Podcast Transcript: Phil Suttle on Coming High Inflation, Goods Recessions and Fed in Play

This is an edited transcript of our podcast episode with Phil Suttle who runs his own economic research outfit. Before that he worked at JPMorgan, the Fed, World Bank, Barclays and Tudor. We discussed the outlook for inflation, Fed policy, mispricing in EM local markets and climate change. While we have tried to make the transcript as accurate as possible, if you do notice any errors, let me know by email.

Phil’s Background and Career Path

Bilal Hafeez (01:28):

So on to our conversation. So welcome Phil. Welcome back to the podcast. I think we had you on almost a year ago, and I’m trying to remember what we talked about and I’m sure everything you said has turned out to be correct, but anyway, welcome back.

Phil Suttle (01:43):

Thanks Bilal.

Bilal Hafeez (01:44):

Okay. When I last had you on, I forgot to ask you your origin story, you know, what did you study at university? Was it inevitable that you were going to become a researcher? Where did you start and how did you end up where you are today?

Phil Suttle (01:57):

Interesting. So, I guess it’s sad to say I’m one of the sort of really boring people that always wanted to do economics and finance. When I started out as a high school in England, I swear I’m the only 13-year-old that went out and bought Accountancy Made Simple as a book. There were many other books I should have been reading, but instead I bought that one. I actually did that because my dad was an accounts and a book-keeper and I did want to be an accountant, but I guess there’s that old joke about economists being people who are good at figures, but don’t have the charisma to become accountants. And in a way I ended up sort of degenerating down the scale into being an economist. So I did that through A-levels and I was very keen on that and then I did it at university – I did history and economics at university, which was as much economics as I could do. So I had to do some history.

Which I was very glad to – I think history is a really important kind of subtext for an economist to have. But basically I ended up going through the sort of usual channels after university of Bank of England. And then I was lucky enough to be poached by JP Morgan during the Big Bang period in London in the mid-eighties (and that’s lucky because I literally used to sit opposite Andrew Bailey – I’m not suggesting if I hadn’t left the bank, it would have been me in that seat rather than him). But it’s interesting to sort of see where my peer group went. I think I’ve benefited from going out to work at JP Morgan because that was a fantastic institution to get developed at. And I guess that’s where we first met. But really for the rest of my career, I sort of alternated between the private and the public sectors or between sort of policy type jobs and private jobs and that there’s also been a really helpful input into what I do because it gives that sense of balance of the way markets work and the way economies work, which you tend to get kicked into a bit more in the private sector, but also of the perspective on where policy makers are coming from. That’s very useful.

I worked at the Bank of England. I worked at the New York Fed briefly mainly because of 9/11, which caused me to think twice about working downtown after the tragedy. And then also worked at the World Bank. And then the final little thing I’ve done apart from a few private sector jobs of Morgan, Barclays and with the hedge fund Tudor. The other thing I did, which I thought was really interesting was I worked for this bank industry group called the Institute of International Finance where I was Chief Economist for about seven years in the aftermath of the Financial Crisis – during the Euro crisis and the sovereign debt stuff in Europe.

And that was really interesting because again, it got me very close to the policy world, but from the angle of the private sector, if you see what I mean. And I was able to see some of the botch-ups that the public sector did at the time, and also, I think gives me a decent perspective for where we stand today on policy. If I can summarize it very briefly: before the Financial Crisis of 08/09, the private sector thought it knew everything and the public sector was, in a funny sense, sort of quiet and humble and always willing to defer. And now, after 2009/10, there’s been a little bit of an inversion on the private sector, which now views itself as a sort of taker of whatever has to happen. On the other hand, the public sector now views itself is very omni-sphere and very able to get it right and very confident that it’s got it right. Even when it gets it wrong, it’s still very confident that it’s going to get it right. And I think that guides me a lot. I know we’ll talk about inflation. That guides me a lot in my thinking about some of the errors that we may be making on inflation.

COVID has Led to the Biggest Change to Inflation Regime Since Early 1970s

Bilal Hafeez (05:48):

Well perhaps we can start with that. There’s kind of a lot of debates amongst investors and economists about the path of inflation. Now of course, we’ve been almost kind of programmed to think that we can’t really see in a resurgence of inflation because there’s been so many false dorms for inflation. At the same time commodity prices are shooting higher. A lot of the PPI type measures and wholesale price measures are going up. What’s your take on all of this then at the moment?

Phil Suttle (06:18):

Well, first of all there isn’t a single global story because different conditions exist in different countries. One of the things that’s happened over the course of my career, which is very impressive, is the degree of global inflation convergence on a low level, especially many (though not all) emerging economies that had horrifically high inflation rates for most of my career have now converged on sort of OECD, single digit rates, etc. So that’s an important point to make.

But to me, my takeaway is that, well, first of all, it’s a little frustrating because for many, many years, we sort of thought we had a very strong model of inflation. It changed a bit, but we always felt confident in our model. In the 70s and 80s, it was more of a monetary-based model. And then in the 90s and 2000s, it was more of a slack or output gap or unemployment rate type, Phillips curve type model. And I think what’s happened in the last few years is that we’ve sort of lost our faith in any single inflation model, such that it’s almost the case that it’s not clear we have a model of inflation, And it’s almost like a religion now. You either believe it’s going to go up or you believe it’s going to stay stable. When you sort of dig into why people have those beliefs, they don’t have a great deal of clear articulation in my view. So I think that’s an important point about the inflation process.

And I think that feeds into a very important notion, which is that inflation is inherently a very sticky process. So, for most of us who came into this sort of world in a career in the sort of 70s, 80s, early 90s, we were used to a sort of sticky, high level of inflation. So our bias was to think, well, here we are, a low level but it’s going to go back up because that’s sort of the way the world works. And I think now, after 20 years, 25 years of low inflation across most of the DM economies, especially in the US, we’re in the opposite situation where there’s a huge amount of inertia keeping prices low and relatively stable. Japan actually turned negative for 20 years and maybe now it’s become positive again. But everywhere, I think we’ve got this real sense of low inflation inertia. So that’s my starting point. It’s going to be hard to get inflation up.

However, I think inflation is primarily driven by the matching of aggregate demand and aggregate supply. And that’s true across a broad set of markets, which is what inflation all about – a broad increase in the price level or a broad development in the price level. And I think the conditions we’re now seeing are very different from anything we’ve realistically seen since the early 1970s, which is a very broad increase in aggregate demand, especially in the United States and especially in the goods producing sectors of the economy, against the backdrop of a supply side that I think is becoming less flexible than it had been for much of the last 20 years.

And some of that’s a COVID story – the dislocations of COVID, some of it is a China story – meaning the supply effect of China suddenly opening up to the rest of the world (Eastern Europe, etc) – that’s fading. And in fact, China’s going the other way. It wants to consume not supply. And then the final point, which is what Charles Goodhart and his colleagues have been emphasizing, is the sort of demographic story. The only point I’d sort of throw in as a sort of counterweight to this message is that I think we are in a generalized phase of accelerating inflation led by excess aggregate demand.

The only thing I’d throw in aside from this point about inertia, is that one of the propagation mechanisms through the 60s that was very powerful was the Trade Union Movement and the tendency for wages and prices to spiral up together. And that doesn’t seem to be there, (I’m tempted to say) yet, but I think also it’s an institutional change that’s kind of left labor markets lacking. So, there’s a tendency in most inflation thinking to look to wages as the initial sort of driver of inflation. I’d say in this process, they’re more likely to be the laggard and go up once other prices go up.

High Inflation Likely to Persist Over 2022 and 2023

Bilal Hafeez (10:51):

Yeah. And you mentioned, lots of these sort of supply/demand mismatches are most prevalent in the goods sector, yet CPI measures in the richer economies are predominantly services. So how do you map this to the service sector?

Phil Suttle (11:06):

Well one way of thinking about the inflation process is that the sharp end, as I like to call it, is all about goods. So whenever you’ve had inflation in the past, most of the movement comes in the goods area. And not just inflation, but deflation. So, the disinflation process is led by goods. The services tend to be more muted. So in a sense, maybe I can put some numbers on it to give a little more clarity. I think US inflation is headed above 3% over let’s call it the sort of 2022-25 period.

Bilal Hafeez (11:38):

That’s noticeably higher than consensus and the Fed and most projections, I think?

Phil Suttle (11:42):

Yeah, it’s a funny view to have in a way because you could say, well, if you go above 3%, you’re almost certain to go above 4%. Why stop at 3%? But I’m giving you the probability-weighted expected value rather than this idea that we’re inevitably going to pull the trend back to 1.75% or 2%. My thinking there is that really what’s going to happen is that service inflation, which has been typically around 3% for the last 20 years, will continue at that level, if not a little bit stronger. But what’s really going to change is that the goods price stability phenomenon that we’ve had in the United States for the last 20 years will change. And instead, goods pricing will join service pricing in, let’s call it the 3% range to make life easy. And that wouldn’t be unusual by historic standards. It would be unusual by the last 20 years, but as I say, many of the forces that I think I described earlier are pointing towards a sustained acceleration in goods pricing. And it’s probably goods pricing that tends to be the one that expectations become a little more important in the short run.

In the 80s and 90s when we were still dealing with the disinflation process, many Wall Street economists used to talk about pricing power. And I don’t hear that phrase very much anymore. And I think one of the reasons for is that many companies sort of saw themselves in the 80s and 90s as sort of operating inherently in sort of monopolistic or monopolistic markets. Meaning there was a sense in which the demand curves they face were downward sloping – they weren’t perfectly elastic. Then, I think in the last 10, 15 years, there was this notion that many companies felt themselves almost like they were perfect competitors, operating in a very flexible environment where they basically had no pricing power. You set the price of what the market would bear. And I think I would look at the next few years and think we’re moving back towards a world where more companies will perceive themselves to have a little bit more pricing power. And once that process gets underway, that’s all part of the sort of ratcheting up of expectations.

Bilal Hafeez (14:00):

And the factors that you mentioned that would drive goods prices higher, you know, COVID, de-globalization China and then also demographics, presumably that should also apply to Western Europe as well, so the Euro area, or even Japan as well. The reason I ask is if I think about the balance of risks, there is a sort of vocal part of the market that is looking for higher inflation in the US but no one really expects anything for Euro area, nor do they expect much for Japan, but could these forces affect those economies as well?

Phil Suttle (14:32):

Yes. Putting it bluntly, yes. Partly because the goods markets tend to be globally integrated. And more importantly, the last 20, 30, 40 years has been all about a correlation of movements and inflation trends across the major economies. So yes, there will be spillover. I just feel the Anglo economists, the English-speaking economists, let’s call them, have a little bit more of a propensity to this inflation phenomenon than will the Europeans and Japan.

The reason is that…well, I’m one of those people that feels the Euro area is inherently a very flawed system, that has struggled and will struggle to hold itself together for an extended period. So we’re in a brighter period now, perhaps when COVID goes away, but I worry that Europe’s kind of got this deflationary bias because it’s a system that doesn’t work naturally from a growth perspective.

Japan has a demographic problem. You could say, well, if I’m going to follow the Goodhart argument on demographics, it should be pushing inflation up. But I think it also has a sluggish growth phenomenon and just a lot of inertia there. What’s interesting to me about Japan is that the BOJ is clearly already the first central bank to effectively abandoned a 2% inflation aspiration. They’ve signaled, they’ll be happy with ending deflation and 0-1% is enough for them. That’s actually what they’ve been effectively saying for the last few months in their actions and their forecast.

The final point I’ll make about the Euro area is I think you have this inherent dynamic that the Germans still, in some sense, run the system and they don’t want inflation much above 2%. So, to get Europe working properly, because you have strong regions weak regions, you need Germany to probably have a structurally higher than 2% inflation rate to help correct that the secular trends towards imbalance within the region.

Bilal Hafeez (16:32):

And if we moved back to the US, I mean, I know you sort of track all kinds of the usual sort of indicators and data points as well as much more. What signs do you see currently of high inflation?

Phil Suttle (16:48):

The problem in the US at the moment is the near-term inflation pressures are so rampant that it’s hard to get a clear signal on where we actually are. And what I mean by that is that not only are we seeing very significant price increases in goods across the board, as well as many services like airline fares etc, but we’re also seeing incredible shortages develop. You could say, well, some of that’s just because some sectors are super hot, like construction. So anyone trying to build a house as I am at the moment, or renovate a house, is finding that you’re being told that not only is the price of materials three times what it was a year ago, but if you order it today, you’ll get it in October or December. And I think it’s a combination of actual price increases with the sense of shortage across the economy that I think is a very, to me, the most striking.

So, I compare the current period with the early 1970s. The buoyant inflation that we had in the 80s and the early 90s is nothing like what we have now. And incidentally, if I’m flagging growth risks in the United States in the near term, there aren’t actually many on the downside. But the one thing that I worry about the most is simply an inability to reduce shortages. You’re already seeing it in the manufacturing sector with the auto sector, struggling to get cars out the door, simply because the inputs aren’t available. The components aren’t available.

Bilal Hafeez (18:22):

And these shortages make me think this is just a temporary phenomenon related to the economy reopening that three, six months you get through all these bottlenecks and then the shortage problems will be gone. Or is there something more permanent do you think This has to do with the new structure of the economy or something?

Phil Suttle (18:38):

Yeah. That’s why I said earlier that it’s a bit hard to make longer-term judgment because it’s a little hard to extract signal from noise, if you see what I mean. And I think, in that sense, my guess would be that the way some of this gets resolved is that delays get reduced by prices going up to choke off demand. But if demand is sufficiently strong, then it will continue to push prices up. So, there’s both effects in place. Let me give you a little bit of an illustration in the manufacturing sector – as I mentioned earlier, autos. One of the ways that manufacturing got itself profitable and strong through the 90s and 2000s was to go to a very low operating level for inventory.

Now, I think what COVID has done and some of the dislocations related to COVID, and that includes some of the international trade problems we now have with shortages of ships and containers and ports. Some of those things I think are going to lead to a more, quite possibly a secular rise in inventory levels again. So the just in time approach is going to become, well, maybe just in a bit more time. We’ll have a little bit. And it’s hard to model or project how those forces will play out in terms of months and quarters and years. But to me, it looks more of a secular development. In other words, a step change in behavior rather than a very short-term indigestion problem.

Private Sector to Acquire Real Assets Rather than Financial Assets

Bilal Hafeez (20:11):

Yeah, that makes sense. And so what’s your sense on the US growth profile for this year? So when I look at consensus, Q2 our current quarter and Q3, you’re going to see a fairly healthy clip of growth and then Q4, it starts to go lower. And then next year you kind of head back towards trend growth you could say. How are you looking at first of the profile?

Similar profile, but a bit more optimistic with higher numbers. My forecast for a few months now has been for the US, 8% for 2021 and then for 2022 about 4%. So the real message there is above trend growth still into next year. I think the trend is rising by the way. And one of the reasons for that is that one of the reasons for growth view is that I’m expecting strong investment for the next two or three years.

Bilal Hafeez (21:11):

Is that due to the fiscal side or is that something else?

Phil Suttle (21:15):

The fiscal side is helping perhaps but the main driver is what I think of as a change in private sector behavior. And again, maybe this is too grand a way of thinking about it, but I think in this expansion, the private sector will change its behavior to being more based around the acquisition of real assets, rather than the de facto acquisition of financial assets (i.e., stocks). I think companies will have more of a desire and interest and incentive – it’ll be seen as the cool thing to do will be to invest in expansion rather than in buying back your stock to pull up the equity price.

Bilal Hafeez (21:59):

Yeah, that makes sense. Are we seeing signs of that already, would you say the investment side?

Phil Suttle (22:05):

I think we are. I think we’re seeing it in two ways. One is we’ve actually saved a lot of investment, which you could say, well who knows what’s really driving it. But for now, the fact that investment has been so strong through the recession and in the early course of the expansion is very encouraging. So, I think the incentive to become more based around real asset investment rather than buying back stock – first of all, it’s already happening. You’re seeing it in the hard data. But I think for much of the past decade or so, there’s been a sort of a bit of a paranoia in corporate boardrooms that if we were the only ones to do the investment and everyone else starts buying back stock or keeps buying back stock, we’re going to get fired or whatever.

And I think the best example was GE. GE tried to use the last expansion to build a real company and expand this real company and ended up dramatically underperforming. Their last decade was a disaster. Where we are now, the past year and a half or so has seen a phase where companies have actually dramatically cut back buybacks, often because they had to, and it hasn’t hurt their stock. And now, when we look to look at some of the recent stock market behavior, there’s more of a hope and expectation for growth. Companies are being rewarded for promising growth rather than for promising returning cash to shareholders.

Fed Will Be in Play Sooner than Expected

Bilal Hafeez (23:38):

What’s the business cycle implications of an investment lead cycle?

Phil Suttle (23:43):

What I think they’re fairly straight forward, which is that we’re going to see higher trend growth and therefore higher perceptions of, I hate to use this term, equilibrium real interest rate (r*). (I think you can make anything equilibrium, if you try hard enough, that’s what we’re able to do in the past decade). But therefore, probably a higher perception of where policy interest rates can go through this next expansion. So, it becomes bit more of a virtuous circle or, dare I say it, more like the conditions we had prevailing in the 1990s.

Bilal Hafeez (24:20):

What does this mean then for the Fed? Because I suppose there’s an expectation the Fed will start to taper early next year and then may hike probably the year after in 2023 at the earliest. And that’s kind of the current perception I suppose. Would you kind of agree with that or…?

Phil Suttle (24:39):

I think the Fed will be in play earlier than that. There are two issues. One is what the market prices for the Fed and you know, how market thinking about the Fed changes. The second is how the Fed itself changes. And I’m fairly convinced and obviously everyone would agree with this – I think the market’s more likely to lead the Fed than the Fed to lead the market. I think the Fed has made it very clear. The Powell Fed has made it very clear that unless something very dramatic happens (inflation spikes to 4% or 5%), the Fed is going to be patient and slow in adjusting rates.

But I think what the market will do is that it will see these evolving conditions of solid growth inflation going to 3% and staying there, not going to 3% and coming down. I think the market will then begin to adjust up its expectations for policy rates and for the medium-term sort of outlook r*.

On the near-term tactics for the Fed, I’m fairly convinced that they’ll keep going with their current QE policy through the end of this year, but basically taper during Q4. So, they’ll announce that Jackson Hole. It’ll be a very sort of ponderous process, but Jackson Hole will be the period where they say it looks like sufficient progress has been made, but we can take this action. I’m also of the view that the easy way to taper is to cut the mortgage-backed securities purchases because they are clearly going up.

They were introduced in 2010 because the Fed could do it and it needed to do it in that sector because the housing market was the epicenter of the problem. Now, housing market is at the other extreme – it’s at the epicenter of the overheating. So, to goose up the housing market further with MBS purchases, in my view, is just irresponsible. I heard John Williams give a defense of it saying, “ah, you know, buying mortgages, it spreads to other spread products and those are the ones we really want to affect in that sense.” That’s all good. But I think personally, that was a very lame explanation that doesn’t…And when I saw Powell being questioned on this, in the last question of the last press conference, I think his defense was also a pretty weak one.

So, I think it’s kind of becoming clear to them that that is not a good QE approach to have, and it would be relatively easy and costless and very undisruptive to the market to scale back on that. So, I think we end up ending the year with monthly purchases of $80 billion Treasuries extended to 2022. And then those get gradually scaled back as we go through the first half of 2022. And I see the first rate hike coming at some point in Q4 22. Slight complication there is that we have the midterms in November 2022. So that makes the December 22 meeting an obvious one, but maybe they do it before then, maybe in September.

Bilal Hafeez (27:47):

And how does this all fit into the new Fed framework, the average inflation targeting? How serious are they about this new framework?

Phil Suttle (27:56):

I think they’re certainly serious in the next year about it, meaning when inflation goes above 3% or goes to 3%, they won’t do anything. I think when they first talked about an inflation overshoot, there was a lot of suggestion that 2.5% was the upper limit. Now, I think having gone to the inflation averaging concept and having had inflation average 1.75% for the last decade, you’re in a sense comparing two integrals to areas: a relatively long but shallow undershoot to an overshoot phase, where you can now afford to be relatively steep, but hopefully not very long. You understand what I mean? And if you’re trying to match those two areas visually, I think the problem that the Fed will have is, if I’m right, their current thinking and their current mantra is that inflation will go up to 2+%, 2.5%, 2.75% and then come down again by the end of the year. And if that’s wrong by the end of 2021 into early 2022 – if that view is wrong, which I think it will be shown to be wrong – that’s when they have to sort of begin to be quite a bit more cautious, I think.

Summer Risks Around US Fiscal and Debt Ceiling

Bilal Hafeez (29:15):

Yeah. And in terms of downside risk to growth, what are you most worried about? Like what types of things? I mean, one is the supply issues I suppose is kind of an immediate one.

Phil Suttle (29:23):

Yeah. In the near-term I think that’s very relevant. I think looking further out, I think there are sort of two related topics or areas. One is the fiscal dynamic: we’ve seen such a massive easing in fiscal over the last year and a quarter now, but it’s coming in several waves. And the latest obviously started January and March this year. So we’re a bit uncertain I think. We’re flying a bit blind on episodes to try and understand when you take away new support, how that plays out. Should that be viewed as a fiscal tightening or how much pent-up demand is there still in the system from the stuff that already got dispersed that has gone into savings etc. So that’s an issue.

And I think even more important is the political dynamic. I mentioned earlier the midterms, but really starting this summer onwards, you’ve got a potential for quite a heated political environment on fiscal policy. The debt ceiling comes back into force on August 1^st and who knows what the Republicans will do when it comes to threatening to block its increase or whatever. Notionally we don’t have the ability to do that, but they can be difficult about things. More important than that you could say, there’s the whole Biden budget for fiscal year 2022, which has to get passed. And he wants to enact a major shift in relative spending priorities away from defense to non-defense and that’s bound to produce, even within some of the Democrat party, some tensions. So it’s the fiscal policy issue that worries me. Because that was really severe in 2011, 12 and 13. And one of the reasons why the last expansion fell over quite quickly.

And I think then following on from that is the risk of some kind of market correction. Some kind of asset price problem, whether it’s stocks or bonds, or both more likely. It could come from a sense of the market beginning to panic about higher inflation, higher bond yields, a lot of stops and a sort of unraveling of the great bull market, and if inflation really is going up, the inability of makers to credibly do anything about it. Because it would be very hard for the Fed to say, “oh, don’t worry, we’ll be able to suppress bond yields by printing even more money.” It’s the money printing at that time, the market is worried about.

What Will be the Lasting Effects of COVID?

Bilal Hafeez (32:02):

Yeah. I guess one thing that has been debated at least in academic circles is the whole notion of COVID scarring. Do you subscribe to that, that there will be some scarring just in same way as after the Global Financial Crisis, there was kind of scarring, you could say there’ll be something similar after COVID?

Phil Suttle (32:18):

The problem is scarring is just sort of not helpful image. I think there’s two issues to think about. One is how the supply side might change, given some of the effects it will have on behavior. We’ve already talked about some of those, with inventory dislocations – so those are potentially more durable. I think the thing that’s kind of puzzling to me, I don’t know sure if I call it scarring, but if you take a look at a picture of US consumption spending over the last year and a half, what you see is goods spending about 15% above its pre-crisis trend and obviously kind of as a mirror image of that services spending about 7% or 8% below. So, in some sense, goods consumption has recovered. Consumption has normalized, but the pattern of consumption today remains very different from where it was a year, year and a half ago. And obviously that suited a lot of businesses and killed many others.

And I think what I’m trying to get my mind around is how durable will that relative shift be? And of course, some of what we’ve talked about, which is that the inflation process tends to work against the durability – meaning the price of goods goes up and that will encourage people to kind of buy less. And so, I think one of the things that will happen over the next year and a half, couple of years, which has been less appreciated perhaps by the market, especially by equity analysts, is that there’s some potential that we can end up with something that looks almost like a recession in some goods areas, even as we get booms in services areas, because you normalize the relative basket of consumption as it were. I don’t think that that’s been fully factored into the thinking.

Coming back to your scarring point, maybe that doesn’t happen. We stay where we are in which case that is a scarring event. So, I think one of the big issues in my mind about COVID and the whole events of the last year and a half is how some of these relative shifts not absolute, but how some of these relative shifts play out over the next two, three years.

EM Local Markets Appear Mispriced

Bilal Hafeez (34:29):

Yeah. That makes sense. Now, if we move outside of the US I mean, what’s your view on China at the moment?

Phil Suttle (34:34):

Boring. No, I mean, seriously. I think China’s now well ahead of its expansion, well ahead of its cycle and the rest of the world and now settling down to something that I think the policymakers are happy with, which is sort of slow, steady growth by Chinese standards. Nothing too exciting. I mentioned earlier that I think China is going from being a provider of goods to the rest of the world to being more of a taker or less of a provider, let’s say. And I think from that sense, China adds a little more inflation to the world, but not because it’s itself is growing rapidly. I think commodity demand will remain very robust, but they probably peaked that way.

Bilal Hafeez (35:16):

Yeah. Okay. And do you have any views on any of the EM economies?

Phil Suttle (35:21):

Well, I’ve been sort of thumping the table a bit on the risks associated mainly in local debt markets. I mean, we’ve talked a little bit about the sort of potential of financial disruption from a normalization of Fed rates, but I think there’s much more mispricing of short rates in key emerging economies. We don’t have a lot of examples of how that might play out. Turkey’s obviously one illustration. Brazil’s now entering a phase of much more aggressive rate hikes normalization than was expected six months ago. And I think that process will roll through many of the emerging economies, especially in Latin America, but also, in South Africa and East Asia as well. Many of the lower income countries, middle income countries in East Asia, I think, have quite vulnerable short rate structures.

Climate Change Policies Lead to More Investment and Higher Prices

Bilal Hafeez (36:18):

And one just bigger picture thing we’ve been thinking about or I’ve been thinking about is the whole climate change agenda and how that impacts policy in the economy. So there’s this idea that especially now with the Biden administration now, what we’ll see more concerted effort for a reorientation of infrastructure spending and green policies and so on. And that potentially could lead to the growth of new sectors in the economy, which has growth positive at the same time. It could be more inflationary as well because you’re introducing kind of a new cost to everything. I mean, how do you first, just from a framework perspective, think about, climate change policies and then the other side is, I mean, what do you think is the probability of these things happening?

Phil Suttle (37:00):

Well again, glad you brought it up, because it has been one of the important changes that have occurred over the last year and a half, especially with the Biden administration, as you say. You can say that Biden’s lift to the alternative energy sector has kind of given confidence to other governments that were perhaps kind of keeping their heads a bit lower on some of these issues under Trump. And there’s a question of how durable the US ship will be. I mean if we get the midterms and end up with a Republican win and we go back to a Republican president in 2024, the agenda may shift back a little bit. But I’m assuming it’s a more durable shift. And I think you nailed it when you said, well, first of all, this is probably going to be good for growth and investment.

One paradox is that in the US, a lot of those resisting the climate change discussion say, well it would hurt the economy. In fact, my take is somewhat the opposite. But having said that, why I think about the inflation effects of this is that we’ve effectively underpriced energy for the last, especially, the last 20, 30 years. We’ve taken carbon for granted, our ability to generate carbon for granted. And that’s been a big part of why have goods have been cheap and plentiful? Well, no one’s cared about the damaging effects of producing so many goods. Now people are, and they’ll need to price it into some form of system that pushes up the cost of goods production, and obviously services as well, but especially goods production. And that’s going to get reflected in higher goods pricing. It’s a good thing in some ways, because it means that the price signals are out there to affect behavior, but it’s going to have this macro effects on the numbers.

Bilal Hafeez (38:55):

Yeah. The last question I want to ask is that you’re a Brit living in the US so it’s interesting to hear your take on the UK.

Phil Suttle (39:03):

Well, I feel very sad because I think the UK has been in this sort of secular decline mode for well over a hundred years now, but was able to interrupt it starting at some point in the late 70s, early 80s. And I’m not giving Margaret Thatcher too much credit, but I think she was part of it. But then somehow, it was followed up with the Blair Britain and in particular, the ability to take advantage of Europe and shift Britain’s relative role in the world through leading Europe de facto. So, to me, Brexit is the worst policy mistake that Britain has made since going back on gold in 1925 and will have very profound, negative economic implications. I mean, you’ve chosen your bed now you need to lie in it and it’s not going to be good. Now, in the very near term, lot of boomy growth atmosphere because of the success of at last of getting on top of COVID but that’s not going to last in my view. I think that the secular trends will take over in 2022/23 and beyond. So I’m pretty pessimistic about the UK. I have to say.

Bilal Hafeez (40:19):

Okay well, that’s nice to know as someone who lives in London.

Phil Suttle (40:25):

Sorry about that. The property market in London, I think, has been dependent upon Britain being seen as the place to go and if Britain’s not the place to go then I worry that’s going to be one of the major casualties over the next few years.

Phil’s Productivity Hacks and Book Picks

Bilal Hafeez (40:39):

I did want to ask you a few personal questions. I like to ask all my guests, like what one is, you kind of look at a lot of data and presuming you must read around a lot as well, how do you manage your day-to-day research and information flow? Because it’s quite easy to be overwhelmed.

Phil Suttle (40:56):

Yeah, I suppose I’m one of these people that sort of am a creature of habit. I was one of the forces helping develop this product called the Global Data Watch at JP Morgan. And we were in the late 80s and essentially every day, I started looking at a particular set of data and markets and things, and I’ve been doing the same thing ever since. And it’s a very sad thing to say, but my methodology really hasn’t changed very much over the past sort of 30 years. Where I come from, my attitude is to say that we have quite a lot of good economic theory that allows us to model and think about how the world should change. But there’s so much uncertainty that we can’t be a hundred percent competent either about the inputs to those models or the models themselves.

But the one thing we can do with some degree of confidence, if you’re honest about it at least is, you can describe where we actually are today. So data watching to me is an integral part of doing good economics and especially good economics for financial services for markets, because your ability to project it out is very limited. Probability of getting it right is probably well below, not much more than 50%, let’s say, but you can get the current conjuncture right. That’s not that difficult. It takes time and effort. You have to be on top of things and you have to do it every day. And that’s my approach. That’s my methodology which doesn’t make for lots of long holidays, lying on the beach. But that’s what comes with being this little kid that buys Accountancy Made Simple when you were in your teens.

Bilal Hafeez (42:37):

Speaking of books, apart from that accounting book, have there been any other books that really influenced you in terms of the way you do things?

Phil Suttle (42:44):

I mean, I read a lot of these books that people focus in on in the financial industry, these trendy ones and all that. But in the past year, I’ve been very diligent in my reading of Keynes and in particular, actually the biography of Keynes. I re-read the biography of Keynes that Robert Skidelsky wrote in three volumes over about 20 years. And the more I read it, the more I look and think about the guy, the more I realize here’s a guy who was just so on top of everything and really shaped my thinking. I’m a true Keynesian, but not in the way that most textbooks would describe a Keynesian if you see what I mean.

I mean, Keynes started out as an emerging market economist, which is sort of how I started out. He says his first book was on Indian currency and finance, but what he was primarily was a guy who developed his theory out of looking at the world and saying, how does it work? Not developing a theory and saying, well, this is how the world must work. And that’s one of my big beefs at the moment is I think the policy world has been way too shaped by poor academics who basically gone in there and said, this is the way the world works. And you need to apply this. And for example, in the last decade, I spent a lot of time very frustrated by the fact that one of the reasons we had such weak growth, especially in the first five years of the last expansion, was because we impose way too much regulatory control on the financial system.

And we essentially blunted the recovery by taking all the upside of a return of financial optimism out. And that to me was very predictable But, the theoretician said it’s got nothing to do with that. Higher capital can only be a good thing; if you enforce much higher capital ratios and banks, it can only improve things. And even now, when they’ve had a decade of underperformance and things looking awful, they don’t want to accept that overregulation early in the expansion could have been something that was a problem. But if you look at Keynes, you realize this is a guy who really understood behavior really – really did understand that human psychology was integral to the way to the way economies perform.

Bilal Hafeez (45:18):

Yeah. No, absolutely. Yeah. I’ll have to dust off my Skidelsky biographies and reread them. You’ve motivated me.

Phil Suttle (45:24):

And by the way, into the late 30s and into the war, his number one obsession was inflation and why he was worried about inflation. Well, because he realized as we got back to full employment, it was inflation that was the problem. In a war, the inflation is always going to be your problem. But this idea that all he was interested in was promoting demand when growth was low, it was true and when growth was low and we had maximum employment, he was definitely in that camp. But when things switched he was agile enough to switch his thinking and that’s to me, the sort of economists we should all be. So I’m sort of doing as much reading of Keynes as I can just to make sure I don’t miss a trick.

Bilal Hafeez (46:05):

That’s great, good, good. And now how can people follow your work? What’s the best way of them doing that?

Phil Suttle (46:10):

Well I put out my own work on under my own somewhat arrogant name of Suttle Economics. So if people want to read my stuff, they can subscribe to my service, which is basically put out a daily, a weekly and monthly pretty standard sort of investment bank style products, because that’s my background. So if you want to reach me am at phil@suttleeconomics.com.

Bilal Hafeez (46:36):

Yeah I mean, I’ll include all the details on the show notes and I would urge everybody to subscribe to Phil’s product. I think it’s probably the best economic daily that I think is out there personally.

Phil Suttle (46:45):

Thank you very much for saying that.

Bilal Hafeez (46:48):

Well on that note. Well, thank you very much for your insights as usual and yeah, look forward to speaking to perhaps this time next year.

Phil Suttle (46:54):

Yeah. Thanks Bilal. Thanks for the chance and good luck and safe 2021, the rest of the 2021 to you and your family and everyone else out there. Take care.