Japan Summit: Consumer Resilience and Trade Uncertainty

The new Fed hiking cycle has begun and with it comes expectations for faster rate hikes and quantitative tightening to address inflation, as well as questions around how and when the U.S. economy will be affected. Chief U.S. Economist Ellen Zentner and Senior U.S. Economist Robert Rosener discuss.-----Transcript-----Ellen Zentner: Welcome to Thoughts on the Market. I'm Ellen Zentner, Chief U.S. Economist for Morgan Stanley Research. Robert Rosener: And I'm Robert Rosner, Morgan Stanley's Senior U.S. Economist. Ellen Zentner: On this episode of the podcast, we'll be talking about the outlook for the U.S. economy as the Fed begins a new rate hike cycle. It's Friday, March 25th at 9:00 a.m. in New York. Ellen Zentner: So Robert, last week the U.S. Federal Reserve raised the federal funds rate a quarter of a percentage point, which is notable because it's the first interest rate hike in more than two years, and it's likely to be the first of many. Chair Powell has told us that it's unlikely to be like any prior hiking cycle, so maybe you could share our view on the pace of hikes and where and when it might peak for the cycle. Robert Rosener: Well, it certainly is starting off unlike any recent policy tightening cycle, and recent remarks from Fed policymakers have really doubled down on the message that policy tightening is likely to be front loaded. And we're now forecasting that we're likely to see an even steeper path for Fed policy tightening this year, and we think that as soon as the May meeting, we could see the Fed pick up the pace and hike interest rates by 50 basis points and follow that in June with yet another 50 basis point increase. We're expecting they'll revert back to a 25 basis point per meeting pace after that, but still that marks 225 basis points of policy tightening that we're expecting this year in our baseline outlook. Ellen Zentner: So how does Jay Powell, the chair of the FOMC, fit into this? Do you think he's about in line with this view as well? Robert Rosener: He does seem to be generally in line with this view, but he is negotiating the outlook among a committee that has a diversity of views, and we've been hearing from policy makers, a wide range of policy makers, over the last week. What's been notable is that more and more policymakers are starting to get on board the train that a faster pace of policy tightening is likely to be warranted. And that may very well include rate hikes that come in larger increments, such as 50 basis point increments, over the course of the year as policymakers seek to get monetary policy into more of a neutral setting. Ellen Zentner: So this is all because of inflation. Inflation's broad based, it's rising. I think it felt like there was a very big shift on the FOMC January/February, when the inflation data was really rocketing to new heights. So in order to bring inflation down when the Fed is hiking, how long does it take for those hikes to flow through into the economy to bring inflation down? Robert Rosener: Well, that's a really good question, and certainly that broadening that you mentioned is key. We saw a run up in inflation in the later part of last year that was driven by a few segments, particularly on the goods side. But as we moved into the end of 2021 and early 2022, what we really started to see was a broadening out of inflationary pressures and particularly a broadening into the service sectors of the economy where price pressures began to pick up more notably and began to lead the inflation data higher. Now, as we think about how monetary policy interacts with that, tighter monetary policy needs to slow growth in order to slow inflation. And typically, you would look at monetary policy and not expect it to be really materially affecting the economy for, say, a year out. Something that Chair Powell has stressed is that monetary policy transmits through financial conditions, and financial markets moved to price in a more hawkish Fed outlook as soon as the latter part of last year. Now, as those rate hikes got priced into the market, that acted to tighten financial conditions. So as Chair Powell noted in his press conference, the clock for when rate hikes start to impact the economy doesn't necessarily start on the delivery of those rate hikes. It starts when they affect financial conditions. And so we may start to see that a backdrop of tighter financial conditions begins to reduce some of the steam in the economy and reduce some of the steam in inflation as we move through the course of the year. But with headline CPI currently at around 8%, likely to march higher in the upcoming data, there's a lot of room to bring that down. So we might have to wait some time before we see material relief on inflation. Ellen Zentner: So let's talk about the balance sheet because they're not just hiking rates, right? They're going to reduce the size of their balance sheet, what we call quantitative tightening or Q.T. And so run us through our view and how the Fed's thinking about that quantitative tightening process when they're unwinding much of that four and a half trillion in asset purchases that they made during the pandemic. Robert Rosener: So the Fed has made it clear they're on track to begin winding down the size of their balance sheet, and that's a decision that we're expecting will come at the May meeting, that in very short order the Fed would begin to reduce the size of its balance sheet with caps on reinvestment and total at about $80 billion per month. And that would set roughly the monthly pace by which the balance sheet would decline, and Chair Powell has indicated that that process may take around three years to bring the balance sheet down to a size that would be consistent with a neutral balance sheet. It's going to act to tighten financial conditions in the same way or similar ways that rate hikes do, but it's a little bit less clear how those effects happen, over what time horizons they happen. So there's some uncertainty there, but it's something that the Fed wants to have running in the background, while they pursue rate hikes. Ellen Zentner: So in terms of, you know, if the balance sheet is going to be doing additional tightening, what do we think the Fed funds equivalent of that is, has Chair Powell discussed that?Robert Rosener: So when we looked at this, we looked at the effects through financial conditions. And in our estimates, the tightening of financial conditions that we would see on the back of the balance sheet reduction that we're expecting, was about the equivalent this year of one additional 25 basis point hike. Now, perhaps coincidentally, Chair Powell in his most recent remarks, also noted that the tightening of the balance sheet or the shrinking of the balance sheet this year would be about the equivalent of one rate hike. So there's some consolidation of views there that it does act to tighten. Again, there's uncertainty bands around that, but it's about the equivalent of one additional hike this year. Robert Rosener: So Ellen, we can't really talk about the Fed raising rates without thinking about the broader implications for the yield curve, and more recently the applications for yield curve inversion. For listeners who might not be familiar, that's when shorter term investments in U.S. treasuries, such as the 2-year yield, pay more than longer term treasuries, such as the 10-year yield. Historically, when we've seen that spread inverting, it's been a signal that a recession might be coming. What are you thinking about the risks that the yield curve is telling us now? And does that tell us anything about the risk of a future recession? Ellen Zentner: Well, Robert, I think it is clear that the yield curve, if we're talking about just the spread between 2-year treasuries and 10-year treasuries, is going to continue to flatten and invert. And policymakers have made it clear that because of special factors, they shouldn't be concerned this time. And when I look at factors in the economy that are typically what you would look at for signals of recession, you know, jobs, we are still creating jobs, it’s been a very steady run of about 500,000 jobs a month. We are expecting another strong print in the upcoming payroll report, that does not speak to approaching recession. When I look at retail and wholesale sales still growing, industrial production still growing, real disposable income of households still growing. Even though we're dealing with the fading of fiscal stimulus, that labor income has been very strong. So all of those traditional measures would tell you that an inverted yield curve today is not providing you a signal of approaching recession, and I think overall inversion of the yield curve has become less of a recession indicator since we have been trapped so near the zero lower bound over the last cycle and this cycle. Robert Rosener: So we talked about the Fed, we talked about the yield curve and financial conditions, but of course, there's a lot of things that the Fed has to take into account as it thinks about the outlook. And of course, we're all watching the terrible events unfolding in Ukraine. And as we think about the ripple effects on the world economy, particularly in Europe, as well as more broadly on energy security and supply and so much more. Clearly, this is an impact that's going to be affecting regions differently. But how should we think about how that's going to be felt here in the U.S. economy? And what does that mean for the Fed? Ellen Zentner: So I think first and foremost, it plays back into the inflation story. I think what we've heard from the chair is that typically they do look through food and energy price fluctuations. But in this case, where inflation is already broad based and high, they do have to act and it just puts more fuel behind the need to have a more aggressive tightening cycle. When we look at our own analysis and impact analysis that you've done for us on the team, the impact on inflation from increases in energy prices is four times that of the impact on GDP growth. In the U.S. we're just about energy independent. And so it's become more ambiguous as whether higher energy prices are really a negative for the U.S. economy. But the way I would look at this is, it will slow activity in parts of the economy, we've taken our own growth forecasts down to reflect that forecast for GDP, and it will disproportionately affect lower income households. Where food prices, energy prices and just general inflation impacts them to a much greater degree than upper income households. So overall, aggregate spending will look quite strong in the U.S. economy, but for the lower income groups, I think it's going to be lagging behind. But certainly you mentioned Europe, you know, Europe is facing possible recession if gas supplies are cut off, which is a very real risk. But it's just not going to be as big of an impact to the U.S. economy, where we'll feel it is if other parts of the globe are deteriorating it can hamper financial conditions here, and that's something that the Fed will be watching closely. And so, Robert, you and I will be watching these developments closely as well. We've made it clear and the Fed has made it clear that it's on the path higher for interest rates, but the outlook always comes with risks and we'll be reporting back on those risks in future podcasts. So, thanks for taking the time to talk, Robert. Robert Rosener: Great talking with you, Ellen. Ellen Zentner: And thanks for listening. If you enjoy the show, please leave us a review on Apple Podcasts and share Thoughts on the Market with a friend or colleague today.

25 Mars 202210min

While the possibility of a yield curve inversion in the U.S. has news outlets and investors wondering if a recession is on the way, there’s more to the story that should put minds at ease.-----Transcript-----Welcome to Thoughts on the Market. I'm Matthew Hornbach, Global Head of Macro Strategy for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about global macro trends and how investors can interpret these trends for rates and currency markets. It's Thursday, March 24th at noon in New York. For most investors, most of the time, the general level of U.S. Treasury yields is more important than the differences between yields on shorter maturity bonds and those on longer maturity bonds. The most widely quoted Treasury yield is usually the one investors earn by lending their money to the government for 10 years. But there are times when the difference between yields on, say, treasuries that mature in 2 years and those that mature in 10 years make the news. And this is one of those times. These yields are tracked over time on a visual representation we call the yield curve. And at some point soon, we expect the yields on 2 year treasuries to be higher than those on 10 year treasuries. This is what we call a 2s10s yield curve inversion. The reason why yield curve inversion makes the news is because, in the past, yield curve inversion has preceded recessions in the U.S. economy. Still, there are two points to make about the relationship between the yield curve and recessions, both of which should put investors' minds at ease. First, using history as a guide, inverted 2s10s yield curves preceded recessions by almost two years on average. While time flies, two years is plenty of time for people to prepare for harder times ahead. Second, despite popular belief, yield curve inversions don't necessarily cause recessions, and neither does significantly tighter fed monetary policy - which also can cause yield curves to invert. In his recent speech, Fed Chair Powell highlighted 1965, 1984, and 1994 as times when the Fed raised the federal funds rate significantly without causing a recession. Another important point is that the yield curve can flatten for reasons unrelated to tighter Fed policy. For example, between 2004 and 2006, the yield curve flattened by much more than Fed policy alone would have suggested. The curve flattening during this period baffled the Fed and investors alike. Former Fed Chair Greenspan labeled the episode "a conundrum" at the time. So what caused the yield curve to flatten so much during that period? Former Fed Chair Bernanke suggested it was a global savings glut. Overseas investors purchased an increasingly larger share of the Treasury market than they had ever bought before. Fast forward to today and the demand from overseas investors has been replaced by demand from the Fed. In fact, the Fed owns almost 30% of outstanding Treasury notes and bonds, which goes some way to explaining how flat the yield curve is today. And, to be clear, fed ownership of those bonds also isn't a reason to think recession is right around the corner. Another common concern about a flat yield curve is that it will cause banks to stop lending. And without banks lending into the real economy, recession might loom large. But our U.S. Bank Equity Research Team is less concerned. Their work shows that bank loans grew during the prior 11 periods of yield curve inversion since 1969. While they found some moderation in loan growth, it was modest. And this year, despite our forecast for an inverted yield curve. The project loans to grow 7% over the year, after loans shrank last year, when the yield curve was actually much steeper. So in the end, while we think the yield curve will invert this year, we don't think investors should worry too much about a looming recession - even if the news does. Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple Podcasts app. It helps more people to find the show.

24 Mars 20223min

While the demand for Environmental, Social, and Governance investing has been growing primarily in Europe, a potential new regulatory policy may drive new interest and opportunity for U.S. investors.-----Transcript-----Welcome the Thoughts on the Market. I'm Michael Zezas, Head of Public Policy Research and Municipal Strategy for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the intersection between U.S. public policy and financial markets. It's Wednesday, March 23rd at 10 a.m. in New York. Taking a break from specific market impacts for the moment, we want to focus on the growth of a new market for investors - the market for ESG investing, which a new regulatory policy may help nudge into the mainstream in the U.S. As you may already know, ESG stands for Environmental, Social and Governance, three factors that represent a measurement of how socially conscious the investment is. The demand for this style of investing has grown substantially in recent years. For example, per our sustainability research team, there are about 2 trillion dollars of dedicated ESG assets under management globally. But about 85% of that is in Europe, showing how U.S. investors have been relatively slower to adopt such strategies. Yet earlier this week, the SEC proposed a new rule that could create new incentives for U.S. investors to adopt ESG strategies. This rule would require companies to provide disclosures about their emissions, as well as governance and strategy for dealing with climate related risks. As our sustainability research team noted in a report this week, having a standard for disclosure can help build the ESG market by giving investors a common template for understanding ESG impacts. That differs from the current state of play, where many companies do disclose on climate related issues, but to different levels and by differing standards, making analytical comparisons difficult. We should note, though, that this is just a first step toward a regulation that could boost the size of the ESG market. Regulatory rules tend to take a long time to finalize and implement. According to Government Accountability Office case studies, it can take anywhere from six months to five years, as proposed rules navigate a series of comment periods, judicial challenges and revisions. So we'll track the process here and report back when there's more to know. Thanks for listening. If you enjoy the show, please share Thoughts on the Market with a friend or colleague, or leave us a review on Apple Podcasts. It helps more people find the show.

23 Mars 20222min

While the cost of shelter has risen quickly, the measure of housing inflation has been slow to catch up, creating challenges for renters, homeowners and the Fed.-----Transcript-----Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross Asset Strategist for Morgan Stanley. Along with my colleagues, bringing you a variety of perspectives, I'll be talking about trends across the global investment landscape and how we put those ideas together. It's Tuesday, March 22nd at 2:00 p.m. in London. Our base case at Morgan Stanley is that the U.S. economy sees solid growth over the next two years, with inflation moderating but still being somewhat higher than the Federal Reserve would like. We think this means the Fed raises interest rates modestly more than the market expects, flattening the US yield curve. But what are the risks to this view? Specifically, what could cause inflation to be much higher, for much longer, putting the Federal Reserve in a more pressing bind? I want to focus here on core inflation as central banks have more leeway to look through volatile food or energy prices. This is a story about shelter. The cost of shelter represents about 1/3 of U.S. core consumer price inflation. That makes sense. For most Americans, where you live is your largest expense, whether you rent or pay a mortgage. The CPI measure of inflation assumes that the cost of renting has risen 4.5% in the last year. Now, if that sounds low, you're not alone. At the publicly traded apartment companies covered by my colleague Richard Hill, a Morgan Stanley real estate analyst, rents have risen 10% or more year-over-year. There are reasons that the official CPI number is lower. For one, not everyone renews their lease at the same time. But with a strong labor market and limited supply, the case for higher rents going forward looks strong. Owner occupied housing is even more interesting. Since 2016, U.S. home prices have risen about 56%. But the cost of a house that goes into the CPI inflation calculation, known as "owners’ equivalent rent", has risen only 21%. That's a 35% gap between actual home prices and where the inflation calculation sits. This is a potential problem. Even if home prices stop going up, the official measure of housing inflation could keep rising at a healthy clip to simply catch up to where home prices already are. And given high demand, low supply, and still low interest rates, home prices may keep going up, meaning there's even more catching up to do from the official inflation measure. Higher shelter costs are also a challenge because they're very hard for the Federal Reserve to address. Raising interest rates, which is the usual strategy to combat inflation, makes buying a house less attractive relative to renting. Which means even more upward pressure on rental demand and even higher rents. And higher interest rates make building homes more costly to finance, further restricting housing supply and raising home prices.Housing has long been a very important sector for the economy and financial markets. Over the next 12 months, expect it to be central to the inflation debate as well. Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts or wherever you listen, and leave us a review. We'd love to hear from you.

22 Mars 20223min

This year is validating our call for a shorter but hotter economic cycle. As the indicators begin to point to a late-cycle environment, here’s how investors can navigate the change.-----Transcript-----Welcome to Thoughts on the Market. I'm Mike Wilson, Chief Investment Officer and Chief U.S. Equity Strategist for Morgan Stanley. Along with my colleagues, bringing you a variety of perspectives, I'll be talking about the latest trends in the financial marketplace. It's Monday, March 21st at 1:00 p.m. in New York. So let's get after it. A year ago, we published a joint note with our Economics and Cross Asset Strategy teams arguing this cycle would run hotter but shorter than the prior three. Our view was based on the speed and strength of the rebound from the 2020 recession, the return of inflation after a multi-decade absence and an earlier than expected pivot to a more hawkish Fed policy. Developments over the past year support this call - US GDP and earnings have surged past prior cycle peaks and are now decelerating sharply, inflation is running at a 40-year high and the Fed has executed the sharpest pivot in policy we've ever witnessed. Meanwhile, just 22 months after the end of the last recession, our Cross Asset team's 'U.S. Cycle' model is already approaching prior peaks. This indicator aggregates key cyclical data to help signal where we are in the economic cycle and where headwinds or tailwinds exist for different parts of the market.With regard to factors that affect U.S. equities the most, earnings, sales and margins have also surged past prior cycle highs. In fact, earnings recovered to the prior cycle peak in just 16 months, the fastest rebound going back 40 years. The early to mid-cycle benefits of positive operating leverage have come and gone, and U.S. corporates now face decelerating sales growth coupled with higher costs. As such, our leading earnings model is pointing to a steep deceleration in earnings growth over the coming months. These negative earnings revisions are being driven by cyclicals and economically sensitive sectors - a setup that looks increasingly late cycle. Another key input to the shorter cycle view was our analysis of the 1940s as a good historical parallel. Specifically, excess household savings unleashed on an economy constrained by supply set the stage for breakout inflation both then and now. Developments since we published our report in March of last year continue to support this historical analog. Inflation has surged, forcing the Fed to raise interest rates aggressively in a credible effort to restore price stability. Assuming the comparison holds, the next move would be a slowdown and ultimately a much shorter cycle.Further analysis of the postwar evolution of the cycle reveals another compelling similarity to the current post-COVID phase - unintended inventory build from over ordering to meet an excessive pull forward of demand. In short, we think the risk of an inventory glut is growing this year in many consumer goods, particularly in areas of the economy that experienced well above trend demand. Consumer discretionary and technology goods stand out in our view. Now, with the Fed raising rates this past week and communicating a very hawkish tightening path over the next year, our rate strategists are looking for an inversion of the yield curve in the second quarter. While curve inversion does not guarantee a recession, it does support our view for decelerating earnings growth and would be one more piece of evidence that says it's late cycle. In terms of our U.S. strategy recommendations, we continue to lean defensive and focus on companies with operational efficiency with high cash flow generation. This leads us to more defensive names with more durable earnings profiles that are also attractively priced. Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple Podcasts app. It helps more people to find the show.

21 Mars 20223min

The U.S. Federal Reserve recently enacted its first interest rate hike in two years, but there is still more work to be done to counteract rising inflation and markets are watching closely.-----Transcript-----Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross Asset Strategist for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about trends across the global investment landscape and how we put those ideas together. It's Friday, March 18th at 2:00 p.m. in London. On Wednesday, the U.S. Federal Reserve raised interest rates for the first time in two years. This is notable because of how much time has passed since the Fed last took action. It's notable because of how low interest rates still are, relative to inflation. And it's notable because rate increases, and decreases, by the Fed tend to lump together. Once the Fed starts raising or lowering rates, history says that it tends to keep doing so. Now, one question looming over the Fed's action this week could be paraphrased as, "what took you so long?" Since the Fed cut rates to zero in March of 2020, the U.S. stock market is 77% higher, U.S. home prices are 35% higher, and the U.S. economy has added over 5.7 million new jobs. Core consumer price inflation, excluding volatile food and energy prices, has risen 6.4% in the last year, indicative of demand for goods outpacing the ability of the economy to supply them at current prices, exactly what a hot economy implies. The reason the Fed waited was the genuine uncertainty around the impact of COVID on the economy, and the risk that new variants would evade vaccines or dash consumer confidence. But every decision has tradeoffs. Easy Fed policy has helped the U.S. economy recover unusually quickly, but that quick recovery now means the Fed has a lot more to do to catch up. Specifically, we think the Fed will need to raise the upper band of its policy rate, currently at 0.5%, to about 2.75% by the end of next year. This is more than the market currently expects, and we think outcomes here are skewed to the upside, with it more likely that rates end up higher than lower. My colleagues in U.S. interest rate strategy believe that this should cause U.S. rates to rise further, with 2 year bond yields rising most and ultimately moving higher than 10 year bond yields. It's rare for 2 year bonds to yield more than their 10 year counterpart, a so-called curve inversion. Nevertheless, this is what we expect. Now, one counter to this Fed outlook is that the U.S. economy simply can't handle higher rates, and that will force the Fed to stop hiking earlier. But we disagree. With a large share of household debt in the U.S. in the form of 30 year fixed rate mortgages, the impact of higher rates may actually be more muted than in the past, as the cost of servicing this debt won't change even as the Fed raises rates. Higher short-term interest rates and an inverted yield curve are one specific implication of these expectations. More broadly, inverted yield curves have historically been key signposts for increased risk of recession. While we think a recession is unlikely, the market could still worry about it, supporting U.S. defensive equities and investment grade over high yield credit. Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts or wherever you listen, and leave us a review. We'd love to hear from you.

18 Mars 20223min

The U.S. and its allies have frozen the Central Bank of Russia’s foreign currency reserves, leading to questions about the safety of FX assets more broadly and the centrality of the U.S. dollar to the international financial system.Important note regarding economic sanctions. This research references country/ies which are generally the subject of comprehensive or selective sanctions programs administered or enforced by the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), the European Union and/or by other countries and multi-national bodies. Any references in this report to entities, debt or equity instruments, projects or persons that may be covered by such sanctions are strictly informational, and should not be read as recommending or advising as to any investment activities in relation to such entities, instruments or projects. Users of this report are solely responsible for ensuring that their investment activities in relation to any sanctioned country/ies are carried out in compliance with applicable sanctions.-----Transcript-----Welcome to Thoughts on the Market. I'm James Lord, Head of FX and EM Strategy for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about global macro trends and how investors can interpret these trends for currency markets. It's Thursday, March 17th at 3:00 p.m. in London. Ever since the U.S. and its allies announced their intention to freeze the Central Bank of Russia's foreign exchange, or FX, reserves, market practitioners have been quick to argue that this would likely accelerate a shift away from a U.S. dollar based international financial system. It is easy to understand why. Other central banks may now worry that their FX reserves are not as safe as they once thought, and start to diversify away from the dollar. Yet, despite frequent calls for the end of the dollar based international financial system over the last couple of decades, the dollar remains overwhelmingly the world's dominant reserve currency and preeminent safe haven asset. But could sanctioning the currency reserves of a central bank the size of Russia's be a tipping point? Well, let's dig into that. The willingness of U.S. authorities to freeze the supposedly liquid, safe and accessible deposits and securities of a foreign state certainly raises many questions for reserve managers, sovereign wealth funds and perhaps even some private investors. One is likely to be: Could my assets be frozen too? It's an important question, but we need to remember that the U.S. is not acting alone with these actions. Europe, Canada, the UK and Japan have all joined in freezing the central bank of Russia's reserve assets. So, an equally valid question is: Could any foreign authority potentially freeze my assets? If the answer is yes, that likely calls into question the idea of a risk free asset that underpins central bank FX reserves in general, and not just specifically for the dollar and U.S. government backed securities. If that's the case, what could be the implications? Let me walk you through three. First would be identifying the safest asset. Reserve managers and sovereign wealth fund investors will need to take a view on where they can find the safest assets and not just safe assets, as the concept of the latter may have been seriously impaired. And in fact, the dollar and U.S. Government backed securities may still be the safest assets since the latest sanctions against the central Bank of Russia involve a broad range of government authorities acting in concert. A second implication is that political alliances could be key. These sanctions demonstrate that international relations between different states may play an important role in the safety of reserve assets. While the dollar might be a safe asset for strong allies of the U.S., its adversaries could see things differently. To put the dollar's dominance in the international financial system at serious risk, would-be challenges of the system would need to build strategic alliances with other large economies. Finally, is the on shoring of foreign exchange assets. Recent sanctions have crystallized the fact that there is a big difference between an FX deposit under the jurisdiction of a foreign government and one that you own on your home ground. While both might be considered cash, they are not equivalent in terms of accessibility or safety. So another upshot might be that reserve managers bring their foreign exchange assets onshore. One way of doing this is to buy physical gold and store it safely within the home jurisdiction. The same could be said of other FX assets, as reserve managers will certainly have access to printed U.S. dollars, Euros or Chinese Yuan banknotes if they are stored in vaults at home, though there could be practical challenges in making large transactions in that scenario. Bottom line, though, while these are all important notions to consider, in our view recent actions do not undermine the dollar as the safest global reserve asset, and it's likely to remain the dominant global currency for the foreseeable future. Thanks for listening! As a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple Podcasts app. It helps more people to find the show.

17 Mars 20224min

As oil prices rise across the globe, investors wonder if governments will continue to incentivize clean energy development or pivot to greater investment in traditional fossil fuels.-----Transcript-----Welcome to Thoughts on the Market. I'm Michael Zezas, Head of Public Policy Research and Municipal Strategy for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the intersection between U.S. public policy and financial markets. It's Wednesday, March 16th, at 10:00 a.m. in New York. With the conflict in Ukraine ongoing, many investors continue to ask questions about the U.S. and European policy response to the rising price of oil. In particular, many ask if governments will continue down the path of incentivizing clean energy development, or pivot to greater exploration of traditional fossil fuels. But as my colleague Stephen Byrd, who heads North America Power Utilities and Clean Energy Research, pointed out in a recent report, this is a false choice, and it's one that many policymakers are likely to reject in favor of embracing an "all of the above" strategy. It's important to understand that focusing only on traditional energy sources wouldn't solve the problem in the near term. For example, switching on any dormant U.S. oil production facilities would only replace a fraction of the oil that Russia produces, so fresh explorations ramp up production would be needed, and that could take a few years. The same could be said about natural gas. The U.S. Has the spare capacity to backfill with Europe imports from Russia, but Europe mostly doesn't have the facilities to accept liquefied natural gas shipped overseas from America. Germany has announced plans to build two liquefied natural gas terminals, but that could take years to complete. The point is, focusing on traditional energy sources alone is no quick fix for high energy prices and energy independence, and therefore there's little opportunity cost in also focusing on renewable energy development. For that reason, we think western governments are likely to include both clean energy and traditional investments in their strategy going forward. You see this echoed in the statements of policymakers, such as U.S. Climate Envoy John Kerry's recent comments that the US is committed to an "all of the above" energy policy. So what does it mean for investors? In short, expect energy companies of all types to have business to do with governments in the coming years. That includes traditional oil exploration companies, but also clean tech companies, as market beneficiaries. Thanks for listening. If you enjoy the show, please share Thoughts on the Market with a friend or colleague, or leave us a review on Apple Podcasts. It helps more people find the show.

16 Mars 20222min