Spring 2019 Stern Economic Outlook Forum

Spring 2019 Stern Economic Outlook Forum


[Music] – Good afternoon. (crowd chatter) My name is Kim Schoenholtz. I’m delighted to welcome you to the Spring 2019 NYU Stern Economic and Market
Outlook Forum. The host of today’s
program is the center for global economy and business which serves the University through outreach to
the broader community, including the
academic, business, and policy worlds as well
as students and alumni. We’re especially pleased
today to have here students and faculty
from all over NYU as well as number
of Stern alums. Thank you very much
for joining us. Today’s program will
last about 85 minutes. It will begin with presentations of five to 10 minutes
by each of the panelists followed by audience q and a. We’ll finish by 6:30 p.m.. Please note on the screen that you can submit
questions to the panel using your smartphone by going to the website
www.slido.com, S-L-I-D-O, and entering the
code number 6666 in the box labeled join. Anonymous questions
will not be accepted so you must provide
your full name. You can also vote
on the questions that others have submitted. Your votes will help us judge the issues that are
of greatest interest to the audience as a whole. Let me know introduce our distinguished panelists. Jan Hatzius to my left
is the Chief Economist and Head of Global Economics
in Markets Research at Goldman Sachs. For six years Jan has
been the number one ranked economist in the
Annual Institutional Investor All America Fixed
Income Research Team. He serves on the
Economic Advisory Panels of the Federal Reserve
Bank of New York and The Congressional
Budget Office. Dr. Hatzius received
his PhD in Economics from Oxford University. Catherine Mann, to his left. Actually from your
perspective, to his right. Joined Citigroup as
Chief Global Economist almost exactly one year ago. Previously she was Chief
Economist of the OECD where she also worked
closely with the G7 and G20. Earlier in her
career Cathy worked at the Federal Reserve Board, the Council of Economic Advisors and the World Bank and
engaged in research and teaching at the
Peterson Institute and as the Rosenberg
Professor of Global Finance at Brandeis University. Dr. Mann received her
PhD in Economics at MIT. Stephen Roach is a Senior Fellow at Yale University’s Jackson Institute
of Global Affairs and a Senior Lecturer at Yale’s School of Management. Formerly he was Chairman
of Morgan Stanley Asia and for the bulk of
his 30 year career at Morgan Stanley, the
firm’s Chief Economist and Head of it’s Global
Economics Research Team. Earlier in his career, Steve served on
the research staff at the Federal Reserve Board. Professor Roach received his PhD in Economics here at NYU. Your supposed to cheer now.
(cheering and applauding) Okay, we’re getting you trained. (Steve talking off mic) Please join me in welcoming our distinguished panelists. (applauding) Following alphabetic order, Jan will now begin
the presentations followed by Cathy and Steve. After their brief
initial remarks we’ll begin the q and a session. – All right great, thank you Kim for that introduction
and for the invitation, it’s wonderful to be
back here in this panel. I look forward to
the discussion. I already saw a lot
of great questions that were submitted earlier but that’s I think
probably the main point of this so I’ll
keep it very brief. On our expectations for the U.S. and the global economy, generally, after
a couple of years of generally strong
growth globally, close to 4%, we are looking at softer growth in a
number of places. Not all kind of slowing
at the same time or to the same degree but clearly things have
generally softened. And if I put myself back
and focus on the U.S., put myself back in the situation of September, October, our expectation at that point was gradual deceleration
from far above trend growth in
the middle of 2018, you know, 3 1/2% or so, maybe even a little bit more, to something
basically trend like, which I would put at maybe 175 by the late part of 2019 and we thought
gradual deceleration in an environment
in which the Fed would gradually continue
hiking the funds rate, roughly once a quarter, and that would gradually tighten financial conditions
and bring the economy down to a trend
pace, where it needs to get to probably
sooner rather than later, given that the labor market’s already quite tight and
inflation is basically at the Fed’s target. Things have changed a
bit in recent months, as you may have noticed. I think now the
outlook is probably a little bit more less now but maybe a little
bit more later for a few different reasons. Number one, there
are some seasonal adjustment distortions
in the U.S. GDP numbers. There’s a long standing tendency not yet corrected
for first quarter GDP growth to be
below the average of the remaining three
quarters of the year. That’s a very short term effect but that may weigh on
Q1 once again this year. Second of course, there
was a government shutdown, longest government
shutdown on record, partial government shutdown. That government
shutdown is going to weigh in first
quarter GDP growth, it also has weighed
on sentiment, certainly many of the
surveys among businesses and households have
been significantly weaker over the last
couple of months. That’s also a temporary effect that’s probably
going to come back. And then finally,
financial conditions tightened very
sharply of course, in the fourth quarter. Our financial conditions index tightened sharply to
the tightest levels since basically early 2016 and that’s going
to weigh on growth, probably already has
weighed on growth to some degree in the short term but probably also
a temporary effect, especially given
the fact that much of the market’s wound, in the equity and credit markets that you saw in Q4,
has already unwound. So, all of that means less now, maybe a little bit more later. And so we actually, you know, we’ve generally been
cutting our early 2019 numbers but have actually raised a little bit
the back half numbers. We’re now looking for about 2% growth in the U.S. over
the four quarters of 2019. Less than that, we’re
currently 1.7% for Q1, we think there’s gonna
be a rebound in Q2, 2 1/4, 2 1/2% and
then about 2% growth. Now this does assume, this upward revision
especially to the back half, does assume that the
Federal Reserve basically ratifies the easing and
financial conditions that has occurred over
the last several weeks and I think that’s consistent with the message we heard
from Chairman Powell a week ago where he
indicated, basically, no bias for future rate hikes, at least for the time being. Patience. Almost all members of the
FOMC have repeated that message and so I think
there is a pretty strong guidance now that rate
hikes are unlikely for at least of
number of months. Our view is that a June, a March rate hike
is off the table, a June rate hike I think
is relatively unlikely, still a possibility but we think relatively unlikely,
maybe one in four. And beyond it’s
really going to depend on how the economy does. Now our view is that
we’ll probably still get a rate hike in the
second half of the year, there may be additional
hikes, again, depending on the
economy but we still do think that the
rate hike cycle is not behind us
basically because 2%, while it’s not a
great pace of growth, it’s probably still
consistent with improvement in the labor market from a level that’s already quite tight. We don’t think we’re going
to continue to print, let alone 300,000
payroll numbers, but we still think
that we’re going to be above the kind of
pace that’s needed to keep the unemployment
rate stable. And we also think that inflation is more likely to
drift somewhat higher, the wage numbers have continued to look pretty encouraging. We’re now above 3% for
phenomenal wage growth, we think ultimately
late in the year that’s also going to translate into the core inflation
probably being a little bit above 2%. So, our view is one
more hike this year. Bond market is pricing cuts, not really in 2019 but in 2020. So while we have
definitely adjusted our Fed expectations
pretty sharply, we had four hikes
several months ago, but now if one hike, we’re still north of what the bond market’s pricing. I think the main reason for that is that we’ve put a lower risk on recession in the near interim than probably many
market participants do. And our view is basically
that the U.S. economy has become less recession prone. We do buy into the idea of the great
moderation literature that started in the 1990’s, that the economy has
become less cyclical partly because it’s
become a service economy and things like
the inventory cycle are no longer as important. We think that the economy
is less vulnerable to oil shocks which
were a major driver of recessions in the past and especially in the
’70’s and ’80’s of course. And we think that inflation is much more
anchored than it was, that’s very important. Inflation expectations
are very anchored. When inflation
expectations are un-achored and the labor market overheats the Fed needs to react
to that aggressively and quickly in order to
prevent spiraling inflation. When inflation
expectations are anchored the Fed still needs to react to labor market overheating but has somewhat more time and can be more gradual
about the response. So I think all these things make the economy more stable. Now, of course, despite
the great moderation, we’ve still had recessions including of course
a very deep one and the reason for that is that while real economic imbalances definitely look
smaller than they did, financial imbalances
are really what has pushed us into
a recession twice in the last couple of decades. And so that’s definitely
something to watch. However, I think at the moment, the risk of significant
financial imbalances to me looks fairly limited. I don’t see a bubble
in the various asset markets, you
know, broadly speaking. We can talk about details but broadly speaking I don’t see evaluation problem
and more importantly the private sector
of the economy is not living beyond it’s means the way it did prior
to 2008 downturn, 2001 downturn and
financially driven downturns is many
developed economies around the world for
the last 30 years. And what I’m
specifically focused on in that regard is
the private sector financial balance,
the difference between the total income
and total spending of all households
and businesses. I think that’s a
great warning sign of private sector spending that is vulnerable to
an asset price downturn, when the private
sector spends more than it earns then
basically, by definition, it’s relying on credit growth to keep it’s spending
at that level. When credit growth slows, credit availability dries up, financial market
conditions deteriorate, you need to see a
sharp pull back. That was the situation of 2000, the situation of 2006, 2007, with private sector
deficits of 3 to 5% of GDP. Now it’s reassuring
that the private sector is running a financial
surplus of 4% of GDP, it looks much less vulnerable. And so, that’s sort of my view on the known unknowns as far as recession
risk is concerned. Of course there are
unknown unknowns and some of them
revolving around greater global linkages. Some of them revolving around fiscal policy and
political disfunction and risk of things like
debt ceiling events. So you should never
be too confident in a forecast that we’re not going to be in recession
but I would say I’m on the glass half
full side of that debate which is one reason why I think markets are too low in terms of pricing
future interest rates. Just, I don’t know if you have? – One more minute. – One more minute, let me spend one minute on non U.S. issues. I’d say generally
the news in the U.S. has been stronger than
outside the U.S. in 2018. Most other places have
slowed or slowed sharply. It’s very difficult to
think of exceptions to that. I think there are
kind of two groups of countries in that regard. Basically countries that slowed very
sharply in 2018, in many cases around
the middle of 2018. EM economy’s outside of China, in some cases went into
crisis like conditions and deep recessions. In most of these places, at least on average, things look a little
bit more stable. Definitely more stable in terms of financial conditions and a bit better as far as real economic indicators
are concerned. Our high frequency measures
of economic activity have generally picked up there, obviously not everywhere. But I think there
some improvement is not only a forecast
but already a fact that we can see in the data. And then there
are economies that have continued to slow, I would say that’s very
much true for China and it’s very much
true for the Euro area where even the
latest run of data still looks weaker,
we’re expecting some stabilization there,
maybe some improvement in the second half of the year. I think there are
some good reasons for things to get a
bit better in China, revolving mainly
around the authorities desire to stabilize
growth, not too far from 6% and therefore macro
economic easing in the Euro area
revolving around factors like lower oil prices, which help Europe
more than other places that produce more
oil domestically. Some fiscal boosts. Unlike in the U.S.
where the fiscal boost is diminishing, in Europe
it’s growing a bit. And number three,
better wage growth which has been a
fairly sizable shift in the European data,
after a long period of extremely weak wage
and private sector income growth, we’re
starting to see some lift so I’m hopeful that we’ll see some pick up in the
sequential numbers. Thanks.
– Thank you Jan. Cathy? – So it’s really great to
be back in the classroom. I enjoyed my time teaching
at Brandeis very much and I always am looking forward to an opportunity to
speak to students again and I’m very much looking forward to your questions. So in terms of the
contours of the numbers that Jan put out for
the global economy, for the US economy, I’m not so different
but I do have a different way of describing the pattern of data
that we look at in order to derive our prospects for ’19 and into ’20. Rather than sort of take the macro economic
aggregate GDP, I think it is very
useful to make a distinction
between the strength of economies with regard
to their domestic, what I call their
domestic resilience, think of it as
consumption and investment and contrast that with weakness or headwinds in the
external sector. Those two are balanced
against each other in most economies and
how those two play out, the bounds plays out, is more domestic resilience or more external vulnerability. This is an important
first ingredient in thinking about prospects for individual economies but also the global economy in 2019 and into 2020. How we would judge
that strength, I think it’s very
important to evaluate the strength in two dimensions. One, the deltas
that we see in data, I’ll be more
explicit in a minute, versus the levels. And there is a
preponderance and focus on the deltas, the
change in data, and as opposed to the
level, or the growth rate. Now there’s a third pillar to our prospects for 2019, and that is
financial turbulence. And specifically,
the feedback effects of financial turbulence
into the real economy through the channels directly from financial conditions but also indirectly
through sentiment. And so when we try to evaluate these three pillars
against each other to determine where
we are gonna be, in terms of U.S.
growth, China growth, European growth and
emerging markets, it’s important, as I say, to go back to
seeing where we are with the deltas
versus the levels. So let me be a little
bit more explicit here. So let’s first talk about
domestic resilience. How strong are
domestic economies when we look around the world? You know, the U.S.,
historically low unemployment rate, rising wages, bringing people back
into the labor force, labor force participation
rate rising. Europe, we think of
Europe as kind of slow but actually Europe
has very strong wages as Jan pointed out, it also has increasing labor
force participation across all groups
and historically low unemployment rates
when you think about Europe as a whole. So very strong foundations for domestic resilience. In addition, in a
lot of these markets, including the U.S.
and including a number of the Nordic countries
within Europe, as well as Japan and Germany, very tight labor markets mean there’s labor market shortages. So not only is there strength in terms of domestic resilience, when we think about the foundations for consumption, but it is also the
case that labor market shortages create the
conditions by which firms have to invest,
either to compliment the workers that they can hire, in some cases the
bottom of the barrel, none of you of course, but on other cases to substitute for labor that they can’t hire. So the labor market
tightness, as I say, has this foundation for
both consumption strength but also investment strength. Now you’ll have people tell you, oh well, investment
actually is slowing down. But this is where deltas
versus levels matters. If you look at
machinery and equipment investment, for example, or you look at trade
in technology products. The growth rates
are quite strong. Two or three times
in terms of machinery and equipment, relative
to a long term average. So yes, there will
be some slowing of investment growth
rates, from 18 into 20, 18 into 2020, but
the rate the growth is more than two times what it has been in
historical terms. So that is strong investment, it’s just somewhat slowing. Another metric of
domestic resilience that we like to think
about are the PMI’s, the Purchasing Manager’s Index and Institute for
Supply Management Index. Now many people looked
at the December data for the PMI in
manufacturing and they said, wow, it dropped
four index points. Ooh, refresh it on the horizon. But it dropped from 58 to 54. Anything above 50 is
in expansion territory. And if we think
about, in the past, we would have said 54?
This is fabulous. It’s just that it
came down from 58. And so people focused
on the negative deltas as opposed to the positive
expansion strength. In advanced economies
where services are the principal
thing that we consume, it matters what happens
to the non-manufacturing PMI’s and those continue
to be very strong, 57 or above for
advanced economies as well as for emerging markets. So again, by thinking
about the deltas versus the levels on
domestic resilience you get a picture
of a very strong condition in most economies. Not China.
China is different. China has been slowing
since a year ago. Originally China was
slowing on account of their policy effort to reign in domestic financial excess, got a little out of hand, and it had collateral damage to the household sector. First, because real
estate prices turned over, that’s a wealth shock, and second, because
credit availability to private owned
enterprises was restricted relatively more than
state owned enterprises and when the private
owned enterprises had to deal with
this credit problem they tended to
fire their workers. Something that’s
not normally done. And so your consumers in China were facing both a situation of wealth shock and
employment insecurity, so not surprisingly
household consumption started to slow as well. Not go negative of
course, but to slow. Then you add on top of
that the trade headwinds and that is, you know,
we’ve got c, i, x, and m all in negative
terrain so there’s not a lot of support
in the economy other than through
the efforts being put forward by the
policies that China has been putting into place, they kind of pulled
a lot of rabbits out of the hat, we
don’t know exactly how well they’re gonna work but they’ll probably be at least able to arrest the
deterioration in growth rates. So, domestic resilience strong except for in China. Let’s talk a little bit more about he trade headwinds because they are
very significant, they are escalating, there may be an
agreement on the horizon, we think that there
will be trade limbo for an extended period of time. There may well be
a veneer agreement, we call it that
because it addresses just the bilateral
balance problem between China and the U.S., so it’s a veneer, buy more oil, autos, and will not solve any of the long term
structural problems which have been
part of the terrain for quite a while. And the threat of tariffs, the 25% of the 200 billion plus maybe 25% on everything, that will be on the table, or like the sort of
Sword of Damocles over the trade situation
for quite some time. Now the implications
of the trade tensions that we have to
date, they percolate through the global economy in a very heterogenous manor. Countries that are part
of the supply chain, the China supply
chain are vulnerable to that shock of
the U.S. potentially putting 25% tariffs and in fact many firms have already moved or are in the process of moving their supply chains
out of China, maybe they were thinking about doing it anyway,
25% threat is going to kick you to change
that production location, you’re gonna move now, why not. And that that is rearranging some of these supply
networks already. As I say, they have differential impacts on economies. Our first three that
are most vulnerable are Taiwan,
Singapore, and Korea. The second three are Malaysia, Thailand, and Vietnam. But of course if
I’m a U.S. buyer and I’m not gonna buy
from China anymore, I’m gonna go search for
another source of supply. The U.S. Administration
would like that supply to be
the United States but that’s not gonna happen. Because the price differentials are significant enough. So we look at trade diversion as a second round effect for how these trade
headwinds percolate through the global economy and we find that in
terms of trade diversion, if I’m a U.S. buyer and I’m not gonna buy from China, who am I gonna buy from instead? The first I would turn
to is Canada and Mexico. After that, Malaysia,
Vietnam, and Thailand. So they lose
initially on the shock but they gain back, not 100%, there is net losers here
in the global economy to this trade headwinds,
but a country like Korea, which is in the first
tier of vulnerability, they are not in
the first or second or even third or fourth tier of an economy that a
U.S. buyer will go to in looking for
their second buyer, second source of supply. So let’s turn now
to the third pillar, which is financial conditions and financial turbulence. We have to start by recognizing the 10 years of
quantitative easing have created a constellation
of asset prices, equity prices, credit
premia, the 10 year yield, the whole yield curve
of the U.S. Treasury, the exchange value
of the dollar. This constellation
of asset prices is being jostled by the progress towards monetary
policy normalization by the Federal Reserve. By being jostled
what we mean is that equity markets are
a little turbulent, you see the vigs go up
every once in a while, there’s this concern about collateralized
loan obligations. There’s this issue
about, you know, how much should
companies that have credit light
conditions be paying for the riskiness
that they present. So again, looking at
this constellation of asset prices and thinking about what the Federal
Reserve is doing with regard to monetary
policy normalization, we are going to expect
financial turbulence. It’s part of taking
the punch bowl away is we’re going to have
financial turbulence. So, when I see what’s going on in the financial markets, again, I look at financial
condition indicators, yes they tightened in December, that was like end of year effect more than anything else, but they were still an
accommodative territory. Credit, we look at
credit conditions, just credit flow,
plenty of credit around the world in the U.K., Europe, Japan, in
the U.S. as well. So, financial
conditions, even though there’s some
turbulence are still very definitely in
accommodative territory. Again, thinking about
deltas versus the levels. Now what do we
have to do in order to complete our exit
from quantitative easing? ‘Cause that’s
ultimately the goal, a Federal Reserve
has to do that, or we’d like to
have them do that preferably before the
next recession starts. And the first ingredient
of that is to have these constellation of
asset prices realigned, probably associated with
a higher tenure yield, a higher credit
premium or risk premium than we see right now
on high risk debt, probably a situation
where equity markets are correcting maybe
a little bit more than they have corrected so far because they are
still well above a long term average of Shiller cyclicly
adjusted PE ratios. And so that constellation,
we are not there yet. We’ve made some
progress to achieve it but we’re not there
yet so there’s gonna be more financial
market turbulence. The second thing that has
to happen for completion of exiting from
quantitative easing is a durable 2% inflation. If you look at
financial market pricing of inflation expectations, the anchor that Jan mentioned, it’s not at two, it’s below two. Financial markets do not believe that the Federal
Reserve is going to achieve a durable
2% inflation. So the Fed has to wait longer to increase the next step of the potential move in policy in order to allow an
inflation surprise to jostle the markets
and get them to realign their inflation premium
and a term premium. So they want to do two things. They have to increase the
policy rate to jostle. They also have to
do delay that move in order to let
inflation come through. It’s a very big balancing
act for the two of them. The real issue in the
end, and finishing up, is, does this financial
market turbulence cause businesses
sentiment and therefore their decisions to invest? Does it cause them to pause, particularly in an environment where the trade headwinds
are pretty strong even though the
domestic resilience is very strong as well? If business investment
chooses to pause because of financial
market turbulence, that could be a self
fulfilling recession. And so we look very
carefully at the relationship between business
sentiment, business orders, and business outlays
to try to evaluate whether or not we
are at the stage where business is starting to delay or pause
their investment. And this is something we
can look at in the U.S. and in other countries
around the world. – Thank you Cathy.
Steve? – Thank you Kim, it’s
a pleasure to be here. I’m so old that when I was here this building didn’t exist. But I had a great
career on Wall Street which is an endorsement for those of you who think you can’t make it from
NYU, you’re wrong. (laughing) I looked at the
questions that Kim was kind enough to forward and I got to set my watch for 10 minutes, okay?
– Excellent. – And I saw a lot of questions about the U.S.,
China relationship and both Jan and
Cathy eluded to that to some extent. And I want to try
to draw that out a little bit more
because I do think it’s a major risk
factor to the, sort of, the great moderation
2.0 that Jan seemed to endorse to some extent in his comments. Before I do that
though I just want to get a sense of the level of hostility in this room.
(laughing) I’m going to describe
two scenarios and I want to just get
you to vote on them. Let me describe them first. The first scenario is that China has been ripping off
America for a long time and it’s high time that
we get back at China. Second scenario, and we’re not voting yet,
(laughing) you’re so eager you just can’t wait to endorse it. The second scenario
is that the U.S. is actually a lot
more vulnerable than you might think
and we need a scapegoat and China is a scapegoat. So how many of you are in favor of the first scenario, where it’s high time to go back, to go after the cheater? Let’s see a show
of hands, come on. Very few. And then, you have to vote. I mean, if you don’t
vote you’re not, you’re not going to be allowed to leave the room.
(laughing) The second scenario
is that the U.S. is vulnerable and
we need a scapegoat. How many in favor, oh wow! Maybe it’s the NYU thing, okay. (laughing) – [Audience Member] How
’bout the third option?! The truth is in the middle! – That’s always possible
but that’s sort of a wimpy way to phrase it. I mean, it’s like saying, there’s good news and bad news and we don’t know how
it’s gonna play out but that’s a fair point. I have to say that
I’m more supportive of what I find to be a shocking consensus in this
room that the U.S. is, and China’s certainly
not perfect, we’re not perfect but the U.S. has made a case against China that really is difficult
to substantiate, especially when you
look at the evidence that’s been assembled
to justify the tariffs and the possible escalation
of those tariffs. My own sense is that, I think Cathy described it well, if there is a deal it’ll
be sort of a false deal, it will address the
bilateral aspect of the imbalance, which is really
more of an outgrowth of the shortfall
of domestic saving in the United
States that creates a lot of bilateral trade deficits that the U.S. has, the biggest on of
course is with China. But the broader structural
issues of innovation, allegations of
intellectual property, theft, the cyber issues, the concerns over
China’s seemingly unfair industrial policy. Those issues are
unlikely to be addressed between now and the
end of this month so if we get a deal, and I think both President’s want a deal, it’ll be a weak deal,
a cosmetic deal, that will feature
mainly a lot of buying by China and
possibly an agreement on a framework to
negotiate these other deals on these other issues. I will give the Trump
Administration credit for elevating the
debate to a higher level than we’ve had it before in terms of the
intensity by which we’re focusing on these
big structural issues. Having said that, I am
disturbed by the way in which the issues
have been presented to the broader public. The trade hawks in the
Trump Administration, the President himself, the U.S. Trade Representative,
Robert Lighthizer, and of course everybody’s
favorite villain in the story, the
notorious Peter Navarro, they’ve framed this challenge in a very frightening way
for the American public. To quote Mr. Navarro,
“China has targeted America’s industries
of the future. If China successfully
captures these emerging industries America will
have no economic future.” I mean, that’s a really
awful picture to paint and if it’s true it’s something that we need to
take very seriously. It’s very clear to
me that even if you completely disagree
with that statement, that that statement has formed the basis for the charges
that were formalized in a so-called
Section 301 Report, 182 pages long,
that was published by the Trade
Representative, Lighthizer, last March which
has become the basis for the tariffs that
have been announced and are threatened
to be escalated at the beginning of March if a deal is not struck. All I can say is, I’ve looked at the
evidence very carefully, the 182 page report
and the supporting evidence on which it is based, namely the so-called
IP Commission, chaired by two illustrious
American Patriots, former Director of
National Intelligence, Dennis Blair, former China Ambassador,
John Huntsman, currently Ambassador to Russia. I’ve looked at the
evidence really carefully from those sources as well as the evidence that Lighthizer has assembled in this report and it’s not worth the
paper it’s printed on. It’s weak evidence in
virtually every count. Let me just give
you one example. The poster child of
the case against China is this allegation
of forced technology transfer through joint ventures. And when you talk to reasonably rational people they say, this is exactly the
problem with China is they force American companies to turn over the technology against their better wishes. China has required
joint ventures for about 20 years
in many many areas of across border investment by multi nationals
in their markets, although the requirements are slowly being peeled away. The allegation is not
that there’s a transfer, the allegation is that
these transfers are forced. That companies are actually, against their better wishes, coherenced into turning
over their technology as a price for doing business. Lighthizer on, I’ll be specific, on page 19 of his
182 page report, says he has no evidence of that. That the forcing occurs verbally and behind closed doors. And so he brings
out proxy evidence from surveys of
companies who say they’re uncomfortable
doing business in China conducted by the US-China
Business Council. Allegation by allegation
by allegation, I could take you through ’em, they’re supported on the basis of very flimsy evidence that would not hold up in court. And so, to take these
types of actions against another country and to marshal the very strong political animosity
that’s developed, and I would say both Republican and Democrats alike against
a country like China has colored the
discourse in a way that will be very very difficult to repair this relationship
for a long long time. So my watch is buzzing so I will invoke
the Jan Hatzius Rule and take one more minute. (laughing) – Which is actually
two more minutes. (laughing) – Sounds good to me. But I’ll try to do it on one. Industrial policy, China
does it, absolutely. I just read, I
think this morning in the Wall Street Journal that the Trump Administration is putting together
a plan to dominate artificial intelligence
and other leading technology areas, Japan’s
done industrial policy, Germany through
Industry 4.0 does it. There’s two sides to every single one
of these issues. And it’s unfortunate
that we have elevated our complaints against China into a position
where we have sparked a series of actions that
could easily escalate next month if we
don’t come to a deal. There is a deal
that could be struck that would need to address the issues of substance. And I’ll just tick off what I would like to
see if I could talk some sense into
these two leaders. One, to take the
joint venture issue off the table, to
open up market access on both sides of the
bilateral investment equation by doing a BIT, a Bilateral Investment Treaty, by eliminating
the ownership caps that are required for
cross border investment. Number two, I’d be
in favor of having both nations take
the lead in forging a global cyber accord. You can’t do cyber bilaterally, you have to do it globally. And the idea that we need a broader global
platform to do that I think has escaped
both countries at this juncture. Number three, the
structure of engagement that shapes the dialogue between our nations
is ridiculous. We used to do it twice
a year under G.W. Bush, once a year under Obama, once period under Trump. They now prefer to
do dinner parties at Mar-a-Lago and Buenos
Aires and Beijing. We need a permanent organization to deal with this relationship on an ongoing basis. And fourth and
finally, both countries do have serious
savings imbalances. We save to little, China saves to much. In a commitment to
restoring macro balance would be an important
part of the agreement. Would take some of
these bilateral tensions out of the equation. I’ll stop at that point, Kim, without even talking
about HUAWEI. – We’ll get there,
thank you Steve. First can we have the
Slido information up? Thank you. This is now your chance
to submit questions and indeed to vote
on others questions. Your votes really matter. All you have to do
is go to slido.com, enter join at 6666, and start participating. This is the way we’ll
get you involved. In order to make a transition, I’m going to ask a question that sort of follows
up on this discussion. I have two ways to pose it but let’s ask the first way. As far as I could tell, the three of you are agreeing that the most likely
outcome next month is some kind of agreement, whether it’s cosmetic or maybe a little
deeper than that. There must some
risk that in fact U.S. tariffs to up to 25%. How much is that going to affect your perceptions of the outlook for the U.S. and
the global economy? I’m not sure who wants to start. – I’m willing to start with that because actually, my view is that tariffs
will go up on March 1st. That the financial
markets will not like that and will move downward and that shortly thereafter an agreement will be reached. So that, and the
reason why I think that’s the likely
outcome is because Trump wants to use
his credible threat but he will cave in
the face in the markets and we do have an
interesting note that evaluates his tweets in relationship to
market differentials between the S&P and the Shanghai and find that he’s both a leading and lagging indicator. So it’s hard to say exactly. It depends on whether it’s a positive tweet
or a negative tweet and so forth, so tweets can play an important role and I think that he will test that, test the threat and the
markets will respond and shortly thereafter there will be an agreement. Because it won’t be so long it will yet another bout of financial market turbulence. The question will
be, how many bouts of financial market
turbulence can businesses handle
before they decide to wait out the next six months. – Anybody else want to jump in? – I just have a
question for Cathy. – Yeah? – You’ve done a detailed
analysis of tweets. Do they take place
during executive time or outside of executive time? (laughing) I mean that’s pretty
important, right? – You know, I’m not sure that the database has the, we did not, as far as I know, we did not use the
time of the tweet. We looked at the
character of the tweet, in other words a positive, you can identify
if it is positive– – Did you look at the
character of the tweeter? (laughing) – That’s a fixed effect.
– Okay. – That’s a fixed effect, okay? We did, you know, same guy. We presumed, I mean we
don’t know for sure. – Jan, did you want
to add something? – Well I mean my view is that I don’t know what’s
gonna come out. I mean, I think our
rule has generally been not to get too far away from 50% when it comes to these
kinds of decisions because it’s, I think
it’s difficult to say. I mean, what Cathy
says may well happen. Our baseline is
that there will be a deal but it’s not held with a great deal of confidence. I think if you
didn’t have a deal, if you had a further escalation, it would be, I think, a negative event for China from a kind of real
economic perspective. You know, China is
a surplus country, especially in
relation to the U.S. so there are some Kinsey-ian, you know, negative
demand effects. If you see an increase
in trade barriers. The numbers that we get out of the potential escalation, even for China,
are not enormous. They’re sort of in the range of a quarter point to maybe a little less than a half point but of course that
would be coming in an environment where the Chinese economy’s
already pretty weak. I mean, if we look at our latest high frequency numbers on growth is the aggregating all
of the monthly numbers that reported on
the Chinese economy were in the, kind of 5% range, or even a little
bit less than that. That’s not the number
for the whole year but that is the current run rate and so I think
additional negative news out of the trade negotiations would be very unwelcome. I think in the U.S.
it really depends a lot more on the
financial market reaction, financial conditions matter quite a bit for the U.S. in terms of the short
term growth numbers. I think you can demonstrate
that pretty clearly. The direct effects of
greater trade barriers on the U.S. I think
are much much smaller. The U.S. is a deficit country and while the case
for free trade from a long term
comparative advantage perspective doesn’t
rest on whether a country runs a
deficit or a surplus, in the short term it
does matter quite a bit. And so I think in
the U.S. it’s really more a financial
condition story. If there’s a large tightening of financial
conditions on the back of bad trade news,
then the market can, to some degree, make
it’s own reality, at least for awhile. – Okay, I’m gonna try
and move to something we haven’t talked about. Each of you mentioned
the potential for some political disturbance but one of the issues that’s on the table is Brexit and the question
that’s in the list is, essentially, what
are the implications for Europe, for Britain, for the rest of the world if we end up going into
Brexit without a deal? Does anybody want to, maybe that’s the base
case that you’re assuming. – Our view is that the
clock will stop at 11:59, that there will not
be a crashing out of the UK from Europe. It’s not in the interest of the European economies. UK is a not insignificant trading partner for them. It’s clearly not in the
interest of the UK either, damaging both the
domestic economy as well as putting
at risk some other very important agreements
that have been made within the United Kingdom. So the crashing out scenario, I mean, accidents
can happen obviously, but the crashing out scenario, the no deal scenario is so not in the interests of
either the economics or the politics
that the stopping the clock is a viable option. European Court of Justice gives the out to do that. That said, the private sector, the economics of this, the train left the
station already. I mean the businesses are
makin’ their decisions. The politics can stop at 11:59 but the business is
still makin’ decisions and their decisions are to move their value chains, to move their headquarters, and that has deleterious
effect on the UK economy and it’s beneficial in different ways for
different countries, those who receive the
benefits of investment. – I would say it’s a
big deal for the UK, it’s a medium size
deal for the EU 27 and I think it’s a
relatively small deal probably from the perspective of the rest of the world. I think it’s difficult
to have any confidence in the numbers
that are out there but if you look at
some of the simulations that various organizations, including the UK
Treasury, have run you’re talking
several percent of GDP in the longer term
from a no deal Brexit. 8% or so I think is the number from the Treasury for no deal. If you have a deal
along the lines of the May Agreement
or the end state that may be associated
with the May Agreement. There still will be a cost but it would be
commensurately smaller. These are very important
decisions for the UK. I agree with Cathy that
a crashing out scenario is still more of a tail risk than anything close
to the baseline. If you look at Parliament
there is a clear majority against crashing out and I do think that the most likely outcome, overwhelmingly I think
the most likely outcome is that a crashing out
is going to be prevented. I think for the EU 27 it’s not anywhere near as
important as for the UK which is why the
negotiating position has been so unbalanced and continues to
be so unbalanced. And I think from the
perspective of the U.S. it’s probably not a major factor in the economic outlook. – Steve? – Yeah, I think these two issues that you have raised Kim, the US, China issue and Brexit, you’ve asked us to
answer them in isolation. I think we would also benefit from thinking of them together. Jan laid out a good
solid base case for the U.S. and
the world economy and a case that would be certainly constructive
for financial markets. If we’ve learned
anything over the last few decades is that base cases work a large portion of the time but the shocks are what
end up he killing us and the combination of an escalation
of the tariff war between the U.S. and China, and to this early Brexit, I think would be
a devastating blow to world financial markets and to the global economy. I think the odds of that
are low but non trivial and we should think about
these two questions, not just in isolation
but collectively. – Okay, actually the
top question here is something that should appeal to all of you since you’ve been in the business of
economic forecasting. The question is,
what are the biggest challenges of
economic forecasting and what can we do to make forecasting
more effective? – Well I mean the
biggest challenge is that forecasting
the short run ups and down of the economy is, you know, you’re
forecasting human behavior and the interaction
of human behavior, both in the real economy and in financial markets, and it’s very difficult to find scientific ways of doing that and a lot of the
models that all of us have learned in university are not particularly
accurate in predicting what’s going to happen, especially in the shorter term if you’re trying to
predict the ups and downs of growth rates
or interest rates. I mean, I think there
is a lot of useful intellectual material that
can be brought to bear on economic
forecasting and I think modeling the link between, say monetary policy,
financial conditions, and growth, or the boost or drag from things like fiscal policy or changes in commodity
prices for growth. Modeling the link between resource utilization
in the labor market and inflation, all
of these things are quite useful and
we spend an enormous amount of time on developing
that infrastructure but you’ve also
got to be realistic to know that significant, as Steve said, that
gives you a base case and the base case works a decent proportion of the time but far from 100%
and often it is not, the most interesting times for economic forecasters occur when you’ve got
significant shocks. So, I don’t know, what
makes a good forecaster? For me I think it’s
sort of combining the attention to detail and the focus on the more kind of model
driven precise parts of the economic
analysis universe and the judgment to
know which model to use and how to respond
to new information and how to recognize
if your model is going offtrack and
how to then decide what alternative view to adopt. And those, I think qualities don’t naturally go together. I mean, I think people
who are sufficiently detail oriented and
focused on the analytics are often somewhat
inflexible in changing the, if they fall in love
with their model and are inflexible
in maybe throwing out the model and adopting
a different one or relying on other
modes of analysis like historical observation and so I think that’s
pretty challenging. You do need to combine
both these things but they don’t
naturally go together. – The real important
question is, what are you trying to forecast? Who are you serving? Who’s your client? Because the type of
forecasting model or even methods
that you would use for a very short term horizon financial market
client is going to be very different than the approach that you might use for
a long term investor. And in some cases, for example, the financial market client, short term financial
market client, may not care at all about
the level of causality. It’s irrelevant, they want
to know the relationship, they want to know
the correlation and the reason for
the correlation to deliver a particular
relationship, they don’t care about it at all. So something that
uses certain kinds of more advanced techniques that we’re looking at now, machine learning or AI, might deliver a very
very good forecast in the short term,
you may not know why ’cause you’ve got a
gazillion variables in there but if you don’t care,
you just want to know, in order to make a bet, you know, that’s
fine, that’s fine. But that doesn’t work as well the longer you go out. The longer you go
out where you try to focus on, what
are the main drivers of relationships and
so that if something, if a policy change happens or if we have a shock
of a natural disaster or a political issue
or other shocks that we have to deal
with periodically, you do want to
understand how those percolate through a very
complex economic system. And so you do want to know that and that is where the
kinds of model building that Jan was mentioning
is more important. A critical ingredient
that I think has, it was part of the, missing on The Great
Financial Crisis was the interrelationship between financial markets
and the real economy. I think we are still
struggling with that because modeling that
relationship is not easy. First, because financial markets do often have a much
different tenure than real economic variables. It’s hard to put them together into a single model, they have a lot of
feedback effects, not all of which we have
enough data to evaluate and so that is a
critical important ingredient right now and as I say, it’s a real
challenge to do that. We have a lot more
information than we used to. How to deploy it in a
way that we can think through it is still
a bit of a challenge. Having more data doesn’t mean you understand anything better. You might, but then
again you might not. And so there is, as I say, the challenges
are the time table of your client or the time
tenure of your client. How much you really care about micro economic complexity. I
mean, if you’re doing something for equity investors they want to know about
firm-level analysis. A macro thing is
not really going to be terribly useful for that. So you’ve got to get down into a lot of granularity, about firms, about countries, about products and
trade for example. And so that’s a
different type of model, a different kind of work
than if you’re doing sort of GDP forecasting
and inflation. Even for those I would argue that we need a lot
more granularity than we have been tended
to use in the past. – I would say more
data is helpful for now casting, so I do
think that’s something that we actually have gotten, I think a lot better at. Figuring out what’s
going on in the economy right now, in the
very very recent past and just bringing more
data to bear on that I think is helpful
but once you go beyond the very
short term horizon it gets I think less charitable. – Weather forecasters are happy if they can forecast
out three days. – Right, investors, we would like to think investors will think beyond that horizon. – Steve, did you
want to add anything? – Yeah, look, if you choose to be a forecaster you have to accept the fact that you’re going to be wrong, sometimes a lot. The most important
piece of advice I can give you is
have a framework. A framework can be a model, it can be an idea, a theme, it can be qualitive,
it can be quantitative, so when you are
wrong you understand why you were wrong. And be honest enough
and candid enough to own up to the flaws
in your thinking. And I think your
clients and your peers will learn a lot
from your mistakes, perhaps more from your mistakes if you’re honest about them, than from your supposed
successes and triumphs. – The next question is actually about our recent
theme in markets. Proposals coming
from policy makers to restrict stock buybacks. What do you think
the impact would be? Does it affect
corporate finance? Does it affect wage growth? How do you view the effort to restrict stock buybacks? – Look, it’s a
political statement that was made by two Democratic Senators
but it’s been a view expressed for a long time by those who are
critical of companies with a lot of cash flow. High growth companies
in particular, sometimes a lot of them
in the technology space who don’t have the
vision, the guts, to invest them back
into their businesses and build a more lasting, innovative
platforms for the future. So, there is an
economic piece to it but this joint editorial
by Schumer and Bernie have turned this into
a political debate. I think that it is
actually quite unfortunate. – Anybody else? – I’ll take a different tack, more economics standpoint based on a variety of research. The first issue is to the extent that buybacks are supportive of earnings per share. It does have implications
for enhancing wealth inequality
because the holding of stocks in the
wealth portfolio is so concentrated. So, that’s a, if
you care about that, that’s a legitimate issue. The second one, you
didn’t ask about M and A, which is another
kind of version. But I’m gonna take that up because you know,
of you have a lot of mergers and acquisition you reduce competition
in the marketplace, think about Dow and DuPont, they are now a single company. They no longer have to compete with each other for innovation, they also don’t compete with each other for workers. And so, again, using
firm-level data, there’s quite a bit of evidence that concentration
has been associated with wage compression. Usually when we think
about competition policy we think, oh well, we
don’t want monopoly’s because they’ll
raise their prices, using monopoly power. But the data are more supportive of the phenomenon
that monopoly power has been expressed in the
form of wage compression and maintaining
earnings for companies through that channel,
as opposed to through the channel
of increased prices. And the last point
I would put on this is, I’m not sure
you need regulation to handle these issues. We have competition policy,
we can work on that. We have a variety of taxes
that we could deploy. But the third dimension of this is that to the extent that firms lever up and borrow
in order to deploy, so it’s not a
cashflow situation, they’re actually levering up, they’re borrowing
to either engage in M and A or to
engage in buybacks, rising policy rate makes
that more expensive and that acts as
a natural balance to whether or not it makes sense to do those kinds of
financial engineering. – Yeah, I mean a lots
already been said. The only thing I would
add is that buybacks and dividend payments
are economically fairly close to one another. So, I think if you
did make buybacks more unattractive I
suspect that a lot of the cash that’s
being returned to shareholders would
show up through dividends. At the moment there is a choice to use buybacks for
a variety of reasons, including tax considerations, but dividends fulfill a
similar economic function. – There’s a lot of
interest in whether there is information
in the shape of the Yield Curve today, whether it’s being distorted
by special factors, such as the size of the
Fed’s balance sheet. What do we learn from
the U.S. Yield Curve and from Yield Curves elsewhere about the outlook? – I mean, for two tens, I would say if you
look at the longer end of the market, 10 Year Yields versus
Two Year Yields, I do think it’s being distorted by just a very low term premium which partly reflects large lender bank balance sheets. But a variety of other factors. I do think that when
the term premium is very low then
it’s much easier to invert the Yield Curve because the average
slope is no longer, now 100 basis points
or 150 basis points, as it was perhaps 20 years ago. But the average slope is equal to the average term premium and if that’s in the
20 basis point zero, maybe even negative range, it doesn’t take that much in terms of expectations
for the path of short term interest rates to invert The Yield Curve. So I have a preference for evaluating what
markets are saying about the risk of
a policy reversal that may be driven
by a recession to really look at
the shorter end of the Yield Curve,
consistent with work that’s been
done and published by staffers at the
Federal Reserve Board and so I would
probably focus more on what the Fed funds futures or various contracts
say about expectations for the funds raid
and at the moment, as I said earlier, there is an expectation
of some cuts price so that does, I think,
reflect an elevated level of concern among some
market participants that we’re go into
recession soon. And we did, at
Goldman Sachs, we did a number of conferences
with clients around the world in
several cities in Europe, several cities in Asia, over the past several weeks and there is a consensus view that the U.S. is going
to go into a recession either in 2019 or
in 2020 and I think that’s consistent with
what you see there. The question then is, of course, whether you agree with that and as an investor, as a forecaster,
you’re to some degree in the business of disagreeing with general expectations. So as an investor
or a forecaster you have a somewhat
different perspective on this relative
to a policymaker. A policymaker would say, this is a sign of elevated risk. As an investor you might say, this is an opportunity
because if I basically take the other side of this view that can produce superior
returns if I’m right. – So, I agree as well, that 2/10 is not a
good representation of the probability
of a recession and again, I also see
that the 10 Year Yield plays a very
important role in many types of financial
engineering aspects. It’s the collateral, it’s the thing that
you’re gonna use for taking bets on
this type of the curve and so it ends up
having some financial engineering demand for it which is independent of
the economic fundamentals that would normally
be in place there and many people sort of look at the 10 year now
and sort of say, well, it’s probably
30 to 60 basis points, the yield is 30 to
60 basis points below where quote unquote,
it should be. Now if you’re in the
financial markets you’d say, well, it
should be where it is because that is the equilibrium between demand and supply. So there’s a tension between the financial
market’s should be and is, ’cause that’s
the equilibrium, and what other people
think of as drivers, economist’s drivers
of the 10 Year Yield. So because that is
one end of the two 10, and it’s yield is lower than it, quote unquote, should be, then that creates the impression of a higher probability
of recession risk than you would
get from analyzing economic fundamentals. That’s partly why in
my opening remarks I emphasize the degree
of domestic resilience in the U.S. economy but
also in other economies because it’s not
impossible to go from where we are now
into a recession in 2019, you could create scenarios where the trade headwinds
are so strong and the financial
turbulence is so great as to undermine the
business investment as well as consumer
attitudes and so yes, you could engineer a recession. You have to work hard to do it but you can do it. And the self fulfilling
prophecy is a concern. It’s definitely a concern and the more emphasis
there is on, you know, while there’s definitely
gonna be a recession then you wonder about it being a self fulfilling prophecy. I do think that
there is a challenge that we see between
the, quote, real side, and the financial side, they are not telling
the same story at all about where we are
in the U.S. economy but also in the global economy and I think you see
that playing out in other ways as well. For example, the Duke CFO Survey that you perhaps
have read about. They’re sort of saying,
oh well the CFO’s are saying that there
are a high probability of a recession in 2019. Well, there was two
questions there. The first concern,
the first concern of the Duke CFO
Survey participants was they couldn’t
hire enough workers to satisfy the demand
for their product. The second concern was what was gonna be a recession in 2019, that’s a little
schizophrenic but it does outline this tension
between the real side and the financial side and that’s why we
need to follow these two different sides
really carefully, these two trajectories, ’cause they’re not merged yet. – Steve, pass?
– I’ll pass on that one. – Okay, well the
next one I think is gonna be closer
to your bailiwick. We’ve talked a good bit about near term performance, most of you have suggested
China’s in the process of slowing near term and
has been for a while, what about the long
term prospects? How do you see China’s
long term growth prospects and in particular have
they changed recently, say during the period of leadership of Xi Jinping? – Well look, I have
been pretty steadfast in my optimism for
China for a long time. And the story for me has been a rebalancing story, moving away from the
reliance of external demand, investment to more of a services and consumer based framework and relying on the development of the services sector
to generate jobs and rural urban migration
to boost real wages. There’s still a
problem with too much precautionary saving
because of the lack of a well developed
social safety net that the government
is trying to address. The economy has slowed
a lot in the last several months and this
has caused, I think, a lot of Nervous Nelly’s to say that the end is finally at hand. We’ve been talking
about the crash of China for decades
and now they’re all convinced this
is finally the case. Keep in mind that the major downward impetus
that’s playing out in China right now
has been self imposed, this has been mentioned
earlier, I think, both by Jan and Cathy, through the delivered
effort and deleveraging to avoid a Japanese
like debt overhang. Yes, the trade
headwinds have started to exacerbate this but I think this is a correction
that is necessary and important for
China to stay with. A friend of mine, and you
know him well as well, Nick Lardy, you know him Kim, has written a new book
about his personal disappointment with the lack of state
on enterprise reform and China as being a new wrinkle in the long term
prospects for China. I would agree with
that but I think that China is well
positioned to withstand that as well, I
continue to believe, and this is a little bit different than Nick Lardy, that China is now making
extraordinary progress in shifting away from imported to indigenous innovation and this is a critical
driver of the next phase of the Chinese economy. We may not like a lot of things that are going on China, there’s a number of issues, both domestic,
political, social, and a party-centric
view of Xi Jinping that may make us uncomfortable but I think the core
story of a rebalanced innovation and driven
Chinese economy remains very much
intact and keeps me quite confident about
the long term prospects for the Chinese economy. – Differences? – I’m not quite as
optimistic as you are. But the two factors that I think we need to keep our eye on is, how well do the
policies that they’ve put into place serve to
enhance the rebalancing, which I agree 100% needs
to, is a key ingredient. We know that a number
of the consumption based or household based strategies are designed specifically
to be supportive of the domestic industry
as opposed to imports, but we also know
that there’s still some investment going
on that probably doesn’t have a
great rate of return and then how much of the
financial deleveraging is going to be unwound
because of the desire to maintain a growth
rate sufficient to be supportive of employment. So I think that there’s
a bit of a backsliding, that means it’s more difficult to get to the long run
that you’ve outlined. The point that I think from a Global
International Economist’s standpoint, the key
factor for me is, is China gonna be
ultimately a net exporter or like a Germany,
Japan type of economy or are they ultimately gonna be more like the U.S.,
kind of closed, basically a net importer. Because from a
global perspective those two are very
very different stories for the global economy. – Great, nothing else? – I’m gonna pass. – Okay, I think
we’re getting close to the end so I hope
you will join me in thanking our panelists for an excellent discussion. (applauding) Just wait one moment,
we’ll be posting video of the proceedings, probably in the
next week or two. I’m also hoping
you’ll bring up the, yep it’s already there. We hope to see you
again at two events that are coming up
over the next month. On September 20th, former
US Trade Representatives, Carla Hills and Mike Froman will come to discuss
U.S. Trade Policy. And then on March 6th,
one month from today, former U.S. Treasury Secretary, Robert Rubin will
do a fireside chat. We hope you’ll join us. Thank you very much
for coming today. (applauding) [Music]

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