GARY SHILLING: Yeah, I think we're probably already in a recession. But I think it'd probably be a run of the mill affair, which means real GDP would decline 1.5% to 2%, not to 3.5% to 4% you had in the very serious recessions.

Actually, I started in with the zero coupon bonds from my own account in 1981. And by the mid-80s, the Shilling family, on that one investment, had achieved financial independence.

Well, I'm on record as saying that the 10 Year Yield will probably go to 1%. Now, it's just about 2% right now. I think you could very well see real GDP grow 2.5%, 3% in a very low inflation environment. So, I think it could be a pretty bright future there.

ED HARRISON: Hi, I'm Ed Harrison and we're about to talk to Gary Shilling here on Real Vision. The real question with Gary is not just his long and varied career on Wall Street in terms of being an economist, but also his call with long rates going from 10 years down from 14% in 1982, down to what he thinks is eventually going to be 1%. My question for him is going to be how does he see that call progressing? And what's going to happen to the economy over the near term? Looking forward to his responses on that.

Gary Shilling, and it's great to talk to you. And I'm really excited about this, because you had a long and varied career, and you also are making some non- consensus calls right now that we want to get into. And as I told you before, we started talking off- camera that I wanted to go through the long arc of your career, but then get to that non-consensus call that you're making right now, because I think that we're at a critical juncture in the economy. Let's go back all the way to Standard Oil. My understanding having read your bio, is that you didn't start out on Wall Street. But you actually started out as an economist at an oil company. My biggest question is, is why was an oil company looking for a macroeconomist?

GARY SHILLING: It's interesting, Ed. Standard Oil New Jersey, which was the largest of the US oil companies, they had what they call the General Economics Department. And it really, I think, was because the Board Of Directors- and the Board of Directors, they were all inside employees, they were guys who worked up through the ranks. They weren't outside people. I think they thought that economists were something that was good because everybody had one. There were two things that they all felt they had to have. And they didn't know what to do with them. One was computers, and the other was economists.

So, it was not a terribly useful vehicle. I went from their standard general economics department to what was called coordination and planning, which was getting closer to the action there. But then I left in four years and became Merrill Lynch's first chief economist and I've been basically in Wall Street ever since.

ED HARRISON: Right. Well, tell me about that transition to Merrill and then White Weld and what your thoughts are on how that was as compared to Standard Oil and give me a sense of what the environment was on Wall Street back at that time?

GARY SHILLING: Well, I was always interested in markets. And of course, Merrill Lynch was a lot closer to the markets at least in my position than Standard Oil New Jersey was or Jersey as it was called inside. And it was interesting. One of the things is you had to learn the jargon. When I went there, and they talked about defensive stocks, I thought they meant defense stocks. And defensive meaning things that are less volatile, like utilities and consumer staples, as opposed to things making airplanes and ships and so on and so forth. And it was a different atmosphere. It was sales-driven. And I did a lot of work with particularly the institutional salesman and covering pension funds, various fund managers, mutual funds, et cetera, et cetera. But it was a lot faster paced environment and one that I enjoyed much more.

ED HARRISON: Yeah. And Merrill versus White Weld, what's the difference there, and also the Merrill of then versus the Merrill that we know before it blew up in 2008? What can you tell us about that?

GARY SHILLING: Well, my history at Merrill Lynch was checkered. I went there in 1967 and I forecast correctly the 1969-'70 recession. But that wasn't being bullish on America in the Merrill Lynch parlays. So, the guy running the shop, Donald T. Regan, he was later Secretary of the Treasury and Chief of Staff of the White House, we had a disagreement, obviously, he won. I took my entire staff, went to White Weld with no idea that in 1978, Merrill Lynch would buy White Weld. So, the story in Wall Street was just really true, Shillings, the only guy fired twice by Donald Regan. So, I decided to limit the odds of that third time and set up my own shop.

But White Weld had been a white shoe, a very conservative firm that had really grown by financing pipelines when they're building pipelines from Texas up to the east and they rested on their laurels. And it's interesting, Goldman Sachs at that point was very much a smaller operation. Well, earlier in the nap, but Goldman Sachs was out there soliciting clients and building relationships and White Weld wasn't. And I think that's why eventually White Weld got sold to Merrill Lynch because Donald Regan wanted an investment banking department and White Weld was definitely for sale.

ED HARRISON: And that's how Merrill became the behemoth that it is because before, it was more into the stock broking. Interestingly enough, when you say White Weld, immediately that popped in my mind that Mark Fopp, he actually was at White Weld at that time.

GARY SHILLING: Yeah, he and I met there. He was a- well, he was first an understudy, if you will. And then he was liaison between the research department and the foreign offices. So, he would get questions coming in and he come over and economic question, we talked about it and we'd compose the answers, and that's how we got to know each other, but it was a good firm. I really enjoyed being there. But there's been a transition in Wall Street and Merrill Lynch- interesting thing in Merrill Lynch, when there was May Day in 1975 when they unbundled commission. So, that was the end of fixed commissions. And I had sensed that coming.

Because in 1973, soon after I got there, there was a whole host of big name economists testifying to Congress. This is Milton Friedman and all these guys who basically said there's no justification for fixed rates and Wall Street like open markets. It couldn't exist without competitive markets except in one minor area, where we fix our fees. And so, I went to Don Regan and I said I think that fixed commissions are going to go, and Merrill Lynch would probably set the commissions being the biggest of the retail brokerage houses. And so, he said, well, you may be right but do a study on this. And I did.

And it was probably the first attempt to the cost accounting study of any Wall Street house because Merrill Lynch, at that point, they basically assumed that their basic business was stock brokerage and listed stocks, and it was on the New York and American Stock Exchange, and that bore all the costs. And everything else was saying a subsidiary with no accounting for cost or revenues or anything else. So, we devised a system to treat Merrill Lynch as a bank, in fact, which lent and receive money from his functional subsidiaries. And it really was an odd situation like in commodities, customers put up more money as margin than the broker puts up with the commodities exchange. So, it generates capital, but they were losing money.

Now, how do you compute a return when you're generating capital, but losing money? What's the return? It was a really interesting exercise, but nothing much came of it. But I think it was, at least I learned an awful lot about how Wall Street firms actually work from a financial standpoint.

ED HARRISON: I don't know in terms of sequencing, whether I want to get to what happened in terms of '78 or move to the economy. But let's try talking about you already foreshadowed it in '78, when you left because of Don Regan, and you went out on your own, how was that for you in terms of that transition?

GARY SHILLING: Well, it was rough because my wife and I and our four small kids, we didn't have any meaningful assets, and to suddenly basically be fired, it was a bit of a trauma, but I have some good backing. What was a major trading operation, the biggest trader on the New York Stock Exchange, Spear, Leeds and Kellogg, I knew those people and they provide a contingency loan we set up. We never drew on it, luckily, but at least we had backing. And we did have a lot of the clients that we had, and we build up a business within White Weld, not only serving financial institution, but also industrial corporations, companies like 3M and AO Smith and major industrial corporations, and we were able to bring all that business with us. So, we got off to a start. But it's scary when you're suddenly all on your own. And you've got to start and no big, meaningful capital as a cushion. ED HARRISON: Yeah, I can imagine. For me, I'm thinking though, in some level, that four-year juncture between '78 and '82, could have been fortuitous and not fortuitous. Because you were going out right at the period I think that was the most volatile in terms of the end of that inflationary cycle in the '70s. Take me back to what your thinking was. GARY SHILLING: Well, it was. Actually, by the late '70s, I concluded that inflation was on the way out. Now, the first book I wrote up on that the title was, Is Inflation In? Are You Ready? McGraw Hill published that in the early '80s. But what I saw was a turning of the populace against Washington. He had had previously the conviction that Washington really knew what they were doing. But then you had two things that really destroyed confidence. One was Vietnam, which, of course, was very unpopular, and the other was the Great Society programs that didn't really work. And of course, they generated huge inflation, because you simply had excess demand on a fully employed economy.

Well, something happened in 1978, it was called Proposition 13 in California, which was it basically limited the increases in local property taxes, and it still exists. And that, to me, was an inkling that- because California and all California is a rootless society, most people have moved in there from someplace else, they don't have strong traditions. So, they brought those hula hoops or foreign cars, or in this case, limits on government spending, you can see things start in California and know they're going to spread nationwide. But anyway, I saw that. And then of course, you got to the election of Reagan in 1980. And I said, that this is a change of environment, because I saw the root cause of inflation is being excess demand.

And so, that's why I started forecasting the demise of inflation. And with that, a huge decline in interest rates, Treasury bonds at that point or long term Treasury bonds, 30 Year Bonds are yielding 14.6%. So, that was an extraordinary opportunity for appreciation because of course, as the yields go down, the price goes up.

ED HARRISON: What did you think, by the way, of Volcker's attempt to deal with monetary policy by the money supply, targeting the broad money supply, which was a failure in the end, did you think that was going to work?

GARY SHILLING: Well, of course, it's debatable. I think a lot of people would give Volcker credit, but I think it was really a shift in the attitude of the American people and Volcker couldn't have done what he did if they hadn't had the populace behind him. And in fact, I think inflation was on the way out anyway, before he acted. Nearly jacked up interest rates about 20% short term interest rates and your precipitated two back-to-back recessions. But that was the beginning of the unwinding. But if it had just been monetary policy, why would you have inflation coming down for now, almost 40 years? The peak was in 1980. So, I think was a much more profound change than simply monetary policy.

ED HARRISON: And it is profound. We're going to get to that at the end in terms of whether or not that cycle that you're talking about persists and continues now. But that was the beginning of the great bull market. The interesting bit is before this, yesterday, you sent me a chart on how we think about- when we think about the great bull market, usually we think about equities, and we think about '82 is the beginning and potentially continuing on. But the chart you sent me was about zero coupon bonds. Tell me about that. Because it was shocking, the outperformance differential.

GARY SHILLING: Well, I started investing in 30 Year zero coupon treasuries. Now, zero coupon bonds don't pay any interest, but they are issued at a discount. And the interest in effect is in effect built in the difference between the issue price which is below 100 and they're expiring at 100. It's built-in. Now, the fact that it's built-in, it has big advantages when interest rates come down. You don't have a reinvestment risk. In other words, if you invest it, let's just take an example. Let's say you invest in a 10 Year Yield in security and the rates dropped to 5%. Well, you've got to reinvest at 5%, you no longer can invest at10%, that's gone. But the zero coupons build that in, so you get actually about twice as much appreciation for given declining interest rates with a zero coupon, as with a coupon bond, and the longer the majority, the more bang for buck.

Now, it works both ways. You'll lose more money if rates go up. But actually, I started in with the zero coupon bonds from my own account in 1981. And by the mid-80s, the Shilling family, on that one investment, had achieved financial independence. And it's been a tremendous asset, as a matter of fact, since the early '80s, and we have these documented that these zero coupon bonds have outperformed the S&P 500 by five times- that's including dividends in the S&P, but a lot of people, they think that Treasury bonds are for little old ladies and orphans. Well, I've never, never, never bought Treasury bonds for yield.

I couldn't care less what the yield is as long as it's going down. Because when it goes down, they increase in price, and I bought it for the same reason most people buy stocks. Most people don't buy stocks for dividends, you have some for utilities and real estate investments, but most people are looking for appreciation. And that's what my interest in Treasury bonds.

ED HARRISON: We're going now into asset allocation and stock picking and investments and so forth. I understand that you have been associated, I think it was with Forbes since 1983, one of the longest standing writers at Forbes, and even though you're an economist, they picked you as one of their favorite analysts of the market. How did that come about?

GARY SHILLING: It really came about, there's various people I knew, who had been writers at varied places, and ended up at Forbes and invited me in there to meet Jim Michaels, who was this legendary editor. He was one of these guys who ate nuts and bolts for breakfast, and then moved on to solid food. Just a classic writer who chewed you up and spit you out, but learned a lot from him. But I got involved in 1983. And his attitude at Forbes is if you've seen it anyplace else, it won't be in Forbes. He wanted things that were truly unique.

Now, I don't think that was always true. But he was very insistent on that. And that's how I got started there at Forbes and been writing for them ever since. As a matter of fact, I've been on- they have Steve Forbes as this what they call Cruise For Investors. And there's one coming up in second half of July that I'll be on in the Baltic, where I'll be speaking and then they have investors there, listen to the lectures, visit St. Petersburg and various countries in Air Berlin, various countries in around the Baltic. So, I've done that a number of times, too. So, that's another aspect of the Forbes relationship.

ED HARRISON: This relationship that you've had with them has been through something like three business cycles, I think it was the 1990 downturn. There was the 2000 and the 2008. And now, we're still potentially we're now in the fourth downturn. When you compare what could be happening now, what is the severity of today? And how would you compare it? What's the most comparable that you would say?

GARY SHILLING: Well, I made a career out looking for major bubbles. As a matter of fact, the last book I wrote was called, The Age of the Leveraging Investment Strategies for a Decade of Slow Growth and Deflation, published by Wiley in 2010. And in there, I listed seven different what I called great calls were on that. And these were having to do with major cycles and cite three of them, which really, I think, falling in what you're interested in. One was in the early '70s, you have very high inflation. And as a result, there was a feeling that inflation was going to be in double digits forever.

So, what happened? A lot of businesspeople, wholesalers, retailers, manufacturers, doubled and tripled the inventory- double and triple ordered inventories in order to make sure they had supplies because they knew the cost of replacing those would be higher later. Well, it was just one of these coincidence, I'd spent a summer to San Francisco Fed when I was getting a PhD at Stanford in Economics. And I came across a book called, Hand-To-Mouth Buying. And it described what happened in 1919, when after World War I, they took off wage and price controls, and wholesale prices literally double overnight and so had everybody ordering these inventories, Helter Skelter.

Well, they all arrived, and you have the sharpest recessional record in 1920-21. And I'm a great believer in the in the repeat aspects of history. Mark Twain says history doesn't repeat, but it rhymes. Human nature doesn't change much so people react to similar circumstances in similar ways. So, on the basis of that, and in some work we did in the steel industry that showed that the steel production was not being matched by supposedly what people were using up. And we said, there's a lot of excess inventories. And so, in result of that, I correctly forecast that '73-'75 recession, which was the sharpest on record at that time.

Now, that was an economic phenomena, it was excess inventories. There are two others that you alluded to. One was of course, that blow up in the dot-com bubble at the end of the '90s. And that was just wild speculation. And obviously, that came to- I've been looking on that one. And then the third one, of course, was the big housing bubble with the sub-mortgage. And we actually started in 2002 saying that housing was showing signs of a bubble and followed it up and had very good success for ourselves and for our clients in forecasting the demise of housing.

Now, those things, those three were really outstanding crises, if you will. I don't see anything right now that could stack up to that. Mere possibilities. Corporate borrowing has been very heavy in this country. There's been a lot of subprime borrowing or near subprime, the BBB's 50% of bonds and one notch below that, they're junk, and a lot of institutions can't hold junk, they have to sell it and you could get a cumulative selloff. Another one is emerging markets. They borrowed very heavily in dollars after the Great Recession, the 2007-2009 recession. But the dollar has been rallying and it makes it much more expensive in terms of local currencies to pay for those dollar debts. That's another possibility.

And the third one, of course, is the trade wars with China, which we'll not talk about in more detail. But those might blow up but I don't see those as big bubbles like these three I mentioned. They're just waiting to be project. So, yeah, I think we're probably already in a recession, but I think it'd probably be a run of the mill affair, which means real GDP would decline 1.5% to 2%, not to 3.5% to 4%, you had in the very serious recessions. Stocks probably wouldn't fall. If they fall the average, you take out those three and look at the average stock fall, it was 22% from the peak in the older recessions on average. And that would take you a little bit below a couple hundred points, S&P points below where it was on Christmas Eve. So, from here, I would be a shock to people but I'm saying I don't see a catastrophe out there.

ED HARRISON: You say it in a very placid sanguine way. But you're making a very bold call in terms of the recession. Let's unpack that, maybe, because my understanding is from the last letter that you wrote, The Last Insight, you were saying, actually, we could be in a recession right now, what's the data behind that?

GARY SHILLING: Well, if you look at a number of things, you look at the previous weakness in housing. Now, that's looks like it may be a bottom because of the decline in mortgage rates, but industrial production is declining. Employment picture, 75,000 payroll employment increase last month, which is extremely low, about a third of what was average, you look at the New York Fed, they have recession indicator which is now in recession area, you look at the Organization for Economic Cooperation development indicators, they're declining. There's just a whole host of indicators that are declining.

The thing about recessions is that you never know you're in one until almost it's all over. The 2007-2009 recession, the most severe since the '30s, the National Bureau of Economic Research, which is the official arbiter of this, no administration ever wants to declare a recession. No, no, no, we're going to leave it to this private organization. And they started studying business cycles back in the '30s. So, they're the guys are call the shots. They did not say that December 2007 was a peak, which it was until a year later, December 2008. Because what happens, it takes time for the data to come in. And then you get all the revisions. When it peaks, the revisions are on the downside, almost invariably.

Let me explain why. Let's say employment, they want to release the employment numbers the first Friday of the month following the month in question. They want the data out there while it's still relevant, but they don't have all the survey results in there. So, what do they do? They base their initial estimate partly on the surveys and partly on the momentum of recent months. Now when you're at a peak, the momentum moves up like this. And then when they get the rest of the survey you data in, you get a downward revision.

And that's what's happened in the last three months. Early in the year, the revisions were up in employment. Now, in payroll employment, now, they're down the last three months. So, that's probably the strongest indicator. Matter of fact, I write columns for Bloomberg online. And I've just agreed I'm going to do one on that my next column as a matter of fact.

ED HARRISON: Interesting because I know that the revisions wiped away, even the 75,000 from last month, as you were saying that, I was thinking about the birth-death model, which is one of these swags that they have in order to understand based upon the number of companies that come into being versus the number of companies that are going out of existence, in terms of the employment that's created by that small business sector. How does that play into things at the turn of the sun?

GARY SHILLING: Well, obviously, the people at the Bureau of Labor Statistics do their absolute best. And these are thorough professionals. They can't be fired. They're GS rated employees and they are apolitical. And anybody who questions their biases is really barking at the wrong tree. But they are struggling with the issue in this birth- death model. They're trying to say, how many businesses came into existence, how many went out of business and that's a tricky composition, but it has definite effect on the overall statistics. They revise it every year, and then every five years in detail as they get more data, but it can be very distorting in a short term sense. But again, when you see changes on a month to month basis, like we've seen recently, I would not write that up to some data glitch like that.

ED HARRISON: Right. Yeah. So, it could be to the degree that we're seeing a trend downward in terms of revisions that those revisions will actually increase and we're seeing that.

GARY SHILLING: Well, that's a good point, they probably very well would. Because, yeah, your point's well- taken, because there'll probably a lot more small businesses going out of business when times are tough, because they're the most affected. They're the least capitalized, the most vulnerable.

ED HARRISON: Now, you mentioned the New York Fed's recession indicator, I looked at that, and this is the highest it's been since the last business cycle end. And it's on the order of 29% to 30% right now, as of their June 4th data. It has to do with where they're getting their numbers from, they're talking about the yield curve being a huge impact upon that, can you talk about yield, the yield curve, the yield curve's inversion, and what that really means, or is signaling about the economy?

GARY SHILLING: This is really the difference between Treasury yields. The most common one is the difference between the yield on a 2 Year Treasury Note and a 10 Year Treasury Note. And by the way, anything issued 10 years or less is a note, it has to be over that, they're called bonds. A lot of people talk about bonds, and they're talking about duration maturity of two or three years, those are not bonds, no, no, no. And that's why a lot of people deny the power of the bond rally in the last almost 40 years, because they're looking to very short term where you don't get much bang for buck as rates come down. That's another story.

But anyway, this 2 versus 10 most common, that has not quite inverted. Whenever it has, you've had a recession, no exceptions in the post-World War II here, you have had inversion in a 3 Month Bill versus the 10 Year Treasury Note. And anything under one year is a bill by the way versus notes and bond, that's a nomenclature. In any event, those are statistics. And you have to say what happens there? Well, what happens is when you get to this point in this cycle, the investors looking longer term, in this case, a 10 Year Yield, they start to sense I think two things.

One is the recession, also, lower inflation if not deflation. And these both tend to depress longer term yields. The Fed, though, is always behind the curve. They have their forecasts. But when they make their decisions, I think it's fair to say that they're trying to react promptly, but they react to current events. So, they're not going to cut the short term rates, the overnight Fed Funds Rate that they control until they see the whites of the eye of a recession. So, by then, you're in it, and the longer term yields have anticipated that.

So, that's why you get this inversion now, when the Fed cuts rates and question of how soon they're going to do it, is you're going to be soon, but this month, next month, that remains to be seen. But then what you have is then the curve goes back to normal because the short rates are then dropping below the longer term yields. But I think it's really more of a timing of understanding what's going on in the economy.

ED HARRISON: So, right now, it's the 3 Month to the 3 Year Yield that is inverted. So, when you go from three years to five and five to seven and beyond, it's the normal slope. What do you think that indicates that it's only in that particular section and it's not the 2 to 10 that you're talking about?

GARY SHILLING: Yeah. I think though, that the way things are going, and we've had a very strong rally in Treasuries in the last month or so. And I think it probably wouldn't be- unless the Fed cuts rates very, very soon on the short end, I think we probably will get an inversion on the 2 versus 10.

ED HARRISON: But for me, the proof is in the pudding in terms of the Fed's ability to react quickly. Everyone talks about Jerome Powell doing a huge 180 degree pivot that like you've never seen, and they've said that that's ruining the Fed's credibility. You could say on some level that the Fed, Jerome Powell is saying, look, we're less reactive than former Fed people. I did the 180 because the data want the 180?

GARY SHILLING: Well, I wouldn't call it a 180 because they haven't gone from tightening to ease. They went from tightening to pause. I call it a 90. Okay. The other thing to note, though, is that when the Fed gets into the point in a cycle where they worry about the economy overheating, and they've had this obsession with the Phillips Curve, thinking low employment's going to generate inflation and I think that's because they had too many academic economists there. And Powell is not, luckily. But in any event, when you have this situation where the Fed finally decides that they are going to cut rates, then you have to at what's going to happen to the yield curve. And I think the Fed right now is- they're really worried.

But the fact is, when you get into late in the cycle, they worry about an overheating economy, they raise rates, they never want to precipitate a recession. But on my count in 12 of 13 tries in the post-World War II period, they got a recession, the only soft landing was in the mid-90s. And I defined a soft landing as when the Fed raises rates and then they lower it, we have no recession. If they raised them and pause until they either go up or down, you don't know whether it was a soft landing or simply an intermediate pause. But they've had only one soft landing.

Now, that's using interest rates and the Fed has used interest rates as their policy variable for over a century. Now, they have also to deal with shelling off his huge portfolio built up on the quantitative easing. They've never had that to do before. So, you put those together and say what are the odds that they're going to pull off a soft landing, given their track record with rates alone? And now, the added problem of dealing with their success portfolio?

ED HARRISON: Talk to me about the future here, because basically, we already got part of it in terms of what you said about the fact that it's going to be somewhat garden variety recession as compared to these other recessions. Though, you have had some caveats on that. My question on that regard is what's going to happen in the markets over the 16, 18-month timeframe, say in Treasuries, not necessarily equities? But how would you play that, given not just what's happening now, but the broad sweep of what you were saying about the zero coupon bonds and rates coming down?

GARY SHILLING: Well, I'm on record as saying that the 10 Year Yield will probably go to 1%. Now, it's just about 2% right now. And I think that will go to 1%. And this, in the context of recession and lower inflation, if not deflation, and the 30 Year Yield will go to 2%. Actually, if that happens on a 30 Year coupon bond, you make about 20% on your money. It's a very good investment. But I think we would get that decline and that's my terminal rate. That's what I've been saying for many, many years. I think you get down to 2% on the 30 Year bond, 10% on the 10 Year and that's probably it.

And so, what I got in 1981, the bond- or actually, we're entering the bond rally of a lifetime, and that's when again, when the yield on the 30 Year bond was 14.6%. I think that would be over. After that, whether you own treasuries or not depends on inflation. Let's say you had a 2% yield and you had 1% deflation, chronic deflation, that would be 3% real yield. That would be very good by historic standards. Historically, the real yield is about 2.5%. But obviously, if you had any inflation and 2% yield, that wouldn't be attractive on a real basis, on inflation adjusted basis.

ED HARRISON: You could say almost to the upside of the trade that you're talking about is what's happening in Europe and what's happening in Japan in terms of all the negative yielding assets. Germany in particular, I think everyone is just- they're floored by the rates that we're seeing.

GARY SHILLING: Negative yield on 10 Year bunds. Yeah, of course, there are institutional reasons for that. Some institutions, insurance companies, pension funds, they're pretty much required to own sovereigns, government bonds, in this case, bunds in Germany. And also, people are saying, well, I may have a minus 4% yield on a 10 Year German bund but if yield goes to minus six, I'll make money. You still can make money if rates decline, they don't have to be positive, all they have to do is decline. And comparing that to actually having to pay to put money in banks, it's a different logic, but it still is reasonable.

ED HARRISON: It's a crazy world. But for the US, you're talking it's not as crazy. However, there are some risks. Very early on in the conversation, we talked about some of those policy risks. In particular, we were talking about China. Talk to me a little bit where you think the downside risk is in terms of what's happening from a geopolitical perspective.

GARY SHILLING: China is basically grown through exports. And where did those exports go? They went to Europe and North America, that was globalization. And I think that's the most important phenomenon on the global economic stage in the last 30 years. Basically, transfer of Western technology to China and other low cost Asian countries and that shifted the manufacturing jobs there. And, of course, destroyed a lot of people's incomes. And then the exports, goods are shipped back to North America and Europe.

That game is pretty much over, you simply don't have the growth in North America and Europe you had earlier. And if you don't have strong growth overall, you're not spending more in everything, including imports. China's exports are our imports. And also, of course, you have now a situation where China, when we allow them into the World Trade Center in 2001, they promised that they would play by the rules, would be a market economy and so on and so forth. And they have not. And I don't think there's much question of that. They favor their government enterprises. They're the ones that get all the capital and not their private companies, which are starved. They steal our technology required to be transferred as a price of doing business in China and so on.

So, China is really at a crossroads here. And also, their growth is slowing, their growth was running double digits back before the Great Recession. Now, they say it's 6.5%. They always overestimate. There was a very interesting study by the Brookings Institution, and they show the China since the Great Recession, that they have inflated their real GDP numbers by 12% cumulatively. Now, if it's if it's a constant inflation, you don't care, it's just a scale factor. But I think they are more inclined to inflate the numbers now when they're weak than they were earlier, because the statisticians want to make the guys at the top in Beijing happy, that's better than going to jail. So, their growth is definitely slowing.

Another thing with China, their one child per couple policy means that for the next 30 or 40 years, regardless of what happens to burst now, their labor force is declining. Their growth is very much limited, unless they have huge productivity growth. And they pretty well will reach the limits of productivity growth by importing Western technology. And again, Trump is pretty much saying we're not going to go down that road anymore. So, China is- I think the days of China are pretty well over, doesn't mean they're going to disappear, they're the second largest economy, but that's because they got a lot of people. Their GDP per capita is 1/8 of what it is in the US. They're the second world's economy, not because of a high living standard, but because they just got so many people.

ED HARRISON: But one thing that struck me in what you just said is the part where you talked about destroyed many people's income. That is the crux of the matter in terms of the t?te-?-t?te between the United States and China and what people call the populist backlash. How's that going to play out in terms of this slowing that we already seen on China, but also geopolitical tension from that destruction?

GARY SHILLING: Yeah, well, it's still very much alive. And I think that's what got Trump elected that led to Brexit, that led to this crazy left, right government in Italy, and the Yellow Vest in France. All these things are pretty much the same idea that it always has been no growth and purchasing power for the average worker in the G7 countries in over a decade. And they're mad as hell. They really- and I'd say that's led to this populism. And what they're saying is, the political forces in the middle have not done their job, we're going to throw them out, we'll try anything else.

I don't think that's going to go away. And if I'm right, we're in recession, it'll probably intensify. And that'll make it very interesting that 2020 election, because of course, when times are bad, any incumbent is at risk, don't matter who they are. But at the same time, if Trump's able to basically say, well, it's those foreigners, and that's who we blame. And it's easy to say it's imports and immigrants, as opposed to say it's globalization. Globalization is a little harder for most people to understand. But I don't think this thing is going to go away anytime soon.

ED HARRISON: So, I guess we can wrap up with some comments on the positive side. When you look at the view holistically, you painted a picture of a great rally in terms of inflation coming down, people benefiting in terms of bonds, but that's coming to an end, perhaps with the 10 Year at 1%. Where do you see the opportunities going forward over the next three or the next five years?

GARY SHILLING: I think we'd probably be a more normal- everybody says we're going to get to that great normal, that great normal era- there's no such thing as equilibrium. Equilibrium is simply a momentary point through which you pass on the way to one extreme to the other. The idea of just settling this. The Fed always talks about this and that never exists. You look at the numbers, and we've got data to show that. But where do you say, where do you end up there? Well, I think you will end up with much lower inflation. You will end up with bonds probably no longer a big rally, but maybe returning decent inflation adjusted returns.

Stocks, I don't think you're going to have a very positive outlook for the kind of appreciation people thought they deserve. The double digit just isn't there in my view. If you look at this cyclically adjusted price earnings ratio put together by my friend Bob Shiller, Yale, Nobel Prize winner as you know, what it really says is that stocks now are about 40% above the long term norm. And since the early '90s, they have been above that norm, all except for about one year after the great recession. And so, they'll spend a lot of time below that.