of it at the moment, you kind of have
Speaker 3: to follow demand and follow inflation as you go.
Speaker 1: I have sort of an existential question based on that response.
Speaker 1: But you know, both Joe and I actually Matt as well,
Speaker 1: we were all at Jackson Hole and we listened to
Speaker 1: Christine Legard's ECB speech and she was kind of talking
Speaker 1: about this idea that maybe monetary policy has to take
Speaker 1: a back seat at a time when we have war,
Speaker 1: the lingering effects of pandemic, ongoing supply shocks, and of
Speaker 1: course a lot of big fiscal still a lot of
Speaker 1: green energy investment that might be driving inflation. Given that backdrop,
Speaker 1: how does the FED know when they've reached the two
Speaker 1: percent inflation target or are getting closer to it, particularly
Speaker 1: at a time like now where it feels like oil again,
Speaker 1: like a sort of outside factor that you don't necessarily
Speaker 1: have a lot of control over is clouding that picture.
Speaker 3: First of all, I saw her speech a little differently
Speaker 3: now I heard it. But maybe what I heard her
Speaker 3: saying is maybe over the last twenty years, we benefited
Speaker 3: from a set of deflation disinflationary forces in fracking, you know,
Speaker 3: which reduced oil prices in this country significantly. Would be
Speaker 3: a good example of that, and that maybe over the
Speaker 3: next twenty years, I thought I heard her saying, we're
Speaker 3: going to be having we run the risk of facing
Speaker 3: a bunch of inflationary forces. I don't think I heard
Speaker 3: her say run away from monetary policy, and that standpoint.
Speaker 1: Not run away from monetary policy, but maybe it's harder
Speaker 1: for monetary policy to combat these inflationary forces.
Speaker 3: Well, so you know, it's like sailing. You can go
Speaker 3: a lot faster downwind, but you can also sail into
Speaker 3: the wind. You just have to tighten your sales. And
Speaker 3: I think that's the kind of spirit to think about
Speaker 3: in terms of if we are in a more inflationary environment.
Speaker 3: I gave a speech on this last year. You know,
Speaker 3: we just have to we have to manage understanding that
Speaker 3: inflation is more of a day to day risk than
Speaker 3: it might otherwise have been. And so there were periods,
Speaker 3: I want to say twenty fifteen when oil prices spiked
Speaker 3: and we didn't respond with monetary policy, right because inflation
Speaker 3: was still under our two percent target. Nobody was all
Speaker 3: worried about the fact that inflation would sort of suddenly spur. Well,
Speaker 3: you might operate with you might be less willing to
Speaker 3: see through those one time shocks. To look through those
Speaker 3: one time shocks if you were worried about inflationary pressure.
Speaker 3: More broadly, I think it's I go with the sailing
Speaker 3: analogy a little bit more than saying monetary policy can't
Speaker 3: do it. It certainly can.
Speaker 2: Okay, So zooming back in on inflation over the next
Speaker 2: few months, right, because I guess it's kind of an
Speaker 2: evergreen statement, but you could certainly make a case that
Speaker 2: we're at another critical juncture for monetary policy. The FED
Speaker 2: is trying to decide whether to hike rates again or
Speaker 2: not at this point. And another thing that was really
Speaker 2: striking about the projections that you guys put out last
Speaker 2: week that a lot of analysts noted was that your
Speaker 2: forecast for inflation just for the end of this year
Speaker 2: is looking pretty high versus what we've been getting over
Speaker 2: the last couple of months. It kind of implies that
Speaker 2: there's going to be a step up in the rate
Speaker 2: of monthly inflation over the next several reports to take
Speaker 2: us into the end of the year here, So is
Speaker 2: that your view as well? Do you see these last
Speaker 2: few months of really a lot better inflation reports as
Speaker 2: kind of a blip and we're going back up to
Speaker 2: a higher run rate.
Speaker 3: Don't know, and I won't get these right, but for
Speaker 3: the last five months, the monthly PCEE core has been
Speaker 3: point three point three point three point two point two,
Speaker 3: and most forecasters would assume the one we're going to
Speaker 3: get tomorrow looks in the range of point two. If
Speaker 3: that's the case, then we're running last six months at
Speaker 3: about three percent inflation, in the last twelve months at
Speaker 3: about three and a half percent core inflation. And someone
Speaker 3: might want to help me, but I think the median
Speaker 3: was somewhere in the three point six range, three point seven,
Speaker 3: three point seven, So that would imply you have some
Speaker 3: point three's coming in the next few months. It's not
Speaker 3: that precise. So there are definitely inflationary forces out there.
Speaker 3: You mentioned oil being a good example, and I think
Speaker 3: we'll see. And my view on this thing is, you know,
Speaker 3: if you ask me to sell my is the world's
Speaker 3: greatest forecaster, I wouldn't you know what I would sell
Speaker 3: myself as as a practical evaluator of what comes in
Speaker 3: the door. And we're going to see what happens with
Speaker 3: inflation and a higher set of inflation forecasts lead to
Speaker 3: a belief that, wow, we're not through. A lesser set
Speaker 3: of inflation forecast might give you a little bit more calm.
Speaker 1: I have just one more question, which is, you know
Speaker 1: we're talking again on September twenty eighth, and we've seen
Speaker 1: this big sell off in bonds, the thirty year yields
Speaker 1: at four point seven. This is the thing that feeds
Speaker 1: into things like mortgages and commercial paper and stuff like that.
Speaker 1: I have seen at least two research notes this week
Speaker 1: talking about the potential for something to break again, and
Speaker 1: of course we had the Silicon Valley bank drama earlier
Speaker 1: in the year. Does that become another concern for you
Speaker 1: as you see these yields start to go higher, or
Speaker 1: some of the interest rate pressures that we talked about
Speaker 1: earlier start to feed through into the economy, especially if
Speaker 1: the expectation is now that rates are going to be
Speaker 1: higher for longer.
Speaker 3: I think this idea of looking at financial conditions broadly
Speaker 3: and saying we only have this one tool we raise
Speaker 3: rates or lower rates, what does it do to financial conditions?
Speaker 3: Financial conditions include long term bond rates. They also include
Speaker 3: equity valuations, house prices, oil prices, all of those things
Speaker 3: feed into what are the conditions that you're living in.
Speaker 3: I think you could argue that three months ago it
Speaker 3: was a little surprising that long rates had dropped as
Speaker 3: much as they had, and not surprising after Silk and Valley,
Speaker 3: but noteworthy, and that equity markets were as vibrant as
Speaker 3: they were today, you might say equity markets have come
Speaker 3: down a little bit. And so all I take from
Speaker 3: that is conditions are tighter today than they were a
Speaker 3: month ago. And I'm evaluating what is the impact of
Speaker 3: those Titan conditions on demand and on inflation. Demand being
Speaker 3: both revenues core demand, and also you know, the employment markets,
Speaker 3: and I think you want to evaluate those Titan finance
Speaker 3: conditions against that, against that backdrop.
Speaker 4: I lied.
Speaker 1: I actually have one more question, which is, can you
Speaker 1: give us a sneak peek of the Fed's Taylor Swift
Speaker 1: reaction function.
Speaker 3: Well, I will tell you this, those of you who
Speaker 3: are worried about demand. Travis Kelcey jerseys, I'm told increased
Speaker 3: six times yes in sales after just one Skybox appearance,
Speaker 3: So I think she's doing very well in Kansas City.
Speaker 1: We got to go check on the pricing of those jerseys. Matt,
Speaker 1: and see whether the prices have gone up or not.
Speaker 2: Yeah, the question is if we're just pulling forward the
Speaker 2: demand writer, this is a sustainable trend going forward.
Speaker 1: Yeah, we'll do Jerseys as a microcosm for the US
Speaker 1: inflation story.
Speaker 3: All right, well, I feel like saying, there's a blank space, baby,
Speaker 3: and I'll write your inflation.
Speaker 1: Very good, Tom, it was lovely speaking with you. Thank
Speaker 1: you so much for coming on all thoughts. Really appreciate it.
Speaker 3: Great to be with you all.
Speaker 4: Thanks Matt.
Speaker 1: That was really fun. Love the I love that we
Speaker 1: ended it with a Taylor Swift reference. That was pretty good.
Speaker 2: Yeah. From Taylor Role to Taylor Swift.
Speaker 4: There you go.
Speaker 1: Oh God, we're just gonna keep going. No, all of
Speaker 1: that conversation was really interesting to me. Definitely a treat
Speaker 1: to hear how a FED president, even if he has
Speaker 1: non voting like super interesting. Also hearing about what he's
Speaker 1: discussing on the ground with real businesses. Again, that point
Speaker 1: about people still being concerned about capacity shortages versus capacity excess,
Speaker 1: I think does explain a lot of the resiliency that
Speaker 1: we've seen so far, at least in the labor market.
Speaker 2: Yeah, and he mentioned that uncertainty, right. I mean, I
Speaker 2: feel like that was really the through line throughout the
Speaker 2: entire conversation. And you can go on the fed's website
Speaker 2: and actually look up their projections. He referenced this and
Speaker 2: you will see that. You know, the question that they
Speaker 2: answer in there about whether uncertainty about GDP growth is
Speaker 2: higher or lower than say, the last twenty years on average,
Speaker 2: the vast majority of them are saying it's higher. So
Speaker 2: I think that's clearly the theme here for the next
Speaker 2: several months.
Speaker 1: Yeah, and I think to that point, the estimates are
Speaker 1: all over the place, because I think the Atlanta FED
Speaker 1: model is like four point nine percent for the third quarter,
Speaker 1: and then like the New York FED model is two
Speaker 1: point one percent, and then economists think it's one point
Speaker 1: four percent, and it's just this huge disparity in estimates
Speaker 1: at the moment.
Speaker 2: Yeah, we actually got revisions to the second quarter GDP
Speaker 2: numbers today, oh yeah, And they slashed personal consumption expenditures
Speaker 2: in the second quarter, and yet the third quarter consumer
Speaker 2: spending numbers are looking really strong. So it's a bit
Speaker 2: of a rollercoaster right now with the data.
Speaker 1: And of course things are about to get more complicated
Speaker 1: if we do have that government shut down. I actually
Speaker 1: meant to ask Tom about this. It's a shame I
Speaker 1: totally forgot. But you know, a lot of the economic
Speaker 1: data that we are used to seeing could potentially be
Speaker 1: postponed for the foreseeable future, so kind of wild.
Speaker 2: That's right, And a lot of those federal government employees
Speaker 2: would be in his district, so maybe good for a
Speaker 2: follow up?
Speaker 1: Yeah, shall we leave it there for now?
Speaker 2: Let's leave it there. Okay.
Speaker 1: This has been another episode of the Audlots podcast. I'm
Speaker 1: Tracy Alloway. You can follow me at Tracy Alloway.
Speaker 2: And I'm Matt Bosler. You can follow me at Boes Underscore.
Speaker 2: Follow our producers Carmen Rodriguez at Carmen Arman and Dashill
Speaker 2: Bennett at dashbot Special, thanks to Moses on and follow
Speaker 2: all our podcasts at podcasts.
Speaker 1: And if you enjoy Audlots content, if you want to
Speaker 1: talk about this episode, then please check out our discord.
Speaker 1: We have lots of listeners who are chatting about monetary
Speaker 1: policy on a daily basis, and you should definitely subscribe
Speaker 1: to our weekly Adlots newsletter. Joe and I write about
Speaker 1: some of the things that we discuss in these episodes,
Speaker 1: and other interesting things that we notice in markets and
Speaker 1: the economy and business. And if you enjoy adlots, if
Speaker 1: you want us to work our way through all the
Speaker 1: f o MC members, all the way up to Jerome
Speaker 1: Poal maybe then please leave us a positive review on
Speaker 1: your favorite podcast platform.
Speaker 4: Thanks for listening.