Wall Street Week - Full Show (03/10/2023)
Second, thoughts about food in Ukraine, about China's economy and about where the Fed is heading. This is Bloomberg Wall Street week. I'm David Westin this week, special contributor Larry Summers of Harvard on Silicon Valley Bank and the risk of contagion. I don't see if this is handled reasonably. I have every reason to think it will be bad.
This will be a source of systemic risk, of sounding Beschloss of Rock Creek about the politics and returns of ESG investing and investor Sam Zell about what ports to seek when the storms are coming in. We're talking about ending free money, but we're not ending. This week was a time for reconsidering on global Wall Street. As the war in Europe raged on and Ukrainian forces fought valiantly to hold onto, but that mood is surrounded on three sides.
Reportedly, the calculation Celeste is making is that he'll wear down Russian forces, which are not very capable, even as leaders like Jamie Diamond of JP Morgan warned that the situation there poses one of the biggest risks for the global economy. I worried the most about if you go to Ukraine's oil gas field, the leadership of the world and, you know, our relations with China, I mean, that that is much more serious, though, the economic vibration you'll have to deal with on a day to day basis. And it's National People's Congress. China's leadership laid out new, more
modest projections, raising questions not only for China, but for global growth. If you look at the trends of the GDP Tiger sets over the years, actually since 2018, they've been gradually lowering that. You do put growth target. So I think this is also a sign that increasingly the policy makers are increasingly emphasizing on the quality of growth rather than concepts. Well, Fed Chair Jay Powell left little doubt that the continued strength in the economy makes higher rates more likely than lower. The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be to be higher than previously anticipated. If the totality of the data would
indicate that faster tightening is warranted, we'd be prepared to increase the pace of rate hikes. And the prospect of those higher rates hit tech banking hard as Silicon Valley Bank went from panic to receivership in 24 hours, as VB Bank has now failed. The FDIC takes over. It has appointed a receiver. It is the first insured institution to fail so far this year. Jobs numbers out on Friday would have
been encouraging, but for that, as V.P. is failure, with the US adding another three hundred eleven thousand jobs while wage increases slowed a bit but all the jobs in the world couldn't overcome chair piles, warnings about higher rates and then the shudder sent through the banking sector, leaving the S&P 500 down over 4.5 percent for the week, while the Nasdaq lost four point seven percent. But of course, the flight to safety drove investors to bonds, leaving the yield on the 10 year, 25 basis points lower on the week, with almost all of it really coming on Friday. Here to help us sort all this out are
Sarah Hatter, Causeway Capital Management CEO, and Barbara Reinhart, head of asset allocation at Vallejo Investment Management. So welcome to both of you. Barbara, great to have you here with us. So it was quite a back and forth week. We had the Powell testimony that seemed to we go higher. We had the jobs numbers and then we had the SVP situation. What do you make of all of it?
Look, I think that the overwhelming thing that happened this week was the receivership of SBA Bank. Right. It's a it's one of the largest bank failures that we've had since the financial crisis. It's the 16th largest bank in the US. I don't think that the issues that you see with SBB are systemic. I would agree with what Larry Summers has said earlier. However, I do think it was an opportunity for everyone in the market to take a very big pause today and really think about their positions and think about their liquidity, which is why you saw some of the less liquid parts of the market really get hit much harder today, like small cap stocks and high yield bonds. Also, we know we're down pretty dramatically today. So, Sara, even if it's not systemic, is
it possibly a canary in the coal mine as they talk about that day, although it may be just as maybe they get special situations, the underlying circumstances could be reflected in other parts of the economy as well as, frankly, financial markets. David, one never knows. But. But Silicon Valley Bank did have a very concentrated corporate deposit base. And so there are other regional banks in the U.S. Their deposit bases in general seem to be much more diversified. So that's one of the primary reasons why
this may not be systematic. But confidence is crucial for banks. And if there doesn't appear, especially given the likelihood that Silicon Valley bank depositors will be made whole. Any reason for this to spread through the banking system, which could be a reason to be looking at some of the other banks as as investments given they're selling off so rapidly? Well, it wasn't even. I don't think as a practitioner of zero, by the time it started sort out, it looked like the regional banks were getting hit harder than the big money center banks.
Does that suggest that some of the regional banks may be opportunities for investors? Runner It does depend on what they hold if in their asset. Bases, they have a huge amount of commercial real estate, particularly office, that could end up being very problematic. What we're all really talking about here is a new era. Interest rates are rising and until they stop rising in full again, there's a complete new view on credit. Credit is going to be very difficult to obtain.
We're in a credit crunch. So whether you're in real estate and you have a tough time with occupancy or or you're a technology banker, this is this is a whole different environment. So be really careful if you're looking at regional banks, make sure they're trading down at their tangible book value book, less goodwill. That that's really solid ground. There's nothing else could go terribly wrong in their asset side of their balance sheet. But what other parts of the economy in a
business are interest rate sensitive in this sense? Because we've had a long regime, frankly, of pretty low interest rates. That seems to be gone, right? Well, look who's benefited the most from very low interest rates. The real estate sector was probably the first one, right? That's the single biggest beneficiary of it. You'd have to also take a look at the private markets, private credit, private equity, private real estate all benefited from very low rates. So, you know, the the fact that you have is drying up liquidity. The Federal Reserve has been raising
interest rates aggressively for the past 12 months. They're trying to slow down the economy. And when you slow down the economy, certain things break just like cryptocurrency broke last year. Then you had the problems in the gilt market in the UK and now you have a U.S.
bank that's just failed. Try to slow down their economy. How much, Barbara, are we going into recession as a broken matter? Because inflation seems to be more durable than people thought. They're gonna have to step on the brake so hard that we have to go into recession. I don't think there's a recession on the horizon over the course of the next 12 months. Right. There's a very long lead time between
policy implementation when you're raising interest rates and when you would go into recession. The US economy is extremely strong, right? You had three hundred eleven thousand jobs printed this past month. While it looks like the labor market is starting to ease a bit and weaken a little bit, I would say that the U.S. economy is a very durable supertanker. It would probably take a seismic shock of some sort in order to derail it at this point.
And I don't think SBB is that shock. Sara, you specialize in equities, in particular investing in equities when it comes to equities. What is your base case on the recession and more importantly, does it matter? Does it really affect which equities you invest in, whether you think there's gonna be a recession or not? It matters if a stock is nobody price in some slowing. There's no doubt. I mean, my colleagues and I really do believe that the Fed is intent on slowing the U.S. economy in the same with the European Central Bank. Maybe they're a year behind the Fed and at some point time, maybe the Japanese will tighten monetary policy with a new central bank head. So there's a there's a lot of tightening
out there. And the other side of that is typically economic slowing. That's what brings down inflation. And inflation is the target. So we're expecting some element of slowing it. It may be severe. It's hard to know. But what we do know is what's priced into stocks and not all stocks, but in certain areas that many of them have already discounted in economic slowing. Not all the cyclicals, for example, but
there are there are some industries that have and that's the opportunity where it's already priced and then we can have it. And then the worst can happen. And the stock has nowhere to go but up. Barros, play the parlor game. What do you think the terminal rates
going to be for the Fed to get inflation down to where it needs to go? I don't think it's as high as probably what the market's pricing in. I think maybe the Fed Reserve has to tighten one, maybe two more times if that, and then be done. The reason is the way that you price in a higher terminal rate is either you have faster labor force growth or faster productivity growth. The U.S. doesn't have any any signs showing of that being the case at this point. So for us, we do not believe that our star is 6 percent or something above there at this point. I don't think that the U.S.
economy can grow so fast or it's been such a dramatic change that it's been over the past 20 years. So we don't think that rates have to go much higher at this point. Sarah Carter and Barbara Reinhart will be staying with us as we turn to what all this means for your portfolio.
This is Wall Street week on Bloomberg. In darkest Washington, the Reagan administration stuck to which proposed six hundred ninety five billion dollar budget, a number that in Washington is somehow regarded as lean and austere, and the Democratic leadership in Congress stuck to its view that the budget is, as one senator put it. Cruel, inhuman and unfair. Tune in next week for further non surprises. That was loose rock ISE back in March of
1981, when the number one movie in the country was back roads with Sally Fields and Tommy Lee Jones, the number one song was 9 to 5 with Dolly Parton, and the proposed federal budget was a whopping six hundred ninety five billion dollars instead of the six point nine trillion dollars proposed by President Biden. Just this week, still with us, our Barbara Reinhart, a voice investment management, and Sarah Carter of Causeway Capital. So, Barbara, let me start with you here. We want to turn now to the question of the portfolio. This is your job in part is to figure out how to allocate portfolios, given all that we've said about where we are in the tightening curve of things we've seen.
How do you manage your portfolios these days? One thing that we're thinking greatly about, David, is our international equity exposure. So when we think about global equities, we look around the world and we look for the opportunity set. One thing that stands out to us that's probably a little bit overextended at this point is international developed equities. Over the past one year, the S&P is down 4 percent. International developed equities. You know, Europe and Japan are up almost
7 percent. That is a very big disparity in returns between those two parts of the world. For Europe, it had been priced for a very big, very bad recession. It didn't transpire. They had much warmer weather than had been. It's been expected. But we don't think that all those great
things that Europe averted or the luck that Europe had in averting some of that disaster over the past year is likely to be repeated. So we're actually keeping our assets closer to home in the U.S. We think that the Fed is one of the first central banks or major market central banks that has raised interest rates.
It's likely to be one of the first ones to stop. And we think as the world slows down, the dollar is likely to get a little bit stronger as a flight to safety and somewhat quality in the US. So we're seeing a little bit closer to home, but we're bar belting it with some exposure to the emerging markets because we do realize that there's been a lot of stimulus put into the pipeline. And we think that, again, emerging markets are so cheap at this point, if you can hold them for three to four to five year period, you're likely to be very pleased with your portfolio. Okay. So I said something that Bob was talking
your equity book here. You specialize in equities. Were you in develop market equities these days? Well, for developed markets, Barbara has a point that Europe and Japan it out performed the US really more Europe. The euro stocks, 50 is up 11 percent year to date in dollars. That's not even a full three months. However, that's a rather short time period.
Non U.S. developed has vastly underperformed the U.S. of the last decade. And I've heard this from clients that they get very anxious. But so it might be quite some time, if you think about it in that longer context for non U.S. developed to catch up with the U.S.
and there's still a significant valuation discount for non U.S. versus U.S. in part due to the different sector weights in the two areas. The U.S. has much more in the way of technology and year to date. Interestingly, in a broad global context, technology has led along with consumer discretionary and and communication services.
So investors are still really interested in tech. There's them like I'd just say, this is the environment we're in. It's one of active management with rising rates. Just can't buy an index anymore. In my opinion. You have to have a manager who can sift through and let's say go to none was developed and find the stocks that haven't yet.
Had their earnings recovery recognized, some of them haven't even gone into a downturn. I mean, Barbara noted the tightening cycle and I mentioned this as well as a little bit laggard in Europe, although that additional tightening there may be more casualties. So being very careful about price entry point being extremely cheap in terms of what you pay is is a way to avoid those pitfalls. So far where you are a resource for asset allocation.
Yes. As you look at that. Do you agree that the days of beta are largely passes? We got it. We've got to really go with. We've got to make our stock picks. Look, we at Voyager, we have both products that going active and passive management. We're very focused on fees for our clients. We're managing money for retirement. And we know the single best thing we can
do is keep our costs low. That helps that that compounding of returns over time. There are periods when active management goes in and out of favor, I think was a really difficult road for active management for a while. But we find pockets of the market that
are very strong for active management. U.S. small caps are a great place for active management. The value sector also very good and active management.
But I would say for the lion share of it, we do trying to really keep our fees as low as possible possible, which generally means we in the big cap places we tend to go passive. So I'm curious, Sara, as a lot of discussion obviously about fees when it comes to active versus passive as an active manager, how you make sure you don't lose all of your gains in the fees? Well, to be very careful with fees, but the others deliver significant gains. And if I think about the stocks that have that value manager like calls we would own. We are constantly looking for what the market hasn't yet recognized. And that's very difficult to do in passive. Passive is wonderful. If there's monetary accommodation and
that's the environment we were in until a year ago, it was just a year ago the Fed started raising rates and now assets don't. All right. And that's the difference. So, for example, in the advertising industry has been really tough or the market for advertising. So it's stocks like Alphabet have been awful. But at some point time, the value shall be low enough and then the stock will cycle back up again. That isn't going to be captured necessarily in index.
It just keeps falling in its weight. And so you don't get more, do you get less of it? And conversely, in an index, you get a lot of what's already done well, and that's all fine. If everything is doing well. But but we are in a totally different environment now thanks to central banks. It's been really great having both of
those. Thank you so much to Sara Heitor of Causeway Capital and to Barbara Reinhart Avoid. Coming up, we go through the saga of ESG investing caught between the politics and the markets with our sunny vessels of Rock Creek.
That's next on Wall Street on Bloomberg. This is Wall Street. I'm David Westin investing really into environmental, social and governance issues, so-called ESG has been on a roller coaster ride from being all the rage and embraced by some of the largest financial institutions in the world to being scorned and even the subject of legislation to limit its use. And through it all, it's sometimes hard to sort out how much is investing based on social values and how much is just pursuing value through taking into account all the risks of signing specialists. CEO of Rock Creek was an early proponent
of ESG investing, at least in certain circumstances. And she's back with us now on Wall Street. It's great to have you here, Afsane. Great to be with you.
Such a treat. So. So, I mean, take us through this issue, the choice between return on the one hand and social values on the other, because that's the way some people like to put the question. You are absolutely right. And I have to tell you, I don't necessarily like the word ESG. Just to put that on the table right here.
But I think what is happening right now in Washington, President Biden did that, vetoed the bill that was trying to pass through to allow corporate pension plants to consider ESG factors in their investments, not to ISE necessarily adopt them, but to actually consider them. So it was a pretty soft requirement. I think that's what that is not showing us, is what you said, which is right now, if you and I were investing in, let's say, renewable energy, we would have lost this year just in 2023, one point four percent or so. Of course, today the markets got pretty murky. But but if you had invested in oil and gas, we would have lost three point eight percent in the last five years. We would have made seventeen point four percent in renewable energy and we would have made about 7 to 10 percent depending on which index you're looking at in oil and gas. Now, if you looked at other periods, oil
and gas might very well be ahead. But what does that mean? It means for investors. Renewable energy is really economic. It has now changed to technologies with us such that clean energy happens to be economic. So when you're looking at purely
financial decisions, it should certainly be a part of your portfolio. So I wonder if I could put it this way, how much that's on the fundamentals that you can actually make more money by taking environmental. I'll just take an environmental. I wouldn't bother with. Yes, OK. And how much is that? Actually, just the hydraulic pressure behind environmental investing.
It's so popular that money goes there and it drives it up rather than actually being in the fundamentals. So just purely on the fundamentals. Just purely on the cost of how much it costs now to produce solar energy, if you look at that, it has become totally fundamentally economic. If you look at Texas, because we see Texas and Florida are right in the front of the conversation that you mentioned. But Texas is producing 14 percent of renewable energy in America. Do you think, you know, that would be
the case if the fundamentals were not there, there just as we speak. Building a huge win for wind farm that will produce energy for 3 million households just because it is cheaper than the existing oil and gas. So what you have, let's say, in Texas is the oil and gas community is continuing to produce oil and gas because you need that for the transition. But they are also moving into putting more of their money into wind energy and solar energy. So you've been in the markets for a good long time. You observe reserves, all sorts of
different positions. Well, the market sort this out. That is to say, if you're right and in fact, you'll get better returns on average over time by taking into account environmental concerns, will that drive people into those investments, whether they want to be there or not? I actually think people are moving in that direction so that there is one thing is the political conversations that are going on. But if you look if you talk to any business man, again, not just in Texas, but all over the country, people are investing in an integrated way into into these sources of energy. And and they'll continue. And insurance companies, by the way, are looking at the same factors to make sure they don't lose money. It's very much it's it's how the job is, how to maximize returns. How do you minimize risk?
Both of those are very important for investors. So has the I'll just again say what is the climate rather than social and governance for the. Has it gotten a bad name? Because some people are using it as a marketing technique. It's actually hard to know which companies are actually making decisions based on it as opposed just saying that because wants to say they're environmentally correct. I think you're absolutely right. There's the greenwashing that green bonds led to some companies that were even using coal, calling themselves green.
So climate has become not such a positive word, just like ESG. But if we just talked about energy transition, I don't think many people would disagree. We need to use oil and gas mostly by using them in the transition, but we're moving towards cheaper, sustainable energy. I think everyone is doing that, that you're looking at Saudi Arabia. UAE or Texas?
Let's go international just for a moment. Actually, we talked today with the U.S. nominee to head the World Bank. Yes, Jay Bulger, you know him well. Very good friend and great inspired
choice. And I wonder, though, is the United States and Western European countries insisting on some of the poorest nations in the world to go entirely to zero emissions, all not no fossil fuels, when, in fact, that's not happening. The United States is not having Western Europe. There's a transition as you're talking
about. So if you talk to the minister of energy in that place, like Nigeria or Indonesia, they would say maybe think a little hypocritical that we're all using in Europe and in the US coal and oil and gas and telling them not to invest in their natural gas industry to replace imported coal. And I think you need and you need the hydrocarbons in this countries during the transition. At the same time, solar and wind is equally cheap.
So if I was in their shoes, I would be exporting my gas over to Europe and using my solar. Is rock cream getting an advantage by using energy? Oh, I would say not an advantage, but we are making some of our best investments. Investing in fuel aviation as we speak, looking at new fuels in for some of the biggest airlines in the country. We are looking at the energy storage. We're looking at carbon capture and charging. And those are some of the best investments you could be making. It's so wonderful to have you here.
Sunny, always. Thank you so much. I've signed a bachelor's of Rock Creek. Coming up, whether it's the risk of climate or the risk of higher rates. Investors have a long list of issues to sort through. We go through some of the big ones with famed investor Sam Zell of Equity Group Investments.
That is coming up next on Wall Street week. And we, of course, are on Bloomberg. This is Wall Street week time David Westin. Well, Global Wall Street had a lot to digest this week, certainly with Chair Jay Power's testimony in Congress and also a huge budget coming of the Bush administration. What we need here is to know how investors should process all this. So we went to one of the very best, the most sophisticated, most knowledgeable. Sam Zell.
He is the chairman and founder of Equity Group Investment. Sam. Great to have you back on Wall Street. As you can. Let's start with the Fed. And Jay Powell, he sort of sent a message, we may have to keep the rates higher, longer. What did you make it?
Where is the Fed headed? Do you think we're should it be headed, given what we're seeing in inflation right now? To be honest with you, I don't know and it's very obvious needs you today. Yeah, we're in this mess because the Fed didn't do their job over the last three years. I mean, you know, when you think about we added 7 trillion to our debt in three years. This is this is know this is the Weimar Republic. And if the United States isn't careful, they're going to find themselves in the limelight. Well, what about that point specific?
Because the bite administration, their budget came out and nobody believes that budget is actually going to get implemented. But it's least directional where they think you're going. They were going up to something. One hundred and ten percent of GDP in
debt higher than what we had in World War 2. They're like 17 trillion dollars, the debt over time. At what point does this become not a problem, but a crisis? I said when people don't want to buy our debt, when we're faced with the prospect of losing the U.S. dollar as a currency, as an international currency, and if we lose the U.S. dollar as reserve currency. Well, look, I got 20 to 25 percent reduction in our standard of living. If that was included in the definition
of the US debt, maybe get some attention. But the reality is that the Bush administration and Powell have gotten away with not doing anything other than continuing to inflate the bubble. And I think it's very, very dangerous. Whatever else you think, it looks like
we're coming close to the end of free money where we're visited, pushing money into the system across the board. Certain Jay Powell is tightening the screws. You complained about free money. You thought it was a bad thing for investors.
Terrible thing. If it's ending, what do you get to do? What does that allow Sam Zell to do it now do before? First of all, your assumption that it's ending is a little naive. I mean, we look at it in the real estate arena where municipalities are, you know, deferring the ability to foreclose or get people out of our house or get people out of an apartment. And every time that the strategy leads to a decision, there's a deferral and we'll wait another three months or wait another six months. And so we're talking about ending free money, but we're not ending free money and or we're ending it at a much slower pace than it ought to be to be called for.
So I'm not that I'm not sure that the assumption that free money is over. And I think we've got some serious problems. I mean, not the classic problems that we've always had, which is if you keep feeding them free money, they get your shit and then they say, well, where's my free money? And you know, look what's happened with the housing market. In a matter of 60 days, the monthly
payment is doubled. These are extraordinary times, and I'm not sure we have the leadership either in power or Biden to basically deal with that. And as he gets tougher and tougher, for example, to borrow against real estate, you see a lot of pressure not just in the housing market, but commercial real estate as well.
And we saw some big news this week with Brookfield and PIMCO and Blackstone essentially walking away. It looked to me that some big mortgages. What does that tell us? I mean, that's that's pretty that's pretty remarkable. Why? You know, it's it's been both pretty remarkable. It's pretty dangerous. You know, the rule of law is based on
everybody, quote, unquote, being responsible for their obligations. If the biggest lender in the country, Blackstone, can walk away from their obligations. Who else can and not, you know, if I'm a little guy and I have to start. And the question is, what do I do? And I pick up the newspaper when I see Blackstone, Brookfield and PIMCO are walking away. Why should I feel bad about walking away? So let's come back to equity group investments for a second.
Given where we are right now, I know you only do something like three or four deals a year, something like that, right? Yeah. Depending on the year. Yeah. OK. Is this you're going to be different. I mean, given what you're seeing is that creating opportunities for equity group investments, it will eventually. Not yet. The buyers and sellers haven't agreed yet as to what the price is. The salary is still looking for the number that was on the table, you know, six months ago and interest rates were zero.
Now, interest rates are. 3 to 5. And he hasn't adjusted his price. The buyer, on the other hand, is looking at his cost of capital, doubling, his availability of capital diminishing. And he's saying, wow, under these set of circumstances, I had to get a much better deal than I previously got. So if I can put it that way. That's a form of correction. There's a correction in the market.
Last one buyer and the seller are indications given to a lower. It's a form of no correction. Well, that was my question. Is it in the process of correcting how long will it take? Well, I think that I think correction is the right word, but I think a correction is going to take a lot longer than everybody expects.
I mean, it is certainly now mental setting in America. OK, we've finished this version. Now let's step start the next version. And there never, ever an adjustment for what it takes to make that that transition to cross that bridge. Sam, you've been an investor in energy and oil in the past. Where are you in that sector now and specifically given what we're seeing out of the federal government? Others really changing the investment equation when it comes to renewables.
Is that more attractive now, given the government's participation in things like the inflation reduction at. I'd like to think you're right and I'd like to think that that's exactly what's happening. I don't think that's right. I don't think that's what's happening. I am. I'm wondering when two thousand thirty five comes and you can't build any more carbon cars in California. What are they going to do? I don't know, but I know for sure we're not going to complete the transition from carbon to non carbon or to renewables. It just can't be done within this period
of time. And I think the question becomes how much can society sustain it? How much change can we actually pay for? How how far can we go and say, OK, we're going to move to renewables? Well, clearly, I'm in favor of mom and apple pie and not renewables. And, you know, all those wonderful things. But the reality is, first and foremost, I have this say what's feasible? And I think that 90 percent of what's being done is infeasible. So, Sam, let's put you in charge of the economy.
You can have the White House and the Fed all put together. What would you do to address the debt problem? The deficit problem? The growth problem? What is the thing you would do that we're not doing now? Accepting reality. Accepting the fact that, you know, we've got a major transition, it's going to have to happen. We we can't sustain a carbon controlled economy for obvious reasons. So we have to we have to say, OK, how do we get from here to there? And the way to get from here to there is not spending money or or following Obama's ideas of dropping piles of money on things that don't make sense. So I think we get to slow down the process.
We've got to face up to the reality. We got to say this is going take. Twenty five, thirty years we can have the best of intentions, and I really believe we can have the best of intentions, but it still requires time, effort and commitment. And that. And, you know, like everything else, we're always looking for quick, simple answers. Sam, it's always a pleasure. Well, sir, we thank you so much for being here. That's Sam Zell. He is chairman and founder of Equity Group Investments. Coming up, we wrap up our week with
special contributor Larry Summers of Harvard. That's next on Wall Street week on Bloomberg. This is Wall Street. I'm David Westin. We welcome now our special Wall Street Week contributor, Larry Summers of Harvard. Larry, thank you so much for joining us
here. We have to talk about Silicon Valley Bank. It's been developing toward the end of the week. A lot happened. They pretty quickly went into receivership from the FDIC. What does it tell us more broadly about what's going on in the banking sector or in the economy? Look, there's still plenty of fog of war here and we're still all trying to sort through it.
There clearly was a big managerial failure. It sure looks like regulators were not on the case in the way they could have been. Right now, it looks like this is not a broad systemic issue that Silicon Valley Bank and perhaps perhaps several other banks, but not many other banks, and none of the largest banks had a mismatch between the kinds of deposits they had and the ways in which they had invested their money in longer term bonds. And so I don't think this is likely to be a broadly systemic problem, but it certainly is going to have very substantial consequences for Silicon Valley, for the economy of the whole venture sector, which has been dynamic unless the government is able to assure that this situation is worked through. Right now, the holders of uninsured deposits have been told that those deposits are frozen and can't be withdrawn. There are dozens, if not hundreds of startups that we're planning to use that cash to meet their payroll next week.
If that's not able to happen, the consequences will it will be quite severe for our innovation system. ISIS back that ways will be found to at least provide significant advances on those deposits to enable the payment of payrolls. I think the FDIC is going to have to think very hard about how to be maximally creative in using its authorities to assure that this doesn't have a set of collateral consequences for the innovation economy. I don't think this is a time for moral hazard lectures or for talk about teaching people lessons. We have enough strains and challenges in the economy without adding the collateral consequences of a breakdown in an important sector of the economy. So I hope that they will in the short
run and be aggressive about containing the problem and containing possible contagion. And then over the medium term, I think there are important lessons for how we regulate what roles we use for market values in regulation that need to be learned from this experience. I think we have tended to have a bit of a romance with the community bank relative to the larger banks, and we're going to have to figure out how to maintain banking services for communities while moving to also pay attention to making sure that we've got as much financial stability as we possibly can. Whenever we talk about financial stability, we are reassured that the banking system is so much stronger than it was before 2008 2009. So many reforms. There's some question now whether that's exactly right. And let me be very specific. What are the stress tests?
Why didn't they kick this out? Look, I think I have written that there are a lot of concerns about the stress tests. I. I do not believe the stress tests give an accurate picture of the resilience of the banking system. I think they are far too optimistic in thinking about what would happen in a catastrophic kind of scenario. That said, I think any fair minded
observer has to think that banks are better protected than they were before the 2008 financial crisis. Though I think we have to recognize that a large part of the lending in the country and lending to businesses is now done by institutions that are not banks. And so there are important issues in the shadow banking system. So this certainly should come as a reminder that rational financial regulation is hugely important to the success of the American economy. Larry also got jobs numbers out on Friday this week, and they were more robust once again than expected through 11000 new jobs. At the same time, the rate of wage
increase actually came down just a little bit. What did those tell you about the strictly economy and for that matter, where we're headed with inflation? I think that most of us probably have a kind of now more than ever view after these numbers. If you were a person who is very worried about inflation, you focus on the strength in the economy and the seemingly ever tighter labor market. If you're a person who is less concerned about inflation, you probably take heart from the lower wage inflation number.
So I doubt these numbers change too many minds. I'm going to be watching for the CPI number next week, but I think more broadly it seems to me that we don't have a lot of evidence of a basic downwards trend in inflation. It looks to me more like the inflation story is fluctuation around an underlying inflation rate of 4 and a half or 5. And if that's close to right, it suggests that the Fed has considerably more work to do.
Well, that's exactly my question. What does it mean for monetary policy? What do you think the Fed should take away from these numbers and what does that mean they should do? For example, on terminal rate? I suspect that there's a quite good chance that we're going to need to get to a terminal rate near six. After all, we have inflation running at close to 5 percent and we have interest rates at about 5 percent. And so interest rates and inflation in the same range doesn't point to a lot of pressure to bring inflation down. So I'm very much open to changing my
mind. And I think confident pronouncements about these things are a mistake. If we get a strong CPI number on Tuesday, I think the right thing to do will quite likely be to increase rates by 50 basis points in March, because if we're pretty confident that rate increases of that magnitude are necessary, I don't see much reason not to get on. Not to get on with it.
If the CPI number is more moderate, then I think it's a or comes in surprisingly low. Then I think it's a very different kind of judgment that needs to be reached. In general, I think there is more risk of under reacting to the inflation concern and then of overreacting.
Larry, finally and briefly, if we can, what about the budget that we saw out of the White House this week as six point nine trillion dollars, spending an awful lot more on a lot of things. Are we having a serious discussion about the federal budget? Either the Democrats or the Republicans side at this point. And if not, how do we get to one? A lot of good ideas in the budget. But I think for a variety of reasons,
the deficit path is likely to end up greater than the administration imagines unless there are substantial policy actions. And I think we're getting back into a phase as the interest rates rise, where it's going to be very important to think about the long run behavior of budget deficits in many ways. The picture is more adverse than it was a decade ago when the Simpson-Bowles process was launched. So I do think we need to have that as a bipartisan conversation. I welcome the president's providing his budgetary blueprint and asking the Republicans to provide their political blueprint as a basis for conversation and dialogue. I am glad to see rising focus on
containing health care costs, because that's probably the single most important issue in thinking about the budget over the longer term. Though I'd have to say that my judgment is that the ultimately necessary expenditures on national security are going to be substantially greater than the president's budget. Larry, thank you so much. Has Larry Summers of Harvard coming up. Whatever you think of chat keeping team, maybe you can help us get rid of some of those pesky lawyers. That's next on Wall Street week on Bloomberg. Finally, one more thought. The first thing we do, let's kill all
the lawyers. Well, that wasn't really my idea. Shakespeare had his character, Dick the Butcher say it and Hindi the six, part two. But it's something we've heard often repeated even by some lawyers like me. Now, for the first time, it may just be possible not to kill the lawyers, but to make them a little less necessary. It's a use case for artificial intelligence and all those chat bots we're hearing so much about. This is CAC GP team that is rolling out
of a chat about service is GP team fever sweeps the world. It's way too early to say where a I will lead us. But it's hard to find anyone denying that it's going to be big. This could be the most important general for this technology since the wheel or fire with the potential to transform everything from banking. As Jamie Diamond told us this week, AIG is real. This is not not Brad Stone does not crib, don't it? This is a technology which is staggering and we're fully engaged to hedge funds.
According to Ken Griffin of Citadel, this branch of A.I. will be game changing for the economy. And like most changes in technology with clear winners and losers to I.T., with HPD CEO nary pointing to A.I.
for his company's growth prospects. I know a ISE top of mind for people today. And that's where it is a big opportunity for us as a company. And now chat bots are stepping up to the bar. The legal bar that is with reports that Chat GP scored a passing C plus on a standard law school exam at the University of Minnesota. Now, that's not good enough to make a
law review for a passing grade. It is, nonetheless. And that may just be good enough for routine contracts and memoranda at global law firm Allen, an ovary which has been using its own chat bot dubbed Harvey, eerily similar to the how of 2001 A Space Odyssey. And I want to help you. Not to be outdone, major international law firm DLJ Piper said this week it has hired a new chief data scientist to oversee 10 as what they call top tier data scientists for its new artificial intelligence and data analytics practice.
But for all the anticipation of a brave new world, it's a little hard to imagine a chat bot, no matter how smart, taking the place of a good old country lawyer are being appointed to defend Tom Robbins now that he's been charged. That's what I intend to do. That does it for this episode of Wall Street Week. I'm David Westin.
This is Bloomberg. See you next week.
2023-03-13 03:35
