So we're going to meet with Daniel Lacalle, he's a chief economist at Tressis based in
Madrid and here in London.
We're hoping to hear from him about Europe, the European project, European growth, how
the interplay is working.
Also dig a little bit into Spain, and he's just written a book about how we get out of
this central bank trap so hopefully we'll dig into that and hear his views on the commodities
supercycle where he's pretty bearish.
Daniel, thanks for joining us at Real Vision.
Thank you so much.
Let's start on Europe, bigger picture, growth is returning modestly.
We have a decline in nationalist politics, for how long?
How do you navigate that?
What do you think with the European project where are we, big picture terms?
In big picture terms I think that what we can say is that every political catalyst that
we have seen in the past three years in particular has been a little step further in cementing
the strength of the European project.
So even Brexit, the French elections, the German elections, the Dutch elections have
proven that there is a much more solid foundation to the European project than what many feared,
and I think that is a positive.
However, the challenges of the European Union remain.
It is a monetary union, but fiscally it remains in shambles.
And the problem that we're seeing right now is that now that growth is returning very
modestly-- as you very well mentioned-- One thing that we can see right now is that
the dangers of falling into the trap of the most dangerous words in economy, which are
to incentivize internal demand, can come back, because the problem of the European Union
has never been one of lack of demand policies.
Rather the opposite, the European Union increased money supply, credit, and massive industrial
projects throughout-- from the beginning until 2008, 2009, and then it exploded.
And when the crisis exploded the European Union decided to take again very aggressive
demand side policies.
It actually spent about 3.8% of its GDP in counter-cyclical measures which ended up creating
a bigger hole for the economies.
The risk right now is actually that in order to try to keep calm the nationalistic parties,
governments decide to fall again into the same trap, to try to repeat the same mistakes
of big industrial projects, large infrastructure stimulus, big deficit spending projects as
well, and therefore go back to a risk of entering into another stagnation cycle.
So you've written a book about this, how to escape from this trap.
Share with us some insights, what are the key things that the policy makers should be
doing?
Yeah.
I think that in Escape from the Central Bank Trap, one of the things that I mention is
that we cannot say look, what the central banks need to do is to disappear.
OK, we need to be aware that central banks are going to continue to be there.
Now what we need to do is to pay attention to the fact that large monetary stimulus,
lowering interest rates, increasing money supply the level in which we are doing-- we
are in a period in which with no crisis, with no recession the major central banks are increasing
money supply, are buying assets by more than 200 billion a month, which is absolutely crazy.
So one of the things that we need to do is to pay attention to what they're doing and
to avoid the central bank from becoming what I say, what I call it in the book the pyromaniac
firefighter.
The pyromaniac firefighter is the one that creates all the elements of a crisis, of a
financial crisis by massively lowering interest rates and increasing money supply, therefore
leading investors and market participants to take massive risk for very low yields.
Then when it all explodes presents itself as the savior by doing exactly the same, by
printing more money and lowering interest rates.
So there are solutions, there are solutions in which we can find a way for the central
banks to avoid considering the market exuberance and the excessive valuations of both stock
markets and bond markets as a collateral damage that they shouldn't care about, because what
they care about is core inflation and prices.
They need to pay attention to that.
And the way to do it is by having limits to monetary policy, by placing limits to monetary
policy so that central banks don't place themselves constantly behind the curve by at the same
time paying attention to the inflation that is being created, because they talk about
very low inflation therefore no risk.
However, we have massive inflation in financial assets, and that's the problem.
So what they need to do is to normalize monetary policy more quickly than what usually the
defenders of demand side policies say, but at the same time pay a lot more attention
to risks at the financial market.
And how do they normalize that?
Given where we are in valuations, both in equities or fixed income or other asset classes.
How do they normalize that quickly without creating a problem in financial markets?
Exactly.
The first thing-- there's three ways.
First, communication is very important.
I think it was Ben Bernanke that used to say that communication is as important, if not
more than policy.
So they need to be constantly reminding markets that easing is not perennial and that the
policies will stop at a certain point, and do it.
Because the problem with the current policy is that they say, look, when employment goes
down to 5% we will normalize, then they don't normalize when employment-- unemployment,
sorry, goes down to 5%.
Therefore, the mentality of most market participants is the worse, the better.
So which is a very risky one, which means that the worse that the economic data is,
the better for financial assets, because we expect that normalization will not happen,
because we expect that easing will continue.
That perverse incentive can be very quickly stopped first with communication, second by
having very clear, very clear, Taylor rule measures that put the limits on monetary policy
once the data both on core inflation, on unemployment, and other of the elements that that policy
is set for are reached.
And by that you preci-- you avoid the trap of constantly becoming dovish, then a little
bit hawkish, and a little more dovish which is fueling much higher risk-taking.
And how does this play into currencies then?
Because I know you're a bull of the dollar versus euro.
Is that because the US tapers more quickly, it goes first, interest rate differentials,
or is it something else you are worried about the euro in particular?
I think that to believe that the euro will continue to be a strong currency you need
to believe first that the fiscal imbalances of the European Union are going to be sorted
out.
Politically, and knowing the history of Europe, not-- before the European Union even, it is
very difficult to believe.
So that's the part that is very important.
But the euro will exist, now the problem is, is it a currency that is a reserve of value
for the world?
And that is where the picture starts to crack, if you want to be bullish on the euro relative
to the dollar.
Because no matter how you want to look at it, if, even if you look at data from the
Bank of International Settlement, if you look at data of use of currency, the reality is
that the utilization of the euro as a currency globally is actually not increasing, while
the use of the dollar is increasing.
So if you have the demand of dollars going up while supply of dollars is not increasing,
because the Federal Reserve is tapering, is reducing its pace of easing and is increasing
rates, et cetera.
So demand for dollars is going up, supply is not growing radically, that defends the
US dollar as a world reserve currency, reserve of value.
That is the opposite with the euro, with the euro what you have is the Central Bank of
Europe, the European Central Bank increasing supply of euros while demand for euros is
reduced even further if you look outside of the eurozone.
Because the eurozone obviously trades a lot within itself, and when the European Union
talks about exports they talk a lot about exports within themselves.
It's like talking-- today, it would be like talking exports from, I don't know, Illinois
to Michigan.
So one of the things that I think is dangerous about being bullish on the euro versus the
dollar is precisely that, it's demand versus supply.
The other one is that the European Union depends more and more on its trade surplus to be--
to continue to strengthen.
That trade surplus cannot continue to happen with a euro that gets stronger and stronger,
because the competitiveness of the European Union is not that high.
It doesn't have large technological giants like the US, it doesn't have high added value
companies, has predominantly mid-value large conglomerates which are fine, but these are
not, let's say, cutting edge technology type of companies.
So what it needs-- it needs to a certain extent a weak currency.
The US, on the opposite, is becoming more and more I wouldn't say isolated but more
regionalized as an economy.
The US exports very little, about 13% of its GDP.
On top of it, the US is becoming independent in energy, which is a very, very important
factor.
Therefore, for the US economy and for the government, the government should actually
defend sound money and a strong currency, because that benefits its citizens more.
It does not need to devalue to compete in the global market, because it has massive
technology giants, because it has high added value companies, and because the multinationals
that export, actually, do not need a weak currency.
That is not the case with the euro.
Therefore, I believe that as the world becomes less incentivized by demand side policies
and by currency wars, the true value of the dollar relative to the euro starts to emerge
back.
How are you navigating this in terms of investing?
Where are you-- what processes, methods are you using to try and find value?
Or are you seeing most things on the short side?
How do you navigate all of this?
I think that for investors the best way is to understand that easing policies exists.
So we need to be aware that we are buying expensive assets.
Now what we need to understand is within expensive what is an attractive opportunity.
Because at the end of the day if the lowest risk asset is giving negative yields-- German
bond, it goes to 10, 20 years before you even start to get any real yield-- so you need
to understand that you're going to be taking a little bit more risk with a little bit less
return.