Since 2020, the macro economy has been incredibly hard to read. We had:
- massive rotations in spending
- bullwhip cycle in manufacturing (which distorted popular leading indicators)
-various supply shocks
- volume destruction from high inflation (aka the cost of living crisis). - labour demand-supply imbalances (with what I called "unrealized demand" in the form of unfilled vacancies)
- incredibly rapid policy tightening
- the return of strategic industrial policy
- China's structural slump

A big (the main) part of post-COVID inflation was always a one-off shift to the PRICE LEVEL. It passed through goods, then services (& even wages). The Everything bullwhip. CB's panicked because it was so broad-based, and Team Transitory underestimated its duration. Similar dynamics after WW2 took 18 months to work their way through the system. BUT the pandemic also produced a demand-supply mismatch in labour markets. This is the part CBs wanted to influence. They wanted to reduce demand and let supply catch up. The more interesting "transitory" question is about whether labour markets would have rebalanced anyway..

THINGS THAT WON'T HAPPEN IN 2024.
Some, er, "bold" consensus-busting predictions... 🧵 2/15 The new SWIFT monetary system

THE RECESSION THAT DIDNT HAPPEN (so far..). 🧵
Why was the consensus wrong?
1) People fooled by bullwhip in manufacturing (fake cycle)
2) The big squeeze on real incomes is fading
3) Fiscal overhang (excess savings, energy subsidies in EU)
4) Misled by Phillips curve (again!) 1) BULLWHIP: Manufacturing recession was inevitable after pandemic. Big exporters hit hard. Spending has shifted into services & producers had accumulated inventory. Leading indicators - based on IP cycle -were misleading and services' strength boosted labour markets everywhere

Suspect the next recession will be defined - both in terms of its severity & its equity market implications - by the response time of central bankers once employment finally starts to crack. This isn't like the "financial" recessions of 2008 or even 2000. In other words, the danger zone for markets is in that interval where the economy is clearly entering recession (the first negative payroll report) and the point where the Fed finally switches its focus to growth instead of inflation. A hawkish delay could be costly for equities

A history of yield-curve denial, a short cautionary tale..
1) 2)

The Goldman FCI was based on idea that interest rates had a smaller impact than in the past, so you had to look at broad conditions esp stocks. This was true when rates were at zero ("pushing on a string..") but it is not be true in tightening cycles. FCI tighter than they seem? put another way, the weight on the level of interest rates will have fallen during the ZIRP era (indeed that was the whole rationale for the GS FCI). But look at what rate hikes have done to housing mkts all over the world

Back in 2020, every investor kept asking about the "shape" of the COVID recovery.
So here is a comprehensive technical analysis to answer the question 🧵 this was the first clue. "A" is for ARK

The transitory inflation narrative obviously died the moment CBs starting panicking & ratcheting up interest rates. Definition of transitory inflation was that it didn't require a policy response. You got hosed on that view, so let's not argue about pointless counterfactuals... That said, the disinflation that has started now looks v similar to what Transitory thesis expected. Global manufacturing recession always seemed inevitable and we could now see serious deflation in goods prices. Industrial demand has tanked & covid bullwhip has (finally) flipped

🧵Several central banks, including the Fed and the BoE are forecasting rising unemployment in 2023/24. While only the Brits are using the "R" word, this is something that usually only happens during recessions. What should we make of these forecasts? 2) This is usual. Investors cant remember the last time CBs made f'casts like this. CBs used to be cheerleaders, who always talked up their economies (H/T ECB 😉). Is this a sign of just how inevitable recession has become? Or is it policy INTENT - maybe officials WANT recession

Central banks saying they won't cut rates in 2023 has no real information content for investors. Right now they have a serious inflation problem & rate cuts are the furthest thing from their thinking. If recession risks materialise, things change. Such talk is also counterproductive. They are trying to raise rates, which obviously becomes harder as expectations of cuts grow. But I suspect their focus is v much on rates - not equities. Borrowing costs for the private sector have gone up materially & that's what matters...

Global energy crisis in context
(share of world GDP) yikes

If England win the world Cup (yeah... I know), the inevitable lift to consumer confidence & spending could seriously undermine the BoE inflation target. Should we also give the Bank a veto on squad selection? Or are we confident Southgate has already messed that up sufficiently? (Just don't call it a "coup"... cos Bailey would never do that 😉 )

Not seen a single 2023 outlook, but given the lack of imagination in this industry I imagine they will all say: lower but sticky inflation, weak growth/mild recession (40% chance 😉) and central banks hiking a little further before pausing for most of the year
Saved you the time The scenario that would mess with consensus most, which I think is quite likely: inflation falls faster & economies reaccelerate. Why? Bullwhip recession in global IP was temporary.. and the biggest drag this year has come from falling real incomes, which could rebound sharply

Read the Broadbent speech. It says - not very subtly - that the bond market is waaaayyyy too hawkish on BoE.
maybe some common sense has prevailed #pivot

bankofengland.co.uk/speech/2022/oc… far more than "optimal" monetary tightening is priced in (not-so-subtle hint number 1)

Yes, the BoE stepped in very quickly last week, even though they didn't see the problem coming & maybe didn't understand it at first. Huge contrast with 2008 when CBs were totally naive to systemic risk in markets. No worried about moral hazard either

https://twitter.com/FedGuy12/status/1576243844060176384?t=ZOeaj2cEf4clijXMY2lUQw&s=19

And CBs generally have a better understanding of what banks are doing than non-banks. My friend here is joking, but the substantive point is that regulators have had plenty of warning (unlike in 2008)

https://twitter.com/PolemicTMM/status/1576321920286326784?t=ZOeaj2cEf4clijXMY2lUQw&s=19

1/ Crazy week, mostly spent answering questions from non-UK investors like "what the heck is going on over there". Nice for the UK to be relevant again, I guess. 😆 Some thoughts: 2/ global context matters. Rapid monetary tightening, especially from Fed, has changed whole mood music in markets. Risk premia widen & its harder to get away with dumb stuff. Every Fed tightening cycle causes problems in RoW, but EMs usually at epicentre

An eclectic approach to macro:
- Keynes told us fiscal policy would definitely *work*
- MMT told us we could afford it
- monetarism predicted inflation at 40 year highs
- nobody has a clue what comes next (or what to do about it...)
😆 So here is a wild proposition: fiscal policy is super effective when inflation is low & monetary policy is super effective when inflation is high. After a century of alternating these two policy levers between their polar extremes, how about we find a way to combine them?

Impressive collapse in New Zealand households' 5-year inflation expectations. Until you see they discontinued the series and changed to a new - much lower - one 😆 maybe the BoE, the Fed and the ECB should try this

BoE now forecasting a recession and 13% inflation. Lovely...

The @BIS_org on a possible "paradigm shift" in inflation BIS guide to hard and soft landings