Economist Slok Says 'List of Worries Is Indeed Growing'

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00:00A lot to worry about, and Fed officials just told us to take summer off, basically,

00:03that they'll get back together in September and consider what to do.

00:06Do you think they need to do something before then?

00:08I don't think they need to do something before, but I do think that the list of worries is indeed growing.

00:12It used to be the case for the last several months that we've been worrying mainly about the trade war.

00:16What is coming from the trade war, very importantly, is what Jamie Dimon pointed out yesterday.

00:21Now we're going to see the negative effects of tariffs on earnings and therefore also on the economy.

00:25The Yale Budget Lab is quantifying that the impact on GDP this year will be minus 0.7.

00:31Normally GDP growth is 2, so if I subtract minus 0.7, that brings me to still 1.3.

00:36That's not a recession, but it certainly is something that will be pushing the unemployment rate up

00:40in the same calculation by roughly half a percentage point.

00:42So the first thing is tariffs.

00:44We are still waiting to see the actual effects of tariffs both on earnings and on the economy.

00:49And the things that are being added now more recently is student loan payments are restarting.

00:53It's beginning to hit people's credit scores.

00:55That's about 9 million people now who potentially will have a hit to their credit scores and

00:59therefore will have challenges going out buying a house, going out buying a car, going out

01:03buying a washer and dryer.

01:04And third and finally, the downgrade.

01:05Yes, the market reaction yesterday may be more mild.

01:08And yes, we did go from the U.S. being hyper-exceptional to just being exceptional.

01:13But it's certainly a risk with the fiscal discussion and in rates markets that we are also adding

01:17on to the layer in terms of the issues that we're talking about.

01:20You see this stress in the buy now, pay later data as well.

01:22And you've seen that build for a number of months.

01:24The question I would ask, the brutal reality is, low-income workers haven't had a good

01:28run for a long, long time.

01:30That's been true even when people came on this program and said the economy was good.

01:34Do you see the stress migrating up income levels at all?

01:37That is exactly what's going on.

01:38So you saw Klarna yesterday say that they were reporting that buy now, pay later was seeing

01:43more weakness among consumers.

01:45And the issue is exactly that it's migrating up towards middle-income households.

01:48You're seeing this also more broadly in, for example, in the housing data.

01:52The SONDA weekly data for traffic for home builders is beginning to slow down.

01:56And this spring selling season has basically been much weaker than the spring selling season

02:01we've seen for the last few years.

02:02So also the weakness in the housing market is a leading indicator telling you that the

02:06middle-income consumer is also beginning to look more stressed.

02:09So you don't necessarily see recession, but this downside to growth that comes at a time

02:14of pricing pressure is something that looks a bit like stagflation.

02:19And I wonder, some people say, well, if it's not a recession, then it's pretty good.

02:22Is this actually a worst-case scenario for risk assets?

02:25Because there isn't a very obvious reaction function from the Federal Reserve, from policymakers,

02:31to respond to the fundamental underlying weakness in consumers.

02:35Exactly.

02:35Because inflation, if that is now going up, we've heard all the stories from Walmart,

02:39now, Subaru, various, of course, retailers are saying prices will be moving higher over

02:43the coming quarters.

02:44That's what everyone expects.

02:45This is a textbook definition of a trade war, namely higher prices, because imports of

02:50containers that come in to Los Angeles, of course, things will become more expensive.

02:54And that is exactly challenging the Fed's room for maneuvering, because they will have

02:58to keep rates higher for longer in response to almost no matter what growth is doing.

03:02If growth, of course, gets into a deep recession, they will be cutting.

03:05But if growth is just weakening, and that is the expectation from the consensus, that's what

03:09we're seeing in the data, then you will have this stagflation situation, which is very

03:13uncomfortable from a Fed perspective, because inflation higher for longer says the Fed should

03:17be hiking.

03:18But growth slowing down says the Fed should be cutting.

03:20So this becomes a question for the Fed.

03:22Do they like apples and oranges?

03:23Do they put more weight on inflation being high?

03:25Or do they put more weight on growth slowing down?

03:27So it goes to something that John was talking about, Jamie Dimon yesterday, talking about

03:31this complacency in markets, particularly with risk assets, given the fact that, yes, you

03:36have these tariffs, but you also have this kind of backdrop that does pressure the consumer.

03:41Do you think that risk assets really are not pricing in this type of backdrop at a time

03:46when you've seen big rebounds in this wake of any kind of sell-off?

03:49I think the stock market is backward-looking at the moment.

03:51The stock market is not taking into account the fact that we have these three different

03:55forces that are now pushing the economy down.

03:57First of all, we have tariffs weighing on earnings, tariffs weighing on GDP, tariffs pushing

04:02the unemployment rate up.

04:03We have also student loan problems that will hit people's ability to borrow.

04:07And finally, we also have the Moody's downgrade.

04:09Yes, again, that might just be a thing in markets where we said, oh, this just went and came away

04:13and, well, it's suddenly no longer an issue.

04:15But it is certainly something that this conversation, the direction of travel when it comes to the fiscal

04:19discussion, is only one way, namely, that we will see debt levels go up.

04:23And there's more and more discussion around what does that mean, not only for rates, but

04:26also for the dollar.

04:27And note also yesterday, by the way, that the dollar went down, even though rates went

04:30on a round trip, still telling you that there is something here to think about in terms of

04:34the bigger picture, not only in terms of what rates are doing.

04:37And then when the dollar goes down, of course, we get even more inflationary pressure, and

04:40that complicates the job for the Fed even further.

04:42Torsten, you keep talking about downside risks.

04:44Do you see any upside risk to policy proposals right now in Washington?

04:48I do think that the stock markets focus on deals when it comes to trade deals.

04:52We do see, of course, that there could be some good chance that we could get some deals,

04:56of course, over the coming weeks and months ahead.

04:58But the issue here is that the policy has already been implemented.

05:01Let's not forget that the average tariff rates went from in January 3 percent to now 18 percent.

05:07So that's a fairly dramatic shock.

05:09Remember in 2017-18, in Trump's first term, tariff rates went from 2 to 3.

05:13And now we went from 3 to 18.

05:15That's a very significant impact, which is exactly why this earnings season gave this outcome

05:19that companies are having a hard time giving forward guidance.

05:22Companies are having, of course, a lot of challenges with dealing with higher tariffs.

05:27That's why Ford Motor Company had losses of 1.5 billion, Apple losses of 900 million.

05:31It really is significant how these coming motions of what will happen to earnings and GDP

05:36are not being priced into markets at the moment.

05:39In your office, at your headquarters, on the calendar, what's circled?

05:43What dates?

05:44Which month?

05:44So what's most important is back to the square, the circle, to what you said about the Fed meeting.

05:49It is very important how the Fed communicates about this.

05:51So far, FOMC members have said we have a wait-and-see mode.

05:54Because it's fair to say, John Williams said this, and Powell also has been talking about this,

05:58it's fair to say let's wait and see what the data actually is going to turn out like.

06:02But if I turn on my Bloomberg screen and type ECFC, go and look at what is the consensus expectation to inflation this year?

06:09It's going up.

06:10What's the consensus expectation to GDP growth?

06:11It's going down.

06:12As an investor, this should be the number one thing to look at when I do asset allocation.

06:17So the answer to your question is the incoming data, does it play out as the consensus and the textbook would predict,

06:22namely that inflation is going to go up and GDP is going to go down?

06:25And I would expect that is exactly what we're looking at over the next several quarters.

06:28Inflation short-lived or persistent?

06:30They say they need time.

06:31New York Fed President John Williams said maybe by September.

06:35Is that enough time to know whether it's one and not the other?

06:38Well, hold on.

06:38So there are two very important aspects of that.

06:40Beth Hammack said in a speech here two weeks ago at the Hoover Institution that she is already seeing companies

06:45that are not impacted by tariffs also raising prices because competitors are raising prices.

06:51And the second thing also, let's think about the following.

06:53If it ends up being the case that you will have imports that are significantly lower

06:58and therefore you will have less variety on the shelves,

07:00that means that I may not be able to buy a white shirt and a white collar.

07:04And if that's the case, then the price of all the shirts that are left will be going up.

07:07So that means that it's not only about this one-time lift in changing the sticker and what is the price of my shirt,

07:12but it's also that if there is less variety, if there's less goods coming in,

07:15and if we're trying to avoid and prevent goods from coming in,

07:18it will mean that the goods that are left might see a more permanent increase in inflation.

07:22So that's why this is not just a temporary feature in terms of thinking about inflation.

07:26It is something that potentially could have more longer-lasting impacts.

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