Moody's Talks - Inside Economics - Climate and the Curve

Episode Date: November 18, 2022

Mark, Cris, and Marisa discuss the yield curve and give their latest recession odds. They also welcome back colleagues, Gaurav Ganguly, Chris Lafakis, and Bernard Yaros of Moody's Analytics, to examine the challenges of climate change and the impact on the U.S. economy.Full episode transcriptMark, Chris, and Bernard's paper, The Macroeconomic Cost of Climate InactionFollow Mark Zandi @MarkZandi, Cris deRitis @MiddleWayEcon, and Marisa DiNatale on LinkedIn for additional insight Questions or Comments, please email us at [e-mail]. We would love to hear from you.  To stay informed and follow the insights of Moody's Analytics economists, visit Economic View. Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

Welcome to Inside Economics. I'm Mark Sandy, the chief economist of Moody's Analytics, and we're going to talk about climate change and macroeconomic consequences of climate change, and we'll bring in a few of our other colleagues to talk about that. Before we do that, I want to bring in my two co-hosts, Marissa, Marissa Dina Talley. Hi, Marissa. How are you? Hey, Mark.

I'm good. How are you? Good. You're hailing from Southern California today? I am. Yeah. Excellent. I need it back from Hurricane Attled Florida last week.

I know. Did you know my home in Florida, the eye of that storm went right over the of my home? Really? Wow. And the only damage I had, bizarrely, was the screen. One screen got broken. That was it. Wow. Really bizarre. Even the beach, you know, was impacted, but very modestly. Most of the impact was kind of north, you know, towards Daytona Beach. Yeah. That beast got creamed, unfortunately.

And where were you? You were in Naples, I think. I was in Southwest Florida. So last week when that hurricane was hitting the East Coast, my flight got canceled. So I didn't make it back the night that I wanted to. And then the next day, I spent the whole day in the airport trying to get home. And I did. Nice airport, though.

It is. If you have to be stuck in an airport, I guess that's a bit of time of the airport. I believe, right? Yeah. Not a bad airport. Yeah. Very manageable. And we got Chris, Chris DeReedies.

Chris is the Deputy Chief Economist. Hey, Chris. Hey, Mark. I see you have your glasses, the infamous infrared. What are those? Blue blockers. Yeah, infrared. Can't you see through things with those glasses?

I can see recession. I see recession. Dead ahead. Yeah, yes. Let me, let's just get this over. It's pull the Band-Aid off. So what's the probability of recession between now and the end of 23? You were 67% last week chatted.

Is it what are, what are you? Oh, it's up. Yeah, unfortunately. I'm feeling even more confident in the, unfortunately, in a recession call. Oh, really? So what is the, what's your probability? I'm going back up to 70, maybe 72%. That's out of five.

Okay. What changed between this week and last week from 67? You were at 70. Last week you went to 67 and now you're back up to 72. So what happened? A lot of happen. Well, just look at the yield curve, Mark. It's inverted the whole way through.

I'm highly annoyed at this conversation. All right. All right. Let's talk about this yield curve. Which yield curve are you looking at, by the way? All of them. Fed funds to 10-year, three months, one month, that's barely inverted. And that's just, you know, bomb market goes up and down all around on a daily basis.

But here, let me- 10-year-2-year, right? Let me ask you this. Okay, let me ask you this. Let's have a serious conversation. about this. I'm always serious. I know you are. Marissa is always cutting jokes and off the rails. Somebody has to bring a little levity to the conversation. Exactly, exactly. That's exactly true. We have to have a little bit of levity. You notice every night, my wife and I watch an hour of TV.

And TV is actually pretty good these days, you know, get all these streaming services. And the one thing I've learned is if the TV series or show has no levity. You know, it's all dark, dark all the time. Very hard to watch that. You know, you need, right? You need some levity in there. And thank God we have Mercer on for the levity. But Chris, Marcia's a yield curve believer, I believe, right? Is she? Procelotizer? I wouldn't, I wouldn't call myself a proselytizer, but, but yeah, I mean, it's not ever been wrong, right? sort of hard to do with that. It depends, you know, over what period of time, false, positive,

so forth and so on. But let me ask you, let's start this conversation this way. And I should say we, there are some economic data that came out in the in the week. Yes. So we can come back to that and talk a little bit about that. But before we get there, let's talk about the O curve.

So for, if you're a listener, a regular listener, you've heard this conversation about the yield curve a lot. Ad nauseum. But, you know, just to level set, Chris. So tell the listener why the yield curve, what is the yield curve, why an inversion of the curve is a prescient, historically a prescient leading indicator of recession?

So at its core, it's just, the yield curve is just the difference between different rates, different treasury yields, I should say. So, typically, we'll look at the yield on a 10-year versus a two-year treasury or a three-month treasury or a month month, right? So you can pick different points along that curve and make comparisons. In a normal, well-functioning economy, that yield curve should be upward sloping, meaning that for the longer term that you are willing to lend the government money, you should expect a higher return or demand a higher yield.

All right. And that's in a well-functioning economy. when investors are nervous about the future, you can see inversions in the yield curve where the shorter term yields suddenly rise above the longer term, right? So that's what we're talking about here. Today, the two-year is about, what, 70 basis points above the 10-year. I think the three-month is maybe 50 basis points. So it's by historical standards, deeply inverted at this point, at least for those portions.

Measures. measure it. Correct. I think you have to go back to 1982 to get this type of inversion that we're seeing here today. Why that matters? So this is a bit of... Just a caveat there. The one curve that isn't that inverted, just on the margin for the last few days, is the 10-year Treasury yield versus the federal funds rate, the effective federal fund rate, the so-called policy yield curve. Correct. the Fed sets the funds rate. And I look today, I think we're at negative four basis points or something. It's been the last few days because the bond market has rallied in the last few days. Since the CPI report was so good last week, the bond market has rallied, meaning interest rates have long-term interest rates have declined, all rates have declined, but long rates have declined

more. And so you have this now inversion by about four basis points. So historically, the policy yield curve, you know, it has led recessions, but it also has had false positives. So you've had inversions where the funds rate rises above the 10-year yield and a recession not ensued. So, but anyway, just to round that out. So why is it such a good indicator of recession down the road? So I think, just to clarify there, I think the 102 and the 103 yield curves, particularly for this level of inversion, have always signaled, properly signaled recession. I don't think we've had any false positive for those parts.

Yeah, I think that's at least since, I don't know how many recessions you've gone back, but at least in recent decades, let's say, back to the 1970 recession, I think, 69 recession. Yeah, yeah. Yeah, so why, why is it oppression? Well, one, I think you hit the nail on the head in terms of just the bond markets. These are one way that investors or speculate or put their money where their mouth is is through these yields. So if you are expecting a recession, you might pile into a longer dated asset because you just want to, you know, protect your capital versus equities where you might expect that lower profitability is going to erode stock prices.

So you might be betting through the bond market. In terms of the real economy, though, we believe it's really through the banking system, right? particularly hard to earn a spread when the yield curve is inverted. If you're a bank, uh, letting, lending out money long and borrowing short, right, under that inversion, it's, it's difficult to earn a spread. So in that environment, you would expect that credit would dry up. Banks would pull back on the credit they offer to either businesses or households. And as a result, you have a slowdown in the economy. Spending goes down and we have a recession. So it's a signaling mechanism from that point as well. Okay, so really two different explanations as to why

the yield curve might be a good leading indicator of recession. The first is it's the collective wisdom of bond investors. And the collective wisdom is saying we're going to have a slower growing economy in the future mid recession. That means less inflation. That means a bond, a long-term bond is worth more, I'm going to buy that bond, and that sends down long-term interest rates. Of course, short-term rates are kind of pinned high because they're pegged off of what the Federal Reserve is doing and the funds rate. So if the funds rate, if the Fed has got its foot on its brakes and has the funds rate high, that's pushing up short-term interest rates, and they can't come in as much, and you get this kind of inversion. So it's kind of a forecast, a consensus forecast being done

by bond investors. Correct. That's the first explanation. That's the Okay. That's the theory, right? I admittedly am out of the consensus. I admit that. You know, on my forecast, although I, you know, I do acknowledge the recession risks are awfully high, and it's a close call, but I think my forecast is just as good as the average bond investor's forecast, and it's different. I have a different forecast. Second explanation, so I'm kind of dis-tied now when I don't care. Who cares? I mean, except- But so then why is it always been correct? Yeah. look at the 10-2. Okay, so that gets the second explanation, something more, something more fundamental, right?

It has to be, there's got to be some reason why the yield curve is contributing to the prospects for recession, some causal relationship between, you know, forecast or forecast. And that goes, I think you're right. I mean, that is the most logical kind of way to connect the dots fundamentally between the yield curve and the economy, has to run through. through the financial system. And it's, you know, credit, the way I would kind of phrase it is credit is the mother's milk of economic activity.

And too much credit, that's a problem. That's the financial crisis. You extended out too many mortgage loans that poor underwriting, they blew up. Not enough credit is a problem. It's called the credit crunch. businesses and households need credit to do what they do, buy cars, buy homes, expand businesses, that kind of thing. So when the yield curve inverts and the cost of short-term money, the cost of funds for lenders rises relative to the rate that they can extend that credit out, that

so-called net interest margin you mentioned, they can't make money, so they're going to be less likely to extend credit. And historically, that slows economic growth and ultimately leads to recession. Let me, though, proffer that maybe, and I know everyone's going to cringe when I say this, but let me just proffer it. I'm going to say it. I'm going to say it. You know, not the four words. Not the four words. This time is different. I'm going to say it. Maybe, you know, Well, we're going to find out, but maybe. Let me throw out a couple, three reasons why this might be different. This time might be different.

And hear what you have to say. The one reason why this time may be different, and you've heard this many times, but let me throw it out there and see how you react, is QE. The Federal Reserve has bought a lot of treasury bonds and other mortgage-backed securities. and they're, you know, they're now QTing allowing that to come back down, but it's really about the amount of Treasury and MBS mortgage-backed securities that they own. And it's close to, what is it, close to $9 trillion. It's quite substantive.

And, you know, they increased that dramatically during the pandemic on top of increasingly, increasing it dramatically during the financial crisis. And, of course, they did this, the Fed did this, because short-term rates got to the zero lower bound. They couldn't lower short rates any further. They didn't want to go negative. They said, okay, let's get long-term rates down. So let's go buy long-term bonds. So they bought a lot of long-term bonds and brought down interest rates. And so, you know, the 10-year treasury yield is affected to some degree by that QE. Now, debatable how much, but, you know, it could be 70 basis points. I'm just saying, you know, it might be. It might be 70 basis.

be convenient. Would that be convenient. I'm just saying, okay, so I'll stop. That's, you know, one thought. How do you respond to that? This time is different in that. I mean, it is somewhat different, right? I mean, the Fed queued beginning in the financial crisis and obviously QE'd big time in the

pandemic. That is kind of sort of different than other business cycles when the Fed did not QE for sure, right? They never got to that point. Yeah. So when they were actively queueing, right? and then they were manipulating or certainly affecting it. Oh, that's a loaded word.

Well, I didn't. I took it right back, right? That's a straight up monetary policy from, okay, you took it back. Okay. I took it back quickly. They certainly were affecting the long end as well as the sure. Yeah, absolutely. So that's not, yeah, yeah, nothing nefarious, perhaps.

But when they were actively involved during the pandemic and during the Great Recession, you know, you would set you, I think it is legitimate to say, oh, well, you'll, you'll, curve effects may be distorted here. We're not getting a true market signal, right? And you're right. Today, it is different. They are holding a lot of securities, but they're not actively dumping those securities or buying more security, right? So I hard believe that we're not getting at least some signal from investors out there. No, no, no. I'm not saying there's no signal, but this goes to the stock flow explanation of QE. I mean, I think the evidence, at least the academic research, the Fed research shows that it's about the stock, meaning how much they hold, the dollar amount they hold on the balance sheet, not the flow that matters in terms of the level

of interest rates. So, you know, $9 trillion. Yes, the $9 trillion is starting to come down because of QT quantitative tightening, allowing the treasuries that they own to an MBS to roll off balance sheet through maturity or in the case of MBS. If there is any prepayment, I don't know, but if there was, they were all that way. But it's really about the stock. So, I mean, that's debatable, but possible, but how much? Okay, all right, okay. So how much?

We're talking 20 basis points, 30? I mean, again, we're very deep. I'm just saying, I'm just saying, could be 70 basis points. I'm just saying. All right, here's another, here's another thought. Here's another thought. And this one, you probably, I don't, I've not heard this. This is a Zandi thought.

I think. The reason why an inversion of the curve has such a big impact on credit and ultimately on the economy is it comes historically generally after a period of very rapid credit growth. You know, the economy's booming, credit growth is very strong, underwriting is weakening. and people are taking on a lot of debt. Leverage is increasing, both on the household and corporate sector. And then the Fed says, oh, my gosh, they step on the brakes, the short-term rates rise, and you get that inversion of the curve, and credit flow stop.

You know, banks say, I can't make money, financial institutions can't make money, their net interest margin goes flat or inverts, and they can't make money, and they stop setting credit. And that's a problem after the period of very rapid credit growth because all these folks, businesses, households that took on the credit, they need to roll that over in many cases. They, you know, particularly businesses. They, you know, these are short-term loans, you know, they could be a year, three, five years, but they roll over. And when they roll over, they need credit. But here, all of a sudden, the curve is inverted. Banks can't make money.

no net interest margin, no, no, they tighten up underwriting and that business or that household can't get the credit that they need and that results in a default and delinquency. And that's why you have an economic problem, why you have a recession, why it leads to recession, why it leads to stress, why businesses lay off workers in part because of the financial stress that they face. That is very different than the environment leading up to this period. Their credit growth was not Not booming. In fact, it was very modest, you know, kind of credit growth. And it's not like, you know, there is going to be businesses and households that need credit in the current environment when underwriting is tight, but not, it's not a wave of borrowers that need it. Therefore, we're not going to see the kind of defaults and delinquencies and credit problems that we normally see that ultimately cause businesses to pull back, households to pull back, lenders to pull back, and we go under recession. Okay, what do you think of that explanation? So this time is different.

This time is different in that regard, in that regard. Did you want to say something, Marissa? Well, so what period are you going back to? Because the curve inverted right before the pandemic, too, right? Yeah, well, that was the, that was the... So are you including that whole, are you going back to before the pandemic, like, credit from the financial crisis up? Yeah, yeah.

Going back to 1970. Every recession since 1970, Chris is pointing out, and he's right, that when the two-year and the 10-year invert, you have a recession within 12 to 18 months after that, including the pandemic. Yeah, no, I understand that. I'm saying your argument about credit growth hasn't been that strong recently. What period are you talking about? Are you talking about the past couple of years?

Are you going back to the financial crisis? Yeah. Yeah. You hear my logic. I'm saying the problem the curve is creating, so you had all this credit growth before, you know, the curve inverted. You know, go back prior to that. And I'm saying this time is different in that regard compared to those previous cycles.

Sure. Like certainly that was true leading up to the financial crisis. In every other one. And if you go back. And 90s, yeah. Yeah. Yeah. So I agree with that.

Certainly businesses and households are much more flush with cash today. than they were. Actually, this is part of the reason why I actually up my odds in terms of recession risk, because my fear is that you have the higher income households and businesses may be less sensitive interest rate increases in this environment, because they already had, to your point, they have a lot of resources, and therefore the Fed will have to overshoot even more to get the type of sensitivity. Yeah, but okay, that's your, that's a smoke screen compared to.

No, no, but that's the argument. We're discussing the yield curve, right? And the yield curve reflects what the market thinks the Fed's going to do. They're not that. That's right. So the collective wisdom has embodied exactly what you just said, right? So going back to the curve and the predictive ability of the curve. But that's consistent, right?

I believe the markets are also anticipating that the Fed will have to be even more aggressive than what we originally thought because we're not getting the responses from households that we otherwise. We're having retail sales this week, you know, continuing to remain quite strong, right? That's not the response that the Fed certainly wanted, right? They want things to slow down. No, no, no, I'm not sure. I mean, if I were them, that's exactly what I would want. I'd want things to slow.

I mean, real retail slow. It was well above consensus, right? Well, I don't care about consensus. I've got real growth. Real growth. Consensus is what is, what do I think is? Fed consensus. What it is, not what it should.

Yeah. What it is. Bad expectations. Yeah. I mean, but that's different than what it should, what you want it to be. If I were king for the day, I'd say that was a pretty darn good retail sales report. That suggests very modest real growth because you're over your retail sales rate percent. Inflation is 8 percent that says, okay, I mean, I'm, you know, these aren't apples to apples, but, you know, roughly speaking.

So I'd say that's exactly what I want. I basically want zero. I don't want consumers to pack it in. it in. I don't want negative because that means recession. I don't want negative, but I want, moderating, right? That's definitely moderating. Even more retail sales were strong. I mean, even if you take out food and gas, right, core retail sales are pretty strong. It's all inflation. It's all inflation, right? It's real, growth is barely positive on retail sales. And that's what you'd want. But it was,

it was a sturdier report than I think people were expecting. But you, but you know, you're You're saying I don't care what people were expecting. Well, that is what, no, no, consensus is what I think it's what it will be. Right. What I'm saying is what it should be if it's good, if it was consistent with my policy goals. It was above consensus, therefore it was above what people expected it will be, but that has nothing to do about what it should be relative to the appropriate policy. I was referring to Fed consensus, or Fed expectations of what it should be.

The Fed's what matters, right? If retail sales are coming hotter than the Fed would like. I'm not sure it is. That's what I'm saying. I'm not sure. If I were on the Fed, I'd say that's, that felt pretty good to me. That's exactly a report I'd like to see. Okay, let me throw out one other thing.

One other, this time is different. And that is credit quality. Yeah, you know, the thing is that credit quality usually erodes pretty substantively when, you know, the Fed steps on the brakes and the curve inverts and lender stop extending credit. And then they, you know, credit problems start to develop, you know, in that period of time. Credit delinquencies, defaults, foreclosures, losses begin to mount, and that adds to the problems that the banking system, financial system face, and therefore they tighten down even more,

right, because they have to react or they're responding to the erosion and credit conditions. Credit conditions now are really good. I mean, really good. I mean, right now, delinquencies are going to rise, but they're rising from incredibly low levels. And they may just simply normalize, get back to something that we've typically experienced historically. And of course, the banks, and this is this time is different, the banks are extraordinarily well capitalized. much more capital than they've ever had, much greater liquidity than they ever had, much better risk management than they've ever had, you know, of course, the stress testing. And of course, they, you know, we help them out, so they got to be, that's got to be good, right?

So we're not going to have the same kind of credit issues or credit problems that we have, no default. So I keep going back to the credit spreads in the corporate bond market, BAA Treasury spread. Very, you don't see anything. You don't see any problems. So if that's the case, then maybe lenders don't pull back to the same degree that they have historically. But they are pulled back. They don't need to. They've got plenty of capital, plenty of liquidity, credit quality is not a problem.

You don't see the restrictions on credit flows. Therefore, you know, the curve of inversion means something very different today than it means historically. It's not, you're not going to see the same kind of tightening down of underwriting and credit conditions that you would normally say. We talked about this last week, right? And CNI lending is tightening up significantly, right? It's in recessionary territory in terms of the, yeah, it is. No, wait, wait, no, wait, no, wait. What you're looking at is a diffusion index that says directionally I'm tightening,

but that has, go look at the actual volume of CNI lending. It's not slowed. It hasn't slowed. But you've got to look where the puck is going, not where the puck is going, not where the puck is today. Well, I'm just saying that that's just directionally. Yeah, of course they're going to tighten, but it's how much are they going to tighten? I'm just saying, here I just gave you a logical, a logical kind of framework for thinking about why this time is different. It is different. It is different. It's very different from a credit perspective. Isn't it not? It is. It is not the great recession.

I can see, no, no, no. It's not a financial crisis. This is very different from a credit perspective. mortgage credit, CNI credit, you know, take any kind of credit quality, it's very different than it has been. Underwriting has been very, very good across, I mean, I'm paying with a broad brush, and there's things out there we need to worry about,

leverage lending we've talked about. Personal loans are deteriorating fast. What is? Personal loans, subprime auto. See, I find that at Red Herring, too. I mean, come on. Credit, card. Add up cards, add up credit cards, retail card, bank cards, retail cards, and all unsecured personal lines.

It's a trillion dollars outstanding. It's back to where it was pre-pandemic. That's actually tight. You know, there's not been any significant credit. It's actually very incredibly low relative to where you would expect it to be in a more typical time because of the pandemic. I don't know. All I'm saying, you get my drift. You get my drift.

You get my drift. Every data point is different. This time is different. It is different. Unless you can tell me, and this is what I'm kind of ruminating about, is there some other link between or a way to connect the dots between the conversion of the curve and the real economy? I mean, I agree with you. It's about credit flows, but is there something else I'm missing that maybe would have a real economic effect that I'm just not thinking about? Here's the other thing.

And this goes to your forecast, Chris, because I know I'm picking on you, Chris. I'm pricking on you endlessly. But this is no, no. Mercy, your time is coming. I assure you, your time is coming. Sure it is. What are your odds, Marissa, by the way? Yeah, what do I know where you stand on all this?

So I was like at 60% about a week ago. Right, two weeks ago. Right. I missed the podcast last week. So I was at 60% probability of recession in the next year. I think I'm now at two thirds. You went up too? Yeah.

Why? After our webinar. But the CPI number was so good. I mean, why would you go up? I don't understand. A lot of other economic data has not been good. Yeah, the CPI was good. The PPI was good.

What data are you talking about that wasn't good? Name it. I mean, pretty much everything that came out, this week was not great. What do you mean? We'll get to that later. Yeah, I'm really curious about what that means.

I don't want to give away my statistic. Okay, don't do it. Don't do it. Don't do it. Housing clearly is going down, right? Well, that's a good thing, right?

That's appropriate. Okay, from a monetary policy perspective, if you're raising interest rates, you want to slow growth. It's got to come out of housing, right? Yes, yes. That's good. Bad news is good news.

No doubt. No doubt. But the likelihood that we can then pivot and stop that wave precisely so that we don't cause a recession. It seems pretty unlikely to me. But that's the crux of it. No, no, no. That's a reasonable argument. I'm just going back. I just the technical discussion around the yield curve. And, you know, because it's been, it's obviously a good point that it's a very prescient indicator. I mean, I think we still need to see confirmation of a hard inversion for more than a couple of days on the policy. But, you know, that may happen because the Fed's going to raise rates. Yeah. Fund rates going to a couple weeks. Ten year yield going to go up with it.

We'll have to see. I'm not sure. So it may invert. But it's just around that technical argument. that the curve is inverted, therefore, I put, as you said, I raise my odds because the curve inverted more this week. That's kind of what I'm focused on. Yep.

Yeah. Okay. So if the fact, if we do get that hard inversion for an extended period of time, do your odds change at all? No. Well, will they change? I don't know. I mean, because I just, you know, I'm not sure.

It depends on the economic debt and why it inverted. But, you know, just because it inverted, what I'm telling you is, I don't think that, you know, I'm not sure the curve is, this time is different. You know, it's not the same. It may be implying something. And unless there's some causal relationship that I'm missing. You know, there's something going on that I can't quite figure out between the curve and the real economy.

But anyway, Mercy, you were going to say something? Why do you put more weight on the 10-year Fed funds, the policy rate curve than like the 10-2? I don't. I don't. I just think it needs confirmation. I mean, you know, every time you've had a recession, the two-year, 10-year inverts, but also the policy curve inverts. Now, the policy curve has, there's false positive. It's inverted and not recession.

But every time you've had a recession, the policy curve has inverted. So it's not I'm putting more weight on it. It's just, we need that to be confirmation that the, you know, two-year, 10-year is, you know, going to be accurate. But here's the other question I had on that, though, because this goes to your kind of forecast. Your thinking is that the recession would hit sometime in the – I don't want to put words in your mouth, but this is what I recall, the first half of next year, kind of sort of by mid-year, we'd have a recession. Yeah, although I might push that out. Oh, you would.

Okay. Because the curve – if you take a literal interpretation of the curve inversion, it's saying more towards the second half of next year, as opposed to the first. that for mid mid year but you're saying that splitting hairs there yeah i'm not gonna yeah no give you the date and time okay that's for next uh next podcast okay very good all right well let's let's let's let's let's quickly move forward because i'm gonna get on the climate uh change in the work we've we've done there but the i guess the looking at the economic statistics this week it's mostly it's been on the light side i think uh but mostly housing related is that is that right Chris. Well, he had retail sales and industrial production. Oh, that's true. Yeah, right. And we got a lot of the

regional Fed manufacturing service. That's right. This week, too. We got a bunch of them. Okay. Philly Fed, yeah, Philly Fed, yeah. Philly Fed, Kansas City. Philly Fed improved. Empire State. Yeah. Which of all the statistics, Marissa, which would you focus on? That would be... Are we going to play the statistics game? No. Not now. Oh. Should I wait? Well, I mean, the one I'm going to focus on is maybe the one I picked. Oh, I see. Yeah, that's a good point. Okay.

All right, let's wait. We'll wait. Okay. Anything else on the economy you want to bring up before we bring in the rest of the team to talk about climate risk? Anything else you want to bring? Anything bugging you? By the way, I'm getting more confident that the economy is going to navigate through. I am.

I'm just getting more. I don't know if I'm convinced. What are your odds now? 45? Just 50%. 50%. You know? Okay.

But same as last week. but the arrow, you know, for the risk of which way it would change is now lower, not higher. The economic data feels to me definitively like it's moving in the right direction, beginning with the employer report two weeks ago, last week's CPI report, and I'm telling you that retail sales numbers, that was good, in my view. No real growth or very little real growth. That's exactly, that's the strike zone. That's what you want.

But anyway, that's just me. Interesting. Interesting. Okay. Let's bring in the rest of the team. And we've got three colleagues that are going to join. And for listeners, you're familiar with these guys. First up is Garav Ganguly.

Garab, good to see you. Good to see you too, Mark. Marissa, Chris. Do you hear that conversation? Garab, did I change? I was fascinated by it. I was absolutely fascinated by it. I was hanging on to every word.

He's being sarcastic, isn't he in a Bruges kind of way? Well, yeah. I'm sure he wanted to jump right in. Yeah, I mean, this time is different. Oh. Isn't it, isn't it always? I see. I see.

How he snuck that in? Jeez, good. It's good to have you, Grav. And of course, Garav does a tremendous, he leads all our operations in Europe and the Middle East, It also is an expert in climate risk, so it's good to have you aboard. And Chris Lafacchus, Chris, good to see you. Good to see you as well.

You know, you gave out a four-word phrase. So I would give out a three-word phrase to your forward phrase. Fire away. And that would be famous last words. Oh, gosh, no one's on my side. Chris, what's the probability of recession in the next, well, through the end of 2023? Yeah, I think that the 60, 65% range feels about right.

Yeah. Okay. Oh, that's strategic. That's strategic. One percentage point under me. Yeah. Mm-hmm. Well, you're saying 66.

Are you saying we should change our baseline to a recession? Marissa. That's what it sounds like. Well, perhaps. Yeah, you can think about that. Bernard, are you on my side? I'm definitely on your side, yeah. Oh, definitely.

I'm even more optimistic than you. I put it at like 40. Yeah, I really think the data has been coming in better than expected. And I think the housing starts. I mean, we can talk about that with the statistics, but I think there's really going to be a glut of, you know, especially on the multifamily side, which is really going to help bring down rent.

And rents is really the crucial ingredient, I think, to our inflation problem. So I don't know. I like this guy. Yeah. Yeah. I like this guy. This is Bernard Yaros. Bernard is all things government, federal government.

And also you've been doing a lot of work with the data recently on economic view. So you've been getting down and dirty with the data, the U.S. data. So it's good to have you aboard. And the group has worked on a paper. We just released a paper. What's the title of the paper, Chris? The macroeconomic consequences of climate in action, I believe. Beautiful title.

Oh, and there you go. Yeah, there it is. Chris is holding that up. So, you know, that's okay, because I did too. And you and I and Bernard co-authored that paper, and I thought we'd begin, oh, we just released it. We're pretty proud of it. So I thought I'd turn to you first, Chris. Maybe you can give us a summary of it.

And then I'm going to turn to Garab, and he's going to critique it. So he's going to give us his views on, you know, what we should have done or not did or how good it was, we'll get his views. And then, Bernard, I'm going to do the same thing with you, and then we'll go into a little bit more detail in some of the numbers. So you want to summarize, Chris? Yeah, absolutely. So what we did is we were trying to answer the question of what policymakers should do about the issue of climate change, particularly in the U.S. It's the issue of climate change as global, but the scope of our analysis pertained just to the U.S. And there were some assumptions around that that are documented in the literature.

But we ran some simulations. We have this great tool, our global macroeconomic model that we can use for policy analysis. And to answer the question of in which scenario are we better often, we ran some simulations that considered different combinations of action and an action. And so in all together, we ran four simulations. The first one would be a current policy scenario, and that's one where there's no new legislation. And actually, at the time of us starting on this research, the Inflation Reduction Act, which has a carbon emission mitigation component to it, was not law. So the current policies does not include the Inflation Reduction Act.

The second scenario does include the Inflation Reduction Act, so it's the current policy scenario plus the climate implication for the Inflation Reduction Act. The third scenario that we considered was a carbon tax scenario in which a modest carbon tax is levied. That carbon tax is equal to $40 per metric ton in 2020. That tax escalates at a rate of the inflation rate plus 5% per annum. And it's capped at the value of the carbon price in our last scenario. Our last scenario considers what would happen, what would be needed, to reach net zero carbon emissions by 2050 in the U.S. And there's a carbon price associated with that.

We use the integrated assessment model framework, which is basically looking at abatement curves of various types of pollution and determining the lowest cost alternatives to energy and what carbon price would be necessary to push the global economy, or in this case, the U.S. economy, to those sources of renewable energy production. And using the kind of the carbon prices, that carbon price information, we constructed scenarios. We ran shocks through our model. carbon price in our model so we were able to observe kind of the macroeconomic fiscal and climate implications of various combinations of action at a very high level that's what we did if you'd like

me to mark i can describe the types of risks that we considered we considered both acute and physical risk both chronic and acute physical risk both industrial transition risk and macroconomic transition risk, which would be what are the implications of kind of a carbon tax on the macro economy, the transition and risk and physical risk kind of push-pulsome in some of the scenarios where there's maximum physical risk, there's less transition risk and vice versa. And lastly, what I would say is that our conclusion is that in the very long term, it's more expensive to do nothing than to do something. So in the short run, if you don't don't act, you can achieve some better economic outcomes, but if we're looking at 2100 and beyond,

the cost of inaction outweighs actually the cost of action. Yeah. Okay. So just to summarize your summary, just to make it concrete, we ran these four different scenarios to under different policy assumptions to see what kind of impact that would have on the economy and we used our global model, but we were focused on the U.S. economy. And when we talk about the economic consequences, really broadly speaking three, the, as you said, acute physical risk.

So that's the cost of hurricanes and flooding and of fire, that kind of thing. The second is chronic physical risk, and that would be things like sea level rise, heat stress, and it reflects the impacts that have has on sectors of the economy, like tourism or agriculture, that kind of thing, which is very obviously dependent on weather. And then the third economic effect that we consider it was the transition cost. So because of the change in policy, carbon tax or the IRA, the Inflation Reduction Act, it imposes some costs on the economy in that transition, and we accounted for those going forward. forward. And the bottom line is that, interestingly enough, under every scenario, and we

simulated the impact on the economy out through 2100, so a long period of time, obviously a lot of assumptions that go into this. But what we find is in all scenarios, the economy, and we measure the economy by real GDP, is actually lower than, you know, if there was no Climate change. Okay, big deal. That's pretty obvious. But the conclusion is the sooner you take action, the lower the cost to the economy, the less of a hit to GDP in the future. And then the third basic result was, of all the policy efforts, steps that we considered, carbon tax seem to be, particularly one that's phased in slowly over time, is the most efficient way, the optimal way of doing this. It results in the least amount of lost GDP economic damage out there in the forecast.

Is that roughly right? Do I get that right? That's it. Okay. You got it. All right. Okay. Now, there are a lot of assumptions that go into this.

Do you want to just quickly enumerate the two, three, four key assumptions that, you know, there's a lot, but the two, three, four key assumptions that went into the analysis. Sure. I mean, I think that the main one is that, you know, we give credit to policymakers for mitigating physical risk in these action scenarios. So we calculate chronic physical risk. We calculate acute physical risk under all of the fours. assumptions and based on the amount of emissions reduction of the policy action, we reduce the hit-to-macroconomic activity from chronic and acute physical risk. And so we do that the most in the net zero 2050 scenario. We don't do that in the current policies scenario. The biggest assumption is that we assume that all of the various countries decarbonize at the same rate as the United States. And that's clearly a very big assumption and probably not how the world

works in practice. Well, it's not how the world's going to be in practice, but that's a working assumption here. Yeah. That's right. You know, so if we have a net zero 2050 scenario that we considered is predicated on, the emissions reduction is predicated on all of those countries, reducing emissions adopting net 0 2050 as well. And that's not going to happen. But we made that as a simplifying assumption because it's very hard if you don't make any assumptions like that, how much credit should you give U.S. policymakers for mitigating chronic physical risk? And that's, so like, that's the first one. And then, you know, the second one is that we assume that policymakers will provide as much aid for natural disasters as they have historically.

So we looked at all of the extreme weather events in the United States dating back to Hurricane Hugo. And we said, okay, all of the major ones, all right? What was the economic loss, according to Noah? what was the federal appropriation, what percentage of the economic loss was the federal appropriation. When you do that, you get around 46%. There's also some state aid and so on and so forth. So 46%. And so when we were disaggregating acute physical risk, what we first had to do was determine how big is the hole?

And then how is it going to burden the various sectors of the economy? And the sectors of the economy that would be affected by acute physical risk include the public sector through the provision of aid. Consumers, if they're not insured and they lose property or they lose rental avenues. Businesses is the same version of the consumer argument just on the other side of the foot. and then the insurance sector because they have to raise premiums, but they also have to make these large payments. And that's one key piece of acute physical risk is that over time, I mean, if Hurricane Harvey hits, you know, maybe insurance premiums will go up a little bit. But if Hurricane Harvey hits three years in a row, there's going to be a lot of insurers that are going to walk away from that market entirely. and the ones that don't will significantly raise the cost of insurance,

and that gets cascaded down through the entire economy. So we assumed that the federal government spends a lot of money dealing with the fallout of natural catastrophes, particularly in the current policy scenario that includes maximum physical risk. We also calibrated to the NGFS estimates, expected value. There's a range of losses, and there's a chart in the piece that you can see the range of... NGFPS being the network for greening the financial system that's doing a lot of work in this area. So we did use some of the information and data that they have provided.

That's correct. And they have a distribution of losses according to chronic physical risk, because we really haven't seen this movie before. We can tell you what's going to happen if there's a tax gut, but when in terms of projecting out to 2100 and accounting for physical risk, we have models, but there's a larger amount of uncertainty there. And so we took the expected value. So the midpoint of this distribution there for our own analysis, the estimates for loss according to chronic physical risk under the current policies and error are more severe if you take something like the 90th percentile or the 95th percentile losses.

And then the lastly, what I would say is that we estimated, we assumed that 60% approximately of the revenue collected by the federal government under the taxes in the two tax scenarios that the net zero 2050 and the carbon tax scenario are returned to consumers in the form of the dividend payment. And there's obviously different ways that lawmakers could go about, you know, kind of like mitigating the damage done. by their policy to certain income groups or certain regions in the United States that they probably would need to do in practice if they were implementing, you know, even a modest carbon tax. But that's the percentage that we assumed because we wanted to be revenue neutral and we didn't want to crowd out private investment in the very long term. That's actually what happens in the current policy scenario is that the outlays, the federal outlays get so large and the loss in revenue is is so disruptive that debt rises substantially and interest rates rise as a consequence of

a private investment getting crowded out. And so that's another feature of our, that fiscal dynamic is a feature of our current policy scenario. Got it. One, well, I'll just mention one other, and then I want to bring Garab into the conversation. A border adjustment, right? I mean, because you want to mention that very quickly? Yeah, the CBM, the carbon border adjustment mechanism is something that is becoming mainstream. And I think that it's going to be very, very, almost nearly impossible for any country to pass any meaningful carbon price or carbon tax legislation that does not include a carbon border adjustment mechanism. Because the outcry from industry, you're essentially, if you don't include a CBM, you're making your domestic industry, you're making your domestic industry. non-competitive or you reduce their competitiveness relative to, you know, the international

competitors. So, you know, what that means is what the border adjustment is that if you are a producer of fossil fuels in the United States, you get taxed when you extract those fossil fuels. You have to pass along the tax if you're, you know, to your downstream. or if you're exporting the tax, and if you do pass along, the tax that leads into inflation eventually for the macro economy. But if you export the fossil fuels that you extract, you get a rebate for the tax. And the same thing applies to, you know, further downstream.

Got it. Yeah. And of course, there's a lot of other assumptions, but those are kind of the top top three, five. Rob, you weren't specifically working on this research, but you do a lot of research in the climate risk area. And what's your sense of this as a kind of a neutral observer? I mean, anything here that struck you as interesting or stands out or even surprising? So let me start by saying. And okay, this is clearly a biased comment from me, but I think it's a great paper.

it's really well laid out. Is that British sarcasm? Did you hear British sarcasm? No, no, this is the real thing. This is the real thing. This is the real thing. Okay, I'm trying to get my ears not quite used to the. Okay, go ahead.

No, no, no. Totally the real thing. This is a great paper. It's really well laid out. It's really easy to read. There's so many assumptions that go into making climate scenarios that it's really easy, you know, to not see the forest for the trees. But I think some really good messages come out of this paper,

and I like reading it a lot. So some things that I liked and some things that I think, you know, avenues not really, it's, there are lots of, it's really difficult to model climate change and model the economic consequences of climate change, as Christopher knows very all too well. So it's not really about what's wrong with this paper as what's, you know, where do we need to go from here to make pieces of research like this more complete, I think. It's the way I can put this. So a few observations from me on what's what I've taken away from this paper. First of all, it's great to see some real world analysis and see some comparison of what's actually happening in countries, like take the US and the inflation reduction act, which is a big piece of legislation and which is a big step forward for the US. If you compare it to the EU, which has its climate action plan and the European Green Deal, that's been years in the making and it's been passed into legislation and the EU has been moving along for some time now on on this on this on the. this path and it's great to see the US embarking on the Inflation Reduction Act.

And it's great to see a piece of work that actually highlights the impact of the inflation reduction act. So I like that very much. I also like to see the comparison to a simple, conceptually elegant economic tool called carbon tax. That's not the way the world works. The world is not implementing a simple, conceptual, elegant tool like a carbon tax. The world is actually doing a whole bunch of different things.

And the IRA shows you that actually the US is taking a very different path to a carbon tax. The EU, which does actually have a emissions scheme, it doesn't tax carbon, but it has a cap and trade scheme. I mean, these two are theoretically, at least interchangeable. But even there, there are a whole bunch of other measures in place where the EU has phase out laws. Internal combustion engines are going to be phased out by 2035. So there are lots of different schemes in place. It's really good to see a piece of work that actually uses a carbon tax. And it's a great way to show how you can actually decarbonize an economy using a very simple conceptual lever.

The other great thing about it, about using the carbon tax is that there's a big criticism that's usually levied against carbon taxes, which is that a carbon tax is regressive, i.e. it hits the poor harder. But you guys have shown how you can get around that problem by having a dividend payment. This is not an insurmountable challenge to using a carbon tax. Using a carbon tax is not, it's brought out in the paper again, but I'll make the point. Communicating over a period of time. This is really quite important to have well-telegraph policy that's communicated over a fairly lengthy period of time in order to decarbonize an economy. Decarbonizing an economy can't really work. effectively in a jerky way. It's not going to happen overnight. It's a long process. It needs

policy that's well taught through, well telegraphed, and goes out over a period of time, and that commitment stays most importantly. And finally, I suppose the other point about the carbon tax is that it shows the way in which decarbonization works. I mean, implicit behind this assumption that you start with a low carbon tax and then ramp it up over time is the idea that actually the cost of abatement varies depending on which sector of the economy you target. There are some sectors of the economy that are easier to decarbonize and hence require a lower carbon tax and other sectors of the economy that are incredibly hard to decarbonize and ultimately will require a much higher carbon tax if that is to happen. Take steel and cement, for example. Cross-border adjustments, the CBM,

really important piece again, I think, shows you that the world can't, you know, shows you some of the difficulties of implementing a carbon tax. I really don't see countries just coming together and implementing a globally implementing carbon taxes in the individual countries in the way that it all works and a border carbon adjustment is not required. I just don't see that happening. So any country that wants to effectively decarbonize has to introduce some kind of border carbon adjustment, not just for the reasons that, I mean, it's not just about the future transition that Chris mentioned that as if a country imposes a carbon tax and that, uh, that sort of creates a negative cost for domestic industry.

It's also the fact that countries with current account deficits are currently importing carbon. China is the world's biggest emitter, but actually it actually exports its carbon emissions to countries like the US that import a lot from China. So putting in a carbon tax right now means that current imports from China would be subject to a carbon tax. And that would be the right thing to do in order to decarbonize consumption in the US, because emissions per capita on a consumption basis in the US

are far higher than emissions per capita on a production basis. So a carbon border adjustment is something quite important. Downsides of a carbon tax and what's not in this piece of research, but again, this is hard one. So it's, again, I repeat,

it's not a criticism of the research. Carbon taxes can't apply to every sector. You can do that too. Criticisms are okay. I'm really good at drawing up. It just can't be because nobody's got an answer to this. Okay, okay, fair enough.

Carbon taxes don't apply to every sector of the economy. And I'll mention a few where it's really difficult to apply a carbon taxes. Things like agriculture, livestock, deforestation, waste management, poor land use. It's very difficult to actually measure emissions from these sectors and these areas of the economy. And so it's very hard to monitor and effectively put a carbon tax on them. They usually require alternative policies. So if you want to have a scenario of effective decarbonization, carbon tax will always need to be supplemented. You'll also need to supplement a carbon tax with alternative policies because they are implementation

frictions. The paper assumes that implementation challenges overcome in real life. That's probably not going to be the case. There will be a lot of frictions. So finding the appropriate mix of policies that help implementation to be overcome would be important. And that's again, I think, a future piece of research. There was one interesting thing that I found. I don't know what you guys think about this, but I was looking at the Inflation Reduction Act

and the net zero carbon tax on chart 10. So I'm just advising everyone listening to this to go and read the paper and look at chart 10. You can Google it, right? Zandi. You can Google it. You can Google it. You can Google. It's a macro cost of climate inaction.

Yeah, you can get to it. And when you get through the paper and you get to chart 10, you'll see the difference in U.S. real GDP, and I'm looking at it now, policy scenario versus no climate change scenarios. And you've got all the different policy scenarios out there. And you show the inflation reduction act, the carbon tax scenario, and the next, net zero carbon tax. And what I see from there is that in the inflation reduction act, there's very little transition risk. And in the net zero carbon tax, there's much more transition risk. But in the inflation reduction act, there is correspondingly much more

physical risk and in the net zero carbon tax correspondingly much less physical risk. So what that tells me from my sort of naive reading of it is that the IRA scenario, the IRA policy is actually minimizing the costs of the current economy, putting a lot of cost on the future. So it's intergenerationalally quite inequitable. We're simply putting a lot of cost on future generations to bear because physical risk will be felt much later in the century and will be born much more by later generations. Whereas a net zero carbon tax, actually telegraphing policy now, being committed to it and getting out to net zero by 2050 feels on an intergenerational basis the right thing to do. We are not going to leave the burden of climate change.

to our sons and daughters and their children to bear with something we're going to take on now and deal with now. And then I found to be quite an interesting. That was for me what I took from that chart. This is not enough. This is not going. This is simply pushing the problem, continuing to push the problem out to future generations. So here, those were a few thoughts from me.

Very good. And I'm going to bring Bernard in just a second on the Inflation Reduction Act because that's what he spent a good amount of time on. And Bernard, maybe you can react to what Garab said in addition to everything else you want to talk about. But I have this kind of very simple way of thinking about climate risk. And it makes me feel better about things and makes me sleep at night easier. And that is the solution to climate risk is pretty simple. I mean, from an economic perspective, just tax the carbon, put a price on it.

I mean, yeah, there's all kinds of, you know, complications like the border adjustment and the dividend and so forth and so on. But, you know, you put a price on something, good things happen. You know, people use less of it. That means less carbon. People figure out ways to new technologies and innovation to get around it to use less of it. So, and we've got a lot of experience with that. Like, go back to the fossil fuel industry. You go back, I can remember 2008.

I think it was July 3rd, 2000, I'm making that up, but I'm within a day. Oil prices hit their all-time high. And everybody, everybody, Goldman Sachs on down was saying peak oil, we're running out of oil, $250, at that time it was $130, $40 a barrel. We're going to $250. That's where we're headed. And because prices were so high and the energy companies can make so much money, They invested and they came up with fracking.

And fracking changed the whole landscape, you know, very significantly. And, you know, it just goes to the point that, you know, if you put a price on something, if people can make money on something, they figure it out. So, yeah, I understand all the political issues with taxing carbon. It's very difficult to do politically. But at the end of the day, when push comes to shove, if we have to solve climate change, you just price it. Am I, is that just too simple the way of thinking things?

Rob? No, I completely agree with you. Good. Okay. The best way, best way to make an economy work effectively is to let prices do, prices work their magic. Prices have information. Prices send a signal.

They motivate people to do things. Yeah. Okay. All right. And this is the big difference between the carbon tax scenarios and the IRA. And the other simple way of looking at it is the carbon tax is a stick. You know, I'm going to, I'm going to hit you over the head if you use carbon and therefore you're going to lose use less carbon the IRA and of course you can

understand the political problems with that when you start seeing people over the head they get pretty upset and they say I don't want to do that and by the way I'm going to vote for the other guy and I'm going to give them money so that you can't do that and you know so forth and so on so the IRA ingeniously I think I mean although when you think about for a second maybe pretty straightforward is it's all about carrots or is that right I mean, incent people to do things by giving them tax credits and government spending, that kind of thing. Is that fair, is that fair, Bernard? That is entirely correct.

I mean, it's largely all about carrots. You know, if I were to split the IRA into three components, you know, you've got tax credits. You've got about $270 billion in tax credits, which largely, you know, are trying to incentivize the production of clean energy, the investment in renewable energy projects. and then also trying to address climate change through other avenues like carbon sequestration, clean fuels, and also clean energy manufacturing very much in the spirit of like the chipsack. And then there's also, you know, a lot of carrots extended to households and businesses for investing in energy efficiency at home and, you know, in commercial structures. And also, you know, a lot of clean vehicle tax incentives as well. So it's really the tax credits that really do the heavy lifting. You also have a direct spending by the government, but to a lesser extent, that's closer to about

$120 billion over the next decade. And this is, you know, a large chunk of this is really reducing emissions from agriculture and forestry. There's a lot of grants, loans, and rebates. And it taps into the procurement might of the federal government to really promote, you know, the adoption of clean energy and also incentivizing a lot of energy efficiency improvements in residential and industrial structures. It addresses air pollution. There's a lot of investment also in climate resilience, which isn't, you know, emissions reductions, but it really helps the

economy, especially in coastal communities and regions that are prone to droughts, you know, to whether, you know, the ravages of acute and chronic physical risk going forward. When it comes to the sticks, it's a very minor share of all this. There's about $20 billion over the next 10 years that you could consider to be pay-for's or revenue raisers. So you've got, most notably, you've got the Superfund tax that they're going to be imposing on crude oil and imported petroleum. And the revenue here is obviously going to be used to defray the cost of cleaning up hazardous waste sites. There's also going to be in a methane emissions reduction programs, which would be a fee on

excess methane emissions from the oil and gas industry. So that's really targeting, you know, methane leaks that really plague the natural gas output. So it's, you know, the vast majority of this is really carrots and only a very tiny, a tiny portion of this are sticks. You know, I think there's, again, I don't think this is the most efficient way of addressing climate change as the carbon tax as we've been discussing. but there's still a lot to like in the way these programs are set up. So I'll start first with the tax credits, because that's really the main impetus of this legislation. You know, the duration is very important. So these clean energy tax credits are really in place for, you know, for a decade or more, you know, in some cases to close decades, to two decades.

And that's very important for clean energy developers and investors who, you know, in recent times they've been, they've been facing. nonstop lapses and just last minute extensions of clean energy tax incentives. And then, you know, there's just a lot more flexibility in these tax, you know, in these tax credits than before. So in the federal tax code, you know, it's the two tax credits that are really do the heavy lifting in terms of incentivizing clean energy production is, you know, the investment tax credit, which is just an up fund credit against the, you know, the investment cost of a clean energy product. And then there's the production tax credit, which is a credit for every kilowatt hour of energy that's produced by renewables. And one really good point here is that the solar energy previously was only

eligible for the investment tax credit, but now it's going to be eligible so for the production tax credit. And this matters because as the cost of solar declines, that's going to make the investment tax credit less valuable versus the production tax credit. And then I think the last piece, this has gone a lot of also good feedback. generally from what I've seen is just there's it makes it much easier to monetize these uh all these tax credits uh because remember if you because these the production and the investment tax credits have generally been non-refundable and if you want to benefit from a non-refundable uh tax credit you have to have a tax liability and that's something that tax exempt entities like public power

agencies local governments uh rural electric cooperatives nonprofits nonprofits they don't have. So the IRA makes these, you know, essentially refundable for tax exempt entities. And it also allows, makes these tax credits for others who aren't tax exempt transferable. So that means that developers can transfer their credits to a third party in exchange for cash. And this is important because, you know, under the current system, there's a lot of tax equity financing where you've got an investor that provides capital in exchange, an investor that that provides capital for a clean energy project in exchange for the right to claim,

you know, the tax credit, these green energy tax credits and depreciation deductions. And the IRA, I don't think it's gonna go away, you do away with that, but it's gonna provide other alternatives to tax equity financing, which has high transaction costs that can be very prohibitive, especially for smaller scale developers, and especially for developers of more cutting edge,

clean energy technology. So there's some of the things that I really like. There's others, but there's still, again, there's a lot of risks and assumptions that we're making, as we discuss in the paper. Obviously, you know, we've been talking at nauseam over the past couple of years about labor supply constraints and global supply chain disruptions. Those are obviously concerns that could also constrain the amount of emissions reductions that we're assuming. But I guess the domestic content rules too, right? Exactly. Exactly.

Exactly. But I would say the biggest, biggest risk in our IRA scenario in which we're being a bit too over optimistic would be that we don't get enough, we don't expand transmission lines across the United States as fast or faster than the historical average. So decarbonizing the U.S. economy to the extent that we're expecting or we're modeling under the IRA, really. involves, you know, extending the existing grid that we have two areas where you've got abundance on wind and other renewables that can then be transported to, you know, where they need to go through transmission lines. But these transmission lines, you know, they're going to inevitably cut through state lines and just the process of securing property, you know, land rights, permitting, you know, just planning and citing these interstate electricity transmission lines is just a very

difficult task. You have to contend with the whole array of state authorities, also grassroots opposition. And one of the other outside sources that really helped us informed our analysis, the repeat project, they're from Princeton. They recently did another scenario where they were looking at a scenario in which transmission expansion does not occur, or occurs as slowly as it has historically. And they're basically saying is that the emissions reductions could be anywhere as much as 80% or 25% lower than what they had previously, that they would have forecast in a scenario where there's no constraints at all on transmission. So, you know, this is a big risk. Fortunately, there's the, the bipartisan infrastructure law addressed this. They propose some reforms.

and the IRA also provides some grants to accelerate, you know, the siting and permitting projects of transmissions. But I think that's really the big risk when I'm looking at our IRA scenario. That's very comprehensive. Can I just quick, I want to go to the game quickly before we do that. Do you want to respond to Garav's point about intergenerational effects that this kind of pushes the pain off into the future? I'm not sure I get that, but how do you react to that? Yeah, I see the point, you know, I see the point from the perspective of acute and physical risk. It is, we are benefiting the economy of today to, you know, to the detriment of, I think, future generations.

But I still think. Can you explain that, guys? I can't quite get my mind around that. Why is that the case? Because we have less, there's less transition risk today. there's less of a financial cost. Oh, I see. Yeah, I see.

Okay. Okay. But, you know, I was really thinking about a lot of this really from the fiscal perspective because there are significant, even under the, under the Inflation Reduction Act, you know, there are still, you know, we still benefit future generations from a reduced federal debt burden. And historically, you know, I look a lot of the federal, you know, the federal government an outlook. Every, you know, every six months we get a report from the congressional budget offices

that's warning about, you know, the long-term sustainability of the budget. And historically, we're always worrying about aging population, about, you know, the rising cost of Medicare and medical care and then just, you know, issues with long-run potential growth. But I think we really should add to that list of worries for the federal budget, you know, climate changes. I think, you know, that's another thing that I think our paper really showed. You really, you know, by reducing a lot of the economic losses and the burden on the government, you really have significant reductions in the debt to GDP ratio over the long term. And that, you know, that does benefit future generations. And it does help mitigate the worst of, you know,

the worst fiscal effects. And for, you know, the congressional budget office, they do incorporate, from what I've seen, they do incorporate climate change, but they're really looking only out through 2050. And what we're really showing is that it's really in the back half of this century where the fiscal costs in tandem with the environmental costs really rise significantly. Yeah, very good. I think that was a very comprehensive review of that paper. So hopefully listeners will take a look and find it of some value. Okay, we're going to go to the game before we call it quits. And Marissa has been biting at the bit here. Is it biting? at the bit? Is that the right thing?

Chomping. Chomping at the bit. I knew it's jumping at the bit. Well, biting sounds okay too, actually. Biting at the bit. Chomping at the bit with her statistics. So, and of course, the game is, each of us put forward a statistic,

and I'm not sure we're gonna eat, all of us have time to do that, but we put a statistic forward. The rest of us try to figure it out with clues and questions deductive reasoning. And the best statistic is one that's not so easy that we all get it so fast,

but one that's so hard we never get. it. And bonus, if it's relevant to the topic at hand. But fire away, Marissa. Okay, it's not relevant to the topic at hand. Oh, okay. Put that out there right now. Minus 0.8% in October. And this was a statistic that came out this week. Correct. Is it in the retail sales report? No. Okay. Is it in the industrial production report? No. Is it one of the Fed regional? No. Regional Fed report.

Is it in the PPI report? No. That didn't come out this week. Didn't? Or it did come out. It did. It did. Yeah.

Was that last week? Yeah. It was favorable. Bernard knows. It was favorable. That's right. It was the last week. It was this week.

Oh, yeah. This week. Monday or Tuesday? It's all. It was Tuesday, I think. Okay. this is getting tough. Is it housing-related?

Is this something Bernard should know? Ah. Because Bernard's tracking all the real-time economic data. As an economist, Bernard should know. Sure. Oh, okay. We all should know. Well, can you give us a hint?

So you asked me what one of my favorite, when we were talking about the probability of recession and indicators, and you asked me what one of my... favorite ones to look at. This is one of my favorite ones to look at. It is surrounding the conversation about the yield curve and how predictive

it is about recessions. This one is also quite predictive of recessions. Minus. Point eight. The Empire State Manufacturing Index? No. I thought you guys would get this.

Really? Right off of that. Yeah. Wow. Minus. Point eight. Is it a conference board leading indicators? Yes, it is. Very good. It came out this morning. It came out actually right before we started talking. Yeah, came out a little after 10.

And this is the leading indicators. That's correct. That's right. So this is the conference board's leading economic indicator index. It is pretty good at predicting recession over a six to nine month period. The decline in October was the eighth consecutive decline over the month. And it was the largest decline that we've seen in one month, abstracting from the pandemic. So if I take out March, April, March and April 2020, it was the largest decline we've seen since March of 2009, which was the last month of the Great Recession.

It's pretty dour. It is well into recessionary signaling territory. Like well below it. I'm guessing that what's driving that. Stock market permits for housing for sure. Yeah, housing is in there. The yield curve is in there. The yield curve is in there.

The Michigan Consumer Confidence Survey is in there. And these things, as we know, have all been bad. UI claims are great. But yeah, that's in there. Are they? That's deteriorating. Yeah, that's true. They're not helping lift.

They're not helping. Yeah, they're not helping lift the L.E. They're still incredibly low. Or can I ask it this way? I think there's, I'm speaking for memory, eight different indicators that are included. I think there's 10. 10, okay, 10. There's 10 different indicators.

Are there any that showed any kind of positive in the month? That's a good question. I didn't look at each individual indicator, but if I look at, I mean, there's new orders. Because I said what I want to focus on. Just saying. The one out of the 10 that showed positive, yeah. Exactly. That's the most important one.

There were three that increased. Okay, what were they, Chris? Largest possible interest rate spread. Okay. Manufactures new orders for non-defense capital goods. Okay. Those are two, yeah. Manufacturing new orders for consumer goods.

Oh, okay. Those seem like low on the list of, yeah. In terms of importance, right? Yeah, importance. Yeah, too bad. Okay. All right, that was good, though. We should have gotten out.

Although, it was this morning, that was the issue. I've been on Zoom for a morning. I snuck in and grabbed that. Nicely done. Nicely done. Nicely, very, very tricky. All right, let's, who wants to go next? Garavu, you want to go?

Do you have a statistic? You want to throw out there? Yeah, I can come up with a statistic. It's not a conventional economic indicator, but it is linked to the paper we just discussed. Okay, far away. And the number, the number is 52. That's not the meaning of life because that's 42, okay.

Yes. That's where my mind went. That's exactly. Yeah, that's what I was thinking. The meaning of life, the universe and everything, as we all know, is 42. My number is 52. 52. Number that came out this week.

It didn't come out this week. It came out in, I guess, yeah, the last month or so. And it's climate-related. And it's a number that you wouldn't find very easily. I've got to confess. you've got to read a fairly dense report to get to this number it's climate related and it's climate related go ahead chris is it a number of countries a no not the number of countries that did something it's specifically related to a very important concept in that climate paper

carbon that you have to carbon yes carbon there's some kind of um uh physical physical it's a physical it's a physical related, right? So something in the physical environment. Correct. If you get about 52 degrees C, you've got a real problem or something. No, no, no. But you're right. You're right. It's related to the physical environment, but it's not, it's not temperature.

What was that, what's that called? You know what I'm talking about? Yeah, yeah. Yeah, the wet bulb. Yeah, the wet bulb. And what's that, what's that temperature? Do you know? Is that temperature really?

Yeah, there, there's a, go, I think it's 52 degree C. I'm just saying. No, wet bulb. Is it about 35? No, it's not 52C, and that's not the probability of recession, at least not my probability of recession. All right. Should I just?

Yeah, far away. No, no, you're free. So it's the median estimate of gigatons of CO2 equivalent for all greenhouse gases emissions by 2030, right? So that's the number, 52 gigatons of CO2 in that emissions in 2030. if all signatories to the Paris Accord implement all their pledges. That's where we'll get to.

And in annual, in 2030, the annual emissions will be 52 gigatons of CO2 equivalent for all greenhouse gases if all signatories to the Paris Accord implement all their pledges. In 2019, that number was about 50, just 54 and a half. So if all, if all pledges are actually put into effect, then we will bend the emissions curve by 2030 as a world.

Oh, goodness. That sounds like a lot of gigatons. That's a lot of gigatons. Even if we do what we probably won't do, it's still a lot of gigathons. It's still a lot of gigatons. And it basically tells us that we'll still blow through 1.5 degrees, which is the ambition of the Paris Accord.

That's 1.5 increase in above its pre-industrial era. And that's kind of the bogey here, but it feels like we're going to believe. right through that. We're going to blow through that. Yeah. Unfortunately. In fact, and I think on our baseline forecast for the U.S. or global, we're assuming two and a half

degree C, aren't we? Yeah, that, by the way, is exactly what the UN comes up with its emissions gap report, which is, by the way, this very dense report from where I picked out this fantastic statistic. So the UN gap report for 2022, and it's a great report which they compile every year, look at all these NDCs, and they lay out how much they think temperatures could go up by if various things. get done. And the median estimate for global warming by 2100 is 2.5 degrees. Yeah. Okay. Okay. So we're right in the, right down the strike zone here. Yeah. Okay. Let's do one more because this is getting pretty long in the tooth. And let's go to

Bernard in honor of his, because he's recently taken on more responsibility, economic view, and is really focused on the real-time statistics. And as you could tell from- Which is why he is the one so far who's not in the statistic. Yeah, I know, and you can tell from his description of the Inflation Reduction Act, he is very detail-oriented. Really a good thing. Fire away, Bernard. So it's negative 4,000.

Negative 4,000. Is it a statistic that came out this week? Yep. Is it climate related? No, no, no. No. Is that the decline in initial UI claims? Yep, ding, ding, ding.

Oh, okay. Now, that is pretty impressive. Rob, what would you say? No sarcasm. I'm speechless. I'm speechless. I'm speechless. Everyone, come on.

Yeah, I had actually, I was thinking your eye claims before you said it. Yeah. I'm just a rude. It's more reserved. It's more reserved. I think the word is humble, is humble. I am anything but humble. given the opportunity.

The reason why I brought this up is because, you know, there's been, we've been getting a lot of questions about all the steady drumbeat and the news about tech layoffs. So, you know, there's just been nonstop from meta, Amazon, all the turmoil in Twitter right now. So there's been,

you know, I think some people have been incorrectly saying, oh, all of these tech layoffs are an impending sign of doom or recession. But, you know, I would really push back. And especially, you know, people are also saying,

like, what's going to happen to jobless, claims because by our count, you know, there's been about close to 40,000 job cuts in tech just this month as of yesterday. And obviously, if all of those show up in jobless claims, that's going to really push us jobless claims close to the break, even, which would be breaking level, which would be close to, you know, zero or lower growth in jobs. But, you know, I think a lot of these, you know, if you look at the information sector right now, job openings are very high. They're off their peaks, but they're still. very high. So I would assume a lot of these people are really going to find, you know, jobs pretty

quickly. Also, you know, a lot of these folks are also going to be getting three months or so severance pay. So that's also going to be enough of a financial backstop to, you know, bridge them over, you know, until they find a new job. So I don't really see this as, you know, tech is not really in an area of the labor market that I would look for signs about, you know, a forthcoming recession. It's always, you know, I think temporary help is a much better indicator of, of labor demand. Well, that,

and I should say, you are doing a lot of writing now on the daily indicators, and you wrote, you wrote this up in your release yesterday. Yeah, yesterday. Yeah, exactly.

Yeah, and it's really well done. Kudos. I mean, really, I enjoy reading it, which is, I don't enjoy reading much,

but I really enjoy reading that. So that was very, very good. Okay, I think we're going to call it quits. Are you okay with that, Chris Lafack? and Dorides. Did you notice Chris was drinking Wawa coffee?

I noticed that. A very large one as well. A very large one. And this is not, I think he wants to be more associated with the everyday man, you know, because, you know, giving his glasses. He's offsetting the glasses. Yeah. And the lot teas, he drinks, a little sippy thing he has, you know. Is it a hot latte? I just like coffee. Yeah. All it's forms. Very good. Very good. Well, thanks everyone for spending an hour and a half with us. I thought was very informative. And we'll talk to you next week. Take care now.