Macro Insights That Matter

---

• Activist treasury issuance is a hidden tool that is quietly impacting markets and the economy.
• The labor market isn't as weak as headlines suggest; slowing hiring doesn't always signal a recession.
• The US dollar's dominance endures despite geopolitical tensions and the rise of alternative assets.

When we talk about the resilience of markets and the U.S. economy, most discussions revolve around the Federal Reserve’s monetary policy. We analyze interest rate hikes, quantitative easing, and the elusive neutral rate. But what about the other levers influencing the economy? “Activist treasury issuance has had a profound impact on markets and, through markets, the economy,” says Stephen Miran, a Senior Strategist at Hudson Bay Capital and a Fellow at the Manhattan Institute.

Stephen brings a unique perspective to the table, blending academic expertise with practical market experience. He's not just a theorist; he's a seasoned market participant, having previously served as a senior advisor for economic policy at the U.S. Department of the Treasury and managed portfolios at firms like Sovarnum Capital and Fidelity Investments. His recent paper, co-authored with Nouriel Roubini, on activist treasury issuance has garnered significant attention in the financial world. Stephen also contributes to leading publications like the Wall Street Journal, Barron's, and Bloomberg.

In this blog post, we’ll explore Stephen's analysis of several key macroeconomic themes, including activist treasury issuance, the current labor market dynamics, the debate around the neutral interest rate, and the looming concerns about fiscal policy and geopolitical risks. His perspectives offer valuable context for understanding the intricate forces shaping the global economy.

Activist treasury issuance and its impact

One of the most intriguing aspects of Stephen’s analysis centers on activist treasury issuance (ATI). So, what exactly is ATI? In essence, it involves the Treasury strategically managing the issuance of government debt, favoring short-term bills over longer-term bonds.

"The way ATI works," Stephen explains, "is it limits the creation of interest rate risk-bearing, duration-bearing, notes and bonds and instead gives them more bills." This approach mimics the effects of quantitative easing by injecting liquidity into the market and lowering long-term yields.

Stephen emphasizes that ATI, while impactful, is not a magic bullet. He estimates its impact to be "about a one-point cut to the Fed funds rate," acknowledging that other factors contribute to market buoyancy. However, he strongly believes that the Treasury's shift towards bill issuance has significantly influenced market behavior and economic growth.

Why is the Treasury engaging in ATI even though it deviates from traditional Treasury policy, which prioritizes minimizing long-term borrowing costs? Stephen suggests that the motivation behind ATI may stem from a desire to mitigate upward pressure on long-term yields and maintain favorable financing conditions. However, this tactical approach comes with its own set of risks.

The increased reliance on short-term debt raises concerns about future refinancing challenges.. "You eventually have to undo it," he cautions, "and if you eventually undo it, then you know you're going to be raising yields at a time that might be very inopportune."

The labor market paradox

Turning to the labor market, Stephen identifies a puzzling disconnect between GDP growth and slowing hiring rates. While acknowledging that the labor market has weakened from its peak, he doesn't see signs of a precipitous decline. Instead, he offers a nuanced perspective, challenging the conventional narrative that a slowing hiring rate automatically signals an impending recession.

Stephen observes that the initial increase in unemployment earlier this year was primarily driven by new entrants and re-entrants to the labor market, particularly younger demographics. These individuals may have benchmarked their salary expectations to the exceptionally strong labor market of 2021-2022, leading to a temporary mismatch between their reservation wages and available opportunities.

Furthermore, Stephen draws an analogy between the labor market and inventory cycles, suggesting that companies may be experiencing a bullwhip effect. "Everyone hired everyone they could," he explains, and now, with growth moderating, they're slowing down hiring to "wait for their revenues to grow into their headcount rather than reducing headcount now."

He emphasizes, "The reduced hiring rate is the number one concerning thing about the labor market, But the reduced hiring rate is not indicative of a sharp decline in aggregate demand as would normally be the case." This nuanced view offers a more optimistic interpretation of current labor market trends.

The neutral rate debate and Fed policy

Neutral interest rate — the rate that neither stimulates nor restricts economic growth — is central to monetary policy discussions. Stephen weighs in on this debate, expressing skepticism about the Fed's current assessment of where neutral lies. "I'm willing to say with confidence that it's above where the Fed thinks it is," he asserts, pointing to the continued robust GDP growth despite the Fed's insistence on restrictive policy.

Stephen argues that the Fed's recent rate cut was a misstep fueled by a misreading of labor market signals and an overemphasis on short-term data fluctuations. He advocates for a less interventionist approach, suggesting that the Fed should avoid micromanaging the economy and instead focus on responding to more significant and sustained trends. Excessive focus on minor data wiggles can lead to policy errors and exacerbate market volatility.

Stephen questions the Fed’s framework for determining the neutral rate, highlighting the inherent difficulty in accurately measuring both inflation and the neutral rate itself. The significant measurement error in these crucial economic variables should encourage greater policy humility and a less reactive approach to monetary policy adjustments.

He points out that the bond market, specifically the five-year/five-year forward TIPS rate, provides a reasonable guess for estimating the longer-term neutral rate. Stephen encourages a more cautious and data-driven approach to monetary policy, emphasizing the limitations of current economic models and the importance of avoiding overreactions to short-term market fluctuations.

Fiscal policy and deficit concerns

Looking beyond monetary policy, Stephen expresses significant concerns about the trajectory of U.S. fiscal policy. He emphasizes the importance of addressing the growing national debt and its potential implications for long-term market stability. “I’m worried about the bond market on a medium-term basis,” he admits, “unless we start to address the deficits.”

Stephen argues that the current fiscal path is unsustainable and that rising deficits will ultimately weigh on bond markets and potentially destabilize government finances. The impending exhaustion of the Social Security and Medicare trust funds are looming fiscal challenges that demand proactive solutions.

While acknowledging that immediate action isn't necessarily required, Stephen emphasizes the urgency of developing a long-term plan to address these fiscal imbalances. Delaying these difficult decisions will only exacerbate the problem and increase the risks to the economy. He advocates for a responsible fiscal approach that balances necessary spending with measures to control the growth of the national debt.

Geopolitical risks and the dollar's future

Geopolitical risks play an increasingly important role in shaping macroeconomics. Stephen acknowledges these complexities but downplays concerns about the U.S. dollar losing its global dominance, at least for the foreseeable future. He argues that the dollar's status as a safe haven asset, combined with the lack of viable alternatives, ensures its continued reign in international finance.

“There’s not really a good alternative,” Stephen observes, noting that other potential reserve currencies lack the liquidity, depth, and stability of the U.S. treasury market. While other countries may desire to reduce their reliance on the dollar, they are stuck due to the absence of a compelling substitute.

Even the rise of cryptocurrencies, Stephen argues, does not pose a significant threat to the dollar's dominance. The deflationary nature of many crypto assets makes them unsuitable for supporting the growing transaction and savings needs of the global economy.

Macro insights that matter

Don't just react to market headlines — understand the underlying forces at play. Stephen reveals the hidden impact of activist treasury issuance, challenges conventional narratives about the labor market, and reinforces the dollar's enduring strength, giving investors a crucial edge in uncertain times. This isn't just about understanding the present; it's about anticipating the future.

---

This is based on an episode of Top Traders Unplugged, a bi-weekly podcast with the most interesting and experienced investors, economists, traders and thought leaders in the world. Sign up to our Newsletter or Subscribe on your preferred podcast platform so that you don’t miss out on future episodes.