Speaker 1: This is Master's in Business with very Rid Holds on
Speaker 1: Bloomberg Radio this week on the podcast what Can I Say?
Speaker 1: Bill Dudley, former New York Fed President, multiple positions at
Speaker 1: Goldman Sachs on Federal Reserve, at the New York Fed,
Speaker 1: really a master class in how monetary policy is not
Speaker 1: only made, but executed and put into actual operations. There
Speaker 1: are few people in the world who understand the inter
Speaker 1: relationships between central banks, the economy, and markets like Bill
Speaker 1: Dudley does. This is just a master class in understanding
Speaker 1: all the factors that affect everything from the economy to inflation,
Speaker 1: to the labor market, the housing market, and of course
Speaker 1: Federal Reserve. I could go on and on, but instead
Speaker 1: I'll just say, with no further ado, my conversation with
Speaker 1: former New York Fed President Bill Dudley. Great to be here, Barry,
Speaker 1: It's great to have you. So I feel like I
Speaker 1: have to call you Bill Bill, because that's what I
Speaker 1: always hear you described as not a William Yep. Let's
Speaker 1: talk a little bit about your background. You get an
Speaker 1: economics PhD from California Berkeley in eighty two, and around
Speaker 1: the same time you become an economist at the Federal
Speaker 1: Reserve Board from eighty one to eighty three. Tell us
Speaker 1: a little bit about that role.
Speaker 2: I was there in the what's called the Financial Studies Section,
Speaker 2: which is one of the very small places in the
Speaker 2: FED that it is not macroeconomics driven, it's microeconomics. So
Speaker 2: we worked on things like payments policy, you know, regulatory policy,
Speaker 2: so all sorts of micro issues, not macro issues. It
Speaker 2: was a pretty interesting period because the Congress had just
Speaker 2: passed what's called the Monetary Control Act, where they're forcing
Speaker 2: the FED to charge for all its services to so
Speaker 2: to sort of level the playing field with.
Speaker 1: The private sector.
Speaker 2: So we had to figure out how we're going to
Speaker 2: price all these services in a way that we can
Speaker 2: still sort of stay in business and be a viable
Speaker 2: competitor to the private sector.
Speaker 1: Huh, that's kind of bizarre. I would imagine in nineteen
Speaker 1: eighty two, the FED was a much smaller entity than
Speaker 1: it is today. What was a day in the life
Speaker 1: of a FED economist like back then?
Speaker 2: So I was working on issues, you know, on payments,
Speaker 2: I worked on issues on you know, some of them
Speaker 2: were quite esoteric. So, for example, the treasure was thinking
Speaker 2: about moving to direct deposit, but they wanted to know
Speaker 2: how much it was going to cost them. Because direct
Speaker 2: deposit the money clears, you know, sorry almost instantly.
Speaker 1: Right when you.
Speaker 2: Write a check, you get check float. It takes time
Speaker 2: for the checks to come back to hit the treasury counts.
Speaker 2: So they want to know how many days does it
Speaker 2: take a Treasury check to get back to us. So
Speaker 2: we actually set this project where we went out to
Speaker 2: the reserve banks and sample checks to find out how
Speaker 2: long did it actually take someone to get their treasury
Speaker 2: check and deposit it somewhere and have a get back
Speaker 2: to the Fed and debit the treasury of the count
Speaker 2: It turned out to be like eight or nine days
Speaker 2: on average.
Speaker 1: And on a couple of billion dollars that flowed as
Speaker 1: real money. It's real money.
Speaker 2: So we wanted to make sure that people understood what
Speaker 2: the cost was. Now, obviously it's a good thing to do.
Speaker 2: I mean, it does cost the Treasury money, but it's
Speaker 2: a much more efficient and more reliable payments medium.
Speaker 1: Did you overlap with the Chairman Paul Vulkar when you were.
Speaker 2: There, Yes, I did. I didn't have a lot of
Speaker 2: interactions with him. I remember one time though I did
Speaker 2: do a briefing of the of the Board of Governors.
Speaker 2: And at the time they had they had this very
Speaker 2: long table in the board in the main board of
Speaker 2: Governor's meeting room, and Volker sat at one end and
Speaker 2: the briefer set all the way at the other end,
Speaker 2: which was made it sort of complicated because Volker had
Speaker 2: usually had a cigar stuck in his mouth, and you
Speaker 2: would have acquire and you could like straining to hear them.
Speaker 2: The senior staff was ready to rescue you if you
Speaker 2: said something inappropriate. I mean they set the bar, the
Speaker 2: tension bar so high because you actually couldn't actually do
Speaker 2: a briefing until you've actually taken a course, no kidding.
Speaker 2: So that means like you're not exactly relaxed when you're
Speaker 2: going to brief the governors. It's not a lot of
Speaker 2: give and take. It's a very formal process.
Speaker 1: And even without a cigar in his mouth. I only
Speaker 1: got to meet Toll Paul once, but he's kind of
Speaker 1: gruff and mumbles like not a clear projecting voice, kind
Speaker 1: of a hoarse, mumbling voice. I can imagine with a
Speaker 1: cigar in his mouth, who could even tell what he's saying.
Speaker 2: Well, I seem to have gotten it good enough. And
Speaker 2: you know what's interesting about that. I didn't really have
Speaker 2: that much interaction with Paul over the next you know,
Speaker 2: fifteen to twenty years, But once I got to the FED,
Speaker 2: we started to actually see each other on a much
Speaker 2: more regular basis. I got involved with a group of thirty,
Speaker 2: Paul was a member of the group of thirty, and
Speaker 2: we gradually became pretty good friends. So it started like
Speaker 2: very slow and sort of matured.
Speaker 1: Like, fine, mind, he's a fascinating guy, and what an
Speaker 1: amazing career. So before you come back to the FED,
Speaker 1: there's a private sector interval. Tell us a little bit
Speaker 1: about the twenty years you spent at Goldman Sachs, where
Speaker 1: you not only became a managing director and a partner,
Speaker 1: but you know, really very much rose through the ranks. Well,
Speaker 1: first I went to JV. Morgan.
Speaker 2: I was there the regulatory commis. JP Morgan at the
Speaker 2: time had one regulatory commis And so when the job
Speaker 2: came open and they approached me at the FED, I thought, boy,
Speaker 2: if I don't take this job, it's not gonna be available,
Speaker 2: you know a few years later, So I went to JV.
Speaker 1: Morgan.
Speaker 2: I worked on a lot of bank regulatory matters, and
Speaker 2: that's why I'm still very interested in bank regulatory issues.
Speaker 1: But that seemed to me like not.
Speaker 2: A really great long term career because, as you know,
Speaker 2: bank regulation changes very slowly, and I start wanted a
Speaker 2: faster tempo. So Goldman Sachs had me into interview for
Speaker 2: a macro economics job, and I thought, well, I don't
Speaker 2: really know a lot of macroeconomics, but I do know
Speaker 2: about how the Federal Reserve operates, how the pay system operates,
Speaker 2: how the plumbing works, how reserves, you know, moved through
Speaker 2: the system. And I think they liked the fact that
Speaker 2: I knew about how things worked at sort of a
Speaker 2: micro level, so they hired me to do macroeconomics.
Speaker 1: So you were chief US economist for a decade over
Speaker 1: a really fascinating period, really the heart of the bull market.
Speaker 1: Tell us a little bit what you remember from that
Speaker 1: role in that era.
Speaker 2: Well, I remember how how it was a period of
Speaker 2: sort of stars for for equity analysts, much more than
Speaker 2: it is today. And one of the biggest stars was
Speaker 2: Abby Joseph's Colin Sure It was the equity analyst for
Speaker 2: Goldman Sachs. So trying to find some space between Abby
Speaker 2: and your audience. Was a little bit challenging, but you know,
Speaker 2: I focused mostly on fixed income and foreign exchange, so
Speaker 2: there was sort of room for me to do my business.
Speaker 2: Probably the highlight of my career at Goldman Sachs was
Speaker 2: that I can't or exactly the year, but it was
Speaker 2: in the early two thousands when people in the markets
Speaker 2: couldn't figure out if the FED was going to move
Speaker 2: by twenty five basis points or by fifty basis points,
Speaker 2: and unlike today, going into the meeting, it really was
Speaker 2: fifty to fifty. And Lloyd Blankfin called me up the
Speaker 2: night before and so I said, you know, we have
Speaker 2: a lot of risk on this notion that they're going
Speaker 2: to do fifty. How do you feel about that? And
Speaker 2: that was my call, I said. I told Loyd said,
Speaker 2: I don't know what's going to happen, but the probability
Speaker 2: of fifty is a lot more than fifty to fifty
Speaker 2: at this point. Next day I had to go to
Speaker 2: Boston for a client meeting. It was really sort of
Speaker 2: sad because I wasn't on the floor at the time
Speaker 2: that the announcement came, but apparently people stood up and.
Speaker 1: Cheered for me and it was a fifty point yeah.
Speaker 2: Yeah, yeah, So I got that was so that was
Speaker 2: probably the highlight and I start I got to miss
Speaker 2: the best part of it, rightly.
Speaker 1: So after you know, more than twenty years Agoman, you
Speaker 1: joined the New York FED in two thousand and seven
Speaker 1: overseeing domestic and foreign exchange trading operations. Two thousand and seven.
Speaker 1: That's some timing. It's really it's after real estate rolled over,
Speaker 1: but it's kind of before the market peaked and the
Speaker 1: real trouble began in O eight or nine.
Speaker 2: Yeah, well, I had about seven months of calm and
Speaker 2: then this chaos started in August of two thousand and seven.
Speaker 2: I remember it really well because I just finished building
Speaker 2: this house in West Virginia and we were taking occupancy
Speaker 2: in early August, and it was literally the same day
Speaker 2: that BNP Paraba shut off redemptions from some of their
Speaker 2: mutual funds, caused all sorts of chaos in Europe, and
Speaker 2: then the question is, well, what are we going to
Speaker 2: do about adding liquidity in the US. So didn't get
Speaker 2: out of the house, my new house for the next
Speaker 2: two days as we tried to figure out how to
Speaker 2: calm markets after the BNP Paraba event.
Speaker 1: And the US market kept going higher. I don't think
Speaker 1: we peaked till like October oh seven, something like that.
Speaker 2: Yeah, people didn't really understand the consequences of subprime. You know,
Speaker 2: I thought for.
Speaker 1: Years, I mean literally for years, if you mentioned it,
Speaker 1: you would be mocked on TV. Yeah, I mean.
Speaker 2: You know, one thing I am proud about when I
Speaker 2: joined the FED is in January two thousand and seven,
Speaker 2: that was my first briefing of the FOMC, and actually
Speaker 2: talked about how this could turn out poorly. You know
Speaker 2: that subprime was being supported by you know, subprime was
Speaker 2: being you know, the credit was flowing to subprime. Subprime
Speaker 2: was enable looking people to buy houses. Home prices were
Speaker 2: going up. Because home prices were going up, subprime wasn't
Speaker 2: a problem, right, But at some point supply was going
Speaker 2: to increase in response to the higher home prices, and
Speaker 2: once prices stopped going up, subprime was going to start
Speaker 2: to go the wrong direction. I said, this is a possibility.
Speaker 2: I didn't say it was going to happen, but by
Speaker 2: I staid it was the possibility. So I was sort
Speaker 2: of pleased that I got off on the right track.
Speaker 1: And then in January two thousand and nine, we were
Speaker 1: deep into the financial crisis where post Lehman and post
Speaker 1: Aig you get named tenth president CEO of the New
Speaker 1: York FED. Again, fantastic timing. What was taking up your
Speaker 1: attention right in the midst of the financial crisis.
Speaker 2: Well, you know, that was a tremendously fortunate event for me.
Speaker 2: I always tell people like brock Obama had to become president,
Speaker 2: Tim Geitner had to become Treasury Secretary, and then the
Speaker 2: board of directors in near FED had to pick me.
Speaker 2: So it's sort of like a low probability times of
Speaker 2: low probably times low probability, so sometimes it works out. Yeah,
Speaker 2: sort of a bank a bank, a trible bank shot.
Speaker 2: You know a lot of things that were focused on
Speaker 2: at the time was trying to provide support to financial markets.
Speaker 2: So if you remember, we were still rolling out various
Speaker 2: facilities like the term asset back, the lending facility for example,
Speaker 2: we were running the commercial paper funding facility. We were
Speaker 2: trying to figure out how to do stress test, the
Speaker 2: first stress test of banks. So that was a big
Speaker 2: job in the spring of two thousand and nine, and
Speaker 2: those stress tests were probably the critical turning point in
Speaker 2: the financial crisis. I remember the day after we published
Speaker 2: the stress test, and for the FAT we were actually
Speaker 2: pretty transparent about like what we did and what our
Speaker 2: assumptions were, and here's the results. Bridgewater published a piece
Speaker 2: and I think the headline said something like we agree,
Speaker 2: and I said, okay, we've Now that's that's really important
Speaker 2: because if our analysis is viewed as credible and we
Speaker 2: have the tart money being able to supply the capital
Speaker 2: that's needed, then people can start to rest assured that
Speaker 2: the banking system is going to stabilize and and it's
Speaker 2: going to stop deteriorating now. It also helped that the
Speaker 2: e Commedis was showing signs of bottoming out, so it
Speaker 2: didn't look like we're just heading down into a deep hole.
Speaker 2: But you know, it was very touching, touch a touch
Speaker 2: and go there in the first part of two thousand
Speaker 2: and nine, and there were you know, there were still
Speaker 2: some major financial firms that were pretty darn shaky. I mean,
Speaker 2: City was pretty shaky, Morgan Stanley was pretty shaky. Some
Speaker 2: of the banks were still pretty shaky. So you know,
Speaker 2: until you actually hit bottom and start to pull up,
Speaker 2: you're really wondering are you going to get through this
Speaker 2: and one piece?
Speaker 1: So the Bridgewater piece raises a really interesting question. The
Speaker 1: New York FED is kind of I don't know how
Speaker 1: to say this first amongst the regional feds, because you're
Speaker 1: located right in the heart of the financial community. What
Speaker 1: is the communication like back and forth between the New
Speaker 1: York FED and major players in finance, especially in the
Speaker 1: midst of a crisis like that.
Speaker 2: So the New York FED is sort of unique among
Speaker 2: central banking entities because most central banks they do the
Speaker 2: policy and strategy and the operations all in the same place,
Speaker 2: but in the FED is split. You have policy done
Speaker 2: in Washington, the operational implementation of that policy almost all
Speaker 2: of that takes place at the New York FED. So
Speaker 2: the New York FED is sort of the eyes and
Speaker 2: ears of the FED reserve for markets. I think that
Speaker 2: you know, one thing that helped me a lot during
Speaker 2: the financial crisis is I knew a lot of people
Speaker 2: on Wall Street, and so when something was happening, I
Speaker 2: could call up people I knew and just ask their opinion,
Speaker 2: recognizing that oftentimes their opinion does have a touch of
Speaker 2: self interest. So you need to talk to three or
Speaker 2: four people to sort of triangulate and figure out what
Speaker 2: you think is really going on. I mean, I'll give
Speaker 2: you an example of one thing that really struck me
Speaker 2: during that period. I called up someone and I said,
Speaker 2: here's a complex you know, cdo obligation. You know, you know,
Speaker 2: with all these different mortgages and all these different tranches.
Speaker 2: How long would it take you to actually go through
Speaker 2: that and value it appropriately, to come up with an
Speaker 2: appropriate valuation? He said, oh, take at least two or
Speaker 2: three weeks. Really, And I thought, oh boy, we're in
Speaker 2: big trouble.
Speaker 1: Wow.
Speaker 2: If you don't really know what things are worth when
Speaker 2: you're going through a period of financial stress, that's going
Speaker 2: to be makes things much much more difficult.
Speaker 1: I would have guessed they would break that up into
Speaker 1: five parts, give it to a bunch of juniors, and
Speaker 1: they'd have an answer in three hours. So it scared me.
Speaker 1: Scared I can imagine. So from the New York FED
Speaker 1: you ultimately end up as vice chairman of the f OMC,
Speaker 1: helping to formulate US monetary policy. What was that like
Speaker 1: going from New York to DC.
Speaker 2: Well, it wasn't such a big change because I'd already
Speaker 2: been going to the f MC meetings and briefing the
Speaker 2: f MC.
Speaker 1: Members as president of the New York Fed you have
Speaker 1: a seat. What happened though, as I start switched side.
Speaker 1: So there, So the.
Speaker 2: Day that Tim Geidner was named Treasury Secretary was basically
Speaker 2: the day before an f MC meeting. And I literally
Speaker 2: didn't know when I went down to Washington that Monday
Speaker 2: evening whether I was going to be briefing the FMC
Speaker 2: participants or whether I was going to be an f
Speaker 2: MC participant myself. So I actually prepared two sets of notes.
Speaker 2: Here's my briefing notes if I'm I'm the soul the
Speaker 2: sella manager, and here's my remarks if I'm the president
Speaker 2: of the FED. So I was ready for both. And
Speaker 2: what happened that day he was He was named on
Speaker 2: that Monday, and so on Tuesday, I was I was
Speaker 2: the President of New York Fed.
Speaker 1: Wow. And you know I didn't you know?
Speaker 2: So, And when I got back to New York on
Speaker 2: you know, I think Thursday morning, we had a town
Speaker 2: hall and I gave my first remarks to the New
Speaker 2: York Fed people and had a very simple message for them.
Speaker 2: Best idea wins, because I was really struck by how
Speaker 2: hierarchical central banks tend to be. And I wanted to
Speaker 2: sort of push agat against that idea and basically say,
Speaker 2: it doesn't matter where the idea comes. If it's the
Speaker 2: best idea, that's the idea that should win out.
Speaker 1: Huh. It makes a lot of sense. And since then
Speaker 1: you've gone on to do some work reforming libor as
Speaker 1: the benchmark for rates. Tell us, I always get the name,
Speaker 1: SOFRA the new one that replaced for Yeah, so, so
Speaker 1: tell us a little bit about the work you did,
Speaker 1: because libor was probably the most important number, certainly in credit,
Speaker 1: maybe in all of finance.
Speaker 2: So library for a while was there was a real
Speaker 2: question whether central banks were going to take this on
Speaker 2: or not. And I remember I was in Basel for
Speaker 2: the BIS meetings and I wrote a one page memo
Speaker 2: to Ben Bernanke to hand to Mervin King. Mervin King
Speaker 2: was the head of the sort of the policy making
Speaker 2: group at the BIS at the time, and the memo
Speaker 2: was basically arguing why central banks needed to own the
Speaker 2: librar problem, because if they didn't own it, it wouldn't
Speaker 2: get fixed, it'd be a problem again, and then the
Speaker 2: central banks would be blamed for well, why didn't you
Speaker 2: fix that problem? So I don't know how much important
Speaker 2: that memo had, but I was very pleased to see
Speaker 2: the central banks take eyed up. And as you know,
Speaker 2: it was a huge undertaking which took you know, many
Speaker 2: many years to complete.
Speaker 1: And for those people who may not be familiar with
Speaker 1: the London Interbank offered rate, offered rate literally was a
Speaker 1: survey where they'd call up various bond desks and say, so,
Speaker 1: what are you charging for an overnight loan? And eventually
Speaker 1: traders figured out they could game that by let's just
Speaker 1: call it talking their books, so to speak, in a
Speaker 1: way that would move the librar in their direction. You could,
Speaker 1: you could do a bunch of things with derivatives, and
Speaker 1: eventually libor kind of spiraled out of control, the new
Speaker 1: improved version. How do we prevent that from taking place?
Speaker 1: What were the structural changes?
Speaker 2: Well, the problem, I mean the problem of LIBRA was
Speaker 2: that you had a small cash library market that was
Speaker 2: referencing a very large futures market year all futures market,
Speaker 2: and so you had a situation where you could take
Speaker 2: big positions in the euro dollar market, affect the price
Speaker 2: in the cash market and actually make a profit. So
Speaker 2: the sort of the tail was wagging the dog for sofa,
Speaker 2: the secured overnight funding rate for repo. You have a
Speaker 2: big repo market. I mean it's you know, hundreds and
Speaker 2: hundreds of billions of dollars, so the idea, and it's
Speaker 2: a real market. I mean there's real transactions that are traded,
Speaker 2: and you can sort of track with the price are
Speaker 2: and where trades are. It's so it's almost impossible to
Speaker 2: imagine someone manipulating this sofa market.
Speaker 1: Really really interesting. So so first before we start talking
Speaker 1: about policy, I have to ask. You're at Goldman Sachs
Speaker 1: for twenty years and you get the phone call to
Speaker 1: join the New York FED. What was that like? Was
Speaker 1: that a tough call or was that an easy decision
Speaker 1: to make?
Speaker 2: Well? What happened actually is Tim Geitner called me several
Speaker 2: months earlier and said, you like to come over to
Speaker 2: be a senior advisor. And I said, I'd love to
Speaker 2: be a senior advisor to you, Tim, but what do
Speaker 2: I do with the rest of my you know, forty
Speaker 2: to fifty hour work week. And he didn't have a
Speaker 2: really good answer for that.
Speaker 1: Was this a full time gig? I means, well, I didn't.
Speaker 2: When I left Goldman, I didn't really know what my
Speaker 2: next thing was, so I did not have the next job.
Speaker 2: I was just assuming that I would something would come
Speaker 2: along that right, interesting, So he offered that and I thought, well,
Speaker 2: you know, you know, Tim and I had a very
Speaker 2: good relationship, and you know, I sort of like the
Speaker 2: idea of working from but I thought senior advisor was
Speaker 2: a little bit too unformed. And a couple months later
Speaker 2: he came back and said, can you run the Markets
Speaker 2: group at the New York Fed? That's completely different. You're
Speaker 2: running the group that actually implements monetary policy overseas market
Speaker 2: analysis Dale deals with the primary dealer community. That was
Speaker 2: a real opportunity, so that one I didn't have to
Speaker 2: think very hard about.
Speaker 1: And what's what Not long after Tim gets elevated, you
Speaker 1: take the role of New York Fed President. What's a
Speaker 1: day in the life of New York Fed pres.
Speaker 2: Like, there's a lot to do because New York Fed
Speaker 2: does lots of different things. So you know, we have supervision.
Speaker 2: We oversee some of the largest financial institutions in the
Speaker 2: world from a supervisory perspective, where the international armor of
Speaker 2: the FED, so pretty much every two months. I would
Speaker 2: go to the BIS in Basel, be part of the
Speaker 2: Bank for International Settlement meetings. New York FED President as
Speaker 2: well as the chairman of the of the Board of
Speaker 2: Governors as the Board of Directors of the b S.
Speaker 2: As Alan Blinder once joked to me, he says, New
Speaker 2: York FED is the only only institution that's treated it
Speaker 2: like their their own country because they have this board
Speaker 2: director's position. You know, there's lots of things and you know,
Speaker 2: payments they fed. New York Fed runs FED Wire, The
Speaker 2: New York FED runs Central Bank International Services for a
Speaker 2: bunch of foreign central banks. They have I don't know,
Speaker 2: three four trillion dollars of custody assets from foreign so
Speaker 2: there's a lot. There's lots of pieces to the FED.
Speaker 1: And then there's a.
Speaker 2: Research department, uh and there's a lot of outreach to
Speaker 2: try to get information about what's really happening in the world.
Speaker 2: I mean, the one thing that I did that was
Speaker 2: probably a little new from the FED perspective is I
Speaker 2: tried to broaden out the people that the New York
Speaker 2: Fed was talking to. Historically, the New York FEDA typically
Speaker 2: talked mainly to the primary dealer community, so that's where
Speaker 2: they obtained their information from. And I thought that that
Speaker 2: was too narrow. We need, we need, we need a
Speaker 2: broader set of perspectives. And so I hired a woman
Speaker 2: named Haley Bowski who came in and literally built out
Speaker 2: a whole operation so we could actually interact not just
Speaker 2: with the cell side, but also with the buy side.
Speaker 2: And so we started an advisory group of people for
Speaker 2: you know, hedge funds, pension funds, insurance companies, buyside investors,
Speaker 2: and so we have them in periodically to talk to
Speaker 2: and so we got a much broader network of information
Speaker 2: that we could sort of take on board. And I
Speaker 2: think that's valuable because you know, where you sit really
Speaker 2: does influence your perspective, and you sort of want to
Speaker 2: understand what biases and you know, self promotion sometimes that
Speaker 2: people are talking their book that you want to be
Speaker 2: able to make sure you don't get fooled by that.
Speaker 1: Now you could go back not all that far in
Speaker 1: the FED history, and there was none of this communication.
Speaker 1: It wasn't a transcripts release, there wasn't a reporter scrum
Speaker 1: and a Q and A. There wasn't even an announcement
Speaker 1: of change and interest rates. You had to follow bond
Speaker 1: market to see when rates changed. What are the pros
Speaker 1: and cons of being so clear and so transparent with
Speaker 1: market participants? Is the risk that maybe we're too clear?
Speaker 2: Well, I think there's a strong argument in favor of
Speaker 2: transparency as opposed to opacity. And you know this has
Speaker 2: been debated within the Fed for many years. I mean
Speaker 2: Alan Greenspan, Paul Volker definitely preferred to be opaque. I
Speaker 2: mean Alan greenspand famously said if you understand, if you
Speaker 2: think you understand what I said, then I wasn't unclear
Speaker 2: enough for something.
Speaker 1: To that effect.
Speaker 2: So the value of transparency is that if markets understand
Speaker 2: how the Federal Reserve is going to react to incoming information,
Speaker 2: the market can essentially price in with the Fed hasn't
Speaker 2: even yet done, and so that can make monetary policy
Speaker 2: work much more rapidly.
Speaker 1: So let's think about it today.
Speaker 2: So the market is pricing in roughly five to six
Speaker 2: twenty five basis point rate cuts between now and the
Speaker 2: end of the year, so that means monitary policy is easier,
Speaker 2: even though the Federal Reserve hasn't cut rates yet, So.
Speaker 1: They do some of the work for the Fed. Yeah,
Speaker 1: and it makes it.
Speaker 2: And it also means that as newcoming information is coming in,
Speaker 2: the market can reprice, and so that can cause the
Speaker 2: impulse of the economic news to be filtered into financial
Speaker 2: conditions much more more quickly. I'm a big believer in
Speaker 2: financial conditions as a framework for thinking about monetary policy.
Speaker 2: You know, twenty something years ago Jan Hattys and I
Speaker 2: introduced the gold SAX Financial Conditions Index, and it took
Speaker 2: about twenty plus years for the Federal Reserve too sort
Speaker 2: of endorse it. I mean, Jay Powell talks about financial
Speaker 2: conditions a lot more than any other chair of the
Speaker 2: Fed ever has. The reason why financial conditions are so
Speaker 2: important is in the United States, the commy doesn't really
Speaker 2: run on short term interest rates. It really runs on
Speaker 2: how short term interest rates affect long term rates, mortgage rates,
Speaker 2: stock market, the dollar credit spreads. You know, we have
Speaker 2: a big capital market compared to other countries, and so
Speaker 2: shorts are not really the driver. Now, if short term
Speaker 2: rates and financial conditions were rigidly connected, so if I
Speaker 2: moved the short term rate by X, I know exactly
Speaker 2: how much financial conditions are moved by. Why we don't
Speaker 2: have to worry about financial conditions, but there's actually a
Speaker 2: lot of gift between the two, and so financial conditions
Speaker 2: can move a lot even as short term interest rates
Speaker 2: haven't changed very much. I mean, good example is just
Speaker 2: the last three months, last three months, since the end
Speaker 2: of October till now, financial conditions have eased dramatically. I mean,
Speaker 2: the Golden Sacks Financial conditions indexes moved by about a
Speaker 2: one and a half points, which is a big move
Speaker 2: for that index, even as the FED hasn't done anything
Speaker 2: in terms of short term rates.
Speaker 1: So part of the problem with everybody anticipating FED actions
Speaker 1: is there is a tendency for many people, sometimes most people,
Speaker 1: to get it wrong. Wall Street has been anticipating a
Speaker 1: FED cut for what is it now? We're in the
Speaker 1: seventh month, eighth month of Hey, if the FED is
Speaker 1: going to start any day, now, what does it mean?
Speaker 1: When anticipating FED actions almost becomes a Wall Street parlor game,
Speaker 1: and there's less focus on what's happening in the broad
Speaker 1: economy and more focus on, well, what is the second
Speaker 1: and third derivative of this mean to this economist advising
Speaker 1: this FED governor and the impact on the FOMSA.
Speaker 2: I mean, sometimes I think you're right that there's almost
Speaker 2: too much focus on what's going to happen at the
Speaker 2: next meeting. I mean, you know, when you go to
Speaker 2: the press conference now, Powell has just asked multiple different
Speaker 2: varieties of the question. Okay, so what would cause you
Speaker 2: to move at the March meeting or at the May meeting?
Speaker 2: And of course Paul's not going to answer that question,
Speaker 2: you know, because it depends it depends on how the
Speaker 2: economy evolves between now and then. So I think, you know,
Speaker 2: one of the problems I think you have is that
Speaker 2: the Fed Reserve does publish a forecast, the Summary of
Speaker 2: Economic Projections, which is the forecast of all the nineteen
Speaker 2: FMC participants, So that gives you an idea what they
Speaker 2: sort of think is going to happen at any given
Speaker 2: point in time. But those forecasts are, you know, not
Speaker 2: particularly reliable and says all forecasts, Yeah, it's all four
Speaker 2: cut stars. So you don't want to you don't want
Speaker 2: to take it sort of literally. But you know, like
Speaker 2: right now, there's a bit of a gap, right the
Speaker 2: FEDS is talking about three rate cuts in twenty twenty four,
Speaker 2: and the market's got five to six priced in, so
Speaker 2: you know what will happen is the economic news will
Speaker 2: come out and that will drive make the FETI either
Speaker 2: go more quickly or more slowly, and that will will
Speaker 2: Well what actually is important? So I always tell people
Speaker 2: focus on the data more than what the feder Reserve
Speaker 2: says beyond the next meeting.
Speaker 1: Well, although, to be fair, and I find this perplexing,
Speaker 1: say what people will say about Jerome Powell. He has
Speaker 1: said what his position is, he has said what he's
Speaker 1: going to do, and then he has done exactly that
Speaker 1: for the past three years. And it's almost as if
Speaker 1: Wall Street just doesn't believe him. Like, no, no, we're
Speaker 1: not going to cut this year. You got you got
Speaker 1: three or four quarters settled down. No, no cut next month,
Speaker 1: says wall Street. He has said what he meant and
Speaker 1: then stuck to it, and yet the Street seems to
Speaker 1: doubt him.
Speaker 2: Well, there's two reasons why the market could disagree with
Speaker 2: the FED. One is they could misunderstand the Fed's reaction function.
Speaker 2: So you give them the FED set of economic data,
Speaker 2: how are they going to react to it? But it
Speaker 2: also could be a disagreement about how the economy itself
Speaker 2: is going to evolve. The FED might be more optimistic
Speaker 2: or more pessimistic on the economy than market participants. Right now,
Speaker 2: it's really hard to say what's what's the disagreement about.
Speaker 2: Does Wall Street think the comedy is gonna be weaker
Speaker 2: than the Fed does, or does the or does the
Speaker 2: market just think that the Fed is going to be
Speaker 2: more aggressive than the Fed things at this point?
Speaker 1: Right Sometimes it just looks like pure wishful thinking.
Speaker 2: I think sometimes the market just gets ahead of itself.
Speaker 2: It's almost like there's we're now talking about easing, so
Speaker 2: the bell is about to go off, and I don't
Speaker 2: want to miss out, and so I'm going to be
Speaker 2: pretty aggressive about positioning for that. And I think I
Speaker 2: think there's a little bit of you know, and sometimes
Speaker 2: things tend to go too far because people get caught
Speaker 2: off size and then people have to close out the
Speaker 2: trades that went wrong, and so everyone sort of moving
Speaker 2: all at once to the other side of the boat,
Speaker 2: and so things can get overdone at the end of
Speaker 2: the day, though, I mean, the FED reserve, you know,
Speaker 2: writes the story. You know, the market has to converge
Speaker 2: to what the FED ultimately does. And so this is
Speaker 2: why the Fed's not particularly worried about when the market
Speaker 2: prices in more or less because at the end of
Speaker 2: the day's view, as you know, we'll do what we
Speaker 2: need to do and the market will have to come
Speaker 2: along with us.
Speaker 1: It's inevitable. So we mentioned Jerome pal He's been as
Speaker 1: clear as any FED chief in history. What are your
Speaker 1: thoughts on how the modern Federal Reserve communicates with markets
Speaker 1: in the public today versus how they used to do it.
Speaker 1: You don't even have to go that far back twenty
Speaker 1: years ago.
Speaker 2: I think it's as I said earlier, I think it's
Speaker 2: a lot better way of communicating because then markets can
Speaker 2: understand what the Fed is up to. They can interpret
Speaker 2: economic information and real time and figure out what that
Speaker 2: means for the likely path of short term rates, so
Speaker 2: financial conditions can move long before the Federals are actually acts. Now, obviously,
Speaker 2: you know there's there's a risk in all this because
Speaker 2: what the Fed says may not be borne out by
Speaker 2: the economic information. And so I think the important thing
Speaker 2: in all this is not to take what the federalser
Speaker 2: says as gospel. When they have a forecast, that's their
Speaker 2: forecast today, and that forecast will change as the incoming
Speaker 2: information warrants it. I think where Paulo has done a
Speaker 2: really good job is being very clear about his commitment
Speaker 2: to getting inflation back down to two percent, because the
Speaker 2: biggest risk over the last couple of years was that
Speaker 2: people would start to doubt the Fed's willingness to be
Speaker 2: tough and and and finish the job. And if that
Speaker 2: were to happen, inflation expectations would have become unanchored, and
Speaker 2: that would have made the fedes job a lot more difficult.
Speaker 2: One of the great developments of the last couple of
Speaker 2: years is even though we did have a period of
Speaker 2: very high inflation, long term expectations really stayed unanchored through
Speaker 2: that entire period, and so paul deserves it quite a
Speaker 2: bit of credit for that.
Speaker 1: So we're recording this a few days after his sixty
Speaker 1: minutes interview broadcast. Some things that I took away from that. First,
Speaker 1: it's a complicated job with a lot of moving parts.
Speaker 1: And second, the FED as an institution is a political
Speaker 1: They serve the public, not anyone branch or anyone party
Speaker 1: of the electorate. I thought he was very intelligent and reassuring.
Speaker 1: What was your reaction to that interview?
Speaker 2: I thought it was a very good interview, and I
Speaker 2: thought he actually broke a little bit of new ground
Speaker 2: when he talked about the fiscal sustainability issue, and he
Speaker 2: also talked about the importance of the US role in
Speaker 2: the world.
Speaker 1: I picked that up also. I thought that was the
Speaker 1: first time I've heard of FED chief talk about liberal
Speaker 1: democracy is an important aspect of global leadership.
Speaker 2: Yeah, exactly, And so I thought that was a noteworthy,
Speaker 2: a new new piece. I thought the rest of it was,
Speaker 2: you know, pretty much tracked, you know, his remarks at
Speaker 2: the press conference. You know, I think that, you know,
Speaker 2: it's good for him to get out there and sort
Speaker 2: of demystify the FED. I mean, the FED is you know,
Speaker 2: not so you know, easy for the average person to understand.
Speaker 2: And so going on sixty minutes is is is a
Speaker 2: good idea from from from time to time. I thought
Speaker 2: he did a you know, I thought he did a
Speaker 2: good job. I thought it was very very clear. You know,
Speaker 2: this is not the first FED chair that's been on
Speaker 2: sixty minutes.
Speaker 1: Uh, BERNANKI has done it.
Speaker 2: Yeah, BERNANKI has done it. I'm not I can't remember
Speaker 2: if Janet Yellen did it or not, but.
Speaker 1: Uh, she definitely did it as Treasury secretary, remember if
Speaker 1: she did it.
Speaker 2: As we've been very lucky in terms of the leadership
Speaker 2: of the FED. I mean to have I mean Greenspan obviously,
Speaker 2: you know, was on sort of without parallel, and then
Speaker 2: and then they have Bernanky yelling and Paul in a row.
Speaker 2: Those are three exceptionally good FED chair. I mean my
Speaker 2: only you know, critique of the FED.
Speaker 1: And you know I write for Bloomberg, you know sometimes
Speaker 1: you know, I say what I what I think and
Speaker 1: let the chips follow. They may.
Speaker 2: The one I think mistake the FED made, you know
Speaker 2: over the last few years was they were really really
Speaker 2: late to get off the dime in terms of it's
Speaker 2: starting to tighten monetary policy now.
Speaker 1: Isn't that historically true? Is it so? The Fed throughout
Speaker 1: the twenty tens, we're late to recognize, hey, we don't
Speaker 1: have to be on emergency footing anymore. Not only were
Speaker 1: they late to start tightening in two thousand and one,
Speaker 1: the twenty twenty one, they were late to recognize inflation
Speaker 1: peaked in twenty two. I mean, it's you could easily
Speaker 1: make the argument that they could have begun cutting any
Speaker 1: this meeting, last meeting two meetings ago. Take the past
Speaker 1: six months of inflation, we're at two percent. Yeah.
Speaker 2: I think the reason why they're not cutting at is
Speaker 2: is there's really two reasons for that. Number One, the
Speaker 2: economy is a lot stronger than they thought it was
Speaker 2: going to be, and so that means the risk of
Speaker 2: waiting is a lot lower than they thought it was
Speaker 2: going to be. Because the economy, you know, grew over
Speaker 2: three percent in the fourth quarter. The Atlanta Fed GDP
Speaker 2: now forecast for the first quarters over four percent. I mean,
Speaker 2: obviously it probably won't be that strong when all the
Speaker 2: data comes in, but the Kammy has a lot of momentum,
Speaker 2: and so the pressure on the Fed to cut rates
Speaker 2: because of weakness and growth weakness and the labor market
Speaker 2: just isn't there, and that allows them to be more patient.
Speaker 2: The second thing is important is a little bit of
Speaker 2: delay is not going to have a huge consequence because
Speaker 2: look what's happened to financial conditions over the last few months.
Speaker 2: They be dramatically So the Fed is already getting a
Speaker 2: lot of additional support to the economy without actually having
Speaker 2: hand to cut cut rates. In some ways, the Fed
Speaker 2: can sort of have its cake.
Speaker 1: Keep, you know, show that they're tough minded, and they're
Speaker 1: gonna get inflation all the way down, and and and
Speaker 1: and and and you know, they can have their cake
Speaker 1: and eat it too and have the market basically use
Speaker 1: financial conditions and provide support to the economy. So I
Speaker 1: think it's you know, it's worked out very well from
Speaker 1: the Fed's perspective. So so you mentioned you you contribute
Speaker 1: to Bloomberg Opinion. One of the criticisms that took place
Speaker 1: in the prior administration was the President Trump kind of haranguing.
Speaker 2: J.
Speaker 1: Powell to cut rates, and you wrote an op ed
Speaker 1: tell after you had left the FED saying the Fed
Speaker 1: shouldn't enable Donald Trump. In other words, the independence of
Speaker 1: the institution is much more important than anyone rate cut
Speaker 1: or rate hike it at any time tell us about that.
Speaker 1: That generated a lot of controversy.
Speaker 2: Yeah, I think people you know, I probably didn't say
Speaker 2: it the way I needed to say it. It was
Speaker 2: really more of a thought experiment about how, you know,
Speaker 2: if the Fed Reserve really cares about the country, they
Speaker 2: just need to you know, in the economy, which is
Speaker 2: their mandate. They just need to do the right thing
Speaker 2: and let the chips fall, or they may I think that,
Speaker 2: you know, the Trump administration's attacks on the FED, I
Speaker 2: think are really you know, counterproductive for the Trump administration,
Speaker 2: and they're also damaging to the FED because if the
Speaker 2: FED is viewed as politicized, that basically reduces people's trust
Speaker 2: in in the central Bank. And I think if the
Speaker 2: trust in the central Bank is reduced, that makes the
Speaker 2: Federal Reserve less effective as an institution. One reason why
Speaker 2: I think the FED, you know, doesn't take politics into consideration.
Speaker 2: And in my experience, I was at the FMC table
Speaker 2: for eleven and a half years, never talked about politics,
Speaker 2: never consideration in terms of montre policy decisions. For very
Speaker 2: simple reason. If you start to take politics into consideration,
Speaker 2: you've politicized the FED. And if you politicize the FED,
Speaker 2: you've basically compromised the independence of the FED and its
Speaker 2: ability to be effective. So you just don't want to
Speaker 2: go down that path at all. And I think, you know,
Speaker 2: I think J. Powell completely understands that, and you know,
Speaker 2: I give him a lot of credit. I mean, when
Speaker 2: when Trump was attacking him pretty vocifiorously, Paul did not
Speaker 2: rise to debate. He was completely silent, and he just
Speaker 2: did his job it's got to be tough to be,
Speaker 2: you know, being beaten up.
Speaker 1: Publicly by the president. But he showed a tremendous amount
Speaker 1: of discipline, and I think that basically, you know, enhance
Speaker 1: the credibility and independence of the FED. So that comment
Speaker 1: we were discussing earlier that he made on sixty minutes,
Speaker 1: here's the quote, there's a real desire for American leadership.
Speaker 1: Since World War Two, the US has been the indispensable nation,
Speaker 1: supporting and defending democracy, security arrangements, and economic arrangements, with
Speaker 1: a leading voice on that. It's clear the world wants that.
Speaker 1: I would want the people in the US, in the
Speaker 1: United States to know this has benefited our country enormously.
Speaker 1: It benefits our economy so much to have this role,
Speaker 1: and I just hope that continues. Am I reading too
Speaker 1: much into that to say, hey, this is an argument
Speaker 1: against President Trump, who is trying to realign the world
Speaker 1: and pull back from US leadership. I think it's I
Speaker 1: think it's a something hit.
Speaker 2: Jere Paul very much believes in that US engagement in
Speaker 2: the world leads to better comes, both in a security
Speaker 2: perspective economic perspective. Absolutely essential for addressing issues like climate change,
Speaker 2: and I think you're just expressing his opinion. Obviously, if
Speaker 2: if there is a next Trump administration and they decide
Speaker 2: to file follow a very isolationist policy, I imagine that,
Speaker 2: you know, Paul will not agree with that, but I
Speaker 2: think he'll be very silent about the fact that he
Speaker 2: doesn't agree with it because he won't want to, you know,
Speaker 2: engage in that political process because that will compromise the
Speaker 2: independs of the FED. So so to your point, this
Speaker 2: was pretty you know, this is a step out for
Speaker 2: power relative to what he said, but there was nothing
Speaker 2: in there about who was in favor of what.
Speaker 1: It's not a political statement, it's not a pin the
Speaker 1: fact that hey, this US leadership in global economics has
Speaker 1: nothing but benefit the country.
Speaker 2: Yeah, it's his opinion that this is in the US's interest.
Speaker 2: It has been in the US interests, in the US
Speaker 2: interest today, and it will be in the US interest
Speaker 2: in the future. That's his view, and I have to
Speaker 2: say I very much agree with it.
Speaker 1: I don't disagree. And if there are some candidates that
Speaker 1: don't have that belief system, well, is that being political
Speaker 1: or is that just here's a historical fact, this is
Speaker 1: what's helped the US.
Speaker 2: Well, I think he's allowed to have his beliefs, and
Speaker 2: I don't think that you know his his this belief
Speaker 2: that he's expressed is should be viewed as a controversial one.
Speaker 2: I think that's that's that's something that you know, a
Speaker 2: high number of people in the country. I think would
Speaker 2: would would would support.
Speaker 1: I don't disagree at all. So, so let's talk a
Speaker 1: little bit about the history of the Federal Reserve, starting
Speaker 1: with the dual mandate price stability, namely inflation and unemployment.
Speaker 1: How does the FED balance those two and what are
Speaker 1: the data points that they follow most closely?
Speaker 2: So the FEDS do mandate was actually established by Congress,
Speaker 2: not by the FED. Congress and the Humphrey Hawkson's Act
Speaker 2: basically said, here's what we want the FED to do.
Speaker 2: We want to have the maximum sustainable employment in the
Speaker 2: country consistent with price stability, which the FED then subsequently
Speaker 2: defined to be two percent inflation. And so the FED
Speaker 2: basically is trying to manage the economy with both these
Speaker 2: goals in mind. And sometimes one of the goals turns
Speaker 2: out to be more significant because the FED is doing
Speaker 2: more poorly on that side. So for the last couple
Speaker 2: of years. The problem was not that the economy was
Speaker 2: far away from full employment. The comoty was either at
Speaker 2: full employment or maybe even a little beyond full employment
Speaker 2: when we saw how tight the liver market was, especially
Speaker 2: in twenty twenty two. So the Fed's focus was on
Speaker 2: inflation because the inflation was well above the FEDS two
Speaker 2: percent objective. What's happened recently is inflation's come down, and
Speaker 2: so the FED can start to talk about both sides
Speaker 2: of the mandate, not just the inflation side, but also
Speaker 2: the labor market side. And so now you're going to
Speaker 2: see a lot more balanced messaging from the FED. Now,
Speaker 2: the good news from the Fed is that things are
Speaker 2: going really, really well. You know, you know, the inflation
Speaker 2: on a six months change basis for the core PC deflator,
Speaker 2: which is the FEDS you know, preferred measure of inflation,
Speaker 2: is tracking two percent. So all we need is another
Speaker 2: six months of the same as as cheer Paul said
Speaker 2: in his Breast conference, and we're basically at the FEDS
Speaker 2: two percent objective and the labor markets doing gangbusters. Frankly,
Speaker 2: I mean, payroll employment growth over three hundred thousand last month,
Speaker 2: So we have sort of the best of both worlds,
Speaker 2: inflation has come down and the labor market is still very,
Speaker 2: very robust, So you know, it's it's interesting when you
Speaker 2: look at polling results of Americans. They're they're very unhappy
Speaker 2: about the economy, and what they're unhappy about is how
Speaker 2: much prices went up over the last four.
Speaker 1: Not current rate of inflation, exact absolute prices.
Speaker 2: It's a price level problem, not an inflation rate problem,
Speaker 2: because if you look at the so called misery index,
Speaker 2: which comds like to do, which is the sum of
Speaker 2: inflation plus the unemployed rate, it's really at a historically
Speaker 2: low level. So you know, I think what's going to
Speaker 2: happen over time is if we keep inflation, you know,
Speaker 2: around two percent, some of the unhappiness about the price
Speaker 2: level will gradually fade away. People just sort of start
Speaker 2: to accept it, and then people will start to assess
Speaker 2: the ecmomune in a more favorable way for the Biden administration.
Speaker 2: There's a little bit of race going on, right, will
Speaker 2: this change in sentiment occur fast enough relative to the
Speaker 2: November election?
Speaker 1: They got seven months to hope that the polling data,
Speaker 1: the economic data is going to consumer confidence. So it
Speaker 1: does seem to be improving.
Speaker 2: I mean, if you look at the most recent consumer
Speaker 2: confidence serves, it does look like consumer confidence is improving.
Speaker 2: So people are starting to, you know, understand that the
Speaker 2: inflation rate does seem to be much lower, but they're
Speaker 2: still very unhappy because you know, when you go at
Speaker 2: the grocery store, you just remember that this thing that
Speaker 2: I bought for you know, three dollars, you know, four
Speaker 2: years ago, and that costs four to fifty. And you
Speaker 2: know that just every time you go to the grocery store,
Speaker 2: you go to the gas station, see you're reminded by
Speaker 2: about the higher price level.
Speaker 1: I see it more in the grocery store than gas stations.
Speaker 1: Our gas is three and change and twenty years ago
Speaker 1: gas was three and change. That's been flat for two decades,
Speaker 1: but food prices definitely have and shelter prices have moved up.
Speaker 1: So before I get to two percent, because I have
Speaker 1: a lot of questions about that, let's talk a little
Speaker 1: bit about the labor market. So first we're again we're
Speaker 1: recording this February twenty twenty three. We just had a
Speaker 1: giant number, a giant upside surprise in payrolls. When the
Speaker 1: FED looks at that number, are they thinking, well, you
Speaker 1: know it's January, there are a lot of one time
Speaker 1: adjustments and seasonal ax or are they saying, hey, this
Speaker 1: labor market is really booming. We can sit back a
Speaker 1: little bit, a little bit of both.
Speaker 2: I mean, in other words, you get you understand that
Speaker 2: the is noisy and so reality is not exactly what
Speaker 2: the data is telling you. The data is you know,
Speaker 2: it's sampled. You know, they've go out and poll people,
Speaker 2: and so there's sampling bias. Also, in the winter, things
Speaker 2: get very affected by the weather as you go from
Speaker 2: you know, warm weather, warm winter weather months to cold
Speaker 2: winter weather months when you go from rain to snowfall.
Speaker 2: So the Fed basically doesn't take one month as sort
Speaker 2: of gospel truth. They look at the pattern and the
Speaker 2: underlying trend, and you know, on that underlying trend, labor
Speaker 2: market looks quite strong. So the Fed is taking a
Speaker 2: signal from that, and that's one reason why they're more
Speaker 2: patient about cutting interest rates because they sort of feel like,
Speaker 2: you know, we can wait a little bit longer, and
Speaker 2: the risk that we're taking is very slow because look
Speaker 2: at how strong the US labor market is.
Speaker 1: So let's talk about not one month, but the past
Speaker 1: couple of years of the labor market. You have an
Speaker 1: enormous number of people who are out on disability, reduced
Speaker 1: legal immigration for jobs dramatically. Early retirements have been taking place,
Speaker 1: a giant uptick in new business formation, so that's a
Speaker 1: big group of people who aren't in the hiring pool.
Speaker 1: They were actually running their own firms. It seems like
Speaker 1: all the issues that have been taking place in the
Speaker 1: labor market, including the wage size side, is that we
Speaker 1: just don't have enough bodies to put to work in
Speaker 1: the United States. I think that was true a year ago.
Speaker 1: I think it's less true today.
Speaker 2: If you look at the ratio of unfilled jobs to
Speaker 2: unemployed workers, that peaked at around two to one.
Speaker 1: Yeah, it was almost record.
Speaker 2: High, and now it's about one and a half to one.
Speaker 2: So the labor market is still really tight, but it's
Speaker 2: not quite as tight. You also think we got a
Speaker 2: big positive surprise last year in terms of the labor
Speaker 2: force growth.
Speaker 1: I mean people coming back, people coming.
Speaker 2: Back into the layor force. And also immigration and legal
Speaker 2: immigration into the US picked up dramatically last year. I mean,
Speaker 2: essentially we didn't have much legal immigration at all during
Speaker 2: the COVID period and then all of a sudden, we
Speaker 2: get a big bubble of that in twenty twenty three,
Speaker 2: and so what you've had is big, strong growth in
Speaker 2: payroll employment, but it hasn't translated through into a decline
Speaker 2: in the unemployment rate. So looking at the unemployer rate,
Speaker 2: the labor mark is no tighter than it was a
Speaker 2: year ago, which is, you know, was a huge positive
Speaker 2: benefit to the US economy and to the Fed, because
Speaker 2: if we'd had that growth in payroll employment without the
Speaker 2: increase in the labor force, the labor mark would be
Speaker 2: too tight, wages too high, and the Federal Reserve wild
Speaker 2: still be worried about it too high inflation.
Speaker 1: And we've seen wages go up. I think for the
Speaker 1: past six months real wages are actually growing faster than inflation.
Speaker 2: Well that's one reason why the e commy is staying
Speaker 2: relatively strong. I mean, as inflation comes down and novel wages,
Speaker 2: you know, inflation comes down maybe a little bit less
Speaker 2: slow more slowly, real incomes increase and that supports the
Speaker 2: consumer spending. So I think the unwinding of goods price pressures,
Speaker 2: which is really the big driver of why inflations come down,
Speaker 2: that's sort of a windfall for consumers right now, and
Speaker 2: so that's actually sustaining real consumer spending.
Speaker 1: And that shift from goods back to services, which is
Speaker 1: more or less where we were pre pandemic, is certainly
Speaker 1: easing prices in that sector.
Speaker 2: Yeah. I mean, all the supply chain disruptions that we had,
Speaker 2: you know, a few years ago, caused by that shift
Speaker 2: in demand from services to goods that just sort of
Speaker 2: overwhelmed the capacity of the world to bring those goods
Speaker 2: to the US in a timely way. That's that's that's
Speaker 2: all unwound at this point.
Speaker 1: So let's talk about the two percent inflation target. Your
Speaker 1: colleague Roger Ferguson in the Council on Foreign Relations last
Speaker 1: year criticized the two percent inflation target as some that
Speaker 1: randomly originated from New Zealand, and surprisingly it came not
Speaker 1: from an academic study but from an offhand comment during
Speaker 1: the television interview in the nineteen eighties. Is Ferguson right,
Speaker 1: Is this really just a big, silly round number.
Speaker 2: Well, it's true that the Reserve Bank of New Zealand
Speaker 2: started by, you know, picking the two percent number, and
Speaker 2: then other central banks followed. But I think there are
Speaker 2: some logical reasons why they followed two percent was low
Speaker 2: enough that inflation wasn't going to be sort of important
Speaker 2: component of people's thinking in terms of their consumption investment decisions.
Speaker 2: Two percent inflation in the US, I think the thing
Speaker 2: could argue that that was mostly consistent with price stability.
Speaker 2: You know, prices are only the double at two percent
Speaker 2: inflation compounded every thirty five years. So so but you're right,
Speaker 2: it was arbitrary. They could have picked a different number.
Speaker 2: They could have picked, you know, three percent or one percent.
Speaker 2: The reason why you want to have a little bit
Speaker 2: of inflation is it really allows you to do two things.
Speaker 2: Number one, it provides a little bit of grease in
Speaker 2: the labor market because people don't like their normal wages
Speaker 2: to be cut, but relative wage rates have to change,
Speaker 2: and so if you have a little bit of inflation,
Speaker 2: it makes the labor market work more efficiently in terms
Speaker 2: of allowing wage adjustments that allow workers to be distributed appropriately.
Speaker 1: So that's the first thing.
Speaker 2: The second reason why you want a little bit of
Speaker 2: inflation is that if you have a little bit of inflation,
Speaker 2: the nominal federal funds rate can be a little bit higher,
Speaker 2: and so when you go into an economic downturn, the
Speaker 2: Federal Reserve has more room to cut interest rates before
Speaker 2: they hit the zero or bound for interest rates of zero.
Speaker 2: So people who are arguing for a higher inflation target
Speaker 2: today are basically arguing like it would be better to
Speaker 2: have even more room for the Fed to cut rates,
Speaker 2: because if the inflation target was three rather than two,
Speaker 2: the peak federal funds rate in the cycle would be
Speaker 2: a one percentage point higher, so the Fed would have
Speaker 2: more room to cut rates. I think there's virtually no
Speaker 2: chance that the Fed is going to change their two
Speaker 2: percent inflation virtually no chance. And there's a couple of
Speaker 2: reasons for that. Number One, Congress sets the mandate for
Speaker 2: the FED, and they define it at Brice stability. The
Speaker 2: Fed has stretched that a bit to call that two
Speaker 2: percent inflation. I think stretching a little bit farther to
Speaker 2: call it three percent inflation. That's a bit of a stretch.
Speaker 2: The second reason I think that they're not going to
Speaker 2: move from two percent inflation is it's taken the FED
Speaker 2: a long time to get inflation expectations anchored around two percent.
Speaker 2: If you move from two percent to three percent, all
Speaker 2: sun inflation expectations become unanchored, and it's not obviously you
Speaker 2: can get them re anchored back at three percent, because
Speaker 2: if you're willing to change the target once, why couldn't
Speaker 2: you change the target again, especially in a situation where
Speaker 2: the Fed US is running a massive fiscal deficit, huge
Speaker 2: fiscal problems, and people always wonder, well, one way out
Speaker 2: of a fiscal mess is is inflation and to monetize
Speaker 2: the dead.
Speaker 1: So I don't think you're going to do it for
Speaker 1: that reason. The last reason why don't think they're going
Speaker 1: to do it is there's plenty of room to cut
Speaker 1: interest rates. Federal funds rates over five and a quarter percent,
Speaker 1: So if the Commie gets in trouble over the next year,
Speaker 1: the Fed has plenty of room to cut rates before
Speaker 1: they get to the zero loorbow for it. They could
Speaker 1: do three fifty bases point cuts and you're still way above.
Speaker 2: Aach So it's just not going to happen. This is
Speaker 2: sort of an academic debate. I don't think it's a
Speaker 2: true FED reserved debate.
Speaker 1: Really really interesting, So let's talk a little bit about
Speaker 1: different FED policies over the past decades and how those
Speaker 1: decisions have aged. Let's start with last decade the twenty tens,
Speaker 1: FED rates were essentially zero the whole time, and yet
Speaker 1: we couldn't get CPI to budget above two percent the
Speaker 1: whole decade following the financial crisis. What made that so
Speaker 1: challenging for monetary policy makers?
Speaker 2: Well, I think the problem coming out of the Great
Speaker 2: Financial Crisis was how much damage was done to.
Speaker 1: People's balance sheets and to their credit scores. And when
Speaker 1: you say people, you mean households, you mean operations for everybody.
Speaker 2: Households mostly, but also businesses. Just a tremendous amount of
Speaker 2: damage caused by that very deep recession. I think of
Speaker 2: all the households who came out of that period where
Speaker 2: the value of their mortgage was higher than the value
Speaker 2: of their home. Think of all the people that were
Speaker 2: delinquent on their obligations and so then got bad credit scores,
Speaker 2: and then that reduced their access to credit. So there
Speaker 2: were a lot of headwinds. The other thing that happened
Speaker 2: was fiscal policy that was eased pretty dramatically when Barack
Speaker 2: Obama became president. That got clawed back very very quickly
Speaker 2: in twenty eleven and twelve. So there were fiscal headwinds
Speaker 2: that we haven't faced this time around that also held
Speaker 2: the economy back. So you're absolutely right. The Fed's challenge
Speaker 2: during that period was to make monitor policy accommodative enough
Speaker 2: to support the economy sufficiently to keep inflation at two percent. Now,
Speaker 2: the FED fell a little bit short of their inflation objective,
Speaker 2: but you know, if you really look at where we were,
Speaker 2: you know, on the eve of the pandemic, and it
Speaker 2: was a pretty good place.
Speaker 1: And the fact that it took a decade is says
Speaker 1: more about the lack of fiscal spending Congress than what
Speaker 1: the FED did.
Speaker 2: And you had a very long expansion. I mean, the
Speaker 2: reality of the expansion would have kept going except for
Speaker 2: the COVID pandemic.
Speaker 1: Really interesting, So let's talk about the prior decade to
Speaker 1: two thousands. You had a speech around twenty fourteen where
Speaker 1: you said the FED was late in recognizing how long
Speaker 1: they kept rates low for and that the liftoff from
Speaker 1: four to six should have happened faster and sooner. Tell
Speaker 1: us a little bit about what the lessons were from
Speaker 1: that episode and what the FED should have done in
Speaker 1: the early two thousands.
Speaker 2: So there's been a big debate going on for many,
Speaker 2: many years about how should the FED respond to financial
Speaker 2: imbalances in the economy, how should they respond to sort
Speaker 2: of incipient bubbles. The green Span view was it's very
Speaker 2: hard to recognize bubbles. It's not clear how you rain
Speaker 2: them in. So the best thing to do is just
Speaker 2: sort of let the bubbles take to run their course,
Speaker 2: and then clean up after the bubble collapses. Here in
Speaker 2: the bus period, my view has been very much that, no,
Speaker 2: that's not a great strategy because the bursting of the
Speaker 2: bubble can cause a lot of financial knock on effects,
Speaker 2: and so better to identify the bubble in real time
Speaker 2: and try to sort of rain that bubble in. And
Speaker 2: I think, you know, if you look at the two
Speaker 2: thousand and four two thousand and seven to eight period,
Speaker 2: boy would have been really good if we'd done something
Speaker 2: about subprime mortgage lending, about mortgage underwriting standards. If we'd
Speaker 2: done that, we would have had a much smaller housing bubble,
Speaker 2: and we would have had much less damage when that
Speaker 2: bubble collapsed in two thousand and eight. So my view
Speaker 2: has always been let's try to be a little bit
Speaker 2: more proactive. Now, the problem with being proactive is, you know,
Speaker 2: how do you know it's a bubble, and the rally
Speaker 2: is you don't, and so it's very hard to convince
Speaker 2: people to take proactive steps to deal with sort of
Speaker 2: incipient problems because you can't really be sure with one
Speaker 2: hundred percent confidence of what's actually going on.
Speaker 1: So you're really pointing out two issues. First, I want
Speaker 1: to say, the FED had taken rates under two percent
Speaker 1: for about three years and under one percent for a year,
Speaker 1: so that was pretty unprecedented until you know the post
Speaker 1: financial crisis here. But you're also pointing out to the
Speaker 1: FED as regulator, and you know, to cast blame. Greenspan
Speaker 1: was very much anti regulator, a little bit more lovely
Speaker 1: care and he allowed a lot of non GSE, non
Speaker 1: traditional banks to make all sorts of loans. It's not
Speaker 1: like he gave them permission, he just didn't really regulate them.
Speaker 1: And that's where a lot of the really sketchy prime
Speaker 1: can and the FED actually did have some authority in
Speaker 1: terms of regulating the mortgage market, authority that they didn't
Speaker 1: really use. Need Gramlik was a governor at the FED,
Speaker 1: and he sort of brought his concerns, Oh boy did
Speaker 1: he to Alan Greenspan, and nothing really really happened. I mean,
Speaker 1: I mean, even when I was at Goldman Sachs, you know,
Speaker 1: and working with my successor, Yan Hostis, we were very
Speaker 1: focused on how this mortgage, this housing bubble was fueling
Speaker 1: consumption through what was called mortgage equity withdrawal. People were
Speaker 1: basically taking their appreciated gains in their houses and they
Speaker 1: were pulling it out in terms of you know, Helock's
Speaker 1: home equity loans, and we felt that that was also
Speaker 1: contributing to stronger consumption and this was going to potentially
Speaker 1: end quite badly. Ed Gramlik was an unsung hero of
Speaker 1: that era because he really identified what was going on
Speaker 1: in real time and not in a you know, hair
Speaker 1: on fire historyonic way. He was very sober and thoughtful
Speaker 1: and academic, and you know, had had Green spent paid
Speaker 1: more attention to Gromlik, could have been a very different outcome. Well,
Speaker 1: I think you would.
Speaker 2: Have had a smaller bubble, maybe you'd have less you know,
Speaker 2: financial innovation. You could wait against some of the triple
Speaker 2: A cdo stuff. I mean, you know, that's a that
Speaker 2: was I mean, some of the innovations in the financial
Speaker 2: industry in terms of products also contributed to the to
Speaker 2: the bubble, sure, right, because you managed to sell all
Speaker 2: these you know, you took a bunch of bad subprime mortgages,
Speaker 2: then you trunched the cash flows and turned these subprime
Speaker 2: mortgages into seventy percent triple A rated securities, and so
Speaker 2: that sort of kept the whole thing going. So the
Speaker 2: financial engineering was also an aspect of the problem that
Speaker 2: contributed to the to the bubble.
Speaker 1: The rating agencies changed their model. They were being paid
Speaker 1: by the underwriters instead of being paid by the mode purchasers.
Speaker 1: That's a big factor that. Yeah, I think a lot
Speaker 1: of people overlook all right, So we could spend forever
Speaker 1: talking about the financial crisis, but I want to get
Speaker 1: to the nineteen nineties, and we've referenced the Maestro. I
Speaker 1: was on a trading desk back then, and I always
Speaker 1: thought green Span was way too solicitous. I'm not sure
Speaker 1: if that's the right word. He was way too concerned
Speaker 1: about how Wall Street perceived him. Is that a fair
Speaker 1: criticism of green Span? Because it felt like he was
Speaker 1: much more accommodative of short term market reactions anytime there
Speaker 1: was a problem for a lais a fair randy and
Speaker 1: he went right to you know, the interventionist policy so
Speaker 1: we had the long term capital management issue, we had
Speaker 1: the Thai crisis and the Russian ruble crisis, and every
Speaker 1: time there was a hiccup in the markets, green Span
Speaker 1: didn't hesitate to cut rates. I think that's you know, fair.
Speaker 2: But at the same time, I think green Span you
Speaker 2: did a reasonable job being inflation control. So the consequences
Speaker 2: of coming to the market's aid to sort of sort
Speaker 2: of smooth out market dysfunction, you know, didn't have a
Speaker 2: really negative consequence for inflation. So I think he sort
Speaker 2: of got mostly got away with it. But I agree
Speaker 2: with you he was probably a little bit more willing
Speaker 2: to address relatively you know, small, not large, not persistent
Speaker 2: movements in markets that maybe the FED could have looked
Speaker 2: looked past, you know that said, I mean, you know,
Speaker 2: his track record was really good. I mean, I think
Speaker 2: the blind spot was really just more about not having
Speaker 2: this view that we can identify bubbles and we should
Speaker 2: deal with bubbles in real time rather than waiting for
Speaker 2: the bubble to burst. And that was that was his
Speaker 2: big mistake. If you know, if you think about when
Speaker 2: when Ben Bernaki came in in two thousand and six,
Speaker 2: you know, the die was already cast right in terms
Speaker 2: of what was going to happen at that point. It's
Speaker 2: just what no one had yet recognized it.
Speaker 1: No, there's no doubt about that. And in fact, by
Speaker 1: six real estate had peaked. You saw it in the
Speaker 1: homebuilders and the banks and the brokers like there were
Speaker 1: market signals that there was problems, but the overall stock
Speaker 1: market kept going until you know, late seven. So let's
Speaker 1: talk you mentioned earlier about surveys. I always look at
Speaker 1: surveys askance because A people don't know, and B even
Speaker 1: when they know about what's happening today, it tends to
Speaker 1: be on a lag. And then lastly, they have no idea.
Speaker 1: When you ask, hey, where's inflation going to be five
Speaker 1: years from now? That seems to be like about as silly. A.
Speaker 1: Nobody has any idea, much less a layperson. Why do
Speaker 1: we put so much emphasis on inflation expectations? Well, I
Speaker 1: don't think that.
Speaker 2: I mean, I think you're right that people don't have
Speaker 2: a really good sense of and we talked about earlier
Speaker 2: at price level versus rate of inflation. But it's interesting
Speaker 2: to see how their views change over time. So it's
Speaker 2: probably not the level of what they perceive inflation is
Speaker 2: going to be over the next ten years.
Speaker 1: That's interesting.
Speaker 2: It's whether they think it's higher or lower than it was,
Speaker 2: you know, a month ago, six months ago, a year ago.
Speaker 2: The reason why inflation expectations are so important is that
Speaker 2: people think inflation expectations are truly going to be higher,
Speaker 2: then that's going to set the wage setting process, and
Speaker 2: wages are going to be higher. And if wages are
Speaker 2: going to be higher, that's going to feed into prices
Speaker 2: and that's going to cause actual inflation to be higher.
Speaker 1: That was a very nineteen seventies problem that seemed to
Speaker 1: be what why inflation was so sticky? Yeah, and we
Speaker 1: had such a hard time until Vulf came along getting
Speaker 1: out of that cycle.
Speaker 2: And one good thing is too we have other ways
Speaker 2: of measuring inflation expectations now that we didn't have thirty
Speaker 2: years ago. We have the treasure you tips market, so
Speaker 2: we can look at tips shields versus nonal treasure yields
Speaker 2: and we can sort of calculate what are people willing
Speaker 2: to pay for inflation protection and that gives us a
Speaker 2: sense of how much inflation is into the into in
Speaker 2: people's expectations.
Speaker 1: Marketing expectations do the inflation expectation surveys and the spread
Speaker 1: between the tip shield and treasuries. Do they correlate well
Speaker 1: or are their occasional big divergence.
Speaker 2: I think they I think they correlate well in the large,
Speaker 2: but I don't think they correlate well at all in
Speaker 2: the small. I mean, one example is, people look at
Speaker 2: tip shields and they look at what's called the five
Speaker 2: x five forward rates of what's inflation going to be
Speaker 2: five years from now for the next five years, and
Speaker 2: that five year forward inflation rate moves along around with
Speaker 2: current oil prices. So when the rest go over town,
Speaker 2: it seems to affect the people's inflation expectations through the
Speaker 2: tips market five years from now, which makes no you know,
Speaker 2: no sense.
Speaker 1: Part of the.
Speaker 2: Problem is it is also the liquidity of the tips
Speaker 2: market is different than the liquidity of the nominal treasury market,
Speaker 2: and so that also can cause some noise in terms
Speaker 2: of your measurement. But you know, two separate sets of
Speaker 2: of of numbers. And then you also have you know,
Speaker 2: professional forecasters, you know what do they think? So that's
Speaker 2: a third set, and so you look at these three
Speaker 2: pretty disparate sources of information on inflation expectations, you can
Speaker 2: get a pretty good sense of, you know, is it
Speaker 2: broadly stable or is it moving in a bad way.
Speaker 1: So let's talk about the biggest part of CPI, which
Speaker 1: is shelter. When we're looking at inflation, we really want
Speaker 1: to know what shelter costs are. The way bls, the
Speaker 1: way the Bureau of Labor Statistics measures shelter is owner's
Speaker 1: equivalent rent and full caveat everybody's aware there's issues with
Speaker 1: this and there are some changes coming. But let's talk
Speaker 1: a little bit. As it's been for the past couple
Speaker 1: of years. It's survey based. Hey what could you rent
Speaker 1: your property for? Seems to be a funny question. So
Speaker 1: it's laggy versus real time measures. And yet this is
Speaker 1: the single biggest part of CPI. George Box famously said
Speaker 1: all models are wrong, but some are useful. Is this
Speaker 1: a model that is both wrong and useful.
Speaker 2: Well, I think you've underscored some of the shortcomings of
Speaker 2: owner's equivalent rent, as you know, both in terms of
Speaker 2: timeliness and also in terms of you know, it's not
Speaker 2: even a cash outlay that people are making. So when
Speaker 2: you started thinking about what's having to people's real incomes,
Speaker 2: you're sort of imputing a cost that they don't actually
Speaker 2: really incur. So when you're started thinking about how much
Speaker 2: can people actually afford to buy, well, I'm not really
Speaker 2: renting my house from myself.
Speaker 1: So you're absolutely right. You have a budget line for shelter,
Speaker 1: but it doesn't include you've already sort of right, it's
Speaker 1: already in your budget.
Speaker 2: It's already in your budget exactly. So I think this
Speaker 2: is one reason why the Fed puts more emphasis on
Speaker 2: the personal consumption expenditure deflator because it has a much
Speaker 2: lower weight for shelter. But you're right, the legs here
Speaker 2: are sort of crazy. So one reason why we're going
Speaker 2: to see lower core PC deflator and lower core CPI
Speaker 2: over the next twelve months is because rents did come
Speaker 2: down and then with a lag of about a year
Speaker 2: or so.
Speaker 1: Is it that much? I always thought it was a
Speaker 1: couple of six months months, quarter or two.
Speaker 2: It's six months at least six months, like, because the
Speaker 2: rent's only repriced periodically, right every year or two, every
Speaker 2: year or two, and so they have to reprice before
Speaker 2: they get into the So it's that lag because you
Speaker 2: know rents repriced instantaneously, then everything would be sort of
Speaker 2: up to date. But rents price slowly when you know,
Speaker 2: the least comes due, and so it's lagging behind reality.
Speaker 2: So this is something that's going to probably feed into
Speaker 2: the core PC deflator and keep inflation a little bit
Speaker 2: lower over the next six to twelve months.
Speaker 1: But is it really you know, real.
Speaker 2: In terms of what's actually actually happening to inflation on
Speaker 2: the ground, it's probably you know, going to be a
Speaker 2: little bit misleading.
Speaker 1: So there are a couple of real estate entities, the
Speaker 1: Apartment List Index or Zillow does the real time in
Speaker 1: K Shiller, right, So even k Shiller is a little
Speaker 1: bit of a lag, not as much as owner's equivalent rent.
Speaker 1: But the interesting thing is the real time indicies have
Speaker 1: showed falling real estate prices the past, i don't know,
Speaker 1: three months, four months hasn't gotten into the CPI yet, right,
Speaker 1: And so it's interesting it's coming, it's coming. That's that's
Speaker 1: got to be very optimistic to think, Hey, even all
Speaker 1: these people are concerned about reacceleration of inflation, we know
Speaker 1: the biggest part of CPI is going to keep drifting lower.
Speaker 1: That's got to be positive for future Fed policy.
Speaker 2: Right, But the question is is it temporary or is
Speaker 2: it more persistent? So to figure that out. To figure
Speaker 2: that out, we have to look at the housing market.
Speaker 2: So how is the housing market performing? Well, the housing
Speaker 2: market actually looks like it's starting to come back. Why
Speaker 2: is it coming back? Because mortgage rates have fallen by
Speaker 2: you know, one percentage point, and so that's actually stimming
Speaker 2: in the housing sector. So I think the interesting question is.
Speaker 1: Not like just what's the next chapter as this stuff
Speaker 1: feeds through the CPI, it's what's the chapter after that?
Speaker 2: Based on how quickly does the housing market recover in
Speaker 2: response to lower interest rates.
Speaker 1: So so Powell was asked, I think it was on
Speaker 1: sixty minutes about the commercial real estate. So as opposed
Speaker 1: to up every year or two, you have leases that
Speaker 1: go five, ten, twenty years. So this seems to be
Speaker 1: taking place in slow motion. But it seems like commercial
Speaker 1: real estate is a genuine risk factor, certainly for some
Speaker 1: of the regional and community banks. How should we be
Speaker 1: contextualizing what's been taking place with remote work and work
Speaker 1: from home and the return to office process that still
Speaker 1: has lots of vacancies in urban centers.
Speaker 2: Yeah, I mean I would define it more nearly than
Speaker 2: commercial real estate. I would just find it as office
Speaker 2: building space because that's really where you have very high vacancies, rates,
Speaker 2: very underutilized resource, and prices are coming down, especially for
Speaker 2: you know, class B and Class C buildings, not the
Speaker 2: best stuff coming down quite significantly. You know, you're absolutely right.
Speaker 2: This is sort of a slow burn rather than a
Speaker 2: fast burn, because the problem typically arises, not you know,
Speaker 2: immediately arises when the mortgage has to be the commercial
Speaker 2: real estate loan has to be refinanced. As long as
Speaker 2: the income on the property covers the interest on the loan,
Speaker 2: the borrower isn't going to default when the loan comes due,
Speaker 2: though the lender typically says, hey, your building is worth
Speaker 2: forty percent less than it was before. I'm sorry, we're
Speaker 2: not going to lend you as much money. You need
Speaker 2: to come up with more collateral. And at that point
Speaker 2: the borrow might say, I don't have the collateral. The
Speaker 2: building's yours, and so then that crystallizes in the loss
Speaker 2: for the commercial bank. I think there are definitely commercial
Speaker 2: banks that are going to have trouble due to their
Speaker 2: concentrated commercial office building portfolio, But I don't view this
Speaker 2: as big enough or fast enough to really be you know,
Speaker 2: systemic from a financial stability perspective.
Speaker 1: Huh really interesting. All right. We've talked about the housing market,
Speaker 1: the office spased market. One question we really haven't gotten
Speaker 1: to has been the stock and bond market. They've been
Speaker 1: very chaotic the past couple of years. How does the
Speaker 1: FED think about stock or bond market volatility? How does
Speaker 1: that impact decision making?
Speaker 2: Well, I think, as Paul has said many times, you know,
Speaker 2: monitary policy in the US works through financial conditions, and
Speaker 2: two key components of financial conditions are the bond and
Speaker 2: stock market. So if the bond market eels are low,
Speaker 2: the stock prices are high and rising, that's making financial
Speaker 2: conditions more accommodative and that's actually supporting the economy. So
Speaker 2: the FED is going to take that into consideration. So,
Speaker 2: you know, we talked earlier about why the FED isn't
Speaker 2: moving yet because they want to be confident they're going
Speaker 2: to actually achieve their two percent objective. They're not moving
Speaker 2: yet because the labor market is strong. But they're also
Speaker 2: not moving yet because financial conditions have eased a lot,
Speaker 2: and so the market is doing quite a bit of
Speaker 2: work for the FED. Even before the Fed actually has
Speaker 2: cut interest rates, So the FED, you know, I don't
Speaker 2: think I think it's important to understand that the FED
Speaker 2: doesn't really target financial market prices. So people sometimes say, well,
Speaker 2: if the stock market goes down, the Federal Reserve is
Speaker 2: going to react to that. No, the Fed's going to
Speaker 2: react to the stock market if the FED thinks the
Speaker 2: stock market has gone down far enough, persistently enough to
Speaker 2: affect the real economy to impede the ability of the
Speaker 2: FED to achieve its its inflation and employment objectives. Fed
Speaker 2: doesn't care about the stock market itself. It cares about
Speaker 2: how the stock market affects the real economy.
Speaker 1: So sometimes you get a market crash and the economy
Speaker 1: shrugs it off. Nineteen eighty seven, one day, twenty three percent,
Speaker 1: the economy couldn't care less. And then even the dot
Speaker 1: com implosion, which was modest on the Dow and the
Speaker 1: SMP if you consider thirty percent modest, it was brutal
Speaker 1: on the Nasdaq, which was something like eighty one percent.
Speaker 1: But we had a very mild recession in two thousand
Speaker 1: and one. So does that basically argue for less intervention
Speaker 1: by the FED, or does the subsequent FED intervention. Is
Speaker 1: that what prevented this like A one, from becoming much worse.
Speaker 2: Well, I think one was really you know, also nine
Speaker 2: eleven was really a significant event, and that I think
Speaker 2: provoked a more and more much more aggressive FED. I
Speaker 2: think the Fed, you know, is aware what the bond
Speaker 2: market is doing and where what the stock market is doing,
Speaker 2: because that affects the transmission of monetary policy. The real
Speaker 2: e commy, but they don't have a view that we
Speaker 2: need to target a particular level of the stock market
Speaker 2: or the bond market. That never comes up as an issue,
Speaker 2: you know. It's not like the Fed. You know, if
Speaker 2: the stock market went down ten percent tomorrow, it's not
Speaker 2: like this the Fed would go, oh, we need to
Speaker 2: change monetary policy. If it went down twenty five to
Speaker 2: thirty percent and stayed persistently lower, that would probably have
Speaker 2: implications for the economic growth, and that would then affect
Speaker 2: monetary policy. But it's all through the effects on economic growth.
Speaker 2: Paul has talked about this. It's it's the persistence of
Speaker 2: the change in financial conditions that matters. It's not what
Speaker 2: the stock market does over a day or a week.
Speaker 2: It's what the stock market does over six months or
Speaker 2: a year that really matters.
Speaker 1: So before I get to my favorite questions, I just
Speaker 1: have to ask, really, what you're focusing on today. You
Speaker 1: join the Princeton Griswold Center as a senior advisor, You
Speaker 1: chair the Bretton Woods Committee, you serm on the Group
Speaker 1: of thirty and Council form relations. Are you still doing
Speaker 1: all those actively today? Tell us what's keeping you busy
Speaker 1: these days?
Speaker 2: Those things the Brenton Woods Committee, I'm the chair and
Speaker 2: we've been broadening out the work that we do at
Speaker 2: the Brendon Woods Committee. I mean to just give to
Speaker 2: tell you what the Brenton Wicks Committee is about. It's
Speaker 2: basically dedicated to the notion that international cooperation and coordination
Speaker 2: lead to better outcomes. So along the lines of what
Speaker 2: Paul said in a sixty minutes interview and basically trying
Speaker 2: to build strong international institutions that can facilitate cooperation on
Speaker 2: important issues like you know, financial stability, climate change, digital finance,
Speaker 2: it's health trade where countries working together can lead to
Speaker 2: better outcomes. So the Bretonwitz Committee, uh, you know, we
Speaker 2: it's been growing, the work has been expanding or doing
Speaker 2: work on digital finance, climate finance, sovereign debt future of
Speaker 2: the multilateral of financial institutions like the World Bank and IMF,
Speaker 2: what should their role be going forward. So it's pretty
Speaker 2: exciting and I spend you know, quite a bit of
Speaker 2: time on it.
Speaker 1: What's the Group of thirty?
Speaker 2: Group of thirty is a is a group of people.
Speaker 2: It's a it's a It's an organization that was set
Speaker 2: up several decades.
Speaker 1: Ago of.
Speaker 2: People that are either currently very senior in academia policy
Speaker 2: or we're involved in academy and policy at a very
Speaker 2: senior level. You know, people like Paul Volker was a
Speaker 2: member of the of the Group of thirty. Jean Clautchochet
Speaker 2: is a is a current member of the of the
Speaker 2: Group of thirty. People of you know, Mark Karney is
Speaker 2: is the is the person who's in charge of running
Speaker 2: the Group of thirty from from a member of perspective,
Speaker 2: so a lot of senior people that focus on important
Speaker 2: issues of the day. So, for example, a number of
Speaker 2: months ago, the Group of thirty asked me to lead
Speaker 2: a project on you know, financial supervision reform. You know,
Speaker 2: what we do in terms of the regulatory policy with
Speaker 2: respect to the banking system in light of what happened
Speaker 2: in March of twenty twenty three with respect to Silicon
Speaker 2: Valley Bank and a number of other banks. And in
Speaker 2: January we published a report and we basically argued for
Speaker 2: a number of reforms that need to be made. And
Speaker 2: you know, I've been talking to the people at the
Speaker 2: FED nails. We're trying to get some traction for some
Speaker 2: of the proposals that we've made.
Speaker 1: Really interesting, all right, I know I only have you
Speaker 1: for so much time, so let me jump to my
Speaker 1: favorite questions that we ask all of our guests, starting
Speaker 1: with what's keeping you entertained these days? What are you
Speaker 1: watching or listening to?
Speaker 2: I usually want, you know, stream things to you know,
Speaker 2: television series that strike my fancy, you know right now,
Speaker 2: you know, right now, it's a little bit of a
Speaker 2: you know, sometimes it's a little bit of science fiction
Speaker 2: like Foundation.
Speaker 1: Or are you do you watching the second or third
Speaker 1: season of fa I'm.
Speaker 2: In the second season right Sometimes it's things like poker Face,
Speaker 2: which is on Peacock. Another one I'm watching my wife
Speaker 2: and I now mister and Missus Smith.
Speaker 1: Just started on Amazon, just started, so.
Speaker 2: You know, it's you know, we usually watch one show
Speaker 2: at night and that's us also tolerance. I never It's
Speaker 2: a great way to just errow and wind.
Speaker 1: At the end of the day, I would not have
Speaker 1: pegged you as a sci fi fan. And I'm going
Speaker 1: to give you the two recommendations I give everybody. Okay,
Speaker 1: one is on Amazon Prime, the expanse, which is, Yeah,
Speaker 1: I did I did read. I did watch about five
Speaker 1: five of did you like it? It got a little
Speaker 1: wacky at the end.
Speaker 2: I sartainly ran out of gas after about yeah, fifth season.
Speaker 2: I did watch a lot of a lot of.
Speaker 1: That fascinating political US. And then the other one was
Speaker 1: it's only two seasons altered Carbon It's really good. I
Speaker 1: haven't seen that one. Fascinating story and filled with all
Speaker 1: sorts of really interesting as a sci fi geek, those
Speaker 1: are my two favs. Do you liked? For all Mankind?
Speaker 1: I haven't seen it?
Speaker 2: So?
Speaker 1: That one is.
Speaker 2: About the sort of alternate space race between Russia and
Speaker 2: the US where Russia actually gets a man on the
Speaker 2: moon first, and then it follows sort of the develop
Speaker 2: of the NASA program over the subsequent.
Speaker 1: How is the series? It's quite good? Oh really, I'm
Speaker 1: gonna I'm going to add that to my list. I
Speaker 1: am a soccer for a great space venture. Let's talk
Speaker 1: about some of your mentors who helped shape your career.
Speaker 2: So the most important one, by far, I think, was
Speaker 2: my professor at Berkeley, James PEARSK. He worked at Yale,
Speaker 2: then he went to work at the Federal Reserve Board
Speaker 2: in Washington. He was the social director of research, and
Speaker 2: then he went to Berkeley. And I was his research
Speaker 2: assistant at Berkeley for five years, wow, which is a
Speaker 2: very long stretch as being someone's research assistant. And he
Speaker 2: sort of got me interested in policy and got me
Speaker 2: sort of knowledgeable about what the.
Speaker 1: Federal Reserve was all about.
Speaker 2: And so I think the reason why I went to
Speaker 2: the feder Reserve rather than went into academy is because
Speaker 2: of his counseling. And he became a really good friend.
Speaker 2: But there are a lot of you know, there's a lot
Speaker 2: of other people along the way, but he's the one
Speaker 2: that sort of, you know, stands out.
Speaker 1: Huh. Let's talk about books. What are some of your
Speaker 1: favorites and what are you reading right now?
Speaker 2: Right now, I haven't really gotten into anything particularly that's
Speaker 2: like grabbed me. I just finished Andy Wear's a book,
Speaker 2: Hail Mary I don't know if you've had science fiction one.
Speaker 2: I don't read a lot of science fiction, but every
Speaker 2: once in a while I get a hankering for it.
Speaker 2: I typically read more things that are like thriller detective
Speaker 2: kind of things. But you know, I'm not a I
Speaker 2: took a lot of literaually in college, but I don't
Speaker 2: read a lot of heavy literature now because I usually
Speaker 2: by the end of the day i'm I'm I'm a
Speaker 2: little wiped out and and and to read really good literature,
Speaker 2: it takes it takes focus, takes a lot of attention.
Speaker 2: So I like things like Dennis Lane. I think he's
Speaker 2: he does really good stuff. Uh don Winslow, I know
Speaker 2: the name for sure, it does some.
Speaker 1: Really good stuff.
Speaker 2: Uh So I like the stuff that's like a little
Speaker 2: bit you know better than you know, sort of Lee
Speaker 2: Child's you know a little bit deeper.
Speaker 1: Sure, Lee Child's. My wife is a giant. Lee Child
Speaker 1: read everything.
Speaker 2: Lee Child is entertaining, but every story is sort of
Speaker 2: along the same same lines. So so that's the sort
Speaker 2: of stuff that I like to read, and I read.
Speaker 1: I read a fair amount the sci fi book I
Speaker 1: have sitting on my nightstand that I'm almost afraid to start.
Speaker 1: Is the three body problem, and it's each book is
Speaker 1: nine hundred pages. Three books is it's actually by a
Speaker 1: Chinese author and references. Is the inability to forecast the
Speaker 1: location of heavenly bodies of planets moon stars. We can
Speaker 1: calculate too once you bring a third one in. It's
Speaker 1: just the outcomes. I'll take a look at that. It's fascinating.
Speaker 2: Have you read Tediang. He's a short story writer. He
Speaker 2: writes short story of fiction. He's got two books science fiction.
Speaker 2: It's fabulous.
Speaker 1: What's it's very intellectual stuff. It's he writes. He writes
Speaker 1: sometimes in the New Yorker magazine. So there's a book
Speaker 1: of his. I'm trying to remember. I think he's had
Speaker 1: two volumes of all stories. Yeah, all short stories. The
Speaker 1: movie The Arrival was based on was based on his
Speaker 1: short So the one I just got is Stories of
Speaker 1: your Life and other tells. But the one before that
Speaker 1: is Revelation Ascendancy. Yeah, it's so funny you mentioned that
Speaker 1: literally just and I gave that to a few friends
Speaker 1: for holidays and stuff. Is great because really I'm excited.
Speaker 1: That is like the book I Bring on Planes where
Speaker 1: all I go Now to read. Let me let me
Speaker 1: go through a chapter. Really, and there's this really fascinating
Speaker 1: collection of short stories. I'll never remember it, but i'll
Speaker 1: but I'll email it to you. Diary of an interstellar
Speaker 1: refrigerator repairman, something along those lines. And it's it's brilliant
Speaker 1: science fiction, but it's also surprisingly amusing and funny. It's
Speaker 1: it's out. If you like those, I think you'll you'll
Speaker 1: appreciate that they're not it's not all the same story.
Speaker 1: They're kind of like just very loose set in the
Speaker 1: same universe, but unrelated type of uh stuff, but really
Speaker 1: really fascinating. And our final two questions, what sort of
Speaker 1: advice would you give a college grad who is interested
Speaker 1: in a career in either economics or central banking or
Speaker 1: monetary policy.
Speaker 2: Find an interesting job, build your human capital. You find
Speaker 2: that your human capital is no longer going up at
Speaker 2: a particularly rapid rate, find a new job. I mean,
Speaker 2: I was very lucky because I jumped around in my career,
Speaker 2: and I feel like every place I moved, I learned
Speaker 2: a new set of skills and information which sort of
Speaker 2: helped me do better at the next endeavor. So I
Speaker 2: think it's really important not to get stale and you know,
Speaker 2: and the second really most important thing is find something
Speaker 2: that you that you can be you know, that really
Speaker 2: interests you, that you can be enthusiastic about it. Because
Speaker 2: if you can't go to work and be enthusiastic about it,
Speaker 2: you're not going to do very well and you're not gonna.
Speaker 1: Be very happy.
Speaker 2: I mean, ideally, you know, you like your work, and
Speaker 2: the difference between work and pleasure so starts to blur
Speaker 2: and you don't really aren't resentful when there's more, you know,
Speaker 2: demands for your work. I mean, during the financial crisis,
Speaker 2: you can imagine I worked pretty long hours, but I
Speaker 2: wouldn't have had it any other way. I mean, it
Speaker 2: was absolutely a fascinating period of time, and yeah it
Speaker 2: was work, but but I got a lot out of it.
Speaker 1: My wife describes me as being gainfully unemployed, which is
Speaker 1: exactly along those things. I would do it if I
Speaker 1: was getting paid or not. So it works out really well.
Speaker 1: And our final question, what do you know about the
Speaker 1: world of investing today, markets, investing, monetary policy that you
Speaker 1: wish you knew thirty or forty years ago when you
Speaker 1: were first getting started.
Speaker 2: Well, I mean when I first started investing. I started
Speaker 2: investing in nineteen seventy four, seventy five, and I have
Speaker 2: to say I was so naive about investing at that time.
Speaker 2: I didn't really understand you know, you know what really
Speaker 2: drove stock market evaluation, you know, what determined the success
Speaker 2: of companies. You know, you'll learn a lot by doing it.
Speaker 2: And I personally think a lot of people over overinvest
Speaker 2: in the sense of making transaction. I found over time
Speaker 2: that you know, I have good ideas once every like
Speaker 2: five ten years, and you know you have to wait
Speaker 2: for that good idea to to and then implement that
Speaker 2: investment thesis. You know, well, one thing I'm good at
Speaker 2: it coming out with ideas, but I'm terrible at trading
Speaker 2: on them.
Speaker 1: You know, like Bob Rubin a.
Speaker 2: Number of years ago at Goldman's you know, you know,
Speaker 2: you know, suggested that, well maybe you should, you know,
Speaker 2: should actually start trading things trying try that. I said, no, Bob,
Speaker 2: I don't think my my risk tolerance is right for that.
Speaker 2: And the second reason not to do it is that
Speaker 2: if you start trading things, then it sort of leaks
Speaker 2: into your interpretation of information and events, because then you
Speaker 2: start to talk your book and try to contribute. You know,
Speaker 2: this is the reason why the ten year bond yield.
Speaker 1: Should fall, because well, I have a position.
Speaker 2: I have a position, you know, And I said to me, now,
Speaker 2: you don't really want me to do that, because when
Speaker 2: I wouldn't be very good at it, and then I
Speaker 2: might lose some of my you know, objectivity with quotes
Speaker 2: around it.
Speaker 1: I do like the idea of low frequency trading as a.
Speaker 2: Yeah, I mean, I think for most people, buying an
Speaker 2: ETF on a broad based stock market and then putting
Speaker 2: it away for twenty years is the right approach.
Speaker 1: Can't really just agree, Bill, Thank you for being so
Speaker 1: generous with your time. This has just been absolutely delightful.
Speaker 1: We have been speaking with Bill Dudley. He is the
Speaker 1: former US economist for Goldman Sachs and head of the
Speaker 1: New York Fed, as well as his many policy roles
Speaker 1: at the Federal Reserve. If you enjoy this conversation, well,
Speaker 1: be sure and check out any of the five hundred
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Speaker 1: ten years. You can find those at iTunes, Spotify, YouTube,
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Speaker 1: Twitter at Ridolts. Check out my new podcast At the Money,
Speaker 1: short ten minute conversations with experts about the most important
Speaker 1: elements of your earning money, spending money, and most importantly,
Speaker 1: investing money. I would be remiss if I did not
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Speaker 1: these conversations together each week. Kayla Lapara is my audio engineer.
Speaker 1: Attika val Bron is my project manager. Anna Luke is
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