The markets will be watching the Federal Open Market Committee as it brings its rate target to neutral. The Federal Reserve began cutting rates in September. The December meeting is its last of 2024. Will the cutting continue, or will there be a pause? Join us live on Dec. 19 at 1 p.m., as Doug Peta, Chief Strategist, U.S. Investment Strategy, at BCA Research, discusses the meeting and future policy.
Transcription:
*Transcripts are generated using a combination of speech recognition software and human transcribers, and may contain errors. Please check the corresponding audio for the authoritative record.
Gary Siegel (00:12):
Hi, and welcome to another Bond Buyer Leaders event. I'm your host Bond Buyer Managing Editor Gary Siegel. Today we're going to discuss the federal open Market Committees meeting yesterday, and my guest is Doug Peta, chief strategist U.S. Investment Strategy at BCA Research. Doug, welcome and thank you for joining us.
Doug Peta (00:39):
Thank you. Gary,
Gary Siegel (00:43):
Was there anything in the post-meeting statement, the summary of economic projections or chair Jerome Powell's press conference that surprised you or grabbed your attention?
Doug Peta (00:55):
The factor that surprised me the most, the element that surprised me the most was the change in the summary of economic projections. The way that the dots really swung by a considerable margin when it came to the committee's inflation projections, and I guess as you might expect if you have inflation projections rise by a meaningful amount, well that also flowed through to a meaningful change in the projection of the path of the Fed funds rate in which now the committee is saying that there will be 50 basis points less of cuts in 2025 and 50 basis points, and then at the end of 26 it didn't change its 2026 projected cuts so that the committee is saying the fund trade is going to be 50 basis points higher at the end of 2025 and at the end of 2026, then it anticipated that it would be the last time that the Fed met and voted in September.
(02:03):
So I do think that was really a meaningful change and I think that's what drove the adverse equity market reaction and also the adverse rates market reaction we got yesterday. And then finally, I would say I was struck at the press conference by the tone of the questions that really the first half of the press conference with the questions from the media, they were overridingly expressing skepticism that the Fed would be cutting it all against the new backdrop, against the expectation that inflation is going to hang around a little bit longer than we had previously expected. I was surprised in that turn in the cast of the questions,
Gary Siegel (02:58):
Well, I believe most people believe that the new administration, their policies will be inflationary and inflation is already sticky. And so people believe, I guess the media questioners yesterday believe that this will cause inflation above what the Fed is projecting.
Doug Peta (03:22):
Certainly as they touched that in their questions, it created some headaches for Chair Powell because he, I think resolutely did not want to acknowledge that the new administration's policies could change the backdrop, the macro backdrop in terms of like you said, encouraging inflation. He really did seem he was at pains to saying that, to say that explicitly. But I do think when you look at how the committee really dramatically shifted from when they were asked What are the balance of risks for inflation? What are the balance of risks? They said, look, inflation, it's balanced. At the last time they voted in September, it was these numbers are going to be a little off because there are two more voters in September than there were in December for this question. But it was like 16 to four balanced versus skewed to the upside. And then yesterday that vote had flipped from say 16 four to three 15 that now only a very few voters believed that the risks were balanced. While if this were a bar chart, like a skyscraper next to that bungalow was expressed a concern that the risks are now to the upside. And as the Reuters reporter asked, he said, look what changed between now and then, but November 5th and Chair Powell valiantly tried to cite some other factors that changed. But yes, that did seem to be the elephant in the room yesterday.
Gary Siegel (05:00):
So we know what the Fed's base case is. How does that compare to your base case for rate cuts?
Doug Peta (05:08):
Our base case is different and the source of that difference is that I believe within my team at BCA and the overall house view at BCA is that US is going to enter a recession in 2025. If we are correct then that would call for more than two twenty five basis point rate cuts. What we heard from the chair yesterday and implicitly from the members of the committee was that US economy is in a really good place. It's growing robustly. There is no sign at the moment that we are headed for recession and therefore the committee can focus a little bit more on the inflation risk. And that again, I think Chair Powell and the committee would really disagree with the BCA assessment that we do believe a recession is more likely than not. And so because of that, we expect there are going to be more rate cuts than are priced in right now. And I would say the overnight index swap curve very much in line now with those 2 25 basis point rate cuts as projected by the committee yesterday, we think there'll be more than that.
Gary Siegel (06:27):
What is your reasoning for expecting a recession or a downturn in 2025?
Doug Peta (06:36):
We think that the cooling in the labor market that chair Powell mentioned repeatedly is going to continue. And that in the past when you see the labor market cooling, specifically when you see the unemployment rate rising, it doesn't rise just a little bit. It tends to rise slowly and gently and then it reaches a tipping point where it really takes off and goes vertical and you have at least a two or three percentage point rise in the unemployment rate. If that is not going to happen this time, that's anomalous. Now it's entirely possible. Things could be different this time, but the burden of proof is really on the soft landing crowd to say why this time is going to be different than all the other times. And again, maybe this comes down to the election results and optimism for growth given the election results and expectations that if the policies that candidate Trump talked about on the stump tariffs deportations to shrink the labor force and tax cuts, the idea that those would be inflationary.
(08:00):
Maybe that's really changed things. But it was pretty remarkable a couple of meetings ago when Chair Powell was saying that, Hey, we think the economy's in pretty good shape. And he was asked repeatedly why the empirical result that I've just described? Once unemployment begins to take off a little bit, it goes up a lot. He was asked that over and over and over. I remember it started with Gina Smick at the times and three people asked him about it, and then Rachel Siegel from the Washington Post tried another angle and said, well, what are the things you're looking at to be sure that the labor market isn't softening? And Chair Powell eagerly ran through the laundry list of data that he might cite. That's a real sea change that we went in that room from just August and September. There being a lot of concerns that the labor market was approaching this tipping point where a little bit of softness turns into a lot of people out of work and therefore a downturn for the economy to people more, less playfully assuming that, hey, we're good on the labor front, we're good on the growth front.
(09:13):
Now the thing that we have to worry about is inflation. I do think that is really a sea change in the tone and the substance of the questions across just August or September to now.
Gary Siegel (09:29):
My understanding is that President-elect Trump would like to kick out any illegal immigrants who are criminals. What impact will that have on employment? I would think these people wouldn't be employed anyway.
Doug Peta (09:49):
I don't know how to parse it with the criminality filter, but if we look at it more broadly, and I don't remember the criminals modifier on the stump that both President elect Trump and Vice President-elect Vance, were throwing out some big numbers that eight, nine, 10 million deportations, if you were to have eight, nine, or 10 million people removed from the labor market, we're going to notice that you won't have to squint to see that and all else equal if you are going to reduce the supply of something by an observable quantity and the demand for it doesn't change, prices must go up a lot to equilibrate that market.
(10:38):
Additionally, I would think that if you are undocumented and your employer knows that, and surely your employer must because your employer is supposed to get a social security number to withhold income taxes, I would think broadly undocumented workers are making less than an employer would have to pay the replacements. I would think that, again, if both sides know that the worker isn't documented, that the employer could say, look, let's forget about that $15 an hour state minimum wage law. Let's make it 12. I think 12 would be good for you. If we're going to remove all of that lower or a meaningful share of this lower cost labor inputs, then you're going to see wages rise. That doesn't necessarily mean that we'd have consumer price inflation because it may turn out that businesses may simply eat that increased cost in the form of a shrinking profit margin.
(11:43):
But if you have that labor cost input rising and you have firms that attempt to defend their profit margins, then you are going to have upward pressure on inflation. So again, I don't know how these numbers intersect with criminality. I would think that, like you said, if you have a conviction, you're probably not likely to be employed in the first place or much less likely to be employed. But in a broader sense, if you really are going to shrink the supply of labor by a meaningful amount, that is going to be inflationary. And it may even put a little bit of pressure on growth because these people don't just work here. They also spend here, and if you are going to remove them, maybe you'd kind of have the worst of both worlds that you'd have upward pressure on prices, but downward pressure on growth and we would be headed to a stagflationary outcome. Or at the very least, the impact of those sorts of deportation policies would lean to being stagflationary.
Gary Siegel (12:55):
Doug rates are restrictive according to Fed inflation is higher than their 2% goal. The labor market most people think is still healthy, although cooling somewhat and the economy is growing above trend. So what is the Fed's purpose in lowering rates?
Doug Peta (13:16):
I think it comes back to the first statement in that sentence that rates are restrictive. And that was something that was clearly a talking point that Chair Powell returned to over and over and over. I would think the Fed's PR people are very happy because he seems to be very coachable and he really does seem to be disciplined in hitting his marks. So at one or several points, chair Pal not only offered the opinion that rates are restrictive over and over, he said, cutting the Fed funds rate by 25 basis points today makes monetary policy less restrictive. There were times that he said, we believe policy is significantly restrictive. Well, if you believe that policy is significantly restrictive if it is acting to tamp down economic activity and you believe that the inflation we've had was largely the result of one-off factors, especially when it comes to goods resulting from the disruptions of the pandemic and you believe as Chair Powell says, the committee does, and we most certainly believe at PCA that there's significant consumer price disinflation in the pipeline from Shelter Disinflation then if you've got restrictive rates and inflation is not truly worrisome.
(14:50):
And finally he said the labor market remains healthy, but as he said in the opening, look, we don't think the labor market needs to cool anymore to get inflation to the target. I think you can square the circle and say, yes, we'll go ahead and try to get the Fed funds rate down to a level that's not restrictive because we do believe we are in this disinflationary phase and while the labor market remains healthy, we don't want it to cool anymore because we are aware of the empirical history that when unemployment begins ticking up slowly once it passes a certain threshold, that empirically has been a one third of a percentage point increase in the three month moving average of the unemployment rate. The trough three month moving average for the unemployment rate was 3.5%. Right now, the three-month moving average is between 4.1 and 4.2.
(15:56):
So we are over 60 basis points above that trough rate. And in the past, every time we've had an increase of 33 basis points, we've had a recession. So when you put all that together, I think you can make a case for continuing to cut rates. But I did, I really, really liked the metaphor that Chair Powell used when he said, look, when you've got uncertainty, it just is common sense to slow down as if when you are driving at night in the fog or when you enter a dark room full furniture, you move very slowly and kind of feel your way around. And I think that's where the Fed is, especially given the introduction of new policy uncertainty on the fiscal front.
Gary Siegel (16:45):
For the longest time the Fed was worried about inflation more than employment. Then a few months ago, employment took the spotlight away from inflation. What do you think the Fed is more worried about now, employment or inflation?
Doug Peta (17:03):
I think they ought to be more worried about employment. Maybe it's a toss up right now. I don't quite understand away from potentially inflationary policies from the incoming administration why one would be particularly concerned about inflation. Now I come to that BCA comes to that because we do believe there's significant shelter disinflation in the pipeline. There are still a very large number of multifamily units under construction that haven't yet come to market. That number peaked out three standard deviations above the mean, and it's come down, but it's still two standard deviations above the mean. So back to the supply and demand framework, there is a whole lot more multifamily residential supply coming online, but household formations are not growing enough to match that increase in supply to allow demand to match that increase in supply. And if we are going to have tighter enforcement on the southern border for immigration, you would think that immigration flows are going to slow, especially after we had a real deluge of immigration flows beginning in 2022 after Covid was passed and we stopped having that 2020 2021 freeze. So you're looking at rising apartment supply, rising housing unit supply and demand that perhaps is going to begin growing more slowly. That is going to accelerate at a slower rate. That's a formula for lower prices. And with shelter being 45% of core CPI, not as much in core PCE, but still the biggest individual component of core PCE, that is a pretty meaningful headwind for inflation going forward.
Gary Siegel (19:17):
So let's talk about tariffs for a moment. President Trump has, or President-elect Trump has put out a plan for tariffs on China, Mexico, Canada, that could potentially spike inflation. How likely are these to be implemented as he stated? And what is your take on the impact of these moves if implemented?
Doug Peta (19:43):
So those are absolutely the right questions. I don't have the answers, but let's talk through the way we think about it. Really difficult to handicap what is going to happen versus what has been promised that goes for any candidate on the stump. But I think it especially goes for president-elect Trump and his coming administration. And part of the variability of what we might get from this administration could well be a negotiating tactic that one way to get things done is to convince your negotiating partner that you're a little crazy. And so it is possible that 25% tariffs on Canada and Mexico as of day one 50% tariffs on China as of day one. It's possible. These are just negotiating tactics and the Canadian one certainly seems to have awakened everyone above the 49th parallel where Premier Trudeau got down here in a hurry, got down to Mar-a-Lago in a hurry to try to discuss what Ken can do to try to ameliorate these proposed measures.
(21:01):
So we don't know if they are going to come, when they will come and what the magnitude of the tariffs will be, but economic theory tells us that we ought to expect the prices will rise if there are terrorists. If for no other reason, then you are making the lower cost inputs or the lowest cost inputs for any particular good more expensive by slapping this levy on top of them. If the manufacturer doesn't eat those increased costs, then you see it show up in rising prices. One thing that mitigates that elegant economics 1 0 1 theory is that it didn't turn out that the tariffs in 2018 had any meaningful inflationary impact. One thing that is different now versus then is that we have had several years high inflation under our belt and maybe that made firms more confident that they will be able to pass on price increases going forward.
(22:10):
It was also possible before to avoid the tariffs simply by building Chinese owned factories in Mexico. But the incoming administration says it's wise to that game and that it wants to stop it this time around. So again, the economic theory is that you are going to have higher prices because of the tariffs. There's also economic theory that you're going to have less growth, you're going to have less activity, that there's a dead weight loss from tariffs that is equal to the square of the tariff amount. So if you were to have a 50% tariff, that would translate to a two and a half percent slow down in activity. That's enormous. Now of course, that's not for the whole economy, right? That's just for the interaction between here and the country that's subject to the 50% tariff. But even a 20% tariff would lead to 40 basis point drag on activity or 25 a 62 and a half basis point drag on activity.
(23:21):
And I'll stop there with the mental math and moving all these decimal points around. So look, it's not something mainstream economists would champion. It does point to a stagflationary outcome that drags on growth while also promoting higher prices. But in the real world in 2018, we didn't get that sort of outcome. So I think the jury is out, but we don't have as much of a cushion now that we are not in an environment where for 10 years the Fed and other central banks have been trying to get inflation higher, right? We're in the exact opposite after living through 2021, 2022, and then the still high inflation lingering across 2023. But those are the things that I think matter. What does it do to activity? What does it do to prices? And of course, I don't think this is all going to be unilateral if for no other reason than to save face. I would expect any other self-respecting economy and premier and finance ministers to put tariffs on US goods that they import. So if you're going to have less global trade, and we are a really high cost input country that also pushes prices higher.
Gary Siegel (24:57):
Right. So Doug Fed chair Jerome Powell has said that he won't anticipate fiscal or trade policy, but at some point, do you think the Fed becomes proactive, anticipating potential implications on monetary policy of things that the new administration does?
Doug Peta (25:21):
I would think it would be gently proactive. And I think we can interpret yesterday's shift in tone and the shift in the dots and the summary of economic projections as indicating that they're being proactive. Again, flipping that balance of risks on inflation from almost everyone saying it's not a problem, that it might go higher to almost everyone saying yes, there's a real risk that inflation goes higher. We haven't gotten that much data between the last time they voted and yesterday. So I do think just that change in stance shows that the Fed is willing to be proactive, but again, with driving on the foggy night or walking into the dark room filled with furniture, it's going to really feel its way. It's not going to be aggressively proactive. And I did think it made a lot of sense when Chapel Powell sort of describing that sort of thinking.
(26:19):
He said, look, it's really good to have this scenario analysis and the 2018 Teal book work that we did. And he said, look, I think that analysis still applies, but tariffs aren't in front of us yet, and I don't think it would be logical to really change the course of policy right now. And then if we get to January 20th and the negotiating tactic worked and there are no tariffs on Canada or Mexico, and the tariffs on China are held in AB Bay or are smaller than we expected, or frankly don't matter that much at all for economic activity here because China's not that important a trade partner for the United States, that then you would've gone and really adjusted your course of policy and it turned out to be a mistake, then I think. So if the Fed were too aggressive to use a Milton Friedman metaphor, they'd be running the risk of behaving like the fool in the shower that you walk in the shower's too hot.
(27:30):
So you turn the cold up all the way and then you're freezing and then you're like, wow, I'm freezing. So you turn the hot up all the way and this tap responds with a lag and by the time those changes get through to you, now you're scalded. So I think going slow always makes sense. As a rule of thumb for a central bank and given the unusually high amount of variability around the incoming administration's policies, that's going to be the rule. So they can think about stuff, they can gain plan for it, but they are not going to really get caught leaning one way or the other. I don't think.
Gary Siegel (28:18):
One question that was asked yesterday was about the possibility of a rate hike. Given the fact that the Fed now thinks inflation will rise next year, chair Powell would rule it out. I'm assuming that since you think we might have a recession next year, you don't think it's very likely that there will be a rate hike next year,
Doug Peta (28:40):
Right? We don't think if our base case view comes to pass, we don't think there'll be any reason to hike rates that the softening in the labor market and in the economy more broadly will be so evident that the attention to the elements of the dual mandate will very rapidly go to a very darn near fixation on the full employment aspect to the near ignoring of the price stability aspect.
Gary Siegel (29:20):
So you would say 0% possibility 1% something in that range?
Doug Peta (29:25):
Well, certainly not zero. I don't think there's ever a 0% chance, I'd even say a non negligible probability. And I realize I didn't quite directly answer your question when you said, why does BCA see a recession the way I see it? And if you'll permit a little economic theorizing, we all know that consumption is two thirds of GDP in the United States or comprises two thirds of economic activity here. But I think this is not just a US specific story that in my view, the central theorem of macroeconomics is that my spending is your income and your spending is my income. This is what underpins Keynes's paradox of thrift that if everyone tries to save more paradoxically, everyone will actually save less because there will be less economic activity. Everyone will have less income from which to try to save.
(30:28):
We need income to consume. And I think there are three temporal buckets of income on which we can draw to consume there. So coming up on Christmas time, this is like a Christmas carol, the ghost of Christmas past goes Christmas, present goes to Christmas future, we can spend out a past income, present income or future income. I submit that the positive economic and market surprises in 2023 and 2024. And remember this time in 2022, the consensus was nearly unanimous that the US would enter a recession by the middle of 2023. We argued against that because it was our team's view that the monumentally large fiscal transfers from Congress to households who were likely to spend the money, the bottom seven deciles of the income distribution got the direct payments from Congress. And given that it was people at the low end of the income distribution that nearly entirely bore the brunt of unemployment, it was the bottom quartile, bottom quintile who got the federal unemployment insurance benefits supplement payments.
(31:48):
That money sealed it up in 2020 and 2021 because we didn't have the full range of consumption options available to us. Ball games were played in front of cardboard cutouts. There were no concerts, there were no movies, we weren't traveling. Much flight schedules were dramatically paired back and it was difficult to find a bar or restaurant that was open if indeed you were willing to venture out and risk potentially getting infected. It was really not until 2022 that we regained the full pallet of consumption options. So in our view, a sizable amount of excess savings built up in 2020 and 2021 when you had middle income and below households getting showered with extra income that they couldn't spend. Okay, so we estimate that US households in the aggregate amassed over $2 trillion of savings they wouldn't have had if we hadn't had a once in a century pandemic.
(32:48):
Those excess savings were, to my mind a powerful tailwind from past income, income that we earned before, but that we haven't yet spent. That's our assets, that's our savings, that's our wealth. I submit that tailwind is waning and is going to cease entirely in 2025 because the savings rate has begun to pick up in a meaningful way. And because we've seen the renewal of the very tight correlation between changes in household net worth aligning with changes in consumption. So we found that there's a very strong relationship between changes in household net worth and changes in consumption two quarters afterwards because that relationship has realigned. We've gone from these dramatic shortfalls in consumption in the four quarters, two Q 20 through one Q 21 when we were in peak lockdown where you had household spending way, way less than the change, the increase in household net worth predicted then we've been catching up across 22 and 23 and the first quarter of 24, but in the second quarter and third quarter of 24, we're right back where that historic relationship says we should be.
(34:11):
So a long explanation, but I think it's important we see that past income tailwind fading, that's going to put the onus on present income, which is largely compensation or future income. We turn future income into consumption today by borrowing. That's what we do when we take out a car loan or a mortgage. We are promising to divert some of our future income to service that debt and then to repay the principal when it comes due because the senior loan officer survey has told us for nine consecutive quarters that banks have been tightening consumer lending standards and that households haven't shown much of a desire to borrow that future income. It may future income bucket may give us a little bit more, but not enough to plug the gap left by deploying, running down, depleting those over $2 trillion of excess savings. That puts the onus squarely on present income, which is compensation and the series that lead non-farm payroll growth, the Jolts data, the job openings and labor turnover survey, the openings rate, the quits rate, the hires rate, they're softening.
(35:26):
They all made or matched four-year lows in September or October. We only have this data through October. We don't have the November data yet. We've got employers insisting on return to office mandates and as at Amazon, and this is in Amazon web services where there are programmers and engineers, the chosen ones in the labor market for the last three, four years, the head of Amazon Web Services, the CEO in an all hands on deck meeting, this was reported everywhere in the press, Reuters CNBC, fortune. He said, Hey, if you don't want to come back to the office five days a week, that's okay. There are plenty of other places to work. That to me sounds like an employer saying, Hey, don't let the door hit you on the way out. So I think employers are now very confident that the labor market is no longer tight and Amazon has denied that this is an attempt to thin the ranks without having to pay severance.
(36:32):
But you're seeing other companies do it. And then Elon Musk and Vivek Ramaswamy in an op-ed in the Wall Street Journal a couple of weeks ago made it explicit. They said, we want, as part of this department of government efficiency, we want every federal employee in the office five days a week. And if 20% of people quit, that's great. We'd really like that. So I do think you can see that the worm has turned in the labor market and unless we see the openings rate, the quits rate, the hires rate, stop declining, find a footing, and even hint at turning up, we're going to believe that the softening in the labor market is going to culminate in a contraction in payrolls, which will lead to less spending, which will lead to even more of a contraction in payrolls, which will lead to even less spending, which will ultimately be get businesses slamming the brakes on any sort of discretionary investment.
(37:31):
And then we'll have a recession. And in my view, the die has already been cast and it's too late for the Fed to do anything about it. So all of that explication about the recession risk, that then is what's going on in my mind when you ask, well, what probability would you put on the Fed hiking next year? A really small one, certainly not something as small as 0%, 10, 15, 20%. We can't see the future for sure, and it's entirely possible that the election results will produce such a pickup in business and consumer sentiment that we get investment and or consumer spending to inflect higher that they actually accelerate their growth rates. And that is something that could push growth enough that, hey, we don't have a recession and in fact, we could run the risk of overheating, which then would call for rate hikes. So let's say 15 or 20% chance of a rate hike next year. But I think overwhelmingly the probability favors continued rate cuts, and indeed we expect that there will be more cuts given that economic view than either the committee suggested in the dots yesterday or the overnight index swap curve is saying the money markets are expecting
Gary Siegel (39:01):
President-elect Trump has said he should be able to influence though not set the federal funds rate. Do you see a path to this for him? Is there a way this could happen?
Doug Peta (39:15):
Surely there's precedent for it because we saw it the first time around when he heaped a whole lot of vituperation on Chair Powell and Chair Powell stood up to it. But we've seen President Nixon get Burns, Arthur Burns to do just what he wanted to attempt to ensure his reelection. 1972, there was a fantastic photograph that the New York Times used to have for sale of LBJ. It's a series like four photographs in an office of he starts with standing in front of the person like this. His hands kind of folded, and then the personal space between the two of them shrinks more and more. And this Congress person or senator was a good bit smaller than LBJ was a big man, and LBJ is getting closer and closer to him until in the fourth photograph the Congress person is bent back over Ben, back away from LBJ onto a desk.
(40:12):
And LBJ is still leaning forward. Well, we know that he summoned William McChesney Martin, the longtime head of the Fed to his spread in Texas and all but threw him against a wall and told him not to hike rates. William McChesney Martin didn't give in. Finally, in Volcker's memoirs, he tells about a meeting at the Oval Office with President Reagan and Treasury Secretary James Baker, where the president didn't say anything. He just sat there and smiled bunk literally in true Gipper style while Baker said to him, the president orders you not to hike rates. Now, Volcker in his memoir said he didn't give in. And as you can see in the historical record, he didn't. But there's a long tradition of the White House trying to influence the Fed, and Trump was particularly open about it the first time around. Sure, I think he would try to influence fed policy in the future if he or any other administration is successful in introducing an overtly political element to what's supposed to be the technocratic setting of monetary policy.
(41:34):
I do think that would be bad for growth, but most immediately it'd be bad for the bond market because I think investors would then price in a greater uncertainty about the future path of rates that would show up in what we call the term premium. So we'd like to think of bond yields as being reflecting the real interest rate, what real growth in the country, in the economy, plus expected inflation plus this fudge factor that we never really fully define the term premium. But the term premium when we do define this amorphous concept, is supposed to reflect the volatility of interest rates going forward so that when you go further out the curve and buy a 10-year bond as opposed to a three-month bill, the 10-year yield is greater than you would get from just rolling over that three-month bill 40 times.
(42:34):
And the difference between the two we explain is this term premium, this compensation for the uncertainty of future direction of rates. Well, if you would see the White House clearly putting its thumb on the monetary policy scale, then we should expect that the term premium will widen and therefore you would see the curve shift out and steepen. And if you have higher long rates, that's going to affect borrowing, that's going to affect mortgages, that's going to affect long-term investing for big projects by businesses. And that would all be a drag on activity while producing losses in the rates market.
Gary Siegel (43:17):
We're running short on time, so I'll make this last question. What questions are you getting from clients, Doug? What are they worried about?
Doug Peta (43:27):
I can tell you I'm not worried about a recession because over and over we have been asked over the last three or four months to defend our recession view. And I think when we go into those meetings, I and my colleagues make a pretty good case for the view. But I can tell you the meetings I'm in, I don't think we're changing any hearts or minds that the investors, clients and prospects may say, okay, these are good points, but they're not changing their positioning. That has really been the overriding one. Now that's because we have this very contrarian view that we're kind of out on a limb very much alone on an island with this call, more generally, rates inflation are on everyone's mind growth. And then now that we have had as the campaigns progressed and now that we have the election result, lots of questions about what do tariffs mean? What do you think is doable in Congress for tax cuts? What's it going to do for growth in the near term? How is that going to affect the fiscal picture and the federal budget picture going forward? And do you think the administration can really carry out enough deportations to have a noticeable impact on the labor market? So it's the general growth inflation, and then recently people are very much trying to handicap what's going to come from the incoming administration, but nobody believes in the recession call.
Gary Siegel (45:15):
Well, this concludes our Leaders event. I'd like to thank you all for joining us, and I'd like to thank my guest, Doug Peta, chief strategist US Investment Strategy at BCA Research. Have a good afternoon everyone.
