Surveillance: Inflation Expectations with Rajan (Podcast)

He is of course a former Reserve Bank of India governor, but also one of the most prescient students of American culture and our future. Were thrilled that Dr Roger could join Bloomberg this morning. Rockerman, want to go back to I think it was two thousand twelve and your postmortem in the Corporate and the Corporation and Finance where you talked about the near death experience of two thousand eight.

How close are we to that now? When you look at the unique challenges every central bank happens, including the work at Bank of India UH ten days ago, I will say, how close are we to a two thousand twenty two near death experience? Well, every UH sort of episode is different. Of course, I think we are not as fearful of the banking sector this time because of substantially more capital in that sector. What is less known as what happens in the shadow banking system, uh, the cryptos,

the finance companies, the various funds, and UH. What has happened over the last ten years is we've had very easy money. Very easy money means leverage. Very easy money means a dependence on liquity, UH, and dependence on being able to roll over stuff. And the big unknown is how many, how much of the financial sector is is actually going to have problems as rates go up, as rollovers become more difficult. Yesterday, day before, we saw that

happening to stable coins. What else is waiting out there by now? Pay later? Yeah? What what's so important here, Dr Roger? And is the University of Chicago's intellectual foundation and leadership on the breaking of inflation by Paul Woker a few decades ago. I know history doesn't repeat, but what are the methods we need to do to break this inflation? Well, Paul Volker used a sledgehammer, right. He essentially created a double dep procession in order to squeeze

out inflation. We hope it doesn't come to that this time. Nevertheless, I think the message from Volker is as inflation gets legs, as it picks up, as it spreads, and it spreads not just within the country across goods and services, but across the world, you have to take strong medicine, and that means raising rates, typically a percentage point or two above the prevailing inflation rate, and right now we are

so far from it. Now. The good news, I think is when you look at an inflation expectations over the last few days, they seem to have come down. That's an interesting development. People think the Fed is serious. The markets may not be perfectly right, but they certainly think the FED has a chance. Now you look at five year five year forward expectations, they had gone up to two and a half percent. They're back down to two point three now. So there's something here suggesting the market

believes the Fed is serious. Program. You're talking about the concern about financial stability as well as this belief in faith that the FED can actually bring down inflation, that

they're actually to go ahead and do that. In some ways, does the FED get more conviction to go faster and more from the fact that the disruptions, whether it's in the stable coin that you talk about, whether it's the fact that we've seen massive amounts of pain in the big tech sector, that we have not seen a wholesale financial market collapse in some of the shadow banking sector. Does that give the FED more confidence that they can raise rates to the pace that they're planning to. I

think it does. I also do think that, uh, you know, the fact that the market was not reacting earlier in the year to anticipation that the FED would do something, certainly into late last year and earlier this year, Um, that was a source of concern. Everybody knew the FED had to start raising rates and uh, you know, you wanted some of the uh sort of wombs behind the market to die down. Now that has happened, but as you said, it hasn't resulted in the wholesale collapse. It

has been you know, steady declines. Uh that's not a bad thing. Of course, the FED is weary. It doesn't want to cause the market collapse and uh that you know, if that does happen, it may have to rethink a little bit of strategy. But certainly steady decline is not a bad thing for the FED. Meanwhile, the great Fed conundrum of two is just how much growth has to come down in order to meet their goal of bringing down inflation in light of some of the supply chain disruptions,

the supply side issues that have really caused this. Where do you weigh in on this as a former central banker, as a former head of a central bank that had to make some of these hard decisions. Do you think it's worth it to curtail employment to potentially send the economy into a recession if that's what it takes to bring down inflation. Well, there are two sources of concern right. One is that inflationary expectations get more entrenched as you

see higher inflation over a sustained period. And the second is that translates into workers demanding higher wages, and you get the wage price spiral. Workers demanding higher wages causing higher inflation causing them to demand more. Now, there are two ways to break this. One, of course, is to

bring down inflation so expectations come down. The other is to take some of the heat of the labor market uh to create some slack so that workers now say, well, maybe inflation has gone up, but I'd rather prefer having my job than going out, uh, you know, demanding a wage hike and uh, I think you can work on both now. The the I think the possibility of having a softer landing is certainly one that has been talked

about a lot. And increase in labor supply as COVID sort of fears come down, but importantly as immigration picks up and and floods the lower end with a few more people taking the heat of the labor market in that at that end, and that can trans make upwards. But I think these are things that take time. I think the FED has to act to show that it's serious and hope that these forces uh sort of kicking down the line and prevent that that recession from necessarily happening.

Very importantly here, your book, The Third Pillar, was one of my books of the summer. You talked there about the elites of America leaving the community behind. Give us an update. I don't think it's that pretty, is it.

It isn't. And my big worry is that we've spent six trillion, but a lot of it was income support and not so much on structural reforms that would strengthen the capacity of those communities that are disadvantages, that are falling behind their capacity to earn a you know, stronger living to have stronger institutions. Now I think we have

a chance. I think with the increase in technology, the ability to work from home that we've learned in the pandemic, maybe economic opportunity can spread more widely, that people in skilled services don't have to go into the big city every day. They can stay in more remote places. They can fertilize those places with their capabilities, with the incomes, and you get a spreading of economic activity. But we

have to work on this. We have to do far more, and I think if we do more, it will reduce some of the divide that plagues not just the United States but almost every industrial country. We do have to build up elsewhere, level up, so to speak. I always enjoy listening to say thanks to famous for so long a ranch and there at the University of Chicago. Let's go right now and moving forward into the summer. Is

a joy to speak to Angelo's stand. She is non resident Senior Fellow Brookings and author of my book of the Year, made far too early in this Tumultua was two thousand, twenty two Putin's world. All I can say is it's definitive. Professor Stan, thank you so much for joining today. Here's what Wikipedia says about Mr Putin's health. These claims are speculative and made by those who are not medical professionals. So Dr stant I remember you on Dr Kildare a few years ago, how is Mr Putin's health?

I am not a medical doctor. Good morning, So it is all speculation. I mean, if you looked at him on Monday in the May ninth rally commemorating the anniversary of the defeated the Nazis, he didn't look quite you know, as robust, let's say, as he's done on previous occasions. His speech was very short. We all expected something longer and more bombastic in a way. I mean, it was still pretty aggressive, but it was kind of toned down and he didn't make really any news, which people thought

he would. But we do have to reiterate it's all regulation. Um. You know, I've seen on Twitter many people claiming to be medical professionals who have diagnosed him with a large number of ailments. But we just don't know the truth. I don't understand. You have studied Napoleon to Moscow, Hitler to Moscow, and now Putent to Kiev. Is his military overextended? I think it is. I think they're doing much less well than people thought. They're even having a very hard

time taking the rest of the dune bus. They have taken some territory in the past few weeks, and they're grinding on. They're still just as brutal, but we one would have thought that they would have been able to take more territory. You have this kind of dynamic stalemate now in the Ukraine War, the Russians take some territory, the Ukrainians pushed them back. The Ukrainians are now pushing

them back from Harkey, the second largest city. So they are not performing as well as people thought they would. But they still do have the firepower and the manpower, so they're going to continue this grinding war. I go as long as they can until they achieve some of their objectives. Angela, how much raw equipment do they have

left that doesn't need any repairs? And I asked this because a lot of people were talking about the sanctions and how it would prevent imports to Russia of some of the key aspects to fix for example, tanks, to fix other issues their planes. How much is that starting to bite? Oh, I think it's definitely starting to buy exactly with the sanctions and the spare parts. I mean, they still do have equipment, but as far as we can see, it isn't top shape, it isn't in great shape.

So it's going to get more challenging for them going forward with respect to gas and oil. And I want to pivot to that point because we are hearing so much about ongoing negotiations in Europe, how would you characterize them Because there's so much uncertainty of what they've agreed on, what they're planning to do, what groundwork is actually getting laid. How realistic is it to see a real shift away

from Russian gas in the near future. So at the moment on the oil, they're still arguing within the EU about a total off, particularly Hungry as a holdout and says that it's not going to stop importing Russian oil because that would be devastating for its own economy. One assumes that they're going to continue these difficult negotiations and try and come to some compromise with the Hungarians, and

then with gas it is more challenging. I mean, the Germans have now said that they do want to get off imports of Russian gas, but they can't do it tomorrow more even in six months, it's going to take them a longer time. The Russians, of course threatening and actually coming off some of the gas supplies already, so that's a rather messy set of negotiations. But they are continuing to try and figure out how best that is. Europe can wean itself totally off Freshian energy, but it'll

still take time. Angela Stent years ago, I remember asking the giant Marshall Goulden this question. Let me ask the same one to you. We were wrong, wrong, wrong, wrong about the strengths in our intelligence of the Soviet Union. Do you believe we have a good understanding of the strength of the Russian army, the Russian military complex, including navy. So I think we overestimated the strength of the Russian military,

just apparently as Putin did. I think even our intelligence services have been surprised by how badly they've done, because maybe we just didn't have insight into the impact of this pervasive corruption where a lot of the money that was supposed to have gone to new equipment, to training, to building up the army is lining people's pockets and maybe we just didn't understand that well enough. And I think we're now coming trying to reassess our previous assessments

of the Russian military and maybe downgrade them. But I think it's sort of natural that any intelligence agency will look at the worst case scenario because that's what they have to do. And therefore they probably did overestimate how quickly the Russians would they will be able to accomplish what they're trying to do in Ukraine and to the stand of Brookins, and they're just wonderful to have you with this on the program as always, and you to thank you. This is a joy in a great pleasure.

Barton Crockett is a gentleman of certain courage. He's at Rose and Blood Securities and joins us right now. And as all of you look at your draw down, let's pick amazon down from the peaks. Crockett lonely was out front. He has been a consistent neutral as a general statement on the fangs for quarters and quarters and quarters, Barton, I want to drill down to one emotion right now, which is does Jeff Bezos come back to Amazon? Is Amazon online retail so screwed up that like Igor at Disney,

Bezos must return? Oh Bezos isn't coming back. He's uh, he's enjoying life. UM. You know, I think that UM. The focus at Amazon for growth is going to be on Amazon Web services, Amazon retail, there direct to retail or third party retail. UM is a business that I think is doing what every business should do, which has gotten so large that I think it is hitting a maturity plateau. And if you look at the numbers for Amazon retail UM for UM a few quarters now, they're

not growing faster than retail overall. And that's sales for Amazon and UM. You could argue that that's not the driver of value. The web services is, which is I think the saving grace for the stock, but a big revenue line I think is resetting UM. I think the growth story of Amazon is different now because of the pandemic.

We've had a pull forward, We've had the competitive set improve, You've weeded out the weakest players UM, and Amazon doesn't have a strong play in click and brick, and that's a meaningful part of what consumers are looking for right now. Parton with the pullback that we were, the pullback that we're enjoying, or would you suggest that the anointed profitable of technology are going to have a come to Jesus moment and they're gonna change their business models more towards

profitability and use of free cash flow. We're already seeing changes, you know. We're we're seeing Amazon work through excess supply. Remember a bull argument for Amazon was that in the pandemic, they build up the supply that would power the business because it would give them the capacity to meet the demand, and instead they overbuilt, so they're having a right size

to reality. Um, you know, we're seeing that in other businesses, um a tighter focus from these growth stories on what life is when you start to face more maturity, which is what a lot of these big companies are coming into right now. So talking about right sizing, we've seen a huge right sizing and Twitter share prices today. We've seen Ellen must come out and say that he was going to put it on hold, but then he just came out recently in the past few moments saying that

he was still committed to the acquisition. You're seeing a bit of a pop near forty dollars on the shares, but still a deep skepticism that this will get done at the deal, at the price deal that that he was talking about. How much of a rerating do you think needs to happen further, based not just on Twitter's up model, but also on the broader reevaluation of how much some of these big tech companies are worth well.

I think I think in the case of Twitter UM, I think that this is Elon musk being Elon musk Um. I think at the end of the day, he's he's put his uh put himself so deep into the water on this one that I don't see it, see it. I don't see him turning back Um. You know, if he did turn back Twitter, there'd be some sentiment reset. But I think on a fundamental basis, I don't think he actually paid much of a premium. I think that Twitter um was not as miss priced as as you know,

perhaps some other equities have been. UM. Look, I think that that what we're confronting right now is UH separation from some companies. So some companies are confronting the reality of an addressable market that is not what we thought. We're seeing that with Netflix. I think we're seeing that with Amazon Retail. UM. Other companies I think are going through UH situations that are going to be long lived.

And I put Apple in China UM. The never ending COVID lockdown is what that does for an important end market, what that does for never ending supply disruptions. I put them in that camp. UM, you know, for businesses where the blue sky story is not what it was or is being challenged. UM. You know, I think right now is a time of reset and a time of rethink for companies that are going to be able to power through this. And I put alphabet UM in that camp.

The search business is something that will be here generationally. YouTube I think can handle its short form transition. UH cloud services, I think, you know, that's a company that I think can separate. So in the Fang group, that's the one company that I'm recommending UM near the other companies I think have issues that need to be worked through.

Abouttom one issue with Twitter, and let's finish there. Just on a substance of the tweet from Elon Musk this morning, he's basically probing this idea that there might be more than five percent of the ubas a base that make up spam, fake account spots and all the rest. You've got any calculation on that whatsoever? No, I mean there's no one on the outside that can can you go beyond Twitter's disclosures, nor can Musk. I don't think Musk knows,

you know, I think this is talk. I think this is him doing what he does, which is stirring up the pot um and so uh, you know the caveat is that you know, I'm not Musk. I don't know precisely what he's going to do, but like that would be time. I think there's gonna be the bottom line. No one knows what Elon Musk is thinking. Let's not try and work that out. Bona Crockett Rose and Blast Securities, Megan Green, Global Chief Economists Institute where Thissen, Senior Fellow,

Harvard Kennedy School. Megan, you know the framework here two percent and unders where we're comfortable on inflation. Adam Posing and Peterson Institute is controversially suggested maybe the new two percent is three percent, hoping a prayer or trying to get back to four percent. How important is this discussion of two or three and four percent is a new level of inflation. I actually don't think it's that important. Lots of people have been saying that the FED should

be targeting three percent inflation all along. Anyhow, the point isn't whether it's two, three, or four. It's it's whether it's stable or not. And so I think the glide path to that is what's most important, whether it's to three or four percent. I think the FED, by the way, would be fine with three or four percent inflation by the end of the year. Unfortunately, I don't think we'll quite get there yet. That might we might have to wait until next year for that, but it's it's the

path there as long as inflation expectations remain anchored. I think the FED is okay with overshooting your target, but that much they're just not okay with what we have now. How much of that glide path is linked to the

glide path of a slowdown and economic growth. They're clearly linked, um and they get at the debate on whether inflation is so much higher because of demand side factors or supply side factors, and we economists just fundamentally cannot agree on that, in part because we've never put the economy on a deep freeze in defrosted it before, so we've never done this before. But also in part because it's

demand relative to supply and supply relative to demand. So if we have a weaker economy, that undermines demand and so that can take some of the heat off inflation. And that's pretty much all the FED has got to work with. The FED can't do much about supply side actions, and I tend to actually think that it's the supply side factors that are overwhelming demand side factors on inflation.

Right now, all the FAI can really do is engage in what we economists call, you know, aggregate demand management, which means killing off demand. And that's why everyone's so worried about FED actions resulting in a recession. Megan, if you're talking about the majority of inflation coming from the supply side, then essentially, given how strong those pressures are, does the FED essentially have to spur a recession in

order to fight inflation? And I ask this because frankly, it's a sort of delicate issue that a lot of FETE officials are trying to dance around. Yeah, it may well have to. As I said before, the FED can do anything about supply side factor is all I can do is tinker with demand. And so we obviously are out of whack between the two uh, and so the FED is going to have to cool off demand UM. And of course central banking tools aren't precise. They kick in with long and variable lags, and so you know,

the FIG can't find tweak this perfectly. It may end up hiking too much and pushing us into recession. In fact, that's what usually happens. The hope is that the FIG can generate some kind of soft landing. I would say this is going to be really hard. I mean, the FEED is effectively trying to thread needle wearing of admitst blindfolded. It's it's going to be really tough. So we haven't really seen the repricing to the same degree and credit

as we have in equities. And this is interesting because frankly, a lot of people look at credit as the canary in the coal mine. It has not been that. How concerned are you about some sort of crisis to be in terms of the next couple of months or even a year, because you're getting both the growth slow down and rates that are higher. You know, I'm not that

worried about it. Before the pandemic hits, I was very worried about corporate leverage in the US, and of course the FEDS actions in response to the pandemic supercharged corporate leverage. That being said, companies have built up huge cash positions, and so I think that they've got a while to burn through that before we really need to worry about um credit and about kind of defaults that end up

being sort of cascading defaults prompting a recession. I think we're a long way off from that, so I'm not particularly concerned for what it's worth, though. I think if if that were to happen, if there were signs was coming, I think the FED would actually about face and and there the FED put still exists. I think the FED is fine watching equity markets fall for now, that's not really systemic. If we saw dislocations in the credit markets,

that would get the FEDS attention of the Crown Institute. Megan, thank you. When you have the courage to write the notes that Mr Schumacher writes votes, you not only put a rate on it, you put a date on it. Mike Schumacher is one of the very few saying here's the terminal rate Mike Schumacher three point zero five percent in the middle of next year, and then you go on to a higher statistic, is well, what is the likelihood of that happening? Given the worries about a growth slowdown?

That's time we think the market has to price a lot more tightening by the FED. And the reason is the policymakers are talking tough, and I know the markets faded the FED countless times over the last fifteen year. This one does feel different. Powell's basically penciled in fifty for the next couple of meetings, so we think there's a pretty good chance of that terminal riak gets up to three seventy five over the next few months. That'll feel really bad for risk assets, but that's really the

idea actually is to tighten conditions quite a bit. How bad will it feel for equities given how much I've already priced in versus credit that perhaps and arguably has not priced this all in yet. I think I've talked to my friend Chris Harvey off the ledge, Lisa, but I suspect that's probably under down turn up ten plus percent. Wait, you think that there's another ten plus percent downside within credit.

Oh no, inequity. Okay, did you tell us, Mike, how Chris responded to that, given that he's got to think of forty seven fifteen price target on the SMP. You know it's not today to quantify these things, John, it's right to the thirteenth. A lot of strange events happen. So I'll leave that to Chris. But but down a bit. But John, the problem is Harvey's standing on the ledge of the bar had been one fifty six straight and it's a little like a t I guarantee there's an

AMU white and give in a few minutes time. Mike, let's work through this. You had a big coal on the front end at the start of this year. It was kind of at a consensus. I remember looking at it. I think it was about one fifty or something on a two year and I thought, Okay, that's punchy. We've blasted through that, Mike. Have we done everything we need to do with the front end of the curve? Is

that done? Dusty finished? I don't think so, John. And it's interesting, right because you think about how much tightening is priced in over the next couple of meetings, fine fifty each, sort of boring. But for the end of this year, it's it's been bouncing around between two hundred. That seems to be sort of where it's gonna land. But our big issue is how little tightening is priced for next year thirty forty basis points. That's a joke you think about it. The biggest inflation worry and actual

reality in the last forty years. And how can the FED or other central banks that matter, really think they get in under control in twelve months time. I think that's incredibly implausible. So we bat a lot more tightening to be priced in. That pushes up a two year, pushes up three years, So a lot more work to

be done there. Michael, speaking of work to be done, you are way out front of the weekend notes we're gonna see and frankly the notes into June, which is the party is over at a goods supply chain analysis and that inflation is greater embedded into our system. Does Wells Fargo model model a path to four or an atom pose in three percent? Or can you actually model back to a two percent level? Yeah? Two percent seems

aspirational at this point. Tom I need to put it kindly in you've got to say, well, where are the central bankers likely to the cleare victory? If they got inflation down to three percent, let's say in eighteen months, that'd be good enough. Maybe it's still too high to fifty I think they're done. So two percent maybe in many many ears, but not in the next Warner Field forecast dependent FED. Still then ultimately they get down to say for and they forecast two, and then they're done.

I think that the deal here, John, is that the FED is going to have what I would call a binary discussion, maybe in five or six months, and they'll say, look, inflation is down almost certainly, probably down a third bet and this is what a lot of people discussed. And then what does the third How does the FED read that? Is that the piece is good enough for the level still bad And we don't really know the answer to that.

So I think the FED is it's looking at the actual data coming in, paying a lot less heed to its models, and it has in the past, but that really multiplies the chance of an overshooting too much. Typing my shoemaca of waging Mike Tons to think about that. Thank you, buddy, and good luck with Chris when you get back to the office. This is the Bloomberg 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 In. This is Bloomberg