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Speaker 1: Welcome to the Bloomberg Surveillance Podcast. I'm Tom Keane. Along

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Speaker 1: with Jonathan Farrell and Lisa Brownwitz. Daily we bring you

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Speaker 1: insight from the best and economics, finance, investment, and international relations.

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Speaker 1: Find Bloomberg Surveillance on Apple, podcast, SoundCloud, Bloomberg dot Com,

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Speaker 1: and of course, on the Bloomberg terminal. This next guest

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Speaker 1: is one of the smartest minds on markets, but also

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Speaker 1: the most experienced with both the private and public sector,

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Speaker 1: having just come from the Council of Economic Advisors to

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Speaker 1: President Biden. DLive Saying, who is now currently the Chief

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Speaker 1: Global Economist at p JIM also former Deputy National Security

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Speaker 1: Advisor for International Economics for the Biden administration. DELI, but

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Speaker 1: I want to start with this question around increasing protectionism.

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Speaker 1: I will get into some of your expectations for inflation, etcetera.

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Speaker 1: But this idea of the Inflation Work Auction Act and

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Speaker 1: what we're hearing out of Europe this morning of potentially

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Speaker 1: trying to entice technology companies to come to their own shores,

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Speaker 1: do you think that this could ignite some sort of

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Speaker 1: increasing reglobalization or deglobalization that we already see in effect.

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Speaker 1: Good morning, Lisa, Well, let's put step back and consider

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Speaker 1: the global backdrop. We're in probably the most intense period

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Speaker 1: of great power competition since World War Two, and it's

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Speaker 1: in that context with repeated supply shocks COVID, but also

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Speaker 1: the war in Ukraine that major economies are saying for

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Speaker 1: critical goods like semiconductors, like pharma, for electric vehicle batteries

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Speaker 1: as well, and some of the foundational technologies like AI

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Speaker 1: and biotech and robotics, UH that that we want to

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Speaker 1: have more prioritization on resilience that are, and more supply

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Speaker 1: chains geared around geopolitical alliances rather than just global efficiency

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Speaker 1: and rather than just prioritizing more inventories. So I think

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Speaker 1: the re orientation of supply chains it's real for critical

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Speaker 1: goods and foundational technologies, but there are ways for the

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Speaker 1: US and its allies, particularly in Europe, block rate in

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Speaker 1: terms of getting resilience against a shared set of shocks

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Speaker 1: that worry US using a similar set of tools, and

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Speaker 1: then ultimately, since this is a multiplayer, repeated game, taking

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Speaker 1: actions that leave both the US, Europe and our allies

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Speaker 1: better off. There's a political aspect of this leap, but

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Speaker 1: there's also the economic ramifications of this in terms of

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Speaker 1: higher costs. Can you dovetail your view on how the

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Speaker 1: West will deal with this, how the East will deal

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Speaker 1: with this, and how this really affects your inflation outlook. Yeah,

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Speaker 1: so there's a there's a negative branch of the probability

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Speaker 1: tree in which this kind of supply chain where your

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Speaker 1: orientation leads to more frictions, lower economies of scale, lower productivity,

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Speaker 1: and as you just suggested, higher costs. But there's a

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Speaker 1: positive branch as well, which involves a race to the top.

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Speaker 1: So that would mean more public investor spent, more indigenous innovation,

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Speaker 1: more development of our respective labor forces, and higher growth potential,

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Speaker 1: higher productivity, and diffusion of those games broadly. That's that

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Speaker 1: is the that is the question that's now playing out

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Speaker 1: before us. UM. The US, as you mentioned in the

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Speaker 1: Inflation Reduction Act, is taking steps to boost bolster our

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Speaker 1: own growth capacity. Europe is doing the same, Uh. And

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Speaker 1: we have to manage this process very carefully and also

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Speaker 1: consider how China and other countries that may not share

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Speaker 1: our same objectives play their cards. UH. And this is

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Speaker 1: going to take years to play out, and I think

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Speaker 1: as economists, UM, I am I am putting my bet

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Speaker 1: that this is ultimately going to lead to a net

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Speaker 1: higher trend level of inflation and a lower trend level

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Speaker 1: of growth. But I say that with relatively low confidence

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Speaker 1: because these are early days. Well, which raises a question

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Speaker 1: about your fundamental belief that central banks will exercise restraint,

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Speaker 1: that they won't as rates as much as perhaps they

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Speaker 1: say they will, simply because they don't want a hard landing?

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Speaker 1: Can they do that in the face of some of

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Speaker 1: these structural inflationary aspects that seem to be present, and

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Speaker 1: a lot of people seem to be acknowledging that they

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Speaker 1: have to I mean, they have to acknowledge that we're

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Speaker 1: living in a world of repeated and profound supply shocks

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Speaker 1: from the intensification of great power competition, which means more

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Speaker 1: use of economic statecraft, from a very bumpy transition from

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Speaker 1: fossil fuels to renewables, from this supply chain re orientation

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Speaker 1: that we're talking about um and from less diffusion of technology.

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Speaker 1: In that context, they are fighting the battle of their

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Speaker 1: professional lives to maintain their credibility on fighting inflation, and

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Speaker 1: so they have no choice but to execute on their

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Speaker 1: on their mandate that's what we're seeing, and I think

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Speaker 1: it will ultimately lead to an overtightening by central banks

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Speaker 1: in a context of repeated supply shocks and thinning simple buffers.

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Speaker 1: So I expect a bumpy road ahead. But there's the

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Speaker 1: overtightening risk relative to the undertightening risk and allowing inflation

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Speaker 1: to run too hot for too long and damaging the

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Speaker 1: economy in that way. Is the recession necessary to get

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Speaker 1: the job done? Well? Look, uh, central banks are doing

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Speaker 1: what they can in this context, and we have a

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Speaker 1: labor market and balance in this country. Unfortunately, labor supply

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Speaker 1: is not coming back as fast as any of us

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Speaker 1: would like. Labor force participation rates are about a percent

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Speaker 1: or two below the pre pandemic level. We're seeing a

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Speaker 1: fall and net immigration, and so the Fed feels as

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Speaker 1: though all it can do to cool services prices x

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Speaker 1: rents is to slow down labor demand and to get

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Speaker 1: nominal wage growth back in the three and a half

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Speaker 1: percent territory, which if you assume one and a half

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Speaker 1: percent productivity, would be consistent with a two percent target. Now,

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Speaker 1: if you're just the risk is this, if you're just

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Speaker 1: relying on the spot inflation data to guide how much

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Speaker 1: further tightening is necessary. You're likely to do too much

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Speaker 1: because we're talking about more central banks tightening faster than

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Speaker 1: we've ever seen in modern economic history, and because of

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Speaker 1: the spillovers and because of the lags, this is not

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Speaker 1: a process that's likely to end well. As you were

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Speaker 1: just discussing kind of structural issues that are going to

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Speaker 1: keep inflation more elevated. Should the Federal Reserve be thinking

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Speaker 1: more seriously about not targeting two percent? Is that too

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Speaker 1: low for the world we live in now? Well, the

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Speaker 1: problem is you cannot change the goal post when you

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Speaker 1: haven't won the game, and so changing the inflation target

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Speaker 1: from two percent to three percent when you haven't achieved

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Speaker 1: your objective would be a serious risk to the Fed's credibility.

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Speaker 1: But I think the facto UH if we get to

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Speaker 1: a core inflation level of let's say, below three UH

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Speaker 1: and if that, if that decline in inflation is driven

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Speaker 1: mostly by cecyclical factors, in other words, the FED is

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Speaker 1: done when it can, then I think the fact could

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Speaker 1: probably accept a higher level of inflation as a way

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Speaker 1: of making up for decades of missing the inflation target.

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Speaker 1: To the downside, I don't think they would announce this officially,

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Speaker 1: but I think in a practical sense that's where we'll

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Speaker 1: probably endout. Delia, pat Is, gasoline and crude prices. Factor

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Speaker 1: into your expectations for next year and the fact that

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Speaker 1: it's going to be a bumpy ride, given that we've

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Speaker 1: seen an incredible rally, or at LISA at least if

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Speaker 1: you look at it from the other side of you've

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Speaker 1: seen incredible decline in oil prices, in gasoline prices. But

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Speaker 1: next year, not only will China come back online, but

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Speaker 1: the US is planning to start refilling their strategic petroleum reserve.

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Speaker 1: How does that sort of factor in to what you

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Speaker 1: see transpiring. Yeah, I think it's dangerous to extrapolate too

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Speaker 1: far what we've seen over the past three months in

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Speaker 1: terms of the decline of energy prices. Look, we don't

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Speaker 1: know how the war in Ukraine is going to play out.

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Speaker 1: We don't know what kind of supply shocks are still

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Speaker 1: in store from Russia. We don't know how OPEC plus

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Speaker 1: is going to handle its own production of energy. We

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Speaker 1: don't know how the competition for a finite level of

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Speaker 1: l m G globally will will also play out between Europe, Japan,

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Speaker 1: UH Korea, and now you mentioned China, and so I

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Speaker 1: think there are two studed risks in the energy market.

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Speaker 1: And as a consequence this is he had another uh

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Speaker 1: potential headache for the FED to have to contend with

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Speaker 1: as it tries to get inflation back to target. I

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Speaker 1: would not assume that the only component of inflation that

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Speaker 1: we have to worry about is services prices experence. I

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Speaker 1: think food and energy prices are still very much a

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Speaker 1: prominent risk going in the next year, deliv saying of PGM,

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Speaker 1: thank you so much. The market seems like it is

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Speaker 1: testing the results. So I guess it's a question of

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Speaker 1: whether Kuroda or whoever his successor is come midway through,

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Speaker 1: is going to be forced to just abandon the policy entirely.

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Speaker 1: Two things. Some people think that he's actually going to

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Speaker 1: have to rip the band it off himself because he

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Speaker 1: has the credibility and a successor will not. The second

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Speaker 1: thing is, yes, they came in with an unannounced slew

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Speaker 1: of bond purchases, but they didn't purchase twenty year bonds. Yes,

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Speaker 1: it didn't purchase thirty year bonds, which raises questions about

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Speaker 1: whether they're basically saying we can't control this one and

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Speaker 1: we're gonna let it step and but let's start there.

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Speaker 1: Mark Tendler is the perfect person to talk about that

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Speaker 1: Chief Marget strategy to Bannckburn joining us. Happy holidays, Mark,

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Speaker 1: Happy New Year. Let's just get your view Mark on

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Speaker 1: why the dollar is weakening continually even today versus the end,

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Speaker 1: despite what seems to be a reaffirmation if yield to

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Speaker 1: cove control by the Bank of Japan. I don't really

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Speaker 1: quite see it their way. I see that the Bank

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Speaker 1: of Japan SU tried everybody, of course, but in the

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Speaker 1: bay since then the dollar is at making higher highs,

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Speaker 1: and even today it's holding above yesterday's low against the

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Speaker 1: Japanese end. I think yesterday is low. It's just a

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Speaker 1: little bit lower, about one thirty three forty. I think

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Speaker 1: that matters, right A lot of people sort of. I

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Speaker 1: think the attitude is don't want to be bitten by

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Speaker 1: the same dog twice. The Bank of Japan SU pried

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Speaker 1: us by the time of the move, and think a

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Speaker 1: lot of people are on guard that they're gonna do

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Speaker 1: so again. I don't think so. I think that the

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Speaker 1: fiscal policy and the strengthening of again in the last

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Speaker 1: month or so on a trade weighted basis is going

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Speaker 1: a lower inflation in Japan and take pressure off the

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Speaker 1: b o J to app again at least in the

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Speaker 1: first quarter. And that first quarter is important because the

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Speaker 1: swaps market shows the market expecting rates to go positive.

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Speaker 1: Remember the overnight rated that minus ten basis points the market.

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Speaker 1: The swaps market is showing a positive rate by the

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Speaker 1: end of Q one. I think that's just exaggerated because

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Speaker 1: again people don't want to be bit by the same

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Speaker 1: dog twice. That was all excited for like an SNB

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Speaker 1: moment from the Bank of Japan, and this was so

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Speaker 1: much smaller. Even if it continues, do we ever get

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Speaker 1: that mark? I don't know. I mean, I think that

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Speaker 1: Japan is a tough situation. You know, it's not just

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Speaker 1: that Corona is somehow idiosyncratic in its policies. But you

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Speaker 1: look at what the bigger Japan's forecasting next year lower

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Speaker 1: inflation below two percent, and the market expectations on far

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Speaker 1: are on far from that. Japan had a stringle population,

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Speaker 1: it has a it has like structural issues that are

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Speaker 1: weighing on inflation. I think that's the challenge. And you know,

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Speaker 1: earlier this week Japan recorded its third consecutive decline in

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Speaker 1: industrial productions. And the last thing I quickly say about Japan.

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Speaker 1: And I know we all focused on COVID and China,

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Speaker 1: but I think it was Wednesday. There was Tuesday that

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Speaker 1: Japan reported a record number of fatalities from COVID's not

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Speaker 1: over yet, And I'm not, of course, I'm not a

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Speaker 1: medical doctor. I don't know these things, but just seems

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Speaker 1: to me that we're still getting a bit ahead of

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Speaker 1: ourselves in the story. Uh. You know what's struck me

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Speaker 1: yesterday or over the last couple of sessions. Is the

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Speaker 1: strength of the pound? Or is it the weakness of

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Speaker 1: the dollar? I mean, we were at thirteen fifty three

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Speaker 1: on the Bloomberg Dollar Index in at the end of September,

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Speaker 1: and we hung around there for six weeks. We've now

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Speaker 1: come down. The pound, of course, broke down below parody

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Speaker 1: at least I saw a pharaoh tweet that at one point,

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Speaker 1: so I believe it's true. And now we were up

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Speaker 1: to a dollar twenty five? Uh right now? Is the

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Speaker 1: uh pound strength? Is a dollar weakness? Have we seen,

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Speaker 1: um the the the peak for dollar? I think we've

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Speaker 1: seen a piece of the dollar that you know what

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Speaker 1: I think was happening was at the end of September. Uh.

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Speaker 1: You know, people, I think they're just talking exaggerating what

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Speaker 1: was happening. We actually the capital striking. Get the UK.

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Speaker 1: It's about to enter a five quarter recession according to

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Speaker 1: the Bank of England and the government to trust government

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Speaker 1: the side, they have some fifth cloop stigulants. That seemed

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Speaker 1: to be a good time for fifth book sigilist capital

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Speaker 1: struck and you know the Encomige magazine was talking about

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Speaker 1: brittlely and I was on tom Keane at the end

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Speaker 1: of September and people were talking about the UK's an

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Speaker 1: emerging market economy. And I think that kind of mentality,

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Speaker 1: that kind of sentiment often corresponds to an extreme in

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Speaker 1: the market. And I think that's what we've seen. I

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Speaker 1: mean I had I had anticipated a move towards one

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Speaker 1: twenty then one five. We've stopped about fifty on stirving. Uh.

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Speaker 1: And this is where I am only the dollar in

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Speaker 1: the big picture. I've seen the dollar and have a

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Speaker 1: huge setback here and QUE four and oftentimes by that

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Speaker 1: I mean nine out at nine out the g ted

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Speaker 1: currency that's the only one that not in there is

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Speaker 1: the Canadian dollar all appreciated by voy Thane five percent.

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Speaker 1: It's the dollar Hear and Que four After such a

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Speaker 1: big move, they technically indicator a bit over extended to

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Speaker 1: the dollar on the downside. So I'm torn between thinking

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Speaker 1: the dollar has turned lower and the short term technically

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Speaker 1: indicated telling me the downside has been exaggerated. So I

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Speaker 1: think there to happen Heared short of early and early

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Speaker 1: next year is the market is going to reprice them

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Speaker 1: the possibility of a fifty basic point height by the

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Speaker 1: FED at the next meeting on February first, and I

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Speaker 1: think that's going to get the dollar the technical correction well.

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Speaker 1: And of course, something that the Fed may have to

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Speaker 1: consider longer term into three is whether or not there's

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Speaker 1: going to be a reinflationary impulse coming from a reopen

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Speaker 1: China once they get past this current surge in cases

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Speaker 1: what you mentioned a moment ago, Mark, how are you

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Speaker 1: viewing that through the lens of the Wan, and so

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Speaker 1: a couple of things. When I think that it's hard

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Speaker 1: understand how the Chinese are able to do this, and

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Speaker 1: I do this, I think be able to maintain a

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Speaker 1: fairly stable currency, I sort of see them right now,

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Speaker 1: given a turmoil in China itself. I see them why

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Speaker 1: they have a very stable currency and they be able

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Speaker 1: to engineer that. But I think that I think that

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Speaker 1: the Chinese currency really trapped the Euro and the n

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Speaker 1: right now broadly speaking, and I and those two currencies,

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Speaker 1: I mean, I think the euro is clearly going sideway.

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Speaker 1: We're holding just above the toy a moving average which

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Speaker 1: you haven't really broken below for a couple of weeks now,

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Speaker 1: and so I think that the I'm looking for the

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Speaker 1: dollar to regain at seven level against the R and B.

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Speaker 1: I think that this idea of you know, we heard

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Speaker 1: this early last year where Chinese pp I, Chinese producer

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Speaker 1: prices was the lead indicator for usd P I, I

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Speaker 1: don't think so. I think things that really matter here,

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Speaker 1: and I think you should see this very clearly, for

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Speaker 1: Power of Talks were easily watching his service prices in

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Speaker 1: the US, and these core service prices have very little

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Speaker 1: to do with from Cown and Charina. I get think

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Speaker 1: that the challenge for up in the US is that

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Speaker 1: many people keep minding to blame other countries for our problems,

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Speaker 1: whether it's China, whether it's mops off, whether it. I

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Speaker 1: hope you mean in Vietnam, and I think most of

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Speaker 1: our problems that really get home grown, well, that's probably

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Speaker 1: not the most popular. He's just basically you can blame

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Speaker 1: whoever you want. It's a smart handler and Fanning Brand

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Speaker 1: have a wonderful new year. Joining us now as someone

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Speaker 1: who has intensive knowledge understanding the labor market for the

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Speaker 1: Federal Reserve, joining us now from the Brookings Institute, Stephanie Aaronson,

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Speaker 1: Director of Economic Studies there, I do want to start there,

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Speaker 1: do we have a true understanding of just how tight

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Speaker 1: this labor market really is and how much wage pressure

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Speaker 1: is driving things in a way that perhaps flies against

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Speaker 1: this sort of moderation inflation that a lot of people

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Speaker 1: are expecting. I think we've definitely seen a slowdown in

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Speaker 1: the labor market. Um. I don't think we've seen a

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Speaker 1: lot of increase in slack. But it's clear really the

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Speaker 1: case that changes in payroll employment have come down. Firms

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Speaker 1: are adding jobs more slowly. Vacancy rate has come down

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Speaker 1: a tiny bit, although it remains very high. So I

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Speaker 1: think we have some sign that things are moving in

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Speaker 1: the right direction, but it's very small. Claims, for instance,

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Speaker 1: have been largely moving sideways in recent weeks. So I

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Speaker 1: think it's a bit too soon to tell exactly how

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Speaker 1: much help the feed is going to be getting from

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Speaker 1: the labor market. We're listen, fifteen minutes away from the

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Speaker 1: last initial jobless claims reading of every time they come

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Speaker 1: out you say they've been moving sideways. People kind of

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Speaker 1: shrug their shoulders. They don't really care. They think that honestly,

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Speaker 1: this is messy data that doesn't matter anymore. Do you disagree?

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Speaker 1: I think it's not the clearest signal. The truth is

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Speaker 1: that there are a lot of workers in this economy

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Speaker 1: who are not eligible for unemployment insurance and that has

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Speaker 1: decreased the signal that we get from the data. And

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Speaker 1: it's also true that the data are noisy, but we've

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Speaker 1: never had a recession without the claims data going up,

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Speaker 1: and so while on a week to week basis it

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Speaker 1: might not be that helpful to look at the data,

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Speaker 1: I think that if we started to see large increases,

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Speaker 1: that would clearly be a sign, and if we don't,

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Speaker 1: then I think that that's also a sign that the

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Speaker 1: labor market isn't deteriorating very much. Well, and in theory, Stephanie,

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Speaker 1: it needs to do so. If the FED has any

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Speaker 1: hope of getting inflation under control, unemployment is just going

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Speaker 1: to have to go higher. The question is how high

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Speaker 1: does it need to go and how high will be tolerated,

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Speaker 1: not just by the Federal Reserve but politically as well.

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Speaker 1: What do you think that level is. I mean, I

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Speaker 1: would be surprised if we don't see the unemployment rate

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Speaker 1: go up to at least around what the FED is expecting,

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Speaker 1: maybe four and a half um percent, could be five

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Speaker 1: per cent. But I do think that there are factors

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Speaker 1: that are pushing down inflation, as we just heard, and

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Speaker 1: so the FED is going to be getting some help. Uh.

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Speaker 1: For instance, the housing markets already cooling a lot. We

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Speaker 1: know that the rent data only show up in inflation

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Speaker 1: with a long lad simply because of how the data

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Speaker 1: are constructed, and so that means over the next six

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Speaker 1: months inflation is going to be coming down. The goods

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Speaker 1: prices are already uh starting to rise less quickly, and

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Speaker 1: I'm hopeful that the change in policy in China is

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Speaker 1: also going to reduce pressure on goods prices. Of course,

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Speaker 1: it will also be trying to know what happens with

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Speaker 1: energy prices, since that has a date factor two. So

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Speaker 1: I don't think the labor market needs to do all

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Speaker 1: of the work in this case, but certainly I do

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Speaker 1: expect to see some deterioration, some increase in slack. I

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Speaker 1: think we're all basically asking Stephanie Is for your guestimate

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Speaker 1: of NEHRU, right, the non accelerating inflation rate of unemployment.

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Speaker 1: I never exactly remember, but the idea is, and um,

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Speaker 1: cath Rooney Vera yesterday told us her guest was four

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Speaker 1: point nine. If you don't get to that level, um,

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Speaker 1: we're still looking at inflationary consumer forces. So if it's

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Speaker 1: four point nine percent and the FED only pushes unemployment

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Speaker 1: up to four and a half or three point seven,

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Speaker 1: now that just isn't good enough, right for an economy

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Speaker 1: that has what se of of of of its inflation

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Speaker 1: driven by services? Don't you need to get it higher

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Speaker 1: than that? Shouldn't it be five and a half percent?

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Speaker 1: I mean, I think if it's true that the neigh rut,

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Speaker 1: as you said, is four point nine percent, then I mean,

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Speaker 1: the higher the unemployment rate goes, you know, the less

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Speaker 1: inflationary the environment is. Even if we don't really exceed

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Speaker 1: the neigh rut but certainly you'll get the most bang

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Speaker 1: for your buck once but unemployment rate is above that.

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Speaker 1: My own estimate is probably that it hasn't written risen

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Speaker 1: quite so much, uh maybe more in the neighborhood of

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Speaker 1: four and a half or four and three quarters, So

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Speaker 1: I'm not seeing the need for a unemployment to rise

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Speaker 1: quite so quickly. But again, I think it depends a

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Speaker 1: bit on how much the FED, how much help the

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Speaker 1: FED gets from some of these external factors as well.

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Speaker 1: I think you know, there also is some evidence that

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Speaker 1: the vacancy rate is falling even without much of an

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Speaker 1: increase in unemployment, and part of the reason that the

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Speaker 1: NEHRU seems to be higher is that there's been a

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Speaker 1: deterioration in matching of firms and workers, and a declining

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Speaker 1: vacancy rate is a sign of an improvement in that

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Speaker 1: process of matching of firms and workers, and if that

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Speaker 1: comes down substantially, that will help ease the tension a lot,

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Speaker 1: even without our seeing a big increase in the unemployment rate.

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Speaker 1: So Lisa's son has a thesis that deglobalization um that

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Speaker 1: we've seen as a result of the pandemic is driving

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Speaker 1: up prices as well. That that's inflationary. It's just his theory,

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Speaker 1: rightbody else's literally the consensus theory. Are you just talking

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Speaker 1: about the carry on? I mean, I've been wondering about

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Speaker 1: this to Stephanie. I was looking for pickleball paddles over Christmas,

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Speaker 1: and the Chinese paddles on Amazon or ten dollars, But

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Speaker 1: if you want to buy one that's made in America,

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Speaker 1: it's like a hundred and fifty bucks. So that's a

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Speaker 1: huge delta. How much is deglobalization really happening and how

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Speaker 1: much of an effect it doesn't have on prices? I

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Speaker 1: think for the long term, it's hard to say now

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Speaker 1: whether we're going to really see a sustained deglobalization, whether

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Speaker 1: the types of policies that the Biden administration is trying

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Speaker 1: to implement are really going to shift a lot of

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Speaker 1: production to the US, where indeed it will be more

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Speaker 1: you know, more expensive. But it's clearly the case that

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Speaker 1: the US benefited significantly from China's accession to the w

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Speaker 1: t O and trying to really becoming sort of the

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Speaker 1: factory of the world over the last into years. Goods

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Speaker 1: prices actually we're falling for much of the last twenty

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Speaker 1: years and that you know, helped out the US on

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Speaker 1: the inflation front. And I think with the pandemic, the

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Speaker 1: deterioration in supply chains clearly that you know, ameliorating effect

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Speaker 1: has faded, and I think it's going to be the

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Speaker 1: case that over the short run, you know, deglobalization has

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Speaker 1: been a factor in boosting inflation over the past year

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Speaker 1: or so, and it's likely to continue to be going forward,

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Speaker 1: although again, as I said, goods prices have been rising

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Speaker 1: less quickly and I think some of that effect is fading. Stephanie,

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Speaker 1: do you have any confidence in the models anymore or

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Speaker 1: do we have a sort of feeling that this is

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Speaker 1: unchartered territory and there's a new level of uncertainty around

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Speaker 1: economic projections. I think certainly uncertainty is very high now.

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Speaker 1: But I think one of the ways to think about

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Speaker 1: the world we're living in today is we were in

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Speaker 1: a regime where inflation was rising very slow. You know,

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Speaker 1: inflation was low and very stable for about twenty years,

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Speaker 1: and in fact, you know, a lot of macroeconomic variables

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Speaker 1: were showing less volatility. Growth was less volatility, there was

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Speaker 1: less volatile, there were lower inventory swings. You know if

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Speaker 1: this was the time of the so called Great Moderation,

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Speaker 1: and I think, you know, we had a set of

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Speaker 1: models for that. Now we're in a different state of

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Speaker 1: the world where we're buffeted by increased shocks that you know,

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Speaker 1: economy is more volatile, inflation is more volatile, and it

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Speaker 1: seems to be we're in a regime also where you know,

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Speaker 1: it's just more inflationary. We actually also have models for

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Speaker 1: that state of the world. Uh, you know, we were

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Speaker 1: in that state of the world in the late seventies

431
00:23:58,480 --> 00:24:01,760
Speaker 1: and early eighties. So I think that if you is knowing,

432
00:24:03,400 --> 00:24:05,080
Speaker 1: you know which state of the world we're in. I

433
00:24:05,119 --> 00:24:07,640
Speaker 1: think one thing that's going to make the FED job

434
00:24:07,840 --> 00:24:12,280
Speaker 1: tough going forward is as inflation comes down, they're going

435
00:24:12,320 --> 00:24:15,000
Speaker 1: to have to figure out, are we going back to

436
00:24:15,119 --> 00:24:18,920
Speaker 1: the more you know, quiescent, calm state of the world

437
00:24:19,000 --> 00:24:22,280
Speaker 1: that we experienced from the mid ninety nineties until the pandemic,

438
00:24:23,119 --> 00:24:26,400
Speaker 1: or even if we have low inflation, are we still

439
00:24:26,520 --> 00:24:29,560
Speaker 1: in this more bottle state of the world. Stephanie Aaronson

440
00:24:29,680 --> 00:24:42,280
Speaker 1: of Brookings, thank you so much, a dear Denny, president

441
00:24:42,320 --> 00:24:44,280
Speaker 1: of your Denny Research joining us right now, and I

442
00:24:44,320 --> 00:24:45,720
Speaker 1: want to start with a d in version of the

443
00:24:45,800 --> 00:24:48,000
Speaker 1: yield curve. To me, this has been one of the

444
00:24:48,080 --> 00:24:50,960
Speaker 1: least talked about, most important aspects of what we've seen.

445
00:24:51,320 --> 00:24:53,320
Speaker 1: What's your take and why we've seen this sort of

446
00:24:53,480 --> 00:24:57,240
Speaker 1: unwind in a way that's been very unexpected. Well, historically,

447
00:24:57,400 --> 00:25:01,560
Speaker 1: the you curve inverted at it's widely believed it's inverted

448
00:25:01,600 --> 00:25:05,760
Speaker 1: because it's predicted recessions quite accurately. I think there's a

449
00:25:05,840 --> 00:25:09,600
Speaker 1: step before that that has been widely ignored, and that

450
00:25:09,920 --> 00:25:13,440
Speaker 1: is an inverted yal curves typically signaled that something was

451
00:25:13,480 --> 00:25:15,840
Speaker 1: gonna break, there's going to be a financial crisis, and

452
00:25:15,920 --> 00:25:19,440
Speaker 1: that crisis would morph into an economy wide credit count

453
00:25:19,520 --> 00:25:22,600
Speaker 1: where even good borrowers couldn't get money, and that's what

454
00:25:22,760 --> 00:25:26,160
Speaker 1: caused the recession. This time around, we've had some financial

455
00:25:26,280 --> 00:25:30,159
Speaker 1: crises and the crypto market and in the SPAC since

456
00:25:30,840 --> 00:25:33,840
Speaker 1: a lot of the ARC stocks, and yet we really

457
00:25:33,920 --> 00:25:36,919
Speaker 1: haven't seen an economy wide credit crunch. I mean, clearly,

458
00:25:37,359 --> 00:25:40,080
Speaker 1: credit is very difficult in the housing market, and it's

459
00:25:40,160 --> 00:25:42,400
Speaker 1: getting harder to get in the auto market, but it's

460
00:25:42,440 --> 00:25:44,920
Speaker 1: not the kind of credit crunch we've we've had in

461
00:25:45,000 --> 00:25:48,280
Speaker 1: the past, and therefore I think we're probably more likely

462
00:25:48,359 --> 00:25:50,200
Speaker 1: to get us a soft landing out of all this.

463
00:25:51,440 --> 00:25:53,159
Speaker 1: Just to sort of put a bow on it, are

464
00:25:53,200 --> 00:25:56,480
Speaker 1: you saying that this time around year old curve inversion

465
00:25:56,800 --> 00:26:00,480
Speaker 1: does not signal recession. I think this time around its

466
00:26:00,480 --> 00:26:06,639
Speaker 1: signals falling inflation. Um, it doesn't necessarily imply that a

467
00:26:06,680 --> 00:26:08,960
Speaker 1: recession is coming. As you know, this has been the

468
00:26:09,040 --> 00:26:12,840
Speaker 1: most widely anticipated recession of all times. You might recall

469
00:26:12,960 --> 00:26:15,080
Speaker 1: that even at the beginning of the year there were

470
00:26:15,119 --> 00:26:18,119
Speaker 1: people are saying that we're actually in a recession. We

471
00:26:18,240 --> 00:26:20,520
Speaker 1: had two negative quarters in the first half of the year,

472
00:26:20,560 --> 00:26:23,800
Speaker 1: and and the Bears were very happy to announce that

473
00:26:23,920 --> 00:26:27,240
Speaker 1: that was at least a technical recession. But yes, I

474
00:26:27,400 --> 00:26:29,320
Speaker 1: think we're not going to get I'm sorry, that is

475
00:26:29,359 --> 00:26:33,239
Speaker 1: a technical recession, right, Well, I mean it was. I mean,

476
00:26:33,359 --> 00:26:36,880
Speaker 1: for for one thing, Uh, I always say any number

477
00:26:36,920 --> 00:26:40,359
Speaker 1: that doesn't support my story is either wrong or is

478
00:26:40,400 --> 00:26:43,080
Speaker 1: going to be revised. But I mean, those numbers could

479
00:26:43,080 --> 00:26:47,000
Speaker 1: easily be revised in the positive territory. They were barely negative,

480
00:26:47,320 --> 00:26:49,840
Speaker 1: So I don't think we can really characterize that as

481
00:26:49,880 --> 00:26:55,000
Speaker 1: a recession. Certainly, the index of coincident economic indicators show

482
00:26:55,119 --> 00:26:57,800
Speaker 1: no recession whatsoever, there are an all time record high

483
00:26:58,200 --> 00:27:00,439
Speaker 1: in November. On the other hand, the leading into caters

484
00:27:01,119 --> 00:27:04,280
Speaker 1: are scaring everybody because they are pointing to a recession

485
00:27:05,119 --> 00:27:07,920
Speaker 1: early early next year. So if there's gonna be a recession,

486
00:27:08,359 --> 00:27:10,240
Speaker 1: is going to be soon, and that's what the market's fear.

487
00:27:10,440 --> 00:27:12,960
Speaker 1: What is the impact though, add of four hundred and

488
00:27:13,080 --> 00:27:16,320
Speaker 1: fifty basis points of tightening in one year, I mean,

489
00:27:16,880 --> 00:27:20,439
Speaker 1: what about the long and varied lags, When do they

490
00:27:20,880 --> 00:27:23,800
Speaker 1: come home to roost? Uh in a market where we

491
00:27:23,880 --> 00:27:26,920
Speaker 1: already have like a trillion dollars of leveraged loans, which

492
00:27:27,040 --> 00:27:30,040
Speaker 1: is more than double what we had in two thousand seven. Well,

493
00:27:30,080 --> 00:27:33,480
Speaker 1: the answer to your question is this widely because that's

494
00:27:33,520 --> 00:27:35,359
Speaker 1: the big concern, is that there will be a credit

495
00:27:35,440 --> 00:27:38,480
Speaker 1: crunch and just just wait and we're gonna see it

496
00:27:38,760 --> 00:27:41,920
Speaker 1: early next year, by the middle of next year. Uh So,

497
00:27:42,119 --> 00:27:44,920
Speaker 1: it is certainly an issue. But the other side of

498
00:27:44,960 --> 00:27:47,159
Speaker 1: the of the coin is the economy is a lot

499
00:27:47,280 --> 00:27:50,320
Speaker 1: more resilient, the financial system is a lot more resilient.

500
00:27:50,400 --> 00:27:54,399
Speaker 1: The banking system is in very good shape. A lot

501
00:27:54,440 --> 00:27:57,840
Speaker 1: of these bank executives have been saying a recessions coming,

502
00:27:57,960 --> 00:28:01,320
Speaker 1: and yet their loan portfolio continues to grow, and they

503
00:28:01,359 --> 00:28:04,560
Speaker 1: really aren't setting that much aside for loan losses. So

504
00:28:04,720 --> 00:28:07,719
Speaker 1: looking at their balance sheets, there's sort of a contradiction

505
00:28:07,760 --> 00:28:11,439
Speaker 1: between what they're actually doing, which is lending money UH

506
00:28:11,720 --> 00:28:15,879
Speaker 1: and not provisioning for losses, and what they're saying. So

507
00:28:16,400 --> 00:28:19,040
Speaker 1: I think the banking systems in good shape. The consumers

508
00:28:19,400 --> 00:28:23,000
Speaker 1: actually in good shape, with obviously some concerns about some

509
00:28:23,880 --> 00:28:27,560
Speaker 1: credit quality issues and the auto market for example, but

510
00:28:27,720 --> 00:28:30,359
Speaker 1: all in all, wages are likely to rise faster than

511
00:28:30,440 --> 00:28:35,560
Speaker 1: prices in three UH, and so I think the purchasing

512
00:28:35,600 --> 00:28:37,919
Speaker 1: power is going to be there for consumers. And as

513
00:28:38,000 --> 00:28:40,880
Speaker 1: we all know, the labor market remains strong and likely

514
00:28:41,160 --> 00:28:43,280
Speaker 1: remains so well to that point. And if you have

515
00:28:43,480 --> 00:28:45,600
Speaker 1: a consumer that is going to be able to keep

516
00:28:45,680 --> 00:28:49,400
Speaker 1: up consuming and spending and in theory fueling inflation. Are

517
00:28:49,440 --> 00:28:52,640
Speaker 1: all of these things good because they raise the prospect

518
00:28:53,080 --> 00:28:55,479
Speaker 1: or maybe the probability of a soft landing. Or are

519
00:28:55,560 --> 00:28:58,680
Speaker 1: they bad because if the economy holds up too well,

520
00:28:58,760 --> 00:29:00,360
Speaker 1: the federal Reserve is not going to be able to

521
00:29:00,400 --> 00:29:04,320
Speaker 1: do its job. Yeah. Honestly, that's the sort of problem

522
00:29:04,480 --> 00:29:07,400
Speaker 1: that bulls are having right now, is they almost can't win.

523
00:29:07,800 --> 00:29:11,120
Speaker 1: If you get an economy that's too strong and belies

524
00:29:11,240 --> 00:29:13,920
Speaker 1: the idea of a recession, well then the fens gonna

525
00:29:13,920 --> 00:29:15,960
Speaker 1: have to raise interest rates a lot more. The key

526
00:29:16,120 --> 00:29:20,520
Speaker 1: is that kind of narrow path where inflation comes down

527
00:29:20,960 --> 00:29:24,000
Speaker 1: quite quite a bit more that is widely and expected.

528
00:29:24,120 --> 00:29:26,640
Speaker 1: That's the camp I'm in. Uh. You know, we're seeing

529
00:29:26,760 --> 00:29:30,560
Speaker 1: used car prices continue to plunge. We're seeing actual rent

530
00:29:30,720 --> 00:29:35,480
Speaker 1: inflation coming down right rather dramatically. We've seen energy prices

531
00:29:35,840 --> 00:29:38,400
Speaker 1: moderate quite quite a bit. I think we're gonna see

532
00:29:38,440 --> 00:29:43,560
Speaker 1: three to four percent headline inflation on the consumption deflator

533
00:29:44,240 --> 00:29:46,040
Speaker 1: this year, and I think it's going to happen pretty

534
00:29:46,320 --> 00:29:49,520
Speaker 1: early in the year and ease some of the concerns

535
00:29:49,520 --> 00:29:52,240
Speaker 1: about inflation. As you know, all these price indexes that

536
00:29:52,320 --> 00:29:56,040
Speaker 1: are coming from the regional business UH surveyors are continuing

537
00:29:56,080 --> 00:30:00,160
Speaker 1: to show moderation. Well, if we're talking about some those

538
00:30:00,160 --> 00:30:03,720
Speaker 1: inflationary pressures coming down, therefore cost pressures coming down, input

539
00:30:03,800 --> 00:30:06,400
Speaker 1: cost pressures for companies, and consumer demand that is still

540
00:30:06,440 --> 00:30:08,760
Speaker 1: holding up fairly. Well, is there much too much doom

541
00:30:08,800 --> 00:30:12,360
Speaker 1: and gloom about the earnings story next year? Well, you know,

542
00:30:12,400 --> 00:30:16,760
Speaker 1: we're all debating soft landing versus hard landing. I think

543
00:30:16,840 --> 00:30:19,760
Speaker 1: there's a like I'm realistic here. I mean, I'm not

544
00:30:19,800 --> 00:30:21,920
Speaker 1: going to tell you there's no uh no risk of

545
00:30:21,960 --> 00:30:24,400
Speaker 1: a recession. I think there's at risk of a hard

546
00:30:24,480 --> 00:30:29,400
Speaker 1: landing and a sixt likelihood of a soft landing. The

547
00:30:29,480 --> 00:30:31,440
Speaker 1: market seem to be kind of flipped the other way

548
00:30:31,920 --> 00:30:35,440
Speaker 1: where they're more concerned about a higher probability of of

549
00:30:35,920 --> 00:30:40,440
Speaker 1: of a recession, but nobody's talking about no landing. I mean,

550
00:30:40,520 --> 00:30:42,720
Speaker 1: the reality is the second half of the year, after

551
00:30:43,240 --> 00:30:45,640
Speaker 1: some weakness in the first half, has shown growth rate

552
00:30:46,080 --> 00:30:50,640
Speaker 1: of two to three in real GDP with the consumer spending,

553
00:30:50,760 --> 00:30:54,000
Speaker 1: with capital spending holding up pretty well. It's been a

554
00:30:54,160 --> 00:30:57,880
Speaker 1: rolling recession. It's rolling through the housing market, it's rolled

555
00:30:57,920 --> 00:31:01,640
Speaker 1: through retailers uh, and it may roll through some of

556
00:31:01,720 --> 00:31:05,880
Speaker 1: the other sectors in the economy. But altogether the economy

557
00:31:05,960 --> 00:31:08,880
Speaker 1: is holding up. There's really no landings so far in

558
00:31:08,960 --> 00:31:12,120
Speaker 1: the economy. If it's gonna land, if soft or hard.

559
00:31:12,880 --> 00:31:15,920
Speaker 1: All the forecasters that are bearish are saying it's gonna

560
00:31:15,920 --> 00:31:19,720
Speaker 1: happen pretty early next year at any of your Jenny research. Wonderful,

561
00:31:19,880 --> 00:31:22,280
Speaker 1: wonderful to get your perspective. A lot to think about

562
00:31:22,640 --> 00:31:26,360
Speaker 1: This is the Bloomberg Surveillance Podcast. Thanks for listening. Join

563
00:31:26,480 --> 00:31:29,800
Speaker 1: us live weekdays from seven to ten am Eastern on

564
00:31:29,920 --> 00:31:34,120
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565
00:31:34,280 --> 00:31:39,120
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566
00:31:39,280 --> 00:31:44,240
Speaker 1: and international relations. And subscribe to the Surveillance podcast on

567
00:31:44,360 --> 00:31:48,200
Speaker 1: Apple podcast, SoundCloud, Bloomberg dot com, and of course, on

568
00:31:48,320 --> 00:31:52,440
Speaker 1: the terminal. I'm Tom keene In. This is Bloomberg