Odd Lots - Emerging Markets Have Never Experienced A Crisis Like This Before

Episode Date: April 20, 2020

With major economies around the world coming to a screeching halt, emerging markets are in a squeeze of historic proportions. Not only are they being buffeted by a domestic health crisis, but export industries are getting clobbered at the same time as access to dollars is drying up. On this episode, we speak with Brad Setser of the Council on Foreign Relations on the historic nature of this episode, which countries are particularly vulnerable, and what policies might allow for a way out.See omnystudio.com/listener for privacy information.

And welcome to another episode of the Oblots podcast. I'm Joe Wisenpaw. And I'm Tracy All the Way. Tracy, I hate to do this, but I have to troll. I knew it. I knew you were going to do this. I knew it. I'll spare you. I'll spare you the effort. But yes, there is a crisis that we haven't covered yet. I'm never going to let you forget the time when you said that we had touched all the basis of this. So there were clearly several more major areas that we had yet to discuss. But we're starting to get there in terms of hitting all the really big themes, I think.

Okay. Okay. I'm not going to respond. But yes, go ahead. What of the many crises will we be covering today? Okay. So one that we definitely have not talked about yet is emerging markets. And, you know, there are all kinds of aspects to a extraordinary.

economic disruption of this sort, the likes of which we've never seen in terms of essentially a mandated halt to so many businesses worldwide. But one acute vulnerability point is obviously emerging markets, countries whose economies may rely on tourism or other exports to richer countries, countries that have a lot of dollar-denominated debts but are suddenly finding it very it's difficult to acquire those dollars in their normal means of business. This is a huge shock domestically for many countries, but also a huge shock to world trade. And of course, emerging markets are sort of necessarily the most at risk here. Right. So you have this perfect storm, really, of pressures on emerging markets. You have the big spike in the dollar, which, as you mentioned,

causes pain for emerging markets in different ways, a bunch of different ways. You also have the contraction in global trade. You have the fall in the oil price, which is bad if you're an oil exporting developing nation. And then, of course, you have the coronavirus pandemic itself, which could disproportionately impact developing countries, given that they have fewer health resources, fewer financial resources and different, not really ideal living conditions to actually battle the virus. So, yeah, it's a pretty bad. for EM at the moment. Right. The way, as you put it, they're really sort of like just being buffeted on every side right now. So our guest today, and I feel like our guest today is yet another one of our recent guests that deserves when we eventually get oddlots tote bags or something like this,

because this might be his fourth or fifth time. We've talked to Dan Wings several times. We've talked to Chris White several times. And of course, our guest today, Brad Setser, it's, got to be at least his fifth time talking to us since we launched the podcast, but he has been tracking the EM angle very closely and really has been for years, but now sort of with this particular crisis. And so we'll sort of get a broad overview of the crisis facing different EMs and what needs to be done going forward. So without further ado, Brad Sessler, thank you very much for joining us. That's a great pleasure. Brad, just sort of big picture, how does this shock to the real economy for EMs as a whole?

And I know people always say, you can't look at EMs as a whole. And every country has its unique situation. But as a whole, how does it compare to prior major downturns in global trade or the global economy? And this shock is clearly going to be significantly worse than the, 2008 shock, the global financial crisis, it's clearly going to be significantly worse than the Asian financial crisis. I think this is across a range of measures, you know, it is the biggest shock the emerging world has faced in the last 30 years. Yeah, I think I saw someone on Twitter describing the current economic situation or the crisis as sort of like the Spanish flu meets great depression,

meets 2008 financial crisis, meets Asia financial crisis, which is a pretty terrible mix. When it comes to EMS, what would you say is the biggest pressure point at the moment? What's causing the most pain? Well, I think there are two distinct pressure points. One pressure point is the global financial crisis analog pressure point. those countries that have borrowed in dollars or those countries that have a large dependence on foreign investors holding their local currency debt, have had difficulty borrowing dollars and have had to manage a world where a lot of foreign investors are pulling money out. And then that's been combined

with a shock to global trade, but a particularly sharp shock to global trade in tourism and global commodity prices. So a symmetric fall in trade, it obviously hurts activity, but it doesn't create gaps between exports and imports. But if you're reliant on tourism and tourism goes to zero, all of a sudden you can't pay your import bill. If you rely on oil exports and your break-even used to be 50 or 60, and you can't get $20 a barrel today for lower volumes, all of a sudden, again, you can't cover your import bill. So it's the combination of the financial shock and the real shock, the real shock to trade. The shock to health is almost certainly coming.

But I think there, for most emerging economies, that's something that'll play out over the next month. Before we go any further, a little bit of housekeeping. Two points is A, of course, we've had Brad on so many times. I didn't even really properly introduce him in the beginning, but he is a senior fellow with the Council on Foreign Relations, as well as a senior advisor of Exante data. I just feel like, so hopefully most of our listeners have heard Brad or followed him for a long time, but forgot to do that. Also, another crucial piece.

We went the no introduction, necessary route. Which is a form of praise, really. And also another crucial form of consideration. We're recording this April 9th, 2020. And we've been saying that a lot. We want people to know exactly which day it's been recording because things are moving so fast. But there's another special reason it's important to bear in mind the day that we're recording this, which is that next week, which is when people will likely be listening to this, is the IMF spring meetings, and those, of course, take on new urgency in light of the sort of twin shocks that Brad has just described. So, of course, we're recording this before those happened, and we don't know what will have been

announced by the time you're listening. But sort of, Brad, that gives us a chance to pivot, again, sort of big picture, what is the role. of the IMF in alleviating some of the acute crisis and what does it have in its toolbox when so many countries are all suffering at the exact same time? So the IMF's role, broadly speaking, is to lend reserves foreign exchange reserves to countries that don't have enough foreign exchange reserves. And that may be countries that don't have enough foreign exchange reserves relative to their short-term debt that is coming due.

Maybe that countries that don't have enough foreign exchange reserves relative to the number of foreign investors in their local markets who want to get out. Or it may be that countries that don't have enough foreign exchange reserves to cover the fall off in their exports without reducing their imports very dramatically. Now, there's some details.

You know, the IMF can, in the process of providing balance of payment support, also provide budget finance, and that certainly will have a role. But in general, the IMF is an institution that is designed to provide countries that need reserves with reserves, and to lend people reserves for longer periods of time and for a broader set of uses than, say, the, kind of foreign exchange, which is provided through, say, the Fed swap lines, which is really short-term lending to support short-term funding needs of banks. The IMF has a lot more flexibility. It lends for several years, varies a little bit, but it usually lends in conjunction with a program of some reform and policy change. Now, look, we're in a different world than the usual world, the reforms or policy changes that may go with the IMF lending. And in this context, maybe the IMF ask you to spend more on your public health system or the IMF ask you to increase

the amount of public spending to poor families. I don't think the conditionality needs to be thought of as the traditional conditionality in all cases. And that will be interesting to see whether or not we get an element of that in next week's IMF meetings. Just when it comes to the state of FX reserves in emerging markets, can you give us a sort of high-level overview of what those look like right now? Who is best positioned in this environment and who is maybe worse off? So sure. I mean, there are a set of emerging economies that basically interact with the global economy as creditors. They have more foreign assets than they have foreign liabilities.

In many cases, they have more liquid foreign exchange reserves in their central bank than they have external debt. That is broadly a description of Korea. It's broadly a description of China. It is certainly a description of Taiwan. It is a description of Thailand. On the other end of the spectrum are emerging markets that have almost no reserves or almost no reserves that they haven't borrowed from their own banks and have substantial external debts. The most extreme case is Lebanon.

But Turkey falls in that category. And then you have, I think Argentina, broadly speaking, as we all know, falls in that category. And then you have a set of countries in the middle, countries that do have reserves, that do have already pre-negotiated credit lines from the IMF, but have substantial external debt. and it is possible that the withdrawal of foreign credit, together with a loss of export receipts, could leave them short reserves. So those are countries like Colombia or Indonesia, South Africa, and in bad states of the world, even a country like Mexico, which is a special case because of this relationship with the United States. And then that same split is present amongst the oil exporting economies. Saudi Arabia and Russia are the two biggest. Both have about a half trillion in reserves.

That's enough that they can, broadly speaking, cover their imports this year, even if oil doesn't rebound and still have enough reserves so there's no real threat to financials to do it. But then there are much weaker oil exporting economies, Algeria, Oman. and gold, Nigeria, Ecuador, obviously, the list goes on and on. And those countries, broadly speaking, lack enough foreign exchange inflow to pay their foreign debts right now. I have a question that might be a little stupid, and it's not facetious, but I think some people might interpret it as such. Does a country like Argentina, which has spent years of being sort of closet disconnected already from the global financial system due to all of its defaults.

Is this less of a shock in a weird way to them because this is sort of business as usual? Yes, I think that's right, actually. It's less of a shock because even before the coronavirus, Argentina was seeking a debt restructuring for all of its external debt, and that debt restructuring was going to involve almost no near-term payments. So, it was. Essentially, their creditors were already anticipating a deep loss and no near-term cash flow. It's also a smaller shock just because of the structure of Argentina's exports, to be honest. Argentina exports soybeans, wheat, and beef. And if you think of the kind of trade that is likely to see the least disruption, that's trade.

in basic foods. And while soy is an input into the production of chicken and pork, it's a pretty important input. And so therefore, Argentina's trade is going to see somewhat less disruption. So I think both on the financial side, Argentina was already essentially heading to default, already not going to be paying, already reliant on the IMF. And on the current account side, they happen to be in a position where there's a reasonable basis for thinking that they'll see a smaller loss and exports. But you can look at other countries like Lebanon, which is very reliant on tourism and remittances and faces an even bigger problem, even though they too essentially entered the coronavirus shock in default.

Right. We actually have an odd lot's episode with Paul McNamara talking specifically. about the situation in Lebanon from a few months ago, and I don't think things have improved since then. I wanted to go back just to the idea of external debt in emerging markets. It's not like this hasn't been on people's radars before. We saw the Bank for International Settlements, for instance, writing over and over and over that dollar-denominated borrowing was a potential vulnerability in emerging markets. And now it seems like it could really come. back to haunt them. We did see some emerging market economies that did try to borrow more through

domestic currency bonds. Has that helped them at all? Yes. I think it obviously helps if your currency falls 20%, if your debt is denominated in your own currency. If your debt's denominated in foreign currency, the real burden of that debt goes up. It hasn't been a panacea. The fact that a lot of foreign investors were holding local currency debt meant that they were more exposed to currency moves and in their efforts to limit their exposure to further falls in the currency, they would sell, and that puts pressure on the local bond market. It puts pressure, obviously, on the exchange rate. So in that sense, it became an amplifier of a lot of the currency moves. But in a sort of strange way, it amplifies those moves, which is bad.

But it makes the country itself less vulnerable to the impact of an undervalued currency. But it clearly has introduced a new type of dynamic into the market. And that dynamic can in its own way be destabilized. So, Brad, obviously one of the questions out there is we don't really know, and everyone's just sort of guessing what post-crisis economic behavior will look like. Presumably, some tourism will come back, but we don't know how many years it will take for tourism to return to, say, 2019 levels or people to be comfortable traveling at the same degree. They did. We don't know the degree to which a rich country like the U.S. may choose to prioritize importing fewer things, especially after what we've seen in terms of shortages of masks and ventilators and other sort of basic equipment. Will this, in your view, create a rethink

about these sort of financial and growth models that EMs have currently undertaken in terms of the presumption that tourist revenue or export revenue just might not be there again. And how much could we plausibly expect to see that at all change? You know, I think it's a good question. It's a hard question. I think I think you're right to say that those emerging markets that were most reliant on tourism face a particularly difficult challenge. You know, the, Those emerging economies most reliant on oil also potentially face a long-run challenge. Depends on the extent to which oil demand rebounds and where the long-run price settles. But you could imagine this not being a temporary shock.

And then manufacturing heavy East Asia does face a shock to their growth models, and China in particular, if the world. moves away from a model of what you might call full globalization, which would be if all of our phones come from China and all of our personal protective equipment comes from China, that's fine. That's more efficient to a world where there's more desire for at least regionalization of supply chains, if not nationalization, and a much higher priority on resilience. can mean bigger stockpiles, but resilience can also mean local manufacturers who have the capacity to ramp up production in bad states of the world. So I do think that there will be some very significant

challenges. In some cases, that may create new opportunities. A world where there is more regionalization of supply chains, particularly in North America, would arguably be good for Mexico at the expense of China. And it would help Mexico manage the loss of oil export revenue and the tax revenue that Mexico has historically gotten from its oil production. But it does imply some important long-run adjustments on the part of many economies. Speaking of long-run adjustments, we're talking a lot about the vulnerability of emerging markets that have borrowed in dollars,

the attempts to shift away from that little bit and issue more local currency debt. Would you expect the current crisis to lead to a significant shift in the relationship between emerging markets and the U.S. dollar? Would more EM countries potentially try to move away from dollar dependence? Well, it's hard to move away from dollar dependence if creditors still want to lend to you in dollars. And given the volatility in emerging currencies, I can see in some sense more pressure for those economies who want to still borrow to borrow in hard currency, just because the creditor side,

may be less willing to take local currency risk. We don't know. You know, what I think the general move is likely to be towards more resilient balance sheets across the board, so higher reserves, less external debt. And in a world of less external debt, if you can manage it, less hard currency debt. the countervailing pressure on all of that is that there are a set of countries that really don't want to adjust in the near term, and they may go out and borrow an awful lot of dollars. I'm thinking of a country like Saudi Arabia, which has a choice, threefold choice.

It can either reduce its imports to reflect lower levels of oil exports, lower revenues from oil exports, or it can maintain its imports at relatively high levels and make up for the deficit in foreign exchange by borrowing, probably in dollars, or it can run down its reserves. So I would think that, you know, for Saudi Arabia, the easiest choice might well be more borrowing and a less resilient balance sheet. So I think the response will vary. But the basic lesson here is that only emerging economies with four, fortress-like external balance sheets will be able to come off relatively well.

So I think the pressure, general direction of pressure will be towards more fortress-like balance sheets. One of the reasons why I think it's important that the IMF be very aggressive and, in some ways, very generous in its response. Because if every country wants to have a fortress balance sheet, that introduces inefficiencies of its own. And so you would want, in some sense, insurance mechanisms to help absorb true exogenous shocks so that every country in the world doesn't try to self-insure. And in principle, that's as a role that the IMF and the other multilaterals could play. Speaking of countries that have fortress balance sheets that we haven't really talked about much, obviously China, which still has an extraordinary monophore. reserves and has shown the ability to sort of withstand the acute phase of this crisis and use domestic firepower to maintain its economy. It appears to be coming back online. Nonetheless,

it's going to face pressure, particularly if there is any sort of modest de-globalization, because, again, exports and so forth. What do you see as potential course shifts that we could be looking for it from the sort of Chinese economic model going forward? So I think, you know, there's a couple of powerful offsetting forces that are impacting China and China is a external position right now. One is the broad contraction in all trade, which hurts China because China trades a lot. probably hurts activity as much as it hurts the balance of payments. And then China, because it is the world's biggest commodity importer,

stands to be the biggest winner from lower oil prices. And because China has been such a huge source of tourists, the lockdown and the fall in tourism has significantly reduced China's imports and therefore it works to improve China's balance of payments. So in the short run, I don't actually see any pressure on China's balance of payments, if anything. I think as China's exports, particularly of medical equipment ramp up and as the full impact of lower oil prices shows up in China's import data, China's surplus, in my view, is likely rise.

But that rise will come with less activity. It's going to be an increase in your surplus when you're exporting less and importing less. So there is still a shock to China's economy. And there's obviously been a shock to China's economy from the measures that China has taken to slow the spread of the virus internally. And I think now China, broadly speaking, confronts a choice between two different growth models. I don't think going back to the 2007-2008 export-driven growth model is a viable option in today's world. That would be a world where China's current account surplus goes to like 10% of Chinese GDP or a trillion dollars. And the world becomes more dependent on Chinese manufacturing.

And there's fairly obvious reasons why that's not a politically or are economically acceptable outcome right now. So then China either has to maintain domestic dynamism through a very high level of investment. And that has been done through a mix of loose credit for state-sponsored firms, a lot of government-sponsored. sponsored industrial policy projects, and then a lot of quasi-public investment, often done by local governments, all the things we used to spend all sorts of time talking about. There's no reason why, given China's high savings rate, it couldn't try to do that yet again and generate a bit of a recovery using the tried and true Chinese investment from a bond. of growth model.

The alternative, and it's one I'm personally drawn to, is a world where China radically reforms its system of tax and its system of spending. China actually has an incredibly regressive tax system. China collects 1.3 percentage points of its GDP and income tax, which is an extremely low number in the U.S., and, you know, we aren't considered a high tax country, We get 10% of GDP from personal income tax.

So China is at one-eighth of our level. The system of social contributions has a very high minimum contribution for urban workers, which means that in a lot of cases, the poorer you are, the bigger your tax burden. And then rural workers, those who lack the right hooko household residency, don't pay into the system of social contributions. their lower costs to the employer, but they also don't get urban social benefits. So a system where China reformed is taxation, and really quite radically, much bigger collections from income tax, completely rethought distribution of the burden of social contributions.

Subsidy, income subsidies for low-wage work like we have in the U.S. through the earned income tax credit, combined with much more spending on public health, much less of an out-of-pocket expense for Chinese workers who seek routine medical care and an expansion of social benefits so that migrant workers can send their children to school where they work, rather than having to have them educated where they're from and live with their grandparents. that kind of deep transformation faces enormous resistance, but I think that's by far the best pass forward to China. And I think it's got some really positive externalities for the world.

A lot more investment in public health in China sounds like something that would have been great to have done five years ago. Brad, just going back to the world of emerging markets as a whole, And I know we're not supposed to treat it as one big homogenous blob. But I'm wondering if there's an indicator or one linchpin that you are currently watching to gauge just how bad the difficulties or the crisis in EM could actually get. I'm not really watching one. I think, you know, I'm watching the oil price, knowing that it splits emerging economies into winners and losers. But the more extreme, the move and the longer the move, the deeper the loss and the losers.

And then, you know, any index of the dollar against a basket of emerging market currencies that excludes China, I think is a good proxy for stress. The IIF's capital flow data, high-frequency capital flow data, is now widely followed and they've done a really good job. And I also watch that very closely. So following on Tracy's question about EM as a whole, and as we were talking about in the beginning, people will be listening to this at the sort of during the period of the IMF spring meeting. And you've talked sort of generally about the need for the IMF to be generous here and what it can do and sort of providing reserves. what has it already done and what specifically insertive its toolbox should it do that it's never done before if it's a crisis that it's never experienced on this scale?

And how is the IMF itself liquidity or capital constraint? Because I don't think I have a great feel for the IMF's own constraints, where they come from, and how aggressive, the sort of the natural limitations on its own ability to be aggressive. Sure. So, I mean, I think what the IMF is now doing is, it has a set of rapid financing instruments that are generally give countries low levels of access, but they get the access very quickly and an enormous number of countries. I think it's close to 90 have applied for access to these rapid financing vehicles, which will get somewhere. between $50 and $100 billion out the door. And then the IMF has pre-existing credit lines with Mexico and Columbia. Those lines haven't been drawn, but they are available. So that would sort of define, I think, the IMF's existing response. To think about what more the IMF could do, I guess it probably helps to start by talking about

the IMF's liquidity position. The IMF's capital position isn't a real constraint. The World Bank runs on a capital model. The IMF runs on a quota model, and it sets aside loan loss reserves and the like. But essentially, the IMF takes contributions, it doesn't lever them up in the outside market, and then it wins them out. Because it is the preferred creditor, it historically has always been paid. So it doesn't operate on a capital model where it has to use a small amount of equity capital to support a broad amount of lending.

It operates more on a pooling model whereby contributions from its members are pooled and lent out. And the fact that defaulting on the IMF is defaulting on the world effectively assures payment. The IMF now has about $600 billion in quota resources or permanent contributions. It's lent out about $200, and not all of the quota contributions are what the IMF calls usable. Some countries contribute in their own currency, and it's not very practical to lend that out. In addition, the IMF now has $225 billion supplemental credit lines. from many of its members called the new arrangement to borrow, which allows the IMF to borrow from a subset of its membership to increase its lending capacity. That is already expected to go to around

$450 billion at the end of this year. A lot of people, Ted Truman, leading the way, have said that this should be accelerated. And I hope that is agreed at the meetings next week. The U.S. already has approval from Congress to bring forward the U.S. contribution to the new arrangements to borrow. So it's just a matter of getting all the needed approvals. And then there's a final backup credit line, the set of bilateral loans from members of the IMF. That is now $400 billion, but it is set to fall to $200 billion when the new arrangement to borrow expands. And a lot of people have suggested, hey, in the face of a global crisis, why bring this backup line of credit down?

Keep it at its current level of 400. So if the IMF were to agree at the meetings or its members were to agree to bring forward the expansion of the new arrangement tomorrow and keep the current bilateral lines available, then the IMF would really have close to. a trillion dollars in new lending capacity on top of the 200 billion or so that is already committed. Now, the precise amount that's already committed, that's going to change of more of these rapid instruments are approved, but that gives you a ballpark estimate of the size. Now, there's one other thing the IMF can do, which is a little complex and generates a lot of controversy, and it's called an SDR allocation. The SDR is the IMF's unit of account.

It's basically a basket of the world's biggest currencies, mostly dollars and euros. And the IMF, thanks to John Maynard Keynes, has the authority to give all of its members SDRs, which active reserves. It's called an SDR allocation. And right now, the IMF could put. provide a 500 billion SDR allocation with the support of the U.S. administration, but without a congressional vote. Anything much more than that would require a congressional vote. Now, the IMF has kind of indicated they're not going to push this right now, which I think is a mistake.

I presume that's because the U.S. has indicated it doesn't support it right now, which I also think is a mistake. This is a time when I think almost all countries around the world do need more reserves. And this is a way of getting those reserves out into the system very quickly. So the special drawing rights issue has sort of been on the radar for years and years now. Why do you think there's so much resistance to it? I mean, it is kind of global money creation. And a lot of people don't like the idea of an international institution create global money or reserves foreign exchange reserves. And then it's not targeted.

So it goes to all members. That includes some members that the United States doesn't like. But, you know, hey, I've noted the biggest beneficiary is actually the United States. And given how creative the Treasury has been recently in using the exchange stabilization fund, which is the United States' own reserves to backstop Fed lending. It's kind of a pennywise but pound foolish to get obsessed about Iran's small SDR allocation and deny yourself a much bigger SDR allocation, which you've already shown in the U.S.'s case, you know how to use and use effectively and creatively. But those are the kinds of arguments.

It is an increase in everyone's reserves in proportion to their, quote our contribution to the IF. Before we go, I want to go back real quickly to what we were talking about before with regards to the potential path of Chinese reforms that they could take. You sort of stress that this would be a good opportunity to rethink there's domestic redistribution. It's something we've talked about with Michael Pettis in the past as well. If we were to see a more robust sort of Chinese household sector, basically, more buying power among the lower and middle classes, presumably more external demand for goods. Could this, in theory, be the beginning of a further internationalization of the Chinese U.N. in terms of the sort of need to, if there were domestic

buyers of all kinds of goods, not just commodities and not just tourists, could this begin to accelerate that process? And it could be part of that. I don't think there's a direct line between the reforms to China's taxation and public spending that I've called for and a broader global role for China's currency. The broader global role depends to some degree on the willingness of the world to hold Yuan denominated assets, C&Y denominated assets. That's partially a function of China's exchange. rate choices, partially a function of the people's confidence that if you put money into China, you can get it out in times of stress, and partially a function of, you know, kind of the broader utility of the Chinese yuan and settling global transactions. And right now, you know, trade between Africa and Europe is not denominated in Chinese yuan. It's denominated in dollars. And I still think it's more likely if there's a change, the change will be towards more trade denominated in

euros than to award more trade denominating yuan outside of trade with China's immediate neighbors. Now, one thing that I would note here is that a China that has a more consumer-oriented economy is in some ways a China that needs to trade less. China is perfectly capable of making its own consumer goods. It tends to import investment goods and tends to import commodities. So I don't necessarily think this is a China that is out in the global market sucking in consumer goods from the rest of the world. I think it's more likely that it is a China that imports less and the China that also exports less. And that would be kind of consistent with she's vision, and China 2025 of national self-reliance,

but it's also consistent with a desire on the part of many of China's current big trading partners for more resilience and more diversity in their supply chains. So I can imagine it being part of a somewhat less globalized world, and in that world, there may be less pressure to move away from the dollar. Brad, finally then, to that point,

I mean, again, we don't know what the future policy paths look like. Would you say the U.S. is in that situation where if political leaders chose to, it could more or less close itself off to the world from a trade standpoint in terms of adequate domestic demand and capability of building the things it needs? Well, I mean, right now, the U.S. is, well, I shouldn't say right now. I say, you know, over the past 20 years, the U.S. has generated surplus domestic demand, which it has shared with the world. That's what ongoing trade deficits mean. And as a result, the U.S. has less robust and well-developed supply chains in a lot of industries than some of our big trade competitors.

I mean, one thing which probably should get more attention going forward is that our biggest export industry by far, particularly when you look at exports outside of the immediate neighborhood of Canada and Mexico, is aircraft. And one sector that is likely to have a persistent decline is aircraft. less tourism equals less travel equals less demand for planes. And then Boeing has some self-created problems as well. So in that sense, the U.S. does face a challenge of offsetting the loss of a big export sector, not the loss, but a reduction in size of its very large export sector, and making that up with new domestic sectors or new export sectors. But the bigger point is that the bigger your home market, in general,

the less absolute need you have to trade is, I think, true. But that doesn't mean that shutting yourself off from trade doesn't still have cost. And I think the challenge is kind of finding the right balance going forward between resilience. and the advantages and efficiencies created by integration. I think that there will be a shift towards greater priority on resilience, and there should be. I certainly think the U.S. should get rid of the tax incentives that now encourage the offshoring of pharmaceutical production. That's a separate issue.

And, you know, as the world moves towards a higher priority on resilience, There'll be a little bit less emphasis on efficiency. But in my view, it's not, you don't go to absolute resilience and give up all efficiencies from trade, nor do you remain in a world or any efficiency, including the less savory tax efficiencies that many companies now exploit through their global supply chain are tolerated and encouraged.

So getting that new balance right to me. me as a policy imperative for the next three years. Brad, thank you so much for joining us. That was a fantastic conversation, and I'm sure we'll have you back on again before too long. Very good. We'll get you that tote bag. Yeah. Bye.

You know, Tracy, obviously when we booked Brad, I think the focus was to some extent, okay, what's the EM angle on this crisis? And we certainly hit that. But I don't think there's anyone we talk to regularly that's capable of pulling in so many different threads and connecting it all together, including at the end how U.S. tax policy encouraged the offshoring of pharmaceutical manufacturer and how that's coming to haunt the U.S. in the past. There's no one who can pull it together like Brad. Yeah, Brad has an uncanny ability to really get to the biggest theme. possible in a given subject. So he's basically talking about rebalancing the entire U.S. economy and also the Chinese economy. And obviously, that's a big deal. I think a lot about how we're probably

going to see pressure to do this at the same time that the government is dealing with the coronavirus. So a U.S. government and also potentially emerging market economies are basically going to be under pressure to reform their economies or change them in some really, really big ways at the same time that all the virus drama is happening. And I sometimes wonder what that mix is going to look like and whether or not they're going to be able to get the balance, right? As Brad put it, when they're under that kind of pressure. Yeah, no, absolutely. All kinds of interesting things here. I think like, you know, when I think about crises more broadly, and you and I have talked about this, having followed the last crisis, is crises create moments where people sort of rethink everything, business models and growth models and so forth. And just the speed and severity of this one and the fact that literally, virtually nobody is unaffected by it, I think lends itself to that.

So all these questions about how much should we trade, how much should we depend on external finance? everything is now sort of up for a debate in a way that it hasn't really been in quite a while. Yeah, with big crises come big questions, I guess. And one of those has got to be about the role of the US dollar and whether or not it plays too central a role in the global financial system. And I suspect we're going to end up talking about that again very, very soon. Yeah, and it's important because people, you know, people are always calling for the demise. it's like, oh, the dollar is going to go down. And I think, you know, a point that I've tried to make and others is not that, like,

what may contribute to the demise of the dollar is not what people think. Like, they look at, oh, we're spending all this money, or the Fed is expanding the balance sheet by trillions of dollars. I think it really is going to come down much more to these questions about how much do countries want to be interdependent on each other from the U.S., from a real goods perspective, from other. countries from a financing perspective, do we want to become a little less interdependent on each other? That question may be what sort of determines whether the dollar takes on some sort of diminished

role in the future than it has today. Yeah, absolutely. And I guess also whether or not the Federal Reserve is happy to be playing the role of the world's central banker, although I got to say recently, it seems like it is. So that's sort of a step change in, and, and, you know, that's sort of a step change in the central bank's behavior. So lots to talk about there. An endless stream of major market crises for us to delve into, Joe. You know what I was thinking, though? Like at the end with Brad, because it was so comprehensive, it's like maybe we're getting to the point of where we're like hitting the big ones. I'm sure there's like 10 more really big ones we haven't hit yet, but maybe we're sort of rounding the corner a little bit in terms of the extremely big themes.

You will never let me forget this, will you? No. Okay. This has been another episode of the Odd Lots Podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway. And I'm Joe Wisenthal. You should follow me on Twitter.

You can follow me on Twitter at the stalwart. And you should follow our guest on Twitter, Brad Setser. He's Brad underscore Setser. And be sure to follow our producer on Twitter. Twitter, Laura Carlson. She's at Laura M. Carlson. Follow the Bloomberg head of podcast, Francesca Levy, at Francesca Today, as well as all of the Bloomberg podcasts under the handle at podcasts. Thanks for listening.