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Speaker 1: Yeah, Welcome to the Bloomberg Surveillance Podcast. I'm Tom Keene

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Speaker 1: Jay Leye. We bring you insight from the best in economics, finance, investment,

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Speaker 1: and international relations. Find Bloomberg Surveillance on Apple Podcasts, SoundCloud,

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Speaker 1: Bloomberg dot com, and of course on the Bloomberg. Well,

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Speaker 1: let's bring in George Saravlos shall We formerly of the

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Speaker 1: I m F, now of Deutsche Bank, the global co

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Speaker 1: head of f X research at the German Investment Bank. George,

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Speaker 1: get us up to speed. Let's begin with a Bank

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Speaker 1: of Japan and news in the last twenty four hours.

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Speaker 1: It's an operation they do every single week, yet this

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Speaker 1: time it got a lot of headlines because they've paid

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Speaker 1: back some of the long bond purchases. Did it mean

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Speaker 1: that much to you as it meant to some people

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Speaker 1: in this market, Oh, it didn't really mean that much.

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Speaker 1: And since we've actually seen bit of a retracement in

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Speaker 1: Dolly Yan, which initially dropped, the thing to bear in

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Speaker 1: mind is that the Bank of Japan is no longer

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Speaker 1: targeting a quantity of purchases but a price, and they've

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Speaker 1: been actually tapering. They've been slowing the amounts they buy

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Speaker 1: for the last six to nine months, so it wasn't

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Speaker 1: really a big surprise to us. But this being said,

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Speaker 1: it speaks of how sensitive the yen is going to

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Speaker 1: be to any sort of sign that the b o

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Speaker 1: J could potentially be shifting policy. And I think there's

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Speaker 1: a broader theme taking place in currency markets, whereby the

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Speaker 1: correlation between yields and currencies is breaking down. And if

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Speaker 1: you look at dollar yen versus ten year US yields,

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Speaker 1: there's quite a gap starting to build up. So even

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Speaker 1: though U s yields are going up, Dolly Yan is lower. George.

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Speaker 1: That was a story last year as well for the

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Speaker 1: Euro dollar trade rate differentials didn't match the move we

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Speaker 1: saw in the euro. Do you think we're shifted away

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Speaker 1: from the importance of of rate differentials and lean more

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Speaker 1: towards say, what flows are doing? Very much. So, if

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Speaker 1: you think about the last few years, rate differentials have

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Speaker 1: been extremely important for currencies, But if you go further back,

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Speaker 1: if you go before the crisis, rates actually didn't matter

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Speaker 1: that much for effects. So between the two thousand four

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Speaker 1: or six period, the FED was hiking rates and yet

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Speaker 1: the dollar was weakening. And I think we're returning to

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Speaker 1: that period, whereby it's a lot more about flows, the

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Speaker 1: US basic balance of payments, portfolio flows, current account rather

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Speaker 1: than what the FED is doing. The Fed, unfortunately, is

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Speaker 1: not going to be that important anymore. Get me to

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Speaker 1: one thirty on euro dollar, that's your cool? How do

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Speaker 1: we get there? So it's a combination of a number

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Speaker 1: of things. On the U S side, the biggest problem

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Speaker 1: we think the dollar will have this year's asset valuations.

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Speaker 1: If you look at the combined valuation of fixed incoment equities,

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Speaker 1: it's pretty much sitting at sixty year highs. So we

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Speaker 1: struggle to see who's going to be the marginal buyer

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Speaker 1: of US assets over the next few months. Second problem

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Speaker 1: the dollar has is when global growth as well. Historically

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Speaker 1: the dollar tends to weaken because it's the global funding

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Speaker 1: currency of choice. And then, of course we have the

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Speaker 1: European story where you still have very large underweight by

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Speaker 1: European investors. They've invested too much outside of Europe, and

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Speaker 1: we think they'll start bringing some of that money back. George,

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Speaker 1: there's one thirty on euro dollar by year end, require

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Speaker 1: a more active e c. B. Well, I would argue

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Speaker 1: the opposite that precisely because the euro will be appreciating.

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Speaker 1: It will force the e c B to be very

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Speaker 1: slow and very careful in its exit. And that's exactly

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Speaker 1: what happened last year. The Euro was going up even

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Speaker 1: as the ECB was very very slow and careful. Um

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Speaker 1: so I wouldn't say I need a very very hawky ECB.

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Speaker 1: You're going on Irving Fisher, earnest. This is not Stanley Fisher, folks.

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Speaker 1: This is Irving Fisher from a hundred so maybe ninety

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Speaker 1: years ago. George Walkers through that stronger Euro is disinflationary

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Speaker 1: to the greater Europe, isn't it Exactly? So if the

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Speaker 1: Euro is rising, it will have a knock on impact

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Speaker 1: on how quickly core inflation can normalize out of Europe.

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Speaker 1: But if the Euro is rising for good reasons, if

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Speaker 1: it's because you're Pian growth is doing well, if it's

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Speaker 1: because people are adjusting their hedge ratios on European and

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Speaker 1: US assets, then that might not necessarily be a bad thing.

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Speaker 1: It does slow down the ECB, but it doesn't mean

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Speaker 1: the exit it stopped, and that's exactly what we saw

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Speaker 1: last year. Does it give Greece, Portugal, the troubled Southern

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Speaker 1: European balance, she does it give them time to adjust

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Speaker 1: or has it given time to go into bad habits? Again,

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Speaker 1: if you look at the sources of European growth over

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Speaker 1: the last few quarters, it's all been about domestic demand,

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Speaker 1: credit growth, recovering domestic consumer and business confidences at its highs.

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Speaker 1: So I don't think as stronger euro will be that

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Speaker 1: much of an issue. And if you look at it

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Speaker 1: from a big from the big valuation perspective, really the

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Speaker 1: euro at one thirty is not that extreme. We've been

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Speaker 1: at much much greater extremes before, so I don't expect

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Speaker 1: a stronger Euro to be a big negative for European net. George,

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Speaker 1: the theme over the last year or so, in fact

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Speaker 1: the last several years in the United States and much

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Speaker 1: more so in Europe now is growth, rich, inflation and poor.

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Speaker 1: Is that going to be the story for Europe as

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Speaker 1: well for the next several years. Well, we do have

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Speaker 1: a forecast of an inflation normalization, but the key point

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Speaker 1: around inflation is the speed. I think, so as long

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Speaker 1: as the recovery is orderly, it's along the lines of

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Speaker 1: where central banks expected to be, markets will not be disrupted,

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Speaker 1: where you will get the big disruption is if you

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Speaker 1: get a sharp rise and we start worrying about much

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Speaker 1: harder inflation. But so long as it's orderly, which is

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Speaker 1: our expectation, I think markets will continue to behave fairly well. Georgia,

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Speaker 1: I'm just reading Greg valus No just published moments ago,

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Speaker 1: the notes folks out of Washington linking politics with economics.

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Speaker 1: The last few days have been just extraordinary, and George,

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Speaker 1: let me read you as boldened sentence. Long term debt

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Speaker 1: is a ticking time bomb. Most members of Congress know it,

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Speaker 1: but they will not embrace the prescriptions that required. We

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Speaker 1: could bring that over, George, surveillance to any other country.

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Speaker 1: Is that what we're really walking into is with a grinding,

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Speaker 1: higher yield environment, or the dynamics of one thirty euro,

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Speaker 1: it's all going to roll over into long term debt

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Speaker 1: challenges two years and five years out. Well, it's interesting

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Speaker 1: because I've been using the two thousand four or six parallel.

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Speaker 1: But then, of course we can't forget what happened in

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Speaker 1: two thousand, seven and eight. So I do think this

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Speaker 1: issue of leverage, high levels of that will be an issue,

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Speaker 1: but I'm not convinced we're at that time yet, because

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Speaker 1: if you look at the level of credit growth, if

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Speaker 1: you look at the pent up demand that still exists,

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Speaker 1: it does show plenty of potential for a pick up

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Speaker 1: and a continued improvement in the global economic outlook. What

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Speaker 1: I would also point out is that by central banks

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Speaker 1: being so predictable, so scared to shock the market, this

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Speaker 1: encourages further re leveraging. Eventually it could end in big problems,

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Speaker 1: but I'm not convinced that this is the year to

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Speaker 1: call for that. Ed Serves, thank you so much, greatly

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Speaker 1: appreciate your time Stant Calendar with us, who is truly

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Speaker 1: our expert on fiscal affairs. We thank of so much

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Speaker 1: for coming in as we talked to CBO directors and

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Speaker 1: former directors stand Greg Villiers morning. Note I've already mentioned this,

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Speaker 1: folks as an emboldened single sentence. Long term dead is

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Speaker 1: a ticking time bomb. Most members of Congress know it,

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Speaker 1: but they will not embrace the prescriptions required, Stant Colendar.

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Speaker 1: Have you ever witnessed left or right politicians caring about

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Speaker 1: the world of Stan Calendar? Do they really care about

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Speaker 1: our debt and our deficit? They don't care about it

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Speaker 1: when they're in charge in It's their debt. They care

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Speaker 1: about it when someone else can be blamed for it. Uh, look,

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Speaker 1: you just had the best example of this, Tom and

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Speaker 1: Johnny Um you after years of hearing day Republican deficits,

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Speaker 1: complained about the deficit in the national debt and we

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Speaker 1: didn't get to our grandchildren and things like that. They

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Speaker 1: just increased the debt by one and a half trillion dollars,

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Speaker 1: maybe more than two trillions. So it's right, it's not

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Speaker 1: an issue. What is your timeline to where the deficit

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Speaker 1: out two years becomes a tangible issue for the markets? Oh,

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Speaker 1: not until after the two twenty election. That far out,

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Speaker 1: I'll come on. It could be further than that. It

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Speaker 1: could be further than that. Tom, let's get rid of

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Speaker 1: about the United States of America is in charge of

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Speaker 1: its own currency. If the United States of America is

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Speaker 1: going to get in trouble with a deficit that blows

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Speaker 1: out to five of g d P and what a

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Speaker 1: debt to GDP ratio north of one, when Japan is

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Speaker 1: north of two hundred, I'd say Japan is going to

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Speaker 1: get in a whole lot more trouble before the US

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Speaker 1: even sees any kind of trouble. And Japan isn't seeing

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Speaker 1: any trouble whatsoever. What does Pharaoh know about the US deficit?

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Speaker 1: Help us here. We're not Italy, are we? No, we're

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Speaker 1: not Italy. But we are a country that's about to

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Speaker 1: have at least a trillion dollar annual debt in excellent

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Speaker 1: economic times for every year through the end of the

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Speaker 1: Trump administration and probably beyond. And Tom Trumps excuse me, Tom,

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Speaker 1: the markets will he won't care that much about the deficit.

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Speaker 1: If the if the ways to reduce the epicode of

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Speaker 1: things that will hurt the markets down at this point though,

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Speaker 1: a trillion dollars sounds emphatic, but it's five percent of GDP.

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Speaker 1: I take your point that they should be introduced in

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Speaker 1: a count of signical fiscal policy, that in good times

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Speaker 1: you should be cutting the deficit, you shouldn't be enlarging it.

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Speaker 1: But the idea that there's going to be trouble anytime soon,

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Speaker 1: this is politics, isn't it. This isn't financial economics. Oh no, no,

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Speaker 1: it's it's it's pressing. Lots of combination. But obviously politics

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Speaker 1: is the key phrase here, um, and the key the

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Speaker 1: key consideration. Um. The thing about the deficit is that

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Speaker 1: it won't be a problem until it's a problem, and

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Speaker 1: then everyone's going to start pointing a finger and say

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Speaker 1: you should have done something, you should have told us.

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Speaker 1: But both of you keep in mind that with so

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Speaker 1: many members leaving Congress in so short a period of time,

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Speaker 1: they don't think it's their problem, and they think it

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Speaker 1: will be another congresses and other president's problem and they

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Speaker 1: don't have to deal with it. In the meantime, I mean,

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Speaker 1: without a doubts down, we're witnessing one of the greatest

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Speaker 1: intergenerational wealth transfers in history. And at some point, as

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Speaker 1: you say, it's going to buy But in the here

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Speaker 1: and now, the idea that the deficit blows into some

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Speaker 1: sort of crisis, it's gonna be Japan first, it's gonna

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Speaker 1: be Italy before that. If the United States goes down

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Speaker 1: from some kind of fiscal crisis position, isn't the whole

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Speaker 1: world going with him? Almost certainly. But but Jonathan, the

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Speaker 1: the the key thing here is that as interest rates

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Speaker 1: start to rise, it will start to be a political problem.

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Speaker 1: Now you're exactly right in that um it's not gonna

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Speaker 1: happen anytime soon, but certainly by the two thousand twenty election.

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Speaker 1: It's a federal reserve in the market to start responding

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Speaker 1: to hire government borrowing needs. It's gonna have it. It's

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Speaker 1: gonna start to bite on the economy. So I want

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Speaker 1: to I want to sum this up because John, I

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Speaker 1: think it is correct to mention five percent of g

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Speaker 1: d P. Where in your experience, Stand Calendar, does definitive

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Speaker 1: g d P tip into the discourse? Is it six?

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Speaker 1: Do we have to get out that far? Well, Toma,

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Speaker 1: I'm not sure that anything is happening is going to

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Speaker 1: happen in the next five years. Um can be predicted

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Speaker 1: by things that have happened in the past, but is

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Speaker 1: going to start to be the new norm here, and

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Speaker 1: that's when we're gonna start to have an issue too.

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Speaker 1: Short Stand Calendar again, thank you for your help with

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Speaker 1: us over the years. Really looking forward to many visits

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Speaker 1: with you. In two thousand, just sprayed with us doing

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Speaker 1: fundamental analysis on the industrial Oh, we'll do that later.

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Speaker 1: Jeffrey is going to hang up the phone if we

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Speaker 1: do it now. Jeff it's morning in America for industrials.

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Speaker 1: Are there a lot of knit cap in smaller cap

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Speaker 1: but let's focus mid cap industrials. Below our radar, ready

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Speaker 1: for the bolt dining of bigger companies. Yes, Tom, I

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Speaker 1: think there is. And thanks for that intro and bitcoin.

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Speaker 1: It just made all my stocks feel less expensive. So

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Speaker 1: you know, we move forward here. Um, so yes, I

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Speaker 1: think you know, obviously we started this dialogue talking about

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Speaker 1: ge and Caterpillar and Honeywell, and that's that's all fine

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Speaker 1: and good. But uh, you know, I think we want

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Speaker 1: to look a little bit lower here where there's you know,

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Speaker 1: some real operating leverage. We like We like Dover as

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Speaker 1: a firm, We like Crane h I t t uh.

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Speaker 1: Some of the flow control companies like SPX flow. Uh.

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Speaker 1: They're not all necessarily take out candidates. Some of them

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Speaker 1: could be, but um, you know there are a lot

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Speaker 1: of them are domestically oriented companies. They're going to benefit

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Speaker 1: more broadly from tax reform maybe than some of the

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Speaker 1: big multinationals, and and some of them are legitimate candidates

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Speaker 1: to be taken out over time. Jeff, the overauching theme

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Speaker 1: from thirty five thousand feet, thematically speaking, is just companies

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Speaker 1: are going to spend more, CAPEX is going to improve

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Speaker 1: by industrials. Give me a more detailed thematic trade beneath

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Speaker 1: the surface. What is it specifically you're looking to happen

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Speaker 1: this year off the back of the tax bill. Well,

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Speaker 1: there are several things. For example, when we look at

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Speaker 1: mining to bring it back to the capex. Uh you know,

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Speaker 1: argument you know, at at peak, Caterpillar made something like

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Speaker 1: seventeen hundred mining trucks and a trough. They did about

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Speaker 1: seventy or eighty. Now that peak was the supercycle peak

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Speaker 1: that will never get back to. But we think normal

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Speaker 1: demand is six or seven hundred units. Uh So there's

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Speaker 1: a tremendous amount of upside to come back to normal. Also,

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Speaker 1: we're looking at spending on the utility grid, uh more

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Speaker 1: the local grid where companies actually earlier last year we're

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Speaker 1: focused on trying to spend for storm hardening and modernization,

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Speaker 1: and then we had all these storms come through the

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Speaker 1: really accentuated the point that we need to do that.

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Speaker 1: So I think we'll see spending in the utility area

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Speaker 1: and we like, you know, the the whole energy complex

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Speaker 1: looks pretty interesting too. People are obviously focused on the

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Speaker 1: oil price, which is fine, but you know, when you

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Speaker 1: look at downstream chemical capex, particularly in the US, looks

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Speaker 1: like it's clearly coming up. We see some activities starting

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Speaker 1: to happen in the refiners on the pipeline side. Uh

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Speaker 1: so you know those are those are a couple of

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Speaker 1: vertical markets, tomension that we're you know, where we see

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Speaker 1: some very specific activity beginning to happen. And Jeff, just

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Speaker 1: to be clear, on the energy side, is a deregulation

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Speaker 1: effort down in the nation's capital going to turn up

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Speaker 1: the volume on that trade? Uh? It may, I think

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Speaker 1: in the near term. Um, you know, we're we're looking

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Speaker 1: at you know, very economically uh justifiable plans and chemicals.

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Speaker 1: You know, you're referring more to do we open up

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Speaker 1: the spickeots offshore and some other things. I think that

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Speaker 1: takes a little longer the play out, but it's certainly uh,

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Speaker 1: you know, provides a positive pulse into the marketplace. A

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Speaker 1: guy once a good guy, I might point all added

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Speaker 1: to our lives and say, a good guy, a guy

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Speaker 1: named m L once told me, look, oh we need

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Speaker 1: is three point two GDP, which was so long ago.

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Speaker 1: I don't think we knew Mr Trump existed. I'm kidding,

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Speaker 1: but the answer is, we certainly didn't always going to

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Speaker 1: run for president. Jeff Spreagan, your models, Are we anywhere

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Speaker 1: near the Trumpian three three point one Melton three point

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Speaker 1: two real g d P that can just make industrial

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Speaker 1: America explode? I think I think we're flirting with that.

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Speaker 1: I mean, I think we're you know, I think there's

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Speaker 1: a real chance that we bust through that that threshold.

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Speaker 1: And you're you're exactly right that you really see the

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Speaker 1: procyclical multiplier effect on industrials around three percent, maybe a

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Speaker 1: little bit lower, but you know, uh, two point seven

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Speaker 1: five to three and then things really changed. Explain why

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Speaker 1: that is, because anybody under a certain vintage has never

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Speaker 1: experienced that. Why does that Occuragejeff Spring, There's there's a

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Speaker 1: couple of reasons. One, you actually get some real capacity absorption,

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Speaker 1: which drives the need to you know, physically spend for growth.

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Speaker 1: But you also just have this you know, kind of

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Speaker 1: self reinforcing dynamic that gets going. It's like a snowball

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Speaker 1: going down the hill. Right, one company's capex is the

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Speaker 1: other guy's revenue, and you know, you get that that

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Speaker 1: virtuous circle going, so to speak. And uh, you know

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Speaker 1: that doesn't run indefinitely, but if it's if something isn't

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Speaker 1: thrown in the way to run it off the rails.

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Speaker 1: It certainly can happen. For for two or three years.

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Speaker 1: This has been a wonderful, really generous of you to

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Speaker 1: be with us. Jared Bernstein joins us right now. He

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Speaker 1: was an advisor and vice President Biden of course the

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Speaker 1: Economic Polsey Institute for years. We're thrilled to have him

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Speaker 1: on today to talk budget. I do want to talk

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Speaker 1: a little politics first, Jared, which I think is is

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Speaker 1: so important, and that is right now. Oprah Winfrey is

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Speaker 1: the bell of the Democratic Party. If you will and

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Speaker 1: I go back talk about two and the Color Purple.

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Speaker 1: It was an extraordinary book, an extraordinary movie. I remember

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Speaker 1: looking at Oprah Winfree and who nobody knew and saying,

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Speaker 1: who is this person? But Jared, within the mix of

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Speaker 1: our political economy, could candidate Winfree win Michigan, in win

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Speaker 1: Wisconsin from the Republicans? Is she the kind I don't

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Speaker 1: mean miss Winfree personally, but is that kind of candidate

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Speaker 1: what your Democratic Party needs? Well, I I'd like to

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Speaker 1: play the economist card and say, I really, you know,

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Speaker 1: I'm hard and doing economic predictions, but let me try

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Speaker 1: to answer your your interesting question. I don't think you

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Speaker 1: can extract who she is personally from from the question

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Speaker 1: you asked. And it seems to me that Winfrey could

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Speaker 1: win the devotion of the electric wherever she decided to

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Speaker 1: to place herself. So I think that the question could

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Speaker 1: she win absolutely should she? From the perspective of Democrats,

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Speaker 1: it's a much trickier question. Yeah, that's very nicely answered.

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Speaker 1: I just had thought I had to bring it, Jared.

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Speaker 1: We spoke with Stan Conder earlier, who made clear he's

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Speaker 1: got a lag time before our fiscal policy and miss

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Speaker 1: slams in. Do you agree that we can wait out

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Speaker 1: through two thousand nineteen to the election year two thousand

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Speaker 1: twenty before we really talk about deficit the g D

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Speaker 1: p uh No. I think this is a I'm not

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Speaker 1: disagreeing with stand as much as I'm thinking about the

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Speaker 1: impact of deficit spending on the economy, and I think

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Speaker 1: it's an underreported, underappreciated story. I was just looking at

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Speaker 1: numbers from the CBO. We're talking about hundreds of billions

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Speaker 1: of dollars from the tax cut coming into the economy

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Speaker 1: and government deficits, federal budget deficits over the next two years.

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Speaker 1: The deficit was probably going to go up to four

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Speaker 1: or five of GDP. This is going to this may

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Speaker 1: very well knock the unemployment for down to three and

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Speaker 1: a half percent by the end of of this year.

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Speaker 1: In essence, we're doing a really remarkable experiment, which is

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Speaker 1: UM pretty seriously stimulating the economy. Is we're closing in

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Speaker 1: on full employment. Now. The set is a big wild card.

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Speaker 1: But I think this is in some ways, and I

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Speaker 1: don't want to give the Republicans credit because I think

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Speaker 1: the taxcuse is terrible piece of work. But in some

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Speaker 1: ways this is what secular stagnation. UH philosophers have ordered

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Speaker 1: up the idea that we need more fiscal stimulus. I

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Speaker 1: understand the need to have a counter siglo fiscal it's

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Speaker 1: kind of cyclical fiscal policy that makes sense for most economists.

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Speaker 1: That's fine. I don't understand how we get from a

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Speaker 1: disagreement of it doing that to a fiscal crisis at

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Speaker 1: some point in the future with debt to GDP levels

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Speaker 1: of around a hundred percent. Why is that so dramatic? Well,

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Speaker 1: I don't I don't think that it is so dramatic.

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Speaker 1: I mean, I tend to be pretty dubbish on these

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Speaker 1: sort of things. UM, and certainly if you look at

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Speaker 1: the kind of utilization indicators, inflation being the most probably

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Speaker 1: the most important, or interest rates for that. And yet

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Speaker 1: these things are tilting up a bit. But it's very

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Speaker 1: hard to get excited about an overheating case. I think

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Speaker 1: the biggest problem with our high debt to GDP ratio,

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Speaker 1: and it's a really significant one, is that when we

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Speaker 1: hit the next recession, we are going to have two

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Speaker 1: little monetary space and we're going to have two little

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Speaker 1: fiscal space. I don't know when that next recession is,

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Speaker 1: but I'd like to go into it with the debt

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Speaker 1: to GDP ratio that was coming down, not going up.

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Speaker 1: And I think a lot of people would have some

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Speaker 1: sympathy with that view. So chat at the question would

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Speaker 1: be what is the response to the next recession? Uh,

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Speaker 1: this is the thing that keeps me up at night.

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Speaker 1: I think the current economy is percolating along in in

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Speaker 1: in impressive ways. It's true that there are definitely pockets

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Speaker 1: that the expansion hasn't reached, but it's getting there. After all,

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Speaker 1: we are in the year nine. But we are just

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Speaker 1: fundamentally unprepared for the next downturn, depending on when it

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Speaker 1: hits again. Monetary space will be constrained by a low

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Speaker 1: federal funds rate. Fiscal space will be constrained by a

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Speaker 1: very high GDP ratio. And if you get under the

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Speaker 1: surface and start looking at UI trust funds and how

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Speaker 1: states are ready, that doesn't look so great either Jared

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Speaker 1: very quickly or I want to come back and delve

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Speaker 1: more into this. There seems to be an assumption interview

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Speaker 1: to interview that entitlements are impossible and untouchable. Amendment to

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Speaker 1: our entitlement hopes and dreams, is it even feasible? We

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Speaker 1: would address that. Well, if I address that you need

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Speaker 1: cutting them, then I think that's going to be a

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Speaker 1: very heavy lift, especially in UH in a in an

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Speaker 1: election year, in midterm year, and you're always one year

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Speaker 1: away from an election year. So I think in terms

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Speaker 1: of cutting very tough. In terms of supporting them, probably

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Speaker 1: also pretty tough. Jared Bernstey with us this morning. Greatly appreciative.

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Speaker 1: Thanks for listening to the Bloomberg Surveillance podcast. Subscribe and

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Speaker 1: listen to interviews on Apple Podcasts, SoundCloud, or whichever podcast

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Speaker 1: platform you prefer. I'm on Twitter at Tom Keane. Before

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Speaker 1: the podcast, you can always catch us worldwide. I'm Bloomberg

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Speaker 1: Radio