Economic Crises

Martin Wolf discusses the relationship between capitalism and democracy, the origins of the “democratic recession” of the last decade and a half, and ways to strengthen democratic capitalism against its enemies. The C. Peter McColough Series on International Economics brings the world's foremost economic policymakers and scholars to address members on current topics in international economics and U.S. monetary policy. This meeting series is presented by the Maurice R. Greenberg Center for Geoeconomic Studies. This meeting is part of the Diamonstein-Spielvogel Project on the Future of Democracy.

Brad W. Setser, CFR’s Whitney Shepardson senior fellow, leads a conversation on the likelihood of an economic recession, the current debt ceiling debate, and recent instability in the U.S. banking sector.  TRANSCRIPT FASKIANOS: Thank you. Welcome to the Council on Foreign Relations State and Local Officials Webinar. I’m Irina Faskianos, vice president for the National Program and Outreach here at CFR. We’re delighted to have participants from forty-eight states and the U.S. territories with us for today’s conversation, which is on the record. CFR is an independent and nonpartisan membership organization, think tank, publisher, and educational institution focusing on U.S. foreign and domestic policy. CFR is also the publisher of Foreign Affairs magazine. And, as always, CFR takes no institutional positions on matters of policy. Through our State and Local Officials Initiative, CFR serves as a resource on international issues affecting the priorities and agendas of state and local governments by providing analysis on a wide range of policy topics. We’re pleased to have Brad Setser with us today for our conversation on “U.S. Economic Uncertainty.” Brad Setser is the Whitney Shepardson senior fellow at CFR, where he focuses on global trade and capital flows, financial vulnerability analysis, and sovereignty debt restructuring. Prior to this role, he served as a senior advisor to the United States Trade Representative and as a deputy assistant secretary for international economic analysis in the U.S. Treasury. Dr. Setser is also the author of the book, Sovereign Wealth and Sovereign Power and the co-author of Bailouts and Bail-ins: Responding to Financial Crises in Emerging Economies. Brad, thanks very much for being with us today. I thought I would throw you a softball question and ask you to talk about the state of the U.S. economy and what we’re looking at, especially in light of the debt ceiling discussions in D.C. SETSER: Well, I think the economy is in an OK, but not great, position right now. Clearly, the economy has slowed substantially compared to the initial phases of the recovery from the pandemic. But that slowdown was largely the expected response of the withdrawal of some of the fiscal stimulus and the Fed’s tightening. What I think, though, stands out right now is that there's enormous uncertainty, as the title of this panel suggests, about the future economic outlook, large possibilities of significant deviations from a sort of stable, orderly path of growth. So I thought I would highlight what I think are the three biggest risks, just to get the discussion going. The first risk is, in some sense, we are driving through terrain that we don't fully understand. Largely because the effects of the pandemic are so with us and a once-in-a-century, or once-in-a-millennium pandemic is not something that was easy to model or has been easy to model as we emerged from it. We should remember that we never really saw the kind of shutdown of the U.S. economy that we experienced in the second quarter of 2020, in the very early days of the pandemic. I mean, both Irina and I were in New York at the time, and the city literally shut down for a period of time after the enormous initial outbreak and while we were waiting for the vaccines, and basically learning how to manage this particular pandemic.  That shutdown had reverberations and consequences that have stayed with us over time. It’s left the path of economic growth—it’s created a much more unstable path of economic activity than is typical in the U.S. economy. Obviously, it's hard to disentangle the effects of the pandemic, per se, from the effects of the policy response to the pandemic, the initial rounds of stimulus under both the Biden and the Trump administrations, and then the snarls in global supply chains that complicated the path of recovery. Those snarls reflected both a shift in demand towards goods and away from services, which was really quite substantial when you look at the data, and then the fact that we encountered infrastructure constraints as well as production constraints around the global economy. In 2021, our ports literally couldn't accommodate all of the containers coming in with all the goods our economy was demanding. And then because there was such repressed demand, we had, like, an enormous trade deficit in the first quarter of 2022 and then a big fall-off in trade late last year, which actually had nothing to do with any change in trade policy. It was simply the fact that it, you know, there was such high demand for goods in 2021 that wasn't really met until early 2022, but then there was a fall-off in demand once our economy had kind of adjusted to this new equilibrium. One sign that these pandemic-related disruptions aren't completely past is pretty straightforward, when you think about it. Auto prices are still up quite a lot, quite significantly. Normally, when prices go up supply responds, production goes up. But only very recently has U.S. automobile production—it's also true for North American automobile production—recovered to the levels that we had before the pandemic. Our economy didn't forget how to produce cars, but the availability of the semiconductors needed for a modern car was really constrained. And that limited the ability of the economy to respond as one would expect to a clear signal from the market. So there was just—whenever you look closely at the U.S. economy, you find relationships that have held for long periods of time that aren't quite holding as one would expect, even three years after the pandemic. We still haven't managed to return to a fully normal economy. We're still dealing with some of the aftershocks. So that creates one source of uncertainty. The second source of uncertainty is that the Fed really did tighten rates quite substantially last year and early this year. It’s the largest tightening cycle in recent economic history, largest and fastest, going from zero to five in a very—in a relatively short period of time. And that tightening cycle, you know, clearly was a response to the fact that inflation was above the Fed’s target, through the tightening of supply because of the higher demand from some of the policy responses to the pandemic. No one doubts that inflation was above target. No one doubted the Fed needed to react. And I don't think anyone really doubts the Fed needed to react quite strongly.  But the magnitude of the increase in interest rates and the pace of the increase in interest rates is large. And there's always a risk when you tighten monetary policy that you do too much, that you push the economy, or you tighten—you pull back the economy too, too heavily. And rather than bringing the economy back into equilibrium, you push on the brakes too hard, the economy stops. And effectively, there's a recession. There's also a risk of doing too little. You don't tighten enough. The economy slows, but not enough to bring down inflation. And the concern then is that expectations about future inflation become entrenched and inflation never comes back down to pre-pandemic levels. So the Fed has had to try to navigate between those two risks. And it has had to do so while driving over uncertain terrain because of the pandemic and dealing with the normal uncertainty that accompanies all Fed policy. The Fed’s monetary policy famously works with what are called long and variable lags, which means that the effect of tightening last year is still being felt in the economy this year and will still be felt next year. An easy way of seeing that is when you think about how trade responds to a Fed tightening cycle. The dollar goes up, but it takes eight quarters before all of the trade impacts of a stronger dollar typically feed through to the U.S. economy. When interest rates go up, that impacts housing. Impacts the affordability of homes. All that, though, feeds through to the broader economy over time. It doesn't happen instantly. And it doesn't always feed through at the expected pace. There's arguments why the pace of tightening last year, that the normal lags will be shorter. Financial markets looked ahead. long-term interest rates went up very quickly even before the Fed completed its tightening cycle. That arguably pulls forward some of the contractionary impact.  But there are other variables which suggests that the lags may be particularly long. We didn't actually see the labor market tighten very significantly when the Fed started raising interest rates. Employment has remained very strong. Inflation has come down, but maybe not quite as much as the Fed might have hoped. Although I think there's some evidence that is feeding through. But famously, I think, one of the ways in which lags are long and variable is that the main way monetary policy tightening tends to impact the U.S. economy is through the banking system. And for a long time, it wasn't obvious that the Fed’s tightening was slowing the banks, that it was pinching on the banks, that it was restraining bank lending. It took actually a really long time before higher Fed interest rates led to higher deposit interest rates and problems for those banks that had, in effect, bet that deposit interest rates wouldn't go up that much and therefore they were going to be safe, even though they put a lot of their portfolio into bonds, long term what are called agency-backed securities, repackaged mortgages, that gave you a bit of a yield pickup back when interest rates were zero, but you locked in 2 or 3 percent interest rates over a really long period of time—seven years, five years.  Long enough that when now that deposit rates have started to come up, the banks are losing money on this part of their portfolio. We know this because this was the bet that Silicon Valley Bank and a few others made, and when colossally wrong. The banks effectively depleted their capital because of a bad bet on interest rates. Simple error, not a complex error. Silicon Valley Bank didn't go get into trouble because it lent to Silicon Valley Bank. Silicon Valley Bank got in trouble because it bought really safe securities, but locked in low-interest rates for too long and wasn't prepared when the Fed raised rates. But the net effect is that after a long period of time, when Fed tightening, higher short-term interest rates didn't seem like it was impacting the banking system, all of a sudden we've seen a lot of evidence that it really has started to impact the banking system and that the banks are going to cut back on lending. And so one source of uncertainty—it's very much on the minds of Fed officials—is that the Fed has to calibrate how much this new contraction in bank lending is going to slow the economy and, therefore, how much more they need to do by raising policy rates. Or, whether they should pause or even pull back lower rates, which they aren't going to do.  But, you know, conceptually, if you thought that this was going to impact the economy so heavily that the economy would naturally slow and pull inflation below target, you would be cutting not raising. The difficulty for the Fed is that it is very hard to calibrate exactly how the combined effect of last year's increase in interest rates and this year's banking crisis will impact the economy over the next several quarters. Which adds to the risk that the economy may slow more than expected. A third source of uncertainty is the obvious one, the debt ceiling. I personally would prefer if we didn't have a debt ceiling and if we weren't threatening the U.S. government with default every few years when government is divided. The debt ceiling though generates one of two outcomes. One outcome is essentially a disaster. If the U.S. defaults on its debt or if the U.S. prioritizes paying the deb but doesn't have the capacity to borrow new money and has to cut back heavily on all other activities of government, the U.S. economy goes into a big contraction—if that is sustained for any period of time whatsoever. There's absolutely no ambiguity about it. The only ambiguity is whether the U.S. prioritizes treasuries, which Treasury says will be very difficult to do, or whether it defaults. If the Treasury prioritizes treasuries, it's probably good for long-term bonds. If the Treasury defaults, it's probably a disaster for bonds. So there's uncertainty about, in that situation, which way the Treasury would—which option the Treasury would go for and how it would impact long-term bond prices. Which is a problem for bond traders. But there's no question it hits the economy hard, it hits equity markets hard. It would fundamentally be a self-created disaster. But because everyone knows if you actually went into default or could not honor other promises of the government—and pay wages, pay bills, pay social security—that it would be a disaster, the assumption is that there will be a deal. And if there is a deal, the economic impact is probably pretty modest. There's a bit of extra uncertainty that maybe slows the economy just a bit, but it isn't devastating. So we're faced with what is sort of fundamentally a low probability of a really high-impact event, which is something that is very hard for markets to discount and price. So we're in an economy with multiple sources of uncertainty. That's almost always the case. But I think many of those sources of uncertainty are actually unusually large right now. And we're at a delicate time. We're always—it's always a delicate time when you're trying to bring inflation down without putting the economy into a stall. So it's a challenging few months. FASKIANOS: Fantastic. Let's now go to all of you for your questions or comments. You can either click on your screen to raise your hand or else you can put your question in the Q&A box. If you do that, please identify—tell us who you are. And I'll read the questions and/or call on people who have raised their hands. And we really love to hear from you live, so do consider that.  So the first question that we have is from Mike Zoril, who is a District 14 supervisor in Rock County, Wisconsin: How does the debt ceiling impact the banking sector? And what are the potential consequences if the ceiling is not raised in time? I think you—I think he may have typed in that question before you got to the third part of your scenario, but is there anything you want to expand upon that you didn't cover in your in your points, Brad? SETSER: Well, I think there's one obvious way in which the debt ceiling impacts the banking sector, and one perhaps less obvious way. The obvious way is that an awful lot of banking transactions are collateralized with treasuries. So they're secured by treasuries. So the one way in which you reduce risk associated with short-term lending is that you lend someone cash, but you they give you their treasuries in return. And you do that, you think you have an absolutely safe extension of credit. It is the safest thing you can do.  If your counterparty doesn't pay you, you have treasuries which are money good. And if treasuries aren't money good, then all of a sudden a set of transactions that underpin our banking system would become problematic. And I mean, in some sense, the consequences of that are so dire that the operating assumption is that the U.S. government wouldn't stand still, that it would quickly cure the default. But if there were an extended period of default, a set of transactions between banks that are considered super safe suddenly stopped being safe. I think the second impact is more subtle, and I'm not actually 100 percent sure it's true. But when people put money in a bank they're counting a bit on the quality of the bank, the safety of that particular institution, the wisdom of that bank’s manager, the quality of the loans. But most of us don't monitor our banks that closely. We trust the federal government to supervise and we rely on Federal Deposit Insurance to make sure that our money is good, even if the bank fails. And if the Treasury is in protracted default, what worries me a little bit is that some people might wonder whether the credibility of the U.S. government's backstop for bank deposits remains intact.  I can come up with arguments for why it would. The FDIC has some independent authority. But ultimately, if the U.S. government can't borrow, the U.S. government cannot do an awful lot of things. And many of those things are pretty essential to financial institutions. FASKIANOS: Thank you. I'm going to take the next question from Ronald Campbell, who's the co-chairperson and treasurer in the Office of Georgia Representative Lisa Campbell, District 35: Is there an economic positioning system similar to GPS for navigating in the economy? If not, what are the key economic coordinates to monitor? SETSER: Like, unfortunately, you can't turn on Google Maps and get precise instructions for how to go from point A to point B. There's a range of tools and data points that the Fed, the White House, the Treasury do use. Financial market variables are very important. Financial markets are important in and of themselves. They tell you how much it costs to borrow. But they also can give you some insight into how professional traders are interpreting the economic data. And that can help provide some guidance. There is data from surveys that tell us how consumers view the economy. There's data from surveys that tell us how businesses view the economy. The federal government collects data on wages. It collects data on the number of people who are employed. And those labor market variables tend to be some of the best high-frequency indicators of how the economy is doing. And then we collect various data points that measure how consumers are spending, what retail sales are, some are pretty well-defined in real-time. Others are less so. And between those variables and kind of old-fashioned physical measures like how much freight is moving on trucks and how many containers are coming through the ports, you can get some guide to how the economy is doing. And that can help you use your policy tools to try to get to the destination. I think the hard part is that there's lags between when things change in the economy and when you see them in some of these data points. And it is hard to forecast with the same precision that Uber can forecast whether you're going to get to your destination in eight minutes, ten minutes, fourteen minutes, or twenty minutes, how policy changes, like the Fed’s tightening, will impact the economy in one quarter, two quarters, or three quarters. So there's those difficulties that make it hard to have the same kind of precision that we get from GPS, and the new Google Maps and Uber software tools. FASKIANOS: Thank you. I'm going to take the next question from Robert Cantelmo. If you could unmute—accept the unmute prompt and tell us who you are. Q: Hi, thank you so much. Brad, thanks for sharing these remarks this afternoon. My name is Robert Cantelmo. I'm a City Council member in Ithaca, New York, and the Democratic candidate for mayor. We've heard a lot about the potential for remote work throughout the pandemic. And I know several small and midsize cities had hoped that we might be able to leverage this modality shift into some economic opportunity over the intermediate term. However, as you're noting, we're in a period of uncertainty and relative instability. And I was wondering if you could care to comment on how modestly sized cities might better prepare to weather that uncertainty, especially with the lens on, you know, how you think it might impact our long-term ability to attract capital investment and keep up service delivery over a period of inflationary pressures? SETSER: That's a hard question. I mean, to be honest, I don't think municipal government should be forced into the position of having to think about how to manage a default by the federal government. I think it's much better for our economy and our society when the only question municipal governments face is whether the federal government might provide help to manage their budgets during periods of global or national economic stress, like during the pandemic, when municipal governments have to think about how to manage risk that really can't be managed. I think that's asking a bit too much.  I mean, just stating the obvious thing, you know, if you're putting your cash in a treasury money market fund, you would normally think that would be the safest thing in the world. But there are scenarios where short-term treasury bills are in default and what normally would be the safest thing in the world, safer than a big bank deposit, isn't safe. So I do think it's probably important to think about sources of cash if there is protracted default, not that you want to but probably be a good idea.  And then, if there is either a default or if there isn't a clean resolution of the debt ceiling, so that there's going to be a series of high-profile games of chicken that push up borrowing costs. I don't think municipalities can insulate themselves from that because municipal bonds price off the treasury market. I think you just have to plan for the possibility of higher interest rates that impact your borrowing. I think it's probably good practice to have stress tests on your access to the municipal bond market. Make sure that municipalities have access to enough cash that you can survive if there's a period of interruption.  But at the end of the day, if you can't afford to borrow you can't afford to make a lot of long-term investments. And that will constrain any municipality’s ability to position itself for the future. I worked a lot in my stint in government on Puerto Rico. And Puerto Rico lost access to the municipal bond market, and it was devastating. Absolutely devastating. They relied heavily on short-term borrowing because of some weirdness in how they had pledged sales tax revenue. So they pledged sales tax revenue to first go to the bonds and then go to the budget. So they had no sales tax revenue for the first six months of the year, and all their sales tax revenue came in from month seven to month twelve. And they typically borrowed short term during the first six months of the year against their expected sales tax revenue in the second half of the year. But when you couldn't pay your long-term bonds, the banks wouldn't lend to you short term, so you were faced with the risk of a really tight cash flow constraint. And that just illustrated to me some of the complexities of municipal budgeting. And the fact that you have to have probably more buffers than the federal government typically has. Because the federal government, you know, historically has able to operate with a limited cash buffer because of the consistency of its ability to access short-term bill markets and always raise cash. FASKIANOS: Thank you. I’m going to go next to Robert Myers, who is a senator in Alaska: What's the current outlook on energy markets, especially oil and gas? SETSER: Oh, I think some people—I know there are many people, maybe some on this call, who probably are better positioned to answer that. You know, there is no doubt that one of the biggest sources of uncertainty in the global economy over the past twenty-four months has been energy markets.  Russia's invasion of Ukraine and the associated sanctions, and the reduction or elimination of a lot of pipeline flows of natural gas to Europe, have all disrupted global oil markets profoundly. A world where Europe no longer buys oil from Russia, at least not tanker oil, and most of Europe, not pipeline oil, and instead has to import oil from everywhere else, and where Russian oil goes to Turkey and now to India—a lot goes to India, as well as China and parts of Asia—that has lengthen the amount of time Russian oil has to spend at sea. And it has, like, disrupted the standard global flow of oil in so many ways. So obviously, last summer, that meant really high oil prices. And really high oil prices then in turn induce—you know, markets work. People started drilling more. It took a little while, longer than I would have liked, but markets have responded. There are more sources of oil supply. And then high prices tend to reduce demand. And China has been weaker than expected. So right now, the oil market seems relatively well supplied. But the oil market is not a completely free market.  And on the supply side, OPEC and OPEC+ work to manage the market. And the Saudis have signaled that they don't want oil to go much below seventy. I tend to believe them. And I think the U.S. now is doing something that is quite smart, although maybe we're not doing it as nimbly as we should, and I would like to have more capacity to do this quickly and do this with more force. But we're starting to refill the Strategic Petroleum Reserve. We signaled that we'll kind of start buying some oil, which should also put a floor under markets.  The natural gas market has really stabilized. European gas prices have come way down, thank God. And thank a relatively mild winter in Europe that left gas storage full. But we are in a different world now than we were twelve months ago, because the European natural gas storage tanks are full. So—and Russia has exercised its option, it's exercised its threat; it’s not supplying Europe with gas. And Europe was able to get through the winter. It overpaid for LNG for a while. It no longer has to. So that's putting downward pressure on gas prices. So my sense is that oil prices won't go much lower, largely because the producers are now in a position where they're going to respond to weakness. We're hitting the limits of their willingness to tolerate lower oil prices. And we're also hitting levels where the U.S. should refill the Strategic Petroleum Reserve. And if oil prices stay at this level, there'll be some reduction in drilling. So that's my sense of where we are, but I don't follow the oil market on a day-to-day basis. FASKIANOS: We will—that's a good note for us to cover that in a future webinar. So we'll put that on our list of things to delve deeper into. So thank you for that question, and for your response, Brad. I’m going to go next to Commissioner Aaron Mays in Shawnee County in Kansas: It seems like the rate of inflation has slowed some in recent months. Is there a possibility of some deflation or should we permanently adjust our budgets to accommodate higher wages and prices? SETSER: Well, Irina left out one critical part of my biography, which I was actually born and raised in the state of Kansas. So, hi. It’s—Shawnee Mission was always, you know, aspirational for me. We used to go to debate tournaments there. And the Shawnee Mission High Schools in that era were the best-funded in the state of Kansas. So I hope the high quality of the Shawnee Mission School Districts has been sustained over time. I mean, deflation is an unlikely, I would say, possibility. And we're currently on a trajectory which economists called disinflation, which means that we're going from high inflation to medium inflation, and hopefully back to lower inflation. So the pace of inflation is slowing. But deflation would be an absolute fall in prices. And given the tightness in the labor market and the momentum in prices, that seems an unlikely outcome. I do think the most likely outcome is that the pace of increase in inflation continues to fall. And that means that the Fed will be closer to its target than it is now.  So in a forward-looking basis, the Fed wants price increases to get down to about 2 percent a year. We went up to eight, which is too high. We're now at four-ish, I think. And some of the forward-looking indicators would suggest that we're going to be on a trajectory where we should get down to three. Certainly, the pace of increase in housing prices have slowed. And in some places, housing prices are coming down. But the way the inflation series is constructed, it's kind of complicated, but it's basically the average of price increases over the past twelve months. So it just takes a long time before that feeds into the measured variable. And that is expected to bring the pace of rent increase, as measured, down. Wage increases are still pretty strong. And that's expected to keep service prices up. Although, there’s a hope that they will be generally coming down in response to the Fed’s tightening and the contraction of banking credit. But they will come down without too much of a drag on the economy. But in terms of budgeting and forward-looking forecasts, I think it is safe to forecast, to expect price increases of—that are a little above the Fed’s target for the next couple of years. And then there's a debate about whether they will be back precisely at the 2 percent target or maybe a little higher, but I think it’s really unlikely that we would have an extended period of inflation where there was no increase in prices or a fall in prices. That would be an indication that the Fed had overdone it, and that’s something that typically only happens in a pretty serious recession. FASKIANOS: Thanks. We’re going to take the next question from Commissioner Bob Heneage—my apologies if I mispronounced it—of Teton County in Idaho: What is the likelihood of—the federal government will attempt to claw back unspent American Rescue Plan Act funds from local governor—governments? Excuse me. SETSER: Very low, because that would be political suicide for any member of the House of Representatives. I think there will be some efforts to claw back or not use some of the unspent federal resources, but anything that has already been provided to the states and municipalities I think is safe. I haven’t thought in detail—I don’t know in detail if there’s a pool of money that has been pledged to state and local governments but hasn’t yet been disbursed, and I would watch that. But anything that has already been transferred is yours. And if it’s not, I mean, wow, that is a—that’s crazy politics. FASKIANOS: Next question we’ll take from Beverly Burger, who has raised her hand. So if you can unmute yourself. Q: Sure. Can you hear me? FASKIANOS: We can. And identify yourself, please. Q: Yes, Alderman—I'm sorry. Excuse me. Alderman Burger from the city of Franklin, Tennessee, just south of Nashville. Sorry, I came on a little bit late, so I didn't hear the very, very first part, but did get most of it. But can you shine some light on how what is going on right now in our economy affects our local city investments in funding new water treatment plants, new city hall? We're thinking of partnering with an entity to build a larger conference center, not to own it but to partner with them, in a way. A few water projects as well. I might just say that our city plans conservatively on our budget. We’re a AAA-rated city, and we have a policy of having 33 percent of our general budget in reserves, which right now we have 54 (percent). We have a low property tax, heavily rely on sales tax at 9.75 percent. We also impose road and facility and parkland dedication fees on new development. Our sewer plant’s already been built. We already have long-term funding for that. But my question is, how wise is it right now to invest in these other projects mentioned in the coming two years? And, by the way, our city is about 88,000 in population and we are AAA-bond rated. SETSER: Well, the best advice would be that you should have borrowed a ton of money back when interest rates were really low during the pandemic and locked in that funding. But that's unrealistic. And obviously at that time, there was a concern that the economy might not bounce back, and that demand wouldn't be there, that you didn't need to plan for projected growth. I would not let—personally, I would not let too many long-term plans be impacted by timing around the bond market. Long-term borrowing is up a bit. It's more expensive, clearly, than it was two years ago.  But, you know, the U.S. Treasury is borrowing at 3 and 3 ½ (percent). I don't know where a AAA muni can borrow. So there's going to be a subset of projects that maybe made sense when you could borrow at 2 percent that don't make sense when you can borrow at 4 percent. I wouldn't recommend borrowing a lot at 6 (percent). But if you can access markets at four nominal, to me if you can confidently forecast growth in revenues over time that will generate 4 percent growth if the economy performs normally, and you've got a decent reserve, you should go ahead and make necessary investments in your infrastructure. But clearly, the cost has gone up a bit. I just don't know how much it has gone up for AAA munis over the past few years off the top of my head. FASKIANOS: Thank you. Let's go next to Jeremy Gordon, who is Polk County, Oregon commissioner: What other inflation responses outside of the Fed are possible but not talked about? SETSER: Well, fiscal cuts tend to reduce inflation. To some degree, those are being a little bit talked about now because of one possible outcome of the debt ceiling. Tax increases clearly slow the economy and slow inflation. Now there's, you know, a little bit of a debate about exactly how. And, you know, I think a lot of people if the sales tax goes up, they think inflation has gone up because the price they actually pay is gone up when, for an economist, they would say, well, if you increase sales tax than other prices are going to not go up as much, and so the price—the underlying price level growth will slow. But I understand that's not quite how most consumers think. But those would be the kind of classic tools that are outside of the Fed. Some have argued, and it's a very debated proposition, that reducing the monopoly or power of some big businesses would lower prices. That you could get more competition in the economy, lower markups, and that that would help bring prices down. And some have argued, and this has obviously been a partisan fight, that the U.S. government could help lower drug prices by negotiating the price it pays the big pharmaceutical companies for lifesaving medicines.  I tend to agree with that. I think there's no good reason why U.S. medical prices are many multiples of the prices paid in Europe and other jurisdictions that have access to the same meds, same quality that we do. But that's been a huge source of political debate, as we all know, over the past ten years. But I do think that that is something that was talked about but is no longer talked about because it has no chance of going through our Congress. FASKIANOS: We go next to a question from Rob Hotaling. And if you could accept the unmute prompt. Q: Hi. Yes. Can you hear me? FASKIANOS: We can. Q: Perfect. Thank you so much. Yeah, hi, this is Rob Hotaling. So, the question really isn't around the impacts of economic uncertainty—oh, by the way. Deputy commissioner of Connecticut's Economic and Community Development. So yeah, my question is around what are the impacts of economic uncertainty on investments? Earlier you mentioned IRA, no clawbacks, things like that be political suicide, to quote you. But I am wondering from an infrastructure, workforce training, technology, and innovation perspective, looking at our state, in Connecticut, what we can do and what we can advise our businesses and individuals to do in Connecticut. Of course, the rest of the nation probably has the same concern about economic uncertainty as regards to investments. SETSER: Well, there's a certain amount of uncertainty that is a fact of life in a capitalist economy, in a market economy. And businesses and states have to manage that uncertainty. There's a set of standard recommendations. I think, the Alderwoman from Tennessee highlighted some of that, which is that, you know, holding buffers on hand to help manage the unexpected is always good advice, even though it is costly. But the bigger, I think, issue is that there's a set of sources of uncertainty in our economy that it would just be helpful to eliminate. The debt ceiling as a source of enormous uncertainty that hopefully we will be able to get through without having a catastrophic outcome. I don't think, as I said earlier, that that is something where state and local officials really should be responsible for having to help people navigate it. There is no good way to navigate it. It is really the responsibility of the federal government to figure out a path forward.  And then there is no easy way to manage through a period when, for a broad set of reasons, our economy is slowing. We've gotten a relatively strong recovery by global standards from the pandemic. We’re much closer to the level of output that you would expect had there not been a pandemic than some other economies throughout the world are. We came out of the pandemic with, you know, a very strong economy powered by a very large stimulus. That stimulus has mostly been withdrawn but is still partially—there's still some lagged effects of that withdrawal of stimulus. And we came out so strong that the Fed felt the need to slow the economy. And there is—there is nothing that localities can do, other than maintain standard buffers, to prepare for the possibility that the Fed will either overdo it or underdo it. But this is this is a time when you—I think, sensible forecast would not expect a very high probability of very strong growth. There's a pretty high probability of relatively weak growth, just because the Fed is trying to grow the economy. And then there's a small probability of a really sharp slowdown, most obviously induced by the debt ceiling but possibly induced by further banking stress. So I would weigh my decisions according to that distribution of outcomes. Q: Can I ask one follow-up question? Is that feasible? FASKIANOS: Sure. Sure, go ahead. Go ahead. Q: Just Connecticut, like a few states, has a pretty healthy rainy-day fund. When roughly the majority of America thinks we're going to enter a recession, what is your advice for states like Connecticut who have a healthy rainy day fund and a surplus? Do you—we're not looking for state financial advice, per se. We're just saying, what is the overall guidance on considerations for what to do with that rainy-day fund ahead of a recession, considering the inflationary environment we're in? SETSER: I think a rainy-day fund is a very good thing to have when there's a recession. So this would not be a time to run it down. We're in a period of heightened uncertainty. If the recession—if a recession materializes, if you see a fall in revenues, then that is the time to start drawing on the fund. I would wait until the economy has kind of normalized, we're back at normal growth and normal inflation and we're past the debt ceiling, before making any long-term decisions about levels of spending and revenue that would materially reduce that buffer over time. Q: Perfect. Thank you so much. FASKIANOS: So, Brad, there’s a question from Commissioner Robert Sezak in Somerset County, Maine: There's been talk of invoking the Fourteenth Amendment to eliminate the debt ceiling provisions. What would be the impact of that course of action? And I think I just—you say that you think it should be eliminated. SETSER: Yeah. If I were given unlimited authority, I would personally get rid of the debt ceiling and just live in a world where the U.S. government was constrained by the budget, and any approved budget—which will have embedded in it a forecast of spending forecasts about revenue—any spending authorized by the budget itself authorizes the debt issued to fund that budget. So you—I don't think you need a debt ceiling, per se. Most countries around the world don't actually have debt ceilings. There's a lot of debate about what would happen if the Fourteenth Amendment were invoked. I think it is fair to say that the effect of invoking the Fourteenth Amendment would be smaller than the effect of a default or the effect of forcing the U.S. government to run a cash budget and not borrow, and thereby really scale back spending. And then you have to factor in, if you scale back spending you're going to, like, lose a little momentum in the economy. Revenues are going to come down. It just becomes pretty devastating pretty quickly. So if that's your alternative, invoking the Fourteenth Amendment is—will generate better outcomes. If your alternative is raising the debt ceiling so that you don't default and can keep borrowing, you can avoid some of the uncertainty associated with the Fourteenth Amendment. The uncertainty associated with the Fourteenth Amendment is, as I understand it, as follows: The Fourteenth—the use of the Fourteenth Amendment would be challenged in the courts. And any debt—there would be a question about whether any debt issued after the invocation of the Fourteenth Amendment is constitutional.  And so that that debt would likely trade in the market at a slightly different interest rate and a bigger discount than debt issued before the U.S. invoked the Fourteenth Amendment, at least until there was clarity from the courts. So during that period, there would be uncertainty about how the courts would ultimately rule. I personally think, and I may be influenced by my friend and colleague Anna Gelpern who’s been writing about this at Georgetown Law School, that the Fourteenth Amendment is—the intent of the Fourteenth Amendment is pretty clear. And that the president would actually be on strong constitutional and legal grounds to say that it is unconstitutional to default.  I think that actually is the meaning of the words that were written in the Fourteenth Amendment. Anna has uncovered some interesting historical evidence that the goal was to make sure that the Union didn't default on the debts incurred to fight the Civil War. That seems like pretty clear intent that the U.S. government's federal debt should be paid. That was the purpose of that language. But it is not uniformly accepted. It would be challenged. And therefore, we would have a new source of uncertainty if that were to be invoked. But, to be clear, the worst outcome is protracted default. FASKIANOS: We have a raised hand from Liane Taylor. Q: Good afternoon. Thank you. Liane Taylor. I'm from Montana Department of Commerce: And my question is a little bit of a different take. With all this information overload in the world right now, could you recommend one or two comprehensive sources of good information, such as you are imparting to us? SETSER: You know, I think the major national newspapers actually do a pretty good job of reporting financial and economic news. So I rely pretty heavily on the reporting of the Wall Street Journal and the reporting of the New York Times. If you can afford it, the reporting from Bloomberg is also excellent. But I draw pretty heavily on the mainstream financial media. And I think, as a participant in some of these policy debates and some of these financial debates, I generally feel like both the news coverage of the Journal and the news coverage of the Times accurately reflects the state of the real debate that's going on. I don't think that there’s any lack of—I mean, I'm impressed, often, by how well-informed they are, particularly about discussions around the Fed’s policy in the state of the economy. So I would I would, boringly, draw on the conventional press. FASKIANOS: Great. I wanted to just look at the questions we have in the chat. Where should we go next? Let's see. There are questions about if the federal government does not put a restriction on its spending, how long can they keep borrowing given its debt is already over $31 trillion? Is from Michael Yu. SETSER: To be honest, there is no obvious limit. Japan has borrowed up to 200 percent of its GDP at low-interest rates. There's no sign that the federal government has difficulty funding itself. The absolute level of debt is high. It's about 100 percent of GDP when you do a certain amount of netting, which I think is normal. And the budget deficit’s about 5 percent of GDP, which is a bit higher than the level that is consistent with a stable debt-to-GDP ratio. I generally think it would be a good idea to move over time towards a budget deficit that is consistent with a stable debt-to-GDP ratio. But there isn't a clear limit on what an advanced economy like the U.S. can borrow. If you borrow too much, you'll start putting upward pressure on Treasury interest rates and that will be a signal that you probably need to move more quickly towards a more restrained deficit. But the basic rule of thumb is you don't want a debt-to-GDP ratio that is increasing forever. But there isn't a clear limit on how much countries can borrow. U.S. debt is high, relative to our history. It is roughly equal to the debt of most European countries in aggregate. For the EU as a whole, debt is about 100 percent of GDP. Germany is lower. France is about where we are. Italy is a bit higher. Japan is way higher. And there’s a huge debate about China. If you just look at the debt of China’s central government, it’s well below the debt of our federal government. But China has a lot of debt, much more debt than we do, at the state and provincial level. There’s a lot of hidden debt there, a lot of backdoor borrowing. So if you include all that, China’s debt is actually not that far below ours. So the absolute level certainly seems high, but it is not wildly out of line with global norms. And financial markets are currently quite comfortable lending to the U.S. for ten years at 3 ½ (percent), which is above where it wasabut it’s not a rate that suggests any near-term risks that the U.S. will cease to be able to borrow to fund some spending. FASKIANOS: Great. So I’m going to go back to Mike Zoril, who has a question. He’s from, again District Fourteen supervisor of Rock County, Wisconsin: What specific plans and actions would be taken if there were a widespread collapse of banks? You know, taking into account the possibility that the FDIC may not have enough funds to cover all the losses? Would a bail-in strategy or the implementation of a new digital currency system be viable solutions? And how would this—you know, the introduction of FedNow affect this process? And the impact might it have on the monetary systems of the BRICS countries? SETSER: So a digital currency is not a solution to a problem with the banks. A digital currency runs the risk of pulling funds out of the banks. A lot of economists think of a bank account as basically a digital dollar already, a digital dollar that pays, in some cases, a bit of interest. A digital dollar that is outside the banking system creates an alternative to keeping your money in the banks. It would weaken the banking system, or at least runs that risk. The likely response to further banking distress—and, you know, that hinges on an assumption that the FDIC, the Fed, the Treasury, using their existing tools, won’t be able to contain the distress. And I think that’s unlikely. I think the FDIC, the Treasury, and the Fed have made it clear that they intend to protect deposits in the financial system by using the so-called systemic risk exception is a major bank fails. And that systemic risk exception lets you backstop the deposits using the money in the FDIC fund. And the FDIC fund can be replenished by a levy on bank deposits. So, it will—it can be renewed without any new budget appropriations. Which makes it, I think, unlikely that it would run out, particularly because the banks that get into trouble going forward will likely be—if they get into trouble, likely will have slightly better balance sheets that Silicon Valley Bank, some of the other banks that have already failed, and so the losses would be smaller. But in the event that there was greater banking distress, I think the first response would be to use the provisions in Dodd-Frank that allow the FDIC to request a straight up or down vote in Congress on an increase in deposit insurance. So, I think the most likely response will be to request that Congress fully guarantee all bank deposits, so that people didn’t have to worry about whether their money in the bank was safe. There’s certainly some other technical things that the Fed would do to make maybe it a little less attractive for money to move out of the banks into money market funds. Greater bank distress would increase the probability that there’d be rate cuts.  So there’d be a lot of responses. But the first response would be to expand FDIC deposit insurance, which takes in most circumstances, I think, my read—the cleanest way to do that certainly would be for Congress to approve it. And then if there were really much deeper bank distress, then you would have to consider whether the U.S. government should request—or, the U.S. should have in place the capacity to put capital in the banks, which is what was done in 2008-2009. That’s an enormously political—you know, so that is, in a different way, runs the risk of being political suicide. But putting capital into the banks is way better than letting our financial system collapse. But to be clear, I think the measures that have been introduced to date will contain the crisis. I think it is clear that the FDIC, the Treasury, and the Fed have the authority to protect deposits in any bank that fails, and they intend to do so. FASKIANOS: And, I’m sorry, at this point we have to close. I am sorry we could not get to the rest of the questions, the raised hands. SETSER: And I’m sorry I closed on such a down note. There is a—there is a path forward where these uncertainties are resolved and the U.S. economy continues to plow ahead. We’ve surprised people by not having a recession yet this year. That was sort of a pretty widespread forecast at the end of last year. And it’s certainly possible that many of these sources of uncertainty will resolve themselves and that we will be able to enjoy an economy that continues to move forward at a reasonable pace. Unfortunately, the level of uncertainty is high. FASKIANOS: And there was a question in the—in the Q&A box about do you want to put a percentage on that, Brad, of what is that certain amount? Would you express it as a percentage? Plus, minus, standard deviation? Do you want to have—or do you want to just leave it as— SETSER: I think any forecast would have to be, at this point, contingent on the resolution of the debt ceiling. And I don’t have a good forecast of that. I certainly hope that it’s resolved. If it is resolved, I think the chances of a recession are between one-third and a half. FASKIANOS: Great. This has been a fantastic discussion. Thank you very much, Brad Setser, and to all of you for your great questions, written and raised. We will share a link to this webinar recording and transcript. You can follow Brad on Twitter at @brad_setser. And Brad also has a blog. It’s called Follow the Money. And you can subscribe to it on the CFR website. We will include a link to it when we send the follow-up note for this webinar. So you can follow what he has to say on a more regular basis. So, again, Brad Setser, thank you very much. I encourage you all to follow us. Go to CFR.org, ForeignAffairs.com, and ThinkGlobalHealth.org for more expertise and analysis. And do email us, [email protected], to let us know how we can further support the important work you are doing. So, again, thank you all for being with us and thank you, Brad. SETSER: Thank you.   

The World Economic Update highlights the quarter’s most important and emerging trends. Discussions cover changes in the global marketplace with special emphasis on current economic events and their implications for U.S. policy. This series is presented by the Maurice R. Greenberg Center for Geoeconomic Studies and is dedicated to the life and work of the distinguished economist Martin Feldstein.

Christopher Waller discusses the economic outlook for the United States in the year ahead.

Panelists discuss the global economic outlook for 2023, including the risk of recession, the state of inflation, and the geopolitical events that could affect markets in the coming year.   VELSHI: Thank you very much for this. I am always honored to be invited to preside over a CFR function because they’re all so good and so smart. But this one I jumped at because the answers to what we talk about right now are going to be the answers I actually need. I am somebody who spends a lot of time thinking about U.S. and global economics and I’m just a little confused right now about where experts like the ones you’re about to hear from think we’re going in 2023, which is going to be pivotal one way or the other. So I’m really excited about this conversation. I want to introduce and thank my panelists. Matthew Luzzetti is the chief U.S. economist at Deutsche Bank. Rebecca Patterson is a former investment strategist with Bridgewater Associates. And Satyam Panday is a chief economist at—for emerging markets at S&P Global Ratings. All three of them have a remarkable and extensive resume that you should look up, trust that they are the ones you want to talk to. We’re going to chat amongst the four of us for a little while and then sometime before the half hour I will come to you for questions, and there are various ways that you can do that, which Alexis will alert you to at the time. But you’ll be able to interact and ask the questions that we haven’t already discussed. So, with that, let’s kick it off. Thank you to all of you for being here. Matt, let me start with you, because about a year ago you put out a report—your team at Deutsche Bank put out a report in which you argued that 2022 was going to be critical for determining whether and how the U.S. returns to so-called normal inflation rates and interest rates that prevailed before the pandemic. And, you know, we were talking at the time about inflation. Some people, perhaps erroneously, described it as temporary. They used various words to describe the fact that this was not going to be something that was going to set in and affect us. We got to a midterm election in which polling indicated that this concept of inflation was going to be very, very important to voters. In the end, it was not a decisive matter for voters but it still may be. I want to ask you about how you think 2022 played out and whether or not you can take that report and just sort of install it at the front of 2023 and say, hey, it’s going to be critical this year to find out whether we get back to normal inflation rates and interest rates. LUZZETTI: Sure. First, thanks so much for having me. Really excited to be able to discuss the 2023 outlook. You know, I think you’re exactly right. If you go back to late 2021, we were looking at the year ahead as one that would be pivotal in determining whether or not we would return to what was called the new normal—you know, that environment that had set in before the pandemic—low inflation, low interest rates, not much volatility, certainly, in markets or in the economy, a Fed that was overly easy, that could focus on the labor market, had just undergone this big policy framework review focused on the labor market and average inflation targeting. I think 2022—over the past year—you know, we, certainly, learned that that transition and getting back to that period, one, it’s uncertain if that’s where we’re going back to but, two, the transition path is a very, very difficult one. And so, I think, you know, early last year, certainly, as, you know, some were thinking about the inflation shock being transitory, we very quickly learned that it was not going to be and I think the nature of the inflation shock evolved very quickly to one which was initially driven by goods. It was initially driven significantly by supply chain disruptions. It was initially very narrowly focused in terms of the price pressures that we were looking at and, you know, everybody was focused on used car prices rising 50 percent over several months. But very quickly it morphed into something that, I think, was far more concerning, one that was broader based. You know, we would look at the trimmed mean inflation gauges or the median inflation gauge, which really started to skyrocket, as one that moved just from goods to services items, which tend to be more persistent. It became more demand driven, and I think all of these things were very worrying from the Fed’s perspective, from global central banks’ perspectives. We then had the invasion of Ukraine, which overlaid on top of this a massive inflation shock in the energy market which risked an un-anchoring of inflation expectations. And I think that triggered the very aggressive policy response that we saw from the Fed over the past year, one which saw them raise rates by seventy-five basis points four times, really, the most aggressive tightening that we’ve seen since Volcker in terms of what the Fed has done. Now, I think that has put the Fed in a much better position to respond to the incoming data. I think we’re looking at risks that are now more two sided. I think for the most part of the past year we were very much worried about upside inflation risks. Now I think we are seeing some evidence in the growth data that is softening. We, ultimately, think that a recession is the most likely outcome in the second half of this year. But I think, ultimately, what we have learned and I think what is pivotal for 2023 is that getting inflation back down to target is going to be—is likely to be a very painful or at least require some pain in the labor market and economic outlook in order for that to fully happen. I guess just as a concluding remark I would note that there are structural changes that are ongoing. A lot of the global disinflationary forces that we talked about before the pandemic, many of them are probably shifting. It probably means that the inflation outlook on a structural basis is different. It probably also means that the yield curve and term structure, I think, is structurally different. But maybe those are some topics that we can get into in more detail a little bit later. VELSHI: I just want to clarify two things that you’re saying. One is while you think this will be a year in which we will experience some negative growth, your estimates are that it’s not going to be a lot for 2023 and that the increase in unemployment is also not going to be a lot. We might get back to what we used to think of as full employment, around 5 ½ (percent). Five, 5 ½ percent is what you’re thinking unemployment peaks at. LUZZETTI: Absolutely. So I want to be cautious and be humble here. VELSHI: Of course. Yeah. Yeah, I understand. LUZZETTI: So we started calling for recession in April, and for an economist to kind of call for a recession that far ahead is very unusual. I think you have a very unusual environment where, you know, you look at the Wall Street Journal survey and economists think 75 percent of recession—chance of recession over the next year. We do think that it’s going to be moderate from a historical perspective. I’d liken it most to the early 1990s recession. There’s arguments on both sides. I think the arguments are for it to be either deeper or longer or that, one, the Fed may be constrained in how much they can respond due to high inflation; two, there are, obviously, very clear fiscal risks out there with the debt ceiling, which could make this more severe. But on the other side, if you look at household balance sheets we still have significant excess savings, there’s not a lot of deleveraging that needs to take place, and the housing sector is already going through a meaningful correction. So I think that all tends to moderate the type of recession that we anticipate we’ll see. You know, ultimately, we think that leads to something that’s moderate from a historical perspective, seeing the unemployment rate rise by about 2 percentage points by early 2024. VELSHI: Thank you for that. Rebecca, you just published an op-ed in the Financial Times and the reason this is important is because we are very focused on what the Fed can do about the situation we’re in, and it’s an unusual situation in that they need to get their interest rate hikes out before we have any significant slowing of economic growth. You argue in your piece that there are a few other things at play, that regardless of the Fed’s constraints the Fed may not have an effect on or the effect of the Fed may be blunted because of external forces. PATTERSON: Or even that these external forces could affect the Fed’s thinking. So what I was talking about in this specific piece was the dollar. But I think maybe, given that we’re starting right now on the global economic outlook, let’s talk about the economics. The big one to focus on is, really, China here. So as we all have read about now and are familiar with, China has pivoted from hard lockdowns to a fast reopening and there is now a very quick change in sentiment towards Chinese growth on the back of that, and I think the question as we take this back—we can talk about China. I think there’s a lot to talk about regarding China. But as we take this back to the United States outlook and the Fed, to me, there’s two questions. One is, will the continued improvement in supply chains, thanks to China’s reopening, be a disinflationary force, especially for goods. But then contrast that—as you have a reopening people are traveling more. They’re flying more. They’re demanding more products, which means more production, more energy needs. That pushes up commodity prices. And so when you net those two things out, we think there’s still likely to be a modest inflationary impulse that comes from the Chinese reopening. So if you have this inflationary impulse that comes from China and at the same time you do have a relatively weaker dollar that’s also going to be modestly inflationary for the Fed, it could make the Fed’s job that much harder—again, at the margin, but that much harder getting down to its 2 percent inflation target. As the markets are discounted it’s going to happen in a pretty benign way by May that they—you know, the markets are saying the Fed is going to be done and start easing. To me, that seems pretty unlikely. VELSHI: Thank you for that. And I do want to actually explore the China question along with emerging markets a little bit more with Satyam. Satyam, give me a sense of how this conversation translates to the rest of the world and how the—both this—the lifting of COVID restrictions in China and, you know, some news that came out this week that has people concerned, generally, about China’s growth, how this all plays into your evaluation. PANDAY: Sure. So the couple of factors that have already been said here they do matter quite a bit for the emerging market space, in general. You know, take China, for example. That’s the first one that’s a big—you know, the pivot that we just saw in terms of the COVID strategy that does matter for the overall emerging market more than anything else, just given the weight of the trade and the financial flows that goes with it. In general, we do think where does the impetus for this growth in China come from? Is it a consumer-based growth now that’s going to be rebounding or is it industrial-based growth, right? So that does matter for the various, you know, emerging market economies. Right now, at least, from the COVID rebound we are thinking it’s more on the consumer spending side of things rather than on the infrastructure or the property sector side of things that is going to really increase this rebound in growth for China itself. That means most of the Southeast Asian industrial complex that’s more tied with the Chinese manufacturing, the consumer sector demand, that may be more, you know, looking at some gains from what we had thought earlier. You know, that also ties with the tourism sector, a lot of the pent-up demand for going out and visiting places that also is going to be seen in places like Thailand or in Indonesia, things like that. But in terms of commodity side of things, when you think of LatAms—the Latin American countries—yes, we have seen the copper prices start to move up. We also think that there will be some extra positives than what we have thought earlier for these Latin American countries. But, again, it’s not clear to me yet at this point in time how much of the policy pivot that we saw in terms of credit condition loosening for the property sector is it really going to be more than just stabilizing that sector. So it’s a little bit hard to tell at this moment. Maybe there will be more loosening in the coming months. But that does matter for the outlook. Then the one that will be considered U.S. and, I would add, eurozone as well—these two big, you know, economies for the globe—they are both sort of expected to have at least a shallow recession right now. That’s the consensus and, you know, our own U.S.—you know, our own U.S. economists, eurozone economists, think so, too. So that is going to impact a lot of these countries that are kind of tied with their industrial sectors itself. So you can think of Eastern Europe, some of the—you know, some of the—the auto-related industrial sector for South Africa with eurozone, you know, Mexico with the U.S. All of those are going to be impacted. So, all in all, below longer-run potential sort of a trend growth rate for the emerging market space after a nice bump up that COVID rebound-led tailwind that we saw last year. But, again, looks like LatAm is going to be the weakest of all with Southeast Asia, perhaps, more closer to its, actually, trend rate because it is going to enjoy more of that, quote, “China rebound” than anybody else. VELSHI: Let me just ask you quickly, because you mentioned Eastern Europe, we’re approaching on February 23 and 24 the first anniversary of the Russian invasion of Ukraine. How does that figure into your calculations? PANDAY: Yeah. They have already been hit pretty hard, you know, since then and we do expect them to have a very weak profile, you know, about a shallow recession. You know, the German industrial complex is going to sort of matter for them and it is going to impact, you know, some of the oil and the gas prices, especially natural gas, you know, depending on how that dynamics plays out for the next winter. It’s not just about this winter itself. They have sort of seen through this in a quite positive than what was expected manner. But for the next winter as well it does matter. But all in all, we do expect a much below trend growth rate for most of Eastern Europe. Again, it’s very hard to tell right now. That is something that is up in the air. Yeah. VELSHI: Rebecca, let me ask you about that as well, because part of the good fortune so far has been a milder winter than—the start to the winter season than we thought in Europe. But the bottom line is anything can happen, right. We just don’t know where this goes. We don’t know what the plans—what plans Russia has. There’s going to be a new aid package—military aid package—announced by the U.S. on Friday. We believe there’s more mobilization going on in the Russian and the Belarusian side. What’s your sense of how we think about the effect of this war, which could escalate or could end in 2023? PATTERSON: Yeah. So the war is the third big question mark for this year. If the Fed is the first—how much do they tighten, do they start easing later this year as the markets are discounting—second question being China—how big a reopening bounce do they get, how long does it last—and then the third one, of course, is the war and no one can predict when it’ll end or if it could escalate—hopefully not—before it ends. And so when you’re thinking about Europe, obviously, you have to bake that into the cone of outcomes that could happen economically and from a financial market perspective. I guess what I would say that’s interesting to me is that while Europe has done better than feared so far we’re still seeing plenty of evidence that things are slowing. Germany, obviously, the engine of growth for Europe, has seen a big turn lower in new orders for manufacturing. That tends to be a slightly leading indicator for industrial production. So that’s starting to soften further. Retail sales have been softening for the last several months now, and so things are slowing. But similar to the U.S.—not to the same degree—you have tight labor markets, you have rising wages, and, of course, the big thing is the energy shock. And the European Central Bank—the ECB—just this week from Davos Christine Lagarde reiterated that the markets have it wrong, that the ECB is going to continue tightening, possibly by fifty basis points at its next meeting, because it really is focused on its inflation credibility and getting that back down under control. So even though hopes have started reemerging around Europe, I think they might be a little bit too early and the risk that we do have at least a modest recession in Europe this year almost regardless of what happens with the wars is still what I’d be looking for, partially because of that tightening that’s not fully discounted and partly just because of the toll the sustained war takes on Europe and we’re starting to see that reflected more in the economic data. VELSHI: Matt, I want to take you back to your days at the Fed—in the Philly Fed and to your days when you were writing economics theses to tell us a little bit about the situation that the Fed is in. You made a comment in your last answer when you said the Fed may be constrained as to how much it can do because of inflation, and so this is an important consideration, right. A lot of people are critical that the Fed waited too long to start interest—raising interest rates, and may keep raising interest rates into a dramatically slowing economy or a slowing economy. But the Fed is worried about the fact that the economy turns down prior to the fact that it’s finished raising interest rates to fight inflation. Give me a little sense of how that plays out for you. We don’t want to get ourselves into a position where we’re in May and inflation is not comfortably lower than it is, even if it’s peaked, and yet we’ve got ourselves into some kind of a slowdown. Because then what does the Fed do? Does it raise interest rates or does it lower interest rates? LUZZETTI: Yeah. I think you’ve heard Fed officials, Chair Powell, many times talking about this in terms of risk management. On the one hand, they have, you know, not being hawkish enough, not tightening enough, and that doesn’t bring inflation down and we repeat, you know, perhaps, what we saw during the 1970s where, ultimately, that leads to worse economic outcomes, worse recessions, a labor market that is materially weaker; on the other hand, the risk that they, you know, do too much, perhaps triggering a recession in an environment where they need not do so. I think very early on the risk—that risk management was very clear. They were coming from a world where real interest rates were very negative and the economy was very far away from their objectives. I think what we’ve seen over the past several months is that there are some divergence in views in terms of those risk management considerations. You know, certainly, there still are upside inflation risks. We have seen inflation coming down over the past several months. At the same time, the Fed has done a lot. You know, they’ve raised rates by more than 4 percentage points over the past year and there’s lagged effects of what that’s going to have on the economy. I really do think the next several months are going to be critical but I think they’re also going to be very difficult in the sense that we’re likely to see inflation probably reaccelerate somewhat over the past several months. Some of the big items that have been deflationary the past several months like used car prices are going to be turning around. At the same time, we are just beginning to see evidence that growth is weakening. We saw it with retail sales, industrial production, the services type indicators. And so this tension in the Fed’s dual mandate it’s not there today because we still have a historically tight labor market and inflation that’s well above their objective. That tension will no doubt be there this year. We think by the end of this year you have the unemployment rate around 5 percent, inflation is around 3 percent. That is still above target inflation at a time where the labor market has eased a lot. It does present a tension for them. We think they start cutting rates in that environment, though, and, importantly, if you were to look at any of the policy rules that they would typically follow it does say that they would be cutting rates under that environment. No doubt they’re not saying that—they’re not saying that today. I think they have reasons to do so. They don’t want the financial conditions to ease. But I think if you get our forecast, the Fed will be easing monetary policy this year. VELSHI: But that’s—you know, somebody with your level of training and expertise would think that that’s logical, right. The danger is if that’s not the case, right. We get ourselves into a slowing economy, maybe one that slows more than your forecast indicates, and the Fed doesn’t. I mean, they’ve got gas in the tank now to drop rates if they needed to to goose the economy. Is there any danger that they don’t and we get ourselves into a weird spiral where the Fed’s raising rates in a slowing economy? LUZZETTI: I think there’s no doubt danger that, you know, ex-post we found out that they’ve raised rates into an economy that is going to be slowing. That is, I think, the natural risk that you take and that was inevitable with, you know, being somewhat behind the curve because we were all surprised by this inflation shock, and having to move so aggressively. I think they can help minimize that risk by getting down to twenty-five basis point rate increases in February. I think that’s the very likely outcome. They will be able to assess the lagged effects a bit better. But, you know, I think that risk will still be there. VELSHI: Satyam, generally speaking, central banks around the world followed the roadmap put out by the Fed. Lots of countries were late to raising interest rates. Lots of countries got aggressive. Lots of countries sort of look at what the Fed does and does the same thing. Is it your sense that everybody’s moving correctly at the right velocity despite the fact that they may have gotten a late start to raising rates? PANDAY: So, Ali, just to rewind back a bit here, there were some—you know, countries like Brazil, Chile, that actually were ahead of the curve this time. When they saw inflation expectations start to move they immediately were moving. So they actually moved a year earlier than the Fed did. So that’s one thing. And the second thing, there are countries like Mexico and others which are very much closely tied they’ve got an eye on the Fed. Exactly whatever the Fed does they are looking at it and they have been moving together in tandem even though their growth may have slowed down and that’s because they do want to protect their capital. They don’t want to see capital outflow and they do want to protect some of that exchange rate valuations as well, and we have seen that throughout this year. In fact, the emerging market as a whole had a lower depreciation against the U.S. dollar than the advanced economies if you were to consider that. Some of it has to do with the terms of trade as well. But, still, this time around emerging markets, central banks, were on top of their game. Yeah. VELSHI: Do these standout emerging markets worry you, the ones that have inflation that is many times the rates that we’re talking about in the developed world? PANDAY: Well, there are a few but, again, it has to do with the commodity prices. It has to do with the oil price. You know, Eastern European countries like Hungary, Poland that comes to mind. Some of the countries have more of a core. Like, South Africa is going through this supply-based electricity, you know, issues and things. That has— VELSHI: And they’ve got rolling outages two times a day. PANDAY: The rolling outage is very bad. It’s sort of they were not able to capture some of the terms of trade that comes with the high coal prices because of that but—and then in the LatAms you’ve seen some of those inflation already peak and start to come back down. But, again, yes, there are some countries—there are always some countries in the EM space that are a little bit above in general terms. Yeah. VELSHI: In a few moments I’m going to go to questions. Rebecca, I want to ask you about the situation going on in the United States right now. Today, Janet Yellen said that the country has reached its 31-point-something-trillion-dollar debt limit and she described some of the things she’s doing to try and stretch things out until June and she says in June she’s going to run out of headroom and the United States will miss some payment on something. There is a Republican plan that the Washington Post has said is being floated about whom to pay and whom not to pay, except credit experts understand that if you miss any payment it’s the same as missing all payments, right. Missing your car payment is not better than missing your mortgage payment. Talk to me about the effect of this micro situation and sort of political polarization and dysfunction in the United States as a threat—how you evaluate it. PATTERSON: Sure. So yes, it is a potential policy mistake that could be—even if it’s known well in advance could be very material both for financial markets and the economy. But before I address that just real quick—when we’re talking about policy mistakes one thing we haven’t mentioned yet but I just want to make sure we touch on at least briefly is not only is the Federal Reserve raising interest rates but it is also reducing its balance sheet. VELSHI: Right. PATTERSON: So quantitative tightening, which is happening at double the pace that it did when it tried this in 2018. And the Fed itself admits it doesn’t have a large sample size to understand how this is going to play out and so, again, when we’re talking about how far should the Fed go, how fast should the Fed go, when should it ease, et cetera, there’s a lot less certainty this time around not only because of the economic conditions but also because they’re using a policy tool that they just don’t have as much experience in. VELSHI: Right. PATTERSON: But going back to your question on the debt ceiling, so I think we have, as you put it, the tactical—(audio break)—the dynamic that it’s reflecting. On the tactical micro issue, if you can go back to 2011, the last time we flirted with a default the S&P rating agencies downgraded the U.S. sovereign credit rating to AA and we saw the U.S. stock market fall nearly 20 percent in just a few months. We saw the ten-year Treasury yield fall almost by half, from 3 percent to 1.7 (percent). We saw an 18 percent rally in gold prices. Now, what I worry about this time around—now, at that time, Europe was also a mess. They were going through their debt crisis. That might have contributed. This time around we’ll see where Europe and China are. But what we do know is the Fed is probably going to be looking at a world with inflation still above target so it might be harder for them to ride to the rescue if we do have this shock. And I do think the risk is probably the highest it’s been at least since 2011 that this does materialize even if it’s for a very, very brief period. And then, finally, going from the tactical issue to the broader dynamic, I have spent a lot of time trying to understand the linkages between politics and policy with economics and financial markets, and there isn’t a ton of great data to analyze. But what I have been able to find suggests that when you do have less functional governance, and I think we could argue that’s what we’re looking at here today, it can affect the economy and markets simply because if you don’t know what regulations are going to be, tax rates are going to be, fiscal monetary policy is going to be—not the monetary in the U.S.—but then it’s harder for businesses to plan and if they’re having a harder time planning they’re probably going to be more cautious and that means less investment, less hiring. So that’s going to slow growth. It’s going to weigh on earnings expectations, which in turn can feed into stock prices, and we’ve actually seen evidence of that across countries across time. It doesn’t always work that way. If you had extreme fiscal easing or monetary easing that could dominate that political effect. But at the margin, the functionality, if you will, of governance absolutely matters and the degree we’re seeing what’s happening in the U.S., all else equal—again, fiscal policy aside—I think, is a tax on growth and a tax on markets in the United States. VELSHI: Yeah. It’s an interesting point because I’ve been focusing on my show on this less functional governance issue and what the question I get on social media from a lot of people is how is this going to affect my 401(k). And, by the way, they really are interested in that. They want to know that. It’s been a rough year in markets and they want to know how that nonsense going on in Washington affects them. You are all fantastic. My head’s exploding with all the various threads we can go down. But, unfortunately, I don’t get to ask all the questions here. Fortunately, for the audience, they get to ask questions. So I want to hand it over to Alexis to start us off with some of the questions that we’ve already got lined up. OPERATOR: (Gives queuing instructions.) We will take our first question as a written question from Michael Godley, who asks: Are there any expectations for additional rate hikes coming from the Bank of Japan? If the Bank of Japan raises rates what impact would that have on your global economic forecasts? VELSHI: Very, very good question, given that there’s been a lot of activity—economic activity in Japan, a lot of concern that Japan does not want to get itself into a pickle around interest rates and inflation. Matt, is that for you or Satyam or both of you? LUZZETTI: I can give a brief comment there. I mean, certainly, from a global market perspective the Bank of—recent Bank of Japan meeting was a key focus. And I think it’s a key focus for the global yield curve because if there’s one area that, I think, can lead to a big rise in the term premium and a big steepening of the curve, people are focused on the Bank of Japan relenting from their yield curve control targets. Obviously, they didn’t do that this week. Our expectation is that they will move that band at least higher, perhaps abandon it later this year. That should be a—something that does lead to higher interest rates. And then, ultimately, whether or not you get further tightening, I think, is a big question for are we seeing core inflation in Japan continuing to move higher; are we seeing the labor market producing wage growth that suggests that inflation is going to become a more persistent story there. So I think, yes, there will be movements into that direction. But the Bank of Japan has showed a pretty substantial and meaningful commitment to yield curve control in the current environment even when it was anticipated they were going to back off from that. VELSHI: Why is that different than the U.S.? The Japanese are concerned that inflation is higher than wage growth. Inflation is higher than wage growth in most countries right now, certainly, in the United States. LUZZETTI: Yeah. No, I think the inflation data that you have there is simply very different than what we’ve had in the U.S. We had this massive inflation shock where core inflation, broader measures, trimmed mean, median, were very elevated and moved—and are coming lower but at levels that are still, you know, double or more the Fed’s objective. We’re just beginning to kind of see core inflation move higher in Japan. At the same time, you had the coincidence of the labor market in the U.S. historically tight, 4 ½ million more job openings than unemployed individuals, unemployment rate at, you know, fifty-plus year lows with wage growth inconsistent with the Fed’s 2 percent objective. We just haven’t had that sustained type imbalances in the Japanese economy as of yet, which, I think, has allowed the Bank of Japan to hang on to their policies a bit longer. PATTERSON: And if I can jump in just very briefly on this. I think it’s important to put the historical perspective on Japan’s thinking today. You know, Japan has been trying to exit zero inflation, or deflation, for over a decade and now it’s finally gotten positive inflation rates and some wage growth, which, I think, they’re actually very happy about. And what has happened in Japan for, again, the last decade is every time the economy started to reflate—better growth, better inflation—they would start doing fiscal tightening or premature tightening of some sort and push them back to the beginning. So it just—they kept having these false dawns, and I think part of the reason they’ve been reluctant to leave their yield curve control policy—their easing monetary policy—in contrast to the rest of the developed world is because they don’t want to have another false dawn. They want to make sure that this positive inflation environment can stick and so they want to be very, very careful how they get out of it. VELSHI: Yeah. There’s sort of an historical memory in Japan that is making them more cautious, something we sometimes forget about here. Thank you for that. Alexis? OPERATOR: We will take our next question as a written question: Alongside conversations about how to lower inflation there have also been some debates about the target number itself. Is 2 percent the right number or should we also reconsider our target? VELSHI: Who’d like that? PATTERSON: I’m happy to start. I’ve been involved with the New York Fed for a lot of my career on different committees and working with them on different projects. It’s, certainly, something I follow carefully. I think right now the Fed’s primary worry is credibility. If they were to stop tightening or start easing interest rates with inflation—you know, core PCE much above target—I think they’re worried about credibility. I think that also goes with—let’s say they say, well, we could raise the target from 2 (percent) to 3 (percent) or we get to 3 (percent) and we just say that’s good enough. The problem is then the next time we have higher inflation do they settle for 4 (percent), do they settle for something else. And so the Fed, I think, is extremely focused on making sure inflation and inflation expectations stay anchored because that price stability is supportive for the broader economy. So, in the short term, I think that is critical. That said, there have been talks even before the pandemic about what the right target number is and most Fed officials will admit that 2 percent isn’t necessarily scientific. It was not too hot, not too cold. So in the next coming years could we see another policy review that leads to a slightly different inflation target? I think it’s absolutely possible. I just don’t think it’s likely to happen in the current environment, given that credibility worry. VELSHI: Interesting. I’m reading between the lines here, Rebecca. If you have these types of policy conversations and recalibrations in normal times they’re just reasonable discussions that doesn’t affect your credibility. If you have them today it feels like you might be copping out. PATTERSON: Correct. Absolutely. VELSHI: Satyam, how does this work in the rest of the world? Do people come up with the higher expectations or do they think the U.S. 2 percent target is a little silly? PANDAY: Well, not really. I think—I do agree with Rebecca on the credibility issue. They should probably—they do know that they would want to keep that as is. There is something called the time consistency effect. You want to make sure your credibility is intact. You don’t want to be flip flopping here. But something very similar that came out just the other day—I think it’s from Brazil—that Lula was overheard saying that maybe, perhaps, the central bank should not be as independent and maybe they should be just increasing their inflation target rate in Brazil from 3.25 (percent) that they have right now to maybe, perhaps, to 4.5 (percent) and that sort of—immediately your ten-year bond yields, the risk premium that you, you know, put on that immediately jumped up. And so you have to be very careful as a politician, especially, and that, you know, stature to say things that don’t really spook the market, don’t really get the credibility of your own central bank in, you know, jeopardy. So I think— VELSHI: That’s a good point. PANDAY: —that would be something to learn. And it’s probably not like that for the U.S. but at least for the rest of the EMs they have to be very careful. Yeah. PATTERSON: Well, and the U.K. almost became an EM late last year, you know, and a year ago you were seeing policymakers in the United Kingdom talking about the Bank of England’s independence. And after we saw Liz Truss and her cabinet suggest some very, very extraordinary fiscal stimulus with inflation at double digit rates and the market reaction forced the Bank of England to jump in and, frankly, save the day, I think that talk’s gone away very quickly. But I think it’s a great point everyone’s making here about central bank independence. If inflation stays stickier for longer when the unemployment rate starts going up, as this starts to be felt more painfully among the electorate policymakers could decide to try to point fingers toward central banks. So I do think that’s something we should watch out for over the course of this year around the world emerging markets and developed. VELSHI: Matt, your take on the inflation target and its reasonableness and this question of credibility? LUZZETTI: Sure. I think maybe there’s just two ways to think about it. One is a nice theoretical argument about whether or not 2 percent is the right target or not. I think, you know, Fed officials and most—maybe many central bankers might tell you that no, you know, if you were to run simulations with the Fed’s model about how often we’re going to hit the zero lower bound and how often that’s going to be binding with a 2 percent inflation target. It’s just much more of an issue than they thought it was going to be at the time when they set that 2 percent objective. So there’s a theoretical argument for a higher inflation target. That said, what everybody said makes complete sense. There is no way the Fed change their inflation target, moves the goalposts when they’re missing it from the upside. There’s no better way to ensure that they’re not able to get inflation expectations while anchored than to move the goalposts at a time where they’re not meeting their objective. I would only maybe just conclude with Chair Powell had a really interesting comment in the December FOMC meeting when he was asked about that. He said, basically, you know, today we’re not thinking about it at all but it may be a longer-term project, which I was surprised that he at least admitted to considering that over the longer term, given where we are today, from an inflation perspective. VELSHI: Where do you think we’re going to—when do you think we’re going to get to 2 percent or a place that the Fed can reasonably have that conversation without it affecting credibility? In other words, close to 2 percent. LUZZETTI: So we have inflation in 2024 getting down to 2 ¼ percent. VELSHI: Got it. OK. LUZZETTI: And, you know, it takes a recession to get there. I think there’s these structural inflation drivers, which mean that we’re going to be above 2 percent rather than below. They have a policy framework review out in 2024-2025, which will be the next time where they’re rethinking their framework. You know, I don’t think that’ll be a key area of discussion but it could be one if we’re in a world where inflation is below their target. VELSHI: But it would be the beginning of the time when you can think about that being a discussion. LUZZETTI: Yeah. VELSHI: Mostly I’m trying to just underscore your point, that your scenarios about growth and inflation and unemployment over the next couple of years nobody likes any kind of recession. But you’re not thinking about a severe one right now. You’re thinking about one in which most things bottom out in 2023 and start to improve economically by the end of the year. LUZZETTI: That’s right. That’s our central scenario. VELSHI: Got it. Thank you. Thank you. A very robust set of answers from everyone. I appreciate that. Alexis? OPERATOR: We will take our next question as a written question from Andy Stull, who asks: What is the significance of the interest expense on the national debt approaching the amount of fiscal tax receipts in terms of limiting monetary and fiscal tools to manage the economy? VELSHI: Excellent question. Rebecca, you want to start with that? PATTERSON: Sure. Happy to. This, to me, is something we’re going to see in the U.S. but also globally. As interest rates reset higher and interest expense on debt is higher and a bigger part of the pie, governments are going to be faced with tradeoffs, and we can’t forget how much our debt levels have changed. We saw a big ramp up from the financial crisis in 2008-2009. We saw another ramp up with the pandemic and then the responses after the pandemic. And so we’re looking at extremely high debt levels, again, across a lot of the developed world. It’s interesting right now. You’re seeing a hint of what could come in France. So Macron is trying to change the retirement age in France by two years—sixty-two to sixty-four—and we have riots and protests on the streets, and the reason he’s doing it is because the government simply can’t afford to spend that amount of revenue on retirement and social spending programs. We’re going to see the same thing when it comes to Japan, when it comes to China, when it comes to the U.S., across Europe, South Korea. As economies age and you have a higher dependency ratio, you have more retirees and you have less revenue coming from the labor market, you’re either going to have to have higher taxes, which is never very popular if you’re a politician. You don’t want to have to pass that. Or you’re going to have to have cutbacks in spending somewhere. And so, yes, you want to have reflation in an economy. You want to have growth. But you need that growth to be higher—the pace of growth to be higher than the pace of the interest rate increases or that interest rate expense is going to nibble away at everything else and cause some very hard tradeoffs for politicians, which, in the case of France right now, is leading to social unrest. VELSHI: Yeah. Satyam, let me just ask you about this because this particular question becomes relevant, obviously, with the debt levels that we’ve got here in the United States. It’s been a very relevant question for emerging markets for a very long time. There are lots of countries that you cover where debt limits are crippling to the economy and changes in interest rates like this are really something that is existential for some of them. PANDAY: Yeah, and especially, you know, after the COVID, all of those stimulus and the tax exemptions that were given in order to make sure that the households’ balance sheets were not completely, you know, shattered and the businesses as well, I think some of the core EM countries they do have their debt as a share of GDP gone up quite a bit than what we have seen in the past cycles. There have been some countries where, you know, like Sri Lanka, you know, Pakistan, and, you know, Tunisia, these have already started to kind of sort of, you know, come in a new cycle. But they are quite small in a broader scheme of things that don’t really have that systemic issue here. But this time around, at least in the EM space, a lot of the debt that were taken out were in their own local currency rather than in, you know, U.S. dollar. So that sort of gives them a little bit more cushion in terms of how this is going to play out. But, again, I think the private sector side of things more than the sovereign side of things have been getting more and more debt burdened and this is something that is going to be playing out when—especially right now when the interest rates have moved up quite a bit. So the debt burdens and the debt ratios as a percentage of their income is going to be pressured in the next twelve to eighteen months. So that’s something to look out for. VELSHI: And Satyam has brought up matters relating to the dollar, which takes us back, Rebecca, to the op-ed you wrote and the topic of it. Let’s just talk about that dollar weakness and its implications. PATTERSON: Yeah. Well, last year—2021 and—part of ’21 and most of 2022 we saw a very rapid, fairly broad-based dollar rise, again, more against some of the developed markets than most of the emerging markets, although Turkey, Argentina—there were a few outliers—and that’s kind of turned about face. You know, since September/October we’ve seen a pretty rapid dollar decline. Now, part of that is changing expectations for the Federal Reserve. Now the terminal rate—so where the rate finishes, the hiking cycle—is under 4.9 percent. Just a few weeks ago, it was above 5 percent. And I think Fed officials are at pains to say, hey, we may not finish till we’re above 5 percent. So the changes in Fed expectations could continue to create some dollar volatility. But as we mentioned at the beginning of our conversation today, forces externally matter as well. You know, the dollar is extremely expensive by historical standards and currencies, over time, tend to mean revert. The other force that tends to drive currencies structurally is their funding needs. So the U.S. tends to run a current account deficit. It’s around 3 percent or so of GDP right now. So that means it needs to attract capital to support the dollar, and what we’re seeing today and since late last year is the opposite. As expectations towards Chinese growth have improved with the spillover that has to other emerging markets, especially in Southeast Asia, as you’ve seen Europe have a better than feared winter, you’re starting to see money go from the U.S. out to some of these other markets looking for better valuations and an opportunity to position for that improvement in growth. And so I think it’s really been not just the changes around the Fed but also changes around expectations in investment opportunities overseas that have led to this dollar weakness. And so when I look ahead, say, OK, will we continue to have a weaker dollar or could this flip flop again, could we see another bout of dollar strength volatility, I would be pretty careful. We don’t know how strong the China reopening will be. We don’t know if it’ll be a straight line, given the number of cases that could erupt even right now as we go into their lunar new year. We don’t know what’s going to happen with the war in Ukraine and how that flows through to Europe. And so I think investors just need to be pretty humble about these trends and whether they can be persistent and strong over the coming months. This is an environment with so much uncertainty, whether we’re talking about wage inflation in the U.S., COVID in China, the war in Ukraine, that you really want to make sure you keep your financial market positioning, so to speak, and your economic views humbled. VELSHI: Yeah. Smart idea. Thank you for that. Back to you, Alexis. OPERATOR: We will take our next question as a written question: Do the recent tech layoffs impact your outlook for the broader labor market in 2023 or do you see those changes as mostly confined to that sector? VELSHI: Rebecca, let me start with you on that as well. PATTERSON: Sure. I mean, we have seen massive layoff announcements from the tech sector. But, so far, the layoff announcements we’re seeing are fairly confined to parts of the economy that saw massive hiring into and during the pandemic. It doesn’t reflect a more broad-based trend yet. Key word there is “yet.” When I’m trying to understand where the U.S. economy is going I’m really looking at this interplay between the U.S. consumer and wage inflation. The U.S. consumer, as Matt pointed out earlier in our conversation today, was a huge beneficiary from the pandemic economically. The fiscal and monetary easing left them much wealthier into the pandemic than they were beforehand. So they had all this money they could spend, that demand shock adding to inflation. So, today, they have worked down that excess savings but they’re continuing to spend at a decently robust pace, primarily tapping into their credit cards. So one of the key indicators I’m watching is how long can the consumer hold up. Consumer confidence is starting to come down. Retail sales is starting to come down. I want to see that reflected in credit card usage, and when we get earnings from the banks, as we did last week, and we hear from the banking executives at Davos this week, it’s suggesting that, so far, U.S. consumers are still spending. Now, that’s important because if they’re still spending it means that companies are producing and they need to hire the workers to produce, which means the labor market stays strong and wage inflation stays elevated. Wage inflation, based on the Atlanta Fed today, is still over 6 percent and the service sector, which is very labor dependent, is by far the biggest sector of the economy. And so understanding the interplay of the consumer and wages, to me, is going to help us understand what the Fed needs to do to get inflation to target later this year and how big of a recession we might see. Right now, it’s early. The consumer is slowing but they’re not that weak yet. They’re still tapping into their credit. VELSHI: Matt, you’ve made an interesting point. Just tacking on to this question of tech sector unemployment, you’re talking about the unemployment rate exceeding 4 percent by midyear 2023, reaching about 5 ¼ (percent) by the year, the end—by the end of the year, peaking at about 5.5 (percent) in 2024. We referenced this earlier that, you know, for some of us 5 percent we always thought of as full employment. So that’s not critical. But you mention that the chronic under supply of workers may lead some companies to hoard. In other words, if they don’t need them—despite the fact that they don’t necessarily need anyone, either the acquisition cost or the difficulty in rehiring replacement workers might look too hard for the next couple years so let’s just keep them on the books. LUZZETTI: Yeah. I think you’ve seen some evidence of that over the past year. You know, we had a technical recession in the first half of last year but we’ve had a labor market that has remained incredibly tight. Job gains have been very strong. We got jobless claims data this morning—less than two hundred thousand on initial claims. So very, very low, suggestive that although there are high-profile tech layoffs, the broader labor market remains strong at the moment. I do think, you know, there’s—when you look across sectors what the most important explanatory factor for employment growth is it’s how far above or below the pre-COVID trend that sector is. Those sectors that overhired or saw this big boom in hiring are now slowing more materially, perhaps, lifting layoffs, reducing hires. Those sectors that are undersupplied or underemployed are health care and education. Leisure and hospitality are still hiring pretty robustly. It does set up this big question over the next year. It’s been this big macro debate between the Fed and Governor Waller and Larry Summers and Olivier Blanchard about, you know, how does this labor market come back into better balance; can we just have job openings come down without layoffs picking up. One, we haven’t seen that ever happen historically. But, two, I think when you look across sectors today we’re seeing those sectors that are reducing job openings are reducing their hiring pretty materially. So, to me, that tells me if new job openings come down by 3 million over the next year to bring the labor market into better balance, it’s very likely we’re going to see the unemployment rate rise. The extent of that rise may be constrained by the fact that firms want to hoard some labor because they’re concerned that if this is a shallow recession on the other side they won’t be able to re-find those workers. VELSHI: Right. Thank you for that. Alexis, over to you. OPERATOR: We will take our next question from Andy Stull, who asks: Notwithstanding the privacy and control concerns or congressional approval requirements, are there other tools in the future like implementation of central bank digital currencies that offer new options to manage economic cycles? VELSHI: Thank you for that. Matt, let me start with you on that. LUZZETTI: Sure. So, I guess, you know, certainly, from the Fed’s perspective in terms of managing economic cycles, the unconventional tools that they’ve had have become conventional tools. So, obviously, the policy rate remains their primary tool, will continue to do so. They have tools like QE, which have become conventional. Certainly, forward guidance has become a conventional tool. The Fed really expanded their boundaries of what they could do during the pandemic by opening up many of these credit facilities, which extended credit under exigent circumstances to a broad swath of the economy. You know, I think reopening those requires unprecedented events like we saw during the pandemic. I think the Fed would not like to make that the norm, going forward. And so I do think we’re in a world where, you know, the Fed’s tools are reasonably well defined at the moment. It’s the policy rate, first and foremost. If and when that gets down to the zero lower bound it’s restarting QE, and that being mostly through MBS and Treasury security purchases, and in environments where you’re seeing credit markets seizing across the board, you know, perhaps, going to the Treasury in order to get approval for these credit facilities again. But certainly I think the Fed hopes that we don’t get back into an environment where that becomes part of the new normal of their toolbox. VELSHI: And do you have a view on digital currency in the Fed? LUZZETTI: Not a strong view. I mean, the Fed, I think, has—within different officials there’s mixed views within the board at the moment. I think that they’re, you know, looking to see how this plays out in other arenas. I don’t think that they’re likely to be at the forefront of this. It’d be a little bit more of a reactionary. But not a strong view at the moment about how or when it’s going to play out. VELSHI: Rebecca, I’d love to hear your thoughts. Yeah. PATTERSON: Sure. Yeah. I have been trying to follow—I started my life in currency markets so I’ve been trying to follow crypto currencies as well. You know, the country that we’re seeing at the forefront is China of the major economies and they have been using a digital currency as a policy tool in very, very limited ways but they have been. Over the last year, year and a half, they’ve actually done what some people refer to as helicopter money but using a central bank digital currency. So they can target the exact people. They can target what they want them to spend on and for what period of time and say, we’re going to give you a digital red envelope and you can spend it on this, that, or the other over this period. So you can get extremely targeted fiscal stimulus to different parts of the economy, which I think is fascinating. So far, that sort of tool, again, has been very limited. I’m sort of surprised they haven’t used it more in the last year as the consumer has been so beaten down. In the case of the U.S., though, I do think we have no interest on being on the forefront of a digital currency. I think using more digital payments is something the U.S. is very, very keen on. But actually having a digital dollar there are so many implications, given the importance and size of our banking system, that the Fed and the U.S., I think, generally, are going to tread very carefully. I think of the major economies we’re more likely to see progress earlier from Europe. The European Central Bank has suggested they will have a digital euro within the next few years. The U.K. is also talking about that, and all of these countries are looking to those smaller, if you will, experiments happening across the emerging world to learn lessons to try to avoid mistakes as they move ahead with this. VELSHI: Satyam, I have no credibility on this conversation. In order to get some, I bought a thousand dollars’ worth of bitcoin at one point. I just checked my balance—I don’t know if you can see that—$371. So I’m going to recuse myself. But if you have a view on digital currencies and the role they’re playing, certainly, in emerging markets, as Rebecca was just referencing? PANDAY: You know, the only thing that I want to add in terms of emerging markets, you know, again, there are—they have been used as payment systems where, you know, cost of transmitting monies through the banking system is much higher over in the emerging market space. So some kind of a, you know, problem has been solved over there. But in the U.S. I’m not so sure what problem exactly it’s, you know, solving in terms of giving some, you know— VELSHI: Well, if you happen to be in Williamsburg at a bar and you don’t have cash on you it solves that problem. (Laughter.) But yeah. No, I get your point. For Nigeria and for Iran and for Russia and places like that where you needed a Dell computer and you couldn’t buy one with your credit card it solved some problems. PANDAY: Right. VELSHI: But I get your point. Alexis, do we have time for one more? OPERATOR: Of course. We will take our next question as a written question: To Satyam, could you elaborate on which emerging market economies seem to be at greatest risk in 2023? Do these nations have any common vulnerabilities? PANDAY: So, you know, I would look at some nations with, you know, twin deficit vulnerabilities in terms of your current account, you know, deficits and fiscal account deficit together. You know, Colombia sort of comes to mind right now when you sort of do a scatterplot and see where exactly these fall. You know, Colombia, Chile, they have recently been in your northwest, where both the debt and the current account, you know, deficits had been rising. In terms of Chile, though, however—you know, China does matter, maybe, and the fact that they’re going through a recession right now actually may actually get their current account deficits to move back down. Some other countries that you can think of they’re not really in your core emerging markets, per se, but they are kind of sort of on the sidelines. I think Tunisia is one place. Egypt has been in the news quite a bit. A lot of it has to do with, you know, your international commodity import prices being very high. You know, food prices have come in play for Egypt and some of the North African countries. If those were to stay, if it sustains this environment with Ukraine and Russia, you know, transferring into higher commodity prices and oil prices, I think they will be pressured to do more of, you know, consideration of how to adjust their balance sheets. So, but besides that, I wouldn’t quite point out one single country yet at this moment. You know, there are Turkeys and Argentinas. They are sort of, you know, always there that we can talk about. But, again, at this moment, there’s no other one that just sort of pops out in my head. VELSHI: Thank you for that and thank you to my colleagues here who helped us through this. This is remarkable. You know, most of my interviews on TV are five minutes long so we can never get to these things and never get to the extra question or follow a line. And I’m so deeply appreciative. We’ve taken a world tour here and I am, certainly, smarter for it. So I’m grateful to all three of you. To Matt and to Satyam and to Rebecca, thank you. Thank you to you, members of the Council on Foreign Relations, for your remarkable questions, and thanks to CFR for hosting this. Please enjoy your day. (END)

Panelists discuss the cost of China’s zero-COVID policy, the country’s dwindling economic growth, and the consequences of China’s economic slowdown at home and on its international economic relations.

Following the resignation of Liz Truss and selection of Prime Minister Rishi Sunak, panelists discuss the economic and political challenges facing the United Kingdom (UK), including calls for a general election, the soaring costs of living, and broader relations with Europe.    TREVELYAN: Thank you very much. Good morning, everyone. Thank you all for joining us for what I hope will be a fascinating discussion about “The Prime Minister’s Inbox: The United Kingdom and the Challenges Ahead.” And challenges indeed there are. I’m delighted to introduce our two distinguished panelists today. We have with us Sebastian Mallaby, the Paul A. Volcker senior fellow for international economics at the Council on Foreign Relations; and also Matthias Matthijs, senior fellow for Europe at the CFR and associate professor of international political economy at Johns Hopkins University. So, without further ado, I would like to ask our panelists—we have half an hour with them and then I’ll turn it over to you, the audience, for questions. But I’d like to ask both of them to briefly, if they could, outline the challenges. Of course, Rishi Sunak is the 57th prime minister of Britain, but he is the third prime minister in four months. He’s come to the job at a time when his predecessor, Liz Truss, lasted about forty-five days after her radical economic plan to borrow more money and to cut taxes on the highest earners was greeted with an enormous raspberry by the financial markets. It now costs much more for Britain to borrow and the value of the pound has fallen somewhat. So, Sebastian, economics is your area. If you could just outline this challenging landscape for Rishi Sunak before we get to the detail of it, please. MALLABY: Sure. Well, you did that a little bit yourself, Laura. The good news is that the markets have actually greeted both the appointment of the prime minister, Rishi Sunak, but also before that the new chancellor of the exchequer, or finance minister, Jeremy Hunt, and between the two of them they’ve kind of replaced what used to be known as the “moron premium” where, you know, Britain was paying a premium to borrow money because the people in charge were perceived as being M’s—the “moron premium” now having been displaced by the “dullness dividend,” where you have the steady hands—particularly Jeremy Hunt—who won’t do anything non-grownup, as it were. And therefore, in fact, the pound has gone back to kind of where it was at the beginning of the month and the borrowing costs not all the way back, but a good part of the way back. TREVELYAN: Very good. And so, Matthias, it was so interesting to see that after Liz Truss resigned European leaders greeted her resignation with a plea for stability—Britain, this beacon of stability, and now it’s being compared to Italy. Could you just give us your overview of the challenges facing Rishi Sunak, particularly when it comes to relations with Europe? He, of course, was a Brexiteer, but now he must make Brexit work. MATTHIJS: You summarize it very well, Laura. Rishi Sunak is actually the fifth Tory prime minister since 2016, but probably the first and only committed Brexiteer, right? Boris Johnson could be in the Brexit basket if you want, but let’s not forget he wrote two columns the night before he decided that he was going to be a Leaver rather than a Remainer. And I think many of us know, or as far as I understand, this was more about Boris Johnson’s political career. Rishi Sunak’s very different. He’s a committed Brexiteer. He believed in it from the beginning. He’s ideologically committed to it. And so the two things that I think he’ll be facing very soon are the two bills that are now making their way to the Houses of Parliament. The first one is the Retained EU Law bill, and that’s this commitment which he made last summer, as well, that basically the U.K. would get rid of any leftover EU legislation from its time as members by the end of 2023. And there’s a sunset clause in this legislation that that that’s the big discussion item. But that, of course, means a tremendous amount of work for mandarins and bureaucrats in Whitehall, and it—I mean, most experts agree here that this is completely unworkable. So how he’s going to thread that needle—because this is a very important bill for the Spartan Brexiteers, if you want, the European Research Group in the Tory party. Second bill that’s making its way through the Lords right now is the Northern Ireland Protocol bill, right, where basically the U.K. has decided to unilaterally be able to overrule some of the legislation there that was agreed with the European Union. And that’s, of course, even more pressing right now, since we know that Northern Ireland will have to have new elections now that, after six months from the previous elections, it’s clear that they can’t form a new—a new government. So these things are in his inbox right now. There’s a bit of pressure because the hope always was to sort the Northern Ireland Protocol issue by the 25th anniversary next spring of the Good Friday Agreement, and it looks very hard to do. That said, there is hope in Paris, in Berlin, and in Brussels that Rishi Sunak, given the budgetary pressures he has and given that he is a former chancellor, won’t, you know, start an all-out trade war with the EU. TREVELYAN: Indeed. Well, we will see. Sebastian, the new prime minister has been very honest about the scale of the economic challenge that faces him and he’s said that he won’t go to the U.N. climate conference that’s upcoming because he needs to concentrate on the domestic situation. But how would you describe, as an economics expert, exactly the situation that the British economy is in right now, where the government’s made a commitment to try and help people with their high energy bills and roll back these tax cuts? MALLABY: Yeah. He’s caught between on the one hand the fact that inflation in the U.K. is running very high, kind of like it is in the U.S. but a touch worse, and that’s giving rise to this talk of a cost-of-living crisis. And so to fight that inflation you need to kind of rein in demand. There’s too much money chasing too few goods. And so the Bank of England is going to be raising interest rates and the government can’t afford to run a big government budget deficit because, you know, that’s exactly what Liz Truss tried to do and that blew up. So inflation forces some austerity, but at the same time austerity is miserable and, you know, you want to protect the poorest segments of society from the effects of that. And so you’ve got to kind of both cushion the economy but do the opposite and fight inflation, and it’s how you balance those two objectives which is particularly tricky. TREVELYAN: But as a former chancellor, is Rishi Sunak well-placed to try and do it, do you think, Sebastian? MALLABY: Yeah. I mean, I think he’s pretty well-placed. I think Jeremy Hunt, although not a former chancellor before this round, knows what he’s doing as well. I think the two of them, you know, have completely done a U-turn in terms of the way in which technocrati experts are regarded. Famously, you know, Kwasi Kwarteng, when he came in as Liz Truss’ chancellor of the exchequer, the first thing he did was get rid of the top civil servant in the treasury, Tom Scholar. And now, you know, you have their kind of top civil servants being re-enthroned as the real arbiters of what you can do budgetwise. So I think Rishi Sunak, you know, knows what he’s doing. He’s going to empower the people on the staff who know what they’re doing. But you can’t escape the basic logic of an economy that is, you know, facing very tough times. And you know, some of what is happening here is the backwash from Brexit, which is pulling down, you know, both trade opportunities and just general dynamism in Britain; constraining immigration, which is another source of growth. And so, to some extent, just as Rishi Sunak on the Northern Ireland Protocol or on the sunsetting of EU regulations, those two laws that—or those two bills that Matthias was talking about, that is in a way the Brexit legacy catching up with a pro-Brexit prime minister, Rishi Sunak, so in the same way the problems in the economy are the Brexit legacy catching up with a Brexit supporter, Rishi Sunak. TREVELYAN: Interesting. Matthias, is there some hope in Europe that there could be a slightly less confrontational relationship with Britain’s new prime minister? Because since Brexit things have just been so fraught, haven’t they? MATTHIJS: Yeah. I mean, there’s always hope, right? Every new prime minister gets a bit of a honeymoon period even though, like, I think we know Rishi Sunak’s honeymoon will be—will be mercilessly short. There’s—I mean, I think often—and that’s true for Americans and Brits—they often forget that, you know, the rest of the world speak English and reads the newspapers, right? So in the EU they are very well aware that, as much as Rishi Sunak is pushing this government of all the talents, that he doesn’t have the full support of this parliamentary party, right? There’s only about thirty-nine, forty MPs that have to basically balk at something or refuse to support something and it doesn’t go through. And what is problematic—and here that’s also problematic with Rishi Sunak—he’s more willing to admit that there was a tradeoff when it came to Brexit, right? The only other real Brexiteer—Lord Frost, David Frost—occasionally does admit, you know, Brexit was about so much more than, you know, trade or economic opportunities. It was about sovereignty and taking our—you know, the fate of our country in our own hands sort of thing and other trade deals in the rest of the world. But that—as long as the Northern Ireland Protocol bill goes through Parliament and Sunak has to commit to this, that’s a nonstarter for Brussels, for EU officials, who want to see this—you know, this bill implemented, right? Sorry, not this bill implemented, but this protocol implemented the way it was agreed, you know, at the end of 2020. And there remains, you know, real worry, right, that Sunak, just like his predecessors, will be beholden to these kind of Spartan Brexiteers. TREVELYAN: The interesting thing about Northern Ireland—and I covered the Good Friday Agreement twenty-five years ago, and I remember the euphoria that night when it was signed at Stormont—Sebastian, Northern Ireland’s economy is actually doing the best, I read, out of any bit of—(laughs)—Britain currently. Is there—because, of course, it’s part of the single market still; it hasn’t made it more difficult to trade with the rest of Europe. How does Britain’s new prime minister square this circle of Northern Ireland’s relatively good economic performance and what that means? MALLABY: Yeah. I’m not sure. I haven’t looked at the growth numbers specifically in Ireland, but I do know there’s a Northern Irish budget problem, right, you know, because their power-sharing Executive has fallen apart or couldn’t even be formed. They haven’t got a budget. They, therefore, need to be covered by a Westminster budget. There’s some uncertainty around the mechanics of that. So I think you’re right that in a sort of structural way there’s still—you know, they have access to EU markets for the moment and that’s an advantage. I don’t know, but I doubt that they are escaping the general economic downturn which, after all, affects both the EU and Britain—I mean, high energy prices, high inflation, as a consequence higher interest rates. Whether you’re talking about the Bank of England or the European Central Bank, they’re both tightening. And so I think it’s a pretty grim outlook economically all over Europe. TREVELYAN: And, Sebastian, how does Rishi Sunak embrace what he’s called the opportunity and the promise of Brexit? What does that mean specifically? And will he get any of these trade agreements done, particularly the one with the U.S. which hasn’t happened thus far? MALLABY: Well, I don’t think there’s much prospect of a trade agreement with the U.S. I mean, the U.S. is not in the mode politically where it’s going to be doing a lot of trade deals. And if it were to change its mind and do a trade deal, I don’t think it would prioritize a middle-sized country like the—you know, like Britain. I mean, a deal with the EU would be far more attractive to the U.S. So don’t hold your breath on that one. I think there are other things that could be done to sort of do smarter regulation in Britain. You know, the whole series of constraints on what you can build has become totally ridiculous, both on the residential side—you know, there was this famous story where one mulberry tree attracted such a following in East London that a plan to build 291 flats in a derelict hospital—convert the hospital to useful dwelling—was blocked because of this tree. I mean, this is just—you know, I’m all for some environmental safeguards, but this is just taking it too far. You know, NIMBYism—not in my backyard—has given way to BANANA—build absolutely nothing anywhere near anything. And you know, you need—there’s been no nuclear power plants built, no reservoirs for the water system, very little, you know, fresh transport or roads. Everything’s kind of griding to a halt because the permitting system is so complex. So I think, you know, a deregulatory-minded prime minister, if willing to kind of break through the logjam and step on some toes, you know, that’s where there is some upside. And when you have stagflation—which is what we’ve got now in Britain, both stagnant economy and inflation—the only things you can do to boost growth are to do with smarter regulation, allowing more immigration, and that’s about it, right? And so I think they need to pull both of those levers, immigration and better regulation. TREVELYAN: We’ll talk about that, immigration, in just a second. But, Matthias, when it comes to the war in Ukraine, what do you think the elevation of Rishi Sunak to the prime ministership, what is—how is that going to affect the dynamic in Europe? As it seems that there are splits over the continuing costs of the war in Ukraine. MATTHIJS: Yeah. It’s a good question. I mean, this was always the main worry, I think, among political elites in Western capitals, including Washington, D.C., is that as much as there is stanch commitment to Ukraine and Ukraine’s right, and to push back Russia out of their country, there was always a worry that the public support was much more flimsy, right, was much less strong. You see this in the United States, both on the Republican and the Democratic side. But this is also the case in Western Europe. And so I think the fear is that Rishi Sunak’s treasury view on foreign policy is a much more austere view of what Britain can do in the rest of the world, right? It basically means that, you know, more sanctions would be an extra hit to the British economy. It also means that more aid, military and humanitarian, also costs more money. And at a time where the latest reports are talking about fifty billion pounds in savings either through tax cuts or spending cuts, usually defense and foreign aid are easier to do because it doesn’t affect the day-to-day population, right, in the United Kingdom. That said, he did keep Ben Wallace, the very highly respected defense secretary who’s stanchly committed to the Ukraine war effort. But what he notably did not commit to is the rise in defense spending in the U.K. towards the 3 percent mark of GDP. Because I think, honestly, there is just no budgetary room for maneuver there. So if you’re Zelensky you’ve got to start worrying, right? This is not going in the right direction. And interestingly enough, I think when it comes to Ukraine unlike when it comes to Brexit and the things that still need to be sorted out, Sunak is probably closer to the views in Paris of Emmanuel Macron and of Olaf Scholz in Berlin that, you know, without stating it openly—you usually catch them off guard—but, you know, they are starting to talk about, OK, how does this end? At some point, when do we sit down? And what will this peace look like, right? And I think that is something that a Prime Minister Sunak will now have to start thinking about as well. TREVELYAN: And, Sebastian, how does Britain’s prime minister afford the continuing cost of the war in Ukraine? Boris Johnson and Liz Truss were fervent in their support of Kyiv. Britain has supplied numerous missiles. But what is the cost? And how does he continue with it? MALLABY: Well, you know, obviously he has to make tough choices. There are lots of ways you can raise tax or cut your spending. None of them are delightful. And it’s just going to be a question of whether Sunak, out of some combination of moral commitment to Ukraine perhaps or just maybe political self-interest, he may view staunch support for Ukraine as a device to keep his party united. And I think that’s the sort of sliver of hope maybe in Matthias’s somewhat downbeat analysis, you know, in terms of Ukrainian interests, at least. I mean, the thing that might make Sunak stick to supporting Ukraine is a sense that all of his party supports it. And that’s one thing he can hang onto. And you know, if he wanted to do that, he would just need to cut a bit more spending on the domestic front and raise a bit more revenue. There are things he could do. I believe, for example, that a windfall energy tax makes eminent sense. You know, Shell just reported record earnings. These are earnings that it didn’t expect to make but it—you know, the Ukraine war pushed up energy prices, and so Shell, you know, is able to increase its dividend to its shareholders by 15 percent. Why did the shareholders really deserve that? I mean, they didn’t do anything. And nor did they even buy the shares in the expectation of getting a higher dividend, because they didn’t predict the war. I mean, it feels like you’re not hurting investment incentives if you say to Shell, you got this by mistake because of the Ukraine war. We actually need the money for the Ukraine war. So we’re going to tax you and use the money to sustain our support for Zelensky. It seems totally reasonable to me. TREVELYAN: Interesting point. And, Matthias, when it comes to President Macron in particular, who always has a grand vision for Europe, how do you think he might use the youth, the appeal of Britain’s new prime minister, the first prime minister of Indian descent, perhaps someone who’s a bit less encumbered with some of the ideology of Brexit, in a way—how could he use that to enhance his vision of the different tiers of Europe, do you think? MATTHIJS: Yeah, it’s an excellent question. Let me just briefly come back to what Sebastian said earlier. And it reminded me of Robert Shrimsley in the Financial Times who said that— TREVELYAN: An excellent writer. MATTHIJS: Hmm? Excellent, yeah. He said: Rishi Sunak is offering Johnsonian but without Johnson and without money, right? And so there’s a lot less appeal to that in many ways, because that’s really what kept the party together, and the different factions, and so on. So when it comes to Macron, I mean, it is interesting, right? I mean, they’re very close in age, in that sort of early to mid-’40s. And honestly, I mean, the biggest problem on the domestic side, on the immigration side, for Rishi Sunak is, you know, the illegal travels of migrants from France to the U.K. So it’s not that hard to come up with some sort of deal there that then allows the border patrol in France and the Coast Guard to kind of basically bring back many of those, you know, boats that may be very perilous journeys across the English Channel. And that’s something I think both can agree on. I mean, in the end, there needs to be a modus vivendi between France and Britain. I mean, I think it’s too early to tell. Macron’s vision of this kind of European political community, which basically is, you know, something between membership and non-membership, but at least it’s understood that this would include countries like Turkey, Ukraine, definitely, but also the U.K. So, Norway. Countries that aren’t members of the EU but have, you know, common foreign policy interests. That—I think this is something clearly—Truss showed up for the first meeting, which was already a big diplomatic coup for Paris. But I don’t see why someone like Sunak wouldn’t want to continue this, right? This kind of much more positive engagement on foreign policy with the EU, where there are clear common values, right, to uphold. TREVELYAN: And, Sebastian, Matthias mentioned there this idea of maybe kind of deal with the French on immigration. You talked about the importance of Britain having more immigration, just because of the state of the workforce. How do you see the new prime minister charting a course her? Immigration having been such a fraught issue since Brexit? MALLABY: Well, I mean, what they seem to want to do and what’s been going on even before Sunak came in is—open immigration from other EU states has been stopped. But a point system, where you bring in skilled people from other countries, is very much, you know, going ahead. And so people are immigrating to Britain from India and from other countries outside. You know, I think India and Nigeria may be the two top suppliers of immigrant workers into the U.K. at the moment. And you can dial that up. And somehow, the polling evidence I’ve seen suggests that U.K. public opinion, which had been rather anti-immigration before Brexit, and I think it was a big driver of the Brexit vote, seems to be more OK with the point system-based immigration policy that brings in people from India, Nigeria, and so forth. TREVELYAN: Now, before we move to the Q&A, I have to ask you both this question that people ask me in the street all the time, as a Brit. Which is, you know, really what has happened to Britain since 2016? And how this reputation for political instability which we’ve acquired over the last few months, how that—has that caused reputational damage to this country that was synonymous with the oak tree, somewhere that would bend but not break, and has come perilously close to seeming unstable? So, Matthias, I have to ask you, how is Britain viewed these days in European capitals? And what does Rishi Sunak have to do to stabilize the reputation? MATTHIJS: Yeah. I mean, this is the inevitable consequence of a very narrow Brexit vote, right? I mean, we don’t have to revisit this, but let’s not forget 60 percent of London didn’t vote for this. You know, the Scots didn’t vote, the Northern Irish didn’t vote for this. It was a very English nationalist vote, in the end. And then the path dependence of different decisions that were made. The hardest of Brexit that was decided on because it was the only internally logical solution. But I think also what worries many people in European capitals is that because of Boris Johnson’s 2019 victory, this really was a kind of cleansing of the Tory party, right? I mean, many kind of centrist Tories basically left the party then, because they didn’t want to sign the pledge—the Brexit pledge that everybody had to, in 2019. So I think the Conservative Party lost a lot of—lost a lot of talent. Also, I mean, what Sebastian mentioned, the fact that investment hasn’t recovered since 2016, the trade, I mean, this is also—I mean, international investors think twice about this as well, right? I mean, the appeal of the U.K. was a relatively low-tax country, somewhere in between the U.S. and Europe, that had direct access to the European market. That spoke English, that had common law, that had rule of law, and things like this. So that, I think, is something that will take years to recover, right? I mean, it was never going to be as bad as people predicted, but it definitely matters. I mean, there’s a reason why the U.K. is the only G-7 country that hasn’t fully recovered from the pandemic, for example. I mean, other European countries have. And I think this is something that, you know, is going to stay with us for a while, unfortunately. Laura, you’re on mute. You’re on mute. TREVELYAN: Thank you for that. And, Sebastian, Boris Johnson, the prime minister before the last one, famously said “hasta la vista” when he left. He hopes to be back. He almost ran again but didn’t quite because he didn’t feel he had enough support. The fact that he’s waiting in the wings. He’s talking about coming to Washington on a tour to support Ukraine and shore up support for Ukraine. Is there a political instability that affects the economics and complicates the job of the new prime minister? MALLABY: I mean, it’s sort of nightmarish, isn’t it? You’ve got this person in the wings who, you know, in the statement he issued when he decided not to run for prime minister this time says, well, I might do it later. And if I’d run this time, maybe I would have run. Anyway, I can probably win in the future. I mean, he couldn’t have made it worse for Rishi Sunak, the way he phrased all that. And then to show up in Washington afterwards compounds the issue. And so I think we have to hope that people will gradually figure out that, you know, Boris Johnson is a talented man, whose talents lie in being a TV personality, a Telegraph columnist, and an amusing speaker for after dinner purposes, not for PMQs, Prime Minister’s Questions. And so, you know, and that bit by bit people in Britain come to accept— TREVELYAN: Oops. Sorry. We just—we just lost Sebastian there. This is one of the perils of Zoom. But we are just coming to the end of our chat. And I would like now to thank both Sebastian and Matthias for that, what they had to say there. And I’d like to open it up to the participants that we have here for this corporate program virtual meeting, The Prime Minister’s Inbox: The United Kingdom and the Challenges Ahead. Just a reminder that this roundtable is on the record. So if you have any questions please come forward. And if I could just ask you to say who you are, and if you’re directing your question towards one of our speakers, do do that as well. So may we have the first question, please? And I hope that Sebastian is able to rejoin us. (Laughs.) OPERATOR: We will take our first question from Jim Winship from Diplomatic Connections. What is the future of the commonwealth? Will there be an effort to keep members of the commonwealth, even if they cease to recognize Charles III and his successors as their head of state? Is there any possibility that the commonwealth could play a role as a trade zone that might pick up some of the slack created by the U.K.’s exit from the EU? TREVELYAN: Well, that is an excellent question, as a number of commonwealth countries have announced that they’re going to be holding referenda on whether or not to keep the king as head of state, since the death of the queen. Sebastian, are you back with us? Are you able to answer this question about the future of the commonwealth, and perhaps it’s role economically? OPERATOR: Sebastian has not yet reconnected. TREVELYAN: OK. Matthias, I’m guessing that the commonwealth may not be a question for you, but if you have some— MATTHIJS: No, no, no. I’ve been studying the U.K. for twenty years. Happy to— (Cross talk.) MATTHIJS: —to some extent. It’s a good question, right? The problem with trade deals all over the world—with India, with, you know, New Zealand, Australia, the U.S., is I’m not so sure that this is something that has a broad support framework in the U.K. overall, right? I mean, if you take the United States for example, what is the U.S. going to want out of a trade deal from the U.K.? We’re going to want access to financial services in the city of London. They’re going to want to pharmaceuticals to be able to play a role in the National Health Service. They’re going to want agricultural access, right? I mean, then chlorinated chickens and genetically modified organisms and things like this come into the discussion. This is not something that even pro-Tory tabloids are waiting for. So I think there’s this kind of huge misunderstanding that somehow what you give up in the EU you can just replace in other commonwealth countries, right? I mean, there was this excellent Financial Times video on the costs of Brexit. It was about a half an hour, which everybody should watch. TREVELYAN: Yeah, I saw that. It’s got over two million views, and I would thoroughly recommend it if one hasn’t seen it. MATTHIJS: Yeah. And what you see there are all these small business owners who had made their whole business model based on, like, exports to the single market, and how quick it was, because it was only two days shipping and things like this, and no paperwork. And they’re now saying this takes much longer. And so to replace that market with another market much further away is just very hard to do. And then of course, politically, yeah, I think as the question already implies, right, I mean, King Charles III has much less appeal than his mother did, Elizabeth II, as this kind of symbol of stability, right? And so that, Laura, to your earlier question of Britain as this kind of temperate—you know, this kind of good temperament of a country, and this stable government. And part of this was the queen, right? It was this symbol of continuity. And it’s not clear that her son of the same caliber. TREVELYAN: Well, the commonwealth countries certainly are holding referenda, a number of them, especially in the Caribbean. Let me just see, is Sebastian back with us? MALLABY: I hope so. Can you hear me? TREVELYAN: Excellent. Hello. Sebastian, I don’t know if you heard the question, but it was an excellent one. It was about the commonwealth, and what relations will be economically, and whether this could be—what the new prime minister—how he will handle this slightly tricky moment, really, after the death of the queen with commonwealth countries reconsidering their relationship with the British monarchy, and with Britain itself. MALLABY: Well, I mean, I take Matthias’ point that, you know, King Charles is not quite as attractive a figure as his mother. And that’s probably going to have some impact on the commonwealth. I suppose against that, it’s good that Britain has its first, you know, person of color as a prime minister and that, you know, if you look back at the Conservative Party contest to take over from Boris Johnson, in fact, there were eight candidates. Four were white, four were not white. So I think there’s something to be celebrated there in the multiracial composition of a British leadership which, if you are a member of the commonwealth, might slightly increase the appeal of Britain. TREVELYAN: Thank you very much, both of you, for answering that question, and to Jim for the question. Could we take the next question, please? OPERATOR: We’ll take our next question from Dov Zakheim. Q: Thank you. It’s Dov Zakheim. You were close. My question is about defense and the U.K. Sunak seems to have pushed back on really serious defense growth that Johnson pushed and that Truss pushed, and that Ben Wallace pushed. And, you know, Ben Wallace almost walked away from the job this week because of that. What is your sense of where Sunak really stands on defense spending in Britain? Because that’s one of the Britain’s probably strongest hands vis a vis Europe, given its defense spending levels. Thank you. TREVELYAN: Yeah. Thanks for that question. And, Sebastian, you talked about this a little bit earlier, but perhaps you’d like to elaborate on Britain and defense spending. MALLABY: Yeah. I’m sort of guessing a bit. But, I mean, if you look at, you know, who Sunak is, what his background is, right? He’s somebody who spent time at two different hedge funds, went to Stanford Business School, joined the government where he had portfolios that were notably in the Treasury, where he served in both the junior minister job and the senior one, and one other domestically oriented job, as far as I recall. He is really not a foreign policy or defense policy kind of person. And insofar as he’s an international person, he’s international finance not international defense. And as somebody who myself spends a lot of time speaking to people in international finance but works at the Council on Foreign Relations, I’m very aware of the sort of tribal difference between people who think about defense and people who think about finance. And the finance types often just speak a different language and have a whole different set of priorities. So I think it’s a fair supposition. And you look at the way that, you know, Sunak has blown off the idea of going to the COP summit, which, you know, I think prime ministers ought to be able to do some multitasking. And just because you go to a COP summit doesn’t mean you’re not focused on figuring out your domestic budget priorities. But if you—I think—I think somebody more seasoned in international relations would not have made that call of just not going. So I think, you know, you look at Sunak, not somebody who’s obviously going to be committed to the British tradition of military—sort of military prioritization. You look at James Cleverly, who’s the foreign minister and relatively, you know, new to that, and Ben Wallace remains the sort of standout individual who’s got some experience in what he’s doing as the defense minister, and some clout. Because both this time in the leadership contest and the previous time, before the contest really go underway Ben Wallace was spoken of as a natural successor. And both times, he decided not to run for his own reasons. But he has that standing in the party. And I think Sunak couldn’t afford to have him leave the Cabinet. He’s got enough trouble in terms of party unity. So Sunak’s—you know, when Wallace makes a threat to resign, that’s a pretty powerful threat. Sunak has to listen. So what I’m sort of hoping is that you look at the constellation of people and essentially, you know, Wallace is going to be driving foreign policy and defense policy. And that’s probably good news in terms of the prospects for Britain’s continued serious engagement in the world. TREVELYAN: And, Matthias, what do you think it means for EU leaders, the fact that Britain’s new prime minister perhaps has a slightly less hawkish stance on defense? What will that mean? How will that be interpreted in the European capitals, do you think? MATTHIJS: Yeah, no, I think Sebastian summed it up quite nicely, right? I mean, you have Ben Wallace, who he can’t afford to lose, who has a strong support and backing in the party. That said, he does have a real budgetary problem on this hands. So you’re not going to see the kind of increases that Boris Johnson promised a few years at a time when there was—when there was money, right? So I don’t think the support for Ukraine will stop or even weaker in the short term, but the commitments won’t increase, right? And that’s probably what Ukraine needs right now. When Sunak was running again, for the second time, to become leader, I think that was the worry amongst the foreign policy hands of the Tory party, right? That he was completely inexperienced in foreign policy, and that this was—this was not the moment, right, to give Putin, if you want, those chances. That said, I mean, like, you know, he seems to be—it’s not that his foreign policy instincts are out of the mainstream either, right? It just happens to be the case that he comes at this from a financial point of view. But it does seem that he is closer to European leaders on many foreign policy issues than maybe his predecessors were. TREVELYAN: Thank you both for answering that question and thank you to Dov for the question. And I would urge all those that are sitting in on the meeting or are participants, thank you for being here. And please do ask some more questions. I don’t think that we have any in the queue right at this moment, so I’ll ask a few more of my own. And, Sebastian, just tell us, how do you think Rishi Sunak’s background—his MBA from Stanford, the fact that he was the chancellor, his views on London as a financial center—how is he going to square the circle after Brexit and try to make London realize the opportunity of Brexit as a financial center, despite some of the inherent issues in having left the EU in doing that? MALLABY: Well, I mean, I think one strength that Matthias mentioned in passing but really has not been undermined by Brexit is the common law system. And you know, the ability—you know, in a common law system, commercial lawyers can write contracts as they wish, and unless it’s proven that they are illegal they are OK. In the continental European system, you have to affirmatively be told they’re legal before they’re OK. So there’s a lot more innovation and sort of kind of business-friendly contract writing that can go on in London. In that sense, it’s like the U.S. And so for the Anglo-Saxon world, this is a system that is pro-business and it’s familiar. And I think that is an enduring strength of Britain as a financial center which I wouldn’t write off despite Brexit. And I think that the English language—the sheer fact that, you know, a very large number of people who are responsible for allocating capital in the world speak English, feel comfortable in London, understand how Britain works even when it’s not working terribly well, that can be an advantage for Britain in terms of being a financial center. We have to remember that over the last pretty much hundred years there’s really been just two serious global financial centers, only two, and these are New York and London. There’s amazing sort of stability in that fact. And after Brexit was voted, all the big banks did, you know, careful exercises about how they could hedge against London being less attractive because of Brexit and it was very hard to find an alternative, and in fact there isn’t one. You can move bits of your operations into Dublin, but Dublin is small and you can’t fit too many people in the offices there; just aren’t enough—not enough real estate. You can go to France, but there’s problematic labor law in Paris. You can go to Frankfurt, but it’s quite hard to persuade your sort of senior staff that they want to live in Germany, and specifically in Frankfurt. So there are all these issues. And I know lots of people at banks who were in charge of running these exercises and they kind of tore their hair out because it was so hard to figure out an alternative to London. So I think, you know, roughly kind of pro-business environment from a Conservative leader is sort of all you need to keep London relatively healthy as a financial center. TREVELYAN: All right, good. And we have a question, actually, in the chat from Meredith—thank you, Meredith—which says: Can you update us on how the Labour Party is approaching the new prime minister? What is Labour’s position on pursuing a trade agreement with the United States in the event the Biden administration would become more interested? And, Sebastian, I’ll just go back to you on that one. Perhaps you could answer it. MALLABY: Well, I mean, Labour’s position has been that they’re calling for a general election. They think that, you know, for the Conservative Party to have a selection process, not even an election process, this time and install somebody who doesn’t have a popular mandate is unacceptable, and therefore, they’ve been saying, you know, we need to have another general election. The fact is the Conservatives will just ignore that. There’s nothing that forces them to listen to what Labour wants. So Labour can say that—and probably secretly they actually would be quite happy not to have a general election, in a sense, because the next year or two are going to be horrible because of the stagflation that we talked about earlier, and so allowing the Conservatives to, you know, manage the mess may be a smart move for Labour. So I think for now they are just going to be a determined opposition. What their views are on a trade deal with the U.S. I’m not sure, but it’s irrelevant because I know what the U.S. view is, which is that the U.S. isn’t particularly interested. So, you know, that’s how I would leave it. TREVELYAN: And, Matthias, how is all this viewed in Europe, you know, Britain scrabbling around, trying to get these new trade deals having decided to make it more difficult to trade with their nearest neighbor? MATTHIJS: Well, on the Labour question, I mean, it is clear that Keir Starmer’s view of Brexit is to make it work better, right, is to basically improve on the trade deal—the very thin trade deal that Boris Johnson concluded around Christmas 2020. And so, I mean, for many, you know, small businesses, for services sector, there’s a lot of things that you could improve. Actually, even when it comes to the Northern Ireland Protocol, you know, signing up to the kind of SPS sytophanitary (sic; phytosanitary) and—you know, kind of regulations that the EU has would solve a great deal of trade that goes between Great Britain and Northern Ireland. It would simplify this whole thing, right? So what they—what Labour hasn’t come up with—where they’re not going, that’s in the end to the big—the omerta, if you want, the promise of silence. It’s that—you know, and they’re not really talking about that it was a mistake, right, or that there are real costs to this, that there were massive tradeoffs to this. But they don’t really want to suggest, you know, some sort of single market arrangement or some sort of customs union arrangement, even though it probably would solve a lot of economic problems. But it would go against the idea of sovereignty. They also have an issue on immigration, right, where they’re moved away from the kind of harder line under Jeremy Corbyn. But you know, here again—so it’s—there’s no good options, it seems to me, to Labour right now, and so I think Sebastian is absolutely right. I think they’re very happy that there won’t realistically be a general election any time soon because, you know, a Labour government that can’t spend and has to do different kinds of austerity and maybe more tax increases, this is not a greatly appealing prospect. That said, Labour does look more now than it did three years ago or five years ago like a government in waiting. And that—if you look at the polls, if you look at how they’re perceived by financial market participants, it’s clear that people have a certain kind of trust in Keir Starmer that they didn’t have in his predecessor, Jeremy Corbyn. TREVELYAN: Yes, and although it may well be two years before there’s actually a general election in Britain, at least. We do have a question. I’d like to hear the next questioner, please. Thanks so much. OPERATOR: We’ll take our next question from Doug Rediker. Q: Hey, Sebastian. Hey, Matthias, Laura. Just a question for you on Macron’s political—European Political Community initiative—and the U.K. actually participated—whether you think that Sunak and any subsequent government might continue along the lines of trying to dip their toe into some broader definition of Europe and Macron’s vision or whether you think that’s just a Truss initiative under the moment and the U.K. is not going to pursue that even if it does go ahead under Macron’s guidance. TREVELYAN: Sebastian, we’ll go to you first. MALLABY: Well, I mean, Matthias sort of laid out the view that, you know, why would Rishi Sunak not show up at the next meeting of this sort of, you know, nonmember but associate whatever it’s called. That makes sense to me. I think we should remember about Sunak, although Matthias is quite right that, you know, he was a—more of a real Brexiteer than Boris Johnson, and in that sense it’s the first time arguably that we’ve got a committed Brexiteer as prime minister, it’s also true to say that there may well have been some political calculation in Rishi Sunak’s position on Brexit; you know, he wanted to—he could see that, you know, that was the tide of the party, and he wanted to rise in the party. And furthermore, we should remember that he voted in favor of the more pro-trade sort of closer-integrated option that Theresa May negotiated when she was prime minister, so he favored a softer Brexit than the one we’ve actually got now. So, therefore, I would expect that, you know, he would do the sensible thing, which is, you know, explore ways of making the relationship with Europe work better, you know, even in the context of, you know, Brexit has happened and we’re not going to revisit that. TREVELYAN: Matthias, you said a little bit earlier about Macron and the European Political Community initiative. Do you have anything to add on it? MATTHIJS: Yeah. I mean, it was—the Prague summit was seen as a success because, first of all, it happened, and it was a French initiative, and a lot of people showed up, and I think a lot of EU leaders and non-EU leaders—broadly speaking, European leaders—thought it incredibly helpful, especially from a bilateral point of view, right? So it may not be the best forum where you’re around 50, you know, heads of government and state around the table, where they all go around and give an opening statement, and then they all go around and give a response or something. But the bilaterals were incredibly useful. So, I mean, even from a kind of—a pure cost-benefit analysis point of view—and you know, Sunak is, you know, good at finance, right—this seems like a very efficient use of time because there are all these kind of bilateral issues that the U.K. may have with, you know, Baltic countries that are much easier solved in that sort of context. Of course, I don’t see neither Truss nor any successor is going to go very enthusiastically in this, in the end, French view of a European Political Community, right? I mean, it would be one thing if Britain was co-leading it. And that will be interesting to see. I mean, there was talk about whether it could be in the U.K. next, it could be held in London and Sunak could be the host of it. I mean, that’s not going to happen tomorrow, but you know, you could see this happen down the line where then you could claim, well, you know, Britain is leading again in Europe and so on. But, yeah, it’s unclear, right? We’re in the very beginning of this. For Balkan countries and for, like, Ukraine, this is a very halfway house. They really want full EU membership, so they don’t like it for that reason. But countries like Turkey and the U.K., who have no plans of joining the EU any time soon—at least not under the current leadership—this may well be a much more, you know, constructive exercise of engaging in kind of, you know, things, you know, common interests that can be solved together. TREVELYAN: Thank you, Matthias and Sebastian. And thank you, Doug, for that question. We have a written question now from Chris Wall, who says: There have been reports that the proposed budget would have 10 to 15 percent cuts across all areas, while others have argued that certain areas should be prioritized. What, in your view, would be the most palatable and politically feasible program for reducing expenditures in the next budget? Sebastian, over to you. MALLABY: Well, I think if you start from the principle that you’ve got to shrink the deficit but you don’t want to inflict undue hardship on the poor sections of society, the main point to start with is it’s better to raise taxes than it is to cut spending. The fact is, in the U.K. we already went through a round of austerity after the 2008 financial crisis, and you know, public expenditure was squeezed. And the results are that, you know, public services suffered. And the National Health Service already has a record-low waiting list. There’s, you know, threats of a strike by NHS workers because they’re so fed up. And it isn’t actually a good way of saving money to squeeze these public services further, such that doctors and nurses quit and then you have to rebuild the service at greater expense later on. And in the same way, public expenditure on infrastructure, if you don’t do it, you don’t do the maintenance, it ends up costing you more to fix it later. If you don’t, you know, spend money on something like, you know, climate retrofits of buildings—in other words, better insulation—you’re not going to be saving energy and that’ll cost you as well. So there are a lot of types of cuts to expenditure which would be, you know, penny wise and pound foolish, as the Brits like to say, just false savings. And it’s way better, I think, to look at fixing the problem on the revenue side. Now, revenue side I mentioned already one idea, which is a windfall tax on energy companies, which I really don’t think damages incentives for future development of energy projects. I mean there may be some marginal impact, but there are no easy choices here. So that is a choice I would emphatically make. I also think that in an ideal world you would have a higher property tax in the U.K. Relative to the U.S., U.K., you know, taxes on property owners are extraordinarily low, and that doesn’t make sense. There are a lot of people—it’s a good way of doing a wealth tax. And I think if you’re worried about some inequality and you don’t want to damage incentive too much by raising interest rates—I mean, sorry, raising income tax—then I think doing it on the wealth tax side would make sense. TREVELYAN: Very interesting, this idea of the tax on the energy windfalls. We have another question in the queue. Let’s hear the next question, please. OPERATOR: We will take our next question from Jimmy Kolker. Q: Thanks very much. And talking about budget cuts, one of the areas in which the U.K. has fallen behind some of its comparable nations is on foreign aid and international development leadership. And Matthias talked about not meeting the 3 percent target on defense for budget constraints, but the foreign aid target has been shrinking from 0.7 to 0.5 and now maybe further. Do you think that the prime minister’s origins—with a(n) Indian background, his parents growing up in East Africa—will put that in a protected category of something in which he’d take a personal interest? Or is Britain’s foreign aid and former DFID shrinkage likely to continue? TREVELYAN: Interesting question. Matthias, what do you think? MATTHIJS: Yeah. This was definitely the number-one target under the previous Truss-Kwarteng government, when they were still in power and they were looking for savings after their, you know, non-funded tax cuts, that foreign aid was going to be, you know, reduced further. I mean, there is a constituency among the Tory party that feels very strongly about, you know, keeping it where it is and even increasing it. Yeah, there are reasons to believe that Sunak sees this as important enough to keep. That said, you look at some of the statements they made—the eye-wateringly difficult decisions that Jeremy Hunt talked about; you know, the severe economic crisis that Sunak talked about. I mean, they are going to be looking for savings, right? I mean, Sebastian’s absolutely right. You can’t cut all departments by 10 to 15 percent if they’re already bare-bon. So, I mean, if you read some of the reports of the state of the NHS, of hospitals, of education, there’s not that much more there to cut. So I think it’s fair to assume that it’s not going to be increasing back to 0.7 percent, but there’s probably some optimism warranted that it won’t be cut that much further. It’s also not the kind of thing where you can save a tremendous amount of money on either, right? I mean, yeah, you could just do it by some tax increases. That said, I mean, why was Rishi Sunak so unpopular amongst the right wing of his own party? Because his instincts were to raise revenue, right? Martin Sandbu of the Financial Times—sorry to keep mentioning Financial Times; I’ve been reading a lot of it recently—but he calls it the Nike strategy, just pay it. If you have a shortfall in spending, just raise the extra tax of it. And he thinks that that would be much easier to do and much easier economically to do than it probably would be politically. TREVELYAN: Thank you for that. And, Sebastian, what are your thoughts about the foreign aid budget in Britain, and how Rishi Sunak will handle that, and whether he’ll prioritize it because of his origins? MALLABY: You know, I don’t know how much his origins really are going to play into this. I mean, you know, yes, you know, there was an East African-Indian immigrant story, you know, two generations back, but we’re talking about a man who has, you know, been known to show up at political meetings in a helicopter; you know, whose family net worth is in excess of 700 million pounds; who went to Stanford Business School. I suspect, you know, his immediate environs may matter a little bit more to him than sort of where his grandparents came from. And if anything, you know, he has talked rather movingly about what it meant to his grandfather when he, Rishi, became a member of Parliament, and that this was sort of, you know, breaking—you know, this is the upwardly-mobile immigrant story. It’s that kind of part of the immigrant experience and the ethnic minority experience that seems to play with him, more than the sense that he’s got some sort of rootedness in East Africa or in India. So I don’t know how much that plays. You know, a friend of mine who was involved in development aid in the U.K. government a few years ago used to joke that the question was how you—how you turn British people into Denmark—into Danish people. They seem to be happy in Scandinavia to maintain 0.7 percent of GDP commitments, kind of insisting that over different governments. There was a bit of an anomaly, I think, in the new Labour years where Britain became Danish, and now it’s kind of reverting to type. And I’m not sure that’s going to change. TREVELYAN: Well, thank you so much, Sebastian, for that, and also to Matthias for your contributions. And thank you to everybody who has joined us for this session on “The Prime Minister’s Inbox: The United Kingdom and the Challenges Ahead”—numerous challenges, as we heard outlined there by our panelists. But thank you to everybody for participating and thank you to the Council on Foreign Relations for organizing. And I hope you all have a wonderful weekend. Thanks so much. Bye-bye. MATTHIJS: Thank you. MALLABY: Bye-bye. (END)  

Join Mary Daly of the Federal Reserve Bank of San Francisco as she discusses the Fed’s dual mandate, the pain of high inflation, and the outlook for the U.S. economy. The C. Peter McColough Series on International Economics brings the world’s foremost economic policymakers and scholars to address members on current topics in international economics and U.S. monetary policy. This meeting series is presented by the Maurice R. Greenberg Center for Geoeconomic Studies.

Zongyuan Zoe Liu, CFR fellow for international political economy, discusses global factors and trends contributing to inflation in the United States along with Justin Backover, business and policy reporter at WFMZ-TV 69 in Lehigh Valley, Pennsylvania, who suggests how to frame stories on this subject for local communities. The series is hosted by Carla Anne Robbins, senior fellow at the Council on Foreign Relations. TRANSCRIPT   FASKIANOS: Welcome to the Council on Foreign Relations Local Journalists Initiative Webinar. I’m Irina Faskianos, vice president for the National Program and Outreach here at CFR. CFR is an independent and nonpartisan membership organization, think tank, and publisher focusing on U.S. foreign policy as well as an educational institution. CFR is also the publisher of Foreign Affairs magazine. As always, CFR takes no institutional positions on matters of policy. This webinar is part of CFR’s Local Journalists Initiative, created to help you draw connections between the local issues you cover and national and international dynamics. So our programming puts you in touch with CFR resources and expertise on international issues and provides a forum for sharing best practices. So, just as a reminder, this webinar is on the record. The video and transcript will be posted on our website after the fact at CFR.org/localjournalists. We are pleased to have Zoe Liu, Justin Backover, and host Carla Anne Robbins with us today to discuss reporting on inflation and the U.S. economy. We’ve shared their bios with you, so I’ll just give you a few highlights. Dr. Zoe Liu is a CFR fellow for international political economy at here. Her work focuses on global financial markets, sovereign wealth funds, supply chains of critical minerals, development finance, emerging markets, energy and climate change policy, and East Asian-Middle East relations. Previously, she was an assistant professor at Texas A&M’s Bush School of Government and Public Service and completed post-doctoral fellowships at the Columbia-Harvard China and the World program and the Center for International Environment and Resource Policy at Tufts University’s Fletcher School. Justin Backover is the business and policy reporter for the WFMZ-TV 69 news team in Lehigh Valley, Pennsylvania. He leads nightly news coverage on economic topics from Main Street to Wall Street, including federal and state economic policy, infrastructure spending, and the ongoing recovery from COVID-19. And prior to joining WFMZ, Justin Backover was a junior reporter at WTXF 29 in Philadelphia. And, of course, Carla Anne Robbins, she’s an adjunct senior fellow at CFR, the host of this webinar series. She is the faculty director of the Master of International Affairs program and clinical professor of national security studies at Baruch College’s Marxe School of Public and International Affairs. Prior to that, she was deputy editorial page editor at the New York Times and chief diplomatic correspondent at the Wall Street Journal. So thank you all for doing this. Carla, I’m going to turn it over to you to take the conversation away. ROBBINS: Thank you so much, Irina, and I will tell you that all of my friends at the Wall Street Journal would always say, Carla, don’t write about economics. It’s not—but I learned a lot by sitting next to them. So at least I can ask questions. Zoe and Justin and Irina, everybody—and everybody on this webinar today, thank you so much and thank you so much to all the journalists who do the jobs that you do, particularly right now, which is such an extraordinary time to be a reporter, and I miss it. I miss it every day. So, Zoe, can we start with you? Just actually a little bit of just orientation of everybody here. A lot of people here have already been with us and know it, but we’ll chat among us for about twenty, twenty-five minutes, and then we’ll throw it open to the group. If you have questions along the way, do not hesitate to put them in the chat—raise your hand or whatever—because we want this to be very informal. And, of course, Justin, ask Zoe questions. Zoe, ask Justin questions. And we will all ask each other questions and learn a lot, I hope. So, Zoe, can we start with a level set? This is—today’s a tough day to be the person who cares about the market, of course. What is going on with the U.S. economy? I mean, unemployment is historically low—3.7 percent. When I go to fill up my car and see gas at $3.50, you know, I feel pretty good. Then I go into the grocery store and I’m blown away at the prices. And today’s inflation report—an 8.3 percent rise in CPI was, clearly, not what Wall Street or the White House wanted to hear. So can you give us some sort of a sense of what’s going on right now and where it is likely going, and if we don’t know where it’s going why don’t we know? LIU: Yes, and thank you very much, Carla, for this great opening ground-setting question, I would say. And also, please let me just say that I’m very honored to be here. You know, in my research I rely a lot on conversations with journalists and as well as the journalists’ reporting. So thank you all very much for your great work. And you know, it just goes back to your question. Yes, I would say, absolutely, right now it seems that if we look at all the economic indicators it looks like we are in a very chaotic time because it looks like all the indicators are pointing towards different directions. You know, are there signs of strength? Yes, there are signs of strength. For example, you know, consumer spending grew relatively faster, especially in the second quarter, and we are also talking about relatively growing and especially rebounding corporate profit. And then there is also at the individual level we are talking about personal income level goes up, which is, obviously, powered by a very strong job market and a relatively low unemployment rate, as you mentioned earlier. And then, on the other hand, are there signs of weakness or even triggering certain concerns about a hard landing or even recession? Yes, there are. You know, on the one hand, we are looking at businesses might have pulled back in terms of the investment in equipment as well as in buildings in Q2 and then we also see a falling in terms of construction activity at home, which is—you know, the fall is relatively—has been relatively sharper than we anticipated. Basically, it was primarily driven by relatively expensive to borrow right now. And then those are, you know, like business investment construction. And then, finally, I think, Wall Street likes to use a very concerning recession indicator card, the inverted yield curve. The idea was, you know, normal. So there’s nothing significant—you know, magic about it. It’s just that, you know, in normal times, near-term yield is lower than longer-term simply because of the maturity aspect of it. ROBBINS: High yield. Yeah. LIU: Right. But now, you know, and for the past half of century, you know, when economic historians look at the U.S.—in particular, U.S. recession numbers and it’s obviously that there is this, you know, inverted yield curve seems to be a leading harbinger. And it happened twice, if I remember correctly—in April once and then early July, another time. So people started to be worried to what extent this might be leading to a recession. However, I will say—well, I would say I’m personally relatively optimistic in terms of our economic outlook and I think right now we are not in a recession or at least, you know, it’s not officially declared by the National Bureau of Economic Research, right, specifically because there are signs of—a lot of signs of (oxygen ?) and then, more specifically, for the six indicators that the MDR was looking at in terms of defining recession, every single measurement of the six indicators have increased, although, you know, the degrees is different—is slightly different. So I would say, you know, right now, we are not in a recession and we haven’t received the official designation yet. However, the feeling of—you know, the feeling of being in a recession is totally different than, say, a technical definition of recession. I’ll just stop there and hear what Justin wants to say. ROBBINS: Great. Great. And there’s a lot of what you said in there that I’m going to want to ask more questions about. But let’s turn it over to Justin. So, Justin, I was looking at what you’ve been doing and you’ve been doing some pretty optimistic stories from the ground. What does it feel like, you know, where you’re reporting and is there—do people feel like they’re in a recession? I mean, there’s high employment numbers there. Are people sort of, you know, caught between this, you know, Faye Dunaway in the end of Chinatown—you know, my daughter, my sister, my daughter, my sister. It’s inflation. It’s high unemployment—high employment. BACKOVER: Well, it’s really—to your point, it’s a question of who you ask, right. So to Zoe’s point, when we talk to the experts, which we’re always looking to do in our reporting to back up, you know, the human experiences we’re trying to bring to people, we do get a more optimistic picture. However, depending on who you talk to on the ground you get a different answer because as we saw, right, in today’s inflation numbers, core inflation on consumer products is up. Your point, Carla, about going to the grocery store, people tangibly feel that. However, when you look at an industry, like manufacturing, in my area, which is a huge part of our GDP, there is a sense of optimism. Business owners, even though they’re incurring higher costs they don’t personally feel, at least anecdotally, that they’re headed towards a recession, at least comparative to what we experienced in 2008-2009. So to your point—to Zoe’s point about a yield curve, you know, I was one of the people trying to explain to our viewers, you know, the White House has a different definition than the economists and what does it explain, and I got a lot of flak for saying that although it’s inverted for two consecutive quarters that doesn’t necessarily constitute a recession. You can argue about that until, you know, the sun sets. At the end of the day, I try to not be alarmist in the reporting. So when the experts are telling us that there’s good signs, when people on the ground are telling me, yeah, I’m paying more but I can still make my rent, I try—I have tried to skew the reporting to something that leans a little bit more on not being alarmist, especially considering coming out of the pandemic. I think local news is very aware of the fact that you don’t want to push the needle too much. You don’t want to freak people out too much, and especially when you’re talking about a topic such as inflation public sentiment is just as important as the metrics, right? So that’s kind of the needle I feel like I’ve been trying to thread for the last two years now. ROBBINS: So how do you—I mean, how long is a story that you do? BACKOVER: Well, it can range. The general rule is about a minute thirty, like a typical news package. But I did a package on labor a few weeks ago that was three minutes long. It really depends on how much time we think the viewer needs to digest something that’s pretty complex. ROBBINS: So how do you explain an inverted yield curve in a minute thirty? BACKOVER: Well, that’s an interesting question. I mean, you know, you have to get good at trying to explain it in the simplest terms imaginable and not really trying to get into the minutiae of it. You could spend a lot of time trying to really parse out every detail, but you really just need to stick to the idea of, OK, here are bonds. Here’s how they work. This is what the yield curve means. This is what some people subscribe to as a definition. Move on. And if you can, wrap that around a human being that’s experiencing whatever you’re talking about. A yield curve, a little difficult. Inflation, a lot easier. ROBBINS: So I must admit, and it shows you how effete I’ve gotten in my latter years of my life. I mean, I was a foreign correspondent when I did actually get to talk to real people on a regular basis, and then I became a Washington reporter and I never talk to any real people. But the dog park, this has become my new indicator, and people in the dog park say the following thing to me all the time, but gas was below $3 when Donald Trump was president. You know, my pasta cost next to nothing when Donald Trump was president. So I sort of wanted to ask and go back to both—to Zoe and to Justin. Zoe, how much control does government have over what’s actually going on right now? And when I say government, let’s parse it out. Of course, we’ve got the Fed and—which has a pretty blunt instrument but it’s probably the most—in theory, the most powerful instrument, which is interest rates. And then you’ve got—you know, you’ve got White House and Congress. I mean, everyone’s happy to blame government for this but how much power and responsibility does government bear for this? Because they’re, certainly, going to pay the price in the midterms. So I’m just wondering, you know, a little further reality testing here. You know, who’s to blame for this and how much—you know, how much can they possibly even deal with it, fix it, address it? LIU: That’s a great question, Carla. Yeah, but at the same time, it’s also a very loaded question as well, you know. From a historical perspective, I mean, there have been generations of scholars and even Federal Reserve chairs, they argue that, well, there are so many times that the Federal Reserve have been the driver or the engine of inflation and in this time, you know, is this time different and how different this time is. It becomes the question people would argue, right? And then, yes, go back to the other part. You know, there is also the fiscal branch, which is, you know, basically, government in charge of spending money and tax corporations and individuals. So, right now, I think, right now, we—the reason we are here today, obviously, has endogenous factors, too, inside of the U.S. economy. So from, you know, if I’m—when I’m analyzing why we are here today, I tend to go back to the very basic, you know, like Y equals to 2C plus I plus net import and export—you know, to the very basic function—and thinking that, you know, which part might have caused, relatively, imbalance. So, on the one hand, we do have the fiscal—we do have a large amount of fiscal expansion, especially during the pandemic. You know, the government had the PPP loans and then a lot of unemployment support. And then, on the other hand, we also have a very—relatively eased monetary policy during the pandemic. You know, the Federal Reserve, essentially, purchased junk bonds for a period of time, which, from my perspective, it almost blurred the lines between the equity market and the bond market. So the idea was if the Federal Reserve are busy putting down a floor to support every type of asset, then what is equity? What is bond? So, therefore, you know, with this relatively stimulus policies on the fiscal side and on the monetary side, and then at the same time economic lockdown when people were not necessarily buying stuff, obviously, you have a huge—you have an oversupply and the idea of money—the idea of inflation is actually very simple. You can—we can just think about money the same as just, you know, avocados being priced in Trader Joe’s or Whole Food. The idea is if you have oversupply, obviously, price goes down. And here inflation means, you know, basically, measured in dollar terms it literally means dollar lost its value as measured by stuff that we can buy, right. So if we have over—if we have abundant supply of money on the market, obviously, we feel it when we go to the gas market or go to fill up our car, get a yogurt, and things like that. And then compounded on that—on top of that there is also exogenous factors such as, you know, Russia’s invasion of Ukraine, supply chain in China, you know, COVID lockdown and all that. So that’s, basically, the endogenous and exogenous factor. It’s not just, you know, our own fault, I would say. BACKOVER: And I would—just to add, if I could, to your question about the government’s responsibility, right, you get to an age-old question here, which is that administrations generally get more or less credit than they should get in terms of inflation and in terms of pricing, and I think that although people understand the factors at play, they don’t really have the time on their day-to-day lives to get into the minutiae. So it, ultimately, ends on the responsibility of the administration. And even when you explain these factors, which I think people do tangibly understand—they understand the war in Ukraine, they understand supply issues, they experience those issues—but they also have seen a considerable amount of federal spending and often they can’t divorce those two things from one another. So you’re having—I think, on the ground perspective there is a lot of blame laid at the administration’s feet. If you looked just a few weeks ago, the administration touted that there was a $300 billion deficit reduction in their spending bill and then forgave college debt. Now, regardless of how you feel about that, they canceled each other out. So I think people, when they get the headlines from the local news at night, they’re just seeing a lot of spending, they’re seeing a lot of prices going up, and they are blaming that on the administration. And the Federal Reserve also—you know, many people feel they acted too slowly. So you’re playing catch up and people now, I think, all they want to do is look for that straw man and that’s the administration right now. ROBBINS: Not good for the midterms is what you’re saying here? BACKOVER: No. I mean, not at all, you would assume. I mean, there’s other factors—historic factors—that we could never have, you know, anticipated for two years ago. But at the end of the day, I think people are spending an extra $200 a month for a family of four to gas up their car and, at the end of the day, they are going to blame that on who’s in the White House. ROBBINS: So are people—I mean, Justin, are people feeling—I mean, I must say that I’ve really noticed the drop in gas prices and are people feeling better about that or is it all offset by food prices? BACKOVER: I think that people feel better about it but there’s this lingering of, well, when is it going to go back up again? You know, you have this anticipation that it’s going to get worse. That has maybe improved slightly, but you often see viewers or even just people that I know in my own day-to-day life they’ll say, oh, yeah, well, it’s, you know, $3.50 but it was $2.50. So it’s hard to say. I think that people just—I think people are so conditioned from the last recession that they’re waiting for it to get very bad, even if it looks better. ROBBINS: So, Zoe, and you were very nice to say that you rely on reporters for information and learning from us, and we appreciate that. Thank you. We’re so used to people beating up on us all the time. But if you take—you know, it would be good to have, I mean, a friendly but critical view. What do you think we do wrong when we cover complex economic stories and—I mean, this is hard stuff to write about and it’s—you know, it’s hard stuff to write to tell in ninety seconds and it’s hard stuff to write about in six hundred words and—or eight hundred words, whatever it is that people get these days. They get less than I used to get. But, you know, what do you think that we get wrong and how can we fix it? LIU: Yeah. Thank you, Carla, for the question. I think, you know, actually, in my own writing I have been having a lot of sympathy to journalists of style of writing, and I actually did—you know, studied Bloomberg way, you know, the kind of like—you know, the four-paragraph style. And I learned a lot about how to parse out the noise and the even—not necessarily incorrect, but the redundant information from the core information and all that. So I had a—I have been having a lot of sympathy to journalists’ writings. But kudos, you know, everybody here trying to help out—help the broader audience understand what has been going on, especially our—you know, our relatively fast-changing environment of today. And I would say—I would be cautious in terms of, you know, what did the journal—what a journalistic article or journalistic reporting may get wrong, because I think as long as the (force in credit?) is credible, sometimes it’s not necessarily that the information itself is wrong. Really, what it’s—what may came across or what may come across, you know, misleading might be how the numbers get interpreted and what set of numbers you are choosing, because especially now, you know, it really matters what set of economic indicators or political indicators you are looking at. I mean, if you are looking—or take—you know, we talk about in the United States. And we—if we, you know, should hear, let’s say, talking about, I don’t know, like, Japan or China, you know, then the situation would be completely different. And if you just look—if you look at, you know, the classic Chinese economic indicators—if you just look at the GDP growth, if you look at housing market—you might realize, oh, you know, things are—China’s economic growth prospect is not good. It may no longer reached—well, this year definitely not going to reach 5.5 (percent) growth target. But we don’t necessarily get a real sense how bad it could be, right? So sometimes we need an alternative set of indicators to try to help us to get or to sort of decipher what are the key underlying factors that might lead to a longer-term economic slowdown. And using—again, using China as an example, you know, if we—we are trained to look at the housing market. We are trained to look at, you know, unemployment, especially youth unemployment, right, and then on top of that, you know, for a period of time, especially around—you know, around the time of the—in the immediate aftermath of global financial crisis, the Keqiang index was popular for a while because, you know, it was the three indicators it was looking at—the average of electricity consumption, right, logistics volume and, I believe, sales or something like that. It’s, like, the average of the three, right? And but then for a period of time people started to realize, well, you know, these type of indicators may not necessarily capture the tech sector and the innovation capacity that are driving the Chinese economy. Therefore, people started to no longer talk about it. However, that does not necessarily mean that set of leading actors no longer relevant for today. And in many ways I think it’s probably very much relevant for today because, on the one hand, we are talking about China is having severe headwind in terms of—in terms of innovation because of, you know, U.S.-sanctioned export controls and all that and then COVID lockdown. And then, on the other hand, right now we do see a lot of stimulus measures coming from both the People’s Bank of China as well as the—China’s ministry of finance. So I guess, you know, just to quickly answer your question, I oftentimes find, you know, it’s not that the journalists report—get things wrong. It’s how we might choose the set of data and indicators that can help people capture the picture because, you know, for a thousand-word or for a seven-hundred-word article you cannot capture every single aspect. And so which part captures it—the part that you capture reflects whatever conclusion you’re going to get. And, you know, depending upon which sector you’re looking at, which the indicators you are looking at, that’s—it’s always good to have a debate. ROBBINS: Well, and yes, and then the question becomes who you turn to. So, Justin, how do you do that? I mean, who do you choose to be your guide among this sort of thicket of data that’s out there? Zoe mentioned NBER, which is the National Bureau of Economic Research. But let’s face it, most reporters on deadline don’t have time. I remember that pile of those yellow books that they used to put out, those little pamphlets. I’m really dating myself here. It’s all online now. But yes. But most reporters on deadline don’t have time to be going through monographs. So how do you—even a story as simple as today—and there’s nothing simple in economics—you know, that says everybody expected inflation to go down it’s just—and people are disappointed today—how do you report a story like that? Who do you go to? I know how you do a story on the ground from that. But how do you get the sort of—more of the wider explanation of what’s going on here and how to interpret those numbers? Who do you turn to? BACKOVER: Well, I would say, first off, your best source is the one that answers your email while you’re on deadline. ROBBINS: So true. BACKOVER: But what I would say is that, so I’ve been in the current station I’m at for four years now. So after, you know, building a rapport with a lot of experts, and I always tell people you should be turning to whatever’s most immediately around you that could be a resource. That could be an Economic Development Corporation. That could be a university. That could be an economic expert, a policy figure, or someone you will develop that you have a rapport with. I got there very quickly with a lot of economists in our universities over—whether it be Lehigh University, DeSales University, et cetera. And, you know, those are the people where when I get handed a story I can say to them, all right, well, help me understand this. Help me boil this down. I’m not an economist by trade, right? I was—you know, learned how to do TV journalism. So those are the people that I— ROBBINS: Much to your parents’ disappointment, I’m sure. But yes. BACKOVER: Yes. Thank—yes. When I told them I wasn’t going to be a lawyer they were very happy. So, to that point, when I find those people, and I think you need to have a very wide variety of people because these policy decisions affect people in different ways, right? So if I’m covering the CHIPS bill that’s going to a manufacturer. That’s going to our Economic Development Corporation, perhaps an economist. If I’m talking about inflation that’s a totally different animal. That’s a totally different set of sources. So I think you get better over time at deciding on the fly who is best for those scenarios. But you really do—and I know that this isn’t a really concise answer—but there’s never going to be a one-stop shop for explaining what’s going on because these economic issues touch every aspect of our lives, right? So I can’t just go to one person. And I also make sure that those people have a wide variety of affiliations, of leanings, of different viewpoints, to try to really well round out that—whatever argument it is I end up making. ROBBINS: And do you go to—I mean, you mentioned local sources—I mean, reasonably local. So do you go to them because they’re more likely to email you back or call you back? But do you also feel that if you go to a local economist or local university they more—have more credibility with your viewers? BACKOVER: Yeah. Well, so we just kind of as a house rule try to keep things as locally as possible and we do have really great resources. We will go out nationally if it’s a subject matter expert. You know, I remember doing a story about someone who surveys warehouse space. They don’t happen to live in the Lehigh Valley. So we interview them. I find, though, that I think our viewers want to hear something that they’re not going to hear when they turn on network news and I think more so now than ever, you know, they—if they see what they see on network they’ll change the channel like they do. They’re, obviously, coming to us for a reason, right? They want to hear from people in their backyard. They want to hear from people within their community. That doesn’t mean that—I mean, we talk to national people all the time. But if I have to choose for a story I would much rather—like, for example, Lehigh University has a great program around the supply chain. I would much rather go to them and talk to their director of supply chain management than somebody from a national port, whatever, organization. I think that has more credibility to our viewers. ROBBINS: Interesting. So I want to throw it open to the group. I mean, you guys have raised a million questions that I—you know, that I could ask and I will jump in. But I—but we have lots of reporters here. So why don’t you guys—I will turn this back to our mavens who can explain to you how to do it but you guys know how to ask questions. Raise your hands or—and jump in, please—we have quite a few people here—and please ask questions. OPERATOR: (Gives queuing instructions.) ROBBINS: So we have a question from Olivia Evans. Olivia, would you like to ask the question and can you tell us with whom—I don’t have the list right in front of me. Can you tell us with whom you work? Q: Hi. I don’t know if you can hear me very well. ROBBINS: We can. Q: I’m in a coffee shop. But I’m with the Courier Journal and my question is how is Consumer Price Index related to inflation? I know the CPI report came out earlier today and I’m just—I’m working on a story about it. But I’m struggling to understand how it’s directly related to that 8.3 percent inflation. ROBBINS: Great. Zoe, you want to take that first and then— LIU: Yeah. Sure. Could—I don’t think I hear Olivia’s question very well. ROBBINS: How is the Consumer Price Index related to inflation? Are they different things? LIU: Oh, yeah. Sure. That’s a great question. Thank you very much, Olivia. I love that question because, you know, well, I have so much to complain about CPI. But, you know, long story short, I think, you know, normal—Consumer Price Index is a basket of stuff, and my main complaint about it is that it may not necessarily reflect the same basket for everybody. And therefore, as the measurement of inflation it measures, you know, macro level or headline but it does not necessarily translate directly into how people actually feel about inflation. Therefore, when we say CPI price—CPI index goes up, OK, so we know, OK, the general idea is the economy is heading towards inflation. But it’s not necessarily the same for every single household and it’s not necessarily the same for every single commodity or sector. So I will just give you an example here. We talk about the U.S. economy and right now, because of Federal Reserve tightening and all that, we are also talking about a strong U.S. dollar. Now, a strong U.S. dollar is bad news, in particular, for countries that are importing a lot of oil and gas because oil and gas are priced in U.S.—in U.S. dollars and, therefore those—you know, on the one hand a price increase combined with a stronger dollar this, basically, means that this is, literally, like a double inflationary pressure for these oil- and gas-importing countries. But, you know, from a U.S. perspective, yes, we do experience gas prices increasing, as Carla mentioned, but it’s stabilized in the past few weeks. So I would say long story short, I think, you know, yes, there—we do see a direct relationship, that the impact for different people will be different. ROBBINS: But I suppose the question that I have as well is that when people talk about inflation and the government talks about inflation are they talking about CPI? LIU: So that’s another great question. So the Federal Reserve and the—when the Federal Reserve—the Federal Reserve 2 percent inflationary target is not necessarily CPI. But the CPI is what—you know, when people in major news—in major news headlines that we—what we are looking at. And what the Federal Reserve looking at, inflationary pressure, there are a variety of factors that might be taken into play and the manufacturing managers index is one of—one of that. And then there is also pressure on housing and then major commodity prices and all that. ROBBINS: So the Fed uses a different basket is what, basically, you’re saying, in effect? LIU: Yes. So with the Federal Reserve target of 2 percent, it’s a different measurement. But for a major news outlet, you know, CPI is normally the household leading number that we are familiar with. ROBBINS: So, Justin, are you going to do a story tonight on the CPI numbers and are you going to refer to it as inflation or CPI? BACKOVER: So we would refer to it as inflation, although, you know, there are a lot of baskets that you could pull from to—when you’re really calculating core inflation. The CPI is the most basic rudimentary thing that people understand so that’s what we’re going to go—that’s what we would go with, I’m sure—inflation. I would say, though, that, you know, tonight I might be relegated to an anchor read and not a package, depending on the day, because what I’ve found over the last year is it’s very dangerous from, I think, a reporting perspective to get caught up in the month-to-month change in the CPI, right? You can look at the AP’s article that they put out this morning and it points out as the headline that it’s down from a few months ago. That’s true. It’s also still up 8.3 percent from a year before. So depending on how you write the story, to Zoe’s point about what data and what numbers you’re pulling out, you can paint a very different picture. So I think that it’s important when you’re talking about using the CPI from a reporting perspective really focusing on the parts of the report that impact people—food, energy, things like that. That is usually your safest bet, I think, to writing a story that is fair and accurately represents what, I think, people on the ground are experiencing. ROBBINS: So in terms of—certainly, Wall Street’s flipping out. But so it really is—it’s lower than it was but higher than people expected, given what happened in the previous month. BACKOVER: Yeah. ROBBINS: And do you explain that in the story? BACKOVER: Yeah. So I think that as you just put it is a very great way to put that. You know, OK, it’s—how would you—I can see it almost being like, all right, it’s reducing, right? We’re down from a few months but we’re still up 8½ percent almost from a year before. I think that would be the line that you would put in there because I think that you do want to at least reflect the reality. If I go on television and say, oh, well, you know, inflation is getting better, it’s down a half a percentage point from three months ago, I don’t think people would really understand what I was saying. They don’t feel that when they go to the store. ROBBINS: So, thank you for that. Zoe—and, guys, more questions, please. You’re reporters, for God’s sake. Ask questions. If not, I’m going to start calling on you. That’s going to be the academic side of me. So, Zoe, can you talk about the—oh, we have a question—yay—from Mike Allen. Mike, can you identify yourself and ask your question? Q: Hi. I’m Mike Allen with the Roanoke Times in Virginia and I just have—my understanding of economics is probably at a kindergarten level. So I’m curious to hear about the issue that Carla brought up, actually, originally with just how people are experiencing inflation. Why is the price of gas improving while the price of food is skyrocketing? You know, are you able to—can you discuss the factors that are playing into this? BACKOVER: Well, if I may. I mean, you definitely see lags in terms of energy prices compared to the rest of inflation. So I think that’s something to keep in mind. Like, I hesitate when gas prices change dramatically to immediately start reporting on them because it’s going to take a minute before you see that effect on the consumer level, right? So, for example, food prices are still elevated because all of the harvesting that was done at the end of the season was done with diesel that was still $6 a gallon, was done with labor that still cost a considerable amount of money. So the problem is, is that you’re not going to see—there’s a disconnect for people that’s hard to explain to them. Yes, gas prices are going down but your everyday essentials are still high. And some of that could also be price gouging, which we’ve had a lot of conversations about recently in the media. But that’s not a very clean answer, right? So it’s hard for someone like me to communicate that to people in a minute thirty. But that—Zoe, feel free to jump in. You’re the economic expert. But that is, at least, my understanding of it. LIU: No. I think, Justin, you’re absolutely right there, and if I can just add a footnote to what Justin just described, I will say, you know, when I try to analyze market and price dynamics I go back to Econ 101, which is supply and demand. So I always ask myself why—price changes, fundamentally, start with supply changes and demand changes. So, like, take that—use our—you use the price hike immediately following Russia’s invasion of Ukraine. So, for example, the supply—we experienced the price go up. Obviously, there are some market—the futures market movement because of expectations. But the fundamental—let’s take a look at the fundamental, right—supply and demand. On the one hand, the supply—supply on the one hand probably reduced because of Russia’s weaponization of energy supplies and then on the other hand demand may not necessarily shrink by supply (threat ?) because in order to maintain the equilibrium supply—when you have the supply go down, in order to maintain a price equilibrium you would have to have demand go down. But demand in the immediate aftermath of Russia’s invasion of Ukraine did not go down. Remember what happened. You know, we started to experience, you know, economic reopening. People started to travel and, you know, demand for cars—car travels, you know, private cars and passenger cars and people starting to travel internationally. Economic productivity started to go up. So what did we experience from a very fundamental perspective, you know, regardless of geopolitics and everything like that, supply/demand? On the one hand, you have supply come down and then on the other hand you also have demand go up. Now, economic—why we experienced price goes—started to go down? Again, eliminating all these, you know, geopolitical factors, just go back to the fundamentals. On the one hand, European Union have been doing a great job in, on the one hand, cutting down their demand on Russian oil and gas. And then on the other hand, United States have been exporting a lot of, especially, natural gas—LNG—to the European Union. Therefore—and on the other hand, you know, from a pure supply/demand perspective, yes, you know, you have the supply goes—supply, you know, goes up from the perspective of the United States as an alternative supply and then, on the other hand, demand started to go down because of China’s slowdown—slow economic growth as well as China’s economic—China’s lockdown and all that. So I just—I feel like, you know, just give you an example, like, how I would think about price dynamics, I go back to the supply/demand and Econ 101. And then on top of that, I started to think about other factors that might have influenced supply and demand such as geopolitics, supply chains, and seasonal factors, things like that—winter, summer, hurricanes. ROBBINS: So would you expect gas prices to then go up as it gets colder? I think Europe is doing a pretty good job there. But let’s face it, it’s going to get pretty cold in Germany soon, and given Germany’s dependence on the Russians— LIU: Absolutely. Absolutely. That’s a great question. Again, you know, winter—when winter comes. You know, I think Russia has supplied more than 60 percent of Europeans’ energy demand for a substantial period of the time and then—and when winter comes that, basically, means, you know, because of the heating, because of economic activity, demand is going to go up. However, supply probably is going to go down because Russia threatened to—already threatened to shut down the Nord Stream supply, right? So now, in order to meet the gap of Russia’s supply, we need alternative sources, either from Middle East or from the United States. So, holding everything else constant, if we do not necessarily see a change—a dramatic change or an increase your alternative supply, probably there is a significant chance of energy price go up, increasing the fiscal burden for European economies, especially in wintertime. ROBBINS: Good times to come. Ethan Steinberg from—managing editor for the Tufts Daily. Ethan, can you ask your question? Q: I think you may—I asked a question. I’m Ethan Baron from the Mercury News. Not sure I’m the one that you’re— ROBBINS: You’re the wrong—we have the wrong name up there. But hello. Q: Hey. ROBBINS: Are you from the Merc? Q: Yes. ROBBINS: You are very sad about Jerry Ceppos passing away. Q: You know, I haven’t been there that long. ROBBINS: Oh, yes. He’s your former editor and your former publisher. Q: Oh, geez. OK. ROBBINS: So he was, truly, a wonderful human being. You should find out about him. Q: I will do that. ROBBINS: (Inaudible)—you. Q: Yeah. Thanks. So, anyway, just to keep Carla happy and not get us all, you know, in hot water here I’ll ask two questions. And so my first one is, like, so we have these small changes in the Consumer Price Index. The underlying issue for, you know, our news consumers is that prices are higher now than they were two years ago by a lot. How do we not tell the same story every time just with different people talking? And then my other question is, you know, the effects of inflation hit the lower income people disproportionately harder and particularly in a market where, you know, we have fairly wealthy readers, at least for the Merc, relative to other markets it can be hard to get people to care about, you know, hardships that are affected by—that are affecting people that aren’t affecting them in the same way. And so how do you get kind of wealthier news consumers to care about the harsher impacts on people who are not like them? So those are my two questions. I have another one but I don’t want to hog up all the time. I’ll ask it later if there’s time. But thanks. ROBBINS: Right. Thank you, Ethan. So, Justin? BACKOVER: Well, I would say that you asked a question that I ask myself almost every day, how do you get people to care? I would say short of—you know, the region I report on, right, we have extreme poverty next to extreme wealth and I think people can tangibly see it. So when you go out and you tell the stories of those who are being disproportionately affected—I know that that’s not maybe the best answer but it is, in my opinion, the most effective way to try to get people to care about it—the more you put it in front of them the more they take to it. I don’t—I think that empathy is, really, just something that in a lot of people almost needs to be repetitive, like training someone, in a way, which sounds kind of nihilistic. But you really do—I find, you know, if I get hung up on am I going to impact everybody the way that I intend to then I probably wouldn’t do anything, right? So I just wake up every day and I say to myself, all right, there’s a problem. There’s a woman in Allentown who has five kids. Her rental assistance from COVID is expired. She can’t put food on the table. I’ll tell her story, and then I’ll tell someone else’s story who’s experiencing something similar and, hopefully, enough people listen and care after a while. But I don’t have a good answer. There’s not one thing I’ve done that I have found has made somebody care more than something else. ROBBINS: Zoe, I suppose I have a question, which is how do you get people to understand the relationship between the global economy and the domestic economy in a way that they don’t turn off and—which is—since it’s all related to each other? I mean, it’s easier, given Russia right now because everybody knows how bad Russia is. But how do you do that? LIU: Right. Thank you, Carla, for another very interesting question. You know, it’s a(n) issue that I struggle with every day. It goes back to the earlier question by Ethan and goes back to Justin’s answer. You know, first of all, I really count out a pair of sympathetic ears—you know, people who actually care about this issue and genuinely curious about it because, you know, sometimes—and, you know, as a researcher myself sometimes I do have this issue and I wish—and I have been trying to deal with it for a long time, which is do not have—do not impose too much cost on my audience. The idea is, you know, do not assume that everybody would be equally interested in what a sovereign wealth fund is and how sovereign funds perform during economic recessions and all that. But the way that for me to try to engage with broader audience and that’s, you know, a lot of things here at the Council. You know, everybody here tries to do is to try to explain to wider audience why this matters, and why this matters really depends upon who you are talking to. So if I talk—I explain economic matters and how China—the Chinese economy slowdown may have an impact on the U.S., if my audience is policymakers I probably have to focus on the policy implications—you know, what the Chinese have been doing and all that. But if I’m talking about, you know, at the day-to-day level—let’s say—for example, if I go to Utah and attend a conference in Utah I probably would want to explain to the local audience and say, hey, how much Chinese tourism bring(s)—how much revenue Chinese tourism bring(s) to Utah in normal times and, hey, during pandemic that, basically, means $1 million every year tourists’ money is gone. And if you explain to people from their local perspective—you know, just match the number with the local constituencies—probably they would be very much interested. And then on the other hand, you know, obviously, the impact of the global economy on different states here in the United States will also be different in the sense that not every state here in the United States are equally export-dependent. And when people talk about the impact of strong dollar, that is also going to have a different impact on different households because not everybody is going to go to Europe and spend money on a Louis Vuitton bag. For those who go, obviously, that’s good news. They are able to spend more and—but then for people who are—for households, you know, especially for those who live on fixed income here in the States, high inflation is probably going to make those people suffer the most. So I guess, you know, I really do have a lot of sympathy to our—to journalists and the way that journalists have to do the reporting because it really depends upon who you are talking to and in order to—it goes back to Justin’s point, really, it’s—I would start with, you know, understanding your local constituencies and getting people familiar with—interested in some of the things that we are familiar with. BACKOVER: Yeah. And I would also just add really quickly, based off of what Zoe was saying, you know, you want to try to find as many connections as you can to whatever it might be, right? So if you’re—most people didn’t know that most of our wheat came from the Ukraine until the last year or so. I have a responsibility to explain that to our viewers and, hopefully, that gives them a better understanding of why we’re all kind of touching hands and holding hands in this economy. Just as talking about extreme poverty, I would want to find a way to relate to, let’s say, a wealthy business owner that these are your employers. This is your community. I think this idea—I mean, these are your employees, rather. This is your community. So I think that when you try to make sure that you’re walking into it with a sense of just how can I explain all the different ways that all these different people and all these different industries touch each other and where they touch each other, that helps humanize it a little bit more than just laying out facts. ROBBINS: That’s great. Thank you. So we had Britney McGee (sp) who had her hand up. Britney, are you still with us or did you have to go and write? Britney may have fallen out. So I think maybe if Britney comes back we will have Britney ask her question. While we wait—and, Ethan, we’ll go back to you in a minute—while we wait, just if people want to—you know, everybody’s running a deadline all the time and, particularly, now you guys have deadlines all the time. I lived in a world in which I did write during the internet. OK. I don’t want to—(laughs)—I did have a computer. It wasn’t all typewriters. But given that, where do you guys go for, you know, quick hits on data? If you want to just get—you know, I mean, is it—are there good government websites? Are there good, you know, think tank websites? You know, just give us, like, good ways to get information really quickly. BACKOVER: I mean, I would say that I don’t find it, personally, to be easy but it can be done, right? So I’m always looking at the Department of Labor. I’m always checking—because I’m covering Pennsylvania I’m always looking at the state data. I’m always making sure that that’s updated. At least in the state of Pennsylvania, they have a pretty robust set of data that they put out. I would say that also my best friend is, like, a Google news search where I’m putting in, you know, a specific keyword and I’m finding as much academic work as much that’s been published. I mean, often, right, from the local broadcasting perspective, it’s not like I’m getting a report handed to me before it’s published by whatever organization. So I do find that, you know, you really—I kind of have the internet work for me, in a way, now. I have it alerting me to when things come up and I am immediately digging into it, and then just trying to stay as up to date as I can on my own with just the federal and state policy websites that kind of would help inform, maybe, some of those decisions. ROBBINS: And on the state policy website do you look at the state Department of Labor or the state—you know, which parts of those—? BACKOVER: Yeah. Well, the Department of Labor is definitely helpful. There’s also—you know, in terms of, like, jobs, there’s—you know, we have WARN notices. We have studies that are done by DNL. We have—I’m kind of blanking on all the acronyms for all the organizations. But generally, you know, I start with both departments of labor and work my way out from there. ROBBINS: And, Zoe, to get—you know, obviously, the Council on Foreign Relations is a great source and, you know, we are a think tank and we have—you know, CFR and Foreign Affairs are great sources as well. But where else can you recommend to people if they want to find something quickly and also find a diverse set of voices? LIU: Yeah. Thank you, Carla. You know, yeah, as you correctly pointed out, the Council is always a good source and, you know, for everybody here, feel free to reach out to any one of us at the Council anytime. We are all happy to answer any of your questions as much as we can. And in addition to our website and our think tank fellows, I would—in terms of economic indicators I would also go to U.S. Bureau of Labor Statistics because, you know, the unemployment number and the inflation number and all that is also very—they are very authoritative. And then in terms of just macroeconomic data in general, I would also go to the St. Louis Fed. They have—the St. Louis Federal Reserve—they have a lot of, you know, macroeconomic data dating all the way back to probably around—before World War I. And they have—from my understanding, you know, they provide the longest documented varieties of U.S. data on macroeconomics, oil market, and all that. And then if you want really specialized data from a foreign government, for example, you know, the ECB is a good one. Bank of England is a good one. And people tend to not necessarily trust the Chinese data, but I would just say I would want to give the Chinese, especially the PBOC, some credit because—especially if you can use— ROBBINS: Bank of China, yeah. LIU: Yes. The People’s Bank of China, the central bank of China. They publish a lot of data actually very on time, but the English version might have some lags there. But you know, a trick that I—I bypass that. Not everybody reads Chinese, right, and so the trick that I tell people to bypass that is to, you know, you install a Google Translator, the Google extension, and then use the translator translating the website. I tried that and it’s actually very good. So if you’re wanting to—if you’re curious about what is going on in China, I would say that is the—you know, try that out. Probably you will be surprised. ROBBINS: Right. So we want to go back to Ethan Baron one more time since he had one more question, and I’m not sure we fully answered your other questions because I jumped in. So, Ethan, you have two minutes. Go fast. Q: OK. Thanks. Well, so the question I had that wasn’t answered probably is, like, you know, the big issue is, like, prices are a lot higher than they were two years ago. And so when you’re dealing with a story—you’re going to do whatever story on a particular, you know, change in the Consumer Price Index or whatever—how do you not tell the same story every time, you know, just switching the people that are talking about it? ROBBINS: Good question. BACKOVER: Yeah, that’s a really good question and it’s—I would say that, at least what I tried to do and I’m sure often it might feel like it’s the same story, the point that I try to do is parse out different aspects, right? So maybe one CPI report I’m focusing on energy. Maybe one CPI report I’m focusing on food. Maybe one CPI report I’m focusing on whatever it might be. What I try to do is—because I, personally, working in television and limited in how much I can get to, I try to break it up and not try to do how do we digest all of this in one, you know, compact story. So I think that the way, at least, I try to vary my reporting is to just parse out different aspects of it every time because we know the numbers are going to come out every month, and take it from there. So I’ll leave it there for time purposes. ROBBINS: So, Zoe, we have only a few—half a minute left. What’s the most important thing that reporters should know for tonight, given the news that just came out on the CPI? LIU: I would say recognize that CPI is limited and always look for things that are relatively closer to people’s life. For example, CPI removed of oil and gas or energy and food, or just focusing on food index or just focusing on housing market. That might get people interested. And explaining the trend of inflation better. ROBBINS: Great. Thank you so much, both of you. It’s been fabulous. And I’m going to turn it back to Irina. And thank you, everybody, for your questions and, particularly, thank you to Ethan. Q: Thank you. FASKIANOS: Thank you all. I share Carla’s thanks and I just wanted to send you off—to let you know that we will send a link to this webinar recording and transcript after the fact and until then you can follow Zoe on Twitter at @ZongyuanZoeLiu, Justin at @Backover2u, and Carla at @robbinscarla. So, as always, we encourage you to visit CFR.org, ForeignAffairs.com, and ThinkGlobalHealth.org for the latest developments and analysis on international trends and how they are affecting the United States. And, of course, please do share your suggestions on how we can be a resource for you and for speaker and topics for future webinars. You can email us to—send the email to [email protected]. So, again, thank you all for being with us today and to all the great questions. We appreciate it. ROBBINS: Thank you, guys. LIU: Thank you. FASKIANOS: Take care. (END)