Jul 23, 2014, 5:48 PM ETFireside Chat, Interview

Speaker Series for Interns: Senior Economists from Global Investment Research

Performance relative to 2008: Jan describes the current economic state as "much less bad" than a potential Great Depression scenario, noting that advanced economies avoided the catastrophic contractions seen in the Great Depression and the Scandinavian/Asian crises of the 1990s.
Current economic weakness: Despite improvements, the economy remains weak, particularly in Europe where overall unemployment sits at 20–25% and youth unemployment exceeds 50%.
Policy consensus on stimulus: Both speakers agree that policymakers provided insufficient stimulus post-2009; they argue that radical fiscal and monetary responses were too conventional once the initial crisis urgency faded.
Fiscal retrenchment timing: Both experts criticize fiscal tightening (tax hikes and spending cuts) as inappropriate during the early cycle recovery, noting it exacerbated the downturn.
Monetary policy constraints: Speakers note that central banks, being conservative institutions, were not sufficiently preemptive, taking years to reach the "zero bound" and deploy aggressive tools like quantitative easing.

Q1 GDP revision: The negative 1% Q1 GDP print is expected to be revised down to -2% Q4, though the speaker argues GDP is a lagged and noisy short-term indicator.
High-frequency growth acceleration: The firm's "current activity indicator" (a weighted average of 25 US economic indicators) shows growth accelerating from 1.7% in early 2013 to 2.6–2.7% year-on-year as of mid-2014.
Q2/Q3 2014 outlook: Growth is expected to improve in the second half of 2014 and into 2015, reversing the "lackluster" appearance of recent GDP data.
Housing cycle driver: Housing investment is expected to recover as the drag from the mid-2013 mortgage rate spike (a 100 basis point increase) fades, with underlying demographics providing tailwinds.
Demographic tailwind: The share of 18–34 year olds living with parents has risen by 5 percentage points since 2006; a decline in this rate is expected as labor markets improve, boosting household formation.
Capital spending recovery: Survey indicators suggest a re-acceleration in business capital spending, which may be understated in current hard data.

Equity upside potential: The firm expects further upside in US equities over the next two years, citing two primary drivers: economic recovery and low bond yields.
Valuation vs. Bond Yields: While equity valuations appear rich historically, the spread between equity returns and government bond yields remains unusually large, supporting equity premiums.
Market skepticism: The market has not yet fully priced in a sustainable 3% growth profile or a structural drop in unemployment, creating room for multiple expansion.
Secular stagnation debate: The firm disputes the "secular stagnation" or "new normal" view that rates will stay low; they forecast nominal rates returning to 3.5–4%, whereas some market participants expect them to remain below 2%.

Rate hike timeline: The firm (Jan's view) expects the Fed to keep rates near zero until early 2016, arguing that full employment has not been reached despite the unemployment rate dropping to 6.3%.
Labor market slack: Unemployment understates slack due to a high number of involuntary part-time workers and those who have dropped out of the labor force.
Forward guidance risk: While the baseline is early 2016, the firm acknowledges risks of an earlier hike (mid-2015) if financial conditions become too easy (e.g., equity prices or credit spreads run away) or if inflation rises faster than expected.
Financial conditions normalization: After five years of restrictive financial conditions, the environment is shifting; the Fed may need to hike rates sooner to prevent financial excess if market targets are breached.
Volatility expectations: The firm believes the Fed will be less likely to cause market disruption through communication errors (like the 2013 "taper tantrum"), with future volatility more likely stemming from economic data surprises rather than policy confusion.

Growth forecast: The Eurozone is expected to see only 1% growth in 2014 and 1.5% in 2015, with significant divergence: ~2% in Germany versus <1% in the periphery.
Structural adjustment: While aggregate growth is slow, the speaker notes encouraging signs of adjustment in cost and price levels in the periphery, specifically citing Ireland and Spain, while Italy remains questionable.
Inflation target gap: Inflation is at 0.5%, well below the ECB's <2% target, which the speaker argues hinders the necessary reduction of real debt burdens in the periphery.
Policy recommendation: The speaker argues the ECB should be more aggressive with both conventional and unconventional monetary easing, though the firm's internal forecast predicts only a "muddle-through" approach from the ECB.

Fiscal tightening risk: The firm views the 2% of GDP fiscal tightening (April consumption tax hike) as aggressive and poorly timed for an economy emerging from stagnation.
Data divergence: While consumer spending data is weakening significantly, potentially worse than the 1997 tax hike impact, the business sector and manufacturing appear more resilient.
Structural difference: Unlike 1997, Japan is not facing a collapsing financial sector or the Asian financial crisis, providing a better foundation for recovery.
Growth outlook: Despite a sharp Q2 contraction, the firm expects economic expansion to resume in the second half of 2014 and 2015.
Policy prescription: The firm suggests the tax increase should have been spread over a longer period to avoid the sharp demand shock.

End of tailwinds: The strong decade of performance for Emerging Markets (EM) ended as key drivers ran out of steam: China's integration was complete, commodity prices stabilized, and post-crisis debt/inflation fixes were priced in.
Imbalance reversal: As the US recovered, EMs faced a "sudden stop" where they had to tighten policy (higher rates, weaker currencies) to reverse imbalances built during the crisis years (e.g., high spending, low rates, high exchange rates).
Valuation reset: Risk premiums in EM credit had fallen to near zero (e.g., Turkish 5-year dollar bonds at negative real yields), creating vulnerability that necessitated a painful market correction.
Adjustment phase: EMs are currently 50–66% through a difficult 12–18 month adjustment period characterized by tighter monetary policy and weaker currencies.
Long-term view: While the short term is uncomfortable and the "perfect" growth story is over, the firm maintains that EMs will contribute the majority of global growth over the long term, advising against a total exit from the asset class.