Five themes shaping the future of the global economy

Macquarie Private Bank is pleased to share insights from a conversation with Dr Richard Clarida, Global Economic Adviser at PIMCO and former Vice Chairman of the US Federal Reserve. Hosted by Macquarie Wealth Management’s Head of Fixed Income, David Carruthers, Dr Clarida shared his views on the global macro environment and the opportunities the road ahead presents for investors.

1. We’re in the era of fragmentation

There is a significant shift occurring globally, according to Dr Clarida. Economics once drove politics, and now, politics is driving economics. 

This brings us to an "era of fragmentation," characterised by regional security alliances, regional trading blocks and – in some cases - regional currency zones.  

Investors should expect this fragmentation to drive macro volatility, and in turn, market volatility. That said, this era presents investment opportunities for those who can navigate it.

"We're used to thinking of business cycles as shocks to demand, supply policy. But there's an additional driver of the cycle, which is the fragmentation of the global order itself," Dr Clarida said.

2. The yield advantage

Sovereign debt in countries like the US, Japan and many in Europe are running at over 100% of GDP – levels we haven’t seen since the end of World War Two.

"As the late economist Herbert Stein once said, something that cannot go on forever will stop. Eventually, the US will get on a sustainable fiscal path," said Dr Clarida.

"But it's the PIMCO baseline view that this will not happen, probably until sometime in the next decade."

This is an important reality for fixed income investors, who are looking for an opportunity to earn higher yields by taking on interest rate risk.

"We're in a world of elevated sovereign debt levels that are putting upward pressure on the slope of yield curves. It's going to be a world of macro and market volatility," Dr Clarida said.

"But there are important market implications of this for investors. There is an advantage in fixed income – the yield advantage."

3. 'A fire hose of information'

Rapid and around-the-clock information has transformed the way we receive intel about the economy and investment markets. Separating the noise from the necessary is an important part of managing an active portfolio.

"We have a fire hose of information as investors or market participants, and every day most of the information we're getting has a lot of noise in it. I think there's a signal extraction problem," said Dr Clarida.

Tried-and-tested investment processes, together with investment horizons measured "in years and not milliseconds" are also important ways to guard against distraction.

"There are benefits to having connectivity, better information," Dr Clarida added.

"You go back to the 1980s in the US, and you had a handful of people working at Wall Street banks who had some access to money supply data."

4. A new dawn for cryptocurrency

In mid-July, the US Congress passed the Guiding and Establishing National Innovation for U.S. Stablecoins (GENIUS) Act, establishing a regulatory regime for so-called ‘stablecoins.’ These are a form of cryptocurrency backed by liquid assets, such as the US Dollar.

In effect, this Act brings stablecoins into the formal financial system, paving the way for their growth. There's every indication that stablecoins are going to become a dominant source of payment from here, Dr Clarida said.

"We benefited at our PIMCO Secular Forum this year from a conversation with Roberto Campos Neto - until recently, the central bank governor of Brazil," he said.

"During his time at the Central Bank of Brazil, they actually launched a central bank digital currency in Brazil. And certainly, his thinking is that US-Dollar based stable coins are going to have explosive growth in the next number of years."

5. The future of the US Federal Reserve

As the world’s most influential central bank, the Fed plays a significant role in shaping the global economy and financial markets. It manages monetary policy in the world’s largest economy, to achieve its dual mandate: price stability and maximum employment.

Dr Clarida acknowledged debate in the market about the future of the Fed, including its independence as an institution.

"Is central bank independence under threat? The short answer is yes," he said.

However, Dr Clarida is confident that a number of controls will help preserve the Fed’s position. That includes the threat of market volatility, the voting process for board decisions, and the sheer weight of history.

"When you have a job as a Fed chair, or, in my case, a Fed vice chair, you become aware of the history of the institution," he said.

"I'm confident that whoever the next Fed chair is will preside over a period in which the Fed is focused on maintaining price stability," he added.

"That's not to say that the risks are zero, I just think that they will not ultimately prevail."