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00:00We have with us a very special guest joining in to talk to us about what he actually made of that Fed move.
00:07Robert Sorkin, Senior Global Economist of City Research, now joins in.
00:11Good morning, Robert. Thanks a ton for joining us this morning.
00:15Good morning.
00:16Robert, I mean, how are you looking at this?
00:19The last I checked was no one was talking about rate hikes.
00:23We were just disappointed that rate cuts were delayed.
00:26This morning, of course, the street seems pleased that rate hikes were not mentioned
00:31and a rate cut could be potentially down the road as early as July.
00:35How did you read into the Fed statement?
00:37Because I feel like the markets are choosing to read commentary the way they choose convenient at this stage,
00:44as opposed to actually taking it as it is or as it should be.
00:48Yeah, absolutely. Thank you so much for having me.
00:52It was a very interesting meeting.
00:54As you noted, I think there were more market participants or greater fear among market participants that
01:04Chair Powell may put hiking again on the table, given the very strong inflation prints we saw in the first quarter,
01:13given that the employment cost index, which is the best measure of wage growth, came in far above expectations as well.
01:25But, you know, that provides some relief to markets that Powell really did not lean into the possibility of hiking further.
01:32He really feels that the rates are restrictive and that they can just hang out at current levels for longer if inflation does not make as much progress as they would like.
01:45So that was kind of a positive that it would really take a lot from here to get the Fed to think about hiking again.
01:52Now, in terms of cuts, I think people are taking comfort in the fact that Powell did not remove completely the idea that cuts could be coming this year.
02:04He admits that progress has stalled and that they would need to see further progress to really gain confidence that inflation is moving back to target.
02:14So I think the big news is making sure that hiking is off the table, it seems, and easing is not off the table, but just perhaps more delayed than the Fed was thinking just a few months ago.
02:30Right. Robert, we've had, of course, very clear commentary that the Fed has indicated that they need inflation to be around 2% before they even think of moving on a rate cut cycle.
02:43How do you feel that's playing out? Because we did have some data which showed that labor costs were on the way up, and in the backdrop of wanting inflation at 2%, how do you view that?
02:54Do you even feel like July is even a realistic timeline? Because otherwise what's going to happen is you're going to raise your hopes on a July rate cut.
03:01None of that's going to come through, as we've seen in the last few months. And then that can get pushed down the road once again.
03:08Yeah, and this is really challenging. Our base case does remain a July cut.
03:15And Chair Powell did open the door to thinking about easing rates if they become more concerned about weakening in the labor market, weakening in activity.
03:29And so if the economy does slow down more distinctly as we go into the middle of this year and you do see some cooling inflationary pressures, that may be enough for the Fed to start cutting in July.
03:43But that's a very tall order. You would have to see some combination of a deterioration in activity and inflation numbers coming in good enough that they feel comfortable cutting at that stage.
03:57Now, in terms of the inflation data, assuming that the economy does remain resilient as it has at the start of this year, absolutely.
04:08As noted, we have seen both on the wage growth side and particularly within services sectors, we're still seeing fairly sticky inflation pressures.
04:19And that's really tied to that elevated, still elevated wage growth.
04:24And, you know, I think that's really what you heard from Powell is a lot of uncertainty about where those numbers are heading.
04:33There are some reasons to think that the Q1 data could be abnormally strong for non-fundamental reasons.
04:42Maybe there's statistical seasonal adjustment issues within the data, but that remains to be seen.
04:49And we really need to see how the inflation and labor market figures evolve in Q2 to really get a better sense of how much signal was there from that Q1 data.
04:59I think that's exactly what you heard from the Fed today, is that they're not really sure.
05:03They still think that they'll make enough progress on inflation this year.
05:07But Q2 is going to be really determinative in deciding, you know, how their posture is going to look in the second half of 2024.
05:17Right. Robert, you know, what we really are struggling to understand is that just a few weeks or a few months ago,
05:25the narrative, the conversations have shifted from, well, rate cuts, which at the moment seems to have, you know, not appearing anymore, to rate hikes at the moment.
05:38Why is there so much confusion, if I can say that?
05:43And why is it that and how does the debt to GDP, you know, picture come into considerations as far as the Fed's concerned?
05:54Yeah, these are these are great questions. I think if you go back to the beginning of the year, the market was looking at the second half of 2023.
06:02They were seeing resilience, economic activity and inflation on kind of a six month basis, really running near the Fed's target.
06:11And you've had the market kind of pricing in a very rapid easing cycle from the Fed this year, given that progress.
06:20And I think maybe the market's got a little ahead of themselves, especially because, as we've seen over the last few months,
06:27the Fed really wants to be sure that inflation is moving back to its target sustainable way.
06:35And so they needed a lot more data than what they got in the second half of last year.
06:41And the data, as we've talked about in Q1, have really gone against that thesis or have really brought into question that inflation is moving is moving back steadily towards the Fed's target.
06:54And that's why you've seen this narrative shift from, you know, nearly six cuts priced in earlier this year to something closer to one.
07:03And even some people starting to talk about maybe the Fed would consider hiking from here.
07:08Again, Chair Powell pushed back against the idea. I think the bar for that is very high.
07:12But it's because the data in Q1 have really worked in a different direction that you've seen that narrative shift.
07:18Now, in terms of the government's debt, you know, there's no question that the government is still running large deficits.
07:25Debt levels are high in the U.S. and you're seeing interest costs on that debt rise, given the large deficits and the high interest rates we have now.
07:34I do not think that's what's playing into the Fed's decisions.
07:38You know, the Fed is focused on getting inflation back to target and maintaining full employment and is not thinking about the cost that comes to the federal debt from these interest rates.
07:53Now, for the federal government, I think that does highlight a different issue, which is that, you know, they are running very large interest costs.
08:01And there are questions about how long that type of situation can run before markets start demanding even higher premiums on government debt.
08:11So I think the government issue is separate from the Fed, but is also a concerning dynamic in this environment.
08:17Robert, what does all that mean for emerging markets like India?
08:21We've, of course, seen FPI sell out of our markets in the month of April.
08:25China, on the other hand, has seen inflows.
08:27The Japanese yen has declined quite sharply, which has also led to some money going into China.
08:34If I had to ask you for F525, where does India sit on the pecking order?
08:40Yeah, and, you know, this is a great question because for emerging markets, I would highlight a few points.
08:48One, fundamentals tend to be quite, quite good there.
08:52We're looking for very strong growth out of India again this year.
08:57A little bit of slowdown relative to last year, but last year was an exceptionally robust pace.
09:03And more broadly, other emerging markets hold up quite well in our forecast.
09:09We recently upgraded China several weeks ago to 5% growth on the year.
09:14Data on balance have been fairly good there for much of 2024.
09:20And you can look across a lot of other EMs where we've seen broadly positive stories.
09:25So I think the EM fundamentals are in a good place and you're seeing fairly good growth stories.
09:33India, as I said, is a great example, but in many other EMs.
09:37Now, where our discussion today comes into play is I do think that Fed policy has a large impact on global interest rates
09:49and exchange rates and large implications for emerging markets.
09:54And what you're seeing is I think if the Fed is going to stay higher for longer,
10:00that I think is at the margin going to influence the decisions of other central banks around the world.
10:08And you're starting to see kind of a rethink among many central banks about how fast they can ease policy in this environment,
10:16both because of resilient activity and inflation, but also because the Fed is such a guiding light for global monetary policy.
10:25And the longer the Fed stays higher, the more difficult it is for other central banks to diverge from that.
10:30So I think emerging market stories are very good. India is very positive.
10:34But the Fed's policy is going to be very important for seeing how effects and rates evolve in EMs.
10:40You're right. If the Fed doesn't cut rates, it's going to be bad for markets like us.
10:46But one last question before I have to let you go.
10:50How do you feel about the Indian bond markets at this stage? Risk reward in favor of Indian bonds over equity.
10:56We also get included in the JPM index, and that's been the biggest talking point for Indian investors.
11:03How does that how does that play out? Would you pick Indian debt or Indian equity at this stage?
11:09I think, as I said, I think Indian assets in general are a very positive story.
11:16I think both in terms of the debt market fundamentals and also the equity market fundamentals are very healthy.
11:24And as I mentioned, we're looking for very strong growth in India this year.
11:30But beyond that, have a very positive outlook on India in general, especially given relatively favorable demographics compared to some other large EMs.
11:41A lot of positive investment stories coming from the government as India, as well as other emerging markets,
11:49are, I think, benefiting from shifts away from China towards investment in production and other EMs.
11:58So I think that's an important tailwind for India, among many other positive growth fundamentals.
12:05So I would think that assets more broadly in India look attractive, both on the fixed income and the equity side.
12:14Thank you, Robert. Great talking to you this evening to get some perspective on the Fed, on emerging markets and, of course, Indian equities and asset prices.