Hello, and welcome to another episode of the Odd Lots Podcast. I'm Joe Wisenthal and I'm Tracy. I have to say that at this point maybe in my career, at this stage in the economy, I can't remember a time in which I feel like there are so many, like legitimate, divergent views on the direction of the economy. Like some people will say, like inflation is going to stay high through all of three and the economy isn't gonna slow down.
Some people are saying, Okay, we're heading for a recession because the FEDS hight rates and housing is plunging and other things. Oh, where's this is getting stagflation? Because there's in trench, Like there are many very legitimate views in
my perception about where things could head from here. It does feel very bifurcated at the moment, like two very extreme paths, like either you get a massive global recession and ensuing deflation, or you have this period of nineteen seventies style hyper inflation, or you have something even worse, which would be stagflation. And you know, people used to talk about the prospect of the soft landing that kind
of went away for a while. This idea that the FED could raise rates and quash inflation without necessarily engineering a huge knock to economic growth. It kind of went away for a while, I think when the inflation readings kept coming in higher than expected. But we're recording this on January six, and we just had a really good
payrolls report. From the perspective of the soft landing thesis, we had I think unemployment dropping but wages easing a little bit, so we don't have to worry about that wage price spiral that central banks were all scared about. And so now we have a lot of talk again
about the possibility of the soft landing. Yeah. I mean the way I've been thinking about it is that until unemployment actually really starts jumping, and it hasn't jumped at all, because we're back down to three point five percent like the historic lows. I think I saw a tweet that actually, if you were like go out to the sixth decimal point, it really is like the lowest and like fifty years now. I don't know I did in fact check it, but you should do a post on it if that's true.
This way, this is why we need like each other, like in the office, so that someone's like don't just like, don't just look at the tweet post. But in all seriess is, you know, like until my view is like until unemployment like really starts to rise, like until we really have that like the soft landing scenario like can't be disproven, right because there's always the chance that inflation comes down and employment doesn't go up, Like it's a hope like you know, knock on live we all wanted
to happen. But you know, until like unemployment really starts falling apart, that can't be disproven. And then there's the additional layer, which is, let's say, inflation where to come down and get closer to the FEDS goal, but the unemployment rate refuses to budge. Does the FED believe it or does the FED say, know, like, we have to keep hammering. We have to keep hiking rates in order to get unemployment up the only so that we can
be confident that this decline and inflation is sustained. I do have to say, like part of me still still feels a little weird when we're talking about the FED explicitly trying to push up unemployment and also like the idea that oh it's good that wages aren't going up in a period of high inflation. We're all kind of poorer. But on the other hand, we don't have un anchored inflation expectations. But setting that aside, the thing I'm getting from this conversation is that we have a lot to
talk about. That's right, and we could keep talking because we have plenty of thoughts. But why don't we talk to two guests who we've both had on before that also plenty of thoughts, some of our favorite sort of like big picture, a coom thinkers. A great conversation, I'm hopefully a great conversation to start twenty twenty three destined
to be a great conversation. I'm sure. Yes, we're gonna be speaking with connorson a columnist here in Bloomberg Opinion, as well as Neil Dutta, head of Economics Renaissance, macros So, Connor and Neil. Thank you so much for coming back on odd lot. Great to be here. Thank you. I'll start with you, Neil, because you know you're you're you know, I think at some point last summer you're starting to get a little bit more negative on the economy these days.
I feel like you're a little bit more optimistic, can we get the soft landing like is this still in the cards? Well, first, thanks for having the the Harold and Kumara find into it on on on your on your podcast. We definitely appreciate it. But you start a competitor, start a competitor. I had to get that in there. But but at any rate, yeah, I mean the news today was good for the soft landing bulls. I don't really see how you can cut it any other way.
One of the data points that we like to look at is UH, the index of aggrega weekly perils, right, which is the some product of job of jobs the work week and UH and hourly earnings. And you know, over the last three months that's up, you know, just under four percent at an annual rate. So that's basically your proxy phenomenal growth, right, I mean jobs and hours that's real GDP and wages you can consider is basically your inflation proxy. You put it all together, you're around
four percent. That's the kind of number that will make the Fed very happy and I think lead them away from a more aggressive rate tightening campaign at least in the short run. But I think to something that you were getting at earlier, the unemployment rate is three and a half percent. I mean, there was a lot of discussion around this sort of yawning gap between the household
measure of employment and the establishment Perill figure. That gap basically narrowed substantially in December, right, And the unemployment rate is three and a half percent, And you know, ultimately it's hard to for me at least to push the kind of immaculate disinflation thesis that much if the unemployment rate is three and a half percent. And you know, ultimately the FED views the labor markets as the conduit to achieve their inflation objectives, and you know, by that standard,
they're not really succeeding. And so you know, and remember that the inflation numbers will look a lot better over the next several months, right, I mean, you have gas prices coming down, you hustle utility bills will probably come down, food prices will probably moderate, but aggregate incomes growth, you know, are still okay. And so it just means that you
have this pick up and real disposable income. So that to me puts pressure on capacity, right, I mean, real growth takes away you know, resources, real resources and um and ultimately as you put pressure on on physical capacity, whether it's labor or product and resource markets, that will ultimately put pressure up on an inflation. So I hate to say it, but you know, it may well be that the improvement that we see, or or the sort of the soft landing bulls having their day in the sun,
maybe that proves transitory. So that that that that's sort of how I'm thinking about it right now. But I definitely think the wind is behind the soft landing bulls is back at the moment. Connor, Yeah, I think right now it's easier to think about what's happening in the economy at the moment and over the next three to six months than to talk about sort of the more abstract does this level of labor market utilization mean this
for inflation in that for a session. I think that's a conversation really for the second half of this year and right now, because people came into the year so negative. I think the bigger story is just that real growth was very good and Q three looks like Q four and we're kind of entering with good momentum on that side, and then at the same time we see inflation really rapidly coming off between core goods, which we've seen for several months now, gas prices, which is just phenomenal thing
but still matters to the consumers. And then also in the rental market, we're seeing market rents really start to decrease pretty rapidly over the past few months. So the the outlook at the moment is very very good, and we can sort of think about later later, but I think the story for now is just how good things
are heading in. So, Neil, you sort of touched on this um, the idea of the FED at some point starting to slow down its rate increases, and we had something else this week again you know, we're recording it. The first week of three, we had the Fed Minutes where the Fed was talking about the difficulty of tightening financial conditions, and financial conditions, you know, relative to the pace and extent of rate increases, you could argue have
been relatively loose. So I guess my question is, like, what would be the catalyst for the FEDS starting to take its foot off the pedal if we haven't really seen a big tightening of financial conditions. Well, part of that's implicit in their forecast, right, I mean, to me, I think a lot of this is just optics, right, Tracy.
I mean, how there's no denying that financial conditions have actually eased over the last couple of months, even as the FETE has been, um, you know, trying to job bone markets and has been hiking you know, seventy basis points fifty basis points, signaling more to come. But to me it's optics. Yeah, I guess my question is more like, when do they feel comfortable stopping the jaw boning because it is clear that they're talking about, you know, higher
rates for longer, and the market isn't necessarily believing them. Well, they're getting there. I mean they're getting there already, but I don't I mean, I don't know that that that it's formulaic. I mean it's sort of like a touch and field type of approach. I mean they go around. I mean Bullard is talking about how okay, we're getting close to the end. I mean, he he was a hockey, had some comments this week that would rent a little
bit more devish Lee. But we don't know, you know, sort of x Anti, you know what the right and level for the for the fet funds, right should be to cool the economy. I mean it could be multi vers I mean, it could be you know, different rates at different points and time. I mean, this is not I mean to me, this is more like this is not an exact science, honestly, and I just think that you are going to get much softer inflation between now
and the March off MC meeting. And for me, the tension is think about what the Fed did in December, right, I mean they raised their their inflation forecast and they marked down their growth forecast. So the bar for them has been changed in a way that you know, right, I mean, you're being very polite, but yeah, you could be.
You could easily come back in March and they'll be revising down their inflation forecast potentially considerably, and they're gonna what say that they're going to accelerate the pace of rate hikes at that point. That to me is a little bit difficult to see. So so that that's sort
of where I'm at. Go ahead, Connor to Niel's point right now, you've been pretty critical of this that like, Okay, the way the FED is talking is we're seeing an economy with accelerating and fflation and weakening growth, and yet the actual data seems to be the exact opposite. We seem to have pretty solid growth in the second half of first quarter and declining inflation, Like, what's your take here, what's going on? I think what's going on is that?
And you know, you two had on Neil cash Carey if Minneapolis fed and maybe August, and he was saying how he was unhappy with the stock market rallying, and they sort of felt like their messaging wasn't being understood by the market, and so at that point they really changed their messaging to focus on a higher unemployment rate and kind of this whatever this, whatever it takes, determination
to rate and inflation. Markets got the message, and by September October they were probably in the place where they wanted to be in terms of what the market was pricing, the level of financial conditions that they wanted to see. And to be fair, at that point, inflation was running really hot and growth was slowing, And the data has changed a lot over the past three months, where to your point, inflation now looks like it's coming off pretty rapidly.
Growth has picked up, but they want financial conditions to stay in this place until to have more confidence on where things are going. So they're kind of sticking with this matches that is really out of sync with what's happened in the economy. But since markets are by and large not running away from them, they're kind of okay with it. But it's going to become increasingly out of data.
Is you know, you look at the unemployment rate at three and a half percent at the start of three they forecasted at going to four point seven percent at the end of this year. That not only would certainly not be a soft landing, it's just wildly out of sync with what we're seeing in the data. So it's they're just really not in a place that's in sync
with what's happening in the economy. Ground Neil, I want to go back to something you said in your first answer, because I've I've you know, I don't troll on Twitter, but I do sometimes joke very very convincing laugh there. But you know that that um, falling gas prices are bad for inflation because falling gas prices mean more money and consumer pockets. More money and consumer pockets mean more spending power. More spending power means higher prices. But you
kind of said that in your first answer. You're like, look, real real wage growth with this decline in inflation is picking up. That makes it hard to get any is sort of like any kind of landing. So is there something where like falling gas prices and field their categories
is not actually good news for inflation. Well, I think it moves things in place, right, I mean, you're talking about relative price shifting, right, So if if the labor markets are study and people see, I mean, it's like saying, I mean, do you think a tax cut is inflationary?
I mean, I think most macro models will probably say yes. Right, So I think that the fact that the fact that gasoline prices are declining, all that does is is shift consumer purchasing power to other areas of their you know, goods and services basket, and that drives out the prices for those good and services. I don't think it has
an overall impact on on inflation. But again, I mean the reason I think the FED looks at it through the conduit of the labor markets is this identity, right, I mean, as so much of economics is identity, whether you're talking about corporate profits or in this case, inflation, and for them, compensation equals inflation plus productivity. Powell has basically talked about that equation multiple times over the last year.
And if the labor markets are tight and unemployment is three and a half percent, that's going to keep compensation growth steady. And we're not particularly in a strong productivity environment right now. I mean, productivity is notoriously hard to forecast, but it's not particularly strong. So that leaves a lot of pressure on inflation, and I think that's one of the reasons why the FED is looking at the labor
markets so strongly. And by the way, a lot of the improvement and inflation that we're talking about right now has almost nothing to do with the FED, right I mean that that that that's that's part of the issue. I mean, use car prices, supply chain, and provement. You know, it's not like people put their rent on on the credit card, so so you know, the slowing and rental inflation has almost nothing to do with what's going on with the labor market or tightening credit or anything like that.
I mean, it's just sort of it's happening kind of independently I think of what the FED is doing. So to me, the Feed's got some explaining to do. It wasn't Tracy. Wasn't there some term we were using, like
one about inflation coming down for reasons other than monetary policy. Well, okay, this is my new This is my new conspiracy theory about financial conditions, which is, I believe the Fed thinks still thinks inflation is transitory and is actually comfortable with financial conditions not actually tightening that much because they think the things that are making prices go up are the transitory supply chain stuff, and so it's just, you know, talk your way out of the period of adjustment without
actually tightening too much that would cause a recession. That's my new conspiracy theory. Okay, there's silence, so I guess no one else agrees with me. Okay, well, Connor, you know, we talked a little bit, I think, in private about productivity, and you have seen companies come out and talk about the difficulty of replacing the older workforce that left during the pandemic, and we are having basically this productivity adjustment.
How are you viewing that component of it, because, as Neil just mentioned, you know, it is a tough thing to forecast, and so far all we seem to have is anecdotes about what companies are doing here well. We know that labor market turnover has declined over the past six months at least, and companies say they're better staff
they say they're in a better place. I think supply chains getting better is maybe it's kind of squishy, but helps with the margin things like being able to turn your capital faster because you're getting shipments more quickly and can sell them more quickly, so you're not waiting a long time for orders. But I think the challenge with productivity is to Neil's point, there's this very standard model
of real economic growth is ours work plus productivity. But a lot of what's happening with real eccuon onic growth that we saw, what we're seeing right now doesn't really fit into that framework very well. And for instance, you look take the rental market, where we added four plus million jobs in two but actually new leases on rentals was negative in two for the first time since two thousand nine because we unwound some of the excess household
formation we got during the pandemic. As a result, rents are falling and shelter is a huge part that goes into inflation, so inflation could come off very very rapidly for sort of reasons unrelated to sort of standard business productivity, just due to sort of households deciding not to get new leases, maybe fund roommates again. And as I don't know if that's like if if people decide to get a roommate, is that productivity growth? Not really, but it
also frees up capacity for other people. So I think this sort of standard way of thinking about productivity isn't very helpful at the moment. So basically Powell needs to go out and say, get a roommate, folks, if you you we we can do this the hard way you lose more people lose their jobs, or the less hard way, like get a room that does So I haven't thought about it before, but like if two people share a space versus one, that is a kind of productivity growth,
isn't it. Yeah. And the scenario that's really weird for three, which I think is possible, is we know that sort of that core goods inflation is negative right now, So let's say that's zero in three, and then you tended to be pretty low heading into the pandemic, and then
we know rent growth is negative. At the moment, it was about negative three percent annualized in Q four two, what if the shelter component of CPI is is flat in and this is not assuming any job losses, just sort of due to these weird effects going on right now, and then that sort of core services x shelter component even caught five percent because maybe wage growth is still hot. That gets you to a core CPI number below two percent.
So you could have a soft landing with sub two percent core inflation in a in a good growth environment. I wouldn't say that's the new normal or anything, but just that's what the data could show based on all these weird dynamics happening at the moment. Neil, I think it's it's totally plausible. The question is what does that
mean for right? You know, look like, let's say everyone decides to get a roommate, right, and you had this big burst of household formation that drove up shelter prices, and now people decide to get a roommate and that you know, we can shustle formation, and now shelter costs go down. You're still love with this idea around the labor market, right, I mean, for whatever reason, Okay, the FED views the labor market as the conduit for achieving
their inflation objectives. That is the principal issue right now. Powell keeps talking about pain and rebalancing the labor market. If that is what the FETE is trying to achieve, they're not doing it. Okay, they're not doing it. And that's why I think maybe where Connor and I disagree a little bit is what does that mean for the interest rate outlook in the back half of the year. And let's just keep in mind, right, I mean, and
so there is a good reason. I mean, I think there's a pretty you can make a pretty compelling argument that growth is likely to accelerate over the next several months. Okay, because of the loosening of financial conditions that we've seen over the over the last few months. Right, so you get a positive impulse from from housing. Maybe government spending is a bit better. We talked about real incomes and
what that could mean for consumption. So if you have real growth above trend again for the next quarter or two, what do you think that's gonna mean for the labor markets. It's gonna mean continue tightening, which in turn means what potentially higher wage inflation, which in turn will push prices up and I mean to me, that's that's really the issue.
And this is all happening at a time when the FED is increasingly not just doves but hawks like Bullard that they're a little bit more comfortable with the way things stand and that they're going to back off to So if you know, and Connors talked about this as well, of the extent that twenty two was about them hiking aggressively into a slowdown, what does it mean that they
may be pausing into an acceleration. And I think he's right that sort of I can that the data is sometimes I don't want to say it lies, but it's sort of not really telling the whole picture because of lags between various factors. And so again I can get to this the story where right now we have real deflation because of all these things freight prices, gasoline prices, core goods shelter, while employment growth continues to grow higher and income growth continues to grow higher. That's not a
sustainable long term scenario. It's not like we've discovered the singularity, but it's just the way the data is shaking out.
But yeah, on the other side of this, we might have a labor market with three and a half percent unemployment, good balance sheets, and a lot of consumers and businesses that have been hunkered down waiting for recession and then they're ready to hit the ghost which again and that could be a very boom inflationary on the other side of this if we don't figure out where policy should
be and and sort things out on that side. So, speaking of reliable data, one of the big debates in two was the surveys versus the hard data, and the idea that if you looked at a lot of survey measures, survey based measures, people seem miserable, like on the verge of a massive recession, but if you looked at the hard data, it was very much still coming in strong.
Can you talk a little bit more about how you're thinking of that discrepancy going into three, because you know, as Neil has pointed out, there does seem to be an improvement in terms of consumers ability to spend just by virtue of gas prices going down. And we know that gas prices, I mean, if you look at some of the survey data, like there is a lot that
just tracks one for one with gas prices. So how are you thinking about the whole you know, I tried to ask this question without actually saying the word, but the whole vibe session idea. Yeah, I think and demand in terms of consumers spending money remains very resilient. But I think because of all these sort of bulup effects and fed procession fears, that's led to the soft data being being pretty weak or at least a lot weaker
than the hard data. And I think a good way to think about it is Nike, where they have said that they had this big sort of boom and inventory. Part of it is because that inventory they ordered in the spring didn't show up until late past season because of supply chain lags. And then because supply chains have gotten so much better, they got their holiday season inventory earlier than they expected. So they kind of had inventory coming in at the wrong time on both sides and
they have to work through that. And so while they're working through that, consumer spending is steady. But because supply chains are better now, maybe instead of having to order shoes three months in advance, they can order it six weeks in advance. That's a one or two month lag where they're not doing orders. So if you're a factory in China. You're saying, I'm not getting any orders, but it just because they have to sell through their inventory.
The supply chains are now better. But then things are fine, say by March, and so that's sort of this sort of the real way in which the soft data is accurate. And then just if the fence telling you they need to raise unemployment and we're gonna have a recession or people believe that that's going to change the way that you think about the economy as well. So I trust the hard data more. But I understand why this off data. We can wait, all right, I want to you know,
we actually haven't done an episode. I think we're doing an episode soon, specifically on rent prices. It's one of these topics that we've should have hit sooner. But I know, Connor, you've done a lot of like work and studying of this, and so we do have these measures from some of these private companies like Apartment List or Zillo or some of the others, and it looks like rents coming down.
We had that episode last year with Omaris Reef talked about the gap between these measured rents versus what's in the government data. But I guess the simple question for me as a New Yorker who rents, is my rent going to come down? Yes? Really, rent is gonna be rent growth is going to be negative. Ine that to me is like the big undappreciated story. What's help come? What's going on? Like? Well, how come? So sort of
a few things. First is that you had this excess household formation in which finally started unwinding over the past six months. You can sort of think about as a bulop effect and renting, but just because people sign year long leases, there's just a much bigger lag there than maybe buying shoes, which can sort of happen a lot sooner. The second is that there's a lot of supply growth
in the pipeline. We currently have twice as many apartments under construction as we did at the peak in two thousand and six on the onset of the housing bust, and that's because I think there's some extent we've been building apartments for a decade now to kept sort of meet millennial demand, and there's just been the secular belief in the rental story. And then you have that huge surge in household formation in which, just like e commerce companies,
they leaned into this. This is a new normal for rental demand, and so builders built a meet that and they just they haven't been scarred by a bus the way that single on the builders were in two thousand eight, people got foreclosed upon, they had to go into renting, millennials unting the labor force. We're renting instead of owning. So the apartment market that never really skipped a beat.
But this is sort of a big reckoning, I think for the rental market because millennials now are looking to buy rather than rents, so you don't really have that secular growth in renting versus buying, and then you have this rapidly rising vacancy right and a lot of supply on the pipeline. I would just point out that if we're talking about a secular increase in home ownership, homeowners tend to spend multiples of what renters do, not on not on things just inside the home, but dining out, travels,
you know, leisure, that sort of thing. What does that mean for inflation at the end of the day, all all all we're doing here is just pointing out, Okay, look at this area, look at that area. This price is going down, but you're talking about still a growing pie, right ultimately, and I think that's the principal issue, right. I Mean, everything we're talking about in terms of the improvement and inflation is primarily looking at it through the
rens of relative shifts and prices. Okay, so shelter prices will come down. I mean, Connor is probably going to be right about that based on what we're seeing with new lease growth. Connor is probably going to be right about used car prices and and the things related to the improvement in the supply chain. But ultimately that's just
the relative shift in prices. A good way to think about this is what happened with gasoline prices in the mid twenty tents, where because we finally had that sort of access from production relative to demand, gasol prices and oil prices plunge globally and for a while that led to, you know, we're sening sentiment for manufacturing. There was a
bust in investment on that side. But if you're a U S consumer that was a big boon boon to you because you've got cheaper gas and we're seeing that in like almost everything on the good side, and maybe the rent slide as well, so that can lead you to think that inflation is getting better. You have some downturns and surveys if you actually produce some of these things. But if you're consumer, you're just getting a huge burst
in your purchasing power because everything's getting cheaper. Of course, CPI during that period actually rose, it accelerated in terms of rates of growth rates. And so if you look at the long history of just food and energy cp I versus course cp I, the contemporarious correlation between those two series is basically close to zero because it goes to the point that Connor was making, which is, you know you're all you're doing is talking about relative price shifting.
That that's again, I mean, I don't make a judgment, Joe, as you know, like you always talk about how you're a journalist, you never I'm no one here has any opinions and judgments or forecast and I'm the and I'm the I'm the same way Joe. As a business economist, I don't know whether it's right or wrong to look through look at it, look at look at inflation through
the prism of the labor markets. All I can tell you is that's what the fettest thinking, and that's and that's that that's what drives our calls on the economy and markets and stuff. You can Actually, I just want to press on this point because I think you're absolutely right, and it's something that we heard from Tim Dewey as
well on a recent episode. But like, why do you think that is You don't have to appine on whether it's right or wrong, but why do you think they've taken that, you know, tact Because sort of a ironclad rule in macroeconomics is that compensation equals inflation plus productivity, So compensation growth is what drives the inflation outlook. So, I mean, remember one of the reasons why we had the soft landing in the nineties was because green Span
nailed the productivity call right. When when was that? I mean remember at the time, actually, if you go back to the transcripts during that era, you know, Yelling was basically saying that Greenspan may have been making a mistake, right and and and Greenspan got that call right, Maybe Joe one benefit of not having the PhD. But but but but I think I think that that's that's something we need to keep in the back of their mind right.
I mean, so we didn't have a formalized inflation should target of two back then, and we had a rapid increase in productivity, and so that helps you achieve the soft landing. Are we going to see that again? I mean, we obviously have their form they've they've they've said that they have an inflation target of two percent. I mean, pal sort of hinted at maybe a longer term project to look at that. I mean maybe that was you know, um, a slip of the tongue, but but it really it
comes to, I mean productivity. I mean, why why should productivity be a lot stronger now? I'm I'm I mean with younger people in the workforce, there's more churn in the labor markets. You know, you have a lot of the experienced workers leaving. So what's the case for stronger productivity? Has capital spending been booming relative to hours worked? Have we seen a lot of capital deepening? We haven't, really, you know, I think I think so that that that
productivity call is a lot harder to make. I think. So we've talked about okay, headline inflation, gasoline prices coming down, we talked about rent and all that, but you know, in the last FED press comp and Powell made a point and it's interesting too because, like you know, it feels like the area within inflation that the FED pays attention to is always shifting. Earlier in two, they're really big on headline inflation because headline inflation informed expectations, and
no one really talks about that anymore. But now the big thing is the non shelter component of core PC is like still hot, so okay, even if rent comes down, even if gasoline prices come down, etcetera. Well, the real signal is from this non shelter component of CORPC. Neil, what is that that? What else? What are the big things in that basket? And why? You know, how do wagers really like drive those numbers? Like can you talk a little bit about how we should understand this part
of PC that seems to have become so central. Well, you're talking about personal care services as an example, so going to the laundry, Matt, the barber. I think, recreational recreation services, right, sporting events, things of that nature, And the reason they're focused on it is because that's an important challeel channel for how the labor markets affect inflation. Right. I mean, inflation is multivariate, right. There are lots of things that drive inflation, and labor markets are one part
of that. And labor markets show principally in that you know that X shelter services area. So that's why PAL is focusing on it. But I do sympathize with you that they have They look at different things at different points in time, right, and remember nothing stops them from
doing that this time. Right. I mean, if if global growth picks up and oil prices start to pick up, and I know you've had a lot of people on your show talking about the lack of investment in the mining capital cap X, what does that mean for oil prices? The FED can be right back where they were in June and July talking about well, gas prices are back up. Short run inflation expectations are high, and that could mean
something for wage to inflation. Yeah. Where I would sort of split the difference here is I think that to the extent that I'm right about the inflation data in three and four very technical reasons, it comes in very very low. If the unemployment rates still three and a percent, that might not make them hawkish, but it certainly won't
lead them to cut. So I think to get rate cuts, you're probably gonna need to see at least for normalization in the labor market data, because just be they're not going to trust that at three and a percent unemployment rate is consistent with two percent inflation. So, speaking of services, we just had another headline again we're recording this on January six. We just had the I s M Services p M I coming in a lot lower than expected, kind of weird at forty nine point six versus an
estimate for fifty five. And then earlier in the week we also had a slightly lower I s M manufacturing headline. Can can we talk a little bit more about the manufacturing outlook, because there are a lot of questions about like how much you can read into the p M I S. But Connor also made the point about inventories and how much of a role they have potentially played in two. So can we just talk more about what
you're seeing there. Maybe let's start with Connor. Yeah, my view on the manufacturing side is that the weakness we're seeing it's more about inventory corrections and improvement in supply chains, meaning that there's less pressure on producer or I guess the consumers have manufactured goods to order things in time,
rather than a big investment downturn. And so I think that a big investment downturn is when you see job losses, and that's sort of more your classic procession scenario, whereas to me, this is really more of a bull whip supply chain inventory story that will be cleared out by the end of the first quarter. Neil, Yeah, so Neil is a huge fan of taking the manufacturing report right.
I mean, those are those that follow my work know that I think that the I S M is um you know, a useful rough and ready indicator, but not a good substitute for hard data. I mean, as an example, what's what's a better sign of confidence the fact that three hundred purchasing managers you know, are feeling a little bit more grumpy about their their industry or the fact that or the fact that hundreds of thou of establishments that were just surveyed by the Bereau of Labor Statistics
are adding manufacturing jobs. I'll let you be the judge. Obviously it's the latter, which is why in the long history of the I S M it tends to give out a very large number of false signals, and it tends to be as early and signaling a bottom as it is latent signaling a peak. Right. I mean it's not a particularly good timing tool either for the economy. Right.
So if you go to the nineties, I mean you had multiple, multiple times that it fell below fifty and if you look at the data, I mean, manufacturing production during that time was steady. After the financial crisis, same story, right, And that's what's going on now, right, I mean what matters for manufacturing the I s M or the fact that Boeing is going to build a bunch of planes for a while. They have a huge pipeline of orders that they need to work through. The same holds for
motor vehicle assemblies. You're talking about autos an aircraft that's about fifteen ten to fifteen of US manufacturing production on its own. Forget the downstream effects. I mean, obviously, when those two industries are clicking, it's going to create a windfall for other areas in the in the manufacturing sort of value chain. Right. I think that matters a lot more than I s M. It's an it's an oscillator,
you know, and for and for market participants. How has using the I s M been useful for you in making a market call? Just pull up a chart of industrial stocks over the last few months. They've been beating them. They've been outperforming the market. So you know, there's this cottage industry in Wall Street, you know, looking at the I s M as a timing tool, and and so on and so forth, and really it's just I think it's it's it's a waste, and I think it's better
to focus on the actual data. And you mentioned the services number, Tracy. I mean again, there's there's there's a great example. I mean, look at look at dining reservations, look at look at flights, look at people's appetite to go out and do things. Look at Avatar, you know, be be out top gun Maverick, Right, I mean, don't don't don't talk to me about the is M S you know. So, so this is exactly why I wanted to talk to you about I s M. But I do think I do think you sort of raise a
good point. They're about, like it overshooting and undershooting, like key turning points, because I think maybe that's what we're seeing in a lot of the survey data, which is like surveys just are not that good when when you have cycles that are like twisting and turning and extremely fast as this one has been, like maybe they're extra unreliable in these periods of time. Well, right, it's a diffusion.
I mean, so let's let's put it this way. Let's say in January GDP growth is seven percent and in February GDP growth is seven percent. What does the I s M do? It goes to fifty? Is that bad? I mean by the people that by by the I s M Celtics that are all over the market, Um, maybe it is, But I think for a thinking person, no, it's fine. So so I I think, I mean, you have to understand like how these indicators are constructed. All they're asking you is are things going up? Down or sideways?
And and the one thing I'll point out to people is if you take a look at the global manufacturing p M I S formerly known as market, you know, I look at about thirty five of them, and if you look at new orders only, you know maybe a fifth of them are in expansion territory. And that's happened. Maybe you know, maybe a handful of times in the last twenty or thirty years, like LTCM, the tech wreck, obviously,
the financial crisis, and then the European debt crisis. So you can count the number of times on one hand where you've seen that happen, and in each time, what's gone on, what's happened next? It turns up. So it goes back to this idea that it's a momentum barometer, right, I mean, so the moment it's not like the thing goes to a hundred or and doesn't go to a zero. So you know, the lower goes, the more bullish you
should give. In the spirit of explaining the data, we had an e comedy where nominal growth slowed from about twelve percent the end of one to more like six percent at the end of two, and then you had multiple cyclical sectors that went into contraction for sort of bullip related reasons, and then housing due to the FED.
So I think that the nominal level of growth has arguably stabilized at this point, and then some of those industries that were in contraction for much of two could actually inflect higher in three, and again that could get lead to acceleration and growth when the FED is expecting a deceleration. Well, Connor, speaking of manufacturing and where there's potential growth, we recently got the awards auto sales. I think in December, GM had a good month, Toyota had
a good month. We had thirteen point three million annualized rate of new car sales. But they're still well below like where we were regularly printing pre pandemic, which was like more in the seventeen million annualized rate. So is there still like a big like what's going on with cards and chips and all that. Is there still an opportunity for the big automakers to kick up production into
a higher gear here? Yeah, I think everyone expects that number to go up in just because again it was our sort of lower than we would expect to supply chain reasons. We probably missed out on six to seven million vehicle sales over the past few years due to supply issues. Productions going to pick up, and automakers will cut prices that they have to, but if they produce cars,
they're gonna sell cars. And then there also could just be sort of a weird dynamic where electric vehicle demand and production is picking up, sort of demand for conventional gasoline powered vehicles is going down, and maybe you're thinking, well, the e v I one isn't available yet, so I'm just gonna wait for a little while longer. But I'm not going to buy a gasoline vehicle in the meantime. So it just they're sort of pent up demand for e v s, which would explain overall level of sluggish
sales well until that picks up. So I know we've been quite us focused in this conversation so far. But the other big thing for the global economy in three it would seem to be, is what's going on in China with the reopening and also more recently a lot of policymakers seemingly rolling back some of the restriction and crackdowns that they had on certain sectors like technology and
real estate. And also, you know, you have some early signs of them potentially opening the floodgates of credit again and trying to boost economic growth at a time when a lot of the population is quite frustrated. How are you viewing that, Because on the one hand, it would seem that China explicitly trying to boost consumption might be another inflationary impulse for the year. On the other hand, you know, maybe it's a good thing for the world economy.
If China is really focused on growth, maybe we get something like a repeat of what happened post two thousand eight with the financial crisis, when China really kind of came to the global economies rescue. But what are you thinking about China at the moment? Well, Tracy, I mean, as you know, I do focus more on the U s. But what what I what I will tell you is that you talked about the vibe session before. Well, in some respects, I think the FX markets are very viby,
you know they they it's it's how how people. It's like basically a beta play. And if China is reflating, which I think it is, I mean that if you look at you know, the Hang Sang the Chinese equity markets, you know I was reading that. You know, obviously transit uses up, so things are getting back to normal. I mean, it's gonna look bumpy. Reopenings always do, as we know, but demand is likely to pick up. That's introducing an incremental source of demand to the global economy that I
think will put downward pressure on the dollar. And I think that that's important. Obviously, because the dollar has a very mechanical impact in inflation dynamics, right, I mean, the FEDS workhorse model of the economy assumes that every ten percent drop in the dollar pushes up core inflation by about two to three tenths of a percentage point a year later. So that's the first point. The second point is I think that the improvement in China is going
to mean a lot for Europe. And that's because Europe is a very large, open economy that trades a lot, and if China is improving, it's almost certain that Europe is going to look better next year too, right, So it's sort of I mean, you're talking about the same coin, two sides of the same coin. Europe and China are are are in some respects tied at the hip through trade. And if you have those two economies looking a little better next year, I think that's going to put downward
pressure on the broad broad dollar exchange rate. At the same time, China has been you know, a mess in two as we all know. But during two, what do we also see the rest of the Asia E M complex looked okay, right, it looked okay. I mean look at India. I mean India activity was was doing reasonably well. Parts of em Asia looked better. I mean a lot of a lot of the final assembly frankly has already leaked out of China, but you know a lot of the other Asian economies that are around China did okay.
The same goes for Japan. So you know the fact that China is now participating, I think it just elevates all these sort of economies around it, right, sort of a gravity model of activity. So I think it's I think what you're talking about, really, I mean, just bring
can get back to the US. I think it's a dollar negative and you know, just I know we wanted to put a pin on the manufacturing discussion, but obviously if the dollar's weakening, that's gonna push up you know, the the exports of of manufactured goods close to wrapping up here. But connor any other thoughts either from the international thing or just sort of other dynamics looking into three that that are on your mind. I think just the real question is that everyone is wondering about is
are we and have a recession? And so I think for me, it's sort of you try to think about all the components that could lead to recession. So it's global manufacturing, housing, consumption, financial conditions, and it's just hard to point to any one thing that's out of balance and likely to be a lot worse three than it was in two. And if you can't identify anything at that level, then maybe you should be a little more
uncertain about how bad things are going to get. And you know, as we've talked about on this podcast, it's much easier to identify areas where things could pick up, at least for the next six months. Connor and Neil, thank you so much for joining us in my mind that lived up to the hype. I learned a lot and plenty of things to think about going out through the year. So thank you both for coming back on odd lots. Thank you, Harold and Kumar. Thanks Joe and Tracy.
Thank you. We need a nickname. I was just gonna say the same thing. We need like our own like we need our own parents by those take care of Okay, So my big takeaway is that if Avatar is out grossing um top Gun Maverick, then I'm not going to pay attention to the I s M. Then rents are going down as well. I don't care about rents. I don't care about gas, I don't care about the I M I don't care about the dollar. It's like, how well is Avatar doing That's going to inform my view
of the economy? Well, I think, I mean, I know you mentioned that you tweeted ironically, possibly trolling Lee about gas prices and the consumer, But this is a point I made somewhat more seriously, not in gas prices, but in one of our newsletters, which is just like, I actually think like, over the past year, forecasting inflation has been difficult, but I actually think like we're kind of entering the hard part now because all the parts are
like so in motion in potentially different directions, it's going to get like pretty difficult. And then the other thing I would say, there's there are so many takeaways from
that conversation. One thing that struck me was Connor talking about the inventory build up in two and the idea of that feeding into some of the surveys, because quite frankly, that was something that we heard in a recent conversation with Ryan Peterson at Flex Sports as well, this idea that well everyone was over ordering because transport times were so crazy. See and then once transport time started normalizing, they realized they had all this stuff and they had
to start working through those stockpiles. And now as some of that starts to revert, as some of the shipping times start to normalize, maybe we see some improvement there. You knew, what I thought was a really interesting point in the conversation that I want to that we we really need to talk about like rents and multi family because I know and I know we have I think
we have an episode coming up soon. But I had not thought about this point that Connor made, which is that for the for the multi family builders, the builders of you know, apartment complexes, etcetera, they never had that scarring the same way the single family homes did. It was just like there's been this huge secular bowl market in demand for multi family. They didn't have that big
bust the same way, quite the same way. After like two thousand, two thousand nine, everything always seems to line up. Everyone's moving to the cities, young people don't want homes, etcetera. And it's this idea, it's like, oh, could we have like you know, like a Minsky moment basically floor multi family where just when everyone thinks you cannot lose building more apartments. Could this lead to like a real like reversal.
It's like a really interesting sort of both short short term question because it affects what rents are going to do, but also like pretty long term question because like, what if there were a bust in this sector, Well, maybe I don't know, maybe we would get No, we wouldn't. Um. I was just thinking, like, I guess we'd get a big decline in productivity as well, because everyone would be able to afford moving out from their roommates and getting
their own apartments. Right, it would be bad. It'd be bad. I hadn't even thought about that, right, So it's like, okay, thank you, we're all we all roommates again, saving money. Oh,
rent prices come down, move back out. It's but this also, you know, this sort of general equilibrium style thinking which Neil talked about a lot, which is that a lot of what we've discussed, these sort of relative changes and more money and people's pockets because one thing going down means more spending elsewhere, and if that is sort of
a useful framework. But this is the moving parts thing, right, Like it's so difficult to predict at the moment, I feel like because like one thing happens, and because so many of these moves have been extreme, which we talked about in relation to a lot of the survey data, their diffusion indexes, so they tend to overshoot and undershoot because everything has been so extreme and in such a compressed time frame, it just feels like a lot of
our traditional forecasting models are terrible at dealing with totally. And you know, and again the theme all of last year is like you know, and you you've written about this recently that like, well, you know, people talk about the seventies or whatever, what if it's the Spanish flu and something, and all these like cycles that look like business cycles but aren't really cycles because it's just part of normalization. I think it's gonna it'll be an interesting year.
We'll have plenty to talk about. I think we've come full circle to the beginning of this conversation, which is like, there are some extreme possibilities and opinions out there, and it's very difficult to choose directions and paths at the moment. So on that note, shall we leave it there, Let's leave it there. Okay, this has been another episode of the All Thoughts podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway and I'm Joe Isn't All.
You can follow me on Twitter at the Stalwart. Follow our guests on Twitter. Connorson He's at Connorson. Neil Dudda, I think he doesn't. He doesn't actually have an account, but at RELLC well at Ren mack llc is his firm, and I have a sneaking suspicion he's doing all the tweets. I'm like, you can read them. It's like, yeah, that's a Neil tweet, even though it's his firm. So check out rend can actually imagine it in Neil's totally, they're all in Neil's voice. You can tell Ren mac llc.
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