Surveillance: The Phillips Curve Is Still In Play, Posen Says

chairman of the SEC. Arthur Lovitt leveled the playing field for the individual investor and the vicinity of the seventies and into the nineteen eighties. And he did it with John Poke. Arthur, you wrote the foreword for the Clash of the Cult investment versus Speculation. For John Bogel, he changed how all of us think of money, didn't he? Yes, he did. He was a real master in terms of understanding the costs of money, something frequently overlooked by investors,

particularly with respect too mutual funds. Those fees that are upfront and seems so minute, are so massive in terms of their implication of loss or gain. And Bogel was the one who pioneered that from his beloved home in Lake Placid, New York. Uh he wrote about accounting standards and fought fearlessly for stronger accounting standards so that investors could understand the implications of one funds costs over another. So, Arthur, obviously you know just a you've had such a wonderful

long term relationship with Mr Boga. What do you think his lasting legacy will be for the individual investor in the marketplace? I think, above all else h he has taught the last vast array of individual investors the true costs of their investments. How minute changes and fees have massive implications in terms of loss or gain. And I think even today, the knowledgeable investor gravitates towards uh the

Vanguard fund formula of the lowest possible costs. And I think that the vast number of sophisticated, knowledgeable investors understand that, and that accounts for the extraordinary success of Vanguard funds. It was ironical that Jack, because he spoke so openly and fearlessly and not necessarily with discretion, was pushed from the management of Vanguard Funds and operated solely out of his home both here and both in the East Coast

end up in Lake Placid. So you know, it's it's amazing, Arthur. If we think about it today, it's almost common knowledge or accepted knowledge about index funds and ets tied to index funds and minimizing fees. But when you go back and you take a look at Mr Bogel's career, it was so radical in the mid seventies what his thinking was. He came from the traditional mutual fund business, Wellington one of the big bohemus still today about the traditional muti

fund business. But it really wasn't in the mid seventies early seventies when he brought this concept of indexing and focusing on costs. It really was radical back then, wasn't it.

It was radical because the vast majority of investors like to pick and choose among the array of stocks available to them, and it took an index fund, which really mimic the market as a whole, to be sold as a single unit, and a huge number of investors have gravitated towards that and have come to understand the implications of fees as critical in terms of whether they win or lose in the market. Yeah, it's just h yeah,

you're right, you're exactly right. It's just amazing kind of how that evolved and kind of where we are today and some of your more recent conversations with him, UM, what were his thoughts about where he thinks invest will go should go, the role of the individual investor, the role of the hedge fund. How did he kind of envision how maybe individual investing what will trend going forward.

I think that he hoped and believed that the individual investor would take over more of the control of how they invest using funds rather than picking and choosing stocks.

I think he had he had such a firm belief in, uh mimicking the market as a whole rather than trying to pick stock A or sell stock B. And I think he felt that with the growth of Vanguard and the success of Vanguard and the embrace of other funds in the same concept, the market was going to continue to move in that direction and that passive and nesting was going to overtake and really beat out individual stock picking.

Arthur Levitt, thank you so very much for you know, giving us your perspective on the life in the impact of John Bobel, founder of Vanguard Group. UM. You know, obviously revolutionary figure in the world of individual investing. We wrap up the earning season on Wall Street with Morgan Stanley. Those numbers are imminent when they drop across the Bloomberg will bring you some of the headlines and some of the commentary once the earnings called starts a little bit

later this morning. So worldwide, you've got to say, the recession fears of December to some investors at least already feeling like a distant memory. We've had the C suite on Wall Street speaking pretty optimistically about nineteen, seeing few signs of an imminent turned down. So what's ahead for this market? Jane Foley joining US Rabba bankhead of ex Strategy and senior currency analyst. We have faded much of December already, Jane, before the data has validated that move,

especially over in China and in Asia as well. Your thoughts on that, well, to be honest, I still think that December really didn't mark a change in market sentiment. The market really did take on board that the slower slowing global growth, particularly with respect to the US economy. But I think as we've moved into January, I think the market is beginning to focus more on what that has meant for Europe. And what we've seen, of course

is slower data from Germany. We've seen a talk of even a technical recession in Germany at the end of last year. That may not happen. The indication that we got from the German authorities is that we what we saw in the second half of last year, we're just very moderate next to no growth, and hence we have the sparring match, if you like, in Eurodonna with the fundamentals of both of those major currencies haven't deteriorated. So

what's driving europe dollar? What are the dominant forces they're going to drive that currency pair over the several the next several months. Jane, you know, I think it's a it's another sisters competition. I think it's it has been for quite some times, some weeks at least, pretty easy to put together a deteriorated version of fundamentals for the dollar in terms of slower growth, concerns over fed policy, etcetera.

But I think over the next few weeks and the market really does need to come to terms of what does that mean for the ECB, what doesn't that mean for European growth? And we do have an ECB policy meeting coming over the next week or or two, and that's going to be important because you know, the the ECB have signal that they maybe I can interest rates potentially in December. That's what they allowed the market to

believe last time around. But since then the market has been thinking, well, you know what, they're going to have to throw liquidity at Europe. There's going to be potentially teltos, etcetera. So I think the market needs to reconcile its outlook for the the ECB in terms of the guidance that

is officially out there. Jen It's interesting to me that on the fom C, on the Federal Reserve, the most hawk is representative of the fm C, Esther George, has backed away from an imminent interest rate hike rate hikes anytime soon, Yet one of the most hawk ish members of the European Central banks have been louton Schlager is still talking about rate hikes at the e c B. Why is that still happening on the Government Council of

the European Central Bank? Why are they still having this discussion Because nobody I speak to believes that the ECB can deliver a rate hike against the backdrop that the European economy has right now. I think one of the reasons for that is is to do with normalization. If we if we look at the level of interest rates in the US to be, it is no wonder that they want to normalize. They want to pull back at some ammunition. If they do hike interest rates, then surely

they will be having to do it. What it's sort of easy in liquidity on the other hand, so some people are talking about an interestrate maybe, but Telto's on the other hand, and and this very interesting scenario, very interesting situation, and again this is one that I think the market really does need clarity on. Certainly, it does seem from a just a geological point, I feel difficult to understand why the ECB could be. I can interstrate when you have Germany slowing the way it has done

in losing momentum, and it's not just Germany. We've seen weaker data from large countries in Europe such as Italy, etcetera. And if at the same time you have the U S sloan and China slowan, so it does seem perhaps at this junction not particularly logical for the ECB two pushing ahead with an interstrate hike until you look at the level of the rates and you begin to understand

that they do want some normalization. Well, consumer spending expects expected to accelerate over the coming week because our chief Brexit correspondent is going to travel from London over to Switzerland. So as he progresses through the continent, I imagine consumer spending is going to get a lift top of there. You're there some have you made it? I've made it here Victorious Street. It was very difficult to put here from the green is. You know, you look at the

Jane Fawley currency transfer station at UM at Heathrow. It's amazing what she picks up on that, you know, on a currency conversion. Someone's making a lot of money at Heathrow, aren't they. Jane smitten money there as well. Jane. Seriously, what happens to the sterling euro relationship of actual day to day transactions if Brexit actually brexits? Well, you know, once again, it's it's very difficult I think for real corporates.

I think a lot of people who have been able to remain on the sidelines have remained on the sidelines. But you know, there comes a time where real corporates, real businesses have to hedge and they have to get reinvolved and it becomes extremely difficult for them. So I think over the next couple of weeks, clearly it's going to be really really crucial. A lot of people in the market, and we see this in the price are betting that there will be some delay, that the heartbreaks

that will not happen. But of course, as it stands, legally the UK is heading for heartbreaks on maybe the twenty nine, and I think for investors to remain confident that that isn't going to happen, there needs to be some change. There needs to be some legislation in place. But but on a you know, I think of rubble bank and I understand their speculation, and there's a currency, what's that you're going to do? What's polished a lot

are you going to do? I get that, But in the commercial business of hedging business transactions, what actually happens between pound, sterling and euro when all of this happens, well, you know again, and we can go back to our customers and they are asking us of the have been asking us that question for a while. There are a lot of board protection, but a lot of them will have, you know, the some of the protection that they will have learned out, we'll start to will start to fall

off the books after after March. So they do need to be very considerate in terms of what is going to happen for in exchange. But to be fair to them, you know what, investments can look at the probability and think, well, you know what, there's a good chance that there could be a delay. We'll take an oppositions. Accordingly, businesses don't have that luxury. They have to prepare for heartbreakit because that is what legally is potentially going to happen. And

this puts them in a really quite difficult position. They have to spend that money to make those preparations, and that, to be honest, I think is the first consideration the foreign exchange. It is just a complication for them. Jane Greater to catch up with you, janet Folio their Rabbi Bankhead of Effect Strategy, senior currency Analysts, Gerard Cassidy with us with RBC Capital Marcus Gerard, what's the history in

other cycles where there are trading missus? Is there an understanding in the C suite that you bounce back or do you make a media it changes to the business plan. I think Tom, what you do is you anticipate that there will be some bouncing back or normality. We all know the fourth quarter was quite unusual in terms of

the volatility. You might recall Tom, in the month of December, we didn't see a single junk bond underwritten, or high yield bonds as they call him today, but we didn't see a single issue underwritten, and so this shows you the severity of the downturn in Fick. So I don't think there's no knee knee jerk reaction yet, but if these trends continued through six months, that's when you have to dust those issues. John Farrell, you've been all over this.

You absolutely nailed the idea of junk bonds being quiet in December, John Farrell, has there been any indication on your property that yield yield, real yield, that things have bounced back. Well, the good news is the primary market has reopened. But Gerard, I think that the issue for high yield is that it was a story not just through the fourth culta, it was a story through the

whole year. We had this very soft supply story, and as you know, Jarard, it was made up by the left loan, the leverage finance business for some of these banks that did actually really well with the exception of the last quarter. So jaredds we look out. I'm wondering that you expecting the high yield supply to still be pretty low and will be made up in the way it was made up last year with some really solid

leverage loan issuance. It's really gonna come down to the cost of raising this capital and you put your thumb on it when you compare it to the leverage loan versus the junk bomb market. And so if the yields and the junk bomb market are attractive, companies could tap that rather than going into the leverage loan market. We

did see withdrawals. You know, et f s and mutual funds are big owners of these leverage loans now, and the fund outflows in the fourth quarter were quite pronounced, so the demand on the leverage loan side may not be there as well. So I would suggest that it's going to come down to the cost of raising the money, and if it's more attractive and junk bond land, that's where they will go the good news, Jared. If you look at the likes of Golment Sacks answer that mana

Morkan standing this morning. The one beat that I can see is on investment banking revenue. The investment banks, the M and A, in fact the Vanilla retail banking last quarters still seem to do okay. Jerrard, I totally agree with you, especially in the Morgan Stanley numbers. When you look at the three components of investment banking, which is equity underwriting, dead underwriting and advisory. Advisory was very strong

way as the other two were under expectations. And that was across the board from all of the investment banks. Are they a bank? I mean I asked this about Golden Sex as well. All this discussion you're having with John Farroll, it doesn't sound like they're a bank. Are they a bank? Tom? Is a really interesting question because you know, prior to the crisis, clearly they were not. But because of the crisis they had to become bank

holding companies. They might remember because the funding this was before they FED opening up the window to everybody, including General Electrication might recall. But to be able to access the FED window, these two companies were forced to become bank holding company and they signed a document that had the Hotel California clause in it, which said you can never leave once you come in. And so as a result of these guys are permanently going to be bank

holding companies. Gerald the winner of earning season so far. I think it's Bank America. And I know it's been a big pick for you. Why did they have this business model that's going to do well in the year ahead compared to the Morgan Stanleys and Goldman Saxes of this world? Is it really interesting? Because when you take a look at as a percentage of total revenues, how much the traditional trading sales investment banking represents of total revenues,

Morgan Stanley and Goldman Sacks are very high. Bank America is more diversified. So that universal bank model that Brian Morninghan, the CEO of Bank America, has been working on for ten years ever since the crisis, is finally now opening in stride. And boy, they really did John put up really good numbers yesterday. It's funny Sacks. Jerry Cassidy. Is this a pause? Is it just a one quarter pause? A blip? Um in terms of trading, I would say yes,

I would. You're starting off better. Absolutely, Okay, kid, thank you so much. As the capital markets really a foundational guest of all we do at Bloomberg Surveillance. Tom, let's bring in Simon French show we pen More Gordon, chief economist, on the view for the global economy. And I want to start here in the United States, Simon, because if you take the commentary from the c suite on Wall Street,

they're saying, this economy is looking good for nineteen. If you look at the data we're going to get initial jobless claims in about twenty eight minutes of real time indicator of the health of the US economy, it looks pretty good. Any reason to believe there are serious cracks out there, Simon, Well, the financial markets are telling us

that there are cracks out there. There is a there's a breakdown, isn't there between where financial markets are starting to price the outlook for the economy and what the

hard macro data is telling us. And at the moment, I think the macro dator tells us there were certainly getting a mean reversion movie here towards trend US growth, which I don't think many people would have been on your show in the last eighty months and say, look, it was sustainable for us the US economy to expand north of three percent year on year, So we are

thinking some mean reversion. While I spoke about with Tom earlier on TV was the fact that the risk here is you undershoot to the downside as inventory start to de stock and some of the sentiment that were seeing in financial markets may translate onto main streets. Well, the risk also applies to Wall Street as well. Simon that you felt to draw a distinction between what is a deceleration back towards trend growth that and a potentially big

cyclical turn that leads us into a recession. I think a lot of people have the last couple of months struggling to get their hands around which one we're experiencing right now? Which one do you think it is? Simon? So so I think there's mean reversion going on here.

So so my own view, who is we'll see a lot of the stimulus from both a softening of the tone from central bankers around the world, the Chinese stimulus that is a repeat of the twenty program, and then also they pass through to consumers from lower energy prices will start kicking in the second half of nineteen, which means that people are gonna have to get used to some fairly difficult comps in the first half of nineteen, some soft macro data, but not draw a linear line

downwards into the red simon. One of the hallmarks of our interview today on John Farrere. One of my other properties was with us was Mr Rattler of Deutsche Bank hugely optimistic within the gloom of Europe. As an economist, does the stock market go with a view of economics or is it a separate beast. It's a bit of separate beast. And I think we've we don't have to go back far in history to look at moments when you've had economists and actually strategists on your shows giving

you the perspectives that are fundamentally decoupled. And the question is who wins that that race on the data and here and I think at the moment, what we're seeing is valuations across Europe and eleven times twenty nineteen earnings factoring in a fairly substantial recession, not just in the UK but also in mainland Europe. And I think that's

overdoing it. Looked low trend growth in Europe of you know, between one point two to one point five percent means that a policy mistake could tip you into negative territory. But I do think given the expansion of early twenty eighteen was two and a half percent, you're just seeing those numbers weighing on the year on year comps. Well, the weighing on the year and your calves and the answers corporations adapt I mean, is the adaption in this slowdown,

the adapting I should say, in this slowdown? Is it just simply cost cutting? Is that what you and pan mercy for not only for the United Kingdom but for America as well well. The sort of looks start with Europe. I mean, you're not seeing cost cutting front and center at the moment. Where where you are seeing is some caution over investment spending, meaning that you look at the caution over spare capacity. Spare capacity has been the big boom element for the global economy over the last six

or seven years. We've been able to put the spare capacity there's been inactive back to work and that's workers that factories that is broadly now run its course, now, the last major economic area to use up its spare capacity was the euro zones. Of course, corporates need to start make decisions on whether they need to start bidding up wages or investing in what looks distinctly end of cycle.

The US economy, though, is further down this route, and I think it's far more about the policy mistake coming out of the White House and the degree to which that passes through the consumer investor sentiment, that being the clinsurer as to whether we get a soft landing or something more maligned with someone. It seems to be this obsession and I'm not saying this is coming for you, but more broadly, there seems to be an obsession with a policy mistake in the United States. I'm looking at

Europe right now. I'm seeing a total reluctance to do anything on the fiscal side, barely any capacity to do it in Southern Europe, and on the monetary policy side, an ECB that has not been able to get away from negative forty basis points on a depot rate. Now we're thinking about policy errors going into a late cycle story. I am way more worried about Europe than I am the United States. At least in the United States, there's no real side of funding stress. Even though we've seen

the deaf sit explode, yields are still really low. So that's the fiscal position. You can worry about it if you like. Okay, we can have that debate separately. But the monetary policy position is a whole lot better than Europe. Europe looks weak on both fronts, and they don't have the growth either. Yes, so I think it's just two

different potential policy mistakes going on here. Do see what I've described as a structural policy mistake in Europe where they haven't used period of exceptional monetary policy to repair or repair the structural rigidities but also complete monetary union.

But then in the US it's a far more cyclical policy mistake where you see, you know, the protectionist moves that we're seeing starting to translate through to consumers and investor sentiment, which I think means they're very different beasts. And the reason why I think media attention focuses on the US angle is simply because the European problem is one that has been around for US for most of

European monetary unions. So coming on for twenty years. It is quite difficult to get excited about a problem that has been known and has grown in magnitude over that period, rather than one that has appeared on the horizon and the a question marks over its sustainability. But the question that confronts investors is why do I want to allocate capital into a region that I continue to get burned

every time I do it? Simon and I think, we sit here again, and the answer is I don't want to most of the investors that I speak to here in the United States. Is the attitude any different in Europe? Yes? So, so I think the answer in one word, evaluation. So you look at the best part of sixteen times earnings in the in the U S economy at eleven times earnings largely in Europe, and you say, is that evaluation

mismach that I can take advantage of? Should the particularly the geopolitical events in the UK, but war wider in Europe star to or mayor eight during the course of the year. If you think that isn't Normally that p ranges around two and a half to three. So if you think that delta has grown too large, then it's it's simply a closing back to its its long term average, rather than you're off to the races on the basis of above trend growth the same inference. Thank you so

much to the Paymrick Gordon today. It is a joy to wander over the next twenty seven minutes with Adam Posen of the Peterson Institute. There are fourteen to seventeen things we can talk about, including Dr pos is gonna solve Brexit for us, But in lieu of that we will talk to Adam posing about the economics of this moment. Adam Posen, is the Phillips curve still in play as

an operative theory at the Echoes Building? Or is megden de Side told me yesterday, are we in just simply a state of dis equilibrium where it's every central bank for itself. Oh that's really good, Tom, thank you for having me Um. The answer is both, not, not one or the other. So the Phillips curve is definitely still

in play. The widespread belief, including from my colleagues Olivia Blanchard and Joseph Ganyon and from the leadership at the Fair, is that it kicks in at some point, but that we are clearly experimenting with how low we can go before it kicks in, and how steep or accelerating it

will be. And I frankly I commend Chair Chair Pal Vice Chair Clarinda Governor Brainerd everyone who's come out and said we can afford to risk it um, and particularly that they've been bringing out the fact that bankers like not to say, which is that you can have wage increases that can come at the expense of profits um that are not necessarily inflationary. The phrase how low can

you go? Is so important, folks. And this goes back to the diversity within economics of using interest rates the nominal in the real rate down through negatives like the German two year now has been chronically negative dr pos and we can frame this is maybe Laurence Summer saying maybe not and someone like Marvin good Friend of the our conservative thoughts saying, use negative interest rates as a constructive tool. How are we doing in our negative interest

rate experiment? Well, I think we have to keep re emphasizing that the negative interest rates Mr. Keen are mostly what the economy gives the central bank, not what the central bank gives the interest Yeah, that it's it is. And this is where I think Larry Summers made one of his biggest contributions. It is arguably a reflection of the low desire for investment, be at risk aversion after

the crisis. Be its cyclical, although it's harder to believe at this point it could be cyclical or be it be be it that we need a negative rate just to keep the economy turning over. Now, this is a very disturbing thing and it gets you into all the issues of productivity. But from the central banks point of view, if they're not, if they're finding that, you get a recession. If you raise rates at this point, that's telling you something about the real economy. It's not telling you something

about the central banks. So, Adam, I'm actually kind of amazed at how well the sterling has kind of held in there over the last week. Is you know, we've had some very unprecedented things happening in the House of Parliament. What do you think Theresa May can bring to the House of Commons on Monday that might support the sanguine outlooked at least the currency market seem to be forecasting well. Paul, I think here I'm not very different from a lot

of what you all in Bloomberg. I've already been analyzing reporting. I think it was just a lot of this was already priced in, and people perhaps a bit wishfully, but I think reasonably think that there's more chance of a good resolution and less chance of a hard breggsit no deal breggsit, so that's kept Sterling afloat um. What can

may bring on Monday is very difficult. I think the ways we get out of this are either a people's vote, meaning a referendum directly on no deal breggsit versus remain, or basically make capitulates and she goes to um too, essentially Norway plus plus plus, which means in the EU and economic terms out in political terms. She won't do that because she cares too much about free movement, she's

too anti immigration. She won't do that because the people in her party on the right wing won't support it. And she won't do that because Jeremy corbyin wants to create chaos. Whether it should be as a cross party vote in favor of suspension of Article fifty for the good of the country, but that's not going to happen. Do you expect the European Union to make any meaningful concessions to allow May to get some kind of deal

through Parliament. As as my friend Jonathan Porteris is one of the leading British analysts of breggsit has said, you know, for the heart of hearing what the EU has said is you compromise on freedom of movement. We're happy to talk deal, but if you don't move any of your red lines, don't expect us to change anything. Um And so you know, there is are these rumors that they might sell out the Irish in some sense because the Irish backstop, which is a complicated issue, is very symbolic

for the right wing of the Conservative Party. But in the end I don't think they will. And imposing this is so important where your work at the Bank of England and your expertise on Germanic society and the whole continental historical economic movement, all this is great, But the bottom line for Leave is in nostalgia for another time, maybe to rebuild the empire or to go back out into w t o say younger George Herbert Walker Bush

get kind of stuff. How do you frame that nostalgia for two thousand thirty No, Tom, I think you've got your finger on it exactly. This is the fantasists. I mean, we saw this even from Neil Ferguson a couple of years ago, though he since recanted that we're gonna break up the EU and essentially and have you know, the northern essentially white conservative uh states all come together and we're gonna have a Hanseatic League and we're gonna do this,

and then these fantasies. That's for some reason India or Australia would care more about trading of the UK at this point than with the rest of the EU, even if there wasn't resentment over the past uh uh colonialism. It's just stupid for those countries to think that way now. So it is an imperial fantasy. It is a right wing fantasy. But unfortunately Corbin and some on the left chair it because they have a different fantasy from the thirties,

which is Stalinist socialism in one country. Let us continue, I'm posing with us wound up on Brexit and of course, working at the Peterson Institute, where he has put together a terrific team of people. He mentioned Dr Blanchard. I sighted an Olivier Blanchard chart from I think ten years ago in a A and one of our wonderful guests today was using it to show Brexit dynamics. This was on a log basis, So I don't know if we

should do logarithms on radio. Maybe that won't work. Are you buying a snowshovel for this weekend and imposing I'm out on the Davos Tom like you, so you can shovel and I'm not wrong. I'm I'm in sunny Washington. You'll stay in sunny Washington where you hear there's snow, and yeah, the snow folks, seriously in Switzerland and Austria is record levels. Adam Post and thank you so much.

Thanks for listening to the Bloomberg Surveillance podcast. Subscribe and listen to interviews on Apple Podcasts, SoundCloud, or whichever podcast platform you prefer. I'm on Twitter at Tom Keane before the podcast. You can always catch us worldwide. I'm Bloomberg Radio