"Easy Choices, Hard Life. Hard Choices, Easy Life."
These wise words spoken by Jerzy Gregorek and shared far and wide by Naval Ravikant, offer timeless advice that couldn't be more fitting for our global economy.
It’s easy to get the feeling in a conversation that the other person knows more than you. This feeling might come from their confidence or their competence, or maybe they’re just trying to make you feel that way.
As a lover of macro complexity, I’ve recently appreciated how dangerous the warm embrace of historical correlation can be when trying to understand a novel situation. To a macro-man with a hammer, every chart looks like they’ve nailed it. The signals that people don’t know enough and their contributions are of little value (if not detrimental), are becoming deafening.
My one piece of humble advice from one investor trying their best to compound capital to another - if you follow a macro guru who ticks any/all of the below, be critical of how much time you spend absorbing their information and don’t assume they must be right because you’re confused by it:
Referring to patterns on charts and offering narratives, not clear opinions
Doesn’t have skin in the game or doesn’t make it clear how much skin is in what game (what $ticker with how much % of portfolio)
Sells research, not results (not inherently bad, but incentives matter)
Narratives/suggested opinions seem to change to current market sentiment
As we enter a transition period in our global economy, it is crucial to elevate competence above confidence when trying to direct a path forward.
Why?
History has recorded time and time again that when drastic changes in markets occur it can destroy generational wealth on mass scale with the potential to ruin people. If one of these moments is quickly approaching, now is not the time to be confused by correlations, fall prey to patterns or be swayed with the crowd.
What period of transition is our global economy experiencing?
A changing world power, a new reserve currency, a 50 year re-visit of the Bretton Woods dilemma or a stock standard market crash and miraculous soft landing of the economy? Take your pick, but before any of those outcomes eventuate the Federal Reserve has to make some moves - and the moves they’re beginning to make has set off a lively debate. In opposing corners we have: Inflation vs Recession.
But the argument seems to have divided into 3 camps:
Camp 1. The Fed shouldn’t tighten, we’re going into a recession!
Why? Demand is going to get crushed and inflation is going to go away
How? Demographics (ageing population), Low Credit Impulse (less people borrowing), Flattening Yield Curve (the markets say recession) (my thoughts are here), Deflation (productive technology)
Camp 2. The Fed should tighten, we’re going into worsening inflation/stagnation!
Why? We have 40 year high inflation at 7.9% and the Fed’s rate is at 0.5%. Inflation at this level has never gone away by itself.
How? Through housing, energy and wage increases via services, inflation is not transitory. Demand seems strong with every home across the U.S selling within 30 days and agents still recording strong demand restricted by some of the lowest supply levels on record. Other dangers for worsening inflation are war between Russia/Ukraine, companies feel their pricing power is strong, potential wage price spiral, psychological effects of allowing inflation expectations to become unanchored.
Camp 3. It’s all a conspiracy!
Why? The Fed is going to tighten to crash the economy on purpose, just as an excuse to quickly back-track and print heaps of new money to keep their regime limping on for a bit longer, but they will fail and the dollar will lose all its value and everyone will buy Bitcoin and live happily ever after. Something like that.
I would like to suggest we should all be in favour of a Hawkish Fed, whether you’re in camp 1, 2 or 3. My reasoning is as follows…
HISTORY:
It’s important to look back to the past to see if any lessons have been learned from similar times in history. Let me clarify what I mean by past. If you started investing in 2010 (or in 2013 like us) you’ve witnessed 1 market cycle. What we really need to do is grasp the concept of multiple market cycles dating back a century at least.
What period in history is most similar to ours?
We’ve had stimulative monetary policy, disruptions to supply, war and uncomfortably high inflation. Sounds eerily groovy man.
Today CPI is at 7.9%. Unemployment is at 3.8%. And the Fed has just raised 25bps to 0.5%. The suggestion that a 50bps move in March would have been Volcker style is absurd against the backdrop of history. Even if our economy was in danger of recession, history would still dictate the Fed should hike until CPI comes back down to normal levels. Why? Who better to explain than the leader who solved this problem the last time:
President Ronald Reagan:
“In the past we've tried to fight inflation one year and then, with unemployment increased, turn the next year to fighting unemployment with more deficit spending as a pump primer. So, again, up goes inflation. It hasn't worked. We don't have to choose between inflation and unemployment - they go hand in hand. It's time to try something different, and that's what we're going to do.” - 1981
“But remember, you can't solve unemployment without solving the things that caused it, the out-of-control government spending, the skyrocketing inflation and interest rates that led to unemployment in the first place. Unless you get at the root causes of the problem - which is exactly what our economic program is doing - you may be able to temporarily relieve the symptoms, but you'll never cure the disease. You may even make it worse.” - 1982
And how about the previous leader who made it worse?
President Richard Nixon:
“We’ll take inflation if necessary, but we can’t take unemployment.” - 1972
“We shall provide the expansion of money and credit necessary to support moderate growth of the economy at reasonable prices. Chairman Burns, of the Federal Reserve, has assured me of the intention of the Federal Reserve to avoid extremes of restriction in the effort to conduct an effective anti-inflationary monetary policy - an effort which every American should endorse. There will not be a credit crunch in which the money for essential economic activity becomes unavailable.” - 1974
MARKETS:
Remember markets are only voting on what they think will happen, not predicting what will actually happen or furthermore, weighing what is actually happening. So when assessing large market shifts, we need to come back and check in with reality. Understand what is happening in the real economy, the people, their sentiments and circumstances - sometimes the devil is in the detail, not in two lines matching on a chart.
What is happening in reality?
Our economy is currently strong (some would say very strong) and the Fed has begun hiking rates to combat inflation. The Fed has hiked rates in the recent past with the backdrop of a strong economy but without supply disruptions, war and inflation at 7.9%. Understandably when markets freaked, the R word came out and the Fed back-tracked. But this was without supply disruptions, war and inflation at 7.9%.
If raising rates in 2018 was the Fed putting the economy on a healthy diet, raising rates in the 70’s and 80’s was chemotherapy. Slightly different levels of conviction and perseverance required, don’t you think?
In life, taking the easy way out often results in larger problems down the track but making the harder choices now, paves the way for an easier future - or, Easy Choices, Hard Life. Hard Choices, Easy Life.
In our economy, we need to tackle problems straight away even if it causes pain, especially if history has proven this to be necessary - or, Easy Money, Hard Economy. Hard Money, Easy Economy.
“You cannot escape the responsibility of tomorrow by evading it today.” - Abraham Lincoln
“Responsibilities taken today, gives you freedom tomorrow.” - Matthew McConaughey