Tariffs and Geopolitics and the Market Intersection

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**Tom Keene** (0:27)
And this is a joy. It's always good to see Joseph Lavorgna, Chief Economist, SMBC Nikko Securities.
But even better, with the incredibly smart note you have, magical thinking. You are brutal. The idea we are coming back to 2% inflation is just not going to happen. You go out to 2028 and say Fed central tendencies are still elevated. Are we running a Fed policy now for elevated inflation?

**Joe Lavorgna** (0:58)
Running Fed policy on 3% of the economy, which is housing, it's the only area that's really weak, Tom.
Everything else is very strong. If you look at the consumer, you are going to get huge building and structures, commercial structures because of the one big beautiful bill which has temporary expensing for factories. You could expense a factory the year you break ground. That's going to expire at the end of 28

**Tom Keene** (1:17)
That's like Lyndon Bain Johnson from years ago.

**Joe Lavorgna** (1:19)
Yeah, to some extent. Of course, you've got massive capex, so what's weak?
The note in the history show, if you're above 2% inflation, show me when it falls. Give me an example when it falls. It's not going to fall unless something happens. In the past, it's always been the Fed needs to increase interest rates and raise the price of credit and money. So the magical thinking part comes, you could say as much as you want, it's going to go back to two, but the words alone aren't going to do it.

**Tom Keene** (1:48)
I'm going to say this with great respect. Joe Lavorgna is the only one I've seen that's worked within the Trump administration that basically speaks English. Convey the president's economic theme in Lavorgna clarity right now.

**Joe Lavorgna** (2:04)
Well, the economic theme is to have business-friendly taxes, low regulation and put up a tariff barrier so as to encourage foreign capital to come in.

**Tom Keene** (2:13)
Are tariffs too high?

**Joe Lavorgna** (2:15)
It's not clear we're going to get back to 13%. No. Now, if tariffs have been implemented the way maybe they should have been, we could debate that. I don't have a problem with tariffs. The tariffs, I argue, are a bipartisan issue, and in fact, regardless of what happens in the future, if the Democrats come in, I doubt they'll remove many of those tariffs.
We need the money, Tom. We need the money, and look, Bill Clinton in the early 90s ran on the possibility of essentially an industrial policy, and those were bad words 30-odd years ago, but the pendulum politically has switched, and China now is a peer competitor and a strategic adversary.

**Tom Keene** (2:52)
Could you see Joe Lavorgna in 1890 working for William McKay? I could see it. Damien Sessauer with Joe Lavorgna.

**Paul Sweeney** (2:58)
Joe, in your last No Magical Thinking, you mentioned that the longer the Fed waits, the higher the probability rates will have to rise further in the future, right? And I said that earlier on this show earlier today, and I agree with you. But then I've got Ryan from Atlanta calling on me saying, how does the Fed raising rates affect a supply shock? How does that matter? And how would you respond to that?

**Joe Lavorgna** (3:20)
First of all, if you go back to last year, the Fed was cutting rates 75 basis points in the fourth quarter because it was almost September, October, December. They were worried about downside risk to the labor market.
The inflation outlook was still relatively benign. You could tell the story it was going down. Fast forward seven months later, we don't need those three emergency cuts. The last cut by Jay Powell, there were three descents against those cuts. If you're setting monetary policy purely to the demand side, and then you have a supply issue which could only further ingrain some of those concerns about inflation, you're supposed to at minimum take back those cuts.

**Paul Sweeney** (3:56)
I don't disagree with you. Now you look at the bond market, maybe waking up to the reality of that. Not just the US.
Treasury's market, but bonds, JGBs, what are your thoughts on the rise in nominal yields we're seeing across the whole of G3, if not the world, and what's driving that? Is it fiscal? Is it something else?

**Joe Lavorgna** (4:14)
It's partly the fact that for 10 years we had zero rates, forward guidance that said rates were at zero, and a large swaths of the world negative interest rates. So we're moving away from that. In the US., the rise in real yields reflects a tremendous demand for capital as it relates to the AI build out, and the fact that the US economy relatively is performing well. Rates are supposed to be higher. The equilibrium real rate is higher. So high rates by themselves aren't bad.