Speaker 1: Hello, and welcome to another episode of the All Thoughts Podcast.
Speaker 1: I'm Tracy Alloway and I'm Joe Wisenthal. Joe, it's it's
Speaker 1: nearly the end of twenty twenty three. It's been a
Speaker 1: wild ride.
Speaker 2: What an incredible year. I mean, the stat that just
Speaker 2: like jumps out to me is forty one point two
Speaker 2: four percent as of right now we're recording this December fourteenth.
Speaker 2: That is the annual gain of the Nasdaq twenty three
Speaker 2: point one percent on the S and P mortgage rates
Speaker 2: below seven percent. Good times. It looks like good times
Speaker 2: when I.
Speaker 1: Look at the screen, even though you're talking about the rally,
Speaker 1: it sounds like you haven't escaped the year unscathed. Because
Speaker 1: of your voice, it sounds like you've had a rough
Speaker 1: twenty twenty three.
Speaker 2: It's been a good twenty twenty three. But my voice
Speaker 2: is not in great shape at this moment.
Speaker 1: But Joe was singing last night at his first show.
Speaker 2: Yes, that is my excuse that I was out late
Speaker 2: at a bar singing country music. But here I am,
Speaker 2: and I'm very excited to talk about the bizarre, weird,
Speaker 2: unexpected year that twenty twenty three was.
Speaker 1: Yes, so if you recall this time last year in
Speaker 1: twenty twenty two, it seemed like the consensus going into
Speaker 1: the year was we were going to have a recession.
Speaker 1: You know, people were talking about a hard landing, this
Speaker 1: idea that the FED was going to have to keep
Speaker 1: hiking rates and that that was eventually going to have
Speaker 1: to bring down employment and we were going to see
Speaker 1: a slow down in the economy. And yet here we
Speaker 1: are and it hasn't materialized.
Speaker 2: This time last year there was just like so much
Speaker 2: pessimism and the market was really like in a rough
Speaker 2: shape in November December last years this view, it's like,
Speaker 2: you know what things are going to things are in
Speaker 2: rough shape, but it doesn't matter. Inflation is still so high.
Speaker 2: The FED has to keep pressing, the Fed has to
Speaker 2: keep hiking. Yeah, it was pretty grim. And then somehow
Speaker 2: like this is the big thing that I think people
Speaker 2: are going to be talking about for years, which is,
Speaker 2: how did we have like the biggest rate hike cycle
Speaker 2: ever or one of them without more slowing in the
Speaker 2: economic activity? And how did inflation come down from where
Speaker 2: it was at its peak in the middle of twenty
Speaker 2: twenty two without more weakening in the labor market?
Speaker 1: Yes, and I should note it wasn't just economists and
Speaker 1: analysts who were very pessimistic on the economy going into
Speaker 1: twenty twenty three. We had a lot of you know,
Speaker 1: real world people for lack of a better term, who
Speaker 1: also thought that things were going to slow down. Like,
Speaker 1: for instance, you had I think the Conference Board survey
Speaker 1: of CEOs like almost one hundred percent. We're predicting a
Speaker 1: recession in the US. All the sentiment surveys, as we've
Speaker 1: been discussing on the show, have been coming from totally
Speaker 1: well back until recently we're coming in very negative. So
Speaker 1: you know, this wasn't just an economist problem. But I
Speaker 1: think we should go over the year and we should review,
Speaker 1: like what exactly happened that surprised a.
Speaker 3: Lot of people.
Speaker 2: Well you said this, I think in our recent episode
Speaker 2: that we did with Ian Hatzias, and I totally agree.
Speaker 2: I mean, I feel like the last few years will
Speaker 2: be one of these periods and economics that people are
Speaker 2: going to be writing PhD papers on for fifty years, right,
Speaker 2: kind of like the Great you know, the Great Depression,
Speaker 2: or other periods that are these sort of holy grails
Speaker 2: or Rosetta stones for understanding how the economy works. There's
Speaker 2: going to be so much debate and work and academic
Speaker 2: research and relitigating debates, et cetera about like what happened
Speaker 2: over the last four years.
Speaker 1: I really hope we still have odd lots in twenty
Speaker 1: seventy three, and we'll just do episodes on like what happened.
Speaker 2: My voice will sound better.
Speaker 1: Then, So okay, all right, why don't we just get
Speaker 1: to it. We are going to be speaking with Anna Wong.
Speaker 1: She is the chief US economist for Bloomberg Economics. It's
Speaker 1: the first time we've ever had her on the show,
Speaker 1: which is kind of surprising. Anna, Thank you so much
Speaker 1: for coming on all thoughts, happy.
Speaker 4: To be here at Tracy.
Speaker 1: So, this time last year, why don't you walk us
Speaker 1: through what exactly Bloomberg Economics was expecting. How did you
Speaker 1: expect this particular year to turn out.
Speaker 3: Yeah, So, a year ago, or even more like a
Speaker 3: year and a half ago, we first put out our
Speaker 3: recession model because at the time the feed started hiking
Speaker 3: rates and there was just a lot of curiosity about
Speaker 3: how this would end, and our goal then was to
Speaker 3: have a more precise timing of the probability of recession
Speaker 3: as opposed to just giving a vague what is the
Speaker 3: twelfth month ahead recession? And there's a cottage industry of
Speaker 3: these models out there, and so our model was to
Speaker 3: put out some kind of numbers on each month of
Speaker 3: probability in July, August and over that period since. So
Speaker 3: this this model first came out in spring of twenty
Speaker 3: twenty two, and at that time the model is actually
Speaker 3: foreseeing a recession a high probability of recession only start
Speaker 3: aring towards the end of twenty twenty three and even
Speaker 3: in early twenty twenty four, and over the course of
Speaker 3: last year and this year, that model evolves in terms
Speaker 3: of the timing of when that trigger is pushed. And
Speaker 3: all of the calls of that model has been that
Speaker 3: the recession would begin in the second half of twenty
Speaker 3: twenty three, and so coming into this year, we thought
Speaker 3: that the recession that is so widely expected would be
Speaker 3: towards the end of twenty twenty three.
Speaker 2: Backing for a second, what goes into a recession model
Speaker 2: and what does that even mean? Like how do you
Speaker 2: build or construct a model and something like that.
Speaker 3: Yeah, there's a variety of models, right, So for example,
Speaker 3: our model, we took thirteen indicators, typical indicators that had
Speaker 3: some track record in identifying recessions in the past, and
Speaker 3: most many of them are overlapped with the leis from
Speaker 3: conference sports. So it's yield curve spread sentiment models. And
Speaker 3: so any models that have those two things, yield curve
Speaker 3: spreads and sentiments would tell you there's a high probability
Speaker 3: of recession. Right, Even the LI has over ninety percent
Speaker 3: probability of recession. But another type of models that one
Speaker 3: uses just thinking about the probability that NBER would date
Speaker 3: a recession, and NBR told the public that they usually
Speaker 3: look at six monthly indicators, and so one could perceivably
Speaker 3: be also building models based on that. But of course,
Speaker 3: when we make a call for a recession, that is
Speaker 3: only a very small part of all our inputs. We
Speaker 3: tend to look at things in Bloomberg Economics, in my team,
Speaker 3: we tend to look at things in three ways. We
Speaker 3: approach a question in three ways, and if those three
Speaker 3: ways all say the same thing, then we make the call.
Speaker 3: And so for a recession call last year, we also
Speaker 3: what really influenced our view is the range of other
Speaker 3: theoretical models. So the model recession probability models I just
Speaker 3: described are just empirical models, which has no theoretical frameworks, right,
Speaker 3: But economists, of course and their tools that we have
Speaker 3: generally caliber models. We have the large scales model, we
Speaker 3: have state of the art models, and so we used
Speaker 3: a model on the terminal which is called shock, which
Speaker 3: mimics I.
Speaker 1: Was looking at this earlier. It's pretty cool. Actually, what's
Speaker 1: it called shot shot shok go on the terminal, right.
Speaker 3: And that model mimics the feed's own in house general
Speaker 3: caliber model FIRMUS. And that model would suggest that the
Speaker 3: lags are monetary rate hikes at least on labor market
Speaker 3: should be about eighteen to twenty four months, which is
Speaker 3: about the standard of what has been found in economic literature.
Speaker 3: And then another state of the art model we use
Speaker 3: is a model that central bankers have been discussing a
Speaker 3: lot last year. This is based on a cutting edge
Speaker 3: economic paper, and that was the paper that tipped a
Speaker 3: lot of central bankers off into thinking about shorter legs
Speaker 3: of monetary policy. It's a paper by Bower and Swanson,
Speaker 3: and that was the paper that found that, in fact,
Speaker 3: the legs of monetary policy are much shorter. So we
Speaker 3: also looked at that model, and what those models found,
Speaker 3: especially that Bauer and Swanson, the very cutting edge model,
Speaker 3: is that yes, it's true that the legs of monetary
Speaker 3: policy are shorter for for example, for industrial production, we
Speaker 3: already have seen you know, i P declined for you know,
Speaker 3: over a year, and in fact, the decline of industrial
Speaker 3: productions almost like exactly matched the contour of that model.
Speaker 3: And so that model also says that inflation now responds
Speaker 3: faster to fetch rate hike then you know, back in
Speaker 3: the times of Milton Friedman. But the one area which
Speaker 3: the model says that two areas actually that says that
Speaker 3: the lags of frate hikes still have yet to really
Speaker 3: hit the peak is labor market and also credit market.
Speaker 3: And I think those two are precisely the area where
Speaker 3: we have not seen much adjustment, and that is why
Speaker 3: we don't have most people at least don't think we
Speaker 3: have a recession. Yeah this year.
Speaker 1: That's really interesting, especially putting my former credit market reporter
Speaker 1: on the credit side of it. And I do have
Speaker 1: a pet theory right now that I think I've we've
Speaker 1: talked about, which is that the sheer size of the
Speaker 1: private credit market might be making a difference here, like
Speaker 1: if you have this bundle of money that actually doesn't
Speaker 1: seem to be that rate sensitive in the current environment,
Speaker 1: maybe it's propping up parts of the market. But talk
Speaker 1: to us about why the credit market might not be
Speaker 1: as efficient at transmitting rate hikes as it once was.
Speaker 3: Yeah, I think that this might be the surprise the
Speaker 3: prices in the credit market might be a surprise of
Speaker 3: twenty twenty four, which is well. I think my pet
Speaker 3: theory of why credit market hasn't adjusted yet in twenty
Speaker 3: twenty three is that corporates have locked in low interest
Speaker 3: rate in the last right, everybody knows that.
Speaker 4: And also on.
Speaker 3: The household side, household also had wonderful balance sheets during
Speaker 3: the pandemic. Many households paid down the debt so deleveraged
Speaker 3: during the pandemic. But at the same time, I think
Speaker 3: this is the following areas where I don't think the
Speaker 3: market understands very well for households balance sheets, how really
Speaker 3: how accurate are the credit scores being reflected? So I
Speaker 3: think that the credit for barons, a lot of the
Speaker 3: debt for barance during the pandemic had distorted the credit scores.
Speaker 3: Inflated credit scores, and there are some studies that estimate
Speaker 3: that perhaps by as much as even fifty basis points.
Speaker 3: So a lot of the you know what currently looks
Speaker 3: like to be near prime are actually suprime, and some
Speaker 3: prime could be actually near prime. And then looking at
Speaker 3: auto delinquencies, which has risen to you know, the level
Speaker 3: of twenty ten, right, and you look at who are
Speaker 3: the ones who are defaulting. They're the ones who bought
Speaker 3: cars in twenty twenty one and twenty twenty two when
Speaker 3: car prices were extremely high, and they are also the
Speaker 3: ones who are having suprime and near prime credit ratings.
Speaker 3: So the question, I think in twenty twenty four is
Speaker 3: how many of these borrowers who have leveraged up in
Speaker 3: the past two years are in fact the credit rating
Speaker 3: that the good credit quality that they looked to be like.
Speaker 3: And when the moment that more defaults happen, As you know,
Speaker 3: prices slow when inflation slows, what else happens is income slows,
Speaker 3: wage grows slow, and that that is if interest rate
Speaker 3: doesn't fall as fast. So suppose that the Fed do
Speaker 3: ultimately do hold higher for longer whereas income and prices.
Speaker 4: Are coming down.
Speaker 3: That would means that there would be more delinquencies. So
Speaker 3: when that moment happened, whether there will be a credit
Speaker 3: crunch versus just a normal gradual credit slowed down depends
Speaker 3: on how the lenders is seeing the information. Right, This
Speaker 3: is the famous at first selection issue is like, if
Speaker 3: there's a portion of people whose credit scores don't appappropriately
Speaker 3: reflect their true behavior, do lenders can lender sees who
Speaker 3: are the bad seats who are not? And this is
Speaker 3: like a famous a symmetry in the used car market, right,
Speaker 3: This is why it's very hard.
Speaker 5: Market for lemons, right, right, What is the takeaway from
Speaker 5: the realized disinflation.
Speaker 2: That we've seen? You know, I think at one point,
Speaker 2: CPI is around nine percent now where basically you can
Speaker 2: argue that in recent months we are by some measures
Speaker 2: at the Fed's target, and yet unemployment is at three
Speaker 2: point seven percent. And that was a set of conditions
Speaker 2: that very few people would have anticipated was even possible,
Speaker 2: in part because the standard story as well, you need
Speaker 2: to reduce demand to use prices, and the way you
Speaker 2: use demand is by people unfortunately having to lose their jobs.
Speaker 2: What have we learned about, at least what we've seen
Speaker 2: so far in.
Speaker 3: This cycle, Yeah, Joe, So I would say one will
Speaker 3: have to acknowledge that it's going better than what everybody
Speaker 3: thought at first, that it will have to be extremely painless.
Speaker 3: But at the same time, I think, as as Powell
Speaker 3: said yesterday, it is too soon to declare victory on
Speaker 3: flamee inflation. And and here's why. So so, based on
Speaker 3: various model decomposition of the drivers of inflation over the
Speaker 3: last two years, our assessment is that half of it
Speaker 3: is driven by supply and about half of it is
Speaker 3: driven by demand. But of course it's the mixture of
Speaker 3: those two high demand while supply is heard which led
Speaker 3: to this explosive inflation. Right. And in terms of inflation,
Speaker 3: we saw this year earlier this year when SVB collapsed.
Speaker 3: At that time the CPI recall, it was actually falling
Speaker 3: and everybody thought, uh, inflation is not a problem. But
Speaker 3: infect the supercore, which is Powell's preferred measure, which captures
Speaker 3: the labor intensive part of inflation, was not slowing at all.
Speaker 3: But then moving into the second half of this year,
Speaker 3: we start to see a lot of disinflation and it
Speaker 3: actually start in June this year. And this is where
Speaker 3: I said that you know, the lacks of monetary policy
Speaker 3: on labor market is about eighteen to twenty four months,
Speaker 3: so that slowed down in wage growth actually hit right
Speaker 3: about the time that all these models would suggest, and
Speaker 3: so we started seeing movement in that, but still core
Speaker 3: inflation is still around four percent during the summer. On
Speaker 3: the second day of the December FOMC meeting, the FOMC
Speaker 3: received a very critical data point. It is the November's
Speaker 3: c PPI sorry, and so feed staff usually can pull
Speaker 3: together a PCE inflation number very quickly the moment they
Speaker 3: have both CPI and PPI numbers in their hand. So
Speaker 3: on the second day of December FOMC meeting, that PPI
Speaker 3: number came in to suggest that actually core PCE for
Speaker 3: November is going to be very low, as we estimate
Speaker 3: that it's only zero point zero four percent, possibly so
Speaker 3: round to zero in November, and this would mean that
Speaker 3: the six month annualized core PCE, this is the measure
Speaker 3: that Chris Waller and a lot of FED officials are
Speaker 3: looking and engaging, the momentum of inflation would come in
Speaker 3: at two point zero likely in November, right at the
Speaker 3: FET's target. So the FOMC has that data point on
Speaker 3: the second day, in the morning of the December FOMC meeting,
Speaker 3: and that explained why the Summary of Economic Projection see
Speaker 3: downward revision of core PCE to only three point two
Speaker 3: percent for end of twenty twenty three. Now, how do
Speaker 3: you make of this significant drop in core PCE, right,
Speaker 3: And so I would say that when this number ultimately
Speaker 3: is publicly released late in December, I think it would
Speaker 3: spark a big debate. On one side, a lot of
Speaker 3: people would say the FED is already at target, they
Speaker 3: should be cutting rates in January even But the second
Speaker 3: second group of people, and I would be in that
Speaker 3: second group of people, would be saying that, but a
Speaker 3: lot of the disinflation in November is actually in categories
Speaker 3: that's exhaustions to the feds R effect. It's due to China.
Speaker 3: If you look at the downside surprises, it's actually all
Speaker 3: in categories that with high China import contents there in apparels, clothing, furnishings,
Speaker 3: and those actually drove almost all of the downward surprises.
Speaker 3: So what I'm I think is happening, and this give
Speaker 3: me some memory of what happened in twenty fourteen and
Speaker 3: twenty fifteen was you have global growth slowed down and
Speaker 3: start by China, and then that led to commodity prices decline.
Speaker 3: And also that also sometimes when global growth slowed down
Speaker 3: occasionally that could also lead to OPEK having trouble keeping
Speaker 3: a discipline with an OPAC and that leads to a
Speaker 3: race to the bottom. On top of that, you have
Speaker 3: US shale who's pumping suddenly a lot more of that
Speaker 3: actually was the dynamics in twenty fifteen and twenty fourteen
Speaker 3: that led to that collapse in oil prices. So when
Speaker 3: you have this trying to slow down and what's going
Speaker 3: on with oil prices, you actually could lead to this
Speaker 3: dissiplation that we're seeing right now. But the implication is
Speaker 3: also that for the part that the FED has been
Speaker 3: focusing on supercore services that actually doesn't look as great.
Speaker 3: So services inflation actually picked up a little bit in
Speaker 3: November in the core PCE, So I think for the
Speaker 3: FED to declare victory too soon would be a mistake.
Speaker 3: And just looking an outlook our outlook out to twenty
Speaker 3: twenty four, we do see the six month annualized core
Speaker 3: PCE dipping in the first half of twenty twenty four
Speaker 3: and dropping to even two point two percent in March
Speaker 3: and then stabilizing it about two point seven percent in
Speaker 3: the second half of the year, and that would be
Speaker 3: that last mile of inflation, because the FED should not
Speaker 3: be happy about two point seven or two point eight
Speaker 3: percent inflation.
Speaker 1: I definitely want to discuss the outlook a little bit more,
Speaker 1: but before we do, I'm glad you mentioned these exogenous factors,
Speaker 1: these exogenous price declines, because there is you know, twenty
Speaker 1: twenty three has turned out to be better than a
Speaker 1: lot of people expected, but there is now this vibrant
Speaker 1: debate about how much of that can be attributed to
Speaker 1: the rate hikes and by extension, the FED. So I
Speaker 1: guess my question is how do you think FED tightening
Speaker 1: has actually worked through this economy and how much of
Speaker 1: what we've seen so far is due to monetary policy
Speaker 1: versus perhaps normalization of things like supply chains.
Speaker 3: Yeah, good, good question, Tracy. You know, I think the
Speaker 3: way that monetary policy has worked this year is largely
Speaker 3: as the models expected. As I was saying, if you
Speaker 3: use the state of the art models, you would see
Speaker 3: industrial production has declined exactly according to that contour that
Speaker 3: the model would describe inflation as well, and the places
Speaker 3: where which has not been behaving as models would describe
Speaker 3: would be the credit market and labor market. But even so,
Speaker 3: the labor market in fact is moving in the direction
Speaker 3: that the model would describe. So you know, with eighteen
Speaker 3: to twenty four month lag of monetary policy on labor market,
Speaker 3: we should be seeing a more clear slow down in
Speaker 3: job job growth in the second half of this year,
Speaker 3: and I think we did see that. And I will
Speaker 3: also have to add that the strong non farm payroll
Speaker 3: data over the year is likely to be overestimating the
Speaker 3: strength of the labor market. That in fact, about forty
Speaker 3: percent of the three million non farm payroll gains is
Speaker 3: due to a biel as birth and death models. So
Speaker 3: if you think about whether this makes sense, so you know,
Speaker 3: this is a year where bankruptcy has risen to the
Speaker 3: level of twenty ten. Right at the same time, business
Speaker 3: are complaining that it's been very hard for them to hire.
Speaker 3: So if that's the case, how could it be that
Speaker 3: new firms could contribute to forty percent of the three
Speaker 3: million job gains this year? So I think I think
Speaker 3: that in fact, after all the revisions are done, which
Speaker 3: will take a year or two more then it will
Speaker 3: be it will be clear that, in fact in twenty
Speaker 3: twenty three, the job market did slow down significantly in
Speaker 3: the second half of this year.
Speaker 2: What do you see in the data that makes you
Speaker 2: thinking that the strength of the labor market is overstated,
Speaker 2: because I mean, if small businesses are still to this
Speaker 2: day and on, we like I said, you know, recording
Speaker 2: this December fourteenth. Earlier in the week we got the
Speaker 2: NFIB survey which said that labor, finding labor is still
Speaker 2: a challenge for many companies. It's like in the first
Speaker 2: one or two paragraphs of the report that sounds like
Speaker 2: a robust type labor market. So what do you see
Speaker 2: the data that makes you think that it's there is
Speaker 2: this acceleration going on.
Speaker 3: Yeah, several things. So I think the difference between our views,
Speaker 3: our assessment of the labor market and other soft landing
Speaker 3: really staunch soft Landers view of the labor market really
Speaker 3: differs only in how much weight we place in different
Speaker 3: labor market indicators. For example, job openings, so that has
Speaker 3: been very high throughout this year, and in fact, for
Speaker 3: most of most of this year it was still over
Speaker 3: one point eight vacancies for every unemployed. But we put
Speaker 3: very little weight in that data because, first of all,
Speaker 3: a lot of HR recruiters have been fired over the
Speaker 3: turn of last year, and so logically you would ask
Speaker 3: yourself if so, if most of the layoffs late in
Speaker 3: twenty twenty two in early twenty twenty two is in
Speaker 3: the recruitment industry, than who are the people you know
Speaker 3: looking for jobs and recruiting people? And second, we do
Speaker 3: rely on anecdotes, and in turning points of and economy,
Speaker 3: anecdotes are extremely useful because they don't get revised, and
Speaker 3: and the FED also relies a lot on Facebook and
Speaker 3: anecdotes during turning points as well. But so we thought
Speaker 3: that the JULTS was just overstating and and but what
Speaker 3: gives us more confidence are the price measures, so wage growth,
Speaker 3: And throughout the year we have seen wage growth measures
Speaker 3: coming down softer and softer, even as you see these
Speaker 3: headline numbers being very strong in terms of hero gains
Speaker 3: and job openings. And I do believe that that price
Speaker 3: measures are better collected and less susceptible to revisions because
Speaker 3: you just collect a price data, right, whereas with counting
Speaker 3: the number of jobs you need to you need to
Speaker 3: consider are you appropriately taking account of all the failed firms,
Speaker 3: because firms who are going bankrupt would not be answering
Speaker 3: surveys of how many people they hired and so so
Speaker 3: you know, so that's why we put a lot more
Speaker 3: focused on price measures, which suggests to us us that
Speaker 3: in fact, the laborer market is softening more. And also
Speaker 3: we look at a range of recession rules that are
Speaker 3: that are based on unemployment, and so, uh.
Speaker 1: Yeah, Bloomberg Economics has its own recession rule. I didn't
Speaker 1: realize that.
Speaker 3: Yes, So a couple weeks ago I have a piece
Speaker 3: with Bill Dudley and we consider twenty eight recession rules
Speaker 3: that are based on unemployment. And the idea is that
Speaker 3: unemployment is a very good indicator because number one, it
Speaker 3: doesn't really get revised, and number two, it also unemployment
Speaker 3: a job is the most important variable economy that determines
Speaker 3: income consumption saving patterns. So that's why I would focus
Speaker 3: on unemployment. And so an unemployment rate is just the
Speaker 3: inflows of people into the unemployed state minus the people
Speaker 3: escaping the unemployed state, divided by the labor force. Right,
Speaker 3: that is the unemployment rate. But even within unemployed states,
Speaker 3: there's a lot of different categories. The most commonly used
Speaker 3: unemployment rate is the U three rate, the rate that
Speaker 3: we know about, but they are also U one, which
Speaker 3: measures the number of people who have been unemployed for
Speaker 3: fifteen months or longer. There's also U two rate, which
Speaker 3: measures the people who are laid off and who are
Speaker 3: temporary workers who finish their temporary stint. And so our
Speaker 3: twenty eight rules basically look at these three unemployment rates
Speaker 3: as well as just flow inflows and outflows. And in fact,
Speaker 3: back in January two thousand and eight, Janet Yeallen was
Speaker 3: discussing the state of the labor market in the FOMC
Speaker 3: meeting then, and she was the San Francisco FED president then,
Speaker 3: and she talked about unemployment flows. And so when you
Speaker 3: see a lot more people flowing into the unemployed state
Speaker 3: but having a hard time getting out of it, that
Speaker 3: is how you get a swelling of the unemployment rate.
Speaker 3: And you don't necessarily need layoffs to get to get
Speaker 3: a higher flow of unemployed, right It could be re
Speaker 3: entrance into the labor market or new entrants into labor market.
Speaker 3: And in fact, in the most three the nineteen ninety,
Speaker 3: two thousand and one, two thousand and seven recession, the
Speaker 3: initial increase in unemployment rate is actually due to entrance,
Speaker 3: new entrants and reentrant, not layoffs. So the most accurate
Speaker 3: rule that we have found is the unemployment flows and
Speaker 3: outflows indicator that whenever the six month moving average of
Speaker 3: unemployed inflows exceed outflows is when you are about two
Speaker 3: months after a recession begin. And I think the intuition
Speaker 3: there is just that usually the beginning of a recession
Speaker 3: begin with people just finding harder to find a job,
Speaker 3: not because there's layoffs, but because there are less people quitting,
Speaker 3: less turnover, so it's harder to find a job. And
Speaker 3: only after this, you know, the stagnant state goes on
Speaker 3: for a while and labor market when firms decided because
Speaker 3: of the low attrition, they have to lay off people,
Speaker 3: and that's where you get all the layoffs. That's the
Speaker 3: increase in you tube rate. So based on these this rule,
Speaker 3: it suggests that we have we are likely already in
Speaker 3: this state of downturn. And that is why we think
Speaker 3: that you know, a year from now, or even a
Speaker 3: year and a half from now, if beer word to
Speaker 3: time the beginning of a recession, I think October could
Speaker 3: be a candidate. And usually after this rule is triggered
Speaker 3: on employment rate would persistently increase because because it's just
Speaker 3: harder and harder for people to find.
Speaker 1: Yeah, it's exponential. So you mentioned the Psalm rule, and
Speaker 1: we had Claudia sam on the show a few weeks ago,
Speaker 1: and she has made the point in many venues now.
Speaker 1: But the idea that yes, the Psalm rule exists, and
Speaker 1: it is one of twenty eight recession rules, as you
Speaker 1: just mentioned, Anna, but it is just a rule. It
Speaker 1: is just a guide, and the economic cycle of the
Speaker 1: post pandemic period has been so unusual that there is
Speaker 1: a good chance that maybe the rule doesn't apply to
Speaker 1: this particular cycle. I'm curious how you factor in I
Speaker 1: guess the extraordinary unusualness of the COVID period into your outlook.
Speaker 1: Is that something that you take into account when you're
Speaker 1: looking at things like the relationship between unemployment and the economy.
Speaker 1: Would you adjust those models for I guess the weirdness
Speaker 1: of the post pandemic economy definitely.
Speaker 3: And that's one of the reasons why we were never
Speaker 3: calling for a recession in twenty twenty two or even
Speaker 3: first half of this year, because the most important thing
Speaker 3: to adjust for in terms of the unusualness of the
Speaker 3: pandemic is the excellent balance sheet of household and corporates right,
Speaker 3: And you could only really time the downturn once you
Speaker 3: have a good understanding of when those cushion financial buffers
Speaker 3: that people have built up build up exhaust themselves. And
Speaker 3: also another very special factor about the pandemic is this
Speaker 3: labor shortage, and that could be a reason for why
Speaker 3: firms would be hoarding war labors and therefore less likely
Speaker 3: to let people go. However, I would say that we
Speaker 3: did we always supplement our model based or rule thumb
Speaker 3: based analysis with historical analysis, and we went back to
Speaker 3: look at the Beige books, the FOMC transcripts, real time
Speaker 3: FOMC minutes of previous recessions, and we found that labor
Speaker 3: shortage is always a problem in previous recession effect. In
Speaker 3: nineteen seventy three, that was at that time the deepest
Speaker 3: recession since World War Two. Employment was climbing even eleven
Speaker 3: months after the recession began. And also that was also
Speaker 3: a recession where everybody in the FMC at that time
Speaker 3: was talking about how tight the labor market was. There
Speaker 3: was enormous labor shortage, and that was why even eleven months,
Speaker 3: only eleven months into that recession did employment turn negative.
Speaker 3: And then also the Beige Book, if you go back
Speaker 3: to the Page Book in two thousand and one, and
Speaker 3: that is the recession that I think if we were
Speaker 3: to have one today would be most likely to resemble
Speaker 3: that one. Was where everybody actually lived through that recession
Speaker 3: before realizing that there's even one and by the time
Speaker 3: NBR announced it's already over. And at that time, what
Speaker 3: people were talking about when that recession started was that
Speaker 3: labor market is very tight. There's a lot of shortages.
Speaker 3: There were pockets of weaknesses manufacturing as in hiring, and
Speaker 3: it's hard to get a manual labor. There are decreased
Speaker 3: demand for temporary workers, but there's also shortages of white collars.
Speaker 3: So it actually always this, this narrative of labor shortage,
Speaker 3: tight labor market always existed in the first month of recessions.
Speaker 3: That's that's so this is why we to us it
Speaker 3: was not a powerful enough of an argument to push
Speaker 3: back against a embarraical regularity. That actually, to be honest,
Speaker 3: I don't think econdoms have a very good understanding about
Speaker 3: and so if we don't understand why unemployment rate would
Speaker 3: always jump by another, you know, one point five percentage
Speaker 3: point after jumping one point zero point five percentage point.
Speaker 4: Then it's very.
Speaker 3: Hard to uh deconstruct this argument if you don't even
Speaker 3: know why it is that way.
Speaker 1: So speaking of things that economists might not have a
Speaker 1: great understanding of. You kind of touched on this earlier.
Speaker 1: But the other big debate of the moment is this
Speaker 1: idea of.
Speaker 4: Hard versus soft data.
Speaker 1: So the hard data is still coming in relatively strong,
Speaker 1: although as you point out, maybe it gets revised down later.
Speaker 1: These surveys, the soft data are pretty bad, at least
Speaker 1: up until recently. There's been some improvement. But if you
Speaker 1: were looking at something like the consumer sentiment survey earlier
Speaker 1: this year, you probably would have thought the recession was
Speaker 1: already here. How are you squaring those two variables, the
Speaker 1: soft and the hard.
Speaker 3: Yeah, so soft indicator sentiment indicators have not really played
Speaker 3: a key role in our recession, call for the reason
Speaker 3: that you mentioned, And I do agree that if you
Speaker 3: look at the decomposition of the sentiment, it's driven by
Speaker 3: political party lines. However, I would say that it is
Speaker 3: important to take into account people's lift experience because ultimately,
Speaker 3: people's ultimately, and I stress the ultimately people's behavior is
Speaker 3: a function of how they feel the world is going
Speaker 3: to be like. And I could understand why sentiment is
Speaker 3: very poor because you know, the key, the key reason,
Speaker 3: the key explanation is that price levels are still high.
Speaker 3: And you know, not only in US, but all around
Speaker 3: the world. When you look at countries that has suffered
Speaker 3: from high inflation, what happened is that the relative levels
Speaker 3: of prices in the economy is completely distorted, and it
Speaker 3: takes a while for these relative levels to return to normal,
Speaker 3: even if the growth rate of inflation falls to two percent.
Speaker 3: In fact, everything is there a different For example, the
Speaker 3: price of a burger relative to you know, my income
Speaker 3: is permanently higher. And also, you know, if your heater
Speaker 3: is broken this winter, you'll be shocked to find out that,
Speaker 3: in fact, it now costs twenty thousand dollars to get
Speaker 3: a heat pump versus before the pandemic it was you know,
Speaker 3: about ten thousand dollars. So many prices actually increased more
Speaker 3: than thirty percent, forty percent. And I think it's just
Speaker 3: harder for people to plan for the future. Whenever financial
Speaker 3: shocks happen. And also if you look at the distribution
Speaker 3: of the gains from financial asset appreciation during the past
Speaker 3: three years, it is actually very concentrated in baby boomers.
Speaker 3: And you know, seventy percent of stocks are owned by
Speaker 3: people who are older than fifty nine years old. And
Speaker 3: whereas the people the millennials and general Generation X, what
Speaker 3: they had in the last three years is actually they
Speaker 3: saw their debt load climbed. In fact, a consumer credit
Speaker 3: for millennials rose over thirty percent over the last three years.
Speaker 4: So you know, there's a.
Speaker 3: District fuctional aspect to it. And I think if you
Speaker 3: ask the baby boomers, yes, times are great. What you know,
Speaker 3: for the younger generation they cannot. They have a hard
Speaker 3: time buying a house. So I think one way that
Speaker 3: we could get a sustained soft landing and would be
Speaker 3: if the baby boomers could transfer their wealth to the
Speaker 3: millennials to help the debt burden. That is sure if
Speaker 3: all the old people die, no, just be altruistic.
Speaker 1: Yeah, okay, yes, yes, please give us our inheritance.
Speaker 2: Now twenty twenty four, what should we watch for what's
Speaker 2: going to happen?
Speaker 3: Yeah, I think there are are both definitely both positive
Speaker 3: risk and negative risk. So, as I mentioned, I think
Speaker 3: that there there might be a chance that a recession
Speaker 3: in fact has already started late in twenty twenty three,
Speaker 3: but I don't think any recessions are in because there's
Speaker 3: this short period of time where if policy makers act
Speaker 3: on it and you could turn it around. Right, And
Speaker 3: when I wrote my twenty twenty four outlook, we are
Speaker 3: our base case is that we think a downturn has
Speaker 3: started in October, but the FED can still achieve its
Speaker 3: soft lending if they cut faster and earlier. And in
Speaker 3: my mind I was thinking if that should be cutting
Speaker 3: in December and January, And amazingly we did see a
Speaker 3: great pivot from Powell in the December FOMC meeting, and
Speaker 3: that is actually the sort of stuff that could staunch
Speaker 3: the downturn dynamics and turn it all around. And also,
Speaker 3: of course it helps that you have positive exogenous supply
Speaker 3: shocks like China slow down, as bad it is to
Speaker 3: global growth, actually helps Powell's case in that it drives
Speaker 3: down commodity prices. So but on the negative risk side,
Speaker 3: I main concern about credit crunch. I mentioned that our
Speaker 3: models would suggest that the credit sector has not adjusted
Speaker 3: to FED rate hikes, and it takes time for the
Speaker 3: rate hikes to hit that sector because first you need
Speaker 3: the balance sheet cushion of consumers and corporates to be depleted,
Speaker 3: and then second the downturn a slowed. You don't actually
Speaker 3: need a negative growth, you just need slow down in
Speaker 3: revenues for corporates to feel the heat. And then there
Speaker 3: then you'll see more default and as you see more
Speaker 3: defaults than you can see lenders pullback or the defaults
Speaker 3: could also reveal that there is actually some underlying vulnerability,
Speaker 3: either in the consumer a credit segment, or corporate.
Speaker 1: All right, well, Anna Wog, thank you so much for
Speaker 1: coming on all thoughts and walking us through your twenty
Speaker 1: twenty three call and giving us a preview of twenty
Speaker 1: twenty four as well. Really appreciate it.
Speaker 3: Happy to be here.
Speaker 4: Thanks Joe.
Speaker 1: That was really interesting. There's so many things to pull
Speaker 1: out of that conversation. I thought the credit market point
Speaker 1: was an extremely interesting one. People have been talking about
Speaker 1: the idea of the credit market maybe having a reckoning
Speaker 1: for many years now, but the idea that maybe you know,
Speaker 1: the lags between the interest rate hikes and the credit
Speaker 1: market have somehow changed due to the big maturity takeout
Speaker 1: that we saw, but also the idea that if revenues
Speaker 1: start to come down, that's when you could see the
Speaker 1: crunch point that we're interesting. The idea of the distribution
Speaker 1: of sentiment. I think that's something that we're starting to
Speaker 1: hear over and over again, not just in the political sense,
Speaker 1: so obviously Republicans and Democrats are reporting very different things
Speaker 1: at the moment, but also maybe differences in ages. If
Speaker 1: you're a baby boomer with a huge stock portfolio and
Speaker 1: a house, you're probably feeling pretty good right now. If
Speaker 1: you're a millennial without that much in stock based savings
Speaker 1: or any hard assets like houses, then you're probably not
Speaker 1: feeling so good.
Speaker 5: Yeah.
Speaker 2: I thought there were so many interesting observations there, but
Speaker 2: I can't talk, so Tracy just say more of the Yeah, you.
Speaker 1: Could just say that's a good point.
Speaker 2: Is a great point, Tracy.
Speaker 4: Yeah, thank you.
Speaker 1: I appreciate that. Also, the idea that if we do
Speaker 1: get a recession soon, it could resemble something like two
Speaker 1: thousand and one.
Speaker 4: We wore to talk.
Speaker 2: About that recession. We should do an episode on the
Speaker 2: two thousand and one recession.
Speaker 1: I would totally be up for it, the idea that
Speaker 1: people it was one of those recessions where people didn't
Speaker 1: realize it was happening that much until afterwards.
Speaker 2: Nine eleven sort of like woke, you know, that was
Speaker 2: the moment. But yes, I think that is a really
Speaker 2: and at that point people like O were really you know,
Speaker 2: clearly we're going to have this contraction. But I do
Speaker 2: think that's a really interesting historical recession we don't talk
Speaker 2: about much, and I do think there's like sort of
Speaker 2: this interesting question about the lags between when the NBA
Speaker 2: dates the start of a recession to win the consensus
Speaker 2: sets in that over in recession, So it's sort of
Speaker 2: an interesting thing to look back at, like how long
Speaker 2: it typically takes historically.
Speaker 1: Joe, I think we should leave it there because it
Speaker 1: sounds painful just listening to you. I apologize, no, I
Speaker 1: thank you for coming on the show and you know,
Speaker 1: working it out, but let's leave it there.
Speaker 2: Let's leave it there.
Speaker 4: Okay.
Speaker 1: This has been another episode of the Oddlots Podcast. I'm
Speaker 1: Tracy Alloway. You can follow me at Tracy Alloway.
Speaker 2: And I'm Joe Wisenthal. You can follow me on Twitter
Speaker 2: at the Stalwart follow our guest Anna Along. She's at
Speaker 2: Anna Economist. Follow our producers Carmen Rodriguez at Carmen Arman,
Speaker 2: dash Ol Bennett at dashbod and kill Brooks at Kilbrooks.
Speaker 2: Thank you're to our producer Moses onm For more Odd
Speaker 2: Lots content, check out Bloomberg dot com slash odd Lots
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