(en anglais seulement)

Hello and welcome to our latest video #MacroMemo. We've got a lot to cover this time, including:

• The state of the business cycle. We just refreshed our quarterly business cycle scorecard, so I can tell you about that.
• The recession window and whether it's opening or closing.
• Inflation, with a few special topics to drill down into.
• Central banks, which are becoming very data dependent.
• The fiscal outlook, which is a challenging one, given rather large deficits in many countries.

And we'll talk as well about India as a country with great economic promise.

Business cycle: Let's start with the business cycle. Our latest business cycle work argues that the business cycle continues to move forward. For several quarters, we had been seeing an ‘end of cycle’ reading. Now we have a recession signal in front of us. That's what the business cycle is saying.

I should say the actual interpretation is a little bit messier than that. What's actually happened is that a lot of the variables and inputs that went into end of cycle previously now moved forward into the recession phase. Quite a few of them moved backwards though, into ‘late cycle.’

So we're in this bifurcated situation in which, yes, recession is the single best guess, but the second-best guess is actually ‘late cycle,’ not ‘end of cycle.’ And so it is a little bit blurry here, maybe even some disagreement in the variables.

I think the simplest way to interpret it is just that it's pretty far along in the cycle. We're pretty close to the end. It's a debate whether we're right at the end or we're still several quarters away. But we're fairly close to the end, with some debate about precisely how close. It does sometimes get blurry at this late stage of the cycle.

Recession timing: Let's move from there to a very related topic, which is the recession window.

The debate here is, okay, we have some indicators suggesting a recession would be logical in a theoretical sense, but is the window for recession just opening now, meaning that a recession could easily happen going forward? Or is it actually closing?

The reason I ask “could it be closing?” is that there are some prominent economic models out there that would seem to suggest it is closing. They would say that the main effect, if not the entire effect of a rate hike, is felt in the first year. As we move a year past the most intense phase of tightening in 2022, the probability of a recession should be falling fairly precipitously.

I don't think that's the right interpretation. I think those models are being misinterpreted. There are some funny assumptions that go into some of them.

The models that we are looking at, even these other models, when properly calibrated, actually tend to say that the full effect of a rate hike is probably longer than a year. It's more like two and a half years to get the full effect, and it's a fairly steady burn across those two and a half years.

By that token – to the extent we’ve had central banks raising rates right up until very recently – the window is, at a minimum, still wide open. Maybe you could even say it’s actually still actively opening.

Based on a historical perspective as well, we've done research that shows that from the first rate hike to a recession, in past cycles that's averaged about two years. So that would argue that early 2024 would be the most logical point for a recession.

The conclusion here is that the recession window is still wide open. It is not just plausible, but fairly likely that a recession is on its way.

You might recall in our last video #MacroMemo, we talked about how we'd shifted the timing of an assumed recession from the second half of this year to the fourth quarter of this year to the first quarter of next year. So shifting it back by a quarter.

I can say that since then we've also tweaked the assumed severity of any recession. We had assumed, using the U.S. as a bellwether, a 1.4 percentage point peak-to-trough decline. We just upgraded that to a 1.1 percentage point decline. So a slightly smaller decline, but ultimately still looking for a recession.

Inflation: Let's shift from there to inflation. Inflation does most certainly continue to improve. Although, we would continue to emphasize that as much as some headline inflation prints out there are in the realm of 3%, they’re not quite as good as they look.

When you take a look at a core measure or a service inflation measure, or even just inflation excluding the help from gas prices, it's more of a $% or 5% kind of inflation reading right now as opposed to 3%. But it is making progress, that's the main point.

Let's touch on three quick sub-subjects, though:

1. As we look forward to the next several months, we are budgeting for the rate of improvement in inflation to slow pretty markedly.
   
   Some of that is just an observation about gasoline prices. We've seen West Texas oil rise from less than $70 a barrel to $82 a barrel in the last month. So that's going to mean that gas prices will start adding to inflation instead of subtracting, as they have for most of the last year.
   
   I can say the base effects become less favorable. That is to say, when you're looking at the annual change in inflation, the adjustment of that annual number from one month to the next is, yes, partially a function of what the latest month shows. But it's also partially a function of whatever month is getting dropped out of the year-ago data. And so there’s the interplay of two things.
   
   We were getting a lot of help from big monthly price increases from a year ago falling out of the equation in recent months. That ceases to be the case going forward. You might recall as of July 2022, a year ago, that was when we started to get tamer inflation readings. We're not going to get inflation falling as quickly on that basis as well.
   
   I can say the real-time inflation metrics we look at aren't improving as quickly either. All of a sudden, we see that business pricing plans are still much more muted than a year or two ago, but they are starting to tighten up a little bit. Businesses have slightly more plans to raise prices as opposed to fewer, relative to 3 to 6 months ago.
2. We're also aware that there is some inflation risk coming from food prices.
   
   Recently, food inflation has generally been decelerating, which has been a good thing. But between Russia ending its deal with Ukraine in terms of shipping grain through the Black Sea, it's going to be harder for Ukraine's agricultural products to meet their markets. So that will put, and is putting, some upward pressure on grain prices.
   
   Simultaneously, it's been a very hot summer, quite hot weather across at least three continents. That might also compromise harvests. We are wary, or at least aware, that there's an upside risk to food inflation as well.
3. Another complicating factor on the inflation side comes from the wage side.
   
   Wage growth is, of course, wonderful for workers. But makes it a little bit harder to tame inflation. While average hourly wages in the U.S. have officially decelerated from nearly 6% to just over 4% – which is a good- looking decline, 4.3% inflation isn't too far from normal. But that actually exaggerates the improvement.
   
   There are some compositional issues. The sort of worker is different now than it was at the peak. A proper assessment controlling for those biases would be that wage growth actually peaked in the U.S. at a little over 7%, not 6%. And wage growth is only down to about 6% now.
   
   And so that's a smaller improvement and it's a higher level of inflation. This makes it a little bit harder for inflation to keep falling from here.
   
   To be clear, we do think inflation can fall over time. We do believe, in fact, inflation will behave a little bit more than the market is assuming. But it's going to get harder to make progress from here relative to the pretty easy and big gains that took place over the last 6 to 12 months.

Central banks: Okay. Let's shift to central banks. The question is and has been for a while, are central banks at or near the finish line?

We had some extra monetary tightening in recent months. So beyond initial expectations, but there's been a pretty palpable shift recently.

A lot of central banks are now citing high data dependency. In other words, they're not sure what they're going to do next. It’s going to depend in large part on how the economic data evolves over the next 6 to 8 weeks.

So it is no longer a certainty that we get extra rate hikes, is the main point.

We wonder if there could be a little bit more, particularly for the Federal Reserve in the U.S. It had signaled some extra hiking not long ago. It would be rare to hike just one time after a pause, which is what they've done recently, and so there could be a little bit more, but they’re getting closer to the finish line.

The Bank of Canada is also data dependent, but plausibly done. An exception would be the Bank of England, which pretty clearly has some more work to do. It has a bigger inflation problem.

Another exception would be the Bank of Japan, which hasn't done much of any rate increasing so far but is now getting to a point where it's thinking at least subtly in that direction.

It issued a really confusing message by being honest in the last week, essentially saying that while it still officially has a cap of an 8.5% interest rate on a 10-year yields in Japan, it will sort of tolerate those yields rising beyond that and even up to 1%. And so I would view that as being a subtle form of monetary tightening there.

But that’s Japan playing catch up, not having raised rates at all over the last few years and yet having inflation that’s now higher than a few of the other countries.

One other central bank thought is just on the emerging market side. We're beginning, and of course every country is different, but we’re beginning to see some emerging market central banks cutting rates.

Chile just delivered a fairly large rate cut. Brazil is thought fairly likely to in the month of August.

Central banks from emerging market nations led the way higher with interest rates. They were raising rates before the developed countries got to it. They may lead on the way back down now. So let's watch them closely. That might tell us where developed central banks are going three or six months from now.

Fiscal news: A fiscal word now. The fiscal picture is challenging around the world. A lot of countries are running big deficits right now. This isn't the first time we've flagged that issue.

The U.S. has a 6% deficit-to-GDP ratio. That's a big number, particularly for so late in the cycle. A lot of countries look like that.

Canada, by the way, doesn't. Canada has quite a small deficit. It's one of the better-looking countries on that particular basis.

But for countries that do have big deficits, as borrowing costs rise, that's very unpleasant. Many countries, including those without big deficits, have huge spending obligations going forward that make it hard to stop those deficits or stop all that spending. This includes aging populations and green obligations and industrial policy that's become popular again and military spending. The list goes on.

So it's going to be hard to rein this in. Bond markets are paying attention and we will likely see larger risk premiums for some countries, especially now that quantitative easing is gone. That was when central banks were essentially gobbling up a lot of government debt.

They're not in that business anymore. In fact, if anything, they are selling into the market and there needs to be more private sector buyers to make those markets work.

The question is, how do we get those deficits smaller? Of course, the most popular way is to just grow your economy faster. That goes a long way towards taming deficits, but that's easier targeted than it is to achieve. If you could grow faster, countries would do that even if they didn't have a deficit problem.

The standard approach is to just reduce spending or raise taxes. Of course, those are unpopular and painful solutions. Probably necessary, though.

And then the tricky approach, if I can call it that, includes keeping interest rates a little bit lower than otherwise. And that's one of the reasons why we think it likely will still be a fairly low interest rate environment once this inflation flare up is complete. Just because it's a high debt world and those two things are often interlinked. Also if you run a little bit more inflation, that can also help to erode or eat away a little bit of the effective amount of debt.

You can't pull that trick too often. You can't just run high inflation because the bond market figures it out. But it might well be a motivation to keep inflation at a hair above 2% as opposed to two or below it.

We suspect the solutions are going to have to be a mix of all those things. It helps to explain why rates probably need to stay fairly low. It helps to explain why inflation might run a little bit higher than otherwise, but also some austerity is likely to prove necessary. Some countries maybe aren't going to pull this off quite right and will be punished by the bond market.

India: Let me finish very briefly on the subject of India, really just flagging India is a big, big country. It became the world's most populous country at the end of May, passing China. It has 1.4 billion people.

It's been a pretty attractive place to invest for a number of years now. People have seen that India is getting into gear from an economic and market standpoint. And from an economic standpoint, that is quite justified.

If you look, for instance, over the next five years, the IMF (International Monetary Fund) believes that India will be the second largest driver of global economic growth. China will be number one, India number two, the U.S. slipping to number three. India is becoming pretty big time from that perspective.

If you look at just growth on a percent basis, India is expected to outgrow China. Again, the economy is sufficiently smaller that it won't be a bigger driver of global growth. But just on percent terms, India can be a faster grower on that percentage basis than China.

That would be something new. China has been the fastest growing big country. India becomes the fastest growing big country. That's fairly important.

India is benefiting as well, relatedly, perhaps from China’s Plus One policies. A lot of companies looking to shift a part of their manufacturing elsewhere, looking to diversify, perhaps probing for opportunities elsewhere.

India has a pretty big infrastructure deficit, but that should get significantly addressed as those initial forays begin. And there should be some sort of virtuous circle that results as more businesses come in and the infrastructure improves and more businesses come in again.

It's certainly not the case that India is set to take China's mantle over the last 30 years. I don't know it will be any one country so important to the global economy for such a long period of time.

But India certainly can be a force for economic good for the world. It certainly can get richer on its own basis. I think it's going to be very important to track closely over the next several decades.

Okay. That's it for me. Thanks so much, as always, for your time. I wish you very well with your investing. And please tune in again next time.