Summary: As I wrote a few days ago, I did a spot on CNBC's Power Lunch Friday to talk about tariffs and trade. You can watch a short video of the segment by clicking the image below.
An hour with old friends: I love when I am in New York and get to be live on set with the CNBC anchors, rather than a head in a box from a studio. This time I got lucky. I was scheduled to do a 10 minute segment on tariffs and trade at 1:15PM. As I sat in the green room after makeup (Yes, I looked FABULOUS!) waiting to go on, Trump sent put a tweet (I'm not making this up) that he would have a 'press availability' at 1PM about whether or not he would sign the $1.7 trillion, 2300 page Omnibus spending bill passed the night before. So the producers put me in a chair with the anchors at 12:55 so we could cover the Trump sighting.
I love working with this set of anchors--Tyler Mathisen, Melissa Lee, Michelle Caruso-Cabrera--and have known them all for many years. They are totally professional, of course, but they all have great senses of humor. Trump showed up, invoked national security, whined about the Democrats, and signed the bill that no member of Congress or his team had read. We ended up on set together for the full hour. The part you don't get to see is the fun we had while the control room was showing you Trump talking.
In addition to discussing the $1.7 trillion of spending--way too much to make sense--we also had a chance to talk about interest rates, trade wars and China. My view on interest rates is they are going up faster than people think. In the coming years, the Treasury is going to be a net seller of roughly $1 trillion in new bonds every year, the Fed and other central banks are going to be net sellers of another $1 trillion of bonds every year and, more importantly, private investors are going to be selling bonds to buy real estate and other inflation hedges. How much could the private investors sell? Yuuuge amounts!
To put this in perspective, private investors in the US today own about $300 trillion in total assets, $200 trillion in financial assets and $100 trillion of tangible assets like real property, as shown above.
In 1981, when I first published this analysis in the Wall Street Journal, people had half their assets in stocks and bonds and the other half in houses and other tangible assets, as shown above.. This made sense then, because the top marginal income tax rate was 70% and the inflation rate was 15%.
Comparing the first two charts we can see, above, that between 1981 and today, investors shifted 20% of their assets--$60 trillion in today's numbers--out of houses and into stocks and bonds, which drove interest rates to record lows, stock and bond prices to record highs, and set up the subprime mortgage crash of 2007.
It doesn't take much of a change in people's assets demand to move interest rates. If investors only shift 1% of assets per year into tangible assets that will add another $3 trillion per year of effective bond selling. Adding this to Treasury and central bank selling makes a big number. Early signs that this is affecting bond yields are recent Treasury auctions where the bid-to-cover ratio, roughly the number of dollars people want to buy for every dollar sold, were the lowest in ten years.
Make no mistake, interest rates are going up.
Regarding trade, the first round of Trump's tariff announcements were mostly theater. He announced they were aimed at China but, to a first approximation, we don't buy steel from China (2% of imports, 1% of consumption). We buy steel from Canada, Mexico and the EU, all of whom were given a hall pass open the tariffs. So call those announcements political theater.
This week's announcements were much more dangerous--$60 billion per year of Chinese goods. As I said on the show, it is not possible for China to retaliate much more aggressively that the first salvo announced yesterday. Where are US companies especially vulnerable? Capital goods (Boeing), Technology (CISCO, MSFT), and Agriculture (farmers, seed and fertilizer companies.
The untold story in the trade debate is what will happen to capital flows. It is a matter of simple, double-entry bookkeeping to show that a country with a $100 billion trade deficit also has exactly a $100 billion capital inflow. So, when a politician tells you they want a zero trade deficit, they are also telling you that they want net zero capital to flow into or out of the country as well. Let's think about that.
Trump's tax reform package was targeted at attracting capital. To the degree it is successful, the US trade deficit is going to go up, dollar for dollar. If, however, Trump's tariffs succeed in shrinking the trade deficit, capital inflows--think foreign central banks buying Treasuries--will fall by the same amount. One more reason why interest rates are going up. That will be my next topic.
JR