Twitter Space: May FOMC Panel with Unusual Whales - Pusillanimous Powell Becomes Parsimonious Powell.
This was a wide-ranging discussion on Inflation, Unemployment, the USD, Bonds, etc. We had a hearty debate on the persistence of Inflation and its ramifications, and that's what makes a market!
I am pleased to rejoin my favorite Macro panel and engage with my fellow panelists.
This was a wide-ranging discussion on Inflation, Unemployment, the USD, Bonds, etc. We had a hearty debate on the persistence of Inflation and its ramifications, and that's what makes a market!
Today’s panel featured more disagreement than normal, which perhaps is a microcosmic reflection of bigger Macro Confusion. I always appreciate the opportunity to have civil disagreements with smart folks to avoid being in an echo chamber.
As usual, I include a Detailed Show Notes Thread below.
Spotify:
Panel Lineup:
Joseph Wang @FedGuy12
The Last Bear Standing @LastBearStandng
Bob Elliott @BobEUnlimited
Michael Kao @UrbanKaoboy
Cem Carsan @jam_Croissant
Show Notes:
As usual, I provide Show Notes on my portion of the commentary, along with significant backup. Please treat this piece as a “Read Along” Thread.
0:08:40 My Opening Segment
Biases in Market Sentiment
I think it’s important to note two significant biases in the market with respect to Economic and Inflation outlook:
Political Bias
I think it’s very interesting to note the stark differences in market outlooks based upon what party you’re in. I suspect the truth on both Economic and Inflation Expectations is going to settle somewhere right in the middle.
Home Sector Bias
There have been a lot of hyperbolic comments coming from the parts of the US Economy most beleaguered by Tariffs. This is understandable, but I do not think these sectors represent the bulk of the US Economy. As a result, I think we will probably avoid Recession — at least from Tariffs.
The US is much less exposed to Tariff Shocks than RoW (Rest of World):
Only 15% of US GDP is directly exposed to Tariffs:
The Tariff Shock is more like a Hiccup than a Heart Attack, and Tariffs alone are unlikely to tip the US into Recession.
However, there are some pre-existing conditions for a Slowing Economy.
Even before the Tariff Wars, US GDP momentum was fading.
Here are some key Cyclical Drags:
1. Monetary Policy Drag
Real Rates are highest of the G7:
QT ongoing, draining liquidity (~$95B/month)
2. Fiscal Dominatrix is leaving the room:
As I wrote in "The Four Horsemen of US Resilience", 2020–22 saw the onset of the Fiscal Dominatrix: CARES Act, ARPA, IRA, CHIPS Act
…but she’s leaving the room now, and the Fiscal Impulse is now NEGATIVE as programs sunset, debt ceiling risks loom, and DOGE efforts (however disappointing the results may be) go the other way
3. Consumer Exhaustion
Pandemic Excess Savings now depleted (per Fed’s Q1 2024 estimate)
Credit Card Delinquencies and Auto Loan Defaults rising
Student Loan Payments resumed
Lower-Income Consumption softening
The Trillion Dollar Question is whether Tariffs will tip an already Slowing Economy into Recession, and my gut right now says no, because some mitigants are right around the corner:
Deregulation
Tax Breaks
Low Oil Prices (more on this later)
0:18:20 Two Categories of Tariffs
I see two broad categories of Tariffs:
Long Term Incentive Modifiers (LTIMs)
Short Term Negotiation Tools (STNTs)
I believe LTIMs will be sticky, whereas STNTs are likely to go to zero or near-zero.
Apparently, Bessent sees it the same way:
Bottom line:
I expect there to be persistent Tariffs in Critical Path Industries and that Tariffs in other sectors will be relaxed.
I think there are 5 broad categories of Critical Path Industries:
Chips
Ships
Minerals
Energy
Drugs
China actually gave us an outline for a couple more industries to potentially target:
0:34:15 Geopolitics & Economic Statecraft
I referred to a very important conversation I had with Michael Every last month:
With respect to Canada and Mexico, I think Realpolitik wins the day despite the uneasy relationship Trump has with Carney and Sheinbaum, and that a North America Trading Bloc will emerge.
Retailers shifting their Supply Chains out of China need to beware of “Frying Pan Into The Fire” Risk of relocating into China-aligned countries that are also likely to get shut out:
0:41:30 China’s Fundamental Problem
China’s Top-Down GDP-Targeting Investment-Led Economic Model was driven by Real Estate Development, but that jig is up, and the CCP “Eye of Sauron” has refocused its resources and attention on its Runaway Assembly Line of Industrial Capacity:
Globalization is supposed to be based on Comparative Advantage, but that’s not what we have currently.
China’s Runaway Assembly Line DOES NOT CARE ABOUT SUPPLY/DEMAND OR COMPARATIVE ADVANTAGE:
China is facing a Sovereign version of the Innovator’s Dilemma in its fundamental inability to transition to a Consumer Economy:
0:53:15 The Deflationary Trump 2.0 Playbook and JPOW’s Transition
Don’t underestimate the inevitable Demand Destruction that comes from Tariffs, which will mitigate the price increases:
145% Tariffs are effective EMBARGOES and therefore DEFLATIONARY.
If I am right that the Long Term Incentive Modifiers will be sticky at relatively punitive rates (40-60%), I think they will be DEMAND DESTRUCTIVE until suppliers figure out other solutions and/or RE-SHORE for less.
Don’t forget that Oil is a CRITICAL input to Inflation.
Just like High Oil in 2021 was the spark that lit the Inflation Conflagration, that in turn led to the USD Wrecking Ball in 2022, I think Low Oil in 2025 could wind up blunting a lot of the Inflationary pressures from Tariffs (before even Demand Destruction kicks in) and lead to the USD Pickleball (Weak USD) in 2025-2026.
I wrote about this last year well before Trump got elected:
I gave a detailed timeline of Oil’s impact on Inflation in my recent interview with Guy Adami:
Bottom-line:
It’s hard for me to see Runaway Inflation with Low Oil prices; hence, JPOW’s Transition from Pusillanimous Powell to Parsimonious Powell is somewhat baffling to me, as I see Macro risks now more skewed to the downside and Deflation.
1:03:45 JPOW Always Fights The Last Battle
I don’t like it when Trump bullies Powell, but where I agree with Trump is that Powell always fights the last battle.
Remember that JPOW was hoovering up MBS at a furious $100B/month clip in mid-2021 even as speculative excess was creating bubbles in NFTs and other Inflation Capacitors:
1:08:45 Trump 2.0 Playbook is NET NET Deflationary
I wrote two pieces that talked about this:
Low Oil is a necessary but insufficient condition for sustainably Lower Rates/Weaker USD, but I wonder whether the rest of the Trump 2.0 Playbook provides those sufficient conditions?
I talked about this topic with Paul Sankey in recent weeks as well:
1:19:00 In Defense of the UST and USD
There was a spirited debate about whether Inflation would be persistent and whether USTs would remain a Safe Haven Asset.
My view:
I think the “End of the USD / End of the UST” Hyperventilation is overdone.
I think Inflation will be tamed by a Slowdown and think there could be a Flattener instead of a Steepener.
Rate Differentials will lend support to the USD, and the Yield Curve is just back to where it was during the Election despite all the “Fourth Turning” hyperventilation.
1:24:35 Origins of USD Hegemony
I reminded people of the rudimentary ingredients to USD Hegemony and again mentioned my West Point Paper entitled “USD Primacy In An Era of Economic Warfare” from 2023 that delved deeply into the roots of USD Hegemony, which primarily stem from National Power:
FX Strength vs. FX Adoption
National Balance Sheet
Debt/GDP is just one of so many relevant factors to USD Hegemony, because it only focuses on the Liability side of the National Balance Sheet.
Why doesn’t anyone ever talk about the ASSET side of the National Balance Sheet?
The Importance of a Liquid Sovereign Bond Market
China is in an unenviable Geopolitical corner of not wanting to amass more USTs, forcing it to plow its Surpluses into Gold, a Supply INELASTIC Reserve Asset that pays nothing.
The Sword of Inelastic Supply cuts BOTH ways, and there will come a day when the PBOC will need to SELL.
Look out below when that happens.
Thanks for listening and reading!
Another great post. Thanks so much!
Michael, I really appreciate your in-depth analysis in multiple areas of economics and finance.
Have you thought about all the problems created by the Fed? I believe the best thing is to abolish the Federal Reserve, instead of letting it wreck the nation any further.