Why Interest Rates Are Shooting Up All Around the World

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1:20Hello and welcome to another episode of the All Thoughts podcast. I'm Traci Alloway. And I'm Joe Weisenthal. Joe, how about them JGB yields? So this is the thing, which is that in some sense, the markets have quieted down, certainly compared to early April or mid-April. But there are some major moves still happening, particularly in rates, some currency stuff. If you know where to look, these markets are not boring at all. I don't even think you have to actively go looking for interesting moves. So we're recording this on May 20th, and the 20-year JGB yield was up something like 15 basis points to about 2.5%.

2:00That's the highest since 2000. So basically back when I was living in Tokyo, going to high school. That's how I measure everything. What were you borrowing from local Japanese banks? Or were you buying JGBs when you were in high school? Sadly not. Although, well, they wouldn't have been a great investment for a while. Well, you should have bought some JGBs back then. You get great price appreciation. You get great yields. But yes, there's a lot going on. It's a global thing. So in the U.S., we're also seeing fairly elevated rates lately. And to some extent, that might be a story of expectations that the current budget negotiations are going to continue widening the deficit, the sort of Moody story.

2:44But there's clearly a global factor here that cannot simply be explained by, say, like the willingness or unwillingness of members of Congress to like expand the SALT deduction. There is a bigger macro story unfolding that I don't think I have my head fully wrapped around. Right. So as we're recording this, the 10 year is back at 4.48 percent. And perhaps more importantly, the 30 year is creeping back towards 5 percent. The dollar is falling again. So the sell America theme is kind of getting another airing. There are concerns over the fiscal trajectory and the big, beautiful bill that, you know, you just kind of outlined.

3:21It's literally called that, isn't it? I know. It's literally called the big, beautiful bill. I love that. And so the worry is that that will push up the deficit and possibly inflation. Plus, of course, we have tariffs. Meanwhile, as rates appear to be going up, there are plenty of people still out there who are talking about the prospect of the economy, the U.S. economy actually slowing down and getting rate cuts later this year. And the market is still pricing those in. So we're at this really interesting juncture in the bond market where we're getting a lot of conflicting signals, a lot of confusing signals, as you mentioned.

3:52And it seems like maintaining stable prices, low inflation and trying to fight all these different cross currents is going to fall almost entirely on the Fed. So I think we should talk about all of this. Absolutely. Let's jump right into it. We have a great guest today. We have the perfect guest, you might say. We're going to be speaking with Stephen Englander, the global head of G10FX strategy at Standard Chartered. And to be honest, Joe, I cannot believe we haven't had Stephen on the podcast before. I've been reading Stephen's notes for years and years and years. I was actually really surprised to realize he's never been on before.

4:28I know. Our oversight. Major our oversight. Lately, his emails have become a must-click for me. I always open them. And so, yes, he's here with us in studio. Stephen, welcome to the show. Thank you very much. I'm honored to be here with the best interviewers in the world. That's right. We are going to clip that and save it for our highlight reel. That's very kind. So why don't we start with JGBs and also USTs. Is there a common theme running through that sell-off or are they being driven by entirely different things? I think it's mostly different. There is a common element in that if US yields are going up, everybody's yields are going to be going up.

5:08But I think in the case of JGBs, there's particular dynamics. There's uncertainty about what they're going to do on the QT side. They had this very kind of painful 20-year auction, which was pretty close to failing. The BOJ published that there was some debate as to what pace of quantitative tightening they should be going at, if any. And I think there's a general view in the world that yields are too low and they're going to be going up. However, it's puzzling because the market seems to like the yen. And normally that would be associated with lower yields. Well, you're getting paid a lot to buy yen.

5:48I mean, right? Isn't that part of the story? Like yields are going up. So it's like I'll buy some yen because at least they're paying me a lot more yen to hold them. Well, remarkably, today there have been times when the yen 30-year yield has been higher than the German 30-year yields. So just on this point, I'm looking – anticipated. I literally on my terminal had just pulled up a chart of German 30-year yields as well, which are above 3%. That's crazy. They were at zero at the start of 2022, and that's the 30-year. They're over 3%. So there must be a global factor. Well, some of it is fiscal, especially in Europe and the U.S.

6:26The Europe had like 10, 12 years of debt crisis in which they didn't want to expand fiscal deficits. The pressure was to do the opposite. And now they've discovered that defense spending is the key to economic growth. But the market, I think, is looking at it and they're looking at the fiscal prospects in the U.S. and kind of guessing that we're not going to see zero on German yields again. Just going back to the yen and people buying it, how much of that is a strong yen story versus a weak dollar story? This is why I hate currencies, by the way. Well, they're good because you have two chances to be wrong.

7:03I think that much of it is a weak dollar story. and looking to see in terms of the negotiations on tariffs and in terms of how kind of off-base the currency is, which currencies are most likely to move, which ones will face the least resistance in appreciating against the dollar. And I think Japan wins on several counts, that the tariff negotiations will be tough because they still have a very big trade deficit with the U.S. Trade surplus. Yes, trade surplus with the U.S. the non-tariff barriers, even if you really can't quantify them, they're pretty significant. And, you know, the U.S. has a point in complaining about some of them.

7:45And there's a sense in the market, and I think correctly, that once you get past the 10 % baseline tariff that the U.S. needs for fiscal purposes, that they may be willing to trade some of the reciprocal tariffs, the, you know, the tariffs beyond that 10 % for currency appreciation. And there have been a number of currencies under discussion, but, you know, the yen is one of the prime currencies, given that it's so weak relative to any kind of PPP type of basis. Right. This is sort of a general East Asian story. You know, obviously, we talked about the Taiwanese dollar and the South Korean won and so forth.

8:23And there is this view that maybe some sort of difference in currency policy could be part of the packages here. Before we get more to that, you know, one of the things that you heard maybe six months ago or a year or even a few months ago, they're like, oh, if we impose tariffs, it will be offset because that will be a strengthening of the U.S. dollar. And we've seen literally the opposite. But that was a common meme, a common conventional wisdom among a lot of economists, both Wall Street, academia, or the ones who appear on TV, et cetera. What is the simple story for why the dollar has been so weak since April 2nd, even at a time when stocks have rebounded, interest rates have stabilized a little bit.

9:05The one major move that hasn't really reversed is the dollar. What's the simple story there? Or the complex story? Well, it's a medium story, but it basically goes something like this. I might choose to pick your pocket if I thought you wouldn't respond. But if you did respond, the consequences might not be as much fun for me. And I think that if you start with the assumption that the U.S. can tariff everybody and the market's not going to say, well, wait a second, if they do tariffs, what about that Mar-a-Lago stuff? What about foreign policy? What is the limit to which they can expand that policy envelope?

9:44You add risk premium to U.S. assets. So the offset to that is that the market is looking at U.S. assets and kind of saying, well, safe haven, maybe not so much. Reliability, maybe not so much as it used to be. Is there good dollar depreciation and bad dollar depreciation? And I remember in one of your notes, you talked about this idea that, you know, you could get a weaker dollar that supports competitiveness, but you could also get a weaker dollar that reduces the amount of capital coming into the U.S.? How would you measure those two things? Well, in a sense, we're getting some of that measurement now.

10:19When we look at the dollar weakening and interest rates going up, I think it's a pretty good sign that notwithstanding the greater competitiveness, on paper at least, of the U.S., that investors aren't that enthusiastic about holding U.S. assets. So I think that's one real signal that the market's not thinking that it's an unalloyed plus. But I'd say that most of the time, if the dollar goes down, it's for bad reasons. The basic good story would be something like this, that the rest of the world, for whatever reason, does fiscal policy and kind of expands consumption, and they start buying U.S.

10:57assets. U.S. foreign yields go up relative to the U.S., never mind what their debt picture is over, you know, 5, 10, 15 years. And they say, okay, you know, instead of buying U.S. treasuries, we're going to buy, you know, German and European and Asian because they're all expanding their fiscal deficits and their rates are going up, the return is higher. And you can sort of say, yeah, the dollar's weaker, but it's okay for the U.S. They can do their own thing. I'd say that if you're focused on the U.S., and this is something I can't emphasize enough, that just about for every major, even medium-sized country, 90 % of the policy solution is going to be domestic.

11:38The idea that you can fix your economic problems by doing something on the international side, I think, is an illusion. If you did the right thing on the domestic side, you might get good stuff happening on the international side. But it's really, really hard to get around domestic issues by saying, oh, we'll just depreciate 10 or 15 percent. Most of the time when you depreciate that way, something's going wrong. Either the market says, hey, the real interest rates are too low and they're not going to be able to push them up. So there's no point to holding their paper. Or they say risk premium should be higher or something's not going right.

12:19So I'd say that, you know, even though there's a route by which you can say that a weaker dollar reflects good stuff, that's not the most common route. Most of the time, a weaker currency reflects bad stuff happening on the domestic side. No, I think this is a really good point. I wrote a thing in the newsletter. I called it like one weird trickonomics because we have all of these things that we can all talk about that sort of ail or plague the U.S. economy. It's difficult to build here. We seem to have lost our capacity. Joe, if you do the whole list, We're going to be here for like 30 minutes, right?

12:52We seem to have gotten worse at building airplanes, which is one of the things that we actually still do export to the world in much of the ways. These are really tough problems to solve. And it strikes me as sort of fantasy that suddenly we can revive all of these things just by coming to an agreement with our foreign partners about some difference in currency or trade policy. I completely agree. And the other fantasy I would add to that is the implication of all we got to do is depreciate 5 or 10 percent. And that's going to be enough. If you take a look at the way the dollar has moved against the euro, the yen, you know, the range over the last 10 years for the euro, I think, is 95 to 125.

13:32And the U.S. has run a trade deficit, significant trade deficit against Europe. Yeah. Both at 95 and at 125. I think there's too much faith that a weak currency is going to bail you out of your problems. But it's the easy thing to do, and it kind of sounds nice in principle.

14:20www.fema.org has optimized every drop of water. How do you make every data center like your best data center? The answer is Ecolab. Better performance, better outcomes, better impact. Ecolab. Now every location is your best location. For enterprise organizations, managing all your food needs is a tall order. But with EasyCater, you get a single workplace food vendor with the tools and resources to make it easy. Giving teams across your organization an easy way to order from a huge variety of restaurants, all on one platform, all while consolidating your corporate food spend so you can control costs, streamline billing and payment, and simplify reporting.

15:02EasyCater, your business tool for food. To learn more, visit easycater.com slash podcast. Was there ever an era in economic history in which economies did stabilize more directly in more linear fashion? You know, now when I think of like, okay, specialization, Taiwan makes the chips. Europe makes the engines. The U.S. makes soybeans and complex financial products. I get why currency adjustments don't have this stabilizing effect. Was there a period when economic specialty was more distributed, that there was a more clear link between exchange rate fluctuations and trade balancing? The simple answer, I think, is no.

15:43I think that there was a time maybe when you had the gold standard. But there's also an issue that the movements of gold reflected the confidence of markets that the economy was sustainable, there were no imbalances. So if you ran a trade deficit in the 19th century, yes, you know, it would have to be settled in gold eventually. But it wasn't a problem until everyone decided that maybe you wouldn't be able to do it. And then you would have these kinds of crunches. Most of my career, it's sort of funny because when you go to school, all you learn is PPP and trade balances and sort of adjustment of exchange rates and so on to get trade into equilibrium.

16:25Once you're sitting at a trading desk, all you see are capital flows. And that's kind of the driver. And the issue is, does the market have enough confidence to keep lending you the money. And if you look at the U.S., say for the last 20 years or so, through thick and thin until recently, the market was pretty confident that the risk-adjusted returns in the U.S. would be positive. And yeah, the U.S. ran a trade deficit, but it didn't seem to harm U.S. welfare. What do you see in the capital flows now? Because this seems to be one of the difficulties of the current moment, which is there are a lot of people talking about the sell America idea.

17:08But if you look at some of the data and a lot of it comes out on a lag, you don't really see a lot of selling, for instance, foreign accounts selling a lot of U.S. treasuries. Are you seeing any evidence of the sell America theme emerging? Well, I think you see it in the weaker dollar. And, you know, my best friend is the balance of payments identity. And I might talk to it every day. A little sad, but charming. The thing is that when the market decides that it's not going to lend you money at yesterday's interest rates and exchange rates, there are two ways of getting that adjustment. Either your demand for credit can go down, which we sometimes see with emerging markets when they hit the wall with respect to foreign funding.

17:56And the economy crashes because basically they have to get into trade balance or surplus even in order to meet their obligations. In G10, mostly, and historically with the U.S., the adjustment has been via the currency. Occasionally, like in 78 and in April with the currency and interest rates, but there's no big demand shock. There's no big shock to output because the money's not there. The money's there, but it's at a different price than you expected to pay. So I think you have to look at the path that's traced by U.S. interest rates and the exchange rates, you know, as well as sentiment and seeing what people are saying to understand whether the financing is coming easily or with difficulty.

18:43Going back to Europe for a second. So Germany has suddenly, maybe briefly, but suddenly found this willingness to spend more money. And that's going to benefit German defense companies. We see higher rates. So maybe a longer term, more inflationary temperature in the European economy. Is Europe actually a desirable destination, though, for global capital? I mean, it doesn't have really an alternative to U.S. treasuries. The fundamental growth prospects still don't look great. Do you see any changing perspective in the pure desirability of capital to enter Europe? Some, but I'd say most of what we're seeing is the market beginning to debate whether the U.S.

19:28is going to fall back into the pack in terms of being attractive. I don't think it's really that is Europe pulling away from the pack in terms of attractiveness. And going back to the first principle that I mentioned, when you list the issues limiting growth in Europe, there's been their energy policy, which hasn't worked out. There's the overregulation. There's taxation, lack of incentives, the labor market inflexibility, all the issues that we've discussed for 20 or 30 years. It would be remarkable if defense spending was the answer to all of those problems. And I'm a bit skeptical. In the short term, it might make a difference.

20:08In the long term, it's not as if we study Attila the Huns' textbook of economics to see how preparing for war is going to give you a better economy. That's another one weird trickonomics thing, the belief that defense spending is going to change everything. I mean, it is a big change, but the idea that it's going to really reverberate across the European Union. Going back to U.S. problems for a second. So if we can't count on a weaker dollar to save us, and meanwhile, it seems like we're going to get probably more fiscal spending, a bigger deficit. Does the job of reining in inflation now fall entirely to the Fed?

20:50Pretty much. There's a hope that some spending can be reduced because if you look at the share of government spending and GDP, it's way higher than it was in 2018, 2019, for the decade before we hit COVID. And the Republicans kind of got snookered by Biden when they did the debt deal in that they accepted a higher baseline level of spending that was way above the historical norm for the US. So the question is, can they get that back down? And can they do that in a way that's fair, equitable, that's not really going to be on the backs of one segment of the population or the poorest or the weakest or whatever?

21:34If they can, it would be remarkable. If Doge can get rid of wasteful spending, if they can actually find waste, fraud, and abuse, that would be terrific. But if they can't, and we know the history of these fiscal bills, which is that the easiest thing to do is to kind of say, well, we'll have a lot of supply side effects or we're counting on this revenue or that revenue, which may or may not come. If it turns out that it's kind of steepening the deficit path and the path of debt accumulation, the Fed may be the only story in town. You wrote an interesting piece earlier this week talking about the sort of short to medium term outlook for the Fed.

22:19And it sounded like you see the window for rate cuts is being sort of narrow and shallow. That basically in 26, 2027, we're going to be getting a stimulative impact, assuming this tax bill goes through and something that it looks like. Talk to us about what the market is pricing in for rate cuts versus what realistically the Fed might be able to do here. Yeah. I guess I'm kind of at odds with the market both in the short term and in the longer medium term. Love it. This is what makes an interesting conversation. In the short term, I kind of think, look, every survey you get tells you that everybody's concerned about growth.

22:58They expect growth to slow down. how many weak payroll numbers do you need to say, oh, wait a second, people have been telling us that nothing's happening, that things are slowing down. Now we get evidence. Do you need three? Do you need six? Or do you just say, well, yeah, that just confirms what everybody's been saying. So I actually think that they will do the right thing, which would be to ease in response to incoming economic data. Having said that, I would see that as an insurance policy because the fiscal bill is likely to introduce net stimulus. We're going to get some uncertain inflation.

23:37We'll get certain inflation effects from the tariffs. What's uncertain is whether they're one-off or persistent. So between the combination of tariff-induced inflation and fiscal stimulus, it's not clear to me how they're going to cut. I think that the Fed might see themselves as having an issue in terms of saying, well, if we cut in Q2 or Q3, can we take it back in Q4 and Q1 with, you know, the president over our shoulder saying, you know, don't do that. But if you were running a model, you'd probably say, given all the data that have come in, if you get confirmation that the economy is slowing, you should cut.

24:20And then you should keep your eyes open to see what's happening, you know, at the end of the year to turn into 2026 and see if you have to take it back because the inflation picture has deteriorated. Can I ask a basic question, which I kind of always wanted to ask someone, and given your experience in the market, I think I should ask you, what is the central bank playbook for stagflation? Pray. Look, in some ways, when you look at the history, Arthur Burns got dealt a very bad deck. and he probably didn't play it well, but he didn't have a good deck to play with. Greenspan, Bernanke, even Yellen to some degree.

25:01Greenspan and Bernanke actually had pretty strong productivity growth when they were there, so unit labor costs were soft. Yellen had low inflation, so she could be everybody's friend because they were trying to get to their targets. And even Powell in his first term was faced with that issue. But dealing with stagflation is really tough. And there's no good answer. You know in the longer term that you can't accommodate a negative productivity shock or negative output shock because you'll just have persistent inflation. The only question is how quickly do you try and wring it out of the system?

25:40And that's a very hard decision to make. Speaking of having views that are out of consensus, you wrote an interesting note a couple of weeks ago. I think it was before the, quote, detente with China. But actually, you're of the view, yeah, and you've been talking about this, tariffs will have an inflationary impulse. We'll see how far it goes. But that actually, the sort of short-term disruption from the tariffs, you sort of thought have been overstated. And I think the markets increasingly come around to this view. I mean, if we were talking to you in April, early April, people were, you know, sudden stop to the economy.

26:14They pulled the plug on the economy, so to speak. But at least in the short term, your view is that it's not quite as big of a deal from a sheer economic activity standpoint. Yeah. Look, 10 % shocks the competitiveness. We get those all the time via exchange rates and life goes on. In the last 10 years, the euro dollars moved 10 % in a relatively short period of time, three or four times. It's not fun for the business people on the wrong side of that move, but they managed to deal with it. And China was different, but the imports from China in 2024 were like 1.6 % of GDP. Of U.S. GDP. Of U.S. GDP, correct.