Economic Boom Or Crash Next? Turning Point Reached | Bloomberg’s Anna Wong
Summary
Market Outlook: Guest projects a strong US recovery into 2026 driven by five tailwinds: easing trade-policy uncertainty, modest fiscal impulse, easier financial conditions, AI momentum, and cyclical rebound.
AI: Hyperscaler AI capex is expected to support GDP through 2026, while large-firm AI adoption boosts productivity and temporarily softens hiring, enabling continued monetary accommodation.
United States: She argues a recession already occurred in 2023-24 and the US is now in recovery, with small and mid-sized business hiring improving and new business formation tied to AI.
Federal Reserve: The Fed’s reaction function has turned more dovish (effectively tolerating inflation above 2%), likely cutting with core PCE near 3% and potentially hiking in 2027 if inflation stays elevated.
Inflation & Tariffs: Core PCE is seen rising toward ~3.3% by end-2025; importers absorbed most tariff costs and only ~30% passed to CPI so far, but pass-through could increase as recovery strengthens.
Credit Conditions: Regional-bank jitters and subprime auto stress are viewed as contained with delinquencies peaking; private credit remains a key risk, with the Fed backstop pivotal to limiting contagion.
Consumer Dynamics: A K-shaped economy persists—top 20% wealth effects and AI-led investment prop up growth while lower-income consumers face strain; equities and AI capex reinforce the expansion.
Transcript
The economy should be in recovery mode. Now we have seen that many things actually bounce back. I could come up with five total reasons for why we are optimistic that 2026 would be a year where the economy would be would be firing in all cylinders. So there five tailwinds. Number one, >> I'm very pleased to welcome back to the show Anna Wong. She's the chief US economist at Bloomberg Economics. And Anna has been on the show several times in the past. I think Anna, this is the first time I've had you on in a while. Welcome back, Anna. Good to see you. >> Happy to be here again. >> Happy to have you back. Um I've had your colleague uh Mike Mcloone on several times. We've been talking about how gold has been running up. You were telling me offline how people are bullish on gold. Um I'll ask you about that towards uh later on in the interview and I'll ask you why people are perhaps moving away from dollar denominated assets. But first, let's get your outlook on the economy. You were previously quite bearish on growth prospects on the US economy when I spoke with you last. Tell us about how you're feeling now. >> Yeah, I think we have finally turned optimistic. Um, so my view in 2023 2024 was mostly driven by uh my read of the labor market that first of all uh doing a straight read of uh non-farm payroll is wrong. it'll lead you to the wrong direction because of the overstatement in the monthly print from this birth death model. So that was the reason why I was uh bearish in the last two years because I think the underlying pace of monthly monthly uh uh hiring net hiring was very actually very weak. Um so uh that's in the past and um so we saw from the preliminary um benchmark revision that BLS puts out before uh the enter into shutdown that um the job statistics in 2024 may have to be revised down by 9 911,000. Right? So that was uh one reason why we were bearish uh last year. But if you if you believe that in fact uh the labor market was not hiring, in fact we had a couple negative jobs print last year, meaning that the recession has already happened. Uh then the economy should be in the um recovery mode now. So our view is that there was a recession that started last year and uh it went into a double dip that this year when there was all those all all those policy shocks uh in the beginning of the Trump ad administration with the trade policy uncertainty a doge so the trade the tariff shock itself is about a 1 percentage point fiscal contraction and we think that the lowest point in the trough uh for for activity was actually around June of this year. So since then when we looked at a large collection of statistics we have seen that many things actually bounced back. Um when we look at alternative jobs data uh I know you're going to ask me about the labor market situation later but I just jump into that. So you know most of the alternative labor market data out there are a bias towards small and medium-siz businesses and you know in the last 2 three years small to mediumsiz businesses could not hire people. They are outbided by these large firms and they could not offer the the benefits and the wage growth. So now when the labor market actually has some slack the small and medium mediumsiz businesses they're actually hiring. So based on those uh alternative data, we estimate that in fact uh hiring by these uh smaller to mediumsiz businesses were around 75,000 to even 150,000 per month in the last two months. Um so um second actually I could come up with five total reasons for why we are optimistic that uh 2026 would be a year where um the economy would be would be firing in all cylinders. So there five uh tailwinds. Number one um uh trade policy uncertainty. So trade policy uncertainty peaked in the first quarter of this year and ever since has been coming down really sharply. And so when I was at the Fed, my colleagues uh estimated a uh investment model based on trade policy uncertainty. And I believe that the peak drag of trade policy uncertainty last about 3 to four quarters and after that it will subside. And so basically that would say that the uh policy shock from trade earlier this year is peaking around now. And so by middle of next year the effect that would dominate would be the improvement from you know winding down on on of this trade policy uncertainty which should unleash some of the pentup investment. Second tailwind fiscal. So I mentioned that the tariff is equivalent to about 1 percentage point contraction fiscal contraction this year. Well, next year the one big beautiful bill would be uh generating an equivalent of uh 0.4 percentage point expansionary fiscal impulse uh by second quarter of next year. Third financial conditions. So the Fed Federal Reserve Board puts out um a uh theoretically constructed um financial conditions index that actually uh is in a unit of uh growth impulse. So as of the end of August, the financial conditions index is actually equivalent to generating a growth impulse of 0.5 percentage point in the year to come. So since the end of August, financial conditions have only eased further. So that I think it's basically uh easy financial conditions is generating a growth impulse of probably up to 1 percentage point uh next year. Um why do we have easy financial conditions? On one hand, you have a entirely independent AI story happening. It's lucky for Trump that all this policy experiment coincide with the AI boom that has been supporting everything. But really the the a very key part of easy financial conditions is the Fed. And you know in fact if I have to pick all the all of the possible tailwind for the economy the most important is the Fed. Um and we have estimated that the Fed's reaction function has shifted in a dovish direction. It is as if their inflation target is no longer 2% but 2.8%. So given that the Fed is acting as if it will tolerate inflation uh permanently higher than 2% um and if you look at the the Fed's um uh projection they have uh core PCE inflation above their 2% mandate for um about 8 years before it closed the gap. So this means that that I think the Fed would be um you know pretty accommodative to all this you know growth impulse. Fourth, I mentioned the AI. Um, the AI is an interesting thing because not only is there that's there the element of how much capex can the hyperscaler continue to make and based on their announced plans, we could see uh at least uh for the capex to be um positively contributing to GDP throughout 2026. But I think another um aspect of AI is that we see large firms now adopting AI tools and that has led to slow down and hiring in large firms and productivity, labor productivity improvement and how that translate to macro statistics is primarily number one is uh higher unemployment at least in the short term and that would keep the Fed uh from raising rates even though inflation would be going above 3%. Because of this concern that this beginning of the labor uh market is, you know, something something that could become nonlinear when what it is is really it's a productivity and AI story that's that's um causing you know a pretty subpar labor market at least in the short term. Um so that reinforces the rate cuts uh which is also great for investment and AI capex. Finally um the fifth and last factor is just a cyclical recovery from two or three years of um already um uh activity that's actually support. Uh partly we are seeing that um for example the birth and death uh model that that has contributed to labor statistics overstatement. Well we are seeing business formation surging so far this year and it seems like many of the new business formations are related to AI. So it's certainly in a uh when you see surging business formation usually that is not telling you you're about to fall into a recession rather it's telling you you're exiting from a recession or you're you know going into a new business cycle. Another thing is this credit cycle. Now we uh as we are speaking we just saw problems with two regional banks last week that you know led to some jitteries u among investors over whether the credit cycle in the US is about to worsen. Well when you look at um credit cards delinquencies, consumer loans delinquencies, auto delinquencies, the peak actually has passed. Um, and if you look at the longer time series of how these delinquency rates behave, they always peak during the recession and it only falls after a recession has ended. So all those delinquencies are telling you that the worst is over and even with with regards to credit. So uh so I think all this means that 2026 at least this this um party has uh at least one more year to run. >> Before we jump back into the video, let's talk about something most people ignore. Online privacy. Now your personal information isn't just sitting on your phone or email. It's being scraped, bought, and sold by data broker websites every day without your permission. Our sponsor today, Delete Me, helps you take that control back. They scan the internet for your exposed information, send you regular privacy reports, and remove your data from hundreds of broker sites so it can't be used against you. Take mine for example. In the latest report, they reviewed over 325 listings to see if any data brokers had my personal information, and they continue to check every week to ensure that it stays off. Go to joindeleteme.com/davlin and use the promo code davidin at checkout link down below or scan the QR code here on the screen and you'll get 20% off of all US plans. Take control of your privacy today before somebody else does. What happens to inflation once everything starts to recover. We're already at 2.9 headline CPI right now. concern is that we could go even higher than that and the Fed will be forced to put things on pause so to speak in terms of their pivot strategy that may slow down growth. >> Yeah. So um I mentioned that a key part of our uh optimistic story is the role that the Fed will play in in accommodating all these things. So our forecast is for core PCE to hit 3.0% 0% at the end of this year and heading to only upwards next year. So um we have the unemployment rate peaking at 4.4% in the first quarter of next year which means that the core PCE would fall to perhaps 2.9 or 2.8% 8% in uh Q1 but then thereafter would continue its upward trend finally reaching about 3.3% by the end of next year. Now I mentioned that the reaction function of the Fed uh when we reestimate it, it looks like they are okay with um higher inflation for a more sustained period because they perhaps because they're embracing the transitory inflation argument again. Um so I think that they would accommodate uh inflation up to a little bit above 3% especially if unemployment rate were to keep trending up and this is the the whole thing of why AI actually and and the um labor market impact from AI which is reducing hiring actually is very bullish for the economy because it keeps the the Fed from responding to the inflation. part of the MA mandate and you know squarely focus on the weakening labor market fundamentals and however we do see the Fed hiking in 2027 as a result of inflation going above 3.3% next year >> and the Fed will still be inclined to cut rates at a time when the inflation rate is around 3% which is a whole percentage higher than their target >> because the unemployment rate is climbing. Not not because Trump is making them. >> Well, at this point, it's kind of uh indistinguishable who is doing what. I mean, when we estimated the new uh Fed reaction function, we found that the dovish tilt actually began in middle of 2024. That coincided with the trough of inflation as well. when you look at inflation, it bottomed in around June of 2024 and thereafter has been going up. Um, so this this doish pivot in the Fed actually preceded Trump. So there were 50 bips to lose last year and at the end of this year with 50 bips of cuts to go, they're going to be about 75 bips to lose by the end of this year. the five uh pillars or I guess reasons for why you're turning bullish. Uh those are all a gradual sort of evolution of data throughout this year and last year. At what point this year did you decisively turn more bullish and why? >> Yeah. So first of all um seeing the bottom in the labor market, why do I think why do I think we saw the bottom in the labor market? So we rely on um an alternative data uh provider named home base to forecast our uh jobs estimate and we have been very accurate throughout the last 12 months. So strangely in the last four or five months that model we rely on consistently uh was too optimistic about um the non-farm payrolls and so I think whereas last year if if you um uh look if if you don't do any adjustment uh to the non-farm payroll the homebased data would suggest everything is much weaker than the official non-farm from payroll. But this year the picture is flipped. So this forecast error which is persistently on the positive side makes me think that in fact small businesses are coming out of two or three years of blue blues, small business blues. Um and so that's one reason. Second, I'm you know many of the five factors that I mentioned reflect some sort of economic modeling in the background. knowing how each of these five variables affect the economy and basically all of these shocks, negative shocks to growth happen this year. Do you know David, it's very rare even in the worst of kind of financial crisis could a uh uh negative GDP growth or recession last beyond three quarters. Like when you think about 2008 and even looking at Russia, you know, uh when it was sanctioned by the US economy back in, you know, I think 2014, a contraction, uh after the contraction, you you start to feel everything rebounding because things just cannot keep contracting for more than three quarters. And we definitely saw a weakness starting uh third quarter of last year extending to fourth quarter of last year. In fact uh the weakness begin around April or May of last year and then we had another you know very serious shock in the first uh second quarter of this year. So all this cyclical uh uh changes suggest that there is a very big uh recovering force especially when the Fed seems that it seems to have very little willingness to go against Trump or to be hawkish. >> I remember uh two years ago when you were on the show we were talking about were warning us about what the Airbnb collapse or the lack of rentals at Airbnb would signal for growth. Um, how has that changed now over the last 2 years? In other words, are consumers spending money on discretionary travel and goods right now? >> No, they are not, David. If not Airbnb, it's not doing well. This is the um, so I think implicitly what you're asking is this K-shaped economy. You know, people are now talking about and how there's half and half in this economy. On one hand, you have the top 20% of the household who own most of the stocks and they are happy because they have the u they're enjoying this rally. On the other hand, you have the bottom 50% who have student loans, who have uh uh car loans, uh uh grocery prices are high and they're just not doing well. And moreover, many of these um government transfers that they could relied on during the Biden administration is no longer the uh if they don't pay back the student loans, their wages will have to be garnished pretty soon. Um and many of these state and local government um uh you know, transfers that they receive from the federal government are also expiring this year. So you know I I think that um how but whether these uh these would uh translate into uh a drag on growth depends on how uh systemic they are in the economy. So by what what I mean is I see these um the half not part of this economy as more of a financial stability risk as opposed something that would knock off the GDP growth. Uh because the GDP growth right now is driven by investment AI investment and wealth effect. Um as long as those two two key support of the economy keeps going they could reinforce each other. the wealth effect stock market AI but then the have not you know we've seen recently triricolor uh um imploding and then first brand both are related to autos uh triricolor is related to suprime auto loans and so you look at the details of what caused these you know small tiny cockroaches running around as Jamie Diamond would would say for the I'm auto. >> Well, he he warned last week that uh the two regional banks are cockroaches and and that there may be more, right? Um and these are I think the triricolor first brands and the two um regional banks are causing some uh discomfort among people who are normally more bullish because you don't know what's hiding or lurking behind. And the reason why I am well um I'm cautiously uh sanguin about this is when you look at the details of what caused these um subprime uh auto delinquencies, they are the people who bought cars in 2022, they are the people who were probably taking out going on Airbnb vacations in 2022 but no longer in 2023. Um so in fact auto delinquencies uh the most predictive factor for going delinquent on an auto loan is your month the size of your monthly payment and between 2020 and 2022 used cars went up by 30%. And thereafter used car prices came back down. So, and we know also that in uh the people who were buying cars in 2023 and 2024, their credit score were much better than the ones who bought cars in 21 and 2022 with the government checks and most likely the those are the same people who also were uh taking up the forbearance from student loans also. So now those things are coming due. But if you do believe that the credit profile of uh car loan uh borrowers in after 2022 has improved which I think is is indeed true then uh autos delinquency should be should have already peaked which according to the data we see it has indeed already peaked and usually um uh these delinquency rates peak inside a recession and they only fall after a recession is over and now across these you know consumer loans, credit cards, auto delinquencies, all of them have peaked and has been falling in the last quarter or two. So, where I'm going with this is I'm wondering how resilient or fragile this economic boom or growth, should I say, is going to be because if the top 20% um hold the majority of stocks and they're happy right now, well, they will be presumably unhappy if the stocks do correct for whatever reason. Those people, according to some economists, are going to spend less if the capital markets see a downturn. And then that's how you get a recession. It's not from, you know, the stock markets aren't going to correct from a recession. It's the other way around is what some people say. Do you agree with that? >> Well, I I agree with the uh exact mechanics. So indeed, it's true that the top 20% account for a larger uh are the marginal spender. So what decisions they they when they decide to rein in their spending you will get that um uh impact on GDP growth. But the question is will they I mean um if we have this so who which one is chicken and the egg which which one is it who who's who's the priming force and I have to go back to the Fed as long as the Fed is cutting rates I could see this K-shaped economy sustaining uh um well I would I would take you back to um um an academic paper actually u that try to explain why treasury rates was uh secularly going down in the 2000s. One um explanation is inequality. You know, inequality actually means a lower R star. And that is because uh of that mechanism you just described. The wealthy people, they have a lower marginal propensity to consume because they tend to save more. And whereas uh the people who are not as well up, they live paycheck to paychecks and their saving rates is doesn't move that much. They b they basically doesn't save that much. And if you give them extra stimulus checks, they spend it. Right? So, so if the savings is concentrated in the wealthy, the wealthier people are getting wealthier, what you should be seeing is that the saving rate in the country should be higher. I mean, giving given the propensity to consume and which is why worsened inequality tends to mean lower R star. So I think you know as long as the Fed is uh has adopted this new doubbish posture being excessively dovish in fact then uh I'm not saying that they made the right policy choice but it's the choice that they seem to have made uh then uh this economy could keep going. Going back to your earlier point about how the labor market has bottomed. Um, last year you told me that the unemployment rate could stabilize around 5% and then go back down uh sometime in 2026. Are you still maintaining the 5% target? We're still right now at 4.3%. >> No, we have lowered it from 5 to 4.4 uh for uh for 4.4 around uh Q1 Q2 next year. And uh the reasons why we have lowered uh our unemployment rate forecast is number one um the immigration crackdown was uh larger than we thought and this led to a tighter labor market. That's number one. Uh number two the wealth effect that this uh a and this AI boom you know just came out. So the AI boom started really showing up in macro data in the first quarter of this year. So we calculated that AI related capex contributed 1 percentage point for in of the 1.6% average growth in the first half of this year. So that is um uh that is much larger than we thought. And finally, one assumption that uh changed which I held last year which um which I think is diff uh which is very different today is the Fed. So last year I thought that the Fed being intrinsically uh uh more uh biased against the Trump administration would held rates higher for longer because of their fear of tariffdriven inflation. Not that not that we predicted tariff would lead to high inflation this year. Uh we were actually one of the few groups that didn't see the tariff as driving up inflation this year. But more because I think the Fed would have misjudged the uh uh inflationary pressure and therefore they would held on to uh rates throughout until the very end of this this year. But it turned out that they capitulated uh faster than I thought. And they uh um whether this is a reflection of the pressure from Trump or from um you know just the soft landing Powell that Powell just really desire a soft landing. uh I don't know but but the the point is that their reaction function has clearly shifted in a dovish uh direction. >> Um let's end on tariffs now. Uh the effect of tariffs on economic growth. Have we already seen that play out or is there going to be a lag effect? And I asked this because Trump is still threatening a 100% tariff on China set to take place on November 1st if he doesn't cancel that before November 1st. And um I'm wondering whether or not uh going back to my question, tariffs will have um an immediate impact on economic growth if they do escalate or have we already seen that impact um play out? >> We have uh only seen part of it play play out. So um so when you think about how tariff uh shows up in various price measures in the economy first it comes through imports. So import prices is is where you look at these things and what we see is that importers bear almost 95% of all of the tariffs. So basically the US side is taking the brunt of the tariff. Then the next question is did these importers pass on all these costs to manufacturers, wholesaler, retailers, all the intermediary firms um or and did these intermediate firms pass on the cost ultimately to CPI. So, so we look at the CPI and we have seen that um for every $1 increase in tariff there's about.3 so 30 cents of increase in consumer prices which means that almost 70% of the tariff cost are absorbed some somewhere between the end point of the consumer prices and the import prices. So it's it's absorbed through profit margin compression of the intermediate firms. Um now in the earnings uh Q2 earnings we have not seen um much evidence of firms profit margin compression though you have seen some of these uh consumerf facing companies like Home Depot uh Target talk about cost increasing. Um but at the same time um I think that um tariff pass through is not a static thing. It's really about pricing power. And this year um the as I said the the tariffs is equivalent to a tax hike of that's generating 1 percentage point contractionary fiscal shock. So there's just no uh pricing power because consumers are experiencing a massive income shock. So where firms will find better pricing power is in a recovery when things are improving and when consumers are feeling more willing to spend. So this is why I do think we didn't think there would be a too much pass through this year. But the story is not over. The story will continue next year and next next year especially if the economy is will be firing in all cylinders in 2026. It will mean that many firms will want to pass through those tariffs next year. >> Final question Anna before we go. What would change your mind again and make you more bullish or bearish? Sorry. More bearish. More bearish. >> Yeah. >> Um I think the the key unknown is the credit market. I I I explained why I didn't think that uh there's a massive amount of cockroaches hiding in the kitchen because of the you know how we how how we look at auto delinquencies. Um however um who knows um usually usually these balance sheets shenanigans do not come up to service until one thing go bust and it turns out that there's more linkages between that thing to another thing and private credit is a very shadowy corner of the market. Um so um and then if something happened in the credit space that lead to a stock market popping so one thing leads to another credit market spills to the equities market then if we are seeing a you know a widening of these uh contagion then I would I would change my mind. Um the Fed could also of course as I said the most important thing is what the Fed will do. So suppose that the Fed uh make a policy mistake by not responding to these market events and we're too slow. Recall that when Silicon Valley Bank uh imploded, the Fed was very quick to offer liquidity, right? And that was what made that period of turbulence very brief and then suddenly everything was fine again. So at the end of the day, it is the Fed's response. Even if you have a big credit shock, as long as the Fed uh the Fed put is there, then it will be a very shortlived type of shock. So really at the end of the day is the the Fed what if the Fed suddenly turned hawkish for whatever reason, but it's kind of hard to see the Fed turning hawkish right now absent a really shockingly big inflation print. Okay, Anna, thank you very much for uh this uh report. We'll uh we'll follow up soon and see what happens in quarter four of the remaining of the year. Thank you very much again. Where can we follow you? >> Uh you can find me on uh X my handle is Anna Economist. Also, you can find us on the terminal uh Bloomberg terminal. If you go to BECO, you can find our writings. >> Okay, very good. Thank you very much. We'll see. We'll see you next time. And don't forget to follow Anna link down below. And don't forget to subscribe to this channel.
Economic Boom Or Crash Next? Turning Point Reached | Bloomberg’s Anna Wong
Summary
Transcript
The economy should be in recovery mode. Now we have seen that many things actually bounce back. I could come up with five total reasons for why we are optimistic that 2026 would be a year where the economy would be would be firing in all cylinders. So there five tailwinds. Number one, >> I'm very pleased to welcome back to the show Anna Wong. She's the chief US economist at Bloomberg Economics. And Anna has been on the show several times in the past. I think Anna, this is the first time I've had you on in a while. Welcome back, Anna. Good to see you. >> Happy to be here again. >> Happy to have you back. Um I've had your colleague uh Mike Mcloone on several times. We've been talking about how gold has been running up. You were telling me offline how people are bullish on gold. Um I'll ask you about that towards uh later on in the interview and I'll ask you why people are perhaps moving away from dollar denominated assets. But first, let's get your outlook on the economy. You were previously quite bearish on growth prospects on the US economy when I spoke with you last. Tell us about how you're feeling now. >> Yeah, I think we have finally turned optimistic. Um, so my view in 2023 2024 was mostly driven by uh my read of the labor market that first of all uh doing a straight read of uh non-farm payroll is wrong. it'll lead you to the wrong direction because of the overstatement in the monthly print from this birth death model. So that was the reason why I was uh bearish in the last two years because I think the underlying pace of monthly monthly uh uh hiring net hiring was very actually very weak. Um so uh that's in the past and um so we saw from the preliminary um benchmark revision that BLS puts out before uh the enter into shutdown that um the job statistics in 2024 may have to be revised down by 9 911,000. Right? So that was uh one reason why we were bearish uh last year. But if you if you believe that in fact uh the labor market was not hiring, in fact we had a couple negative jobs print last year, meaning that the recession has already happened. Uh then the economy should be in the um recovery mode now. So our view is that there was a recession that started last year and uh it went into a double dip that this year when there was all those all all those policy shocks uh in the beginning of the Trump ad administration with the trade policy uncertainty a doge so the trade the tariff shock itself is about a 1 percentage point fiscal contraction and we think that the lowest point in the trough uh for for activity was actually around June of this year. So since then when we looked at a large collection of statistics we have seen that many things actually bounced back. Um when we look at alternative jobs data uh I know you're going to ask me about the labor market situation later but I just jump into that. So you know most of the alternative labor market data out there are a bias towards small and medium-siz businesses and you know in the last 2 three years small to mediumsiz businesses could not hire people. They are outbided by these large firms and they could not offer the the benefits and the wage growth. So now when the labor market actually has some slack the small and medium mediumsiz businesses they're actually hiring. So based on those uh alternative data, we estimate that in fact uh hiring by these uh smaller to mediumsiz businesses were around 75,000 to even 150,000 per month in the last two months. Um so um second actually I could come up with five total reasons for why we are optimistic that uh 2026 would be a year where um the economy would be would be firing in all cylinders. So there five uh tailwinds. Number one um uh trade policy uncertainty. So trade policy uncertainty peaked in the first quarter of this year and ever since has been coming down really sharply. And so when I was at the Fed, my colleagues uh estimated a uh investment model based on trade policy uncertainty. And I believe that the peak drag of trade policy uncertainty last about 3 to four quarters and after that it will subside. And so basically that would say that the uh policy shock from trade earlier this year is peaking around now. And so by middle of next year the effect that would dominate would be the improvement from you know winding down on on of this trade policy uncertainty which should unleash some of the pentup investment. Second tailwind fiscal. So I mentioned that the tariff is equivalent to about 1 percentage point contraction fiscal contraction this year. Well, next year the one big beautiful bill would be uh generating an equivalent of uh 0.4 percentage point expansionary fiscal impulse uh by second quarter of next year. Third financial conditions. So the Fed Federal Reserve Board puts out um a uh theoretically constructed um financial conditions index that actually uh is in a unit of uh growth impulse. So as of the end of August, the financial conditions index is actually equivalent to generating a growth impulse of 0.5 percentage point in the year to come. So since the end of August, financial conditions have only eased further. So that I think it's basically uh easy financial conditions is generating a growth impulse of probably up to 1 percentage point uh next year. Um why do we have easy financial conditions? On one hand, you have a entirely independent AI story happening. It's lucky for Trump that all this policy experiment coincide with the AI boom that has been supporting everything. But really the the a very key part of easy financial conditions is the Fed. And you know in fact if I have to pick all the all of the possible tailwind for the economy the most important is the Fed. Um and we have estimated that the Fed's reaction function has shifted in a dovish direction. It is as if their inflation target is no longer 2% but 2.8%. So given that the Fed is acting as if it will tolerate inflation uh permanently higher than 2% um and if you look at the the Fed's um uh projection they have uh core PCE inflation above their 2% mandate for um about 8 years before it closed the gap. So this means that that I think the Fed would be um you know pretty accommodative to all this you know growth impulse. Fourth, I mentioned the AI. Um, the AI is an interesting thing because not only is there that's there the element of how much capex can the hyperscaler continue to make and based on their announced plans, we could see uh at least uh for the capex to be um positively contributing to GDP throughout 2026. But I think another um aspect of AI is that we see large firms now adopting AI tools and that has led to slow down and hiring in large firms and productivity, labor productivity improvement and how that translate to macro statistics is primarily number one is uh higher unemployment at least in the short term and that would keep the Fed uh from raising rates even though inflation would be going above 3%. Because of this concern that this beginning of the labor uh market is, you know, something something that could become nonlinear when what it is is really it's a productivity and AI story that's that's um causing you know a pretty subpar labor market at least in the short term. Um so that reinforces the rate cuts uh which is also great for investment and AI capex. Finally um the fifth and last factor is just a cyclical recovery from two or three years of um already um uh activity that's actually support. Uh partly we are seeing that um for example the birth and death uh model that that has contributed to labor statistics overstatement. Well we are seeing business formation surging so far this year and it seems like many of the new business formations are related to AI. So it's certainly in a uh when you see surging business formation usually that is not telling you you're about to fall into a recession rather it's telling you you're exiting from a recession or you're you know going into a new business cycle. Another thing is this credit cycle. Now we uh as we are speaking we just saw problems with two regional banks last week that you know led to some jitteries u among investors over whether the credit cycle in the US is about to worsen. Well when you look at um credit cards delinquencies, consumer loans delinquencies, auto delinquencies, the peak actually has passed. Um, and if you look at the longer time series of how these delinquency rates behave, they always peak during the recession and it only falls after a recession has ended. So all those delinquencies are telling you that the worst is over and even with with regards to credit. So uh so I think all this means that 2026 at least this this um party has uh at least one more year to run. >> Before we jump back into the video, let's talk about something most people ignore. Online privacy. Now your personal information isn't just sitting on your phone or email. It's being scraped, bought, and sold by data broker websites every day without your permission. Our sponsor today, Delete Me, helps you take that control back. They scan the internet for your exposed information, send you regular privacy reports, and remove your data from hundreds of broker sites so it can't be used against you. Take mine for example. In the latest report, they reviewed over 325 listings to see if any data brokers had my personal information, and they continue to check every week to ensure that it stays off. Go to joindeleteme.com/davlin and use the promo code davidin at checkout link down below or scan the QR code here on the screen and you'll get 20% off of all US plans. Take control of your privacy today before somebody else does. What happens to inflation once everything starts to recover. We're already at 2.9 headline CPI right now. concern is that we could go even higher than that and the Fed will be forced to put things on pause so to speak in terms of their pivot strategy that may slow down growth. >> Yeah. So um I mentioned that a key part of our uh optimistic story is the role that the Fed will play in in accommodating all these things. So our forecast is for core PCE to hit 3.0% 0% at the end of this year and heading to only upwards next year. So um we have the unemployment rate peaking at 4.4% in the first quarter of next year which means that the core PCE would fall to perhaps 2.9 or 2.8% 8% in uh Q1 but then thereafter would continue its upward trend finally reaching about 3.3% by the end of next year. Now I mentioned that the reaction function of the Fed uh when we reestimate it, it looks like they are okay with um higher inflation for a more sustained period because they perhaps because they're embracing the transitory inflation argument again. Um so I think that they would accommodate uh inflation up to a little bit above 3% especially if unemployment rate were to keep trending up and this is the the whole thing of why AI actually and and the um labor market impact from AI which is reducing hiring actually is very bullish for the economy because it keeps the the Fed from responding to the inflation. part of the MA mandate and you know squarely focus on the weakening labor market fundamentals and however we do see the Fed hiking in 2027 as a result of inflation going above 3.3% next year >> and the Fed will still be inclined to cut rates at a time when the inflation rate is around 3% which is a whole percentage higher than their target >> because the unemployment rate is climbing. Not not because Trump is making them. >> Well, at this point, it's kind of uh indistinguishable who is doing what. I mean, when we estimated the new uh Fed reaction function, we found that the dovish tilt actually began in middle of 2024. That coincided with the trough of inflation as well. when you look at inflation, it bottomed in around June of 2024 and thereafter has been going up. Um, so this this doish pivot in the Fed actually preceded Trump. So there were 50 bips to lose last year and at the end of this year with 50 bips of cuts to go, they're going to be about 75 bips to lose by the end of this year. the five uh pillars or I guess reasons for why you're turning bullish. Uh those are all a gradual sort of evolution of data throughout this year and last year. At what point this year did you decisively turn more bullish and why? >> Yeah. So first of all um seeing the bottom in the labor market, why do I think why do I think we saw the bottom in the labor market? So we rely on um an alternative data uh provider named home base to forecast our uh jobs estimate and we have been very accurate throughout the last 12 months. So strangely in the last four or five months that model we rely on consistently uh was too optimistic about um the non-farm payrolls and so I think whereas last year if if you um uh look if if you don't do any adjustment uh to the non-farm payroll the homebased data would suggest everything is much weaker than the official non-farm from payroll. But this year the picture is flipped. So this forecast error which is persistently on the positive side makes me think that in fact small businesses are coming out of two or three years of blue blues, small business blues. Um and so that's one reason. Second, I'm you know many of the five factors that I mentioned reflect some sort of economic modeling in the background. knowing how each of these five variables affect the economy and basically all of these shocks, negative shocks to growth happen this year. Do you know David, it's very rare even in the worst of kind of financial crisis could a uh uh negative GDP growth or recession last beyond three quarters. Like when you think about 2008 and even looking at Russia, you know, uh when it was sanctioned by the US economy back in, you know, I think 2014, a contraction, uh after the contraction, you you start to feel everything rebounding because things just cannot keep contracting for more than three quarters. And we definitely saw a weakness starting uh third quarter of last year extending to fourth quarter of last year. In fact uh the weakness begin around April or May of last year and then we had another you know very serious shock in the first uh second quarter of this year. So all this cyclical uh uh changes suggest that there is a very big uh recovering force especially when the Fed seems that it seems to have very little willingness to go against Trump or to be hawkish. >> I remember uh two years ago when you were on the show we were talking about were warning us about what the Airbnb collapse or the lack of rentals at Airbnb would signal for growth. Um, how has that changed now over the last 2 years? In other words, are consumers spending money on discretionary travel and goods right now? >> No, they are not, David. If not Airbnb, it's not doing well. This is the um, so I think implicitly what you're asking is this K-shaped economy. You know, people are now talking about and how there's half and half in this economy. On one hand, you have the top 20% of the household who own most of the stocks and they are happy because they have the u they're enjoying this rally. On the other hand, you have the bottom 50% who have student loans, who have uh uh car loans, uh uh grocery prices are high and they're just not doing well. And moreover, many of these um government transfers that they could relied on during the Biden administration is no longer the uh if they don't pay back the student loans, their wages will have to be garnished pretty soon. Um and many of these state and local government um uh you know, transfers that they receive from the federal government are also expiring this year. So you know I I think that um how but whether these uh these would uh translate into uh a drag on growth depends on how uh systemic they are in the economy. So by what what I mean is I see these um the half not part of this economy as more of a financial stability risk as opposed something that would knock off the GDP growth. Uh because the GDP growth right now is driven by investment AI investment and wealth effect. Um as long as those two two key support of the economy keeps going they could reinforce each other. the wealth effect stock market AI but then the have not you know we've seen recently triricolor uh um imploding and then first brand both are related to autos uh triricolor is related to suprime auto loans and so you look at the details of what caused these you know small tiny cockroaches running around as Jamie Diamond would would say for the I'm auto. >> Well, he he warned last week that uh the two regional banks are cockroaches and and that there may be more, right? Um and these are I think the triricolor first brands and the two um regional banks are causing some uh discomfort among people who are normally more bullish because you don't know what's hiding or lurking behind. And the reason why I am well um I'm cautiously uh sanguin about this is when you look at the details of what caused these um subprime uh auto delinquencies, they are the people who bought cars in 2022, they are the people who were probably taking out going on Airbnb vacations in 2022 but no longer in 2023. Um so in fact auto delinquencies uh the most predictive factor for going delinquent on an auto loan is your month the size of your monthly payment and between 2020 and 2022 used cars went up by 30%. And thereafter used car prices came back down. So, and we know also that in uh the people who were buying cars in 2023 and 2024, their credit score were much better than the ones who bought cars in 21 and 2022 with the government checks and most likely the those are the same people who also were uh taking up the forbearance from student loans also. So now those things are coming due. But if you do believe that the credit profile of uh car loan uh borrowers in after 2022 has improved which I think is is indeed true then uh autos delinquency should be should have already peaked which according to the data we see it has indeed already peaked and usually um uh these delinquency rates peak inside a recession and they only fall after a recession is over and now across these you know consumer loans, credit cards, auto delinquencies, all of them have peaked and has been falling in the last quarter or two. So, where I'm going with this is I'm wondering how resilient or fragile this economic boom or growth, should I say, is going to be because if the top 20% um hold the majority of stocks and they're happy right now, well, they will be presumably unhappy if the stocks do correct for whatever reason. Those people, according to some economists, are going to spend less if the capital markets see a downturn. And then that's how you get a recession. It's not from, you know, the stock markets aren't going to correct from a recession. It's the other way around is what some people say. Do you agree with that? >> Well, I I agree with the uh exact mechanics. So indeed, it's true that the top 20% account for a larger uh are the marginal spender. So what decisions they they when they decide to rein in their spending you will get that um uh impact on GDP growth. But the question is will they I mean um if we have this so who which one is chicken and the egg which which one is it who who's who's the priming force and I have to go back to the Fed as long as the Fed is cutting rates I could see this K-shaped economy sustaining uh um well I would I would take you back to um um an academic paper actually u that try to explain why treasury rates was uh secularly going down in the 2000s. One um explanation is inequality. You know, inequality actually means a lower R star. And that is because uh of that mechanism you just described. The wealthy people, they have a lower marginal propensity to consume because they tend to save more. And whereas uh the people who are not as well up, they live paycheck to paychecks and their saving rates is doesn't move that much. They b they basically doesn't save that much. And if you give them extra stimulus checks, they spend it. Right? So, so if the savings is concentrated in the wealthy, the wealthier people are getting wealthier, what you should be seeing is that the saving rate in the country should be higher. I mean, giving given the propensity to consume and which is why worsened inequality tends to mean lower R star. So I think you know as long as the Fed is uh has adopted this new doubbish posture being excessively dovish in fact then uh I'm not saying that they made the right policy choice but it's the choice that they seem to have made uh then uh this economy could keep going. Going back to your earlier point about how the labor market has bottomed. Um, last year you told me that the unemployment rate could stabilize around 5% and then go back down uh sometime in 2026. Are you still maintaining the 5% target? We're still right now at 4.3%. >> No, we have lowered it from 5 to 4.4 uh for uh for 4.4 around uh Q1 Q2 next year. And uh the reasons why we have lowered uh our unemployment rate forecast is number one um the immigration crackdown was uh larger than we thought and this led to a tighter labor market. That's number one. Uh number two the wealth effect that this uh a and this AI boom you know just came out. So the AI boom started really showing up in macro data in the first quarter of this year. So we calculated that AI related capex contributed 1 percentage point for in of the 1.6% average growth in the first half of this year. So that is um uh that is much larger than we thought. And finally, one assumption that uh changed which I held last year which um which I think is diff uh which is very different today is the Fed. So last year I thought that the Fed being intrinsically uh uh more uh biased against the Trump administration would held rates higher for longer because of their fear of tariffdriven inflation. Not that not that we predicted tariff would lead to high inflation this year. Uh we were actually one of the few groups that didn't see the tariff as driving up inflation this year. But more because I think the Fed would have misjudged the uh uh inflationary pressure and therefore they would held on to uh rates throughout until the very end of this this year. But it turned out that they capitulated uh faster than I thought. And they uh um whether this is a reflection of the pressure from Trump or from um you know just the soft landing Powell that Powell just really desire a soft landing. uh I don't know but but the the point is that their reaction function has clearly shifted in a dovish uh direction. >> Um let's end on tariffs now. Uh the effect of tariffs on economic growth. Have we already seen that play out or is there going to be a lag effect? And I asked this because Trump is still threatening a 100% tariff on China set to take place on November 1st if he doesn't cancel that before November 1st. And um I'm wondering whether or not uh going back to my question, tariffs will have um an immediate impact on economic growth if they do escalate or have we already seen that impact um play out? >> We have uh only seen part of it play play out. So um so when you think about how tariff uh shows up in various price measures in the economy first it comes through imports. So import prices is is where you look at these things and what we see is that importers bear almost 95% of all of the tariffs. So basically the US side is taking the brunt of the tariff. Then the next question is did these importers pass on all these costs to manufacturers, wholesaler, retailers, all the intermediary firms um or and did these intermediate firms pass on the cost ultimately to CPI. So, so we look at the CPI and we have seen that um for every $1 increase in tariff there's about.3 so 30 cents of increase in consumer prices which means that almost 70% of the tariff cost are absorbed some somewhere between the end point of the consumer prices and the import prices. So it's it's absorbed through profit margin compression of the intermediate firms. Um now in the earnings uh Q2 earnings we have not seen um much evidence of firms profit margin compression though you have seen some of these uh consumerf facing companies like Home Depot uh Target talk about cost increasing. Um but at the same time um I think that um tariff pass through is not a static thing. It's really about pricing power. And this year um the as I said the the tariffs is equivalent to a tax hike of that's generating 1 percentage point contractionary fiscal shock. So there's just no uh pricing power because consumers are experiencing a massive income shock. So where firms will find better pricing power is in a recovery when things are improving and when consumers are feeling more willing to spend. So this is why I do think we didn't think there would be a too much pass through this year. But the story is not over. The story will continue next year and next next year especially if the economy is will be firing in all cylinders in 2026. It will mean that many firms will want to pass through those tariffs next year. >> Final question Anna before we go. What would change your mind again and make you more bullish or bearish? Sorry. More bearish. More bearish. >> Yeah. >> Um I think the the key unknown is the credit market. I I I explained why I didn't think that uh there's a massive amount of cockroaches hiding in the kitchen because of the you know how we how how we look at auto delinquencies. Um however um who knows um usually usually these balance sheets shenanigans do not come up to service until one thing go bust and it turns out that there's more linkages between that thing to another thing and private credit is a very shadowy corner of the market. Um so um and then if something happened in the credit space that lead to a stock market popping so one thing leads to another credit market spills to the equities market then if we are seeing a you know a widening of these uh contagion then I would I would change my mind. Um the Fed could also of course as I said the most important thing is what the Fed will do. So suppose that the Fed uh make a policy mistake by not responding to these market events and we're too slow. Recall that when Silicon Valley Bank uh imploded, the Fed was very quick to offer liquidity, right? And that was what made that period of turbulence very brief and then suddenly everything was fine again. So at the end of the day, it is the Fed's response. Even if you have a big credit shock, as long as the Fed uh the Fed put is there, then it will be a very shortlived type of shock. So really at the end of the day is the the Fed what if the Fed suddenly turned hawkish for whatever reason, but it's kind of hard to see the Fed turning hawkish right now absent a really shockingly big inflation print. Okay, Anna, thank you very much for uh this uh report. We'll uh we'll follow up soon and see what happens in quarter four of the remaining of the year. Thank you very much again. Where can we follow you? >> Uh you can find me on uh X my handle is Anna Economist. Also, you can find us on the terminal uh Bloomberg terminal. If you go to BECO, you can find our writings. >> Okay, very good. Thank you very much. We'll see. We'll see you next time. And don't forget to follow Anna link down below. And don't forget to subscribe to this channel.