304. Why Burnham’s best economic policy would be “do nothing”

0:00Robert Peston:Karen Ward, JP Morgan Asset Management's Chief Market Strategy for Europe, Asia, the Middle East. Here's my chat with her about whether this is the best of times or the worst. How big's the pie going to get? Who gets the slice? Is it the tech companies? Is it workers? Is it other companies? There's a heck of a lot going on. Now, a trillion pounds has been saved since the pandemic by the UK household sector. That's a massive amount of money. But 60 % of that is sat in cash. There's no doubt that we are on an unsustainable path. Is AI a bubble? And my answer to that is... We're delighted to say that this year, the rest is money is powered by Octopus Energy.

0:43And we've got Greg here. Greg, good to see you. So, oil prices are very volatile. If they steer like that, what can we do to protect the UK economy?

0:52Robert Peston:In the long run, electrification is the answer. Ever since I was a kid, we've had periodic fossil fuel shocks. And more fossil fuels aren't the long-term answer, because the reality is that industry will never have spare capacity. They wouldn't invest in stuff unless you're using it every day, which means that whenever there's a constraint on supply, prices go up. We never used to have an alternative, but now with electrification, we do. Nice one, Greg. Thanks for explaining that. Right, we're going to go to the episode. For adults with Crohn's disease or ulcerative colitis symptoms, every choice matters.

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2:56Robert Peston:Karen, so good to see you again. We're still living in these incredibly volatile times, particularly when it comes to geopolitics and in particular all the uncertainties around the oil price because of Trump's war against Iran and the fact that it does seem to be turning into that kind of war he vowed never to embark on, which is a never-ending war. How do you think about those risks? How does one manage them? Well, as you say, Robert, this is the sort of latest in the series of geopolitical tensions that the markets and the world is having to contend with. He sort of came, the new US administration came straight out with a tariff war was, of course, the first war that was pretty global.

3:51And now these events in the Middle East. And I think, I mean, one of the questions I'm asked most frequently is, how is it possible that the world seems to be coming more politically chaotic, whether that's between nations or even within nations? I mean, I'm sure we'll get on to talking about what's happening in our country. And yet financial markets seem to look perfectly happy and completely fine. How can that be the case? And I think the way to understand that is, first of all, financial markets are getting quite savvy at understanding the art of the deal that we know with this U.S. administration.

4:35Of course, The Art of the Deal was President Trump's famous book. But he does go in very hard in an initial conflict, whether that is the trade war, whether it is what he's asking for from around the list of the asks as he goes into a conflict is very large. and then as we move through time we sort of learn where there's scope to compromise and I think this situation in the Middle East or particularly how the market's been digesting this latest conflict is really I think to focus on those incentives not just for the US administration but on the Iranian side as well do either of them seem to have appetite for a prolonged escalating conflict.

5:27And I think what we've learned over the last couple of months is that there isn't the appetite on the US side. It's not going to be long before the president has to really start thinking about the midterm elections. That's in November. His popularity is not particularly high. Rising pump prices, gasoline prices are not going to help with that. So the incentives on the US side are clear. On the Iranian side, the one thing that's always anchored my view about how this will play out is to remember that 80 % of the energy that travels through that Strait of Hormuz travels to Asia. And then half of that goes to China.

6:07Now, in all of this, who does Iran probably really not want to upset? It is the Chinese, a major ally, a major economic and political ally. So I have constantly thought, you know, whenever we have seen this brinkmanship between the US and Iran, the piece of information that markets don't get, because we don't get it tweeted about, is probably the call that goes from Xi Jinping to the Iranian regime, which says, right, enough now, I need my oil traveling off to myself and my neighbors. So that has always provided me some comfort. So one aspect of the story is I think there is the market saying, I have to just look through this.

6:50I have to realize that if I try and trade on every single bad piece of information, I'm going to lose a lot of money. I'd almost sort of reframe what's happening in that the political difficulties are actually prompting more spending. And that is more spending from governments, as you say, across the West. All governments are launching on additional spending programs, whether that is defense, whether that is trying to increase security, energy systems, anything that sort of adds to resilience. So this political chaos is definitely prompting an awful lot more government spending all around the world.

7:35But it's also prompting a lot more spending elsewhere by companies, which is partly adapting again to this new world, reordering supply chains, reordering business models, but also to take into account new technologies. So what's actually happening is that almost the more chaotic the world becomes, the more big actors in the global economy are actually spending more. And that spending generates resilient growth and generates resilient earnings. I mean, Robert, we're just finishing up the earnings season. It's really important in stock markets. And once again, it's absolutely knockout. US earnings are up about 30%.

8:21Even in Europe, which has had a much slower recovery from the pandemic, we're seeing earnings that are sort of 14%. We haven't seen that in a really long time. So I think that's one of the things I keep trying to get clients and investors to understand at the moment is we almost have to really understand and rationalize that there is a understandable dichotomy between political chaos and resilient growth and resilient earnings. And it's almost the more chaotic the world becomes, the more it's generating that additional spending. Now, coming back to therefore the cost for governments of borrowing or elsewhere.

9:05Well, yes, it is true that if there is a lot more spending happening everywhere, that's a lot more demand for global capital and they're going to have to pay more. So global governments are paying more. Global companies are paying more to borrow. But actually, for investors, then, this is great news for us, because we've got all of these different actors wanting to spend money. And they are all around the world. So we've got lots more choice, different types of actors, not just, you know, the US government and US economy and US consumers, but now Europe's waking up again, and parts of Asia are pretty exciting.

9:44So one of the big things is trying to get investors to say, I have to keep my money working now because it's actually really understandable. It's rational for markets to say almost the more chaotic the world becomes, the more this might be good for the return on capital.

10:03Robert Peston:There is what you might call quite a big paradox here that, as you say, we are getting this massively increased spending on defence. We are getting this massively increased spending on the rollout of the infrastructure associated with this industrial economic social revolution that is artificial intelligence. The risk or, you know, one might just say the problem with this kind of growth is there are millions and millions of people in this country, in America, throughout the West who just say, oh, it's all very well. Markets doing all right and profits of companies, you know, get greater record levels.

10:44Robert Peston:But me in my pocket, I'm not benefiting from this. So it looks like the kind of boom that slightly brings what you might call capitalism into disrepute. I absolutely take your point. It's what economists are terming the K-shaped economy, because you've got on one leg of the K a part of society that's doing very well, their income levels, their wealth effects. I mean, in the US, I think part of the reason they've been so strong in recent years is because they are all invested in the stock market or not all, but a much larger proportion of the population. The stock markets doubled in value and therefore they're really feeling those gains, feeling much better about life and their balance sheet and their wealth and their spending it and having a lovely time.

11:39But as you say, then there's the lower leg of the K, which aren't feeling the benefits. So, I mean, it's something, though, policymakers, haven't they, Robert, been talking about for years, the left behind problem and how that gets tackled. Now, and the trajectory from here, because I think it's certainly likely that AI could even intensify some of those trends. And I do think that's one of the issues that the political system has to finally get its teeth into a solution here of how do we make sure those gains are better distributed? Now, that might be via the tax system. It also might be, however, you know, one of the things I'm really focused on at the moment is getting people in the UK when they have savings invested into the stock market.

12:46I mean, we have a tremendous problem here of people not owning stocks. I mean, you know, what's going on in the UK, Robert, that's fascinating is we are saving a huge amount. We've suddenly become German style savers in the UK. We were never that way. We were much more like the US, you know, just keep spend what we get. And suddenly we've become these high savers. But when you look at what's happening to those savers, and we're talking about a trillion pounds has been saved since the pandemic by the UK household sector. So a massive amount of money, but 60 percent of that is sat in cash. Now, the problem with that is, is that cash, I mean, to give you some numbers specifically of why this is such a problem, that cash, people might have thought, well, I'm getting 4 percent in my bank.

13:40I haven't had 4 percent for a long time. That feels great. And so that's what I should do with all this additional saving. And so having done so, that£100 saved at the end of the pandemic has become£118. So they've made£18 on that£100. But then we have inflation, which has been over 30%. So then when you account for what you can actually buy with the money that's still sat in the bank, you've actually lost money, you've lost£10. pounds. Whereas had that person who saved, worked really hard, saved and generated that income, put it in a basket of global stocks, they would have, that£100 is now£240.

14:27Again, you've got to strip off inflation from that. But still, rather than losing£10, they would have made£85. So I think part of the solution, there's going to be a segment of society, that it's really the government's job to focus on making sure they are feeling the gains. That's not necessarily just benefits. I think it is very much about education and skills and making sure they are capable and able to move along with the modern economy. But I think there is a good segment of an income cohort that could be doing a lot better for themselves, getting themselves invested in some of this wealth creation.

15:13And we're really missing that opportunity here in the UK.

15:16Robert Peston:Yeah, look, you and I have talked about this on this podcast with Steph before the underinvestment in risk assets, in shares in the UK. But with the best one in the world, even if we all agree that there should be, you know, essentially British people should be encouraged to switch some of their savings, at least out of cash and into, you know, particularly investing into, you know, British enterprises. Nonetheless, that is not going to happen overnight. It requires both possibly government reforms of the tax system, but also, frankly, quite a big cultural change. And so it's not going to happen overnight.

15:56Robert Peston:What is happening at PACE is the development of artificial intelligence. And again, something we discuss a lot on this podcast is the potential, as happened with the initial digital industrial developments, that essentially enormous profits accrue to founders and early investors, that this inequality of wealth gets even worse. Absolutely super profits get earned at the same time as potentially millions of people will either lose their jobs or see their wages suppressed. And so this brings both the potential for enormous social dislocation and harm and even more volatility in politics. So I just wonder how you think about that set of problems, because I suspect they will loom, I'm afraid, slightly earlier and become a more immediate risk than our ability to essentially prove to people that everybody's benefiting from growth by persuading them to switch their ISIS into shares.

17:09No, absolutely. It's all completely valid. I think I'm a little bit more optimistic that AI doesn't generate a jobs apocalypse. There is absolutely going to be certain sectors where the effects are seen. I think there'll also be some sticky points. I think we're in one of those at the moment where lots of big companies are perhaps, you know, thinking about their grad schemes because they're trialing AI in some of that new level. but I think I mean two things I think are lost in the argument when we think about sort of jobs apocalypse one is that you know if AI is most of the evidence at this stage now who knows I'm not a sufficient expert I certainly feel too old to know how it might look in five years ten years time.

18:06But most of the evidence shows that it's human augmenting. You still very much need the human intervention with these technologies, whether that is how it's prompted, but also how it's checked. And so that individual becomes incredibly more productive. Now, if that's the case, then companies, you know, we have to remember that if each person becomes much more productive, that's generating that company a lot more profitability. So why wouldn't the company employ lots more of them?

18:47Robert Peston:Well, except, OK, if you look, however, at the more immediate issue, there seems to me the question to be asked is not why companies wouldn't employ much more of them. And maybe some of them will, although, you know, if you look at some parts, you know, some Western companies, the issue there, I mean, there definitely is an issue, particularly with young people in the UK, where we have, you know, a million, million plus, you know, 18 to 24 year olds who are neither in education, training or work. And, you know, that's a real problem. But actually, the thing that's been worrying me most for about 15 years now is historically, we would say there is no sustainable way to increase people's living standards without a productivity increase.

19:31Robert Peston:But there is now been an enormous amount of data over the last 15, 20 years that that link between productivity increases and higher pay for employees has to an extent been broken. I mean, the question that I would that I'm asking at the moment is if the predominant effect of AI is to make individuals more productive, why aren't we seeing companies rewarding those people more by putting up their wages more? Because they are not at the moment. And, you know, the reason we're seeing the potentially these supernormal profits is because it is capital. It is the owners who are taking the benefits and not the workers.

20:14Robert Peston:And that is not sustainable, in my view. I mean, the benign outcome of an AI industrial revolution ought to be higher productivity leading to higher living standards. And we're not seeing that yet. Yeah, but I think it's too early, Robert. I mean, if you think about I think we are a really pivotal point, and this is really important for investors as well. We are only really just turning from the creation of the technology to the deployment of the technology at scale. because all of these supernormal profits have been generated in the producers of the technologies. You know, these big names, the Microsofts, the Amazons, the Anthropics, you know, these big names that you hear about, these incredible profits.

21:02And that's where the wealth has been created so far. Now, though, we're at the stage where companies like mine, J.P. Morgan, or other big companies or small companies are all now in their day-to-day working out, okay, how do we now use these tools? Where are they useful? Where are they not useful? So now this is where the actual broader economy, broader corporate sector has a go, says, this is really useful here. Oh, that person over there, my junior suddenly can produce all these incredible reports and presentations and jazzy fancy things because they've got access to all of these tools. So we're only, I think, now at the point where A, the pie, the wealth pie, starts to get shared from the creators of the technology to the broader economy.

22:02And then I think also there's the next stage of how will then those gains get distributed between the profits of the broader corporate sector and the workers. And I use a pie analogy to talk about this, Robert, because I'm often, obviously, the question in the last few years I've been asked most days is, is AI a bubble? And my answer to that is, I don't know. But I quickly follow that up with, it's not because I haven't thought about it. Bill Gates doesn't know. And Sam Altman doesn't know. And the reason that none of us know is because we simply aren't yet at the point where we can judge with any degree of accuracy, how big the economic global pie is going to grow.

22:51And we won't know that for a couple of years, we won't know whether this ends up being a massive enterprise enhancing tool, or whether it ends up being another of those consumer toys, you know, I had great fun. My little dog was four on Saturday. So I used AI to put her in a beautiful little birthday outfit, you know, wonderfully unproductive for half an hour. But of course, that isn't going to generate global GDP probably detracts from it. And some technologies end up doing that. I think we could all talk about technologies that are very bad for productivity. Certainly, those people out there who've got teenagers.

23:30Anyway, back to my pie analogy, We just don't know how big the global economic pie is going to grow. But then we also don't know how it's going to get shared. Who's going to get the biggest slice? And this is where I'm a bit more optimistic that workers, as they become, as they demonstrate their ability and become more productive, because we're in a world where the working population is shrinking, don't forget, as well, they have that chance to say, I am more productive. I want more pay. I think it's going to happen. Now, there's still lots of things that could help that happen, making sure individuals are skilled such that they can use the new technologies, etc.

24:13But I think that possibility isn't spoken about it enough.

24:18Robert Peston:I was struck that, you know, literally just a few days ago, Jamie Dimon, you know, boss of JP Morgan, effectively, therefore your boss, did make a point that he said margin debt is the highest it's ever been. And he did talk about the risk of really very significant market volatility because, you know, there are both individuals borrowing really quite large sums of money to invest in this AI boom. But we've also got, you know, hedge funds doing this again on borrowed money. And we saw, you know, the collapse recently of that hedge fund situational awareness because it took some absolutely crazy risks, you know, investing in some artificial intelligence related assets.

25:02Robert Peston:We've got these ETFs and we've already seen, you know, this massive, these massive falls in the Korean stock market. because, again, of borrowing and much of that borrowing to invest in AI related businesses. He's not saying there's going to be some massive crash, but he is saying that there is a risk of really quite sharp market falls if we get some bad news in one part of the market, because there could be contagion to important other parts of the market because of what he calls hidden leverage, hidden debt. How do you see all that? Yeah, I mean, first of all, I'm often put on the spot, whether it's on television or anywhere, where they say, Jamie said this.

25:46And I think, oh, gosh, I mean, Jamie's job is to worry. And I'm very grateful. You know, Jamie talks about JP Morgan being fortress balance sheet. He's got this expression. And he wants us to just be the safest place in the world so that when something goes wrong, which inevitably it will somewhere or other, we can still look after our clients. So he's he's a natural worrier. He's constantly looking for all the things that could go wrong. So I think whenever we hear Jamie say something, I always sort of remind myself, thank you, Jamie, for worrying about this for me. In terms of this specific issue, it comes back to my pie analogy, actually, because as I say, we have at this stage no idea how big the economic pie is going to get.

26:32It could treble as all of us are incredibly more productive or it could have no impact whatsoever. This could all fizzle out. I'm still putting my dog in birthday outfits and football kits and all these things. And that's how it impacts the world. We don't know. The problem, therefore, in how in investing is if you're investing in a company that's creating the technology, you might change your mind on a daily basis between this is going to dramatically change the world and, oh, no, now I've just got a bit of information, which shows that people aren't using these really expensive technologies provided by the US.

27:11They're starting to use these ones that China are creating, which are incredibly cheap. So maybe the assumption I've been making about the pie and the profits is completely wrong. So you're getting and this is quite natural. You're getting this much higher period of volatility as we're learning about the size of the pie.