ED HARRISON: Welcome to Investment Ideas. I'm the host today, Ed Harrison, for Real Vision. I have the distinct pleasure of talking to Dario Perkins, who's the managing director of macro at TS Lombard. Welcome to Real Vision, Dario.
DARIO PERKINS: Hi, nice to see you.
ED HARRISON: I called you Daario before because just as we were talking, we were talking about the correct Italian pronunciation, but we're going to continue on with the Anglo-Saxon pronunciation for the rest of the time here. Now, Dario, you and I, we're going to be talking about a regime shift that's happening. I think it's apropos because just yesterday, we're taping this here on Thursday, April, the 29th. Just yesterday, we saw the President of the United States talk about what he wants to do for the United States.
It is an astonishing change, a market shift in terms of how we're thinking about the role of fiscal policy at all times. That's how I see it. How do you see it? Do you think this is a regime shift? If it is, what's it shifting from?
DARIO PERKINS: I think it's massive. This is the biggest change in economics I've seen since I started doing economics in the late 1990s. It's really a generational change. We have young economists coming through who see the world very differently, and you're starting to see that being reflected in policy. For the last 12 months, I spent a lot of time talking with investors about regime changes, and they're all focused on monetary policy. They're all focused on the Fed, and is the Fed going to allow inflation to overshoot its target? Is it going to focus on employment rather than inflation, all of that stuff.
But they've really been looking in the wrong place. Because we're now in a world of fiscal dominance. This is a world where it's fiscal policy, not monetary policy, that could change things going forward. The Fed and other central banks, they can accommodate this, but it's really down to fiscal policy to make a difference. I think from the policy response to this crisis, you're really looking for two things. You're looking can we get back to where we were before this crisis, which is a question of scarring and the damage that the crisis may have done to the economy?
Then you're looking well, if we do go back to where we were, is this just the old cycle? The old cycle wasn't very good. It was the new mediocre. It was secular stagnation. Can we do better than that? I think with this massive fiscal program that you're getting from Biden in the US, it's really not just an attempt to fight off scarring and get back to where you were, it's a chance to change the trajectory of the economy going forward. We need this all over the world, just doing this in the US isn't going to be enough.
We need this in in Germany, and we've got the German elections coming up towards the end of the year. That could be a regime shift in Europe as well. For the first time in a while, I feel quite optimistic about the future. We're getting policies now that make a lot more sense in trying to make the world better than it's been for a long time. To me, this is a massive change.
ED HARRISON: Yeah. I think that the way that we can talk about this is we can talk about it in terms of what you see as the future, and then I can talk about what other people are talking about as risks to that, because obviously, you seem to be very positive about this regime shift, but many other people are apprehensive. They're talking about inflation. They're talking about misallocation of resources. They're talking about social engineering, things of that nature, and I think that there's a big debate, part of it is economic, part of it's political. How do you frame it? What's the software that you're thinking about that plugs into this new regime shift?
DARIO PERKINS: I think it is about software. We have these long super cycles that last 30, 40 years, and they're based on this interaction or power dynamic between labor and capital. Who wins that power struggle determines what our institutions look like. We've had these various regimes. From the Second World War, we had a regime where labor was basically dominant. The endgame of that was inflation, wage price spirals, trade unions that became too powerful. We ended up in a in a pretty difficult place in the 1970s.
People that remember the 1970s definitely don't want to go back there. Then we had an entirely different regime from the 1980s onwards, which was the dominance of capital. We focused on inflation targets. We focused on keeping interest rates low. We focused on destroying trade unions. It was the neoliberalism that was winning throughout that period, and we ended up in an equally bad position with the debt bubbles and the debt crisis.
After 2008, people thought there was going to be a regime change, but the difficulty was nobody knew what to do. The old software was broken and we can see that it was software that was broken, but nobody knew what the alternative was. I think over the last 10 years, alternatives have started to spring up. Obviously, the one that's getting all of the press is MMT. MMT is basically trying to recreate the post-World War II framework. It wants to go all the way back to capitalism 2.0, which was before neoliberalism.
You have older investors, particularly, I talked to our clients, some of them are quite old and they look back on that regime, and they say, well, why on earth do we want to go back there? That was unambiguously bad. We ended up in a really bad place. I think when they look at MMT, they can see that this new software, if that's what we're going to end up with, has these inherent biases in it. It has these inherent flaws in it. It will, in the end, take us back to an inflation regime.
I think that's not the starting point. The starting point is that we're beginning this process with nominal bond yields at 700-year lows, which was just screaming out for a different policy mix. If MMT is winning the debate in fiscal policy, I think that's actually a pretty good thing, because we've had this obsession with austerity, with debt, with deficits. For 10 years, MMT has been continuously right about everything. It's not surprising that they're winning this argument now.
If we can end up in a regime where there is some MMT software built into fiscal policy, so fiscal policy is not obsessed with debt or deficits, but worried about the inflation consequences of that debt and deficits, but we retain independent central banks, we retain an independent Fed, we'll actually end up in a much better place. That's the best possible outcome out of this, because we'll end up with fiscal policy doing more, but monetary policy being able to react to that.
That's not where MMT wants to take us. MMT wants to just deactivate monetary policy completely and focus entirely on fiscal policy. I see those risks. I understand why particularly older investors are worried about this new regime and where that might take us, but that could be 10, 20, 30 years away. Right now, for this cycle that we're entering, I think this is unambiguously good.
ED HARRISON: Yeah, the one comment that you made that stands out for me that I want to drill down on is where you were talking about MMT-ers for the last decade getting it right. I'm thinking about this from the software analogy that you're using. First of all, we're going to go into what getting it right means, but also in terms of the software component, i.e., descriptive versus prescriptive thinking about the economy.
Because when you look back at 2008, and the Great Financial Crisis and everything that happened there, mainstream economics did not see it coming. We were completely blindsided by it because a lot of mainstream economists had no idea it was coming. But when you say MMT ears have gotten it right for the last decade, I think it's true that MMT-ers were much more knowledgeable about that crisis and also what happened in the aftermath of that crisis. How do you see that MMT is getting it right? What does that really mean?
DARIO PERKINS: Yeah, I think MMT sometimes has a weird view of history. The dot-com bubble, for example, the MMT view of that is really quite odd. It basically blames it on surpluses, government surpluses, Clinton surpluses, creating a deficit in the private sector. That kind of thinking is a little bit odd, because it was a booming economy that created the surpluses and the causations of it around the wrong way.
In terms of getting it right, I think it's the reverse of the mainstream continuously getting it wrong. After the Global Financial Crisis, we weren't for austerity everywhere and we went for QE. MMT, throughout that period, was saying, well, this isn't really going to make any difference. QE isn't going to help because it's just swapping one government liability for another, and austerity is going to hurt the economy. That mix of easy monetary policy, but not really very effective monetary policy and tightening government policy, which is very effective, was always going to be deflationary.
Then you had the Euro crisis came along, and that also confused the mainstream. We ended up with all kinds of weird arguments about what was causing that. I remember Bill Gross talking about UK gilts being in a bed of nitroglycerin. I was sitting at UK Treasury at that point, and they were all freaking out. They were all, oh, my goodness, what's going to happen if this becomes a market theme? We're totally screwed.
We pushed us into austerity in the UK, and there was this worry that we would turn into Greece. I think you had a bit of this in the US as well, of people writing crazy op-eds, saying all kinds of terrible things are going to happen if you didn't tighten fiscal policy. Where did we end up? We ended up with yields going lower and lower and lower over a period of a decade to lows that we'd never seen before, and this austerity being extremely damaging.
In fact, we've had this decade of toxic politics as well that's come from that austerity. There's a whole bunch of things there that right from the start MMT got right, and the mainstream got wrong. Trump stimulus was number one. From a Keynesian perspective, MMT perspective, it was never going to cause inflation. The fiscal multipliers on things like cutting corporation tax were minuscule, yet the mainstream was worried about overheating.
We've had this period where the mainstream just kept getting things wrong, and MMT kept getting things right, and the mainstream reaction to that, it's, well, if we know interest rates, the structural interest rate was zero, then we would have come up with the same policy conclusions as MMT. MMT is nothing new. Well, the mainstream have forgotten a lot of stuff that MMT spent the last 10 years reminding them, and forgetting those things, really basic things like the danger of bond vigilantes, which the mainstream were obsessed with, has cost the mainstream.
As I said, we have a whole new generation of economists that look at the world and see it very, very differently from the way that people were looking at it 10 years ago. Reinhart Rogoff warning about what would happen if debt hit 100% of GDP, turning into Greece, bed of nitroglycerin, that stuff is gone. Nobody believes that anymore. In that sense, MMT has already won, and even this debate now, about the size of this stimulus in the US, it's all about inflation.
People like Summers are saying, well, we're going to get inflation if we do that. Well, that's exactly what MMT has been telling you, is that there's a constraint on fiscal policy. Nobody's talking about the bond vigilantes coming back and destroying the public finances.
ED HARRISON: I think that's where the rubber hits the road, actually, the bond vigilantes. Let's talk about how we should be thinking about the bond vigilantes, because I've been thinking about the bond vigilantes not as people who are forcing the Fed, forcing the BOE, forcing the ECB to do their bidding, but rather, market analysts, institutional investors who are frontrunning likely policy decisions, meaning that we're working in a regime where there is a huge amount of fiscal space that is facilitated in part by issuing government bonds, and so what the market's doing, the vigilantes, they're not really vigilantes in that strict sense, they're really predictors of what those policies are. How do you see that?
DARIO PERKINS: I think that's the right way to think about it. The idea that people have of the bond vigilantes, the liar's poker, it's for cheeseburgers for breakfast, and then you go out and punish some government for running a deficit that's too big. This idea that there is some kind of punisher or destroyer of politicians, and people remember the Euro crisis, but before that, the ERM in Europe and countries getting kicked out of various exchange rate mechanisms and getting punished by markets. There's this idea of the vigilante, someone that polices the government's, but I think your definition is much more sensible.
What we see in bond markets is that we have Fed guidance, which is very, very clear, but it's conditional. It's based on a particular state of the world. The Fed has said this is how we think the economy is going to evolve over the next few years. We think there's going to be some scarring from this crisis. We think it's going to take time for the labor market to heal. We think inflation will stay low, and we want inflation to go above 2%. There's a very clear guidance as to what the Fed wants and how it sees the world evolving.
The Fed doesn't know, the Fed can't be certain that that's what's going to happen. What they're given us is a policy guidance that's based on a particular state of the world. If you've got a government which is spending huge amounts of money in a way that will move the dial on growth, which will heal the labor market more quickly, and which might generate inflation more quickly, then it makes sense that bond markets would react to that. They are trying to be forward looking.
We're not in a situation, we were never in a situation where the yield is just going to be flat at zero forever until the Fed decides to move. We're in a world where people don't know what the future looks like. It reflects a balance of risks, and that balance of risks will change. When you've got big fiscal stimulus coming in, when you're exiting this crisis because you have vaccines, it's natural that bond markets would start to move that forward. I think the Fed has been perfectly comfortable with that, and that the Fed watchers have been a bit disturbed about how comfortable the Fed has been with what it's been seeing.
But it reflects real changes. It reflects vaccines and fiscal stimulus, and it reflects good things. If central bankers became concerned that financial conditions were tightening too much, then they would react to that, and then we'll try to talk them that down again.
ED HARRISON: I think that's where the rubber hits the road in terms of calling this an Investment Ideas video, because really, first and foremost, we're thinking about the bond market in terms of fiscal stimulus and the Fed's new response. We're definitely talking about fiscal dominance, and that's where people should keep their eye, but we're also definitely talking to a degree about policy from a central bank perspective. The question I have for you is, what do you see happening going forward, given the mix that we have?
A new regime shift on the fiscal side, and to me, it seems like almost a regime shift on the monetary side, where when you think about the Fed at a minimum, having a dual mandate, one of the few central banks that has this dual mandate-- yesterday, Jay Powell was completely on the employment side. It was almost as if he was saying, I don't really care about inflation at this point. If you ask me which mandate is more important, I would tell you it's employment.
DARIO PERKINS: Yeah, I think that's right. I think there has been a shift, there has been a regime shift at the Fed. It's not as significant as the fiscal regime shift, because the policy tools are less powerful right now. We've seen that for the last decade where central banks have really struggled, but there's a change of emphasis and it almost reflects the emergence of things like MMT. Because there is a new, progressive macroeconomics, which is saying looking at old ways of doing things like the NAIRU, and saying, how can you treat unemployed people as a tool for keeping inflation down when we haven't had inflation for such a long time?
I think the Fed, in particular, has really learned the lesson of the last decade, which was that as the economy expanded, as the unemployment rate got to very low levels, they continuously had to revise down those narrow estimates. They'd been much too pessimistic about the supply side of the economy. But also, they were seeing inclusive, progressive advantages of doing that. People were coming back into the labor market, who hadn't been in the labor market for a long time. Ethnic minority groups, disabled people, you could see, and in a context where central banks are under enormous pressure for inequality, for the neoliberal approach to policy, they've had to accommodate this.
There is a hint of MMT about even the way that central banks are reacting now. I think that is very significant. It does mean that this Fed is not going to try to preempt a hot economy. It's not going to tighten in advance of inflation. It thinks that actually, it could generate some pretty big employment gains, and actually start to tackle things like inequality by focusing on employment rather than inflation. Again, this is a big shift. It's not as big as fiscal policy, because it's not as powerful as fiscal policy.
Fiscal policy can actually deal with these problems. If you want to target inequality, you can do that with fiscal tools. You can't do it with monetary tools, but by giving the economy a chance to grow, and by generating a bit of hotness in the labor market, you start to shift the power a little bit. As I said at the start, there are these supercycles, there's this balance of power between labor and capital. If you can run the labor market hotter, you're actually starting to move power away from capital towards labor.
Now, there's still big secular forces that favor capital, globalization, technology, demographics. You're not going to massively changed the dial on inflation here, you're not going to massively change those power dynamics, but the experience of the last 10 years suggests that there are things that central banks can do. Given the political context where these central banks are under enormous pressure, they're doing what they can. We're getting, I think Paul McCartney called this a romance with MMT. Even for central bankers, I think