The Hidden Recession Beneath The AI Bubble w/ Paul Kedrosky

Ed Zitron (0:02)

CAUZO MEDEA Greetings and salutations, I am Ed Zitron, and this is Better Offline. We are back folks, we are back fellas and ladies and everyone in between, and today we are joined by the incredible economist and writer Paul Kedrosky. Paul, good to have you back.

Paul Kedrosky (0:34)

Hey Ed, good to be back.

Ed Zitron (0:36)

So just before, literally seconds ago, you were telling me that AI has started to show up in odd places. And I think that's just a good place to start. Where are the odd places in the economy it's showing? Because I can kind of guess, but it's good to break it down.

Paul Kedrosky (0:53)

Yeah, like it's funny because almost a year ago, one of the things that first got me interested in this bananas topic was that it was AI capex specifically was blah, blah, more than half of GDP growth, blah, blah, and so on, which was just unprecedented and goes back to the railroads and everything else. And so that was interesting. And I started talking about it. And then I was surprised that no one else was sort of noticing this, how consequential it had become.

And now, of course, that's become commonplace. And so then I went on and I've been paying attention to that. That hasn't varied very much from quarter to quarter. Over the last sort of, I don't know, 12 to 18 months, it's been consistently between 30% and 70% of GDP growth. And then it started, it was interesting how it's almost in cancer terms, sort of metastasized across the global economy and become even more consequential. So the next example was about a month ago, where all of a sudden we had this treasury market freak out in the 10 year. One of the reasons driving what happened was this sudden spike in the 10 year and up over 5% now.

Ed Zitron (1:52)

And that's the 10 year treasury bond, right? So that's right.

And when you say spike, it means it was selling off, so people were asking for more interest on it.

Paul Kedrosky (2:02)

Correct.

Ed Zitron (2:02)

People required more compensation.

Paul Kedrosky (2:05)

Yeah, sorry. I go all finance.

Ed Zitron (2:07)

No, no, it's fine. Keep going.

Paul Kedrosky (2:09)

Yeah. So normally, the treasury market, which is a multi-trillion dollar market, is so large and liquid that unless you are a sovereign, meaning another country issuing debt on the scale and the same sort of security as the United States, it's really hard to influence it just through issuance, meaning that just because I'm selling treasuries, or not treasuries, I'm selling comparable duration debt, it's really hard to have an impact on treasuries because it's such a big, large and unusually liquid market. So one of the things that happened a month ago was that this thing we call AI capex and this staggering amount of issuance, much of which has a duration, meaning the length of time over which the bond becomes due, the debt becomes due, is on the, it varies from five to 15 years, but let's call it a median duration of 10 years. It began to seem like it was something unusual was going on in treasuries. And as we sort of work through the math, and then this has now become fairly widely accepted, that AI capex issuance was actually had become so large that was beginning to bleed into the treasury market. So one of the reasons why we had this treasury market freak out is because of the unprecedented amount of AI related debt being issued. And that in turn was causing a sell-off in treasuries as people said, you know what, given the choice, and this is a remarkable thing, given the choice between owning 10 year treasuries backed by the full faith and credit of the United States, or owning 10 year debt backed by a hyperscalers pristine, I have that in air quotes credit rating, I'd rather have the latter at the margin. That just doesn't happen. I mean, there's no reason why someone historically would do that because obviously sovereign debt is backed by the full faith and credit of the country. And in particular, in the case of the United States, you can print your own currency. So it's like you'd have no, there's no prospect of default other than deflating it away. So having that happen was an artifact of two things. One was the crazy scale of issuance, which is now approaching in excess of a trillion dollars.

Ed Zitron (4:15)

Jesus Christ. Well, like all AI debt is approaching the trillion.

Paul Kedrosky (4:20)

And it's more than 60% of AI financing is now debt financed up from something like 15% to 20% a year ago.