Fed Could Lose a Tool With Balance Sheet Cut, Kocherlakota Says

Podcast on Apple Podcasts, SoundCloud, and Bloomberg dot Com. This Wednesday, we are going to get the minutes from the latest Federal Reserve meeting where they talked about everything from the economy to potential risks to the downside uh for the US, but most important, what everyone is looking for is guidance on how the FED is going to unwind it's four

point five trillion dollar balance sheet. And for somebody who knows quite a bit about this is former Minneapolis FED President uh Nriana coach Lakota, who joins us now by phone. He is also a Bloomberg View calumnists as well as a professor of economics at the University of Rochester. Uh Marianna,

thank you so much for joining us. You wrote a recent column saying that the FED is making a two trillion dollar mistakes, saying that they really should not be considering whether to shrink their balance sheet at all, it is the wrong question. They should not go that route. Can you explain why? Yeah, thanks for having me on, Lisa, UM.

So why thinking there is that? I remember when we were hit with shocks, when I was back on the committee, even the dark days of eleven UH, one of the things we wanted to be able to do was to lower interest rates UM, but we didn't have them. Couldn't do that because the interest rates were pretty much as

low as they could go. If the FED were keep keep their balance sheet at the current size of four and a half trillion dollars or even potentially growing with the economy UM, they would over the longer run, also be keeping their short term interest rate tool higher because they're already providing a lot of accommodation through UM that balance sheet. The way you would offset that is by

keeping your your interest rate tool higher. So that means when you go into a recession you're facing shocks, you've got your interest rate tool that you're familiar with, you know how it works. That's the one you're gonna belonging on to two offset shocks. So I think the FED would just be better off just as I say, keeping the balance sheet constant or even uh I suggest my post um keeping that um growing over time as the economy grows. So another words, just to make sure that

I understand what you're saying. You're saying that if the FED keeps the big balance sheet, then they have more room to raise interest rates and then have that sort of the more well known tool to deal with upcoming crises, whereas if they shrink the balance sheet, they're going to have a harder time raising rates just because the level of accommodation is going to be less on the balance sheet side. Am I Am I getting that right? Said? Exactly right? Thank you for thank you? Okay, no, no, no,

I just want to make sure. I mean, I guess that the ads an argument, and what a lot of people are saying in the market is well, the Fed's going to move at such a glacial pace, and because demographics are changing to such a degree where you have people aging and cycling their money into more reliable investments like bonds, you're not going to end up getting that

big of a move, if anything at all. In fact, yields on the on the long end might even go down even as the Fed on wind's balance sheet and then they'll have this tool as well open to them in the next crisis. What do you say to that? Yeah, I actually I've heard actually some speakers in the fom C make this argument. I just don't understand it. Um. The estimates we've had from the effect of the balance

sheet are pretty clear. It's it's basically substituteable with our Like I laps in the hour because I'm still thinking about myself being on the committee, but it's it's comperbebly substituteable with the FED typical tool of the Fed funds rate. UM So, as you reduce the size the balance sheet, you are substituting for interest rate increase is and in fact President Dudley and the New York Fed has made

this point on a couple of occasions. UM So, I think that's the right way to be thinking about it. If you scale back the position you have in in long term assets, you're removing demand stimulus from the economy, and um you're gonna have to make that up in some way, and the way you'll be making it up is by keeping your short term interest rate, the FED

funds rate, lower than you would otherwise be doing. So this brings us to another column that you recently wrote about forecasting growth, because when you talk about short term interest rates, let's leave aside the balance sheet, right, because let's say the FED decides to keep it at four and a half trillion dollars for the time being, puts off any discussion of ceasing to reinvest any proceeds that they get from that, and they just focus on raising

interest rates. Um. There's a lot of questions about how much they could really do that based on growth and the potential for growth. And you know, when you look at what the Fed is talking about, do you think that they're measuring growth the right way? And given what they're looking at, what's the sort of end rate for overnight benchmark borrowing costs that you think is is feasible in the near future? Oh wow? Okay, so that last question is really hard, um, And it would depend on

where you end up with a balance sheet. Um. You know, I think if you you were to to shrink the balance sheet, you're it's really going to put much more of a cap on where you can end up with in the longer run with your your interest rate tool, I would I wouldn't be surprised you would end up

with a number that starts with a two. You know, in the in the longer run, FETs if if you do end up shrinking the balance sheet to keep the balance sheet where it is, then I think you're you'd be able more feel more comfortable with the probably the longer run, with the number that would start with a three. UM. But let me talk. I think I think you've hit upon a really important point, which is how hard it is to gauge the growth opportunities that are out there

in the US. UM. There's a lot of pessimism out there, UM that maybe the US two percent is all we can hope for, UM, something in the two to three percent. Rangel here some optimism as well from from certainly from the administration is more optimistic about growth opportunities. But it's really hard for us to as economist, to get that right. And I think the Fed would be safer UM to calibrating their interest rate increases to what's going on in

the inflation to mention they're better forecasting inflation. They'd be understand inflationary pressure is better UM. And the whole question of capacity, how much growth opportunity there are there are in the US is about how much can we grow the economy without running into generating too much inflation. So I think the FED will be better off holding back, being cautious about raising rates until we actually saw, um, real clear signs that we're going to get back. We're

at two percent their target and staying there. So I know, I'm sure that you're still friendly with people who are on the INFMC right now, and do any of them kind of feel the way that you do and just feel like they the tides moving toward reducing the balance sheet. But uh so we'll go along with that, but we're kind of a little worried about that. Yeah, I know nothing beyond page I'm just another outsider, like like everyone

else listening to this. I so, but I but when I track um, you know, I you know, I think the person who has probably been most cautious about the interest rate increases, there's obviously, uh President cash Cary in Minneapolis, and so you know, if you're asking me that question, I guess I would point to him as being the most obvious person on those lines. Marianna Coucha Lokotta, thank

you so much for joining us. Marianna Coutcha Lokotta is a Bloomberg View columnist and of course the former Minneapolis Fed president, currently professor of economics at the University of Rochester. Really glad you could join us. President Trump did land in Israel earlier today and we are already heard comments from both President Trump as well as Israeli Prime Minister

Benjamin Natanya. Who to give us a better sense of what we can expect to learn from this trip, I want to bring in Michael Arnold, who is the bureau chief for Israel and Palestinian Territories for Bloomberg. Michael, thank you so much for joining us. I would just like to first get a sense of what President Trump plans to do while he is in Israel and Palestinian territories and what the goal is here. Well, he's got quite

a full itemperary already. As soon as he landed, he was whisked by helicopter to Jerusalem where he met with the President. Then he took a tour of holy sites in the Old City, both Christian and Jewish. Uh. Now he's meeting with the Prime Minister and later he's going to have dinner with the Prime Minister. Tomorrow is going to head of the Palestinian Authority, areas to meet with

Mahmud Bas and then back to Israel for a major speech. Um. In terms of what he's trying to accomplish, I think if there's a few things, um, you know, he may make some kind of of a statement on the peace process that would give some clarity as to what the Trump team's vision is for that, because until now he's

given really conflicting signals. Um. And I think also Israel is going to be looking very closely to see if there's really any substance to these these hints about closer cooperation for Israel with the wider Arab world, including a

Saudi Arabia. You know, I'm struck by the tone. I've been watching some of the a lot of the coverage, particularly President Trump being in realit and being just with all the Saudi Arabian princes and the incredible ceremonies, and they were tracking his visit otto the minute of when he would arrive. What kind of reception has President Trump gotten in Israel? Uh, It's it's funny. Israel certainly can't compete with the Saudi Arabia in terms of extravagance or

in or in hospitality. This is a place which has has many good things, but customer service is not really one of its strong points. So there was a very simple welcoming ceremony at the at the airport, which um uh Prime Minister Natanya who had to you know, had to twist his his cabinet minister's arms just to get them to go uh. And then there were some some snaffoos with one of the connected members trying to take

a selfie with Trump to nothing. Who's chagrin um. But you know, I think that this kind of, you know, this is kind of the homely atmosphere of Israel. I'm not sure if that's um quite up Trump's alley. You know, you get the sense from his own um real estate career that he might feel more at home in the type of guilded palaces that he saw in in Saudi Arabia. But this is what Israel has to offer, I'm wondering.

You know, we've heard a lot right before President Trump left, there have been a lot of right articles written about how he's escaping the turmoil of Washington. He's leaving the the difficulties at home to go abroad. And one of those difficulties came when President Trump perhaps inadvertently gave more information or than than perhaps some in eligence officers wanted him to to the Russian Foreign Minister, and included information

that allegedly was given to the US by an Israeli informant. Um. Has there been any discussion about that, if not out loud in back office discussions, have you gotten a sense of what the reaction is like? Uh? In Israel? Yeah, you know, certainly, you know, there was a lot of consternation here. UM. I would note that it hasn't been confirmed that the information came from Israel. There were also some reports that it came from Jordan's, but you know,

the working assumption is that it did come from Israel. Um. You know, people here are upset, but in the other hand, you know, they don't really have much option other than to continue sharing intelligence. Um, you know with the US. UM. And in terms of you know how people here are reacting to Trump's domestic problems. Uh, you know, the Prime minister here is also under police investigation. So um. You know this is something which Israeli's are are kind of

used to. It's it's the kind of background noise against which you know, government is is conducted here. It's interesting to note, you know, with with both of these leaders, you know, kind of facing such such problems and both feeling that they're hounded by opponents and are and are mistreated. You know, perhaps this could push them to make some

kind of a breakthrough. And you know, we've we've certainly seen leaders in the past, like you know, Nixon going to China, you know, being able to make important breakthroughs when they do feel that their their backs are against the wall. You know. One other big issue here, possibly the biggest is I ran, right. I mean, we just had the election in Iran. The more moderate uh person

want candidate one? And uh yeah, President Trump has continued with his more hardlined rhetoric, which frankly, my understanding is that Israel would like to see more of. Can you give us a sense of what might come of these meetings that President Trump is having with Prime Minister Nathan

yah who and what the implications for Iran could be. Sure, it's interesting because here, you know, even though so much of the headlines, uh, you know deal with the peace process, really Iran is the number one issue, uh and you know, uh, I think it's really officials have have been really gratifying to see the very strong statements that that the president

has made on this trip. Um the the speech that he gave in Saudi Arabia which was presenting the the war and terror as uh you know, as as you know, not a not a clash of civilizations or class of religions, but rather uh, you know, people of goodwill versus you know, versus villains. Um you know. So I think that you

know that they've been quite hardened here. Um we you know, we we were told, you know, by by a source close to Natanya who the other day that he he is going to really push hard for for new sanctions on Iran that uh, you know, he wants to create what but this advisor termed a dirty Harry moment, referring to um, you know, to the clinice Wood films where he would dare the bad guys to shoot him so

that he could blow them away. Uh. So that you know, Israel's really hoping that the you know, that the that the president can can really insist on Iran changing its behavior and if it doesn't, you know, perhaps set up a confrontation that that would improve the situation to Israel's advantage. Mclarnald, thank you so much for keeping tabs on this and

I'm sure we will hear more about the trip. Michael Arnold is a bureau chief for Israel and Palestinian Territories for Bloomberg News, speaking with us about President Trump's trip to the Middle East. We want to take a moment

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with you. It's pretty amazing. Download our Io s app or search for the Bloomberg extension on the Chrome Store to try it out. Learn more at Bloomberg dot com slash lens. We've heard a lot about stagflation, but what about stagulation? That term was coined by David Service, chief market strategist at Jeffreys ll l C, and he joins us now on some of his latest comments. David Um,

thank you so much for joining US. I was really struck by your latest miss if you're talking about how regulation is really, uh stymying growth in our economy and in a way that people don't really recognize, and you had a statistic that was pretty mind boggling to me. You said that data suggests that nearly ten of US g d P is associated with the cost of federal regulation intervention. Really well, that's according to the Competitive Enterprise

Institute Lisa and UM. There's a lot of different studies that The problem I've had in digging into the costs of regulation is that, unfortunately, it becomes quite political quite quickly, and so the think tanks that are associated with the right come up with some numbers, that think tanks on

the left come up with other numbers. The economics profession in and of itself is not particularly good at measuring these things, and so you're really kind of, you know, sort of throwing throwing your hands up in the air a little bit and trying to trying to play some guessing games, which by the way, is pretty true about everything in the economics profession, frankly. But but it's just says the chief market strategist at Jeffreys love it, but

it's particularly acute in this study of regulation. And I think also it kind of um, you know, it gets to the heart of a debate between you know, traditionally interventionist economists and those who favor, you know, much less government interventions. So it really gets to the heart of the kind of Chicago School freshwater saltwater debates that have gone on from all. Right, so let's put aside the exact rigor with which some of these estimates are established.

A lot of people would agree that regulatory burdens have increased, particularly since the two thousand and eight financial crisis. And you make an argument that this has materially limited growth, regardless of whether it's ten percent or not. Uh, And that these regulations are largely nonproductive. In other words, they don't really add anything to the economy, and that it has these have reduced competition. Um. Do you think that

all regulations are nonproductive and that all regulations reduce competition? No? No, And I think, look, there's other forces that can reduce competition besides regulation. What I guess I'm poining. By the way, that was a great question that we could probably talk about for the next five days or more. But let me let me just let me just try to get to kind of the heart of the regulatory burden story.

One of the things that we've seen added significantly in a lot of businesses are hours worked associated with things like compliance and regulation. In the financial industry, for example, I think the latest count has city banks compliance departments somewhere in the neighborhood of which is the same size as Golden Sas. That is a marked increase, significant increase over what that department looked like prior to the crisis.

Those hours worked are are serving a purpose. We're we're overseeing a systemically important institution and theory uh in a better way to stave off financial crisis in the future. But those hours work don't actually produce returns. They don't produce GDP, they don't nobody's making a widget in that in that compliance department. And so I think what you have to come to grips with. And this is true

of environmental regulation, that's true of health care regulation. We've added an enormous amount of hours worked to the menu of of of job creation in the United States post crisis, where a lot of those hours worked aren't actually contributing to final demand in a traditional way, so we don't get a lot of GDP per hour work, which is my opinion one of the reasons why productivity, which is output per hour work, has actually been slowing quite substantially,

and why returns on capital have been lower or our star has been lower in the BEDS model, and why potential growth appears to be closer to one and a half two rather than two and a half three. So I think a lot of that adds up. Now. I mean, I'm not making a statement about is it good or bad. I'm making a statement about what it means for interest rates and what it means for economic growth. We don't

measure environmental quality in economic growth. We don't measure the quality of our groundwater, or the likelihood or unlilihood of a financial of financial instability event Those don't get put into GDP, and so you have to make some u you have to make some assumptions about well about whether those things are good or bad. And I think a

lot of people would agree they're pretty good. Right well, But but look, so let's bring it down to the market, right because that's that's why this matters, is because if you think that this is going to be uh, a story of aging demographics and just sort of the change in the overall economic global climate, then it's going to be hard to change that, right, and therefore interest rates would remain low no matter what any government almost does. Right.

But if you believe that there is a step like cutting regulation that could materially boost growth, then we would move away from this dag inflation uh kind of picture and towards one where you could see interest rates rise more substantially and stocks get a boost more substantially. Correct. I mean, that's the reason why this matters for markets. Well, I think you're exactly I think I think you're exactly

right on the first. And that's why we're talking about it. Um. We're talking about it because, um, is it a demand side problem or is it a supply side problem. Is it a lack of aggregate demand, as my friend Larry Summers would argue, because of aging demographics, because of income inequality, because of a number of other issues that have created this savings glut globally, or is this just that people have underinvested, not because there's you know, there's some sort

of you know, you know, demand side problem. But they're actually under investing because the supply side restrictions, the regulatory environment made it very complicated to invest heavily in the United States and in many other countries post crisis. And I think, look, I think you can make an argument for a demand shock pretty early in the crisis. There's

no question there was one in A eight nine. I think what happened is starting in ten we started to see this demand shock dissipate, but a regulatory environment emerged that created a much more stagulatory outcome. If that's a word, um that I'm going to create, uh, stagulatory outcome then

otherwise would have happened. And I think the exciting thing, um, you know, there's a lot of exciting things about watching our current political environment, um, notwithstanding you know SNL skits in late night TV, which are pretty exciting to watch as well. But I think the one exciting thing I would say is, and what I've talked about with our clients mostly is you know, it's not the trade, it's not the immigration, it's not even the fiscal and the

tax stuff. That the exciting thing about these policies is that there's a there's a sort of a move toward deregulation which is being implemented at the departmental levels to put me at the Interior Department, at the Commerce Department, at the Treasury Department. It's not even a congressional push, and I think that's a tailwind for exactly what you were talking about, higher real returns to capital um, higher productivity growth. Now, wait, David, David, just a real quick

one one line yes or no? Do you think that the regulatory reform is happening right now? I do. I think that these departments are changing the business environment so that less regulation is coming down every day from those in charge of pushing that regulation for which the department has. David Service, thank you so much for joining us. David Service, the chief market strategist at Jeffreys based in New York.

Ford shares up about one and a half percent after news emerged at the former CEO, Mark Fields, was being removed from office and being replaced by Turron specialists Jim Hackett. Keith Notton has been following this and is at Ford right now. Keith Noton is auto editor at large for Bloomberg in Detroit. Keith, can you tell us did this come about? Kind of suddenly, because it seems to take a lot of people by surprise. Yeah, it happened very quickly.

We've known for a couple of weeks that Mark Fields had been on the hot seat. The board had, um uh, kind of grilled him at a meeting a couple of weeks ago in advance of the annual meeting to find out what was going on with the strategy because as you said, the stock has been way down, profits are falling this year. But then they had another board meeting on Friday and decided it was time for a change. So Bill Ford, the executive chairman, then went and met

with Mark Fields, who said he would resign. And then Bill Ford turned to Jim Hackett and said, you're on new man. So they focused today and talking about this about how they need to speed up decision making. And I think this was an example of the first one. So let's talk about Jim Hackett. What do we know about him? What's his background? Well, so he was for years at the office furniture maker Steelcase, which is based in Grand Rapids, Michigan, and um he really kind of

institute a cultural change there. He got them to think less about, you know, just making furniture and more about how people work and how offices should be designed, which kind of ushered in the new era of more collaborative workspaces. Uh and stead of the cubical farms that we used to know and hate and now and then after that

he went to the University of Michigan al Modear. He played football for Sembechler, and he uh he kind of turned around their athletic department and made a very famous, high profile higher in Jim Hobba the coach football team, which then started winning. So he's had a couple of turnarounds under his belt. Afford is not the sort of

classic turnaround where it's in crisis. It's expected to make nine billion dollars this year pre tax, but is definitely lagging its cross town rival General Motors in the product lineup it has today and even in the electric vehicles it has coming tomorrow. Well, what was the main problem with Mark Fields. I mean, yes, he did make some decisions.

We've talked about this before about how perhaps he didn't put as much emphasis on SUVs or light trucks that other competitors did, and that sort of missed the mark a little bit. With the increase that we've seen in the sales of those vehicles in the past year or two.

But aside from that, I mean, investing in the future doesn't seem like something that necessarily any successor would want to change, right, Yeah, I think you know, he definitely suffered by comparison to his predecessor, Alan Mollawley, who was the rock star, but also in the sort of execution. The magic that Molluley brought was this singular focus on turning the company around. He called it his one forward Plan. And then Mark Fields came along with this very complicated strategy.

It's you know about one foot today and one ft and tomorrow or an automotive and mobility company. People had a hard time understanding, you know, what he was aiming for, and investors fled the stock. They didn't really understand where he was going. And I think the employees as well were confused and had a hard time kind of marshaling

themselves in all marching in the same direction. And so what will I mean, I'm just trying to imagine somebody with a furniture background and a football background coming in to come up with like a really simple message for Ford, we will the simple message be that we're gonna expect from Jim Hackett. Well, he said today that it's not about talking about these two different companies within one company.

That they're a singular company and you know they're going to make money now and in the future, and they're they're going to better explain how they're going to do that, how they're going to do it with driverless cars and car sharing and electric vehicles. But it's all part of the piece instead of two separate pieces. And the key and you can't underline it enough is they're going to

move quicker, move faster. For under Mark Fields has viewed as having been a little indecisive and a little slow off the mark, so they're going to try and change that and just real quick. It seems like shareholders are not swish. I mean, one and a half percent is not that big of a move for such a big change like this. Well, after declining under Mark Fields, I

think it's it's like a green shoot. There's promise, but but yeah, they have a lot of ground to make up for all of the value that's been destroyed over the last three years. I'm sure that it's a very interesting day to be at Ford Keith Noton, Thank you so much for joining us from their Keith Notton is our editor at large focusing on autos for Bloomberg News, and he is based in Detroit. Thanks for listening to

the Bloomberg P and L podcast. You can subscribe and listen to interviews at Apple Podcasts, SoundCloud, or whatever podcast platform you prefer. I'm Pim Fox. I'm on Twitter at pim Fox. I'm on Twitter at Lisa Abramo. It's one before the podcast. You can always catch us worldwide on Bloomberg Radio