Speaker 1: Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2: Hello and welcome to another episode of the All Thoughts Podcast.
Speaker 2: I'm Tracy Alloway and I'm Joe Wisenthal. Joe, I feel
Speaker 2: like it's fair to say there are a lot of
Speaker 2: weird things that have been going on lately. You know
Speaker 2: what the weirdest was for me recently? Go on having
Speaker 2: the FED meeting on a Thursday. Yeah, that threw me
Speaker 2: off for that entire week.
Speaker 3: I thought you were going to say the weird thing
Speaker 3: was having a FED meeting two days after the election,
Speaker 3: But no, you're right. I was really confused just the
Speaker 3: fact that it was on the Thursday at all, Setting
Speaker 3: aside the fact that it was an extraordinarily busy week,
Speaker 3: which was just last week.
Speaker 2: I didn't realize how much of my sense of normality
Speaker 2: was in fact influenced by having the FED do something
Speaker 2: on a Wednesday.
Speaker 4: But anyway, that through me too.
Speaker 2: So we just had a FED meeting. We are recording
Speaker 2: this on November twelfth, and clearly this is an interesting
Speaker 2: moment for the Central Bank totally.
Speaker 3: I saw a tweet today. I don't remember who is from,
Speaker 3: so I can't give proper credit. Or maybe it was
Speaker 3: a sell side. I don't know just words that I
Speaker 3: saw on my screen at some point, but I think
Speaker 3: what made this interesting is this moment, or maybe it
Speaker 3: was a toom doing note, whatever it was, this moment
Speaker 3: where the FED is still clearly in the sort of
Speaker 3: short term data dependency. Are we going to see further
Speaker 3: progress on realized inflation and so forth? Watching the data?
Speaker 3: Plenty of miss signals there. Meanwhile, the market is very
Speaker 3: seemingly focused on the medium term and thinking a lot
Speaker 3: about Trump and the new fiscal and macro policies that
Speaker 3: will emerge under this administration. And I thought that was
Speaker 3: a really good way to frame it, which is that
Speaker 3: right now there's two different time frames that people are in,
Speaker 3: and people are trying to resolve the two, and it
Speaker 3: makes for some very interesting times in macro, to say
Speaker 3: the least.
Speaker 2: Yeah, And I have to say, like I do not
Speaker 2: envy policy makers on the FMC at the moment because
Speaker 2: they have been emphasizing the data dependency, as you said,
Speaker 2: But there is all that uncertainty about how the Trump
Speaker 2: administration is going to unfold and what its economic policies
Speaker 2: will actually look like. It seems really difficult to me
Speaker 2: to have to react to that from a monetary policy perspective.
Speaker 2: So basically, there are a lot of questions. Yeah, lots
Speaker 2: to talk about, and who better to ask these questions
Speaker 2: of than a former FED person. So we are going
Speaker 2: to be speaking with Richard Clarita, the former FED Vice chair,
Speaker 2: now economic advisor at PIMCO and a professor of economics
Speaker 2: at Columbia. Richard, thank you so much for coming on.
Speaker 5: All thoughts, I'm glad to be on the show, big fan.
Speaker 2: Oh, thank you.
Speaker 4: So.
Speaker 2: First of all, you know last week the FMC meeting
Speaker 2: on a Thursday. I got to ask, when you watch those,
Speaker 2: are you sort of watching them like wistfully wishing you
Speaker 2: are there, or are you thinking like, oh gosh, this
Speaker 2: is really tough.
Speaker 5: Now, well, it can be tough. Yeah, I've certainly involved
Speaker 5: during my four years there in thinking about and prepping
Speaker 5: for the press conferences. But yeah, I watched them as
Speaker 5: a FED watcher now and the chair has become quite
Speaker 5: polished and experienced and navigating what can be some sometimes
Speaker 5: some choppy waters.
Speaker 3: By the way, Tracy, you didn't say it, but I
Speaker 3: believe rich is the perfect guest. Oh, I'm sorry, No,
Speaker 3: I just want to establish that I believe in this
Speaker 3: moment we are talking to the perfect guest. And then listeners,
Speaker 3: why didn't you call Rich the perfect guest? So I
Speaker 3: just want to make sure that.
Speaker 2: It was truly an oversight.
Speaker 3: Both Tracy and I consider you to be the perfect guest.
Speaker 3: So we had that fifty basis point cut in September,
Speaker 3: then we had the quarter point the week of the election.
Speaker 3: As I'm looking at the warp function on the terminal
Speaker 3: expectation is for there's sixty five percent chance of a
Speaker 3: cut in December. So not a slam dunk, but that
Speaker 3: still seems to be the expectation. What do you give us,
Speaker 3: as a FED watcher your current read on the crosswinds
Speaker 3: that the Fed is going. Let's start with the short
Speaker 3: term still, because then we can get into the term
Speaker 3: the crosswinds that are happening right now as the FED
Speaker 3: looks for the near term path of policy.
Speaker 5: Well, they've made some judgments. One they judge that policy
Speaker 5: is restrictive, that they've done enough, and so they cut rates.
Speaker 5: They recalibrated. I think that was the term the chair
Speaker 5: used in September. Important to note they've begun to cut
Speaker 5: rates even though inflation is still somewhat above target. Some
Speaker 5: of your listeners may wonder why, and the answer is,
Speaker 5: monetary policy operates with lags, and so if they had
Speaker 5: waited to cut rates until inflation fall all the way
Speaker 5: to two, then they might have overdone it. So I
Speaker 5: do think it made sense to get the process started.
Speaker 5: I do take them at their word. They're not on
Speaker 5: a preset path. The committee is united a unanimous decision
Speaker 5: to cut rates, and I think importantly, and I'm sure
Speaker 5: we'll get to this later. You know, the chairs made
Speaker 5: very clear that he and the Committee are not going
Speaker 5: to be making policy decisions in twenty twenty four based
Speaker 5: upon what might happen in twenty twenty five, and so
Speaker 5: I think it's important to clarify that. I think they
Speaker 5: are data dependent. But my sense is that the probabilities
Speaker 5: that you quoted seem pretty sensible to me. Not a
Speaker 5: slam dunk, but I think more likely than not that
Speaker 5: we get a rate cut in December.
Speaker 2: So, just on this point, how do you square the
Speaker 2: proverbial lags in monetary policy with the desire to not
Speaker 2: be reacting to an incoming administration where policies are not
Speaker 2: necessarily clear at the moment.
Speaker 5: It's a great point. Luckily, we have a lot of
Speaker 5: historical examples because as you know, we have presidential elections
Speaker 5: every four years, and the FED as an institution in
Speaker 5: the staff have a lot of experience. And one of
Speaker 5: the things I learned is especially in the US system,
Speaker 5: unlike say the UK system, where you present a budget,
Speaker 5: and here there's a whole set of negotiations. And so
Speaker 5: I do think that the chair gave a good insight
Speaker 5: into the process that they'll follow, which is, over time
Speaker 5: they'll learn about the contours of the plans for policy,
Speaker 5: then what gets enacted. I do think, you know, it
Speaker 5: is a good point. I think initial conditions here are
Speaker 5: quite relevant, and so in particular with inflation running close
Speaker 5: to target if a bit above, I think the general
Speaker 5: playbook they usually follow makes sense. You know, there is
Speaker 5: a risk that if they don't start moving now, then
Speaker 5: for certain scenarios it's too late. But I think given
Speaker 5: where inflation as, they're making the correct call.
Speaker 3: So I don't know if economics is really a science
Speaker 3: or not, but if it is a science, I feel
Speaker 3: like economists are cursed to never have the pure experiments
Speaker 3: in the real world that they would like to see
Speaker 3: and I'm thinking about that specifically since September. Since mid
Speaker 3: September early October we got that fifty basis point cut.
Speaker 3: Since then, rates at the long end in particular have
Speaker 3: been rising. Unfortunately, from a pure scientific experiment, that is
Speaker 3: around the same time that Donald Trump's odds in the
Speaker 3: polls also started rising. Therefore, it's a little tough to
Speaker 3: tease out how much of this is. Okay, We're going
Speaker 3: to have more reflationary policies in the next administration, which
Speaker 3: we can get to versus you know what, the economy
Speaker 3: is stronger than we thought, neutral is stronger than we thought,
Speaker 3: and the terminal rate is not going to be as
Speaker 3: low as we thought, simply due to existing economic conditions.
Speaker 3: When you look at that rise in the long end,
Speaker 3: the higher terminal rate, and so forth, how do you
Speaker 3: try to disambiguate the two and what signal, if any,
Speaker 3: do you read in post September market activity.
Speaker 5: Great question, and I think you know the simple answer
Speaker 5: would be you look at all the above. But I
Speaker 5: think we can make a couple of informed observations. The
Speaker 5: first and if I were back on my old FED job,
Speaker 5: I'd be looking at this is longer term measures of
Speaker 5: longer term inflation expectations, either in the tips market or surveys,
Speaker 5: and those are very well behave. Secondly, we also have
Speaker 5: had some pretty strong macro data, big revisions to GDP,
Speaker 5: which in some ways really change in important ways the
Speaker 5: assessment of where the economy is right now. We got
Speaker 5: a very soft labor market report, but I think the
Speaker 5: markets in the FED are inclined to look through that
Speaker 5: given the storm and other related consequences of that. A
Speaker 5: term perhaps you've used on your show before is also
Speaker 5: look at the term premium. How much of this move
Speaker 5: and yields is essentially bond investors saying I want to
Speaker 5: get paid more in terms of a higher yield given
Speaker 5: what may happen to fiscal policy or growth. And I
Speaker 5: think all of the above has been going on. It
Speaker 5: has been some moving term premium, some stronger data, backward
Speaker 5: looking data, and probably some repricing of the path for
Speaker 5: the economy given the election. I would point out that
Speaker 5: at this stage, I think you want to distinguish between
Speaker 5: a phenomenon where by knowing the election victor, I think
Speaker 5: we know something about the contours, for example, tax policy,
Speaker 5: It's more likely that the twenty seventeen. Trump tax cuts
Speaker 5: are going to get extended more or less intact, and
Speaker 5: that probably would not have been the outcome if we'd
Speaker 5: had an opposite election outcome. So I think in this
Speaker 5: early stage, it's hard to determine how much of this
Speaker 5: is a repricing of the level of markets versus a
Speaker 5: new trend, because I think both could be going on.
Speaker 2: I feel like I should just mention again, we're recording
Speaker 2: this on November twelfth, and there is something happening tomorrow
Speaker 2: that might have a bearing on this conversation, which is
Speaker 2: we're going to get the latest CPI reading when it
Speaker 2: comes to inflation. Obviously there has been improvement on this front,
Speaker 2: but in the most recent FMC meaning Powell was emphasizing,
Speaker 2: you know, really making the point that he expects this
Speaker 2: to be a sort of bumpy path going forward. When
Speaker 2: a FED chair is saying something like that, should we
Speaker 2: assume that the risk is to the upside on prices?
Speaker 5: I don't think so. I don't think that's the message
Speaker 5: he was trying to convey. I take him at his
Speaker 5: word that it is a bumpy path. Maybe I'll put
Speaker 5: something back into that conversation that sort of fell out
Speaker 5: of favor. There's a lot of talk a year ago
Speaker 5: about the last mile being tough to navigate, and I
Speaker 5: would point out that, you know, if you look at
Speaker 5: inflation on a twelve month basis, in December of last year,
Speaker 5: inflation fell to two point nine the Fed's preferred measure
Speaker 5: on the core PCEE and that was a big moment.
Speaker 5: That was the first time in almost three years inflation
Speaker 5: had was two points something. It's very likely that this
Speaker 5: year will end in inflation will end on a twelve
Speaker 5: month basis anyway at around two eight or two nine.
Speaker 5: So at least by that metric, you know, this is
Speaker 5: a year when we've not moved backwards. But you could
Speaker 5: argue that, you know, progress on inflation at minimum has
Speaker 5: been slow. And so the way I take the conversation
Speaker 5: from the Chair and other members of the FED is
Speaker 5: they have a view that disinflation will continue, but they're
Speaker 5: also open to the risk that it may stall. I
Speaker 5: don't think necessarily it means inflation is going to go
Speaker 5: up to frightening levels, but progress could stall, and I
Speaker 5: think that they're very attuned and attentive to evidence in
Speaker 5: the data on that.
Speaker 3: So, as you mentioned, you know, there's a confluence of factors.
Speaker 3: One of the things that may explain why the market
Speaker 3: has repriced its terminal rate or the depth of the
Speaker 3: rate cut cycle this time. And you mentioned that we
Speaker 3: had some pot we got that strong job support, there
Speaker 3: was some positive GDP revisions that make it look like
Speaker 3: the economy is in a higher state. The one thing
Speaker 3: that's been bandied about for years now is this idea
Speaker 3: that post pandemic, like so called our star is higher.
Speaker 3: I don't know what it is, whether it is higher
Speaker 3: or not, but if it is higher, what's different. Suppose
Speaker 3: it is higher changed in your view? That would explain
Speaker 3: a higher neutral rate of interest?
Speaker 5: Good point. I think a couple of factors. First of all,
Speaker 5: why was our star believed to be pretty low in
Speaker 5: the decade before the pandemic Maybe you know a bit
Speaker 5: of an anecdote. There was also uncertainty about our star
Speaker 5: in twenty eighteen when I arrived at the FED range
Speaker 5: of views, I think from the fund rate maybe two
Speaker 5: and a half up to three and a half in
Speaker 5: that cycle, the Palfed sort of found out where neutral
Speaker 5: was because when we got the fund rate to two
Speaker 5: and a half, the economy was in a pretty good place.
Speaker 5: In fact, if anything, inflation began to slow. So it
Speaker 5: is true that you don't know it precisely, but you
Speaker 5: can sort of have a sense if you're in the
Speaker 5: right ballpark. So why might it have gone up? Well,
Speaker 5: there are some positive reasons and maybe some more negative reasons.
Speaker 5: The positive reason is our star is thought to be
Speaker 5: related to growth. So if potential growth is higher, either
Speaker 5: because of innovation or AI or list your favorite contributor,
Speaker 5: that could push up our star. It could also reflect,
Speaker 5: you know, demand for capital. We have had some evidence
Speaker 5: at least in certain sectors of expanded capital spending. We
Speaker 5: went through a decade when capital spending was was was weak.
Speaker 5: On the other side of the ledger, A lot of
Speaker 5: the factors that we're keeping our star pretty low have
Speaker 5: not really changed, you know, Demographic factors have not really moved,
Speaker 5: and if anything, saving has been moving up. So I
Speaker 5: think they will find it in this cycle as we
Speaker 5: did in the last cycle by looking at the data
Speaker 5: and as they get close, you know, rethinking.
Speaker 3: That could government spending be a contributor, given that deficits
Speaker 3: to the share of GDP are very high, given where
Speaker 3: the unemployment rate in resource utilization generally.
Speaker 5: Certainly, and here maybe if I could be a little
Speaker 5: wonkish for your listeners, never never worry about that. And
Speaker 5: I wrote a recent essay in the in the FT
Speaker 5: on this on this topic. Here, I do think you
Speaker 5: want to distinguish between the neutral rate that the FED
Speaker 5: focuses on, which is really the front end of the
Speaker 5: yield curve. So where's the funds rate going to end
Speaker 5: up when inflation gets to target? Right now? That FED
Speaker 5: thinks that numbers around three percent. If you ask me
Speaker 5: the question, where are bond yields going to end up?
Speaker 5: My own view, and I think the Pimco view is
Speaker 5: higher than we saw in the decade before the pandemic.
Speaker 5: So in other words, we think the front end of
Speaker 5: the curve may not be all that higher, but long
Speaker 5: rates could be higher because the curve will be steeper.
Speaker 5: In other words, markets will adjust not so much because
Speaker 5: the FED has to do something different, but because the
Speaker 5: yuel curve will be steeper. It was very flat in
Speaker 5: the decade before the pandemic. For example, in twenty eighteen,
Speaker 5: when we got the funds rate up to two and
Speaker 5: a half, tenure treasure eels were three and so for
Speaker 5: the reasons you mentioned deficits and debt probably in a
Speaker 5: world with higher longer yields than we saw in the
Speaker 5: decade before the pandemic.
Speaker 2: Since we're on the topic of higher long term yields,
Speaker 2: one of the things we've been speaking about on the
Speaker 2: show recently is mortgage rates, and even though the FED
Speaker 2: has been cutting, those haven't really gone down, partly because
Speaker 2: they are influenced by longer term treasury yields and those
Speaker 2: are going up. Given that, you know, affecting the cost
Speaker 2: of housing or the mortgage rate is supposed to be
Speaker 2: a primary tool in which a central bank actually influences
Speaker 2: the real economy. Does that pose a problem at all
Speaker 2: for the central bank?
Speaker 5: I think it's a reality for the central bank because
Speaker 5: for the most part, although the FED has been very
Speaker 5: active in supporting the mortgage market through the QE programs,
Speaker 5: it's mortgage portfolio is running off, and if anything, tracy,
Speaker 5: they've indicated that may well continue even when they stop
Speaker 5: qt In general, and you are correct, mortgages will tend
Speaker 5: yields will tend to move closely, not so much with
Speaker 5: the funds rate, but the longer end of the yield curve.
Speaker 5: I would say it's more of a reality. As they
Speaker 5: think about the appropriate stance of policy, they will need
Speaker 5: to factor that in to what they project they need
Speaker 5: to do to achieve their inflation employment target. So I
Speaker 5: think the in the FEDS thinking it's just a reality
Speaker 5: of the way the financial markets work, and that may
Speaker 5: call them to adjust policy in one way or another
Speaker 5: in the future.
Speaker 3: There was a famous paper that came out staying on
Speaker 3: the subject of housing called Housing is the Business Cycle.
Speaker 3: And one of the things that was interesting was that
Speaker 3: during twenty twenty two, when the you know, when mortgage
Speaker 3: rates really started to rocket higher, we did get this
Speaker 3: freeze in the housing market that we didn't see a
Speaker 3: plungin home prices, but we really saw, Yeah, the market
Speaker 3: sort of came to a freeze. And there still is
Speaker 3: a lot of diminished activity, and we still see fewer
Speaker 3: housing starts, and we still don't see a lot of
Speaker 3: sales and all this stuff. Do you think the relationship
Speaker 3: has changed in some way between the housing market and
Speaker 3: the broader macroeconomy.
Speaker 5: Great question, because you know, you look at I've been
Speaker 5: doing this now for four decades, so you look at
Speaker 5: business cycle history and there are some common features and
Speaker 5: then there are always some surprises, and in particular in
Speaker 5: this cycle, one thing that has been different is the
Speaker 5: fact that so many folks in the years before the
Speaker 5: FED raised rates were able to lock in low rate
Speaker 5: mortgages that you've had less mobility. People are less likely
Speaker 5: to move and if they want to, simply because if
Speaker 5: they sell their house, they then got to get a
Speaker 5: mortgage at a much higher rate. Now, this phenomenon is
Speaker 5: always evident in the data, because people can lock in
Speaker 5: low rates and then rates move up. But what's different
Speaker 5: in this cycle is the magnitude of the gap between
Speaker 5: the spot mortgage rate and the rate that millions and
Speaker 5: tens of millions of people locked in. So I think
Speaker 5: in that respect, this is a different cycle, and it's
Speaker 5: been a factor that's been supporting house prices even though
Speaker 5: the Fed's been raising rates dramatically. Typically you would not
Speaker 5: have seen that in past.
Speaker 2: Just related to this topic, the FED has been talking
Speaker 2: a lot about how it's necessary to I guess, ease
Speaker 2: up on the restrictiveness of monetary policy and therefore cut rates.
Speaker 2: And I'm always a little bit confused because when I
Speaker 2: look at financial conditions on the Bloomberg, they look pretty
Speaker 2: easy to me. And you know, obviously this has happened
Speaker 2: post the FMC meeting, but we have, for instance, junk
Speaker 2: bond spreads getting pretty close to historical lows, Equity markets
Speaker 2: obviously at a record. Where's the restrictiveness actually showing up?
Speaker 5: Great point, and I look at the same screens that
Speaker 5: you both do as well. The FED, the Board of
Speaker 5: Governors actually about a year ago or so, developed its
Speaker 5: own index of financial conditions, and that also shows conditions,
Speaker 5: you know, trending in an easier direction. The chair got
Speaker 5: a question or two on this and the press conference
Speaker 5: last week, and I'm paraphrasing, but his answer was more
Speaker 5: along the lines of they try not to get up
Speaker 5: in high frequency, you know, day to day, week to
Speaker 5: week moves, but they do want to look at longer
Speaker 5: run trends, I would argue, And if you look at
Speaker 5: longer run trends, now you know conditions are certainly moving
Speaker 5: in an easier direction. Now you know that's okay, But
Speaker 5: it's also important. I think as the FED communicates through
Speaker 5: press conferences and speeches, you know that they clarify what
Speaker 5: they are looking at, because sometimes FED officials will talk
Speaker 5: about the funds rate being restrictive relative to inflation and history,
Speaker 5: and that's that's true, But the conversation I think also
Speaker 5: needs to acknowledge what we're looking at in different parts
Speaker 5: of the of the markets. Now, again, inflation is on
Speaker 5: the path down to two percent, so and easing a
Speaker 5: conditions relative to say twenty twenty two, and they're very restrictive,
Speaker 5: is not necessarily a problem, but it certainly I think
Speaker 5: needs to be a factor in the outlook.
Speaker 4: I'm going to ask you.
Speaker 3: A sort of I think it would be a variation
Speaker 3: on Tracy's question, and it came up in also a
Speaker 3: recent episode we did with Chicago Fed President Austin goulds, Now,
Speaker 3: when you look at the progress that we've made on
Speaker 3: inflation since it peaked, given that many financial indices have surged,
Speaker 3: given that the unemployment rate is still only four point
Speaker 3: one percent, what's your store for it and what's your
Speaker 3: story for the connection between the move up in short
Speaker 3: term interest rates by the Fed and how that fed
Speaker 3: through to lower realized inflation.
Speaker 5: Well, you know, the in my youth used to call
Speaker 5: it the sixty four thousand dollars question. Maybe this is
Speaker 5: sixty four billion dollar.
Speaker 2: Inflation hypothetical questions, Mobully.
Speaker 5: The sixty four trillion dollar question. The good news is
Speaker 5: relative to real time, and I can tell you as
Speaker 5: a FED official in twenty twenty one, we had so
Speaker 5: many conflicting signals, but with the benefit of hindsight and
Speaker 5: also looking across the globe, I think some pretty clear
Speaker 5: patterns helped to account for this. You know, I should
Speaker 5: also confess that I was a charter member of Team Transitory.
Speaker 3: This is where people come up odd lots. Is confession
Speaker 3: confession time.
Speaker 5: I was a charter member of Team Transitory. And obviously
Speaker 5: it took a while for inflation to get back to
Speaker 5: two points something. A couple of things. For first of all,
Speaker 5: in retrospect, a lot of the surgeon inflation in the
Speaker 5: US and globally was driven by supply disruptions. You know,
Speaker 5: it turned out to be more timely and costly to
Speaker 5: reopen the global economy than it was to shut it down.
Speaker 4: You know.
Speaker 5: Secondly, in the US, there was a lot of demand
Speaker 5: support that was flooding the system. The FED went all
Speaker 5: in without apology in twenty twenty. We had six trillion
Speaker 5: dollars of physical support in twelve months. And so you know,
Speaker 5: from econ one oh one, if the demand curve shift's
Speaker 5: right and the supply curslift's left, you're going to get
Speaker 5: a move up in prices, and that's what we got.
Speaker 5: There was a lot of uncertainty when the palt Fed
Speaker 5: started hiking in twenty twenty two about would they succeed,
Speaker 5: what would it take to get inflation down? And I think,
Speaker 5: you know, we're all pleased that, in fact, inflation has
Speaker 5: come down pretty close to target without a real disruption
Speaker 5: in the economy. And I think that's due to some
Speaker 5: of the supply shocks reversing here and abroad, and it's
Speaker 5: also due to the fact that the pal Fed did
Speaker 5: raise rates aggressively they reactored inflation expectations. I think, if
Speaker 5: I can editorialize a bit here, I think we're in
Speaker 5: a world where, unlike on your show, we're going to
Speaker 5: have thirty or forty minutes. A lot of economics contary
Speaker 5: takes place on Twitter and one hundred and forty characters,
Speaker 5: and there are a lot of topics and economics and
Speaker 5: finance that are really you can't do justice too and
Speaker 5: in a tweet, and I think this is one of them.
Speaker 5: So some folks look at this and they say, well,
Speaker 5: it has to be supply, or it has to be demand,
Speaker 5: or it has to be monetary policy. And in fact,
Speaker 5: it was really an all of the above in response
Speaker 5: to a once in a century shock, and it was
Speaker 5: also a global phenomenon as well, And so I think
Speaker 5: that's the received wisdom now. It was not obvious two
Speaker 5: or three years ago.
Speaker 2: I feel like this is my chance to ask you
Speaker 2: what Powell's burner account on Twitter actually is, but it's
Speaker 2: probably a long shot.
Speaker 4: Okay.
Speaker 2: So, speaking of like the overall macro picture and the
Speaker 2: story that we tell ourselves, Richmond FED President Tom Barkin
Speaker 2: was just speaking and he sort of laid out two
Speaker 2: opposing paths for the economy going forward. And one is
Speaker 2: a pretty optimistic path where election uncertainty is behind us,
Speaker 2: and so companies feel more confident in terms of hiring
Speaker 2: an investment, and so everything stays very pleasant and the
Speaker 2: economy keeps going strong. And then the downside scenario is
Speaker 2: that as price is cool, companies feel more pressure to
Speaker 2: cut costs in order to either maintain or boost their margins.
Speaker 2: And that's when you start getting a labor market that
Speaker 2: is weakening, you know, even further than some of the
Speaker 2: softness that we've seen in recent months. What's your sort
Speaker 2: of scenario analysis for let's say twenty twenty five.
Speaker 5: Well, thank you for introducing scenarios, because that's also quite important.
Speaker 5: So I do think the baseline I called the baseline scenario,
Speaker 5: which is the most likely outcome, is the one the
Speaker 5: FED has more or less, and really, you know, most
Speaker 5: Wall Street economists and forecasters have sketched out Now my
Speaker 5: former colleagues at the FED won't call it the soft landing,
Speaker 5: but it looks like I'll call it the soft landing.
Speaker 5: So inflation continues to return gradually to two percent in
Speaker 5: the context of a fully employed economy, perhaps a modest
Speaker 5: downshift in growth from maybe three percent down to somewhere
Speaker 5: in the twos But an alternative scenario is what I
Speaker 5: and I think this is where Tom bark and land
Speaker 5: as well, is what I've called the sticky inflation scenario. Basically,
Speaker 5: inflation doesn't get worse, it just doesn't get better. It
Speaker 5: gets stuck it between two and a half and three percent.
Speaker 5: I think that, you know, that's not the end of
Speaker 5: the world, but that's a scenario where probably the FED
Speaker 5: is not delivering on the rate cuts that the markets expect,
Speaker 5: and then I think third and the least likely of
Speaker 5: the three is one that maybe you also mentioned in
Speaker 5: the text of Tom's speech, where we've had tightening in
Speaker 5: financial conditions and policy. It's just taken a while to
Speaker 5: show up, and when it does, you will have a
Speaker 5: slowing economy, rising unemployment, perhaps in the context of maybe
Speaker 5: even some sticky inflation. And that's probably of the three scenarios,
Speaker 5: the one that that is the you know, the least friendly,
Speaker 5: and the one that would be the toughest call for
Speaker 5: the FED. And so I would think it's of the three,
Speaker 5: the least likely, but certainly not a zero.
Speaker 3: Some could say that in the twenty tens we sort
Speaker 3: of had the reverse of that sticky inflation and that
Speaker 3: for much of the time during that decade inflation did
Speaker 3: not It was missing from the bottom. Yeah, it's a
Speaker 3: nice problem to have, I kind of think, but it
Speaker 3: was missing from the bottom. But arguably you could say
Speaker 3: the FED tolerated it, and the FED was okay with it,
Speaker 3: even I know technically it wasn't hitting the goal. Talk
Speaker 3: a little bit more about that scenario in which inflation
Speaker 3: is running at two and a half percent, as you
Speaker 3: put it, that's not the end of the world, especially
Speaker 3: if employment remains robust, but it is technically you know,
Speaker 3: it is missing the goal. It is missing the mandate.
Speaker 3: Talk a little bit more about that sort of not
Speaker 3: the end of the world, slightly sticky scenario and how
Speaker 3: the FED things are well.
Speaker 5: And again I can clarify, not the end of the world,
Speaker 5: you know, COMMA, so long as inflation expectations remain anchored.
Speaker 5: And that's why you'll hear FED officials almost ad nauseum,
Speaker 5: always put in that qualifier, so you know, once a
Speaker 5: FED official, always a FED official, so long as an
Speaker 5: inflation expectation, because the FED really does want people to
Speaker 5: expect inflation to be two percent. And I think I'm
Speaker 5: glad you brought up the prior decade because in the
Speaker 5: prior decade inflation was operating below target. That was oftentimes
Speaker 5: in the context of a soft labor market as well.
Speaker 5: Remember it took like six or seven years for the
Speaker 5: labor market to get back to where it had been
Speaker 5: before the financial crisis, and so one of the big
Speaker 5: differences is we got back very quickly to maximum employment here.
Speaker 5: So I think, so long as people are expecting that
Speaker 5: inflation will continue to fall if it gets stuck. I
Speaker 5: don't think that's anything that triggers, you know, a dramatic
Speaker 5: FED reaction. What it could do, however, is it could
Speaker 5: mean that the FED just pauses rate cuts or slows
Speaker 5: down the pace of rate cuts and you know, doesn't
Speaker 5: deliver getting the funds rate all the way down to neutral,
Speaker 5: as many folks thought in September when they cut rates
Speaker 5: by fifty bases points. Maybe elaborate a bit. You know,
Speaker 5: the Fed is undergoing on a five year schedule right
Speaker 5: now or commencing a review of its monetary policy framework.
Speaker 5: I was there during the last framework review in which
Speaker 5: we all agreed upon unanimously to reaffirm the two percent
Speaker 5: inflation target. I get a lot of questions, you know,
Speaker 5: will the Poal Fed, you know, raised the It's an
Speaker 5: easy question to answer because Pal's been asked that a
Speaker 5: number of times and he always gives the same answer. No,
Speaker 5: we will not raise the inflation target. So the Pala
Speaker 5: FED is targeting two percent inflation. But just as in
Speaker 5: the decade before inflation was a little bit below to
Speaker 5: we operated there, we may operate for some time a
Speaker 5: bit above two as well.
Speaker 2: So we've been very focused on the macro but I
Speaker 2: feel like we do have to ask some political questions
Speaker 2: sure as well, And I think you were actually nominated
Speaker 2: by President Trump, was that right? So I guess, first question,
Speaker 2: how would you characterize Trump's relationship with the Central Bank
Speaker 2: or the way that he views the role of an
Speaker 2: institution like the Federal Reserve.
Speaker 5: Well, I think he's made that clear through his public
Speaker 5: comments over the years. He certainly opined on interest rates
Speaker 5: during his time as as president. That was not unprecedented. Indeed,
Speaker 5: if you go back and FED history in the olden days,
Speaker 5: before all of us were active in markets, you had
Speaker 5: presidents like Truman and Johnson and Nixon opining on the FED.
Speaker 5: More recently, really, since the eighties and nineties, publicly, presidents
Speaker 5: have not weighed in to FED discussions, although sometimes their
Speaker 5: Treasury secretaries and their staffs, do you know. More recently,
Speaker 5: during the campaign, he was asked about it, and as
Speaker 5: I recall, his answer with something along the lines of
Speaker 5: I should be able to offer my opinion on policy.
Speaker 5: So I think it's pretty clear how he thinks about that.
Speaker 2: But I guess the wild card this time around is
Speaker 2: it certainly feels like a second Trump administration might be
Speaker 2: or at least feel more empowered yea in certain things.
Speaker 2: And there's also the involvement of guys like Elon Musk
Speaker 2: who is tweeting about ending the FED. How does that
Speaker 2: bear on the central bank and policy makers there?
Speaker 5: Well, I think the simple answer is the FED has
Speaker 5: The FED has a mandate from Congress. So the FED.
Speaker 5: First of all, the FED is a creation of Congress.
Speaker 5: You know, in many countries the central banks are actually
Speaker 5: part of the finance ministry. The FED is a creation
Speaker 5: of Congress. Congress says the Fed's job is price stability
Speaker 5: and maximum employment. And I can tell you the culture
Speaker 5: of the FED, not only the board, but the twelve
Speaker 5: reserve bank presidents you know, takes that mandate and that
Speaker 5: responsibility seriously. So I fully expect my former colleagues just
Speaker 5: to do their job and to set policy based upon
Speaker 5: achieving that mandate and to filter out, you know, distractions
Speaker 5: or other such things.
Speaker 3: Tracy, I'm just going to say, you know, there was
Speaker 3: that recent mid October interview Trump with Bloomberg editor in
Speaker 3: chief John mclis waite where he said, you show up
Speaker 3: to the office once a month and you say, let's
Speaker 3: see flip a coin and everybody talks about you like
Speaker 3: you're a god. Just to be clear, there's no actual
Speaker 3: coin flip, right, there.
Speaker 5: Is no coin flip. At least in my four years.
Speaker 3: At least of the four years, you never saw a
Speaker 3: coin flip. At Paul's most recent press conference, he was
Speaker 3: asked about, you know, some of policy changes that could
Speaker 3: come under the next administration, and how they're always studying
Speaker 3: and if it looks like something could pass, you know,
Speaker 3: they run the models, et cetera. You mentioned taxes, and
Speaker 3: I think there probably is a general consensus that at
Speaker 3: least on the big things, we're probably not going to
Speaker 3: see tons of movement because you know, the most likely
Speaker 3: outcome is some sort of extension of the Tax Cut
Speaker 3: and Jobs Act. But the two big wild cards potentially
Speaker 3: from a macro standpoint, outside of taxes are tariff policy,
Speaker 3: which we don't know we know that Trump lakes tariffs,
Speaker 3: and immigration policy, which could be everything from a harder
Speaker 3: border to deportations, potentially mass deportations. Undocumented workers are very
Speaker 3: heavy in both agriculture, residential constructions, speaking of housing and
Speaker 3: so forth. Say, these things are coming down the line,
Speaker 3: and the FED is going to think about modeling changes
Speaker 3: under the economy under these various scenarios. As an economist,
Speaker 3: what do the things theoretically mean? And again I'm aware
Speaker 3: we don't know the size scale, but we understand some
Speaker 3: of the major priorities.
Speaker 5: So let's take these in turn. So tariff's the sort
Speaker 5: of the textbook way to think about if you're a policymaker,
Speaker 5: how you think about a one time tariff is going
Speaker 5: to be an increase in the price of those goods
Speaker 5: to the extent it's passed through. I think Governor Waller
Speaker 5: was recently quoted as saying, you know, a tariff in
Speaker 5: it of itself is not really inflationary. It pushes up
Speaker 5: the price of goods affected by the tariff. I think
Speaker 5: the temptation at the FED would be to look through that,
Speaker 5: and I think in many circumstances that would be the
Speaker 5: way to go. It could be a bit challenging this time,
Speaker 5: you know, because to look through an increase in the
Speaker 5: price level from tariffs we mean in invoking some form
Speaker 5: of the version of we think it's transitory, and so
Speaker 5: that guidance might need to be refined a bit. But
Speaker 5: I do think that that's largely the way that they
Speaker 5: would look at it initially again monitoring inflation expectations. And
Speaker 5: in terms of immigration, there's obviously, you know, there's both
Speaker 5: legal and undocumented immigration that does influence the labor supply.
Speaker 5: As you all know, we had a big revision in
Speaker 5: Washington's official count of undocumented immigration recently, about a year
Speaker 5: or so ago, showing much more of that. I do
Speaker 5: think importantly that I think, regardless of who had won
Speaker 5: the election, we were probably going to have a flow
Speaker 5: of immigration a lot less than we have been seeing
Speaker 5: and maybe comparable to prior period. So the FED staff
Speaker 5: could begin to factor that in. I think in terms
Speaker 5: of the details of what the Trump administration will do
Speaker 5: beyond that, I think it's too soon. It's too soon
Speaker 5: to tell. I do think the sector the sectoral impact
Speaker 5: that you raised, Joe, is a good one. You know,
Speaker 5: not all immigrants, document or undocumented, flow evenly across all sectors.
Speaker 5: They're more concentrated in certain sectors than others, and so
Speaker 5: I would imagine that when the Fed's doing staff work,
Speaker 5: it would be looking at at that bottom up sectoral level.
Speaker 2: There's one other question that I wanted to ask you,
Speaker 2: and I'm trying to think how to phrase it. Or
Speaker 2: how to word it. But the past couple of years,
Speaker 2: one of the big debates when it comes to the
Speaker 2: economy has been, I guess, the discrepancy between the heart
Speaker 2: and the soft data the vibes. So, you know, lots
Speaker 2: of the surveys showing that people aren't very happy with
Speaker 2: the way things are going. We see that in you know,
Speaker 2: declining confidence numbers. Now the vibes potentially are shifting. But
Speaker 2: I guess I'm just curious how the FED thinks about
Speaker 2: sentiment when it comes to judging the real strength or
Speaker 2: weakness of the economy.
Speaker 5: Well, it's certainly something that the FED looks at. And
Speaker 5: of course there are a lot of different sentiment surveys,
Speaker 5: and in particular also you can compare, for example, the
Speaker 5: sentiment of Fortune five hundred CEOs versus independent business. Myself,
Speaker 5: I used to look a lot at the NFIB survey
Speaker 5: data for small businesses. They're often a leading indicator, at
Speaker 5: least in certain circumstances. Maybe one thing I can weigh
Speaker 5: in a little bit, because I think it has been
Speaker 5: it's been an important part of the last several years,
Speaker 5: and it's actually an area where macroeconomists don't do a
Speaker 5: great job. You know, macro oftentimes is about adding up
Speaker 5: the economy. You've got GDP, you've got employment. But we
Speaker 5: have had a period where I do think that the
Speaker 5: distributional ripples of the way the economy has evolved in
Speaker 5: the last several years has been relevant. Let me get
Speaker 5: to give it a very concrete example. So you know,
Speaker 5: if you're in the sixty percent of Americans who live
Speaker 5: in owner occupied housing and you own stock, last four years,
Speaker 5: looks pretty good. Your portfolio is up, the value of
Speaker 5: your house is up. But that means they're forty percent
Speaker 5: of folks who actually don't own their own home or
Speaker 5: don't have a lot of stock, and for them, you know,
Speaker 5: the big increase in the price level and the erosion
Speaker 5: and real income was quite relevant. So I do think
Speaker 5: that macro oftentimes does focus on adding up across and
Speaker 5: talking about the representative individual. Well, but I think we
Speaker 5: have been through a period in a pretty compressed period
Speaker 5: of time when there have been some pretty big divergences
Speaker 5: across different parts of the economy, and I think, you know,
Speaker 5: I think that will be relevant going forward. And again
Speaker 5: that's certainly something that when I was the FED, you know,
Speaker 5: the staff was doing a lot of work on as well.
Speaker 2: Yeah, the divergences I think are really important, and you
Speaker 2: see it also in corporate borrowing. So if you're a
Speaker 2: smaller business and you're getting a bank loan, that interest
Speaker 2: rate is probably pretty high. But if you're a huge
Speaker 2: company tapping the bond market, you know it's not that bad.
Speaker 2: Right now. I lied earlier when I said I only
Speaker 2: had one more question.
Speaker 5: Okay, because I do. In fact, you're forgiven, thank you.
Speaker 2: But you know you are a FED person who went
Speaker 2: to being a FED watcher. What's your one piece of
Speaker 2: advice for people who are watching the FED at this juncture?
Speaker 5: Well, I have two your pro tip okay. The first
Speaker 5: bit of advice is, you know, there are nights when
Speaker 5: the Fed's at full strength, which it is now. They're
Speaker 5: twelve vers bank presidents and their seven governors, including the chair,
Speaker 5: so that means in any given day there could be
Speaker 5: nineteen speeches or interviews. It can get pretty overwhelming. But
Speaker 5: in the modern era, which really I define with the
Speaker 5: Brnanke Fed, you know FED chairs are now very much
Speaker 5: in the public domain. There are now eight press conferences
Speaker 5: a year. There's Jackson Hole chair pal typically doesn't on
Speaker 5: the record sit down three or four other times a year.
Speaker 5: So almost every month, maybe with the exception of there's
Speaker 5: one month in there. Chair Pale is out there, and
Speaker 5: so I think, if you want to be a FEDA washer,
Speaker 5: just listen to Jay pal He's a straight shooter. He
Speaker 5: writes his own speeches, and so you get a pretty
Speaker 5: clear sense of where he is. I think the second
Speaker 5: bit of advice I would get, and it's not a
Speaker 5: deep point, but it's often forgotten because there are only
Speaker 5: eight FED meetings a year. You know, we tend to
Speaker 5: think about sort of like if you're an NFL fan,
Speaker 5: you know there's a game every Sunday. The reality, though,
Speaker 5: is that when you're inside the FED, and certainly if
Speaker 5: you're Jay Powell or my former column because I'm sure
Speaker 5: current FED officials, you're really looking at ahead at least
Speaker 5: twelve months, if not longer. You know, the further you
Speaker 5: go out, the more uncertain you go out. But the
Speaker 5: idea that you know, each FED meeting is a meeting
Speaker 5: by meeting. Yeah, there's data dependence and you're not in
Speaker 5: a preset court, but the FED also has to develop
Speaker 5: a plan for a baseline view and an arc for
Speaker 5: communication and policy, and oftentimes I think commentary on the
Speaker 5: FED it maybe focuses a little bit more on the
Speaker 5: noise and not so much on the arc or the signal.
Speaker 2: All right, Richard Claria truly the perfect guest for this
Speaker 2: particular conversation. Thank you so much for coming on off
Speaker 2: of you.
Speaker 4: Thanks for having me, Joe.
Speaker 2: That was a great conversation, Really good timing to be
Speaker 2: speaking with someone like Clarida. I do think I like
Speaker 2: your framing of like the sort of two track policy
Speaker 2: right now, the short term versus the long term. I
Speaker 2: do think there is a tension embedded in that where
Speaker 2: you know, clearly the people talk about the FED being
Speaker 2: ahead or behind of the curve right, and Richard brought
Speaker 2: up the long and variable legs. I do think there
Speaker 2: is a desire to get ahead of some things. But
Speaker 2: at the same time, you know they've emphasized that data
Speaker 2: dependence for so long, and the future is so uncertain
Speaker 2: at this current moment in time. I don't know how
Speaker 2: they square those two things.
Speaker 4: It's tricky.
Speaker 3: By the way, I do want to give I confirmed
Speaker 3: a specific shout out to Tim Dewey pasted odd Lad's
Speaker 3: guests at sgh Macro. The first line of his note
Speaker 3: this morning was the Fed's in your term focus remains
Speaker 3: on the data while market participants continue to digest the
Speaker 3: economic implications of Trump's victory last week. So that point
Speaker 3: about the dual time.
Speaker 2: I like that you care about attribution absolutely.
Speaker 3: You know, I came up with the age of blo and linking,
Speaker 3: so this is like people before people used to just
Speaker 3: steal stuff. So but I do think that from Tim,
Speaker 3: which I then transmitted, is a very useful way of
Speaker 3: explaining why this moment seems so complicated. And you know,
Speaker 3: as I mentioned and we talked about with Rich, it's
Speaker 3: arguably been very complicated ever since simultaneously Trump's odds started
Speaker 3: rising in the polls and we got that huge September
Speaker 3: jobs report, which is Rich mentioned, sort of caused this
Speaker 3: rethink about how strong or how weak the economy really
Speaker 3: was when they cut fifty bases points.
Speaker 2: And so for books, you and I differ a little
Speaker 2: bit on this point because I think like it is
Speaker 2: becoming clearer that a lot of that reaction in long
Speaker 2: term yields is to Trump.
Speaker 5: Yeh, these policies.
Speaker 2: What I will say is we have CPI on Wednesday.
Speaker 2: By the time this episode comes out, will have gotten
Speaker 2: that number and we will have seen the market reaction
Speaker 2: to it. I think that might be an interesting one
Speaker 2: to watch to try to further settle this question.
Speaker 3: Tracy. Yes, nothing is ever settled. Yeah, how do you
Speaker 3: After how many years will you when will you stop
Speaker 3: believing that any question in economics could.
Speaker 2: Ever believing that there are in fact answers.
Speaker 3: That will never you have to give that up at
Speaker 3: some point. We will never have answers, only new questions.
Speaker 2: The nice thing is.
Speaker 3: I've already given into this idea, even.
Speaker 2: If I'm personally disappointed by a lack of answers. Having
Speaker 2: a continuous stream of questions means we have never ending
Speaker 2: content for this podcast. It is great, always something to
Speaker 2: talk about.
Speaker 5: Absolutely, Okay, shall we leave it there.
Speaker 3: Let's leave it there.
Speaker 2: This has been another episode of the All Thoughts podcast.
Speaker 2: I'm Tracy Alloway. You can follow me at Tracy Alloway.
Speaker 3: I'm Joe Isn't though. You can follow me at the Stalwart.
Speaker 3: Follow our guest Richard Clarday. He's at r HC two too.
Speaker 3: I don't know if you post there very much, but
Speaker 3: he has follow Our producers Carmen Rodriguez at Carmen Ermann
Speaker 3: dash ol Bennett at dashbot and kill Brooks at Kilbrooks.
Speaker 3: Thank you to our producer Moses Onam. From our All
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