Why SocGen's Albert Edwards Sees Double-Digit Inflation Coming Back

25:46They have been reducing VAT. But I quite like the quote. In the US, it's somewhat different. I was just over in Boston recently, I could see the gas price well above$2 a barrel. Especially in Massachusetts, yeah. But the natural gas price hasn't really gone up in the US. And winding back to that famous statement in the early 70s of this is our currency, but your problem to the Europeans. This is our war, US war, but it's your problem. Europeans and especially Asia, particularly Asia, which gets so much of its derivative chemical supplies out of the Gulf. And I saw your chart of the urea versus the corn price showing as absolutely stratospheric.

26:35But so much derivative chemical products come out of the Gulf, especially to Asia, I saw that 80 % of India's ammonia comes from the Gulf. Now, Asia is in real, real trouble. And this is coming down. I mean, one thing I think that's really surprised me in the early part of the war was when I looked at five-year versus five-year inflation swaps, they've come down they hadn't started going up but recently the two year into year shot up and the five year and five year have started to go up the people have started to realize this is dragging on and why the taco your former colleague rob armstrong who invented the taco description why the taco trade isn't working here i saw a very nice quip which is because Iran's involved, it takes two to tackle.

27:39And Trump can announce these U-turns, but they're not effective unless Iran is also participating or dancing the same dance. So when I hear our oil analysts, our commodity analysts on our call, the equity guys are still really bullish, the bond guys somewhere in between. The commodity guys are basically sobbing into their microphones because they know the inflation coming down the track here and fertilizers and food and everything.

28:08Albert Edwards:This is the funny thing, talking about all the commodity guys. See, doom, it's knocking on our door, and everyone's like, oh, we'll see what happens. I want to talk more, since we're here in the UK, I mentioned the Dubai thing, and I'm actually very fascinated by this. Not Dubai, people moving to Dubai specifically per se, but the political economy generally of fiscal consolidation, which includes the possibility of leaving. And when the issue that I think people would cite across UK and across Europe is probably twofold. One is declining productive capacity, manufacturing getting eaten by Chinese competition and digital industry that can't keep up with what's happening in the United States, particularly with AI.

28:56Albert Edwards:Okay, you say it's obvious, and many people say it's obvious. We all know that the government needs to shrink the deficit, but it's very tough. If people can leave, wealth taxes are very difficult, almost infamously so, and particularly in an era where the big money is being made through equity markets, not through traditional wage or labor income, etc. It's great to say, obviously, fiscal consolidation is the move. But even setting aside electoral constraints, is there an obvious path towards reducing the deficit, given the means through which the people with money can avoid paying tax? It is very difficult.

29:37And you mentioned the UK. The UK is a very specific problem in that so many young people after the pandemic have been signed off as permanently sick. They don't even have to look for work. So the welfare bill has, to a large extent, gone out of control in the UK. And even though the Labour government here has an overwhelming majority, it couldn't get it through Parliament, couldn't get any reform measures through parliament. And the markets seeing that and the number of U-turns they've had to do as their own MPs have rebelled, let alone the public rebelling, mean it's very, very difficult. And it's not just young people, right?

30:26Albert Edwards:Because there's the heating assistance that the old people and the triple lock so that the pension goes up by the maximum or the whatever the maximum of three different inflation measures are. It's the old as well, right? Yeah, no, absolutely. And this is one of the things which exacerbates intergenerational hostility, tensions, is that the younger people who can't get on the housing ladder see the older people protected through things like the triple lock, pensions going up, of wage inflation, price inflation, or a minimum of 2.5%. So on a real escalator and clearly totally unaffordable. However, when I look at the CBO, and the US is just, when I look at the CBO projections of US debt to GDP, they go off to infinity.

31:18And you know this is unsustainable because infinity is not a number which is sustainable. The IMF has looked at this quite closely. The only other country to go off to infinity even quicker than the US is strangely China. and the IMF have cited the US and China as the two basket cases. Now, the UK isn't the worst miscreant in terms of a fiscal situation. France, I look at the IMF numbers, France is much worse, but it's under the protection of the eurozone umbrella. The US is much worse, but it's under the protection of the dollar, being of the reserve currency. The bond vigilantes have woken up.

32:00They're pretty pissed off looking around at what's going on. You know, they've got a dusty copy of Reinhardt and Rogoff under their desk. They're thinking we're getting, you know, we're going over 100 percent of GDP. We're getting near the levels of where it's a problem. And to be fair on the public sector, what they've done is transfer a lot of the excess debt, which was there in the household sector and corporate sector, onto their own balance sheets. But you look at these and you think, well, actually, you look, the vigilantes are looking to pick someone off and give them a bloody good kicking, basically, to teach everyone else.

32:37And the guilt market is the weakest. It hasn't got enough protection. It's the weakest kid in the playground. And it's going to get it's going to get badly beaten up at some points. And I think Bill Gross, Bill Gross many years ago said the gilt market was sitting on a better kryptonite, not kryptonite, gelling oil. Nitroglycerin. Nitroglycerin. And when you saw the oil price come down yesterday, but the gilt price, the gilt yield going up, that is a real, that's a real issue, especially as Starmer, Prime Minister Starmer exits the scene at some stage soon. That's right. We're recording this also during local elections, just to make sure the maximum amount of stuff possible could happen between when we record this and when it actually publishes.

33:22But actually, OK, you say the bond vigilantes have woken up and one could infer from that statement that like we are now in a longer term period where bond yields are going to be higher and inflation is possibly going to be higher. But on the other hand, it feels like the news cycle is so compressed nowadays and new stuff is happening all the time. And there's so much chaos in global politics. It also feels really difficult to have a sort of paradigmic, is that a word? Paradigmatic. I like that. I like that. You're inventing words as we go along. You know, it's hard to have a longer term view on the market in the way that one could have an ice age thesis in the early 2000s.

34:02Is that possible for you now? Or are you sort of all moving in the short term like everyone else seems to be? I think it is possible. At least I'm trying to make it possible. But as you say, markets are so volatile. I was reading that the recent rally in the equity market, 10 % plus rally, this was the fastest ever rebound, 10 % rebound after a 10 % correction. And it's particularly on the equity market, they've become so fixated with the buy on dips mantra that actually the Fed have got our backs. There will never be recessions again. If there was a recession, it's because of the pandemic. We can't actually remember 2008, which is a consequence of a very long period of growth, building up excesses.

34:53No, I think there is a place for a long term theme. And the long term theme is actually it's fiscal incontinence, political weakness, and eventually the monetary authorities having to monetize away these debts. Because in the US, when you're paying 4 % of GDP as government on your interest payments, that is absolutely crazy. I mean, 10 years ago, I was looking at the charts, 10 years ago, it was roughly the same as the Eurozone at around 2%. It's absolutely crazy numbers. So the end game for me, I can remember 28 % inflation in the UK in the 70s. I certainly think we go back everywhere to double-digit inflation.

35:43Wow. Because -

35:44Albert Edwards:Really? There's our headline to the episode. No, I think fiscal dominance, which is there, the central bankers will have no other option. I mean, you could get some consolidation on the crisis, but I think that's where we're heading. Just monetize away this. They'll couch it differently. I'm sure they won't say. And now we are monetizing that. Yeah, yeah. Do you ever talk to either new colleagues or clients for whom talking about 2008, you might as well be talking about the 1930s Great Depression? Because this is like, I feel like this is happening more and more in my life. Something that I take for granted.

36:26Albert Edwards:Oh, well, remember when Lehman and I might as well be talking about credit install or something like that. No, exactly. And with the retail participation in the market, you get these one day options, which I don't understand. It's so short term. But having, I mean, one of the advantages of being in finance since 1982 is I can remember the Asian crisis, which is one of the first times I got myself into deep trouble being banned from Malaysia after writing. Are you still banned? I don't. I love KL, so I feel for you. And this relates to the AI theme, which we could do, is going in 1996, writing that the Asian miracle was basically a pack of cards waiting to collapse.

37:18And I had on my bookshelf this book from the World Bank, Thailand's economic miracle, sustainable growth and development. And you just think, I've seen these so many times before going into the, I remember in the late 90s, going around the US saying, look, this is a huge bubble which is going to collapse. It's very similar to the Asian crisis. I'm basically my boss, the chief economist, having to restrain the clients from punching my lights out. But when I read what I do now about the AI, et cetera, I just think, yeah, I've heard this so many times. Maybe being young is better because you don't have that baggage.

38:02Well, being young, I think you're more of an optimist. I tell you, you've got a lot less gray hair in your beard than I have.

38:07Albert Edwards:Yeah, but more than I had a year ago. So I'm catching up quickly. Do these podcasts pick up color? The cameras here are pretty good. Make it black and white. Make it black and white. I can confirm that when we started this podcast, you did not have any gray hair. And it all sort of set in over the course of 10 years. I notice more every day. This is bad.

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40:42Since you mentioned AI and since we're talking about historic parallels, there seem to be a lot of similarities with the dot-com bubble. Just wild enthusiasm for a new technology and this expectation that everyone's going to be making money. On the other hand, the argument against a dot-com redux is this idea that, well, tech companies have very, very heavy valuations at the moment, but they are actually earning money. And if you look at the multiples, they're nowhere near where some of the dot-com companies actually were. What's your thinking there? How much of a parallel or analogy is this? I mean, the main parallel I would draw is with the telecom part of the tier.

41:24So the dot-com bubble was more TMT, telecom, media, and technology. People forget it was a bit wider. But the telecom side was quite similar to what you're seeing now with AI, because they actually went out and dug trenches and laid cable. There was a CapEx boom. And if you were selling cables in the same way you were selling, NVIDIA selling semiconductor chips, You benefited from producing picks and shovels for the gold rush, essentially. There was real profits there on the telecom side, at least. But the problem is the euphoria is the narrative is so compelling that you're given these companies are given free money, essentially.

42:13Although Oracle is not quite so free anymore. But you're being given free money and you go off and spend it on. you blow it on capex, which isn't necessarily going to be profitable 10 years down the road. And what you've got is basically when you look at the US IT mega caps, they've gone from being hugely free cash flow generative to zero. I saw a chart 2027, zero. It's gone. It's been blown. Now, you might say, well, at least they're not borrowing very heavily. They're starting to. But actually, it's transforming their balance sheets. I just read your quote. I brought a quote along here. I wrote it down so I didn't forget it.

43:04But it's about, it could be about the AI transformation. So not so long ago, a leading expert opined that. And I put this in my, this sort of thing I write in my notes. He opined that. In retrospect, we will look back and recognize that the US economy was experiencing a once in a century acceleration of innovation, which propelled forward productivity, output, corporate profits and stock prices at a pace not seen in generations, if ever. Now, that absolutely applies to what is going on now. That's quotes from Alan Greenspan, 13th of January 2000 at the Economic Club of New York, just before NASDAQ collapsed.

43:59Now, all that was true. And by the way, I was reminded of that quote, reading Jeremy Grantham's book, Making of a Perma Bear, another Perma Bear. I went to his book launch. I don't read many books. I'm quite lazy. I don't read many books. I thought as I was going to his book launch, I better read it. And he had some of these great quotes from Bernanke and Greenspan, which they would probably like to erase from people's memory. But that equally applies to now. It is absolutely transformational. It probably will be transformational. Doesn't mean you can't have a stock market collapse.

44:32Albert Edwards:Yeah. When bears have a book party, is it a picnic? Oh, that's a good one. Thank you. Sorry, I was trying to think of a bear joke. That was the best I could come up with. That's good. I like that. There's so many different directions we could go in. I want to ask you, though, something about the 2010s that I've thought a lot about. You're talking about QE. QE ended in the mid-2010s. I mean, first, they stopped cutting rates. It was a sequence, right? But then they actually started shrinking the balance sheet. It didn't affect stocks. Stocks just kept going up. And now we look today and again, stocks, at least in the US, but around the world, stocks are doing all very well.

45:11Albert Edwards:This is despite the fact that rates are the rate picture is nothing like it was in the beginnings of what you characterized as the ice age. Did that make you question anything? Have you revised any past views in light of the fact that it turns out, evidently, that ultra low rates and quantitative easing may not have been such a precondition for these incredible equity market gains? How do you reconcile that? I think, well, certainly back in the prior to the COVID recession, the quantitative easing for quite a lengthy period, if you like, got things going, got that momentum going. And one of the most profitable ways, methods of investing is just momentum trading.

46:02I sit near our head of quant, Andy Lapthorne, who I've worked with for 30 years last month. He's actually trying to move a few desks away from me. But I know looking at his quant work, momentum investing is absolutely fine. And actually, if I was participating, if I was a fund manager fully invested, I'd be quite happy with that investment style. But looking at the technicals for when to get me out, is the macro story changing? Is something changing? I've been writing recently that, yes, profits are booming in the tech sector. But actually, the second derivative is starting to turn over because you can't go parabolic forever.

46:47It's the second derivative is starting to turn over. So it's still very healthy profit growth. The momentum of the momentum is slowing. The momentum of the momentum is starting to slow. I'm going to go still over there. And when you've got bubble conditions, then is this something the bull should be looking at? And even if you're a bull, you think, well, actually, that is a change I should be watching. What I would say at the moment is I think, I mentioned earlier, I think the retail in particular, which certainly after the liberation trade came in early before the professional investors, they've been consistently the ones to drive the market back up.

47:31And it is a bit like what causes big bear markets are recessions. And usually when you're at the peak of the cycle, you're on the wrong valuation, wrong forward PE, and prices collapse. If you're a copper stock, normally at the peak of earnings, you're on a PE on four. And so you're geared up for the collapse in prices. They have some memory there. But what tends to happen in bubbles, you end up on a 23, like the S &P on a 23 times forward P at the point of recession. So you have the wrong earning forward earnings and the wrong PE. And there's no acknowledgement that there could be a recession out there.

48:12Apart from the AI spending on investment, which could collapse at any, we've seen it before. or if another deep seat comes along, something happens to blow that narrative up. But outside of that, you look at the US economy, and you look at the... Last year, it's seen no employment growth when the economy is toddling along quite happily between 2 % and 3%. And not just because of the public sector, private payrolls year on year slowed to zero. You're thinking, yeah, it is having an effect here, has a positive effect on some ways on union labor costs. But this is really undermining consumption. So U.S.

48:57real household incomes are up half a percent year on year, half a percent. Their consumer spending in real terms is still up over 2 percent. Why is that? The savings ratio in the US in the last year has collapsed from over 5 % this time last year to 3.5 % now. That is as low as it. The only other times it's been lower is as people were spending the COVID checks. So it got down to 2.5 % or just before the 2008 global financial crisis when you had that credit bubble. The consumer is totally tapped out. And if you get a wave of inflation coming through the economy through cost push, last time companies just whacked up their margins.

49:45They put up their prices, whacked up their margins as well in unprecedented fashion because margins sort of contracted as costs went up. They didn't. It was absolutely unprecedented greedflation. And the St. Louis Fed named the sectors which did it, retail, wholesale and construction, were the three big contributors to that whole economy level. But people had pandemic checks then. So companies could get away with doing it then. This time around, as this wave of cost push pressure comes through, are companies going to be able to get away with it when the savings ratio is already so low? Is it going to start squeezing the corporate sector margins, which are ludicrously, obscenely inflated, in my view?

50:32And if these margins start coming down because they can't pass on these price increases, will they then react to that by cutting jobs and cutting investment? So could the one surprise we get is actually the economy outside of AI investment is far weaker than we think and actually could tip over into recession. Now, that could be a real surprise because that could take down the AI sector as well. It's not just an exogenous force. So I think that's an interesting black swan, because no one is thinking this oil price could cause a recession. One question I want to ask, given your long career, when were you most worried about the future?

51:20Is there a particular moment looking back where you were really hitting the panic button? I tend to stay very close to the panic button, a bit too close. some people say. That's your job. I get it. I tend to see problems around the corner. Actually, instead, I was on a conference call with clients yesterday and I said, well, probably the most bearish thing I can think of from my side is I don't feel as bearish as I have done in the past. I struggle to see an immediate catalyst for collapse. And the positive narratives are always very compelling. I remember the time I was most worried globally was 2006, 2007, where it was obvious to me, and I don't understand much about crypto and all these complicated things or the details of AI, but I actually got to the bottom of CDOs.

52:18And this was before the big short film, where they made it a bit simpler. I actually understood CDOs. I went to a CDO conference in 2000 and 2007. And I was amazed that they weren't optimistic. They were getting really worried. And I just thought, as a macro person, when someone like Bernanke says, we're asked about the housing bubble, I guess I don't accept your premise there is a bubble and there's never been a nationwide house price recession in history. I just think, you're an idiot. You should not be in your job, basically. And yes, he was the right person at the time when the bubble burst.

52:59But if you looked at his, because people said, well, he did the thesis on the Great Depression. You looked at his thesis about the Great Depression. There was nothing about the credit bubble that preceded it at all. And similarly, he just did not understand. And where the, I'm not a big fan of central bankers, although the Bank of England improved dramatically after I left it. The quality of the people there. because they're just so reluctant to admit they're just constantly screwing it up and making it worse. For benevolent reasons, they're trying to make it better, but they make it a lot worse.

53:36And quantitative easing, in my view, made it, they might have been in an argument for doing the first quantitative easing, but just to keep on going, Paul Volcker eviscerated, just before he died, eviscerated the Fed by saying, you know, you can't measure inflation that closely. You've got a 2 % target for inflation. Anywhere between one to three is OK, essentially, as long as it's not accelerating on. And this is we're between one, broadly between one and three now. But he said we were getting down to one with measurement errors. It was ludicrous to try and push it back up to 2%. You didn't need to do that.

54:16And personally, I just think central bankers need to be reined in quite closely. I do think in retrospect, when we look back to the sort of late 2010s era of inflation, it felt pretty good, even though we were below target. I agree, and I have a lot of thoughts.

54:31Albert Edwards:The idea of undershooting inflation is never. And I'm on record as saying this, not just in retrospect, is I've never understood people whining about too little inflation. So I have the receipts. Well, Albert, that was fantastic fun. Thank you so much for finally coming on All Thoughts. It's been a real pleasure, and I hope I haven't said to your viewers. You're a nice guy for a bear. Bears are fun. You're a pleasant guy. Well, people who read my stuff think I'm really miserable, but I'm actually a very happy, contented person. You don't seem like a miserable guy at all. And I wear nice shirts to try and cheer people up.

55:07Albert Edwards:Weirdly. But I hope I haven't depressed too many of you viewers. No, no, I think I'm not. I apologize for that. I feel great.

55:25Joe, that was really good fun. I'm glad we could finally have him on.

55:29Albert Edwards:We've been reading Albert really, literally for decades, or at least over a decade now. Really fun to finally meet him in the flesh. His notes really are fantastic. One thing that stood out to me, I was thinking about what he was saying about the U.S. savings rate and the ability of companies to push through price increases. And earlier this week, I was reading the earnings transcript for Colgate. And they were talking about packaging costs going up quite significantly because of higher petrochemicals prices and also guiding their margin lower for the full year. So basically saying that they're going to absorb the costs.

56:04And there was one analyst on the transcript who was like, well, why don't you raise prices? And they basically didn't, you know, classic executive style, they didn't really say anything. They were just like, if I were you, I would incorporate the lower margin guidance into your algorithm and leave it at that. But, you know, like there might be something there.

56:23Albert Edwards:Totally. Can I just say this is going to be the type of thing that someone says at the very top and so forth. But before we flew to London, I downloaded Ray Kurzweil's The Singularity is Near book about this is published in 2004, in which he predicts that in the first half of this century, we would have machines that are more intelligent than humans on almost every scale. But one of the things he says in the book, part of his theory is that computers are going to keep getting better and better. And as they get better, more money will flow into computer investments because they can do more things.

57:01Albert Edwards:And there's Moore's law and all that. And that actually the rate of acceleration, the derivative of the derivative can actually keep going up and up and up until you do get that vertical. and so now i'm thinking like we all know the stock market would not be nearly where it was where it is right now if it weren't for ai obviously right might be in a bear market might be in a recession yeah the economy wouldn't be nothing like it is now but now i'm like in that mood reading this so like and elbert said he's like i feel a little weird right now because i don't know what the obvious bearish catalyst is right now i'm in a little bit of a weird situation and I'm reading this book.

57:39Albert Edwards:It's like, what if like earnings literally just go to infinity? Maybe it could happen. I don't know. I don't know. If Albert Edwards feels pretty good about stocks right now. And I'm talking about how earnings can go to infinity. This is a sign that maybe these are the types of episodes we record near the top. Okay. Shall we leave it there? Yes. Okay. This has been another episode of the All Thoughts podcast. I'm Tracy Allaway. You can follow me at Tracy Allaway. And I'm Joe Weisenthal. You can follow me at The Stalwart. Follow our producers, Carmen Rodriguez at Carmen, Armand Daschle Bennett at Dashbot, Kale Brooks at Kale Brooks, and Kevin Lozano at Kevin Lloyd Lozano.

58:14Albert Edwards:And for more Odd Lots content, go to Bloomberg.com slash Odd Lots. We have a daily newsletter on all of our episodes. And you can chat about all these topics 24-7 in our Discord, discord.gg slash Odd Lots. And if you enjoy Odd Lots, if you want us to ask Albert Edwards where he gets his floral shirts, then please leave us a positive review on your favorite podcast platform. And remember, if you are a Bloomberg subscriber, you can listen to all of our episodes absolutely ad-free. All you need to do is find the Bloomberg channel on Apple Podcasts and follow the instructions there. Thanks for listening.

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