Surveillance: Historic Times in FX

with that dollar strength. What is the number one dominant driver of what's taking place not just in Europe but across Asia. Two? Hi, John, So it's it's clearly historic times in effects. And I'd say what's going on is that valuate valuation anchors are being lost. So you know, you take Europe for example, producer prices are now at over the last eighteen months. Um, what does that mean for purchasing power parity, for for how much competitiveness has

been impacted? The market doesn't really know and is trying to grapple with with that question. Um, you mentioned the yen. The b o J has been doing the FED equivalent of a trillion of quem in recent months, it's now starting to pick up again. It's basically following a policy of neglect for the end. It hasn't spoken about the end m for for the last for the last two months.

And I think if you add all these things together, the dollar is ending up as the safe haven of choice, but by default because there's all these issues in the rest of the world. And I think that the critical point is it becomes very difficult to understand and caliber fair value. Given these huge moves. We're seeing an energy prices um it changes in policy, for example out of Japan, and obviously we've got the COVID situation in China. When

do we reach a breaking point? George and I speak as we start reaching levels that perhaps were last seen or the pace of which the last scene in two thousand twenty which prompted Federals are of intervention. Yeah, so there's some currencies we were even exceeding those And going back to to the nineteen eighties, the huge four overshoot back then kept going. It actually currencies back then, the

couple from rates, even as Volker stopped. The dollar kept going, even as the US ecial accounts turned and it became a bit of a self fulfilling situation where where again valuation anchors were lost, and what it took to turn things was coordinated intervention and you had the fetes started to sound a bit more jittery, and then obviously the

plaza called UM. I still think we're far away from that, not least because dollar strength at the moment is helping the US inflation story, and it is very likely the call goods inflation in the US, I think we'll move sharply lower UM. So one thing that will be able to shift things is if we get a FED pivot that's clearly too early, that's on the U S side, just an easing of these taflation fears. But then, of course we've got the issues outside of the US, both

in Europe and Asia. It's very difficult over the next few months to see these fundamental issues, this uncertainty go away, and as such, I think it's very difficult to call for a big turn in the dollar as things stand well. Given that, George, what's going to stop the euro from going to ninety zero point nine on the dollar, what's going to stop the yen from going to one fifty? As we were talking about yesterday. What's going to be the pivot point for some of these currencies as there

is not necessarily some sort of circuit breaker. So I think there's two things that can prevent extreme moves. Obviously, in Japan you are seeing extreme moves because the Bank of Japan vides policies actually encouraging yen weakness. But speaking of Europe, there's two things. Number one, the ECB becoming more aggressive, becoming more assertive talking about the currency. And I don't agree with this argument that if the ECB likes more it's going to be negative for the currency

because it hurts growth. You are actually see the UR hold up much better than what one would have expected, given that we've now started to price seventy bits for example. So I think the e c B is one and the right fiscal policy response as far as the energy situation goes. And that's why the differences between the UK and the UR area become a bit more interesting. For example, Okay, so George is essentially what you're saying. The ECB can support the Euro by hiking, but that is not necessarily

the case for the Bank of England. So the CB central banks can slow down the moves, but it's not interest rate differentials and not the dominant drivers. And we're seeing that the ECB is helping slow down the urine depreciation, but I think to see a big shift you need a resolution on the energy situation. Now if you if you go over to the UK, I'm still surprised by the lack of urgency from the Bank of England in terms of this communication of how much more they can do.

You've got an inflation picture that's pretty much the worst in the developed world. We are very likely to get very very sizeable fiscal announcements in place that may help inflation in the near term, but they're also going to be highly stimulative. They're not going to allow for any correction on the demand side. So I worry in the UK policy alignment between the fiscal authorities and montre authorities is not there um and this in itself may be

quite harmful for the currency. How harmful I mean, what probability would you put around cable at parody? So we wrote a report where we're looking at all these drivers, were looking at the balance of payments dynamics in the UK, and what stands out really is versus ten years ago the position is much more vulnerable. You've got a negative net international investment position, you've got a very large current account deficit, you've got real rates that are still very low.

But for me, over the next two or three weeks,

it's all about policy credibility and alignment. And if we go down the route of a very large, unfunded, untargeted fiscal stimulus and the Bank of England, for example, disappointing market expectations and not hiking by seventy five basis points, not showing a greater sense of urgency, I do worry the funding of this very large deficit um the UK has with the rest of the world can be challenged and you can see very extreme levels for the pound, as you have in the past when the UK has

struggled to trap form financing. In the euroregion in particular, you were talking about how the appropriate fiscal policy could support the euro and I want to go back to that. What does the appropriate policy look like given the fact that a lot of households are really struggling. This is not like five dollars barrel of gasoline or five dollars a gallon gasoline in the United States. This is way more extreme way more punitive for households over in Europe.

Can they not offset it at all, and if they do, is there something that's prudent that could still support the euro It's a really important question, and what I would say is it's a fine needle to threat, so to speak, in that Yes, you have to target polity in terms of preventing some of the pass through, especially for the lower income households, but at the same time you have to allow price signals to work and demand to drop.

And I have to say I think the European policy response over the last few months has been quite impressive in that front, in that you have seen the situation is very extreme in terms of the price rises, but you are seeing demand management industrial demand in Germany for gases dropped by at the same time the re support for the low income households, but fiscal policy is not

blowing out in terms of being completely unfunded. We've obviously got this very significant energy summit happening on Friday, But I would say ultimately the policy response that helps is one that allows the market signals to work but preventing some of the more extreme downside risks, and Europe is

heading in that direction. Finally, George, if we could leave Europe and head back to Asia, because you've mentioned the Japanese then a few times, flirting with one forty five at the dollar this morning, the weakest level we have seen going back to August. And you've also alluded to the fact that the Bank of Japan is sticking with its motto We're going to keep it easy, We're going to keep yield curve control. Is there a level on dollary end that you think would represent a breaking point

for Corona? I don't really think there is. I think from a policy making in a macro perspective, what matters is the speed um. So if if you get an extreme disorderly move, so to speak, then it becomes either easier to invoke the G seven and G twenty agreements on disorderly market moves. But the reality is, even though the end move has been extremely large this year, it's actually been fairly orderly, and it's been aligned at the end of the day with what the b o J

has been doing, which is easy policy. So I find it very difficult to see a situation where any sort of intervention will be credible from a market perspective. At the end of the day, what's needed is for the

b o J to pivot. Now that may happen um if Corona, for example, when his term expires, you get a governor that's I'm goin to slightly different approach, obviously backed by the government, but as things stand, I'm not sure intervention will be credible, and the bar for that happens is very high in the sense that the moves will need to be highly disorderly, and at the moment they're big, but they're not especially volatile. They're highly intuitive.

It makes perfect sense, and that's why I think we're all struggling with this idea that the PJ has any grants to complain right now. George, George, thank you for your time and what a world you guys are in right now. And foreign exchange Jorge Saravelos there of Deutsche Bank joining us now. Is Maggie Battel sending, a portfolio manager at all Spring Global Investments. Margie, the Nest composites down almost nine pc over the last seven days, the

last seven training days. The SMP five over the same period is down about seven percent. Are you ready to buy the secretary mark it yet? Well? No, I think actually what we've had is about reversal about fifty of the rise we've had in those indexes since they're lows in June. But I think we're really in a trading range with a doward bias because of the backdrop the

FED is very much committed to raising rates. Globally, you can see economies all around the world are slowing down, and that's really not a market that says we're on the verge of a dynamic rebound inequities. So are you just moving more into cash? How do you manage in terms of some of this barishness at a time when there still is uncertainty and still a potential investment case.

I don't think cash is really all that attractive at this level because there is a chance to FED might realize that they're being too aggressive, in my opinion, and that could change things. So really we're just trying to find companies that are reasonably priced that have the possibility of continued earnings growth, which I think will be pretty hard to find. Over the next year. We're thinking earnings are going to decelerate a lot, so p easier down.

But with decelerating earnings that still says a lot of stocks could go down. So trying to to see where stocks still have a growth path and aren't too puffed up based on yesteryear's idea of how fast economy is going to grow, And how do you factor in the strength of the dollar into your thinking about these multinational companies. Um, you know, I've never really found that a big help in making money in stocks, because often the market will

look through dollar strength. I think what it really tells you is that it reflects the strength of the US economy compared to Europe, compared to emerging markets, compared to China. So it says to me that we're still the best place to invest at the dollars really reflection of that. Even at our rates today, we still see money coming in from foreigners because we're probably still the best economy

in the world. Buy. What does that become a headwin though, Markie, And this is something people are increasingly asking as they talk about coordinated intervention to some of the currency differentials. When does the dollar become a liability for US companies that are trying to sell their goods overseas? Uh? Well, I think that's really what you're seeing in a trend for slower growth and acknowledgements from any companies of where they saw rapid growth, say in emerging market, they're now

seeing that scale back. So I think it's really part of the backdrop of earnings slowing down around the world, grow slowing down around the world. So therefore it's going to be you're gonna have to be more choosey and finding companies that can get through a period of very low growth. We haven't had that in quite a while, and here we have everything coming together. Uh, and they're really all negative as far as future growth. Monkey, the bulk of your portfolio is in equities. We used to

talk to you almost exclusively about fixed income. I wanted to squeeze a little bit more in unfixed income if we can. We're seeing signs that sovereigns in Europe are willing to take on uncapped liability and transfer massive risk away from the consumer to offset some of the pain sparked by energy issues across the continent. What do you

think the consequence of that are going to be? Well, when you have that kind of massive innovation, the result is always the saying, which is the policies have a way of backfiring. For example, I think in England they did have some price caps a few years ago under Theresa May. That hasn't worked down very well. Uh So, I think that it's really a negative for consumers and negative for those economies. Again, we're lucky enough that we don't have that here. Again, coming back to the case,

our growth looks better than than worldwide. I've all sprint Global investments, thank you. So much of the inflation story has been oil and gas, and a lot of people have been calling for oil prices to surge to new record highs earlier this year. One person pushed against them. He said, you guys are all wrong. You underestimate the power of a lack of demand as the global economy slows. That one person was Ed Morrise, City Group, head of Commodities research for the for the World, and he came

out and he said, no prices are going down. Ed Morris, you are correct. We have seen that, and we have seen it steadily going even with a potential supply cut from OPEC. Plus. How closely is this particular energy story tied to the slowdown that we're seeing in China. Well, it's got a lot to do with it, but a lot less to do with it than people really think, because Chinese demand was really peaking and we didn't expect

it to go anywhere. This year we had a very low number of modest hundred das in validate UH increased in Chinese demand. They came back to where they had been through the recovery, and there was no place further to go. They had already cut back on diesel demand, on gasoline demand. That one bright spot was petrochemical pea stock, and as we know a lot of that comes from the natural gas liquid pool rather than from the oil pool or the refinery pool. UH. China has, however, really

influenced the market. They are so concerned with energy security that they basically stopped exports and that has had reverberations around the planet. The one thing that that we missed UH and the world it's a whole missed was that when we have natural gas prices getting as high as they had gone on a content to be tou content bay is, prices for gas net gas are higher than prices for diesel at a time when the world was moving closer to diesel, we had demand up about a

million barrels a day. As a result of that, switched. China cut off their exports of about seven barrels a day of diesel. They did that last September. They haven't lifted it at all. So we were having you know, some of what's happening in the planet is really result of China. But I say it's more China policy, that

it is a Chinese command. And the fact that you say that is less to do with China than people think is a pretty dire statement with respect to economic activity in the United Kingdom, in the European Union, as well as the United States at a time when all regions are looking to support households as they continue to maintain their demand. So can you explain a little bit more why demand is falling off so much more than

people seem to think from the data at hand. So on the we have we have the best day of the world from the United States. People started seeing, we started seeing at the end of March beginning of April that US demand really had come off and then come off as we got out of winter and as we got into the driving season, and week after week, and even if you do it on a four week moving average basis, from March to today, US demand has gotten

lower and lower than it was a year ago. Total demand in the month of August was close to two million barrels a day lower than it was in auguste on. One million barrels a day. Of that was in the transport fuel business, three hundred thousand in diesel, which reflects what's happening volumetrically in the retail market. The rest the remaining seven hundred thousand a day was in the gasoline market,

and that's because people simply decided to drive less. And we have survey data that proved that vehicle miles traveled have gone down. So you know, get high prices and people react to that by not buying as much, and that's that's kind of a lesson potentially for Europe. We've seen effectively conservation working as a result of consumer response to high prices across across the United States without a recession other than a technical recession. But you know, we're

seeing growth in the labor market that's pretty formidable. And even so with more money in people's pockets people driving less, that is a lesson. If you let the market work to some degree, people are going to conserve. So one of the big experiments that the world. Europe in particular, is could precting is how much will people be allowed to conserve? The other experiment is what's going to happen politically, is people get more concerned about inflation in their pocketbook

and jobs than they do about Russia and Ukraine. We have some elections coming up in a couple of weeks, we have an election in Italy and we'll see what the consumer rebellion might be against where these high consumer prices are. Just as you're speaking, we're hearing from the EU Commissioned President Ursula v Underline talking about how the EU is going to propose a mandatory target for reducing peak electricity. Clearly the kind of response from government you're

alluding to here. Yet, as Europe faces this winter, there is a sense that this isn't just going to be a this winter problem. We could see years of restricted supply in Europe. So when you're trying to model out natural gas prices and what they could look like, how persistently higher could they be and is that something ultimately that the consumer is just going to have to tolerate. Yes, the question is not whether they're going to say these prices are going to stay higher, but how much higher

will they stay. Europe is moving back to therm of to two fossil fuels, both to natural gas and coal um. They've had a double hit this summer because a lot of nuclear reactors, particularly in France, had to be shut because of a lack of water for cooling the nuclear plants. Those will almost certainly be coming back. But as we look at europe move back to natural gas and the world's response, it will be somewhere between twenty twenty five and that will see the prices in Europe coming back

to where they were at the beginning. One and one of the major difficulties that Europe is confronting is that it's done only seeing consumers hit in the pocketbook, but as seeing job losses in energy intensive industries. And we're seeing those energy intensive industries migrating. Where are they migrating to places in the world where energy costs so lower?

It mainly the United States. You've seen the migration of fertilizes into the U S from Europe, and we're seeing other energy intensive industries like zinc and aluminum smelting slowing down and closing all together. Well. But to that point, at about migrating to the United States. What is the risk that these higher energy prices in Europe, the crisis there is going to bleed through in a material way

to prices here in the United States. Well, the risk is not on the net gas slode directly, it's actually through thermal coal and what's happening thermal coal prices. When we got to nine dollar and close at a ten dollar natural gas prices, again, it wasn't because of our production, It wasn't because of our imports from Canada. It was because the price of coal had shot up as Europe

bought more coal as trying to brought more coal. And the nine dollar price of natural gas now eight dollars, but that was equivalent to where thermal coal prices were. And now we're seeing the thermal coal prices coming off again for a variety of reasons, and with that, US NAT gas, so US not gas is going to be

seeing a significant increase in supply. We're gonna see some boost in our l m G exports, but those are cat You can only produce as much of LG as you have liquid faction capacity, and it doesn't grow overnight. And that's the reason why Europe's gonna have to wait till admit or later in the decade to get to the point where it will be enough NAT gaests, particularly from the US and guitar that's going to be able

to replace that Russian natural gas. We also have to remember that the Russian game plan is not completely over. It's not the second guess what Mr Prutin will do he said specifically said what they're doing on oil and gas, but particularly gas at the moment is a reflection of price caps being discussed. Um, Russia is going to be,

you know, running out of prices to sell gas pretty soon. Uh. European destination of gas from Russia, other than a bit obliquefied natural gas can't go anywhere else in the world. There's only a certain modest level of switching they can do to sell gas by pipeline to other countries, so so mostly former Soviet Union countries, and their their demand is limited. So the thirty bcm of of knack gas that Europe is pretting provided for by by Russia is

not going to be replaced by another market. So at some point Russia might say, hey, we want to maximize the revenue we're getting from natural gas. It would not be surprising if they turned back the flows on natural gas as we got to the end of the injection season in Europe. Uh got to the point when Europe is going to be drawing storage, when prices will be high for the winter, and Russia will make a lot of money on it. So that's one thing to watch.

Fascinating stuff and as we all try and work out whether we have to do this again next winter. Ed more a city group ed. Thank you, sir. We get lucky this morning joining us now. It's Richard has, the President of the Council on Foreign Relations and author of the book The Bill of Obligations coming out early next year. Richard, always great to catch up with you, sir. I've seen the latest article in Foreign Affairs magazine the title the Dangerous Decade. I think we need to start there, Richard.

Why is this decade going to be so much more dangerous than what we saw in the previous decade? This fair question. The short answer is that's it's an imperfect storm.

You've got three things taking place simultaneously. One, you've got the reemergence of large shale, the storage shale, geopolitical tensions between Europe and the United States on one hand, and then with Russia, with China, also with the Ran circle, you've got all sorts of global challenges such as climate change, infectious disease, where there's a large gap between the threat

and the willingness of the world to come together. And then thirdly, all of this is taking place against the backdrop of a United States that's divided, distracted, both figuratively and literally, at war with itself, and there's a real question about when the United States will be willing and able to play the significant role that it's played for

the last three quarters of a century. She had those string three things up, and I would say anyone watching this show has to assume they're going forward, there's going to be far more turbulence, far more instability in the world than looking backwards. From a business case, what does this mean in terms of doing business in China of the increasingly tight relationship between China and Russia, and what kind of international presence is to be expected given some

of these backdrops. Well, for Russia, so long as Mr Putin's in charge, you've got to assume there's draconian sanctions. I think with China you've got to assume at a minimum that there's more restrictive sanctions and anything dealing with

technology in either direction. Plus I also think there's going to be a major policy conversation in the West, also not just in Europe and in places like Japan, Taiwan, South Frere of the United States about whether it's wise to remain so dependent on the ability to export to China and import from China. You would have thought that one of the lessons of the of the current conflict with Russia is that any form of economic dependence, not

just any energy dependence, confers leverage on the other side. Well, you are now providing China with enormous potential leverage, should, for example, over the next few years, there'd be a conflict over Taiwan. So I think you've also got to expect a slightly more downsized overall economic relationship with China, and the sort of thing you're seeing in the United States. The Chipsack bringing home certain some productive activity I think is a reaction both to the turbulence of supply chains.

Plus again growing uncertainty about relations with countries like like China. Is this a government option or is this something that each business has to decide for themselves. And I asked this because a lot of people have been surprised that there hasn't been more exodus from China from manufacturing there by US businesses, given some of the fragilities exposed by the pandemic and by some of the increasing tensions. It's a good question. I think some businesses are living in

la la la. They're essentially hoping against hope they don't face a much more disturbed environment politically with China that China doesn't face all sorts of internal issues. But I would think that any business now needs to right size,

which I need downsize, uh, it's relationship with China. It can assume that there's going to be business as usual there again, anyone in the technology space, for sure, but even those beyond sensitive technologies have to assume that if there's geopolitical friction with China, you have to bet there's a decent chance there it will be sanctions will be

introduced that will be broader than technology. So I think any business that doesn't have a Plan B and hasn't begun to move towards it V c V China is putting itself into a position of distinct vulnerability obviously, Richard, and it's Kaylee in New York. From the perspective of the United States, they are looking outward at China and the geopolitical tensions that you are highlighting. At the same time that there is a sense that there's a very

real democratic crisis inward internally in the United States. And I'm just wondering if kind of threats to democracy domestically hamper the United States ability to tackle those geopolitical challenges moving forward, especially when midway through the decade you say is going to be so dangerous, we could have a new president Inaugradd You're absolutely right, Kayley. You know we're

going to have a new president at some point. What we don't know any longer is what that president is going to do when it comes to it's the U S relationship with the world. I say that because in the old days, no matter who was elected president, we had a pretty good sense of the parameters of what this individual do. That's not true anymore. We now have the potential to learn dramatically. That means our allies are much more guarded about being so reliant or dependent on us.

It means our foes may see may see opportunities. What we did in Afghanistan, I expect did influence Mr Putin to do what he did in in Ukraine. I think it's it could be harder to drum up resources for sustained American development in the world because so much of our attention is going to be turned inward. I expect in certain areas of the partisanship will affect foreign policy as it has. You're gonna see, for example, a very rough debate over Iran potentially if the United States tries

to re enter the agreement with it. So going forward, it's gonna be harder to conduct uh consistent foreign policy against this backdrop, much less promote democracy in the world. How are we going to be like us given what's happening with our politics, Given the fact that life expectancy is going down in the United States, We've had all the problems with lost academic time because of how we

managed COVID. So the American model, shall we say, there's not quite the shining city on a hill that we would like it to be Richard just to finish up, then what's the solution. Do you think we need new institutions to come to some kind of collective agreement in the Western had to deal with these issues. What is the solution? First thing, get that I never ever ever used the word solution. These are not problems that we're

going to be solved or fixed. If we're lucky, we'll be able to manage them more than unless and yes, to some extent, that might mean new solutions, that might mean different new institutions, new policies, new behaviors. But there's no solutions. History doesn't doesn't offer those, uh, you know, frequently, and we're not going to get solutions now. And that's the worrying conclusion to this conversation, Richard, but a bit of a reality check for everyone to Richard House, thank you,

and they cancel on Farmer Nations. This is the blue Burg Surveillance Podcast. Thanks for listening. Join us live weekdays from seven to ten am Eastern on Bloomberg Radio and on Bloomberg Television each day from six to nine am for insight from the best in economics, finance, investment, and international relations. And subscribe to the Surveillance podcast on Apple podcast, SoundCloud, Bloomberg dot com, and of course on the terminal. I'm Tom Keene and this is Bloomberg,