# Gita Gopinath on Why Interest Rates Have Surged All Around the World | Odd Lots

**Creator:** Bloomberg Podcasts
**Platform:** youtube
**Duration:** 54m
**Source:** https://www.youtube.com/watch?v=CfP72YBgPdI

## Summary

The discussion revolves around the current economic landscape, focusing on the implications of rising interest rates, the AI boom, and the potential for a debt crisis in developed economies. Economists express uncertainty about future productivity gains from AI and highlight the increasing public debt levels, which could lead to significant economic challenges if growth does not materialize.

- Rising interest rates are a global phenomenon, influenced by inflation expectations and fiscal deficits.
- The AI boom is creating high demand for capital, which may crowd out traditional investments and affect bond markets.
- There is skepticism about whether AI will deliver the anticipated productivity gains, with current evidence lacking.
- High public debt levels are concerning, especially as governments may struggle to provide support during future economic shocks.
- The concept of "Blitz" suggests an expectation of ongoing state support, which may not be sustainable given high debt levels.
- The potential for a debt crisis in developed economies could manifest as a credit crunch rather than a traditional default.
- There is a shift from a global savings glut to capital scarcity, affecting investment dynamics.
- Policymakers face challenges in balancing fiscal responsibility with the need for economic growth, particularly in light of demographic changes and resource constraints.

## Transcript

[[0:00]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=0s)
From an economist's perspective.
Is there such a thing as the disinflationary boom worried the
deflationary boom even. So this is about, uh, you know, making a
distinction between now and what comes next.
Yeah. No.
It is about the high levels of investment, right?
Right. Clearly, right now it's pushing
everything up. But let's imagine ten years from now and
we've done it. We have this in credit, and somehow
we've solved all the sci fi scenarios so that the ad doesn't want to kill us all,
etc.

[[0:29]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=29s)
let's just imagine the rosy scenario in
which we have this look like there are some under discussed risk factors.
And so but right, like let's just say the robots don't kill us, assuming we
solve that and the AI works on our behalf and it does what we wanted to do,
and it can create incredible material gains while also make while also very
delivery of cheaply because it's just one AI, etc..
Is that a contemplated, uh, um, scenario?
From an economists perspective, there is absolutely a scenario where we could be
in that wonderful place with high productivity growth.
At the same time, we don't have civil unrest or right, you know, rogue forces.
Yeah.

[[1:10]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=70s)
Using AI for or for ill.
That is a scenario. But I do not know a single person who
will put a probability on that scenario and say that that's going to happen, you
know, with a significant amount of certainty.
Yeah, there was a very high degree of uncertainty.
And there are several who also believe that it's yet to be seen whether there
is going to be any major productivity gain of the kind that, you know, there
are analysts who believe the productivity could go up by two
percentage points a year, you know, over and above what's where it is right now,
which is around two percentage point a year, and that is you.
There is no evidence right now of that kind of productivity wave coming
through.

[[1:56]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=116s)
So it's early.
But you know, I use the technology and I find it terrific.
I mean, it is. It's been really great for my own
productivity. It's not affecting my wages or anything
so far, but it is there. It is, it is uh uh, it is, uh, you know,
very valuable technology, but there is a lot of uncertainty. Hello, and welcome to another episode of
the All Thoughts podcast. I'm Tracy Alloway and I'm Joe
Weisenthal.

[[2:26]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=146s)
Joe, the big story in markets right now
has to be one of the big stories. The bond market selloff, by the way, as
I say that I just got this massive feeling of deja vu because I'm pretty
sure we've done a few episodes where I've started out saying the exact same
line. Well, I mean, one obviously this is sort
of one of the trends of our time, which is that after a decade pre-COVID, where
we just sort of assumed that rates were going to head lower, that is obviously
there's been a regime change, as economists sometimes like to say.
And so now we have rates pushing higher again.
They've come back a little bit in in the last couple of days, but that's not
really the point.

[[3:04]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=184s)
The point is it is is this global
phenomenon around the world. Rates going up?
I would still say probably the big story in markets is I and memory and chimps.
But if it weren't for that everyone would be talking about interest rates
higher in almost every country in the world.
So here's the thing. I actually think I and the rate sell off
is kind of connected. So you know, we're talking about yields
going up generally in developed markets.

[[3:29]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=209s)
And we've seen that recently.
I know we saw for instance, the the long end of the UK gilt market hit like the
highest since 1998. The ten year U.S.
Treasury yield was kind of inching up towards 5%.
But it's come down mostly. A lot of those yields have been moving
in line with the oil price, right. So a lot of people will say that this is
just because oil's going up. That's inflationary.
Maybe we'll get higher rates.

[[3:55]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=235s)
And so this is why yields have been
backing up. However, there is an argument I'm seeing
more and more people make this one. That what's going on is actually a
repricing of something, you know, less transitory.
Yeah. My allowed to say that word anymore,
less transitory and something more secular.
Yeah. In what's happening with the rates
market, something that's more about the massive amounts of capital that I is
actually consuming and having a crowding out effect on sovereign bonds, or maybe
something that's more about, you know, the ability of the developed world to
actually finance itself, you know, in the longer term.
And so you're starting to see some of those bigger themes creep into the
discussion about the bond market sell off.
This idea that it's something else is happening here, something more than the
oil price.

[[4:40]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=280s)
Totally.
Actually, just speaking of the nexus between, uh, interest rates and I, uh,
Torsten slug, uh, has a good chart out. Came out this morning pointing out
essentially that one thing what they are is the sort of FOMO aspect not among
investors per se, but about companies and not wanting to let their models be
six months behind until they all pay whatever the cost is to catch up.
And therefore, he argues that perhaps higher rates do not have the slowing
effect that they might have had in another cycle.
Mhm.

[[5:11]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=311s)
Because it's like, well yeah, it's no
fun to finance this data center at higher rates.
But if the alternative is being consigned to the permanent underclass
when the other company builds the most advanced model, you're going to do it
nonetheless. And so yes, between oil, between the eye
boom, between demographics and the challenges of sort of resourcing for
care of, uh, the elderly and the infirm between all of these things, resource
nationalism, building up, thinking that we are in this real secular shift and we
have to understand it better.

[[5:45]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=345s)
Yes.
So I am very happy to say we do, in fact, have the perfect guest to talk
about all of this. We're going to be speaking with Geeta
Gopinath. She is, of course, a professor of
economics at Harvard University, but also famously the first deputy managing
director of the IMF. So truly the perfect guest to speak to
someone who's been talking about, you know, a change in the bond market for
quite some time. Geeta, thank you so much for coming on
awfully.

[[6:08]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=368s)
It's a pleasure, Tracy.
And, Joe, great to be on your show. So what's your take when you're staring,
presumably, you know, on a minute by minute basis at a chart of the U.S.
ten year yield? What are you thinking?
I mean, firstly, I think it's it's absolutely right to start with the
conversation about what's happening in bond markets, because frankly, you know,
despite all the many different shocks going around in the world, I actually do
think the one that's most worrisome is what we see with public debt levels
everywhere in the in the world, in the US.
We've seen yields go up.

[[6:43]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=403s)
Uh, it's a combination of things.
You just talked about, all of them, which is one is the fact that inflation
is now expected to be higher. And there is a sense that the real rate
at which the economy will stay, you know, at a somewhat stable level of
inflation is higher. So the kind of the real interest rate
has drifted up. The R star has drifted up from pre
pandemic when it was like half a percentage point.
Now it's a one percentage point.

[[7:14]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=434s)
But on top of that you have the premia
that's coming from the risk of inflation from very importantly the large amount
of fiscal uh you know the large fiscal deficits that the U.S.
is running and is projected to continue to run into the foreseeable future.
And, of course, the third element, which is the eye boom and the expenditure of
the capital expenditure that's being undertaken for that is also shifting.
The hours are up to maybe even higher than one percentage point.
So because of all these reasons, we've suddenly moved away from the
pre-pandemic period of low for long interest rates.
And what we were talking about, the, you know, the end of, I think we are
have the end of secular stagnation at this point, secular stagnation was about
the fact that there was not enough investment happening, especially in the
private sector.

[[8:10]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=490s)
That is no longer an issue anymore.
So because of the combination of inflation, I boom, fiscal deficits all
over the world, high public debt everywhere, you know, we are seeing
yields go up. And that's true in the US too.
What changed. I mean what I want to drill into all of
these specific things. But you know, let's start with like the
high level of public debt. That was the thing that people were
talking about quite a bit, um, prior to the pandemic as well, and raised just
kept going lower and lower, including famously in Japan, where, uh, debt to
GDP levels are even much higher than they are in the Western world.
And that was sort of famously known as the widowmaker trade because rates kept
going lower.

[[8:57]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=537s)
What's changed?
Um, between 2023, 2020 and 2020 such that this suddenly, in your view, and
perhaps the market's view, this became an important thing that was not
perceived by the market as being important pre-COVID.
So a few things changed. Uh, one, the eye boom was unexpected.
That was not something that was being priced in markets pre-pandemic for sure,
that that big increase in demand for capital coming from the private sector
is one, a big change.

[[9:34]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=574s)
The other big change is the fact that
fiscal deficits are now projected to stay at levels that nobody was expecting
the US to run. So some 7% fiscal deficits for the
foreseeable future. That is the another important factor.
And the third is the composition of who's the marginal buyer of this debt.
So we had a period when central banks everywhere were buying, uh, yeah,
government debt. And that also helped to keep interest
rates low.

[[10:06]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=606s)
In fact, that was part of the strategy
of how to, you know, strengthen the economy.
Uh, quantitative easing was part of the toolkit.
And so that helped keep interest rates low.
But that's changed. And now we have
the central banks everywhere who have either stopped buying or they're writing
it down like it's happening in Japan. And the marginal buyer are the more
volatile. You know, investors, hedge funds in the
US are the US market makers over here.

[[10:38]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=638s)
And so whenever there are any shifts in
global market conditions, you see a lot more sensitivity than you would have
seen, uh, if it was mainly official, uh, credit flows.
And by the way, that's also true about capital flows coming into the U.S..
Previously, the buyers of U.S. treasuries used to be foreign central
banks. They're not doing as much anymore.
It's mainly coming from non-bank financial institutions from the rest of
the world. And so they're also much more volatile.
And you're going to see just generally high volatility in the yield curve.
Can you talk a little bit more about the AI boom.
Because we hear people talk about a crowding out effect.
And I think this is actually like something that is just starting to get a
lot of attention.

[[11:21]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=681s)
But the proportion of issuance in the
corporate bond market that's coming from AI companies or AI related, you know,
investment right now is just insane. And you mentioned Torsten stock chart.
Uh, Torsten is going to be at our upcoming.
That's right. We're recording this on May 27th, our
upcoming live show in New York. And so I've previewed some of the charts
he's going to be sharing there? There's a chart there that shows, uh,
basically the proportion of AI in the corporate bond market.
It's now 50% of all investment grade issuance, um, year to date.
And in even junk rated debt, it's creeping up to like almost 40%.
So this is a significant amount of debt that's being issued into the market.
Is it reasonable to think that investors are maybe going to think like, well,
I'll buy some big tech mega cap IG debt versus a U.S.
Treasury?

[[12:16]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=736s)
At least when you look at the pricing in
markets, that seems to be the case, especially when it comes to equities.
You everybody wants to have a piece of the eye boom.
Uh, and yes, I think there is that sense that, well, this is a sector where we
could really see real gains, especially, you know, in terms of productivity
increases and profitability. And that's going to help.
That's going to be some, you know, something that they want to be a part
of?

[[12:43]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=763s)
So there is that demand for corporate
bonds and for US equity, which is coming again both from domestic investors but
also from international investors, which, you know, where I is, the trade.
I mean, that's where all the dynamism is and that's where people want to put
their money. Now we've we've pointed at all the
reasons why rates are likely to stay high.
But I just want to point out that we since we still have the ongoing Iran
conflict and we still have the Strait of Hormuz closed, if that is not resolved
and you in anytime soon, like, you know, the next month or so.
Yeah.

[[13:26]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=806s)
And you see a even steeper increase in
oil prices and crude prices going up to say, $160 a barrel, which is what some
of the projections would be in that case.
Then we could see much less, much more demand destruction that we have seen
today. and we could be back in that space where
at least the short end. Interest rates are being cut pretty
rapidly. I want to, on this question, going back
to the effect that the I build out is having across rates and bonds and so
forth.

[[13:56]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=836s)
I want to sort of get some clarification
here of what either you or what economists mean when they talk about,
say, like crowding out because there's one version of it that is like, okay,
there is a lot of there. There's a lot of debt being issued right
now by, uh, very highly rated companies may probably yields a little bit more
than U.S. government bonds.
That is attractive for investors. Perhaps there's and maybe that has some
sort of crowding out in the financial markets.
The other way that one can that I tend to think of crowding out is that these
I, uh, the I build out, it's like they're taking up all of the wind
turbines.

[[14:36]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=876s)
They're taking up all of the trucking
capacity to get the goods to the data centers.
They're taking up all the skilled contractors and laborers within the
regions that these data centers are being built.
And that creates inflationary pressure that adds to the strain and therefore,
all things being equal, that says higher inflation and therefore higher rates for
longer to maintain that, which of those two models, whether it's the sort of
financial markets version or the sort of real economy version, is a more useful
way of thinking about that linkage between private and public sector
spending slash debt.

[[15:12]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=912s)
So both of those are in play right now.
So that's the difference between what's happening to real rates versus what's
happening to nominal rates. Okay.
And what's happening to the pricing of uh, the fed fed rate path.
Right. So the first channel that you mentioned,
which is just the fact that there is so much of demand from the private markets,
from the I investor's forecast that, you know, yeah, companies for capital is
going to raise real rates.

[[15:40]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=940s)
You know, even if there is no effect on
inflation or inflation, expectations are not moving.
We should expect to see real rates rise. And that's certainly we're seeing some
of that. And then the other is the effect that's
working through the demand for the different inputs.
Then going to I. And that's creating an inflationary
pressure which would then need higher nominal rates.
And that is also, you know, playing out. I think right now I suspect that the
real rate piece is more important.

[[16:14]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=974s)
The inflationary part is being driven a
lot by what's happening with energy prices and passed through from energy
prices into also for inflation. So I think that's the more of the, the,
you know, the higher inflation, higher rate path story is coming from other
forces on inflation as opposed to what's coming from, uh, I itself.
And then you have the real rate path, which is going up also because of the
general risk, risky environment that we are in, but also because of what's
coming from this increase in, you know, capital demand coming from the AI
sector.

[[16:50]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1010s)
So one of the reasons we wanted to speak
with you is because you do have that very significant policy experience.
And so when faced with, you know, potentially rising real rates because of
an AI boom, what should policymakers be doing here?
Because, you know, certainly in the U.S., we've already seen some fed
officials or outgoing fed officials start to argue that they can look
through the AI boom and its impact on inflation.
But if real rates are, you know, structurally rising, if our star is
structurally higher than it was before, is that the right move?
So, I mean, what matters crucially, is what we believe are the main drivers of
our story at this moment.

[[17:31]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1051s)
Is it coming because of higher
productivity growth which is then leading to higher investment and
therefore demand for capital. You know, all of that is good.
Is it kind of the good kind of increase in our star?
Because that's an economy that is going to is projected to grow at a faster
rate. And that helps.
That helps on many fronts, including in terms of bringing debt to GDP down.
The other reason our star is going up is because of the increase in fiscal
deficits and just general high levels of government borrowing in the US, that is
less appealing because that tends to be not necessarily growth enhancing, that,
you know, the money that's being raised is not for, you know, productive,
necessarily productive infrastructure investment that's going to generate
enough growth.

[[18:19]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1099s)
So that's more problematic because it's
just generating our star without generating the higher growth that comes
that should come with it. And that can be a problem from a
policymakers perspective. Of course, you have to firstly be able
to tell what is driving the car. Is it a good kind or is it the bad kind?
But regardless if our style is drifting up and you have an inflation target of
2%, you are looking at higher nominal interest rates, right?
So right now the fed has in our star food cost of about 1%.
If you put 2% inflation on top of that as their target, we're looking at 3%,
uh, nominal rates, which is a clear shift away from what it used to be pre
pandemic.

[[19:04]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1144s)
Then you have to check to see whether
the R star increase is actually slowing the economy down, or the increase in
your nominal rates are slowing the economy down.
And how much higher than that are. So do you have to be to be able to
bring, uh, inflation down because there is obviously above target inflation in
the US at this moment. That is now the big question whether the
productivity boom is going to mean that you don't need that much of a above our,
our interest rate, or do we have mean to any other forces coming from energy
prices passing through into core inflation, the lesser, lower levels of
immigration in the country, just general trade disruptions, supply chain
disruptions, and those are the main drivers in case.
In which case maybe you need to keep interest rates even higher.
So being able to tease that apart, uh, is where, you know, I think that's where
the tough decisions are.

[[19:58]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1198s)
But what is squarely the case is that we
are looking at higher nominal interest rates.
I mean, regardless of where the our star is coming from, the good kind or the bad
good, you know, there is this fantasy and hopefully it comes true.
But there is certainly this fantasy of a lot of people who are into I would I
would think it is called they would call like the disinflationary boom, right.
So the let's just imagine we have extremely powerful artificial
intelligence that is capable of delivering, you know, incredible
material gains for people.

[[20:34]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1234s)
It makes health care really easy and
quick. It could power robots that care for us.
It can build things, etc. we're not.
And meanwhile, the cost of commodities collapses.
Maybe the cost of labor collapses. Is that is that a scenario in which it's
worth contemplating and thinking about? Well, so everything gets really cheap
because it all gets super automated. But also our standards of living rise
dramatically because the eye takes care of it for us.
Is that conceivable?

[[21:05]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1265s)
Like from an if you just from an
economist's perspective, is there such thing as the disinflationary boom
worried the deflationary boom? Even so, this is about, uh, you know,
making a distinction between now and what comes next.
Yeah. No.
It is about the high levels of investment, right?
Like, clearly right now it's pushing everything up.
But let's imagine ten years from now and we've done it.
We have this in Cairo, and somehow we've solved all the Sci scenarios so that the
ad doesn't want to kill us all, etc.

[[21:37]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1297s)
let's just imagine the rosy scenario in
which we have this look like there are some under discussed risk factors and
then go but right, like let's just say the robots don't kill us.
Assuming we solve that and the AI works on our behalf, and it does what we
wanted to do, and it can create incredible material gains while also
make while also very delivery of cheaply because it's just one AI, etc., is that
it contemplates, uh, um, the scenario from an economists
perspective, there is absolutely a scenario where we could be in that
wonderful place with high productivity growth.
At the same time, we don't have civil unrest or right, you know, rogue forces.
Yeah.

[[22:19]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1339s)
Using AI for for ill.
That is a scenario. But I do not know a single person who
will put a probability on that Scenario and say that that's going to happen, you
know, with a significant amount of certainty.
Yeah, there was a very high degree of uncertainty.
And there are several who also believe that it's yet to be seen whether there
is going to be any major productivity gain of the kind that, you know, there
are analysts who believe the productivity could go up by two
percentage points a year, you know, over and above what's where it is right now,
which is around two percentage point a year.
And that is you huge.

[[22:59]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1379s)
There is no evidence right now of that
kind of productivity wave coming through.
So it's early. But you know, I use the technology and I
find it terrific. I mean, it is it's been really great for
my own productivity. Uh, it's not affecting my wages or
anything so far. But it is, it is, it is uh uh, it is,
uh, you know, very valuable technology, but there is a lot of uncertainty and
which is what is very curious about the markets.
Right.

[[23:26]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1406s)
Because on the one hand, it is
impressive where the stock markets are again at the close to a record high.
And maybe you one can explain that by this by saying that, well, there is a
scenario where everything goes perfectly well, but there are so many other
scenarios that could play out between now and next year or even two years from
now, and you barely see that price being priced in markets.
So I think that's frankly more surprising than just looking at what's
happening with just the level of, you know, of the stock market.
Okay, we keep talking about the stock market and, um, you know, debt issuance
in the corporate bond market and how everyone wants a piece of ie.
Does that basically mean that we're seeing, I guess maybe scarcity of
capital versus the global?

[[24:14]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1454s)
We used to call it a global savings in
the early 2000. Right.
Which ended up, per Bernanke, um, pushing yields lower.
Does anyone still talk about a savings glut or should we all be talking about,
you know, like capital scarcity. No, we don't have a global savings glut
anymore. And proof of that is real rates going
up. Interest rates going up.
So that's so that's that. What we certainly seem to have in the
U.S. is I don't know if what to call it, but,
you know, a gelatinous demand for US equity.
Yeah.

[[24:45]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1485s)
Coming both from domestic investors but
also from foreign investors. It's I mean, we're at 40 trillion in
terms of foreign holdings of U.S. equities.
That is at a historic high. Even if you look at as a share of the
rest of the world's GDP, it's about twice as high as what it was just before
the 2000 dotcom bust. I guess is the peak of the dot.com.
Uh, so this is, uh, you know, the world has never been that invested in U.S.
equity markets.

[[25:18]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1518s)
It's like it's the only game in town.
So, you know, there's a glut if there's a gluttony.
Robert, I would say this for us. US equities.
We're all in this together. And as we know in terms of what's coming
into the markets right now, I mean, we have some very big IPOs.
And, uh, that will make us even more all tight at the hip when it comes to eye in
stock markets. Speaking of, um, big IPOs, Tracy Ryan,
this reminds me and saying this is a message to our producers.
We should really do an episode um, soon about are you including voice memos to
producers and voice memos to producers?

[[25:58]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1558s)
No, I really want to do an episode soon
about the fact that all the big index funds are going to have to include
companies at basically their peak where you think like historically, okay, like
a company like Apple, like, and know there's the S&P 500 and, I don't know,
maybe a $20 billion market cap. And then it's a multi-trillion dollar
market cap. This will be the first time that the
index fund owners are going to eventually have to buy these really big
companies without having ever experienced any of the gains from the
run up.

[[26:34]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1594s)
And I think that's going to be a
historic moment for both markets. Indexing and ETF.
This has been one of my long running criticisms of the big benchmark index
providers, which is like they always say that they're not making investment
judgments, they're just holding up a mirror to the market.
But like, actually a lot of these decisions are like incredibly embedded
with judgment calls. And they do end up having an impact on
the entire market. Yeah.
This is, uh, this is, I think, going to be a historic time for sort of index
investing.

[[27:03]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1623s)
Anyway, I know that this is a
divergence. I just needed to get that voice memo in
to our producers. Yes.
I mean, one was, you know, hey, there are there are more ETFs than there are
actually companies being created on the market.
So if one is if you want to spend a lot of time picking and choosing, you could
be you could be selective. events.
Yeah I want to switch ETF but then I have to take a capital gains hit.
So I can't you know this is the the.

[[27:27]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1647s)
Anyway we're getting pretty pretty
sidetracked here I want to talk more I mean there are many phenomenons or many
things going on at once. But when we think about these pressures,
one of and it relates to I, but it also relates to commodities itself, is this
idea of essentially national resource hoarding and the decline of sort of free
trade. And so the fact is, it's like, you know,
maybe at one point we could say, you know, what a country could say, you
know, it's great that America is building a bunch of fighter jets so we
don't have to have our own indigenous fighter jet industry, etc..
How much?

[[28:04]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1684s)
When you look at what's going on with
the rates picture and pushing up inflation and so forth, is this
phenomenon in which no country fully trusts other countries to deliver goods
for them, and therefore there's a lot of replication or duplication of capital
investment. Capital investment.
Happening in every country all at once, simultaneously.
We're seeing a lot of that. I mean, we moved squarely, firmly,
decisively away from the pure efficiency based model of I'm going to buy from the
cheapest place, and I'm going to sell it from the cheapest source to one where
everybody is building up their own capacity as much as they can.
And of course, depending on the country and depending on how much of fiscal
space you have, that can be a small group of things or a big group of
things.

[[28:54]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1734s)
For sure, energy security is just
there's everybody's paying attention to it.
Uh, how do we make sure that we don't have to import fuel from the rest of the
world? And how can we have our own fuel at
home, either through renewables, you know, whatever we need to do or maybe
just returning to coal for now. Mhm.
That is we're going to see we're seeing that defense expenditure.
We need to be able to not just spend more on defense, but make sure that we
can actually produce more of that, uh, of the weapons that we need.
Semiconductor chips, rare earths?

[[29:31]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1771s)
Yes.
There are. You know, I think there's so little
trust in the world right now in terms of relying on your trading partners.
Yeah, that countries are just going to be spending a lot more on this.
It's just that it depends on whether you are a country that can afford to raise
the finances for it or not. And, uh, but everybody is heading in
that direction. So if you look at the list of, of, you
know, all the sources of demand for capital, that is a very, very long list.
Yeah.

[[30:01]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1801s)
If you look at the sources of supply of
capital, there's just one category which is aging demographics.
I mean, that's, you know, we often tend to blame old people for the fact that we
need to spend so much on retirement and on health and, um, for their for the
future. But the truth is the reason interest
rates are not much more high than they would have been is because of the supply
of savings coming from aging demographics around the world.
Well, you mentioned fiscal space.

[[30:29]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1829s)
Um, and I know you've talked previously
about the need to, you know, reduce some entitlement, um, spending if governments
are going to be serious about reducing deficits.
And yet we've seen numerous attempts in the developed world to actually cut back
on government spending. And it seems very, very hard to do in
elected democracies. Right.
Like it is not a popular platform to be elected and say, what we really need is
austerity for the longer term, and all of you are going to have to suffer in
the near term.

[[30:59]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1859s)
How are policymakers, like,
realistically supposed to navigate that tension, assuming that they're up for
election every 2 to 4 years? I mean, we have the additional problem
that I think policymakers actually are not really keen on or particularly
worried about where their debt to GDP is.
If you look around the world again, except for places where the bond markets
are simply just not letting you do more spending.
Uh, even in the U.S., uh, you know, you just I don't believe there's anybody in
Congress who is truly worried.

[[31:32]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1892s)
There are.
Sorry. Not there are a couple in Congress who
are worried about the U.S. debt level, but not enough given where
debt levels are and given the forced, you know, foreseeable path of spending
that's happening. But again, it's just a step back and
see. It's helpful to look at what has
happened historically. And when have countries been able and
how have they been able to bring their debt to GDP levels down?
It's a couple of things.

[[31:56]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1916s)
It is one is just a spurt of growth, uh,
that has come about either because you are some sort of a commodity exporter
and you just had positive terms of trade shock.
And because of that, you have your debt to GDP.
You hit the jackpot, basically. Yes, exactly.
You got lucky or productivity growth or boom, above average growth.
And I believe that's what we're betting on this time with the eye.
The hope is that with AI, we will get growth from 2% up to 4%.
And then that will certainly solve problems if we have that only persistent
basis.

[[32:31]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=1951s)
But that's ten countries, especially
developed countries have tended to rely on that.
And then you have inflation. If you go back even further, and also
obviously during right after the pandemic, inflation helped bring that
GDP levels down. And then of course, the third is what we
see with developing countries as you end up with with default and restructuring
and crises. And then again, you bring debt to GDP
down that way. So those have been the typical part.
Uh, we've never had to worry about debt crises in developed economies.
But but now more and more and I think this is also a new feature of the world
we live in is the developed world, uh, is moving into that space where their
debt costs and the borrowing costs are far more volatile, far more sensitive to
market conditions.

[[33:22]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2002s)
I mean, the stock cases, the UK, where
you see that on a day to day basis, but you know, you see that in other
countries too in Europe and uh, some of it in France and more generally, even
Japan, where for the longest time we didn't have to worry about borrowing
costs. Those have squarely moved up.
The ten year rates have moved up. Uh, you know, Germany's ten year rates
have moved up. So everywhere we are seeing developed
economies also now having to face higher, uh, borrowing costs.
The U.S., I think, is still the exception in the sense that even though
ten year yield.

[[33:57]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2037s)
Arrietty.
Well, 4.5% right now, just given the level of supply of of debt and what's
expected to come out in the future, markets are still treating it as have
giving it some privilege, even if it was not as big as it used to be in the past.
What does a in your view, a debt crisis look like in a country that borrows in
its own currency? Because obviously, like technically
speaking, we know politically, you know, maybe the debt ceiling doesn't get
raised.

[[34:27]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2067s)
There were certainly political ways to
default. But economically, the the US never
theoretically has to run out of dollars per se.
In fact, I would say it's the you say it's the same thing with the UK.
You say it's the same thing with Japan. There's you know, they're not going to
be can't run out of yen the same way, in the same way that, say, an emerging
market that borrows in a foreign currency could theoretically run out of
dollar reserves.

[[34:58]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2098s)
Which is why we watch reserve levels
when we talk about sort of on the edge emerging market.
To you, what does a debt crisis look like in an advanced economy in which all
of its debt is denominated in its own currency.
A crisis in, uh, you know, and a developed economy would look more like a
credit crunch that then leads into a financial crisis.
So we would see a sharp increase in borrowing costs that will affect many
other asset classes.

[[35:30]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2130s)
You would see a slump in investment, uh,
the economy. So is this debt overhang, high levels of
death and that you have to roll over on it on a daily basis.
That overhang which slows growth, slows dynamism.
Uh, that is what a typical crisis looks like.
And yes, you can have financial crises. One of the wonderful things about the
last several years is despite all the shocks, we haven't had any financial
crises in the developed world or in any emerging market and a big emerging
market.

[[35:59]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2159s)
And that has been very helpful to bring
back a fast recovery of the world economy every time after every shock.
And we talk about resilience. So in a case where we end up with just
debt levels that are really high, it's just costs going up everywhere, and that
will eventually slow down economies, if not just trigger a financial crisis
right away. Given how sanguine financial conditions
have been. What happened?
You mentioned that one of the things that's changed pre to post pandemic has
been the, um, changing marginal position of central bankers with respect to the
bond market and the fact that they've gone from being often although even in
the U.S., I mean, quantitative easing ended in the 20 tens, etc.
but what happens is if, say, we talk about some, uh, central bank in one of
these developed markets and they say, you know what?
We're just going to we're going to cap the long and we're going to we're going
to buy bonds until the rates are long, um, held.
Um, you know, they don't go above 2% or 3% or etc..
Seems very plausible that something like that could happen in the developed
market before too long.

[[37:11]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2231s)
What would be the sort of fallout if a
central bank explicitly came out and said, we are going to buy government
debt and just hold down the rates in a very explicit manner like that.
If a central bank comes out and says that
we are, you know, different from our mandate of price
stability and full employment, regardless of what's happening there, we
are going to go out and buy long term debt.
Then that's what's going to happen, is you're going to see inflation
expectations drift up, and then the nominal rates are going to go up and
real rates will also go up because of the risk associated with inflation.
Premium will go up.

[[37:55]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2275s)
And that would be, you know, the end of,
uh, the wonderful error that we've had of central bank independence.
And that's helping to keep interest rates low, so that strategy just doesn't
exist. You can play through it for a little
while, but eventually it gets priced into markets.
So I mean, unless of course it is a tool for monetary policy because you hit the
zero lower bound. Sure.
And you still need to stimulate the economy then you do that.
But right now we're far from right there.
We currently have the opposite situation where we have the opposite.
So it is you know, countries try have tried it in the past.
And these are usually the countries that the IMF works with because they
eventually find themselves in crisis.

[[38:38]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2318s)
But what typically happens is you get a
tiny period when it looks like this is helping.
And then you just get much higher interest rates, and you just don't get
any of the benefits of of central bank buying your debt.
You know, you mentioned earlier that we haven't really had a major financial
crisis in recent years. And if we could just broaden that idea
out a little bit, I think that the resilience of the global economy.
And certainly the U.S.

[[39:06]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2346s)
economy has been surprising to a lot of
people. We've had multiple shocks, but overall,
certainly in America, people just keep spending.
Everything kind of keeps ticking along. Is there something that economists are
maybe like underestimating when it comes to why?
It seems like, again, the global economy to a lesser extent, but certainly the
U.S. economy seems so resilient in the face
of all these once in a lifetime shocks that we keep seeing.
There's been a combination of things that have helped, uh, and some of it
have been surprises.

[[39:44]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2384s)
Again, since we're talking about debt,
that increase in debt has come about because of the very large amounts of
support that governments around the world, uh, gave during each of these
crises. So during the pandemic, I mean, advanced
economies spent about 25% of GDP. If you look at the combination of not
just outright support, but all kinds of loan guarantees and, and equity
infusions and so on. Um, that was huge.
That was those were much higher levels than anything we'd seen, uh, in, you
know, in recent times.

[[40:17]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2417s)
And because of that.
But, you know, households and businesses came out of the pandemic with stronger
balance sheets than they did going in. And that has helped hold up demand also,
and also has helped, therefore helps hold up profitability in a lot of
businesses because of that strength that came from all that large amount of of
support. That was one.
Second is the eye boom. Is is a big player right now.
If we didn't have high and if we didn't have the increase in demand coming from
I, we would be looking at just much lower growth rates, uh, in many parts of
the world at this time.

[[40:58]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2458s)
And we would also see trade being much
weaker. I mean, trade is being held up a lot by
the inputs flowing around that. Uh, that's also been a big contributor.
So we've had these positive offsetting events.
Uh, the question is what happens is the next crises in the next crises?
We countries do not have the fiscal space to provide that kind of support.
And we mean, see much less resilience than we've seen, uh, the last few years.
I mean, I think that's something we should keep in mind.
I don't think we should take this resilience as some sort of a, an
absolute structural shift that keeps economies growing at their, you know,
long term trends, regardless of how big the shock is that's affecting them.
You wrote a piece, I think, recently for the Financial Times, which you talked
about the bliss trade, I think, as you call it.
And can you clarify, because it sounds like expand on this idea that there is
this assumption of state support.

[[41:57]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2517s)
There's an assumption of a backstop.
Things go bad. The government will be able to do
something. And this is seems to be the core of your
idea that this is mistaken. We have this mindset right now and in
policy in the policy world, and therefore people who are investing in
markets that the state is there to fix a lot of the problems.
And we see it right away. Even now, what's happening with energy
prices going up is that there are many countries that are capping fuel prices,
that are cutting energy taxes.

[[42:32]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2552s)
The instinctive reaction is to protect
households and protect their spending power.
And when you do that, that helps corporate profitability and that is
going to be favorable for markets. So we've been in this environment now
either explicitly or implicitly. And there there has to be this notion
that the economy has been resilient and it is a reflection of the the Blitz.
When I call Blitz, which is big, lasting state support which has helped economies
all over the world, not just in the US but in many other countries.
So the expectation is that that will continue.
And going back to where we started this conversation, just given how high debt
levels are, you know, that's just increasingly questionable, which means
that I think governments are going to move towards far more unorthodox
approaches, including price controls, financial repression.
You know, the kinds of things that we haven't encouraged in a long time.
You know, we've talked about some of the big structural phenomenons in the global
economy, the AI boom demographic, certain things with trade.
There's one thing we haven't really talked about, which is something I think
about, which is that if a country makes something physical, there is a very good
chance that either right now or in the future, China will be able to make it
cheaper and better.

[[44:00]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2640s)
And this is no matter what it is.
There are still some things that aren't the case.
The most advanced semiconductors aren't manufactured in, uh, in China.
Um, uh, Boeing, Boeing and Airbus jets and stuff.
There's a few examples, but by and large, when you think about the stresses
that are being placed on economies all around the world, how much is this
particular dimension? Um, a factor of the fact that, like any,
almost any tradable good might at some point be most efficiently, uh, originate
from China.

[[44:36]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2676s)
Yeah.
I read a lot of pieces on this that somehow the China will continue to run
trade surpluses because everything it wants, it wants, it produces for itself
and produces for the rest of the world. And so that's that.
I mean, that that makes little sense to me.
Firstly, if you just look at China's spending behavior
that, you know, they run a surpluses surplus on their goods trade front, but
they run a deficit on their services trade front.
And so one of the reasons why China's overall deficit.
Uh, you know, current account deficit with trade deficit is around 3% of GDP
as compared to the 10% of GDP before the great financial crisis is because they
are big consumers of services around the world.
Chinese tourism, uh, has been a big contributor to incomes around the world
and the service deficit that they run.

[[45:36]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2736s)
So so just that.
Right. So there's nothing there's no sense in
which China ultimately gets to do everything.
Secondly, usually if you get to a point where you are, if you're so successful,
if you're so good at manufacturing, making everything you ultimately are
going to have very high levels of investment that given the level of
savings in your country. That usually means that you start
running three deficits, right? So it cannot be a story of China being
very successful in its investment and being very productive with any kind of a
high productivity investment boom story means the country running deficits.
What has happened in China is basically very a lot of consumption suppression.
Because of that, you're seeing surpluses that the country is running.
And we are also now seeing all the problems of very high levels of
investment that's come from the crash in the property market, which, despite the
last four years of interventions and government policies, is actually looking
quite bad.

[[46:43]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2803s)
So the weakness in the property market
is the weakness in consumption. Uh, you know, if China is going is
running surpluses at this point, it is because investment has dropped in China.
You have. That's gone both from the property
market crash, but also because of all the, uh, you know, excess supply and the
overcapacity that they've created. You've seen a declining investment.
So 2025 was a first year when investment in China actually declined.
That explains why it's running a big trade surplus now.
Yes.

[[47:16]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2836s)
There are, uh, a lot of exports coming
out of China. Forget about the surplus deficit part,
but just the fact that they're sending a lot of goods out of their country is a
source of competition for manufacturers around the world.
I believe that this is not sustainable. I don't think Europe or other Asian
economies in East Asia are going to just say, well, that's okay.
We are okay with China dumping all these goods on us.
They're going to put tariffs on China.

[[47:46]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2866s)
China is aware of that, which is also
partly why they're trying to, you know, see how they can manage their own
exports to some extent. They will move in that direction.
But I am not a buyer of the whole. China produces everything and does
everything on its own, and somehow we still continue buying from China.
That makes little sense to me. You know, just going back to the
beginning of this conversation, I mentioned a bit of a deja vu feeling,
because we do have these bond sell offs from time to time, and we often record
podcast episodes on them.

[[48:19]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2899s)
And the idea of a debt crisis has also
been a popular theme on many podcasts, not just ours.
What are you? Do you have any sense of what a catalyst
for? You know, this actually exploding into a
real life debt crisis? Could be.
Or are there certain levels or numbers or behaviors that you kind of watch out
for from, from here? I think it's very important.
What's going to happen with EI and the productivity boom that we are hoping
for?

[[48:51]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2931s)
me, that is going to be very important.
If it turns out that there is very little showing up in productivity from
I, or we have a setback that comes from just discovering that though, there's so
much of hallucination that it's just you can't really use it for anything very
important. If that's the case, then I, I could see
a situation where the pricing of debt, uh, you know, it drops even more.
It's a lot more concern about what's going to happen in terms of
government's, uh, ability to repay all of that that they have, and not just
now, but that's expected to come into the future.
So for me, that's one thing.

[[49:31]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=2971s)
I mean, what's it is important that
there is growth in the economy and that that growth is coming from good places.
At this point, it seems like the growth is coming from a investment.
Uh, and the hope that it's going to generate all that productivity growth
if that story goes away. We have a problem in terms of the
concerns around fiscal positions around the world.
Geeta, thank you so much for coming on all that's truly the perfect guest for
this moment in time.

[[50:00]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3000s)
We really appreciate it.
Thank you. Um, it was a lot of fun.
Joe, here is my overwhelming takeaway from that.
Just go on. There are so much riding on I.
Yeah, right. Like.
Like, honestly, I know it's the last answer is like, well, it kind of all
depends on economic growth and whether we get that productivity boost via I.
Yeah. Like the idea that the entire sort of
Western economic model and I guess social compact with governments is now
dependent on whether I actually does what it says on on the label on the tin
is is nuts.

[[50:33]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3033s)
Yeah.
I mean, the numbers are obviously just extraordinarily big.
And they're so, you know, they're and they're affecting everything and they're
obviously it shows up in financial markets, but it also shows up in the
real economy and is a major force of sustained upward pressure.
Yeah, I think there's no disputing that. It's like we've all become.
Uh, we're all watching along. Sort of like eating popcorn and knowing
that our fates will somehow. And I'm serious, you know?
So Gwyneth said it really well, which is like, we're all basically in the I trade
together whether you want to be or not.

[[51:07]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3067s)
No, I know, and it's like, you know, I
look at my like, uh, very passively diversified, um, retirement money and
I'm like, I'm such a genius these days, you know, because it's like, because you
don't even have to be an star, though. Do you feel pressure to keep spending on
tokens in order to support equity market valuations?
Yes, I like Keith. Like yes.
That's right. I keep like thinking of more tests.
And I could do it I because like, oh I need to make sure the tokens are
boosted.

[[51:35]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3095s)
No, it's really wild.
It's uh, it really is everything. And then you I mean, this gets and then
the whole conversation is like, um, the last six years have been crazy.
Crazy. Like, seriously?
No, seriously. I have a voice memo for producers, which
is? We need to clip that quote of Joe going
crazy. No, seriously, you just think of all the
things that have happened in the last six years.
Oof! And so I guess I'm not surprised.
Well, that also a regime shift during that time.
I mean, that also gets to Guido's response about this idea that, like,
there is this assumption in markets that while we got through the last like 18
once in a lifetime cases just fine, and so we'll manage to get through the next
one.

[[52:15]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3135s)
But then the question is fiscal capacity
and I guess political will, it's both of those.
And it's like, you know, the way I think about it.
And Japan I think is instructive example here, which is that like when I think of
fiscal capacity, I don't think of like a sort of like if you have 80% debt to GDP
level, you have fiscal capacity. If you have 120%, you don't, because we
don't know if there is that number.

[[52:42]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3162s)
But what you do know, and what we can
say is that in a period of high inflation and in a period where where
resources are already constrained, and governments have made a commitment to
say to seniors that their, you know, that their standard of living will be in
government to meet against, uh, commitment to so and so the defense that
it's not going to drop low eggs, that once a lot of these certain just sort of
commitments have been made, if you get another shock in which you say, okay,
let's just God forbid, let's just say there were another pandemic in which a
bunch of people temporarily and we tried to do the same playbook again.
And it's like, okay, we're going to, uh, replace your lost income for a few
months.

[[53:24]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3204s)
Um, well, at a time in which we're
already very, like, resource constrained.
Mhm. You see how that just becomes, you know,
there was a lag. We're like instantly inflationary
because we're already sort of that's the difference of in 20 in early 2020 and
late 2019. We were not pushing against our real
resource limits in the way that we appear to be right now.
Yeah, I think that's right. Okay.
Well, on that happy note, shall we leave it there?
Yeah, let's leave it there.

[[53:51]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3231s)
Okay.
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[[54:17]](https://www.youtube.com/watch?v=CfP72YBgPdI&t=3257s)
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