Dario Perkins on Real Cycle Risks & When the Macro Consensus Gets It Wrong | Global Macro | Ep.95

Summary

• Macro Outlook: Guest is bullish on global growth in the next 6-12 months due to broad policy stimulus in the US, Europe, and China, but warns of late-cycle overheating and renewed inflation risks.
• AI: Skeptical that AI is currently driving productivity or jobs; argues recent productivity gains are cyclical and that the AI narrative is overstated for near-term monetary policy.
• European Defense: Sees defense spending as a growth catalyst for Europe, building a vibrant Aerospace & Defense industry with high-quality manufacturing and technology spillovers, benefiting countries like France and the UK.
• Bonds and Yields: Expects a secular shift to higher highs/lows in yields with a rising term premium, weakening bonds’ equity-hedge properties and creating upside risk to rates.
• Dollar Weakness: Notes global investors are hedging USD exposure amid US policy uncertainty, increasing the risk of a softer dollar as non-US markets improve.
• Europe: Outlook improving with wages outpacing prices, ECB cuts, Germany’s fiscal easing, and positive spillovers across the region; consensus seen as too bearish.
• Asia: Anticipates potential upside surprise from China stimulus versus low expectations, while Japan’s normalization (mild inflation/wage gains) is viewed as a welcome, cautious shift by the BoJ.

Transcript

They're basically trying to recreate what the US has had over the last 50 years, [music] which is that if you can get a vibrant defense industry, you can get, you know, these are highquality, you know, manufacturing [music] jobs, you know, science, engineering, technology. A lot of the sort of big technological breakthroughs of the last 50 years in the US have come [music] from the defense sector. I think Europe can see this as a catalyst for growth and the countries that benefit most at the moment [music] are places like France and the UK which don't have you know particularly good growth story or a good sort of growth [music] consensus. So I think this is a really positive development. [snorts] Imagine [music] spending an hour with the world's greatest traders. Imagine learning from their experiences, their successes and their failures. [music] Imagine no more. Welcome to Top Traders Unplugged. The place where you can learn from the best hedge [music] fund managers in the world so you can take your manager due diligence or investment career to the [music] next level. Before we begin today's conversation, remember to keep two things in mind. All the discussion we will have about investment performance is about the [music] past and past performance does not guarantee or even infer anything about future performance. Also understand [music] that there's a significant risk of financial loss with all investment strategies and you need to request and understand the specific risks from the investment manager [music] about their product before you make investment decisions. Here's your host, veteran hedge fund manager Neils Kstrop Larson. [music] Welcome or welcome back to another conversation in our series of episodes that focuses on markets and investing from a global macro perspective. This is a series that I not only find incredibly interesting [music] as well as intellectually challenging, but also very important given where we are in [music] the global economy and the geopolitical cycle. We want to dig deep into the minds of some of the most prominent experts to help us better understand what this new global macrodriven world may look [music] like. We want to explore their perspectives on a host of game-changing issues and hopefully dig out nuances [music] in their work through meaningful conversations. Please enjoy today's episode hosted by [music] Alan Dunn. Thanks for the introduction Neils. Today I'm delighted to be joined by Dario Perkins. Dario is MD of global macro at TS Lombard. He was previously a senior European economist at ABN and Amro. Previously in his career, he was a senior economic adviser at the UK Treasury where he was uh advising Gordon Brown. Um and Dario, great to have you back. You've been on with us before, but h great to have you back. How are you doing? >> Yeah, it's good to be back. There's certainly plenty to talk about. It's sort of started the year with a sort of storm. >> Absolutely. I I guess uh we'll get into it, but um uncertainty is back as a topic and geopolit politics and tariffs obviously. Um but I I guess coming into the year, you know, uh everybody published their outlook and growth. I mean, I had a quick look at yours yesterday and you seem to be on the more upbeat uh side in terms of the growth outlook uh before I guess the the most recent news came out. Yeah, I mean I'm still, you know, I'm still quite bullish about how the global economy is going to evolve this year. Um, you know, as you said, I mean, I wrote this note at the end of December looking at the sellside consensus for this year, and it was just incredibly boring. I mean, basically, everybody was expecting an exact rerun of what happened last year. You know, similar levels of growth pretty much everywhere. Um, inflation coming down a little bit further, but not quite getting to central banks targets. interest rates going to neutral, these magical neutral estimates that central banks have sort of imagined and yet the bond market's completely bought into because it sees the interest rates staying at those levels forever. And then, you know, when you read those outlooks, they all say the same thing. You know, there are these pockets of vulnerability, but it's all about the K-shaped economy. I mean, if there's one sort of big consensus idea in the world right now, it's this K-shaped economy. the idea that some bits of the US economy are quite hot and doing well, the top of the K, so sort of high income consumers, you know, megate tech, some bits of the K are doing quite badly. Um, but those two things balance out and they give you this sort of beautiful goldilocks environment where all you need to do is think about AI and buy big tech companies. And I just I just don't really buy it. I think either things are going to deteriorate more uh and that bottom of the cave will get worse and we'll sort of slide into a recession or much more likely in my view with all the policy stimulus that's coming in the world we'll actually see the bottom of the case start to recover um and I think global growth will bounce quite strongly this year um a lot of this is about policy stimulus that's coming in the US but also there's a lot of policy stimulus in Europe and in China And I think that people are underestimating that stimulus. My worry which is really for later in the year is that um you know with all this policy stimulus these governments are always also doing things that are damaging the supply potential of their economies. You know the immigration controls in the US are the obvious example of this but there are other countries pursuing similar policies because of the sort of lurch towards populism. And so you sort of have a rerun of what happened after the pandemic, which is that we're putting all this stimulus into the economy, but we're also doing things that are damaging the supply side of the economy. So where do you end up? You end up with an inflation problem. And you know, 12 months ago, I think if people had asked me for a sort of historical parallel, I would have said it looks sort of like the mid '9s. You know, the economy is sort of landing, the inflation problem is going away. um labor markets are rebalancing. It looks a bit like Alan Greenspan's economy in the mid '90s. That was before, you know, we had this sort of lurch again into populism and all of these supply side problems. And now I think this is looking a bit more like the late60s. And if you think about, so I have this period in mind, 1967 to 1969 in the US, which was 1966, you had this sort of recession scare in the US. Um the Fed cut interest rates, but it looked like they delivered this perfect soft landing in the economy. Um but under sort of enormous political pressure to get interest rates down and because they overestimated how much supply potential they had in the labor market, the Fed cut interest rates quite aggressively, the economy started to reacelerate. For a while, for about 12 months, this was a really good narrative. You know, reflation, bullishness, stock markets loved it. yields went down because the Fed was cutting interest rates. But you know within 12 months the inflation problem starts to come back then the Fed has to deal with it and then the environment turns quite toxic. So you know coming into this year I do feel quite bullish about the economy. I I don't think we're going to have an immediate inflation problem, but towards the end of this year and certainly into the next year, I think you can see probably what's going to bring an end to this cycle and you know it will be policy tightening and if we get that policy tightening then I think things like you know worries about AI bubbles and all of that stuff then start to matter much more. Yeah, it's interesting um as you say that parallel between the 90s or the late60s and and there are other parallels as well I guess you know with you know Nixon had price controls and now Trump is tinkering with interest rates and u all manner of things um I guess I mean you talk about stimulus um and you draw a parallel with the pandemic now clearly the amount of stimulus coming isn't of that magnitude but do you see is is the stimulus in the big beautiful bill. Is that what you're talking about or or what where do you see the and how big do you see that stimulus as being? >> Yeah. So, there's there's a few parts to it. So, in terms of fiscal policy, what the Trump administration has done is it's it introduced these tariffs. And the tariffs and we know from the revenue that's been raised were a fiscal tightening of about 1% of GDP. And they passed this budget bill in August which was a 1% easing of GDP. And so a lot of people looked at that and said, well, you know, they're taking away with one hand and giving with the other and those two things balance out and there's no net effect. But what they forgot is that um the fiscal tightening happened immediately and we've already gone through that. You know, there's been that squeeze on the corporate sector in the US that came from these tariffs because they didn't pass them on to consumers. And um the the boost from the tax cuts is actually starting now at the beginning of this year. So what we're doing is we're going from a 1% of fiscal 1% of GDP tightening to a 1% of GDP easing. And remember, if you tighten policy and then leave it alone, that alone, you know, the effect on growth starts to fade. So even if they hadn't had the tax cuts, you'd have this sort of the the, you know, the fiscal impulse would already be turning more positive. But now you have these tax cuts on top of that. And in addition to that, there's this talk about actually giving these tariff rebates. And these tariff rebates, which they were talking about, you know, $2,000 per taxpayer, they're not even tied to, you know, what happens with the Supreme Court anymore. This is just a sort of promise to help the bottom of the K, and it's part of this sort of affordability agenda in the US. So if we get that, that's another one and a half percentage points of GDP. So suddenly going from minus 1% of GDP last year and still recording, you know, 2% GDP growth to potentially, you know, one to two and a half percentage points easing this year. That's big. And on top of that, we've had the the Fed cutting interest rates. You know, it's cut interest rates 150 basis points so far. Probably cut interest rates a little bit more this year. there's going to be enormous pressure on the new Fed chair, whoever that is, to keep cutting interest rates. And if that wasn't enough, you have an administration, as you said, that is sort of moved into the MMT book of, well, let's think about things that we can do to sort of bypass monetary policy and get credit going again. So, you've got, you know, regulatory changes, trying to get the banks to lend. You've got this promise to cap the charge on credit cards at 10%. You've got the whole sort of energy agenda. Let's try and stimulate the the economy while getting energy. I'm not so convinced that bit is going to work. Um but it's part of this. And then you've got, you know, various attempts at sort of stealth QE with sort of issuing debt only at the very short term, buying mortgages. You know, this is this is everything about this policy is all about let's try and run the economy hot. Let's try and get things going. And if you listen to um the Treasury Secretary Scott Besson that gave this 25minute interview on Friday, he was talking about, you know, what do we want in our new Fed chair? We want somebody that's going to do exactly what Greenspan did in the '90s and cut interest rates in order to allow this big productivity boom and we want somebody that can get the rest of the committee to go along with that. They have to have gravitas and be convincing. So clearly, you know, this is all pushing in one direction. This is about running the economy as hot as they possibly can and not worrying about the potential inflation consequences of that because they believe in this sort of AI productivity fairy going to rescue them from any of the the the inflation consequences. So you're right that it's not in terms of magnitude this isn't as big as what happened after the after co but then you know I'm not talking about inflation going to 10%. I'm talking about inflation going the opposite direction to which the universal consensus of the sell side and the buy side think inflation is going to be lower. You know, if you look at the sort of distribution of CPI forecast for the end of this year, there is nobody that can't see inflation not falling. Um there is nobody that doesn't think central banks will be cutting interest rates. So, you know, we're we're very sort of skewed in one direction on all of this stuff. Lots of interesting points to pick up on there. Um the Supreme Court uh productivity, the Fed, um the inflation outlook. Maybe just to close off on the Supreme Court just because that's kind of front and uh center at the moment. Uh I mean, what's what's the market reaction likely to be? How would that play out if they if they do vote down the tariffs? I mean, obviously there are potential other routes for Trump to go down, but how do you see it playing out? And how what's the likely market reaction? >> I don't think there would be a huge reaction. I suspect that if they did vote it down, there'd be a positive reaction um in equities anyway. I'm not sure the bonds would like it because, you know, there has been this fiscal tightening that's come from the tariffs. Um I think they will try to go past it. You know, if you listen to what various members of the administration have said, they already have a plan B. You know, they've already thought through what's going to happen. So, we'd probably move to that quite quickly. I guess you know my one concern about all of this and it and it sort of plays into the um you know the sort of storm that we're having at the moment um in the US which is you these threats of tariffs on Europe is that you know we do need some at some point this uncertainty to begin to fade a little bit because you know as I said I think this reaceleration in the economy is coming but what we don't want is sort of another range another round of sort of stinging tariffs that sort of make businesses reluctant to invest and higher again. >> Yeah. And on Greenland on that, I mean, it it could end up dominating for the next six months or it could go away in a week. It's that kind of thing, I guess. Uh I mean, what do you think? You know, what's likely to come out of Davos or how's it like to play, do you think, in the next 12? >> I think that we'll get the the taco trade once again. You the Trump chickens out again. Um I think that'll probably come quite quickly. um that they'll look for the sort of flimsiest of excuses to uh you know walk some of this stuff back. Um they'll talk about having negotiations and because Europe is going into these negotiations they'll take the tariffs off for a while that sort of thing. Um so I don't think this is going to be a serious problem. I guess one element that does concern me is the sort of global investor response which is I think after liberation day global investors looked at the US and they said you know what the hell is happening you know sort of there were these big question marks about the sort of basic competency of US policy makers and even though Trump chickened out again and again and you that taco trade was this sort of um you know very bullish cry in the US and retail investors loved it in the US. Global investors were still quite nervous about what was happening. You know, these policies were still happening even after the the, you know, the various chickening outs. And you've seen that in the dollar. There's been a nervousness to have dollar exposure. I think we're seeing that again, you know, over the last 48 hours. And it's not that all these global investors are just suddenly dumping their dollar assets, but they've got these exposures and they're starting to hedge them and that's quite dollar negative and this constant succession of examples of incompetence in the US. I just don't think that's helpful if you're a global investor and you do have alternatives now. You know, if we gone back 12 months ago, um I was quite bullish on European stocks, global stocks. I thought the US exceptionalism theme was massively overdone. People got very upset about that. They were shouting at me. They couldn't see past, you know, constant US outperformance and actually you know the US underperformed last year. So in a context where you know your domestic markets are actually doing quite well. I don't think you really need all that dollar exposure. So I think that plays to this narrative as well. >> Yeah. Now, you touched on Bessant's uh remarks about the Fed, and we also had Trump saying um he was leaning towards keeping Kevin Hasset in his um current position because he's such a good defender of the administration, and he does that most days on CNBC, it seems. Um I mean, the prediction markets have been all over the place. Hassid was favorite, Worsh, Waller was favorite at one point, but I guess Worsh is now the favorite. Z or Waller is kind of maybe what the markets might hope for in terms of a credible selection. I mean, how do you see it? Are any others or people like Rick Ryder, even Jamie Diamond was mentioned at one point or are there others out there that that are possibles? >> I mean, right now it looks very much like um Kevin Walsh. Um I think if you sort of I sort of did some sort of game theory on this a few weeks ago thinking well what happens if Hasset comes in you know he's he's going to do he's going to do what the president wants him to do and push for lower interest rates but you know the FOMC as a committee I think there'd be serious question marks about his credibility. I'm not sure that the other members of the FMC would go along with that. So I thought if we got hasset we'd just end up with what was calling the sort of boeification of the Fed which is that we'd have these constant sort of disputes. We'd have huge amounts of you know disagreement and dissent and probably you know a Fed that just couldn't move. It would just be stuck there and that you know that wouldn't be great because markets don't like that sort of volatility and noise and they don't like a sense that that the central bank is powerless to respond to what is whatever is happening. I think um you know Besson is quite smart. I think he's thought about that and he said well you know Hasset is not a great fit for the Fed now because he's not going to be able to carry the rest of the committee and deliver those interest rate cuts. Whereas you know personally I have massive doubts about the credibility of Kevin Walsh as well. But I think you know he has these credentials. He's been at the Fed. Um he was once a monetary hawk. You know he's very skeptical about QE. He talks about shrinking the Fed's balance sheet, crowding in the private sector. A lot of conservative economists love these sorts of ideas, and I think he's probably got a better chance of actually getting the rest of the committee to do what the president wants them to do and cut interest rates. So, I should think that's the reason that they're now moving towards him. Terms of other candidates, um I I don't think it will be Waller. You know, I I think investors would love the idea of Waller doing it because, you know, he wants to cut interest rates, but he wants to do it for the right reasons. You know, he hasn't been talking about productivity fairies and all this other stuff that those other those other Fed >> Fed wannabes are talking about. >> Um, and he's quite credible, but I just don't think he's going to he's going to I think, you know, the big thing for Trump is that um he appointed Pal and if you go back, you know, he regretted it within weeks. you know, within weeks he was saying, "Maybe I've appointed the wrong person." And obviously that's just got worse and worse over time. And now we've got to the point where, you know, he's calling him a and a numb skull and all these other words he's used to describe pal. So I don't think he's going to want to take any chance of doing that again. And I think he worries that maybe Waller would, you know, if the economy did rebound, Waller would probably change his views on interest rates. Whereas from Walsh and Hasset, you've got this narrative of there's this massive productivity boom coming. I'm going to be just like Alan Greenspan. It's a great argument if you want to be on the Fed because it allows you to say, well, I need to cut interest rates, but I'm doing it because the economy is so strong, which is, you know, Waller wants to cut interest rates because he thinks the economy is really weak. That doesn't play to the narrative that everything Trump is doing is fantastic. So, it's difficult to see him coming in. You know, Rick Ryder, I don't know him particularly well. Um, you know, I spent some time sort of researching his ideas. Um, he seems quite consensus in terms of, you know, quite vanilla. He expects pretty much what I said the consensus expected this year, you know, growth to be 2%, inflation to come down towards 2%. He's sort of optimistic on AI, but, you know, I'm not sure that he I'm not sure he's going to capture the president's imagination in the way that has managed to do. And yeah, >> you know, the big thing about Walsh is that um Trump thinks he looks good on TV, you know, sort of >> in love with his boyish good looks. And so that seems to be playing into the arithmetic as well. >> Yeah. Yeah. I mean, you do talk about credibility and obviously Worsh was a a Fed governor before, so it's not not like he's without credibility, but at the same time, he's not a hardcore economist or like Kevin Hassid has the economic academic credentials. and and me Worsh he was at I think was he M&A and Morgan Stanley or something like that before the Fed it wasn't u he is I think he is well connected in in uh Republican circles I think isn't that I think >> he's well connected to the Trump family as well as far as I know okay >> in terms of his wife and and background but I think that that the issue with Hasset is that Hasset has done various things you know there were once a time that Hassam was sort of a vanilla conservative economist like you know another guys. Um, I think that's gone in recent years because, you know, number one, he he apparently came up with a plan to fire PAL, which is not something you do if you value the independence of your central bank. And he's constantly talked about how the statistics are being made up and, you know, they're political. And I don't think you do that if you value the independence of the Fed either. What makes me worried about Walsh is, you know, I'm a little bit skeptical about this productivity story. I think that's a little bit too convenient. And you know, when you hear him talk on TV, it's very much, you know, sort of team Trump. It's as if he's talking for the administration. And I just don't think that's something that you would do if you were truly independent. So, but I get it. You know, I think he can convince the rest of his colleagues to cut interest rates, which is what the job is going to be. >> Yes. >> I just I'm not sure that's coming from an entirely honest place. If you take what Worsh says at face value, you know, he could be problematic for the for the administration down the line in ter, as you say, balance sheet reduction. How does that play out? We're talking about a a an administration that needs to see its uh uh deficit finance and and Wars has these views which um it's not clear exactly how they would be enacted. I mean is it I mean in this excess reserve world is balance sheet reduction even feasible or plausible? I mean is it just hot air or do you think he has a phil is there a potential you know sea change here at the Fed in terms of how they operate? >> No I mean it's it's sort of playing to the narrative of you know the Fed has become too woke. It's too involved. Um we need to trim it back. You know I think Besson and Trump love that idea. Yeah. Um the issue is that if you look at what um Walsh is actually saying, it doesn't make a lot of sense. You know, the idea is that the the balance sheet has got so big that it's crowding out private investment and if you could cut the balance sheet, you could reduce interest rates. Now, that sort of runs against the narrative that most people have believed over the last few years that if the balance sheet gets big, it suppresses interest rates and causes investment to get too strong. I think the only way you can sort of reconcile what Walsh is saying is if there's an implicit demand for fiscal tightening because then the argument is you you tighten up um the the government's fiscal position that allows the Fed to to reduce its balance sheet at the same time interest rates will go down. you then crowd in the private sector and that's been a you know a popular story with Scott Besson as well who keeps sort of channeling reubinomics of the 90s because that's exactly what happened in the it wasn't about the balance sheet but it was about um years of fiscal tightening during the '90s under Clinton and Robert Rubin and the and Greenspan basically accommodating that by cutting interest rates so you delever the public sector and relever the private sector and every opportunity Besson talks about this so there's this sort of narrative out there which is you get Kevin Walsh at the Fed, you get Scott Besson at the Treasury, you get this supply side Clintonlike economics. The difficulty is that the real the revealed preference in all of this is the opposite. You know, there is no sense in which this administration is tightening fiscal policy. Everything is going in the opposite direction. And so, you know, if Walsh isn't going to get the fiscal tightening that this seems to be based on, there's no chance that he's going to be able to sort of reign in the Fed's balance sheet. So, it's all a sort of fantasy. You know, I can't see any of this happening. I think this is just a fantasy and um you know, I think that all we're going to do is we're just going to end up having lower interest rates, running the economy hot, and eventually having, you know, some consequences from that. >> Yeah. I mean you he has as you say uh been suggested a belief in the productivity boom similar to the the '9s the green span era. Um obviously you know at a high level you could draw the parallel but things are quite different. um like in the 1990s you had the kind of capex on the internet spend but it was the prior kind of um I suppose investment in PCs and the greater adoption of PCs that was driving the the productivity boom and obviously the boom was very apparent growth was over 4% I think towards the end of the 90s we're not quite there yet but I mean AI and productivity the last couple of quarters the GD the productivity numbers have picked up a bit so has raised hopes that Maybe it's starting to that to kick in. To date, it's been more anecdotal. I think it's fair to say, you know, what what do you think is driving the most recent pickup in productivity? And uh is it reasonable to expect AI to to to to be having a meaningful effect at this stage? >> So, I'm a massive AI skeptic, but we can get into that. In terms of the recent productivity data, I think this is just an entirely cyclical story. I think what's happened is that we we had the pandemic for a while. We had these massive labor shortages and then companies went on this huge hiring spree where they were just desperate to get workers in and they didn't care about the efficiency of those workers. It was just about getting people in the door. And then you come into this year um those labor shortages have gone. You get all of these tariffs, you get all of this uncertainty, you get this margin squeeze that comes from the tariffs and the fact that companies are reluctant to pass these on because they're worried about the shape of the economy. And so what happens is that they just stop hiring and they start to force efficiency gains on their workers. And they can do that because of the fat in the system that's grown up. Now I think there has been an acceleration in productivity that started before the pandemic which is about this sort of tighter labor market and a you know and a hotter economy. So I think I do think you are getting some productivity from that but I think that is mainly a sort of cyclical story about where the labor market is and I would be you know very cautious about expecting the productivity numbers of the last two quarters to just continue indefinitely. I think if activity does accelerate in the way that I'm expecting, I think companies are going to have to start to hire again rather than just, you know, keep trying to squeeze these efficiency gains out of their staff. In terms of the AI story, you know, firstly, I think there's massive question marks about how much AI is going to boost whole economy productivity. Um, you know, it did in the you did get this sort of productivity boom in the late '9s. I think it's going to be quite hard to replicate that. I think that people that work in this industry or in the tech sector have a slightly distorted view about what the rest of the economy does. You know, most people do not work in industries where AI can just replace what they're doing. You know, they work in the NHS or or in the supermarket, you know. So I I think there there are question marks about you know this sort of massive labor shedding that people talk about. But my big problem with this whole AI productivity story, let's do another Greenspan story which you're getting from all of these wannabe Fed chairs right now is that it's just not an honest description of what hap actually happened under under Alan Greenspan. Because what happened on Alan Greenspan is that you got to sort of 1995 1996 and Greenspan starts to think that productivity has improved but this isn't being recorded in the official statistics. So he says to the rest of the staff, you know, let's hold off raising interest rates. Let's see how this is playing out. You know, I think there's this productivity boom happening and I don't think we should be raising interest rates. And a big part of that story was that you had this traumatized worker, this idea that, you know, workers were getting replaced. So they weren't demanding big increases in wages. So all of this productivity was going into profit margins and lower prices. I think that that basic story turned out to be wrong because even though it was true that productivity was accelerating, what really happened is that wages actually followed. So from 1995 to 1996, you get this acceleration in productivity in the US, but you also get this acceleration in wages and profit margins actually go down. So the idea that you had a traumatized worker that couldn't demand wage increases turned out to be wrong. And even the way that Alan Greenspan reacted to this story changed. So in 1995, 1996, this was a reason to be doubbish. We don't need to raise interest rates. Maybe we can cut interest rates. By 1999 2000, he started to think that all of this um investment was actually pushing up the neutral interest rate, the sort of R squared number that central banks are again enamored with. And he argued that this was a reason for actually raising interest rates that you had too much investment. The economy was starting to overheat. He believed in all of these wealth effects as well. And so he pivoted quite hard and became a hawk on all of this stuff. And you know these Fed officials today or wannabe Fed officials you know for their own sort of convenience are saying well let's do what Alan Alan Greenspan did in 1995 but they're forgetting the 1999 version of Alan Greenspan which was very different and I think what this shows you is there's this there there are big question marks about how this all plays out >> because in the first instant there's a question about how much productivity will actually improve as a result of AI. There's then a question of will this go into wages or will this go into profit margins and if it if it goes into profit margins is that going to allow companies to cut their prices or are they just going to keep raising their prices and allow their profit margins to go up in which case there's no deflationary effects and then you have this question of if all this investment is happening and all these AI data centers are massively energy intensive shouldn't that cause equilibrium interest rates to go up >> this is a really complicated story it's something that we're going to have to monitor over time. But this very simple narrative of oh look the AI fairy is here let's just cut interest rates is just not true. >> But you're right. I mean that is the the theory is higher productivity is a higher trend growth and a higher um neutral rate you know as you say and then but there is a time uh timing dimension to it. Um but um yeah I mean what sorry one of the things that struck me is uh I went back to the last minutes just because I hadn't been following them so closely to see what's the Fed saying about this. Nothing. I mean productivity I think the word productivity I think twice in in the last minute. So it's clearly it is something that's preoccupying the minds of the markets and these Fed candidates but not hugely the Fed. I think the last press conference um pal said he referenced he says yeah I can see how it might have an impact I use chuck GBT a bit myself or something like that but it doesn't appear like the Fed is really grappling with this as as an as a kind of an ideological issue at the moment is that fair to say >> I think so and I think that part of the reason for that is that the Fed doesn't really engage in the sort of memeomics that we seem to be subject to these days which is that there are these narratives out there which which are just not true, which you know appear all over Twitter and on social media. And one of the big narratives of last year was that the only reason the US economy was a was growing or avoiding recession was because of all this AI investment and AI was the only thing that was propping up the economy. And that story just wasn't true. It wasn't true at all. Um and if you look at the sort of contribution of AI capex to GDP, there was one quarter where it was sort of outsized contribution mainly because everything else was so weak because it was you know it was the just around liberation day where the economy just froze for 3 months. But as a story as a whole um the impact of of AI was trivial, you know, really not a big economic driver. And so the idea that this was driving productivity is just not true. but also the idea that we're seeing massive job losses, which is another story that's all over social media. You know, AI is already generating job losses. Look at what's happening with new entrance. You know, the unemployment rate for, you know, 17 to 24 year olds is rising rapidly. And that and the narrative is that that's all because of AI. And again, it's nothing to do with AI. What's really happening is you have an economy where companies are reluctant to hire, but they're not firing anybody either. And for most age groups, those two things balance out. You don't get fired, but you don't you don't get hired either. So, you're just sort of stable. Um, but if you're coming out of school or university and going into the jobs market and there's no hiring, naturally, the unemployment rate of those groups will go up. But it's not because of AI. It's just maths. That is just mathematics. It's nothing to do with AI. And so I think that um there is this massively overinflated story about what macroeconomic impact AI is actually having on the economy. And if you're a policy maker, this sort of AI question is sort of interesting, you know, for the next sort of 5 years. How is this going to play out? How should we respond? But it isn't the thing that's driving your interest rate decisions right now. Unless you know you want to join the Fed and come up with a good reason for cutting interest rates that isn't I'm really worried about the economy cuz Trump's tariffs are causing all this destruction. [music] You presented your kind of more upbeat case and we did touch [music] on Chris Waller. I mean Waller has been at the forefront in calling for for lower rates on on kind of on the weak labor market at least going back over the last 6 months. not not as much as um Steve Moran, but but he's kind of been in that direction. I mean, where would you where would you disagree in terms of the e economic outlook with them to to say Chris Waller who's seems to have got it pretty right in the last kind of one to two years? >> I think it's on the labor market. So, I think that um Chris Waller is quite concerned about the state of the labor market. I think you know we haven't seen any job growth in the US for 6 months. That is incredibly rare outside of recessions. And by incredibly rare, I mean it's literally never happened before. Yeah. >> Um you know, typically once uh the US economy stops adding jobs, it sort of breaks below this stall speed and then you know, trips over into a recession. And you know that's the sort of whole basis of the idea there is this stall speed in the economy. Um you know once you get growth below a certain level things just sort of deteriorate nonlinearly. And you know there's definitely historically been this reflexivity you know when companies start to lose jobs that hits confidence hits spending feeds back into profits leads to more rounds of redundancies. I mean that I think is the definition of a recession that exact dynamic in the labor market. And so I think you know some Fed officials have looked at the state of labor market and said you know we are really dangerously close to stall speed here. if this was a normal economic cycle, we'd probably be headed for a recession. Um, this is something that we need to, you know, guard against and cut interest rates. And I think they look at their mandate and say, well, you know, which part of the mandate is likely to spiral against us. You know, is it inflation or is it jobs? And I think their view is it's all about jobs. But I think they're just misreading what's happening in the labor market. I think the weakness in the labor market is all about this this policy uncertainty. I think companies have been reluctant to hire. I don't think they've needed to hire because of this fat in the system that's allowed them to push these efficiency gains. And so I think you know as the sort of demand comes back and confidence comes back I think companies will start to hiring again I think we'll bounce away from this store speed. And I also think a big part of this weakness is the labor force because you know if you've got these very stringent um immigration policies and your you know net immigration is probably negative uh you know including sort of illegal immigration I think the labor force isn't growing and so um you know I I think it makes it that much harder to sort of trigger stall speed. The other reason I don't worry about the labor market too much is I don't think there's anything fundamentally wrong with the economy. You know, typically um that stall dynamic happens because there is something quite profoundly wrong. You know, you've got some big misallocation of resources or you've got some big credit bubble in the system and then you know the the labor market stalls because that bubble is bursting and then as it bursts you get this sort of big deterioration. I don't see that right now. You know there's no overinvestment. um you know maybe big tech is spending too much on AI but as I said that's not a massive macro story um I think if you look at the corporate financial position is basically balanced you know typically that's in deficit and the deficit is getting bigger ahead of a recession there's no obvious credit bubble you know credit hasn't really cycled for the last 15 years since the global financial crisis we've deleveraged a long way so I just don't see anything fundamentally wrong I think we've had a we've had a sort of wreck reckless administration that's been doing all of this stuff that is, you know, producing a degree of chaos and uncertainty and that's been the thing that has prevented hiring. Um, but I don't think it's enough to tip the economy over. >> Good stuff. I mean, curious to get your thoughts on bond markets. I mean, US markets have been very stable. Um, you know, I guess you've had, you know, different uh forces. On the one hand, the deficits have been high and rising. At the same time the Fed's been easing and the curve steepened. Um outside the US we have seen this trend of high yields continuing very notably in Japan even in Germany at the long end. What's your read on the US markets and I guess if your scenario plays out this year of of a resumption of growth presumably risks to the upside for yields. >> Yes. So my view on bonds for a while has been that co would mark this sort of secular turning point in yield. So we've been on this you know secular bull market with yields coming down. It was you know 20 years of you know lower lows and lower highs and yields and I felt that co would mark that turning point and we'd now be in a world of higher highs and higher lows over time. Uh and I think that's basically playing out. I think part of it is a resilience story. So the fact that you know all of these central banks raised interest rates they did it much more than people expected. nothing really went wrong, you know, nothing broke. The economy has proven to be quite resilient. I think we've had a bond market that for sort of three, four years has played with this idea um that maybe there's going to be a recession. So, you've had these drops in yields, but then the recession hasn't materialized and yields have rebounded. I think that's very much where we are. Um I think about yields in sort of three components. So you think about real yields, inflation expectations and the term premium. And I think real yields are, you know, about right. I don't worry too much about that. Inflation expectations, the market, you know, expects an era where inflation is slightly above target as opposed to being slightly below target. Again, you know, that's something I agree with. That's something I've been saying for a number of years now. That sort of basic tendency of inflation has changed, but not in a particularly alarming way. It's all about the term premium. And I think you look at the term premium now, we have the same term premium that we had at the end of the 1990s. Now the 1990s, you know, we did get the rubomics. We did get, you know, we were running budget surpluses by the end of the 1990s. We had a decade of supply improvements. We had, you know, rapid um globalization. You know, tariff barriers coming down everywhere, collapse of the Soviet Union. um you know all of those were the sorts of environments that would push the term premium down. So it's slightly concerning to me that we have that same term premium now even though all of that is going in the opposite direction. You know that the fiscal deficits are staying bigger. Um governments are playing a much more activist role in the economy. Um we've got a series of negative supply shocks whether that's immigration or trade barriers or whatever. you've got the potential for, you know, continued disruption to supply chains, from geopolitics and all of that stuff. To me, um, that that's all upside for the term premium. You know, I struggle to see how the term premium could come down. I think it's much more likely to rise over time. And I think that's the thing that's going to drive yields higher over time. And to me, the term premium is all about the sort of basic insurance properties of bonds. You know, for a long time we're in this really nice dynamic where inflation and growth just moved together. You know, they went up together, they went down together. It gave you this beautiful negative correlation between bonds and equities. And you know, that meant that bonds had this really strong insurance property. Um, particularly if you could trust into the Fed and the independence and all of that stuff. I think if you're in a world where you start to think more about supply shocks and you've got these doubts about the credibility of the Fed for the reasons that we've explained, uh I think that sort of bond equity correlation starts to change. And it's not that it's going to be positive all the time like it was in the 1970s, but it's just not going to be as negative as it was on average. And there's going to be periods like the last couple of years where that correlation will be positive. And if that's the case, you know, bonds aren't such a good equity hedge anymore and the term premium has to widen because the term premium is like the insurance fee on holding bonds. >> So what I mean practically what could that mean? I mean obviously we've tenure yields have been stuck around 4.1 four and a quarter%. Uh I think we've touched above maybe touch at 5%. Do you see could you see them going above there at some point? I mean, I can definitely see another 100 basis points on the term premium which would push up the whole the whole curve. I think that's the risk here. I just think everything is pushing in that direction. You know, at the moment, you know, we've talked a lot about Fed independence and you know, whoever gets the the job, I don't really trust them at this point. you know, the fact that um you they've sort of threatened J Pal doesn't scream that the next Fed chair is going to be completely independent because that surely will be on their mind. You know, if I don't do if I didn't do what Trump wants me to do, where am I going to end up in jail? You know, do I want to go to jail or do I want to cut rates? So, you know, there are these questions. I don't think that's really playing into market dynamics right now. I think that for most people, this is a sort of theoretical discussion. They don't know who the next Fed chair is going to be. They don't know that what the economic outlook will be. You know, if we've got a recession, it will be easy for the Fed to cut interest rates. Nobody have anything to do with independence. I think if I'm right, the economy starts to reacelerate, that's when this stuff starts to matter again because then you get into questions, well, you know, is the labor market tightening up? And if the labor market is tightening up, shouldn't the Fed be raising interest rates? And if the Fed is still talking about cutting interest rates, why, you know, why are they doing that? That's when these independence questions start to matter a lot more. And we've obviously seen this kind of strong bond market reactions in Japan of late. Uh just looking at it here, Japan tenure yields were up to just under 2.4% and obviously for a long time Japanese yields were zero or negative and then started to move up, you know, 2023 or so. I mean for a long time people thought okay big sell off in the JGB market rising yields that would unwind the yen carrier trade we'd get a big surge in the end that hasn't happened it seems to be more Japanese bond market weakness being associated with a weekend is is that the new dynamic or are we waiting for something to break with respect to Japan or how do you read it? Yeah, I mean I've never really bought into the argument that um you know sort of Japanese buying is distorting the term premium in the US or keeping yields artificially low. So I think that link between US yields and US and Japanese yield was always a bit overstated. You know I never really bought into that story. I think you can explain the term premium as I have done with sort of macro fundamentals rather than you know flows or you know uh sort of what do they call it sort of savings glass and those sorts of arguments. Um you know I regard what's happening in Japan as as sort of bullish in the sense that you know for the last 30 years Japan has struggled with this deflationary trap and they finally seem to be out of it. um you know they've got this mild wage price dynamic which is not anything alarming you know this is a sort of normalization um that deflationary psychology is gone um one of the big takeaways I think you do have from this is that demographics is not deflationary you know that was the consensus before the pandemic that aging populations would give you ever lower bond yields I always thought that story was wrong and I think this demog this demographic inflection point in Japan is actually pushing yields higher and at the moment I regard this as sort of normalization. You know the Japanese economy is gradually normalizing. The Bank of Japan is pushing up interest rates. I think you know they will they will be quite cautious in doing that because they don't want to get a sudden appreciation of the end which is the thing that's always killed them in the past you know when they've tried to raise interest rates. Um but I think this is a welcome dynamic and the same story for Europe. You know you asked about Europe as well. Um, you know, I think for a long time Europe was obsessed with this idea that it was turning into Japan. You were going to get this deflationary dynamic. We had, you know, years of ECBQ. We had years of negative interest rates. You know, if negative interest rates aren't a sign that something's gone profoundly wrong, I don't know what is. And, you know, we've sort of emerged from the pandemic with a much more healthy labor market. you know, it's a higher pressure labor market is generating wage growth that's allowing all of these central banks to, you know, move interest rates higher. I think that's a pretty good dynamic and I don't get the sense that it's going too far. And, you know, I I think even the sort of fiscal concerns about those countries are a bit overdone. Um you take Germany you know Germany is going to do what 2% of GDP and fiscal easing this year but it's happening against you know a backdrop where only 12 months ago everyone was obsessed with the prospect of de-industrialization and some sort of German depression. >> So you know there's plenty of um spare capacity in Germany. Um I don't think that fiscal stimulus is going to go into inflation. I think it will go into growth and that's probably good news from the perspective of the ECB given you know what it's thought it was facing a decade ago. Now certainly um Germany has obviously taken dramatic steps in terms of the debt break and their announcements around um infrastructure spending and defense spending. You mentioned kind of the stimulus at the start of the of the conversation in in Europe as well. So presumably that's what you're talking about. I mean, from a European perspective, um, do you think that's going to see a like a notable change in the growth outlook this year? Like listening to the ECB at the back end of last year, it seemed to be I saw Isabel Schnabble speaking. She was saying risks were now tilting more to the upside for inflation and and rates. Uh, is that your read as well? >> Yeah, I think so. I think that people are much too bearish still in Europe. I think there's a sort of, you know, I talked about meomics. There's definitely a meomics about Europe which is it's that sort of image of um you know rockets landing in the US versus the bottle top in Europe being attached to the bottle you know this is European technology this is US technology I think that um you know Europe has emerged from co in a pretty good position I think you know they've got um you know much better labor market higher pressure labor market is creating wage wage growth I think it will create productivity Um I think there's plenty of pent up demand. You look at savings rates, they've been quite high in recent years. I think that people looked at um you the European economy postco and they were just too bearish because they were forgetting that Europe faced you know a series of really nasty shocks. You know we had um that period where inflation was running at like 15% and wage growth was running at 2%. So you had this enormous squeeze on real incomes which was never nearly as bad in the US. You had a global manufacturing recession for 3 years because you know coming out of the pandemic everyone was buying goods. They then rotated into services. So you got a manufacturing recession on the back of that. If you were a company in Germany or France or you know even Asia um this was effectively a global recession that you were facing and you had this massive monetary squeeze. you know the ECB and the Bank of England they chased the Fed in raising interest rates and they tried to sort of out hawk the Fed but the issue was that most of US debt is tied to you know long-term and Europe has huge amounts of variable rate debt particularly on the corporate sector so if you looked at the squeeze that was engineered by interest rates going up it was much greater uh in Europe than it was in you know in the US or some of these other countries and all of these factors have now unwound. You know, wages are outpacing um prices. So, the cost of living crisis is gone. Um you've got um you know, the ECB has cut interest rates much more quickly than Fed. Uh and has got back to what they think is neutral. It's probably fair. I mean, I don't put a lot of weight on neutral rate estimates, but it seems like credit is flowing again. It seems like the construction sector is starting to turn and um you know that sort of manufacturing recession the the inventory overhang is gone. The uncertainty from the tariffs is clearly weighing but eventually you know that dissipates too. So I think that you could see a pretty good boost coming to Europe with or without the fiscal spending and now you've got the fiscal spending on top. Now you know that fiscal spending is pretty significant. Um the fact that it's coming in Germany is also significant because it means that Germany can't lecture the rest of Europe about the need for austerity which is how it spent most of the 2010s. And one of the things people missed and I looked at consensus forecast for Europe for this year and they were basically assuming that you'd get this acceleration in German GDP which was just a sort of fiscal story. Um but they were missing the fact that everybody in Europe their biggest export partner is Germany. So if Germany, you know, does reacelerate, that is really positive news for France, Italy, you know, all of these European countries, the UK, and so I think they're missing, you know, potential spillovers from this to the rest of Europe. So, you know, I think particularly compared to the consensus 12 months ago, which was all about de-industrialization and this, you know, really sort of quite bleak outlook for Europe. I think there's a really positive story here. And I even think if if you look at this longer term, you know, one of the push backs I get from investors is, well, what's the point of defense spending? You know, you're just buying bombs and recruiting soldiers. And even here, I think this they're sort of missing the point because if you if you're as sad as me and you read these sort of European policy documents on what they're trying to do here, they're basically trying to recreate what the US has had over the last 50 years, which is that if you can get a vibrant defense industry and the emphasis is on industry, you know, rather than just the army, you can get, you know, these are high quality, you know, manufacturing jobs, you know, science, engineering, technology. A lot of the sort of big technological breakthroughs of the last 50 years in the US have come from the defense sector. I think Europe can see this as a catalyst for growth and the countries that benefit most at the moment are places like France and the UK which don't have you know a particularly good growth story or a good sort of growth consensus. So I think this is a really positive development. >> So I mean does that will that be enough to address the budgetary issues in the likes of France? Obviously, you know, they've been struggling to to pass a budget for a while. Obviously, deficit levels and are are, you know, high. The the kind of the old master criteria have been brushed aside because they've been too hard to to adhere to. Um, is that was that a story for last year unlikely to be a story for this year, do you think, or how do you read that? >> I don't even think it was a story for last year. I think it was a story in sort of punditry for last year. I don't think it was a big story in terms of markets. Um, I think it's quite hard to get excited about European fiscal anymore because firstly, I think stronger growth helps, but it's more about the sort of dynamic. You know, I know there's this sort of PTSD from the Euro crisis, but it's just really hard to get that dynamic again because at the heart of the Euro crisis, there was this question about a backs stop for the system. And I I remember, you know, 2011, 2012, 2013. Every conversation with global investors was where's the backstock? You know, is it going to be Germany? Is it going to be the ECB? The Germans didn't want to do it. The ECB didn't want to do it. You know, Trice was sort of reluctantly buying bonds. And at that time, it was basically a one-way bet against these countries because if you um you know, dumped Italian bonds, the spreads would rise. um it would sort of it sort of it would demand more austerity or the Germans would demand more austerity as a solution to that. It was completely unsustain sustainable. So the odds of one of these countries quitting the euro intensified. So it become this sort of self-fulfilling one-way bet. And there were a lot of hedge funds, you know, from the US and the UK that were playing that one-way bet. And then when Draghi came in and said he'd do whatever it takes to stop this, it stopped. the one-way bet became symmetrical. You know, if you were shorting these bonds, there was a good chance the ECB would come in and blow you up with their unlimited balance sheet. So, nobody was interested anymore. And I personally, I think since then, I've just not found European politics interesting at all because I don't think it's a market story. And so, you know, I can't see those sorts of dynamics coming back because I think the ECB has understood that it is part of its role as a sort of modern central bank to be this backs stop that it has to protect monetary transmission. So, you know, I just don't think this is going to be a big story again, this sort of euro crisis dynamics. The only way in which this becomes relevant to markets again is if you end up with some anti-EU, you know, government that actively wants to pursue the end of the euro or leaving the euro and then you've got a serious political crisis. And at that point, it doesn't matter what the ECB does because they can't backs stop a government that wants to leave the currency. But right now, that doesn't seem likely. >> Fair enough. Um, just conscious of the time. I mean we haven't talked about China at all. Um and obviously I mean China's been recovering gradually from its own adjustment kind of the the the property downturn and uh we've had various stimulus measures and and but I suppose the the big debate around China has been its orientation of trying to export its its fisc what its trade surplus its excess capacity to the rest of the world and that being a uh push back by obviously in some places like like the US and also with some tariffs in in Europe. I mean, how do you see that getting resolved over time? Is that a sustainable simply it's not a sustainable model for China, but is that going to be a pressure point in the system? I think they realize now quite seriously that they have to rebalance their economy away from exports. I think they've realized that there can't be a sort of China shock 2.0 zero because the rest of the world doesn't want to absorb that spare capacity in the way that they did after the original China shock. You know, I think if you go back to the early 2000s, economists were quite naive about this stuff. You know, they thought that trade was sort of unambiguously good and, you know, cheap stuff was good and and I think that consensus has changed. And I think certainly, you know, as soon as we started to see these EVs and stuff coming out of China, I think you've seen this sort of um reaction from the rest of the world. You know, the tolerance for that, isn't there? Um, you know, I'm I mean, I was bearish on China for a long time, you know, back in the sort of mid 2010s. You could see that this was basically the biggest credit bubble in history. Um, and although there was this sort of stopgo policy, they were just adding huge amounts of leverage to the system. And you could see that in the end um that was going to affect growth in a really big way. You know, I never thought that China would have a sort of Leman moment. U but I thought that you couldn't completely cheat the rules of economics and eventually you get this sustained slowdown. That's definitely what we've seen over the last few years. I just think now um the pressure is growing um for China to restimulate the economy. Uh again, you know, I think the consensus has given up on this idea. So, you know, the consensus forecast is just that this year will be weaker than last year for China. If you look at sort of credit or, you know, infrastructure spending or any of that stuff, nobody's expecting anything. They've completely given up on the idea of Chinese stimulus. So, compared to expectations, I think there's, you know, reasonable chances of a positive surprise here. Uh, and, you know, I do think they're going to be willing to spend more. you know, we're not going to get the enormous fiscal splurges that we had in the 2010s because they've seen that that can be quite dangerous. But they've also realized that they've got to get the economy growing again. So, we're sort of, you know, we're reacelerating, not just 10% growth rates, but, you know, compared to consensus expectations, plenty of room for positive developments. >> Good stuff. So, it sounds like overall some reasons for optimism. um growth maybe, you know, not as as boring as the consensus is suggesting. And uh I mean that's all assuming I guess that this Greenland stuff blows over reasonably soon. Is that is that fair summation? >> I think so. You know, if we're going to get some massive escalation in the trade war, then that changes things. But, you know, so far everything we know about Trump is that taco usually kicks in quite quickly and the tolerance for pain isn't there. And, you know, ahead of the midterms in particular, this is all about getting the economy growing again. And it goes back to this K-shaped economy. You know, there's this sort of naive investor belief that the K-shaped economy is just going to persist indefinitely, but politically it doesn't work. You know, you can't have particularly when you've come in on a populist agenda. >> Yeah. And so, you know, they need to get the bottom of the K to recover. And my concern is that once you've got a recovery in the bottom of the K, the top and the bottom no longer canceled each other out and you've no longer got this Goldilocks environment. So, you know, I I think this is a bullish environment. You know, I'm quite optimistic on stock markets, global stock markets. Um, I think that's going to be the dominant story for the next six months. All I'm saying is that I think you can also see for the first time how this cycle is actually going to end. Maybe that's a story towards the end of this year, maybe that's a story for next year. Um, but I think this overheating dynamic is, you know, probably cuts the cycle short. So, you know, bullish, but not bullish in the sense that this is just like 1995 where this can continue for the next five years thanks to the productivity fairies. >> Yeah, good soul. Well, appreciate you coming on and people can follow you and your comments on X. I think they're fairly uh active there still and uh combative I think at times as well with some some participants. But always great to get your thoughts. >> The thing is I'm not I don't really get into arguments with people on on X. I really I tend to be quite critical of policy makers and it's not about politics, you know, I I'm critical of all policy makers. You know, I've been just as critical of the Europeans as I have about the Trump administration. I just think, you know, these are the sort of masters of the universe and, you know, we should be free to criticize them when we think they're going in the wrong direction. [gasps] Absolutely. But always always appreciate your uh your frankness on on that side. So, um, thanks for coming on uh from all of us here on Top Traders Unplugged. Stay tuned. We'll be back soon with more content. Thanks for listening to Top Traders Unplugged. If [music] you feel you learned something of value from today's episode, the best way to stay updated is to go on over to iTunes and subscribe to the show so that you'll be sure to get all the new [music] episodes as they're released. We have some amazing guests lined up for you. 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