A USER'S GUIDE TO RESTRUCTURING THE GLOBAL TRADING SYSTEM

As markets look forward to a second Trump Admin, there are lots of bad predictions that tariffs will cause horrible inflation, or the President can't affect the dollar. Both are false. /1 hudsonbaycapital.com/documents/FG/h… There's a variety of tools the Trump Admin can use to procure fairer and more reciprocal international trade, through tariffs or currency policy. Each tool has different potential side effects, but there are steps the Admin can take to mitigate them. /2

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Since it was released, the paper on ATI that I wrote with @nouriel has provoked heated discussion, as well as denials from Treasury Secretary Janet Yellen. Some criticisms of the paper are already addressed within (I know, it’s long, easy to miss stuff), others are new. /1 There are two main criticisms I’ve seen of the paper. 1) Assertions that Treasury’s behavior is normal; 2) Questions regarding effect size and calculations. /2

Sunday morning pre-coffee thinking aloud

Every expansion has growth scares. Recession callers will be right eventually. Will this be the time? I'm not seeing it yet. And monetary policy doves seem too cavalier about the risks of inflation being permanently engrained higher. Core PCE was 3.3% in the first half of the year. I get it, they expect it to come down - but what if they're wrong? They have been quite wrong about inflation for a while. If the Fed cuts, unemployment stabilizes around 4% and inflation around 2.5%-3%, that's not a good outcome.

🚨🚨 New from me, joint with @Nouriel 🚨🚨
ATI: Activist Treasury Issuance and the Tug-of-War over Monetary Policy
How Treasury's issuance policies have stimulated markets and the economy and blocked the Fed's efforts to restrain growth and inflation
/1 tinyurl.com/ykmpps49


Summary: changes to Treasury's issuance policies have provided similar economic stimulus as a 1% cut in the Fed Funds rate, usurping core functions of monetary policy and blocking the Fed's efforts to restrain inflation and growth.
/2

Delighted to present a bold new proposal for governance reform of the Federal Reserve system in a new @ManhattanInst report joint with @DanielScottKatz

The Fed has become increasingly political in its actions, and yet is beyond political accountability
manhattan.institute/article/reform… The overriding problem is that political independence yields better monetary policy (in theory), but erodes democratic accountability. How do we provide more democratic legitimacy without compromising the quality of monetary policy?

Some thoughts on the CPI-PCE wedge and whether the Fed can declare "mission accomplished" and cut to neutral

Core PCE has been running at the Fed's professed target of 2% for 6 months (maybe 8, we'll see), but core CPI has been running at 3% and higher lately @mtkonczal has given a beautiful decomposition, but I have a somewhat different interpretation

The most important thing to me is the difference in scope--PCE includes expenditures made on behalf of consumers, CPI counts expenditures made by consumers

https://twitter.com/mtkonczal/status/1746341779400532319

Ok, some L-taking for me on this model. We went from an unemployment rate of 3.4% to a (first print) of 3.9%, but never got to this predicted range of 4.2% to 4.7% by year-end.

I was wrong. It happens.

Imv the reason is at the time, I didn't appreciate stealth policy stimulus

https://twitter.com/SteveMiran/status/1674209041386553346

As I've written numerous times elsewhere, a doubling of the deficit from $1 to $2 trillion was unprecedented, and not yet obvious that it wouldn't mean revert. And Treasury's interference in monetary policy by adjusting the share of its bill issuance--

If the era of secular low inflation is back (the world is like 2015), then yesterday's Fed messaging wasn't a mistake

If the Fed Funds rate summarized all monetary policy, it wasn't a mistake (adjustment cuts are legit)

But Treasury is issuing 60% bills, conducting monpol too Treasury's issuance profile has offset QT for most of the year, and financial conditions have loosened enormously even aside from expected Fed cut expectations

We're getting more adjustment cuts than we might need.

My current thoughts:
-Labor market still slowly deteriorating
-Industrial econ showing some signs of life but I don't think it'll be enough to matter for the labor market
-Treasury supply dynamics have been the most important driver of yields/markets since spring, will continue -Market got way too dovish on the Fed, about to be handed a dose of reality next week
-Some risk of reacceleration in the economy due to looser financial conditions since Nov 1
-Inflation is still a very material risk

Fiscal dominance thoughts

A number of VERY smart people talking about this as a reason why yields are not just repricing higher but entering a secular bear market the opposite of the last 40y

Think it's important to distinguish b/w fiscal primacy & fiscal dominance For me, I understand these terms as follows:

In fiscal primacy, fiscal policies are the first-order driver of inflation dynamics. Obviously true now, despite political protestations otherwise.

US economy right now:
-Acceleration and strength in the industrial/building stuff economy, typically thought of as "leading"



-Significant slowdown in labor markets and potentially consumption, typically thought of as "lagging"

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Could we see an unemployment rate of 4.7% by year-end?

Once the labor market chooses a direction, it relentlessly moves forward, unless a huge shock comes along to push it in the other direction.

There's mounting evidence it's chosen a direction. Unemployment is a useful indicator, but it's not the only one. In fact, there are hundreds of labor market series. A particularly helpful tool is the Fed's "Labor Market Conditions Index," which takes 24 important data series and reduces the dimensionality via PCA. (Summarizes)

Why the question of "Excess savings" is so important.

Real wages & salaries (ECI) are down about 3% from pre-covid (end-'19). Meanwhile, employment is up about 3% over that time.

Suppose consumers spend a constant fraction of their wage earnings, c=a*wh, a is that fraction. Consumption and wages are both measured in real terms, i.e. inflation adjusted. (h is hours)

For the last 2.5 years, consumption was materially above this level due to savings accumulated from huge fiscal transfers (and trading crypto/stonks and other Fed-fueled bubbles)

Lots of left-leaning analysis I read of the DL boils down to "McCarthy is too weak to agree to something Biden can accept, so the end result has to involve Dems passing DL with GOP centrists."

I think there's a (willfull?) misunderstanding of the right flank of the GOP here Suppose you're a House Freedom Caucus member. You now own the process, because of the rules concessions McCarthy made during the speakership contest. There's also no guarantee that if you depose McCarthy, you get something better. They killed Boehner and got Paul Ryan 🤮

Provocative new paper by @GautiEggertsson who imv is one of the most interesting academic macroeconomists of our age.

GE claims that the key differentiator b/w now and the 1970s is that inflation expectations are well anchored, so the Philips curve remains locally steep.

https://twitter.com/GautiEggertsson/status/1654646002018598913

If so, it means bringing down inflation is relatively costless.

It's a fascinating theory, but I have a couple of reservations which leave me unconvinced it applies to our predicament.

If you're not paying lots of attention to the debt ceiling dilemma, you're missing the plot.

I do not believe there will be a clean debt ceiling raise. D's may think R's will take all the blame for any default or suspension of govt services, BUT R's think the wins extracted are better than the blame received, since a) incumbents get blamed for everything, and b) they passed a bill in April, allowing them to say "we addressed this in April, and Dem/WH inaction caused all the problems."

That set up means COLLISION 🧱🚄

Was a real pleasure chatting with @ericwallerstein !

To me, one reason the lags from the Fed tightening cycle seem longer than normal (and potentially much weaker!) is a direct result of the years of QE

https://twitter.com/dampedspring/status/1652626297540038658

1. The Fed's shift from a "scarce reserves" to "abundant reserves" regime (in order to accommodate QE and the menagerie of bank regulations outlined recently by @concodanomics ) resulted in a large number of banks' persistent ability to offer near 0-yield for deposits

Happy to share my latest in @barronsonline about a raging topic of the day: "greedflation"

Whereas greedflation was laughably NOT a major driver of inflation in 2021 and 2022, it's been becoming more relevant over time

barrons.com/articles/worri… While we can debate just how significant greedflation is as a driver of inflation, it seems undeniable that increasing corporate concentration has been very real over time. businessconcentration.com

Interesting thread. I think the basic point is that the Fed's holdings have lengthened in maturity due to higher mortgage rates (that's true, but somewhat offset by lower duration on USTs...)

I have a few reactions:
1. I don't really think term premium models are very credible.

https://twitter.com/DannyDayan5/status/1646890288290451456

TP isn't really observable, the models are models, and the thing doesn't really exist.

2. I think rather than focus on term premium, the bigger implication is just that it will take the Fed a lot longer to wind down its balance sheet than some people might have thought

Before SVB failed, the economy was running super-strong and generating too much inflation.

Data available in the near-term are mostly reflective of the pre-SVB economy and thus uninformative for any post-SVB dynamics.

Three hypotheses for how the economy will develop: H1: SVB marked a structural break in credit dynamics. Economic growth will sharply slow down, leading us into a recession in the next six months.

H2: SVB marks a sudden stop in the economy. Bank failures will intensify, and we're probably already in recession.

Thinking through the Biden Administration's options:

(1) Encourage another bank to buy SIVB and make depositors 100% whole. This would probably forestall additional bank runs, or at least buy some time. I expect they will find this solution optimal given political incentives The biggest problem with this approach is that you end up with an even bigger megabank, since only big banks can afford to do buy SVB. The size issue is primarily political--the Liz Warren contingent in the Admin hates banks + concentration. Will take strength of will to do this