ANDREAS STENO LARSEN: Hi, everyone, and welcome to the Real Vision Daily Briefing. I'm Andreas Steno, the senior editor at Real Vision, sending to you live from Copenhagen, the 14th of July. We've had a bunch of interesting developments from an inflationary perspective today, and I'm extremely pleased to be joined by what I consider a huge capacity on namely inflation and the monetary system, Frances Coppola, or should I say the notorious crypto skeptic. Frances, welcome to the show.
FRANCES COPPOLA: Yes, on that too, aren't I?
ANDREAS STENO LARSEN: I guess some people in financial Twitter would concur with that at least. But I would like to start with one of the top stories of the day from Russia, the Russian company Gazprom has basically said that they cannot guarantee a safe operation of a critical part of the Nord Stream I pipeline in conjunction with this maintaining the process ongoing at the moment. If we take a step back and look at this energy crisis unfolding in Europe due to the war, how big of a deal is it from an inflationary perspective?
FRANCES COPPOLA: Well, it's enormous. But it is a real resource constraint. And this has been on the cards for a while, and we're playing this game of chess in the West with Russia. We don't want to be in a hot war, but we are playing this economic game with them. It would be ridiculous to think that we could impose all these sanctions on them, and they would not retaliate. I think closing down Nord Stream I was going to happen at some point.
And there is no question of how the West responded to that, what the implications were, and how different countries responded. Germany has been talking about rationing. And I think it is time we recognize we are in a war. Yes, we may not be in a hot war, but we are in a Cold War. And that can be inflationary, because one of the ways in which we fight each other is by controlling resources. When you control resources, when you limit their supply, their availability, you increase inflation.
ANDREAS STENO LARSEN: But when you look at Central Banks in relation to war driven inflation, how do you view the central bank reaction functions in conjunction to such a supply side driven inflationary pressure?
FRANCES COPPOLA: It's very interesting, because there's a fair amount of bullying of central banks going on right now. Everybody is going on about central banks must do something about inflation, forgetting the central bank's job is to look at inflation in the medium term. They're looking at where it is going. Where is it going to be in two years' time? Perhaps even as far ahead as five years' time. So, the preferred measures of inflation can be things like the 5Y 5Y forwards.
And when you look at those, when you look at the forward inflation expectations measures, we're not seeing high inflation, we're actually seeing low inflation. We're actually seeing deflation and a recession on the horizon. And so, right now, we've got central banks responding to inflation in the short term, which is primarily supply side driven, but not entirely.
To be fair, particularly in America, there's quite a lot of demand side inflation as well. And trying desperately to get that under control, while at the same time looking ahead and seeing these inflation expectations crashing and thinking, oh, heck, how do we soften the landing? It's really quite a conundrum for them, and I actually would like there to be a little less market chatter, and certainly a lot less from politicians about central banks must do something about inflation.
ANDREAS STENO LARSEN: For instance, you've earlier argued that direct transfers or helicopter money was a smarter way of conducting crisis policy than QE buying financial assets. If we look back at 2020 and 2021, we had arguably something quite similar to that unfolding in the US economy, direct transfers to each and every household and small business lending programs, etc. Do you think that the inflationary impact of such programs are also noteworthy?
FRANCES COPPOLA: Yes, absolutely, I do. I have two points to make about that. The first is that direct transfers like that are supposed to be inflationary. I think we forget that, that the goal of monetary policy in a crisis is to increase activity in the economy and specifically to stimulate the demand side. And that should raise inflation, it's supposed to raise it back to target.
Now, they've massively overshot, actually, and I thought they would, because they actually did it wrong. They stimulated the economy at the wrong time. So, the Fed correctly sorted out the market disruptions in March 2020. But the Cares Act, the stimulus checks were, in my view, the wrong policy at the wrong time. They should have been doing targeted support to vulnerable individuals at the time and keeping small businesses alive. Rather than doing vast handouts for everybody, lots of which was saved, and lots of it went into asset markets and blew up asset bubbles, a lot of that is unwinding now.
They then compounded that by doing further helicopter money drops later on, because the first ones hadn't worked unsurprisingly, because the economy had been shut down. And it's a little difficult to spend your stimulus check when the economy is closed. So, they did it again. And so, the amount of money they actually put into the economy, and bear in mind that all of this was also backed by the Fed doing immense amounts of QE effectively monetizing the helicopter drops, they actually overdid it.
To my mind, they should have been much more careful with the fiscal stimulus early on, and kept their powder dry to support the economy as they came out of the pandemic. I don't think they did it right. And I think the price they're paying for that is demand side inflation, which will take a little while to work its way through.
ANDREAS STENO LARSEN: If we pair the current inflation pressure with the signal sent by the yield curve, as you mentioned earlier, of a potential recession around the corner, say one two quarters from now, in the light of that, since generals tend to fight the last war, does that mean that helicopter money slash direct transfers, they will turn out of fashion when the next crisis hits?
FRANCES COPPOLA: There is risk that people will say, well, we tried helicopter money, and all we got was very high inflation. So, let's go back to doing it the way we did after the financial crisis, because that didn't cause inflation. And that would be unfortunate, in my view, because there were some quite serious policy errors.
And I wouldn't blow my own trumpet, but I did warn them, I actually ended up being deplatformed in the early days of the pandemic, because I haven't just produced a book advocating people's QE and helicopter money, were saying to everybody this is the wrong time to do it. But I still stand by it was the wrong time to do it. And these are the lessons that we need to learn from that experiment. We didn't do it quite right. It doesn't mean that the experiment was necessarily a bad thing.
But we should accept, I think, that it is actually normal to have quite high inflation when you're coming out of a severe economic shock. The COVID pandemic was a very severe economic shock. It would be normal, with a rapid recovery from the economic shock, it would be normal to have very high inflation, simply because of base effects, if nothing else. So, disentangling the causes of the current inflation is quite complicated.
I would hope that as we have shown that fiscal stimulus can be effective, and I actually think that Europe did this better, actually, European countries even my own country, the UK, actually did this better than the US did. Because we had policies that were aimed at trying to keep people attached to their jobs, trying to keep people alive, trying to keep, to some extent, keeping businesses alive as well. And I don't think the inflationary pressure has been quite so bad there.
And maybe the US could learn from that experience that actually targeted support to individuals and businesses in that shock perhaps is a better approach than indiscriminate helicopter money. Helicopter money is needed to give a quick boost to the economy when you're trying to come out of recession, not when you're trying to keep the economy closed.
ANDREAS STENO LARSEN: So, if we look back at the pandemic response, both from a fiscal and monetary perspective, it seems that as if both channels worked at the same time through the pandemic. So, what are the lessons learned in terms of the mix between fiscal and monetary policy during the pandemic?
FRANCES COPPOLA: Well, one of the big things that happened in the pandemic was a major shift in the relationship between fiscal and monetary authorities, because for much of the previous decade, we'd had them pulling in opposite directions. So, we'd had fiscal authorities doing consolidation and monetary authorities keeping monetary policy very loose, in a way, almost as a shield for the fiscal authorities bearing down on debts and deficits.
And the problem with that is that the distributional effects of monetary policy and fiscal policy are quite different. And so, if you have fiscal policy that is fiscal consolidation targeted particularly at the lower ends of the income distribution, and you're using monetary policy to offset it, then you're going to have widening inequality. And in many countries, that's led to increased political unrest, which is not necessarily very stable.
So, what's happened, I think, in the last two years is we've had a shift, everybody's become much more like Japan, because what Japan has been doing over the last decade, or much of it has actually been doing combined monetary and fiscal stimulus. And that's what everybody started to do during the pandemic, was combined monetary and fiscal stimulus on a very large scale.
Now, we're trying to normalize policy and I think that we need to move away from the dynamic of the post financial crisis years with loose monetary policy and tight fiscal policy. And going the other direction, to say, actually, fiscal policy is very much better at dealing with, shall we say, inadequate distribution of resources and particularly, because so much of this, what's going on at the moment is about real resource constraints.
It's not about monetary tightness, it's about shortages of real resources. Fiscal policy is very much better at dealing with that than monetary policy is. So, we may be needing to move towards a paradigm where we have looser fiscal policy, but tighter monetary policy. And I think a lot of people would welcome that.
ANDREAS STENO LARSEN: If we take your assumption at face value, and look into the future of tighter monetary policy, it simply means that we should expect fewer real dollars around, fewer real Sterlings around, fewer real Euros around over the next couple of years. How does that link to what we see in financial markets right now?
FRANCES COPPOLA: Well, what's going on at the moment is a massive liquidity drain, and a very rapid one, as well. And that's really the source of all the turbulence that's been going on, the disruptions on crypto markets, the crashes and falls in the stock markets. All of that really is explained by the rapid withdrawal of liquidity from the markets to try and calm down demand.
And it's central bank's doing this. It's the aggressive hikes in interest rates that we're seeing, not just from Federal Reserve's, but from other central banks as well. We're seeing quantitative tightening, whether it's actually started or simply being signaled, doesn't really matter, markets are pricing that in and trying to adapt to what will be a much tighter monetary paradigm and liquidity is going to be scarce and therefore, expensive.
There are going to be some external effects. So, we're going to see, I think, persistently a much stronger dollar. And that's going to mean some quite severe strains, I think, for emerging markets. And I do expect this to continue, really, until the next recession hits. And that might not be that far away. Because actually, an aggressive liquidity drain like this, if you're not very careful, does actually cause a recession. It can cause a financial crisis.
And even if it doesn't cause a major financial crisis, if we actually managed to land the monetary helicopters, it can still cause an actual recession in the real economy, simply because of distribution of money. And as I keep saying, shortage of real resources, because of political things going on in the world, particularly the war in Ukraine.
ANDREAS STENO LARSEN: If we look at the crypto space, you recently wrote a blog post on CoinDesk referring to this recent landslide in the crypto space. As a different cycle compared to the other selloffs that we've seen in the crypto space, say four years back, please unpack that thesis for us.
FRANCES COPPOLA: Well, it's really related to what I've just been saying about the change in the relationship between monetary and fiscal policy and particularly the shift to what I think might be a permanently tighter monetary policy. Crypto has never known tight monetary policy, not in the whole of its existence. You have to remember Bitcoin's only existed since 2009. It started at a time when central banks were cutting interest rates to zero and throwing money into financial markets and then doing QE.
And governments were too, it coincided with the TARP program. And the famous legend on the Genesis block is about the UK's Chancellor proposing to give banks a third bailout, not central banks, it was actually the government proposing to throw a lot more money into banks to try and get them lending. So, we were trying to find ways of getting money into the economy at the time.
And that has been, the origin of crypto has been born out of that, and the rejection of it originally, but this time, it's gone on, it's become not a rejection of it, but a play of it. So, there's been an immense amount of activity in the crypto space, which is all linked to the dollar. Bitcoin has not become the foundation, the unit of count in the crypto space, the dollar has. And we've got immense amounts of what I might call, maybe not fake dollars, but dollars, things that are called dollars but aren't, or things that are pegged to dollars, things that people want to believe or realizable in terms of actual dollars, and there's an awful lot of them in the crypto space.
The crypto space does not have that many dollars. And as dollars become scarcer in the real economy, in the traditional finance. So, the crypto space is going to find it increasingly hard to cash out and realize the dollars that it's been creating over the last few years. So, I do think this crash in crypto is different. It's got to adapt to a permanently tighter monetary paradigm of a kind that it has never seen.
ANDREAS STENO LARSEN: Does this mean that being long Bitcoin is basically a better hedge against deflation than inflation?
FRANCES COPPOLA: Arguably, yes. It's quite a bit, actually. Now, Bitcoin has turned out to be an appalling hedge against inflation, because the moment inflation started went up, Bitcoin went down, which isn't what you want. But arguably, Bitcoin has been-- Bitcoin and other cryptocurrencies as well, have been a hedge against low interest rates, let's put it that way. They have been a way of finding yields and making your money work, if you like.
Make use of money, really, in a world where it's actually been very difficult to make any money just through financial activity, because interest rates have been on the floor. And that's been a lot, I think, of what's generated activity in the crypto space really, certainly in the last few years, and arguably right from the start, it's been a low interest rate play. So, as interest rates rise, and not just rise in one country, but rise in all countries, we might find that Bitcoin actually reverts to the commodity cryptocurrencies, actually reverting to what perhaps might be their more natural function, which is actually zero yielding assets that people have as a hedge.
ANDREAS STENO LARSEN: Setting aside their role as a hedge, do you see any prospects or use cases in the underlying technologies?
FRANCES COPPOLA: I've been notoriously skeptical about all of this. But I do feel that we do need some form of digital money that is not subject to government control. Not all governments are benign. And people might think it's absolutely fine, all you need is sovereign money. The government can just issue it and issue it in digital form. And everybody can have accounts at the central bank and it's all lovely, isn't it?
And I look at migrants and immigrants and undesirables of one sort or another and think whatever they've done and however much you dislike them, you don't have to the rights to remove from somebody the means to live. So, we actually need forms of money that are outside government control, and increasingly physical cash is not good enough. And the reason for that is so much economic activity now is online, so physical cash is declining.
There is a huge and vibrant online ecosystem out there, ecommerce, where we need digital forms of money. And I don't think that all of those digital forms of money should be under the control of governments. So, I think there is a use case for the decentralized crypto economy in crypto principle, if you like, that we need forms of money that can't be controlled by governments that are purely produced in the private sector and can't be controlled either by governments or by big whales, and players and oligarchs and what have you. I think that basic protection for ordinary people is needed.
ANDREAS STENO LARSEN: Frances, I wanted to play a soundbite for you in relation to the debate we just had on the potential regime shift in markets and in the economy, it's from a debate between Harris Kupperman and Stephen Clapham in an interview airing on the Real Vision platform today. So, let's listen to the soundbite and get back to the discussion.
HARRIS KUPPERMAN: Yeah, I think the whole world is going to change. Rates aren't going to fall, I think we're in a rising rate environment. I think we have structural inflation globally. We're undoing multiple trends. Globalism is on the way out. All these trends that were supporting deflation and allowing rates to stay low are unwinding themselves, and now, rates will be going higher. I think we also just live through the mother of all equity bubbles.
It used to be that, when you look back in time, back in 2000, you had a bubble in stuff like General Electric. It traded some crazy multiple that was totally unsustainable, but they never missed earnings. So, everyone said, okay, fine, whatever. You beat earnings by a penny, we'll give you a crazy multiple. General Electric was real. Well, parts of it were.
You look forward to now, and we have a crazy bubble in stuff that is totally fake. It's just like ephemeral hocus pocus nonsense, like, how many billion-dollar dog walking apps does the world need? It's just such an extreme example of a bubble. It's been a crazy bubble in all sorts of crazy assets. And as a