While debating Federal Reserve policy, Camp Kotok attendees last weekend turned their attention to economic and geopolitical boogeymen.
Every August, a group of economists, money managers and other market followers gathers to fish and debate at Leen's Lodge in rural Maine, invited by Cumberland Advisors Inc. Chairman and Chief Investment Officer David Kotok.
Opinions varied about the wisdom of the Fed's recent rate cut in the U.S. David Kotok called the move a mistake, not least because it provides fodder for the view that President Donald Trump has prevailed over the Fed's independence. Several other Camp Kotok attendees said the Fed had not cut rates enough.
"The inverted yield curve is another message from the market that rates are too high," Jim Bianco, president of Bianco Research, said in an interview. "When you cut them enough that the yield curve steepens out, that tells you you’re done. We cut rates, and it got even more inverted."
The Fed pointed to trade policy uncertainty when cutting rates, and Camp Kotok attendees discussed how the U.S.-China relationship could influence future policy decisions. Discussion focused on China's geopolitical ambitions and the potential for modern monetary theory to become the new quantitative easing and a regular part of U.S. fiscal and monetary policy.
David Kotok, Jim Bianco and others discuss interest rates on the deck at Leen's Lodge.
Beware the magic money tree
Bianco opened the Saturday evening discussion of modern monetary theory, or "the magic money tree," by explaining MMT as the idea that a monetarily independent country can "keep borrowing and borrowing and borrowing" in its own currency until it creates inflation. He said theorists assume flat interest rates while tax rates fluctuate along with inflation as the country uses taxation to drain excess money out of the system.
Lyric Hughes Hale, editor-in-chief of EconVue and an economic and political affairs commentator, said governments could view MMT as a way to get around the political problems of raising taxes, but she does not believe any country has "truly tested it yet."
"Inflation is a tax without voting," said Hale.
During the same group discussion, Avalon Advisors Chief Economist Samuel Rines took the position that MMT is going to happen in the U.S. "in a big way."
Rines said MMT appeals to both "the Elizabeth Warren wing" of the left and to a significant group of "Trumpublicans" on the right. He expects to see monetary policy follow politics in drifting toward populism and tie significant debt issuance to a specific purpose "for people who actually sign checks to donors." Rines offered the example of a potential $2 trillion healthcare bond that the Fed purchases.
"It looks really simple, it looks really good and it doesn't sound like bailing out Goldman Sachs twice over," said Rines.
Cumberland Advisors Vice Chairman and Chief Monetary Economist Bob Eisenbeis questioned this idea and noted that the Fed cannot legally lend to the U.S. Treasury Department.
"You're talking about private sector shrinking relative to the government sector and government reallocating funds," said Eisenbeis. "That's a bad policy."
Rines replied, "I'm not saying it's a good policy. I'm saying it's an inevitable policy."
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In the episode, Katie Darden, director of financial institutions
Stewart Taylor, vice president and portfolio manager at Eaton Vance Management, gave an impassioned criticism of the redistributive MMT scenario outlined in the group discussion, calling it "one of the most state-centric assaults on freedom" he has ever seen.
Marshall Stocker, vice president, director of county research and portfolio manager on the global income team at Eaton Vance Management, offered another cautionary perspective.
"I see this monkey business every day," he said, expressing dismay at the prospect of the Fed losing independence and taking a path similar to those trodden by central banks in emerging markets.
Danielle DiMartino Booth, who spent about a decade at the Dallas Fed and is now CEO of Quill Intelligence, said in an interview that, assuming quantitative easing is here to stay, "you have to enter MMT into the discussion because QE for the banks is not going to be politically palatable [especially in] the United States."
China was top of mind at Camp Kotok this year, with the trade war dominating headlines and the Fed's attention on global economic conditions.
Friday evening at Leen's Lodge featured a group discussion about China, led by China Beige Book International CEO Leland Miller, McVean Trading & Investments Chief Economist Michael Drury and Atlas Organization founder Jonathan Ward, who has researched Chinese global strategy based on primary documents from the Chinese Communist Party.
Miller said the trajectory on the trade war has changed and President Trump no longer fears the stock market's reaction to tariff news as he did earlier in the summer. For Trump, "a negative stock market now means [the] Fed jumping into the picture and cutting 50 basis points for him," Miller said.
Ward's comments placed the trade war in the larger context of the "long-term contest" between China and the United States. He argued that the U.S. and its allies have failed to get China to adhere to the rules-based international order. With China and the U.S., Ward said the world is seeing the first superpower contest since the Cold War, and he sees a reckoning coming between business and national security.
Drury said Chinese technological advancement is "the real threat" to the U.S., and is being exacerbated by U.S.-to-China brain drain. He noted a significant change in what Chinese citizens do after graduating college in the U.S. In the late 1990s, the vast majority of such graduates did not return to China. Today the opposite is true, he said, with hundreds of thousands of Chinese students in the U.S. weighing financial incentives to return to China against the difficulty of obtaining permission to stay in the U.S. Drury recommends slowing the transfer of intellectual and technical capital to China by extending green cards to any student who graduates from a U.S. institution of higher learning.
"After decades of technology transfer [and] industrial espionage, China's sending out national champions into [the global economy] to take out, ultimately, U.S. corporates in what's going to be the real contest of the 2020s," said Ward. He said Washington understands the new reality, but the business community is still catching on.