Hello, and welcome to What Goes Up, a weekly markets podcast. My name is Mike Reagan. I'm a senior editor at Bloomberg.
And I'm all down a higher across asset reporter with Bloomberg.
And this week on the show, well, what if we've all been bracing for a recession that never actually shows up. That's a question that's floating around more and more of these days as the economy just keeps hanging in there despite the rapid rise in interest rates, a few bank failures, and all the dire predictions that came along with both of those. We'll get into it with a well known economist at a major Wall Street bank. But first of all, Donna,
I've got a very strange question for it. I'm shocked, shocked. Yeah, I've never asked you a strange question. Have you ever daydreamed about like being a princess or a queen? No you haven't. No, that's a healthy outlook.
Yeah it's not real. And they like didn't have bathrooms. Well there are real princesses and oh that's true, like modern day.
Do you think, uh, the current princesses and princes Prince Harry doesn't have a modern bathroom.
He definitely does, but like, are they beloved by their people? You know, it comes with a lot of baggage.
All right, well that's a healthy editor.
Why are you asking?
Well, it's my craziest thing this week has to do with there's actually a market for royal titles, if you believe it or not.
Wow, So we'll get by one. You would, all right, I would be the highest bitro.
You're going to find out how much?
Okay, I don't want to keep our guests waiting because and I actually just told him this right before we started taping. I'm a huge fan of his. I've been a fan for years and I'm so excited.
The posters on the walls, yeah.
Kind of yeah, No, no, not to that extreme. It's Seth Carpenter. He's the global chief economist at Morgan's Stanley. Seth, thank you so much for joining us, Bill.
Donna, thank you, Mike, thanks for having me. I am I'm glad that this is audio only because I would have blushed.
You just I'm blushing, don't worry.
He's also a former writer of The Princeton Dinky as well.
I know, yes, yes, he got his PhD at Princeton with what's.
A weird hobby is? I love the Princeton Dinky. I don't know why, but I find it fascinating that there's a one car train that goes what a mile back and forth every.
Day and you can have your tall guy on it, or what's it called a tall guy, a tall tall boy. You couldn't even finish a tall boy at the time. It takes okay, But Seth, you have a very decorated resume, so I'm hoping you could.
We can just start out.
You can tell us about your background and then how you ended up at Morgan Stantley.
How did I get to where I am? You started off noting that I have a PhD in economics, and I'm happy to say that my primary advisor was Ben Bernanke, who when I was at Princeton did not have a Nobel Prize and now he does, so I had something to do with that, I would say. So. No, that was actually a fantastic opportunity, and I actually thought I
was going to be an academic. My research was on monetary policy, but I went to teach for a couple of years at the College of William and Mary, and then the FED called and said, are you interested in coming up to give a to do an interview? And the answer was yes, and they offered me a job and I took it. And shocking news for anybody who's in their late twenties, Washington, d C. Is a bit more interesting to live in than Williamsburg, Virginia. So I ended up staying in Washington, DC, and I was at
the FED for fifteen years. By the time I left, I was the Deputy Director of the Division of Monetary Affairs. Got to work through the financial crisis, which was a terrible point in economic history, but now that it's in the rearview mirror, it sort of was fascinating part of my career to be at the FED in the trenches, trying to work on both strategy for policy and then the nitty gritty like all of the different lending programs the FED did, and thinking about the FED balance sheet.
I was for a while the Fed's person in charge of the Fed's balance sheet, if you will, So it was fascinating. But at some point I needed a break. I went to the Treasury Department, ostensibly for just a one year visit, but while I was there, I had the very good fortune of having President Obama nominate me to be Assistant Secretary for Financial Markets. So I resigned from the FED and got to work at the Treasure Department, and I have to say that was a fantastic job.
But I did that until twenty sixteen, and then I went to the private sector to financial markets, worked for a year at a hedge fund, worked for four years at a different bank, and now I'm happy to say I am the global chief economist here at Morgan Stanley, and I couldn't be happier.
I guess you did have to buy a new wardrobe when you moved to Washington, though, Seth, you couldn't walk around in those colonial uniforms anymore.
Ten striped suit with a tri corner.
Had to get back to what I was saying in the introduction. You know, my impression is that you were sort of leading into the soft landing camp these days, thinking that perhaps fingers crossed, knock on wood and all, that we actually might be able to avoid a recession. Walk us through how you're thinking about that. You know what's changed to make you a little bit less worried about recession?
Absolutely, we've we've actually been in the soft landing camp for a while, there were definitely times when everyone in markets was throwing rocks and sticks at us and saying that we're crazy, because it was clear we'd get a recession. And then the data for Januine and February came in that looked a lot better, and people were telling us that we were crazy, that we were still calling for a big slowdown. And now the world has shifted again.
What is our thinking. The first thing is that seems hard to avoid the fact that the US economy is going to slow down. And part of the reason why that's hard to avoid is because that is absolutely, categorically the feds objective. Right The reason they will keep hiking industrates at least a bit more is because they want the economy to slow down a lot in order to have inflationary pressures of bait. So the slowdown part should be pretty easy to get on board with. So what
about the missing the recession part? Well, partly because the slowdown is the Fed's choice, at least, having a chance to avoid a recession should also be the fed's choice, And we think they're looking carefully at the data and asking do we have enough evidence that things are slowing down a lot? But not yet crashing, because that's what they're looking for in order to stop the hiking cycle.
So we think the last hike is in May, when there'll be more evidence of more of a slowdown, but not yet evidence that things have actually fallen off of a cliff. And then I think the last part of our thesis is usually what takes in the US to get a recession is some shock or something that causes the slowdown. So we've got that, but you also need
an amplification mechanism. So the economy slows down and businesses lay off millions of workers and their lack of income causes a slump and stending, or you get a big credit crunch and everything seizes up. Both of those are
clearly possible, but we don't think they are imminent. For the labor side of things, the job market still seems pretty healthy, the unemployment rates very low, and if you kind of look at how much employment do we have relative to the level of GDP, you'd come away with the conclusion that, boy, businesses are still a little shorthanded. But what that means is the economy can slow down and businesses don't have to do the same wave of firing that they've had to do in previous slowdown, So
that makes us feel a little bit better. And even though there's clearly tighter funding conditions for banks and banks are pulling back on their lending, especially given what's happened in the wake of all of the banking turmoil, we kind of remember that things were already slowing down. Loan growth was already slowing before we got these new sensational
headlines about the banking sector turmoil. And because we were sure the economy was going to be slowing down anyway, the demand for that borrowing is going to be following. And so we don't think any pullback by banks and their willingness to lend is going to be the thing that tips us over to recession. So not a super rosy outlook. We are looking for growth that's below a half a percent in real terms, so very very close
to zero. But importantly, we are not looking for a full blown recession where we have several months in a row of contraction.
Okay, so Seth, you mentioned tighter funding conditions, and I'm wondering where else you are looking to see signs of that now that we've obviously we've had the bank turmoil. Been a month since that happened. I know, I was reading some notes from some of the big banks, and a couple of them actually mentioned Fastenal some of the warnings from that company, and that company being such a bell weather. So where else are you looking maybe for signs of tighter funding conditions.
So we're trying to look as broadly and as deeply as we possibly can. You can look at things like delinquency rates and deterioration of credit quality on credit cards and that kind of lending to customers. But I you know, close to home for big chunk of my career, the Federal Reserve has their Senior Loan Officer Opinion Survey. They have a survey in terms of business lending, and there they ask lots of banks, what's going on with your lending?
And I think that's another really key, uh source of information about willingness to lend by creditors.
Yes, I wonder everybody was kind of bracing for, if not a credit crunch, definitely some kind of credit slowdown. After Silicon Valley Bank and Signature Bank failed. Was the emergency term lending facility that was introduced, and the you know, the discount window at the FED opened wide. Was that enough to basically prevent that type of contagion from that that type of nervousness among banks to rein in lending, do you think, or is it something else?
So that's a great question, and it's really hard to know what the counter factual would have been. But then when you start to look into the details, there wasn't, at least in the first week, that much that went through that nude term lending facilit about twelve billion dollars or so. A huge amount went to the FDIC's bridge banks. There's also a fair amount based on First republic z
owned public disclosures that went directly there. And so, you know, my initial reading, perhaps through some slightly rose colored glasses, was that the situation based on that borrowing was more
idiosyncratic than systemic. Now, there were still a lot of borrowing from many banks, and the amounts going through that term facility has actually edged up a bit over time, it has not fallen, So we don't want to be complacent, but my initial read was that it was more idiosyncratic than systemic, and so as a result, yeah, I suspect that the lending was there took care of some of
the institutions that critically needed. Others, as we know, or have been resolved or being resolved, and so you know, my take really though, is that we had a largely idiosyncratic problem against the backdrop of the whole system have been facing a high funding costs. But that was very much the intent of the Fed by raising the Federal Funds rate five hundred basis points. I do think there was mostly an adies and credit situation going on.
You know, the other issue that's coming up with banks a lot these days, seth And admittedly I'm kind of talking my book here a little bit. I've got a story in our BusinessWeek magazine about this this week. But it's basically the notion of deposit beta. When the Fed Funds rate goes up to five percent, how quickly do banks jack up their rates that they pay on savings deposits, demand deposits, especially in reflection to how much the Fed Fund's rate has gone up, Because it's a really fascinating,
I think, almost a historical whiplash that we've seen. You saw bank deposits just swell tremendously during the pandemic, something like twenty percent in twenty twenty, I believe it was, and then another ten percent in twenty twenty one. Now there's start to shrink, albeit you know, not by a ton. I think it was like a percent and a half last year, but you know, on an aggregate basis, bank
deposits are shrinking. There's more competition possibly for deposits. A lot of banks are now paying above four percent on their savings rates their deposit rates. To me, that that creates a lot of questions I think about the financial system, you know, And warning here I'm about to give you about a ten part question, so stand by. But you know, a does that sort of deposit competition, that worriiness about stickiness of deposits have any effect on the supply of
credit you think? And secondly, does it have any macro follow up for the markets themselves? You know, I'm thinking, if I'm getting if I can get four to four and a half percent on my savings account at a bank, am I going to be less willing to take risk in the stock market? That sort of thing? So I'm curious how you see that whole situation playing out, both from the credit side and any other potential macro impact it might.
Have absolutely so fascinating topic one that is absolutely critical. So let me take a step back and think about
it in an historical sense. Every time we have an interest rate cycle, business cycle, and then the Fed's moving short term rates up and down, you see an interesting and fairly familiar pattern when when the FED cuts rates and market rates fall, deposit rates fall along with them, and then the Fed starts to raise interest rates and deposit rates kind of lag, and then over time that deposit beta, as you noted, starts to starts to pick
up a big plug. To my colleague Betsy Graysek, who runs equity research at Morgan Stanley for financial institutions, she's been saying since the beginning of this hiking cycle that the deposit beta increased this time would be more dramatic than it has been in past cycles, and that's been born out. As you've said, I think there are a few things that are that are a little bit different
this time than previous cycles, at least recent cycles. One is the speed with which the FED increased interest rates. We had four to seventy five basis point rate increases this time compared to the previous couple of hiking cycles. That's a really big departure in terms of speed, and banks are are having to follow up on it. Historically, though,
what do you see. You see the growth rate of deposits fall, or even an outright decline in deposits, because as market rates start to go up and people can invest in treasury bills, deposits start to look a little bit less attractive, and you see that same pattern. So qualitatively, we're seeing the same thing. Quantitatively, the speed of the
increase was much bigger. Key difference here is that the FED has this reverse repo facility where they take in cash from investors and primarily money marketing mutual funds, and they're using that tool to help keep all market interest rates higher. That tool existed in the last hiking cycle, but that was a much more gradual hiking cycle. It
did not exist in any other previous hiking cycle. And so what you can see are investors who might have otherwise had their cash and deposited banks can now have their cash shifted over to a money market mutual fund. That money market mutual fund can put that cash at the FED, and it's facilitating that very historical pattern of higher interest rates leading to slower deposit growth or even
negative deposit growth. It's helping that process move along, but it's doing it even more effectively than historically, and again against the backdrop of a much faster hiking cycle. So the first part of the question is absolutely, yes, this shift in deposit matters. It's part of a normal hiking cycle. But it's just happening much more quickly and perhaps much more effectively than it has historically. What does it mean
for other asset prices? I mean again, usually when people talk about portfolio construction, sort of think about what can you get on a risk free asset, and then any other risky asset has to outperform and expand and expected value. And yeah, deposits are paying more this time around. Money funds are paying more than before. Tea bills are doing
more than paying more than before. My colleagues and interest rates strategy here at Morgan Stanley had put out a piece as their outlook for twenty twenty three that was called the Year of Yield. Cash once again is an actual asset class. It's not just sort of where you have your wealth because you can't make up your mind yet. It's a legitimate asset class because t bills are paying five percent. So yeah, the second part of your question, I'll also answer yes too. I think this is absolutely
an important development. It matters at a macro level, it matters at a financial market level, but it is ultimately at the end of the day and just part of how monetary policy works. But boy, the details are a little bit different this.
Time around, Seth.
I'm also wondering if maybe there's a disinflationary aspect to this, in that if I'm somebody who puts a bunch of money in a money market fund, I'd be less inclined to actually go and then spend it. I wouldn't have it at the ready if I wanted to buy a brand new TV, for instance.
I mean, I think that is possible. I think there's definitely the possibility that easier savings means less spending, and that makes a lot of sense. There's not always a lot of evidence in the empirical research, and it all comes down to sort of how do households way spending versus savings. But one thing that it clearly does is for anybody who is going to be borrowing in order to spend, the cost of funding is just going up.
So We see this clearly in banks. Their cost of funding is going up, making it harder for them to lend households that might want to borrow in order to buy a new car. Their cost of borrowing is going up because anyone who's borrowing at this point is going up. That for me is the traditionally stronger channel for monetary policy, but it could work through the savings mechanism the way you said it as well.
You know, Seth, you had mentioned those flashbacks to your days in Washington when the debt sailing first sort of reared its ugly head and became an issue. I think as we you know, I guess we're in the extraordinary measures phase of the debt ceiling right now, and as we get closer and closer to sort of the drop dead date, you know, there's this assumption that it's brinkmanship, that some sort of deal will be cut at the
eleventh hour. But I got to say, you know, politics is way more bare knuckles than I think it's ever been in my life, and I wonder if that is the wrong way to think about it this time. You think there is a bigger risk this time of some actual default and some serious you know, financial risks to the whole system because of that.
This time, absolutely, I do think that the risks are bigger this time, and I think there are a few things that figure into that calculus. At the end of the day, this is a standoff game theoretic setting between two sides and a negotiation, and that's for me, part of how I think about it as an economist. But the things that are different now relative to say, twenty eleven and twenty thirteen, and let's not forget both of those episodes came basically down to the wire and we're
a little bit for me at least nerve wracking. But now you've got different leadership in the House of Representatives where there were, you know, lots of rounds of voting to come up with the speakership, and I think that probably changes a little bit how the calculation goes on
that side. I think the other point that's very different now relative to twenty eleven or twenty thirteen is that in the public domain on the fed's public website are the transcripts of two different conference calls, one in twenty thirteen one in twenty eleven, where the FMC discussed what would happen if we got to the point where the
treasury ran out of cash. And if you read that, you might conclude, I think wrongly from my personal perspective, but it would be easy to conclude that the Fed's got a plan and there's a way to finesse not defaulting on treasury securities while avoiding paying on other government obligations. I'm not sure creating that potentially false sense of comfort is a good thing to get a quick and easy
resolution to these sorts of things. So I do think the water has got more muddy because of the political circumstances, because of the extra information in the public domain, And you know, I worry. Maybe it's just because I'm always a congenital worrier, but we really do. In my opinion, you need to see, hopefully a timely resolution one way or the other.
Zeth.
I also want to take us abroad because you're bullish on China growth, and I'm wondering, first of all, what you're projecting in terms of China's economic growth, and then how that actually is helping hold up global growth numbers, which maybe would be looking a little bit more anemic without some of the numbers that China has been posting recently.
Sure a great topic. We are here at Morgan Stanley very bullish on economic growth for Asia in general and China in particular. We've written down five point seven percent growth for China this year, which is above the official growth target from Beijing of about five percent. The data that are coming in now in terms of the rebound, first we got readings on things like mobility index is
now more the data are coming in. My take is they're coming in in line with that very bullish outlook for what's going on with China, and so we are sticking with our view five point seven percent growth for this year, maybe even some risk to the upside. It will, however, require that as the year progresses, as spending continues to recover, that we get more and more people brought back into the labor force, more employment gains, especially among young people.
But we think that's likely to happen, and in lots of ways. That's the thesis for our outlook is first reopening coming off of a really weak level, and then as economic activity continues, it has the standard virtuous cycle, if you will, of pulling people back to work. Now the spillover to the rest of the world, though, I think is very interesting this time. People are used to looking at past cycles where China accelerated and it helped
pull the whole global economy along. This time, well, it's going to be good, presumably for the rest of Asia, especially the parts of Asia that will benefit from Chinese tourism. But we've got some research out there that suggests that the normal spillovers from Chinese economic growth to the rest
of the world. If you were to say, okay, this year close to three percentage point acceleration, can we multiply that three percentage point acceleration by the same coefficient we would normally use in past cycles, And the answer I think is no, it's probably only about half as much, and that includes the spillover to commodities. And the reason for that is most of the growth that we're seeing in China this year is likely to be domestic spending as opposed to a lot of the growth being fueled
by exports. So that's one difference, And second, a lot of it is going to be skewed towards services instead of towards physical goods. Now, to be clear, the housing market that had been imploding is not only stabilized. It's actually starting to recover, so there's it's not as though this is a binary one zero kind of outcome. So
we are getting a recovery in housing. We do think part of the fiscal policy stimulus will be through infrastructure, but boy, relative to historical patterns, a heavy skew towards spending on services, and that just means you're going to get less of a pull into China from the rest of the world than you would have in previous cycles. So we are bullish China. We're Asia more generally. We think Asia outperforms, but we don't think that China is going to end up being the engine of growth for
the global economy. We're looking at weak growth in the US and in Europe this year.
Well Seth Carpenter, Global Chief Economist at Morgan Stanley. What a absolute pleasure to pick your brain like that. We really appreciate it. Can't let you go quite yet, though. We do have an attrition here on what goes up where we have to go over all the craziest.
Things, where we torture our guests.
We torture, where the torture, Let the torture commence, Yes, yes, all right, I'm going to start for once. I'm going to start as I said Veil Donna, I think you should buy a royal title from the Nation of Seaaland. Have you ever heard of Seiland? This is great. So this is courtesy of a story in The Athletic, which is actually a sports website.
But one of the best stories doesn't sound like it.
How do you ever figured one of the best future stories I've read about the while. It's about the sovereign nation of Sealand, which sits six nautical miles off the coast of Suffolk, England, and basically what it was In World War Two, the Brits built a ocean fort basically looks like a big oil platform. It was called h M Fort Ruffs and the idea was to have sort of defenses out in the sea to fight off the
German warplanes as they came over. Some guy in nineteen sixty seven, a Ham radio operator of all people, named Patty Roy Bates, decided he was going to take over the fort and make it the sovereign nation of Sealand. And he pretty much got away with it. He's out in the international waters. There's not much Britain can do to get it back from him. So he and his family been living there ever since. They have a soccer team. Believe it or not, the whole sovereignation of Sealand is
actually half the size of a soccer pitch. But the fascinating part is you can buy a royal title from Sealand Baron, Baroness, Sir, Dame, Count Count.
Can I put it on my resume?
I buy two duchess. Absolutely, you bought and paid for it. So the question is the lowest priced title royal title? Mind you from the island of Sealand is lord or lady. So you could be Lady Waldonna Hirich of Sealand for a certain price. Now the question is what do you think it costs to be Lady Vildonna of Sealand.
I'm going to buy this and then on next week's episode, I'm going to introduce myself as Lady Wildonna Hirick. Okay, I'm only bidding a thousand bucks on this.
A thousand bucks, so it's in British pounds, so that would be nine hundred probably British pound Seth, you're now contestant on the game show. We like to call the prices precise. What do you think the going rate for the title of Lady of Sealand is all thousand ones? You're going on the over huh? Oh my gosh, you guys. The King of Sealand is going to be reaching out to both of you guys, I think because he's willing to sell one for the lo lo price of twenty four pounds ninety nine.
Oh shoot, so.
You guys are cursed.
I overpaid and I thought I was, But guess what. I beat Seth Carpenter in this game.
Whoa, whoa.
That's huge.
She's never gonna let you hear the end of that set.
I don't need to be a lady anymore.
The highest priced is duper Duchess. So for one thousand pounds, you guys could be duke and duchess thirty duke Duchess lady one hundred ninety nine pounds. Wow, thirty nine pence.
That's pretty good.
I wish you hadn't gone first, because I actually can't compete. Mine is actually from my sister, who I mentioned last week has been sending me tons of crazy things now that she's a fan of the podcast. So again a shout out to Marilla and she sent me this article. It's about Apple having a savings account now and the interest rate is four point one five percent.
It's amazing, right, yeah, all right. That's that made its way to my Business Week story along with they're partnering with Golden so yeah, and it sits on the wallet on your phone, which makes the I don't know if I want my entire savings sitting in my phone.
Wallet, yeah, because the subway machines might steal it from you when you swept in, yeah, or something or something, because that's how it works, right, What.
Do you think, Seth? Are you Are you willing to have your entire savings and your Apple wallet on your phone?
I am not, precisely because of my fear of what the subway turns out.
They're known for stealing money.
The good news is you get to ride for free for the rest of your life. The bad news is you're broke. But you know, Seth, it does it does go to speak to this competition for deposits really heating up. I think it's you know, so many of us had sort of written off savings accounts for so long as just you know, a piggyback not really a place to earn a yield, and the times really have changed. It's it's pretty fascinating to watch.
It is a huge change now relative to where things have been for a while. But I like to tell some of the younger folks in the bank that I'm old enough to remember that there were even recessions when the federal funds raised and go down to zero. So it hasn't hadn't always been the case that savings accounts were useless until we're going back to normal as far as I can tell.
Yeah, yeah, fair point, fair point. Well how about you, Seth, do you see anything crazy?
Uh?
These days? You remember, I'm the global chief economist, So I look around the world and it looks like every corner of the world had something just a little bit crazy going on. So I don't think I can narrow it out fair enough.
It's a crazy world all around. It's a mad, mad, mad mad world. Which you don't get that reference.
To me, I do. It's a song? Is it a song?
It might be, but it's a movie, a movie, great movie. But well, Seth Carpenter, such a relliant honor to talk to you and hear your thoughts about everything. I hope we can do it again someday soon.
Oh my gosh, this is great. Thank you for having me. I appreciate it.
Thank you so much for joining us What Goes Up.
We'll be back next week. Until then, you can find us on the Bloomberg Terminal website and app, or wherever you get your podcasts.
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Took the time to rate and review the show so more listeners can find us. And you can find us on Twitter, follow me at Wildona Hirich. Mike Reagan is at Reaganonymous. You can also follow Bloomer Podcasts at podcasts. What Goes Up is produced by Stacey Wong and our head of podcasts is Sage Bauman. Thanks for listening and we'll see you next week.