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Holdings and Weightings (As of 6/30/18)*

Company Name Ticker Weight Company Name Ticker Weight
Facebook A FB 20.33% CenturyLink CTL 1.92%
Alphabet C GOOG 11.56% Omnicom OMC 1.82%
Alphabet A GOOGL 11.51% Take-Two Interactive Software TTWO 1.42%
Activision Blizzard ATVI 4.64% Twenty-First Century Fox B FOX 1.33%
Verizon Communications VZ 4.56% Viacom B VIAB 1.12%
Comcast A CMCSA 4.54% Interpublic Group IPG 0.95%
Electronic Arts EA 4.54% Discovery C DISCK 0.91%
AT&T T 4.53% DISH Network A DISH 0.81%
Walt Disney DIS 4.50% TripAdvisor A TRIP 0.63%
NetFlix NFLX 4.48% News Corp A NWSA 0.62%
Charter Communications A CHTR 4.42% Discovery A DISCA 0.45%
Twenty-First Century Fox A FOXA 3.22% News B NWS 0.20%
Twitter TWTR 3.00%
CBS B CBS 2.01%

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The Communication Services Sector SPDR (XLC) is a new fund and has a limited operating history.
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Volume 27 / Issue 4 August / September 2018

Populism Eats the G-20 Lonely at the Top Exploring the Silk Road Trump’s Federal Reserve
What it could mean for Women chief economists Five scenes from China’s The debate brewing within
economic growth p 20 on breaking the mold p 60 empire of money p 66 the U.S. central bank p 74

The
Economics
Issue

Stress
Test
Bank of England
Governor
Mark Carney
on managing the
U.K. economy
through Brexit and
preparing for the
next financial crisis
p 46
 From gender pay gaps
to international trade gaps.
What’s trending now.

24/7 news. Streaming LIVE on

Follow @TicToc
Founding partners
 Contents

54 BLOOMBERG MARKETS
VOLUME 27
ISSUE 4
Dispatches From
A Catastrophe
An economic crisis has turned Venezuelan
life upside down. Our reporters
in Caracas take you on their surreal
journey through hyperinlation,
ubiquitous shortages, collapsing
gross domestic product,
and a shrinking population
By Bloomberg News

60
Lonely at the Top
These three women are the irst female
global chief economists at the banks
they work for. But don’t break open
the Champagne just yet. At inancial
institutions, as in academia, male
economists still outnumber women
By Jeanna Smialek and Lucy Meakin

66
Empire Building,
Chinese Style
Even before President Xi Jinping
launched his “Belt and Road” initiative,
nations that missed out on the past
half-century of growth were jumping
at the promise of Beijing-inanced
projects. Our reporters visited ive places
that hope to beneit to see how things
are playing out
By Bloomberg News

74
Trump’s “New
Keynesian” Fed
The 1980s war on inlation inspired
the economic philosophy shared by
a cohort of U.S. central bank leaders. 46
But unequal wealth distribution is leading Q&A With the Bank of England’s Mark Carney
some economists to question the New The Canadian-born economist seemed revolutionary enough when
Keynesian model’s underlying principles he became the irst non-British citizen to lead the U.K.’s central bank.
By Matthew Boesler But he’s had to contend with a much greater upheaval: Brexit,
which he says is taking up half his time
By Stephanie Flanders

PHOTOGRAPH BY FELICITY McCABE / COVER ARTWORK BY CAROLINE POOL

Contents

8 20 40
Markets Almanac Populism’s Rise Economics Focus:
A few key events for your calendar And Risks The Next Recession
in the coming months Mainstream democratic Bloomberg Economics lays out
governments control the smallest some potential causes and warning
11 slice of G-20 GDP since 1980.
Will that afect growth?
signs of a global downturn

Surveillance
What are economists getting 78
wrong these days? 24 Cheat Sheet
Macro Man on The 15 most important functions you
15 Myths and Realities
What economic surprises say
should know about right now
Forward Guidance
The Humbled Science
about the returns of stocks, rates,
and currencies
80
If politicians aren’t spending much A Function I Love
time listening to economists anymore, How to ind out what monetary
that’s partly because economists 26 policy makers are thinking
haven’t had very useful solutions to Land of Giant Banks
the big problems Chinese lenders top the ranking
this year. That might be cause
18 for concern
<GO>
Port in a Storm 28
Despite the talk of trade wars, Offshore Issues
cargo activity at the port of Los Angeles How China created a roughly
was relatively normal as of the half-trillion-dollar bond market
middle of the year
32
Boom Time?
Rising private capital expenditure
in Japan may be a positive sign
for long-term growth

34
Geared Up for Hiking
Why the European Central Bank
is likely to raise rates twice next year

36
Made in Germany
A debt pioneer is looking to expand
Schuldschein into global markets
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Editor’s Letter

The Economics Editor

Christine Harper

Issue Art Director

Josef Reyes
Features Editor
Stryker McGuire
<GO> Editor
Jon Asmundsson
Special Reports Editor
Siobhan Wagner
This issue of Bloomberg Markets is devoted entirely to Graphics Editor
Mark Glassman
economics. We joined forces with Bloomberg Economics,
Photo Editor
led by Senior Executive Editor Stephanie Flanders, to Donna Cohen
bring you stories and actionable insights that illuminate
Bloomberg Markets draws on the resources
theory, data, and on-the-ground reality. of Bloomberg News, Bloomberg TV,
Bloomberg Businessweek, Bloomberg
For our cover Q&A (page 46), Flanders persuaded Intelligence, Bloomberg Economics,
and Bloomberg LP.
Bank of England Governor Mark Carney to open up about
Brexit, post-crisis financial regulation, and managing a Editor-in-Chief
John Micklethwait
three-century-old institution. She also writes about how
Deputy Editor-in-Chief
economists lost the ear of the world’s political leaders Reto Gregori
(“The Humbled Science,” page 15). Executive Editor Simon Advisory Board
Tracy Alloway, Chris Collins,
Kennedy compiled Bloomberg interviews with economists Caroline Gage, David Gillen,
to provide some views on what they think their profession Madeleine Lim, Marty Schenker, Joe
Weisenthal
might be getting wrong now (“Surveillance,” page 11).
Creative Director
In “Your Guide to the Next Recession” (page 40), Christopher Nosenzo
Jonas Bergman in Oslo, Enda Curran in Hong Kong, and Photo Director
Rich Miller in Washington employ data from Bloomberg Clinton Cargill
Managing Editor
Economics to outline what could cause the next downturn. Kristin Powers
Editors and reporters from Athens to Beijing teamed up Copy Chief
to describe what China’s massive “Belt and Road” initiative Lourdes Valeriano
looks like up close (“Empire Building,” page 66). Jeanna Copy Editors
David Purcell, Brennen Wysong
Smialek and Lucy Meakin, based in New York and London, Production Manager
respectively, find out what it’s like to be one of the rare Susan Fingerhut
female chief economists at the big banks (“Yes, But Do Map Manager
Ilse Walton
You Know Any Women?” page 60). Matthew Boesler, in
Production Associate
New York, reveals the debate around an economic theory Loly Chan
that several of the Federal Reserve’s new leaders helped
Head of U.S. Financial Sales
develop (“The ‘New Keynesian’ Fed,” page 74). Michael Dukmejian /
In Caracas, our colleagues have been chronicling the 212 617-2653
daily challenges of life in Venezuela, where the International Head of EMEA Sales
Viktoria Degtar / 44 20 3525-4026
Monetary Fund expects inflation to reach 1 million percent
Head of APAC Sales
by the end of the year. “Dispatches from an Economic Mike Jackson / 65 6499-2674
Catastrophe” (page 54) provides eight surprising, sad, Production/Operations
Debra Foley, Dan Leach,
even shocking vignettes. Carol Nelson, Steven DiSalvo,
We hope this serves as a useful guide to today’s Bernie Schraml
fast-changing global economy. As always, we welcome Global Chief Commercial Oicer
Andrew Benett / 212 617-8225
your feedback.
Global Chief Revenue Oicer
Keith A. Grossman / 212 617-3192
Christine Harper, Editor comments@bloombergmarkets.com
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Markets Almanac
A few key events for your calendar in the coming months.

23–25 Check {ECO <GO>}

27
Kansas City Fed’s for a full calendar U.S. Open tennis
of scheduled
Economic Policy tournament begins
Aug Symposium
Jackson Hole, Wyo.
economic releases
and {BIE <GO>}
for insights from
the economists
Flushing Meadows, New York City
2017 winners:
at Bloomberg
Economics. Rafael Nadal, Sloane
Stephens.

9 15 For an overview
Swedish Lehman Brothers of how the Federal
Reserve’s balance
general election bankruptcy
Sept Will the anti-immigrant
Sweden Democrats
10 years ago
The S&P 500 Index
sheet changed over
the decade, type
{FED BAL <GO>}.
{EBBSTOTA Index
GP M <GO>} for
make gains? closed at 1,192.70. the ECB.

25 26 4–7
UN General Assembly Bloomberg Global Frieze London
debate opens Business Forum
Manhattan traffic slows
to a crawl.
New York City Oct London
The biggest showcase
of art in Europe.

7 Brazil is the
10–11 12–14
Brazilian election second-biggest Bloomberg Invest IMF/World Bank
economy in the
(first round) Americas, and this
conference annual meetings
is the country’s
Runoff election set London Nusa Dua, Bali, Indonesia
most unpredictable
for Oct. 28. election since it
returned to
democracy in 1985.

8 BLOOMBERG MARKETS
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 Surveillance
By SIMON KENNEDY

What are
economists getting
wrong today?

AT THE HEIGHT OF THE FINANCIAL CRISIS in late 2008, Queen Elizabeth II asked an economist,
“Why did nobody notice it?” ¶ Aside from a handful of dismal scientists branded as doomsters
before the turmoil hit, the failure was a collective one for economists from Wall Street to
academia. ¶ Indeed, a 2014 study by Prakash Loungani of the International Monetary Fund
found that not one of the 49 recessions suffered around the world in 2009 had been predicted
by a consensus of economists a year earlier. Further back, he discovered only two of the 60
recessions of the 1990s were anticipated a year in advance. ¶ A decade on from the British
monarch’s question seems an opportune time to ask what economists might be missing today.

11

“Given our past record in predicting the
economic impact of technology, econo-
mists will probably get this wrong again.
Today, weak productivity growth seems
puzzling at a time of great new techno-
logical innovations. But in the past, it
took decades for electricity or cars or
computers to be fully integrated into our
production processes and business prac-
tices and to boost productivity growth.
“If you go back to last year, the tone of IMF discus-
sions in the annual meetings was very optimistic
about the synchronized recovery . It was the big
theme. I was in Jackson Hole [in Wyoming], at the
Federal Reserve conference, last August and spoke
at the inal panel, and part of my message was, ‘Let’s
not confuse recovery with resolution’—that was the
theme. I think perhaps we went a little too overboard
on the synchronized recovery, I think a more difer-
entiated, a more cautious approach, in the context
of Europe, and the context of Japan, is needed.”
Carmen Reinhart
PRO F ESSO R
AT HARVAR D KE NNE DY SC HO O L

Likewise, the internet of things or artii-

cial intelligence will take time to be sim-
ilarly integrated and to be visible in our
measures of productivity. While being
well aware that, in the 1930s, [John
Maynard] Keynes famously predicted
that automation would lead to a three-
hour working day, my sense is that this
process is likely to speed up and surprise
on the positive side.”
“A serious problem facing the economics profession is
that there remain severe gaps in international
economic and financial data . Since there is only partial
and incomplete information on the linkages across
economies (especially between advanced and emerg-
ing economies), the analysis of global economic and
inancial developments is subject to a high degree of
uncertainty. If there were greater international coop-
eration in collecting and sharing data, our degree of
conidence in our economic and inancial assessments
would substantially improve.”

Peter Praet Philip Lane

C HIEF ECONOMIST G OV E R NO R
AT TH E EUROPEAN C ENT RAL BANK O F C E NT R AL BANK O F I R E LAND

“Economists underestimate the likely rebound in real interest rates in coming years because
they attribute too much of the post-crisis decline to structural factors such as lower poten-
tial GDP growth. Although economic theory does suggest such a link, the empirical rela-
tionship—using cycle-by-cycle averages of real rates and real GDP growth for the U.S. and
other advanced economies stretching back more than a century—is loose at best. A better
explanation lies in cyclical headwinds that persisted for much of the recovery, such as banking
and housing-sector stress, overly tight iscal policy, and restrictive inancial conditions. At
least in the U.S., these headwinds have recently turned into tailwinds, and real rates are
likely to continue rising in response.”
Jan Hatzius
C HI E F ECO NO M I ST
AT G O LDM AN SAC HS G RO U P I NC.

12 BLOOMBERG MARKETS
“Queen Elizabeth II famously said during the crisis, ‘How did you miss this?’ That did prompt
a deep rethinking in macroeconomics and banking and inance of what did we miss. We
have a better understanding of the crisis, so that’s good, but most papers stop there, and
there’s not much work on what we do about it. You might think that if we know the problem
was liquidity or too much debt or too much leverage, then the solution is easy. You don’t
need to do a paper, just stop debt—no leverage. But obviously that’s not the solution. We
need to think deeply about that, know we’ve got a deeper understanding of the problems,
and resolve them. And it’s not as simple as just stopping some of these channels. We need
to have a better sense of levels . Too much leverage is a problem, but what’s too much
leverage? Too much debt is a problem, but, again, what’s too much debt?”
Kristin Forbes
PRO F ESSO R AT M I T ’S S LOAN SC HO O L O F M ANAG E M E NT
AND A FO R M E R BANK O F E NG LAND PO LI CY M AKE R

“Since the great inancial crisis that began in 2008,

increasing volatility in inancial markets has made
it particularly diicult to forecast economic growth.
For a long time many countries, including South
Africa, had to consistently revise their growth fore-
“There’s a divergence between the aca-
casts down as we underestimated the negative impact demic economist and the nonacademic
of the financial crisis on the economy. One of the economist. And maybe there has to be
major challenges that economists faced was to essen- more of a conversation. The public thinks
tially disentangle how much of our growth problems
are cyclical and how much are structural.”
economics is all about predicting when
the next crisis and the next recession or
next upturn will be, and in truth we have
Lesetja Kganyago very modest abilities to do that. What
GOVERNOR we can say is there are policies that are
AT T HE SOUT H AFRICAN RESERVE BANK
more sensible and will reduce the prob-
ability of that happening. To some extent
we should rectify the balance. I think
“Most macroeconomists, forecasters, and academics
alike are still much too inluenced by the 1970s. To them, sometimes, in policy circles especially,
inlation lurks around every corner and is determined they want an answer—‘When do you
by forward-looking expectations, which are liable to think X is going to happen?’—when in
jump upwards at any time. This is clearly false with
fact we don’t really have much to say
respect to the last 30-plus years—in Japan, in the other
advanced economies, and even in emerging markets. about that. We have a lot to say about
Labor bargaining power, openness to trade, and what do you do to make X not happen.”
innovation are the primary drivers of inflation trends,
especially since national inflation rates are more
synchronized than ever. Expectations and inlation are
inertial, not just sticky.”

Adam Posen Raghuram Rajan

P R ESID ENT OF T HE PET ERSON INST IT UT E FOR PRO F ESSO R AT T HE U NI V E RS I T Y O F C HI CAG O
INT ERNAT IONAL ECONOMIC S AND A BO OT H SC HO O L O F B U S I NESS AND
FO R MER BANK OF ENGLAND POLICYMAK ER FO R M E R G OV E R NO R O F T HE R ES E RV E BANK O F I NDI A

Kennedy is executive editor for economics at Bloomberg News in London. With reporting by Alessandro Speciale, David Goodman, and Rene Vollgraaff.

VOLUME 27 / ISSUE 4 13
 An additional two billion people
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Copyright © 2018 CME Group. All rights reserved.
 Forward Guidance

The Humbled Science:

Economists Reckon
With Reality
By STEPHANIE FLANDERS
I L L U S T R AT I O N B Y M AT T C H A S E

NOT SO LONG AGO, politicians had “favorite”

economists. Margaret Thatcher’s was
Milton Friedman. John F. Kennedy’s was
probably John Kenneth Galbraith.
President Bill Clinton had a Nobel Prize-
winning economist, Joseph Stiglitz, in
residence at the White House for his entire
first term and was said to light up at the
mention of John Maynard Keynes.
You don’t hear of many favorite
economists today. Political leaders still
have economists around, but it’s difficult
to remember the last time one publicly
and proudly followed their advice.
Donald Trump, as ever, is the extreme
case. He seems to take some pride
in doing the exact opposite of what
mainstream economists would
prescribe—on the wisdom of trade wars,
say. But if the economics profession
were being honest with itself, it would
have to admit that the problem goes
deeper than the gleefully heterodox
President Trump.
If politicians in the advanced
economies aren’t spending much time
listening to economic gurus anymore,
that’s partly because economists haven’t
had very useful solutions to the big
problems politicians are being asked
to fix. Most failed to predict the global
financial crisis, and the core
macroeconomic models taught for
decades have been coming up short ever
since. Economists don’t even have
answers to the challenges facing central
bankers, which for many today includes
getting the inflation rate back to
2 percent.

VOLUME 27 / ISSUE 4 15
 I saw the failures of traditional
economic prescriptions firsthand in 2016
while chairing a commission on inclusive
growth sponsored by the 30 largest
cities in the U.K. The first public hearing
was in the city of Sheffield, in the north
of England, just six days after the
referendum on the U.K.’s membership in
the European Union. Sheffield had been
an unemployment black spot throughout
the 1980s and 1990s, following the
collapse of its steel and coal industries.
Local leaders had dedicated themselves
to following the modern recipe for
economic revival, redeveloping the city
center and expanding the universities
to give it one of the greatest
concentrations of students in the U.K.
On paper, the results were
impressive. In 2016, a record-high
proportion of the population was
employed and the unemployment rate
was around 6 percent, less than half
its early-1990s level. But public services
had been squeezed by fiscal austerity.
The poorest parts of the city still suffered
from most of the social problems they
had when unemployment was three times
higher. As one local social worker told us:
“The problem usually isn’t finding a job.
It’s having to find two or three.”
This is one reason that 80 percent
of the wider Sheffield area disregarded
the advice of every leading local
politician and voted for Brexit. At the
commission’s hearing, the city council
chief executive, John Mothersole, was
still in shock. “For years we’ve gone along
with a dominant economic narrative,
which said any growth was good
growth,” he said. “Now we’re seeing
the consequences.”
The dynamics of the Brexit vote
were complicated. It wasn’t determined
by economics alone. One could say the
same about the election of Donald Trump.
But one lesson from the populist upsets
of the past few years is that it’s not
just the quantity of growth and jobs that
matters to voters, it’s also the quality.
In the U.S. and the U.K., around
half of households classified as living
in poverty contain at least one working
adult. That’s been a wake-up call for
generations of policymakers who were
told that the best answer to poverty
was creating jobs.
Wages matter a lot. But so, it turns
16
out, do less tangible factors such as
job satisfaction, the potential for
advancement, self-worth and—most
slippery of all—a sense of community.
These aren’t well-captured by traditional
economic statistics, and until recently
economists haven’t had much to say
about them. Nor have most economists
wanted to get into debates about the
distribution of economic and political
power—even if these have profound
consequences for the broader economy.
Of course, we do have wage
data in most economies. But most of
the timely data are national. For local
policymakers such as Mothersole, it’s
almost impossible to know whether rapid
employment growth is actually delivering
quality jobs in his city.
Immigration exposes another
painful divide between standard
economic advice and real-life politics.
For years economists showed,
categorically, the benefits of immigration
to the receiving country. Successive U.S.
presidents, both Republican and
Democrat, stuck to the mantra. So did
mainstream politicians in Europe.
Large-scale legal immigration was
good for the country and the economy,
they said. Economists backed them up
by finding only isolated cases in which
immigrants hurt wages or employment
for native workers.
But economists missed something
that mattered more than the numbers.
Rightly or wrongly, some voters felt that,
thanks to immigration, their towns and
cities were no longer “theirs,” that it was
harder to find a job or a school for their
children. Politicians in the U.S. and U.K.
who grasped this early have capitalized
on that disconnect between the elite and
ordinary voters. Economists are left on
the sidelines, counting the economic
costs of the backlash.
You might say that it doesn’t
matter whether economists can explain
voters’ complicated feelings about
immigration, community, and the rest
if those economic gurus can still deliver
on the basics. The trouble is, they can’t.
Collectively, the world’s leading
central banks did apply classic economic
recipes to prevent the world slipping into
another Great Depression in 2007-09. It
was lucky that the Fed chairman at that
time, Ben Bernanke, had literally written
BLOOMBERG MARKETS
the book on 1930s economic policy.
But as economists Larry Summers and
Olivier Blanchard have pointed out,
output per person of working age in the
U.S. in the 12 years after 2007 is likely
to be no higher than in the 12 years after
1929. In many countries, including the
U.K., the cumulative loss of gross
domestic product has been significantly
higher than in the 1930s.
These mighty central bankers
have not yet produced a global recovery
capable of thriving without a sea
of cheap money. Nor have they found a
solution to the riddle of low productivity
and low wages.
The European Central Bank’s
Forum on Central Banking this year in the
Portuguese resort of Sintra was devoted
to understanding why wage growth and
inflation have been so feeble. Over two
days the assembled economists and
central bankers listened to contributions
from some of the finest minds in the
profession—culminating in a final panel
that featured the heads of the central
banks of the U.S., Japan, the euro zone,
and Australia. None of these central
bankers currently has wage growth in
their home economy that is high enough
to ensure that they achieve their inflation
target for a prolonged period or deliver
decent growth in real incomes for the
median worker.
In 2009 there were six unemployed
workers for every job vacancy in the U.S.
Today that ratio is slightly less than 1 to 1.
The cautious consensus at Sintra was
that it was only a matter of time before
wages finally started to respond to a
tightening labor market. But no one was
willing to make that prediction with any
great confidence. Indeed, the experience
of Philip Lowe, the governor of Australia’s
central bank, suggests that a tighter
market could be a long wait. Annual wage
growth is barely 2 percent in Australia
now, despite 27 years of uninterrupted
economic growth.
The Organization for Economic
Cooperation and Development confirms
this in its latest survey of employment
prospects across the advanced
economies: Wage growth is “missing in
action”—and the wage growth that we’ve
seen hasn’t been evenly distributed.
Across the OECD’s members, real labor
incomes of the top 1 percent of earners
 ECONOMISTS STUMPED BY GROWTH WITHOUT WAGE GAINS
Index level*
Real gross domestic product per capita in the U.S.
Real compensation per hour in the U.S. business sector

115

110

105

100

7/1/09 1/1/18 95
*Level at 2Q 2009 = 100
Source: Federal Reserve Bank of St. Louis

have increased much faster than
incomes of median full-time workers
in recent years.
These are basic facts of modern
macroeconomic life that economists
cannot hope to tackle without coming
to grips with the political and institutional
changes that have reduced the
bargaining power of workers and tilted
the playing field toward capital. The most
interesting economists in the world
today are doing just that.
Jason Furman and Peter Orszag,
two former Obama administration
economists, have a theory that reduced
competition and dynamism in key
sectors have produced both the
slowdown in productivity in the U.S.
and the rise in income inequality.
Richard Baldwin, professor of economics
at the Graduate Institute of International
and Development Studies in Geneva,
has written a cogent account of
the latest stage of globalization that
describes, in plain English, why
governments should stop focusing
on footloose companies and capital
in their efforts to boost national
competitiveness and instead focus on
arming people and places to compete.
We’re also hearing mainstream
economists talk more loudly about the
possibility of shifting the balance back
toward labor with wealth taxes and
reduced taxes on earned income. That’s
a big shift for a profession that seemed
to think until recently that reducing the
tax on capital was always and
everywhere a good thing. It will be
interesting to see how long it takes for
an elected politician to decide that any
of this advice is worth listening to.
Flanders is senior executive editor for
Bloomberg Economics in London.

VOLUME 27 / ISSUE 4 17
<GO> INSIDE
THE TE RM INAL
Port in
A Storm

THE PORT OF LOS ANGELES, which covers

43 miles of waterfront in Southern California,
has a lot to lose in a U.S. trade war with China.
Last year the port handled about $145 billion
in imports and exports between the two
countries, more than half the value of all
cargo moving through the facility, according
to port statistics. As of the end of July, the
Trump administration had enacted or pro-
posed tariffs on more than $200 billion in
Chinese imports—ranging from aluminum
and steel to meat and poultry. The propos-
als have given domestic metal producers
such as Pittsburgh-based United States
Steel Corp. some reason to cheer. General
Electric Co., on the other hand, says tariffs
on Chinese goods may raise its costs by as
much as $400 million.
Despite the heated trade war talk,
activity at the port was relatively normal at
the start of the summer. The facility handled
723,141 containers, measured as 20-foot
equivalent units, in June, according to data
compiled by Bloomberg. By comparison,
volume was about 1 percent higher a year
earlier. Still, the tariffs are likely to cause
some pain for the Port of Los Angeles, which
says it supports 1.6 million jobs across the
U.S. Phillip Sanfield, a spokesman for the
port, says a significant percentage of the
cargo it handles will be exposed to the
tariffs. “We’ve revised the forecast to
20 percent,” he said on July 20. To chart
container activity at the facility, run {LAL
BLATL Index GP <GO>}. To follow move-
ments of vessels in and out of Los Angeles,
go to {BMAP <GO>}. —Siobhan Wagner

P H OTO G R A P H BY TO M FOW L KS
Political Regimes

The People’s Economy:

Charting the Rise of Populism
And the Risk to Growth
By TOM ORLIK and JUSTIN JIMENEZ

MAINSTREAM SHRINKS AS POPULISM GAINS

Share of G-20 gross domestic product, by type of government* Component nations in 2018

100%

Argentina, Australia, Canada,

France, Germany, Japan,
South Africa, South Korea,
Spain, and the U.K.

Establishment
Trump win flips U.S.
democracy into populist
category.

50 Brazil, India, Italy,

and the U.S.

Indonesia and Mexico

Populist
democracy
Weak China, Russia,
democracy Saudi Arabia, and Turkey

Authoritarian

0 1980 2018
*Figures include G-20 nations, plus Spain; Russia is included beginning in 1994
Sources: Bloomberg Economics, Freedom House, International Monetary Fund

20 <GO> INSIDE THE TERMINAL

WORKERS’ SHRINKING CUT OF THE ECONOMY
SURVEYING THE END OF the Cold War in 1989, political scientist
Francis Fukuyama famously argued in an essay titled The End of
Labor compensation as share of G-20 GDP
History? that Western liberal democracy was the culminating form
of government. That’s not quite how things have played out. History,
64%
you might say, has returned.
Consider the Group of 20. Establishment political parties in
those countries, the avatars of Western democracy, have seen their
62
share of the G-20’s total economic output shrink in recent years.
The most striking countertrend has been the rise of populism.
Populist parties—claiming to defend the common man against
60
Labor’s share of corrupt elites, valuing national unity above cosmopolitan inclusion,
the world’s largest and offering simplistic solutions against complex policy debate—have
economies has
fallen, particularly been gaining strength since the global financial crisis a decade ago.
since 2000. 58 President Donald Trump in the U.S. is one prominent example. Italy
is another. The Northern League and Five Star Movement swept
into power there this year. Populists, according to our classification,
1980 2018 56 now manage the largest bloc of the G-20 economies. (For additional
Sources: Bloomberg Economics, Penn World Table Bloomberg Economics research on the topic, run {BI ECON <GO>}
and search for “populism.”)
Here’s how we broke it down: Each year from 1980, we sorted
MAJOR PARTIES IN DECLINE the governments of the G-20 countries plus Spain into four
Share of most recent vote going to the top two political parties categories—establishment democracy, populist democracy, weak
democracy, and authoritarian—and tracked what portion of the
2007 2017
G-20’s total gross domestic product they oversaw.
50% 75% 100%
A couple of things emerge from this analysis. First, the pop-
ulist category jumped in 2016. That reflects our decision to charac-
U.S.
terize the U.S. as “populist” after Trump’s election and to shift the
Australia
world’s largest economy into the category.
Canada Second, the rise of China means that authoritarian regimes,
U.K. with strong central power and limited political freedom, play an
Average expanded role. That’s a significant shift in how the world economy
Spain is run. So far it hasn’t had a major negative impact on growth and
financial stability. Is it only a matter of time? A deeper look at the
Japan
relationship of governance to growth reveals some nuance about
Germany
what’s likely to be important in that regard.
Italy
France TO PUT SOME NUMBERS to it: When you add up the nominal output
Source: Bloomberg Economics of the G-20 states plus Spain, their combined GDP is about $64 tril-
lion. Populist governments now control 41 percent of that. By contrast,
in 2007, before the crisis roiled the world, the figure was only 4 percent.
SOME ASPECTS OF GOVERNANCE ARE MORE IMPORTANT Mainstream democratic parties, which typically occupy the
Correlation of Worldwide Governance Indicators with national wealth*
center of the political spectrum, have gone from dominance to
minority. They preside over only 32 percent of the G-20 output.
Government effectiveness In 2007 they accounted for 83 percent.
0.86 Authoritarian regimes—China, Russia, Saudi Arabia, and
Regulatory quality Turkey are all classified as “not free,” according to Freedom House,
0.81 a Washington-based think tank whose founders included Eleanor
Rule of law
Roosevelt—manage 24 percent of G-20 GDP. China accounts for
0.81 almost 19 percent, up from 8 percent a decade ago.
There are, of course, issues of judgment. Should the U.S.
Control of corruption
under Trump fall in the populist or mainstream democratic
0.76
category? Probably somewhere in between.
Political stability and absence of violence/terrorism So is there another way to tease out a populist trend? One is
0.62 to examine the share of popular vote garnered by the top two parties,
Voice and accountability which typically represent mainstream political sentiment. Among
0.55 major democracies, that share has fallen to 63   percent from
*As measured by the log of GDP per capita
76 percent in 2008. What that misses is the way mainstream parties—
Sources: Bloomberg Economics, World Bank particularly the U.S. Republican Party and U.K. politicians after the

<GO> INSIDE THE TERMINAL 21

POPULISM IS POPULAR
Consumer confidence index
Standard deviations from the January 2005-April 2018 mean*
France Italy U.S.
1/2006
Sources: Bloomberg Economics, {FRCCO Index}, {GRCCI Index}, {ITPSSA Index},
{JCOMSHCF Index}, {UKCCI Index}, {CONSSENT Index}
MEASURES OF GOOD GOVERNMENT DIP
G-20 GDP-weighted governance indicators*
Government effectiveness
Voice and accountability
1996
GOVERNANCE VERSUS ECONOMIC PERFORMANCE
Better governance
Worse
Yemen
2 3
National wealth**
*Worldwide Governance Indicators score in 2016. **Log of 2016 GDP per capita
Brexit vote—have adopted populist agendas to hold on to votes. Even
so, the same pattern stands out: The mainstream is losing influence.
What consequences will economies face from the lurch toward
Germany Japan U.K. populism and authoritarianism? Mainstream parties, and indeed
2 economists, should be humble about how much they know about
good policy. Failure to manage the forces that globalization unleashed
created the conditions for the rise of populism in the first place.
1 Even so, as traditional economic logic plays a diminished role
in big policy decisions, it seems reasonable to ask if a slide toward
0 populism and authoritarianism will erect barriers to growth. The shift
is, after all, producing plenty of violations of the good-policy playbook.
Leaving aside self-interested mismanagement of the eco-
-1 nomic cycle—goosing growth for short-term political gain, for
example, a practice common to both mainstream and populist
governments—we’d break the missteps into two categories: First
4/2018 -2
are policies that damage growth potential. Brexit, taking the U.K.
*Trailing 12-month average
out of the world’s biggest free-trade bloc and shrinking markets for
the country’s goods and services, is one example.
Second are policies that undermine institutions. That
includes everything from the head-spinning reversals of U.S. policy
under President Trump, such as his refusal to sign the G-7 com-
muniqué in June (adding to uncertainty), to Turkish President
Regulatory quality
Recep Tayyip Erdogan’s appointment of his son-in-law to a key
economic post in July (reducing accountability).
Is it time to get out the placards saying, “The end is nigh”?
1.4
Not yet. To be sure, Turkey and Italy are flirting with crisis, and the
U.K. is underperforming. But looking at the G-20 as a whole, GDP
growth rose to 3.8 percent in 2017, the fastest pace since 2011. In
part, that’s because populists got lucky. They fed on economic
discontent but ultimately inherited an upswing. Pro-cyclical policies,
0.9 notably the U.S. tax cuts, are giving growth an additional boost. A
pro-business stance, with a bonfire of regulations in the U.S., China,
and India, is also helping.
Those factors are important. But the persistence of growth
reflects something more than just luck and stimulus. Some aspects
2017 0.4 of governance, it seems, are more important for growth than others.
*Scores range from 2.5 (best) to -2.5 (worst) The World Bank’s Worldwide Governance Indicators project
Sources: Bloomberg Economics, World Bank has gathered data in more than 200 countries on six dimensions of
governance: voice and accountability, political stability and absence
of violence, government effectiveness, regulatory quality, rule of
law, and control of corruption. An analysis using that data shows
that high-quality regulation and government effectiveness correlate
Average
WGI*
more closely with growth than democratic values such as voice and
accountability, which track views about citizens’ ability to participate
2 in their government. In those terms, the trajectory on governance
U.S. in the G-20 looks less alarming. Democratic standards may be
1 deteriorating, but quality of regulation and government effectiveness
remain comparatively stable, even edging up in recent years.
0 Will the new rulers of the world’s major economies really be
able to decouple long-term growth from the institutions that under-
China pin good governance? Count us skeptical. Cycles turn. Confidence
-1
fades. Government effectiveness and high-quality regulation are
tough to maintain in the absence of policy debate and accountability
-2
for leaders. The return of history has not, so far, meant the end of
4 5 growth. But we’re keeping our placards on hand … just in case.
Orlik is chief economist at Bloomberg Economics in Washington.
Sources: Bloomberg Economics, World Bank Jimenez is an associate economist in Hong Kong.

22 <GO> INSIDE THE TERMINAL

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Market Mythbusters

Do Economic Surprises Explain

Returns of Stocks, Rates, or Currencies?
By CAMERON CRISE

A G chart shows Bloomberg’s ECO Surprise Indexes, which track the degree to which published
economic data differ from forecasts. To see the indicators included in the indexes,
go to {ECSU <GO>} for the Economics Surprise Monitor function.

THE ECONOMIC CYCLE is an important driver of financial asset
returns, yet in many ways the stately march of expansion and
recession moves too slowly for traders and portfolio managers.
After all, the swirl of perceptions about economic growth can exert
a significant influence on market prices even when the economy
itself is little changed. A popular way to derive a signal from the
noise of high-frequency economic releases is via economic surprise
indexes, such as those published by Bloomberg and Citigroup Inc.
But can economic surprises actually explain—let alone forecast—
financial asset returns? I decided to take a look.
The rationale behind economic surprise indexes is a com-
pelling one. When an economy is accelerating, the thinking goes,
economic data will typically exceed expectations—which ought
to lead to higher stock prices and market interest rates, and poten-
tially also a stronger currency. A slowing economy will produce
negative surprises, with the opposite impact on markets.
That’s the idea, but does it work? Using Bloomberg’s surprise
indexes for the U.S., euro zone, and the U.K., I took a look at how
well each correlated with changes in the region’s interest rate,
equity, and currency markets.
First, I compared the level of the relevant surprise index with
asset returns. This seemed reasonable because both the indexes
and asset returns tend to revert to a mean of about zero. Is there
any correlation between the two? To find out, I used weekly data
starting in 2003 and computed asset returns over rolling 13-week
periods (that is, approximately three-month chunks of time). For

24 <GO> INSIDE THE TERMINAL

 markets are more highly correlated to the U.S. economic surprise
index than to their local benchmarks—albeit by a small margin.
SURPRISE! This is a testament to U.S. stock and bond markets serving as
How do economic surprise indexes relate to asset performance?* global bellwethers, providing a significant amount of beta to
markets elsewhere. The unsurprising implication is that the best
signals will likely be derived by accounting for economic develop-
10-year Currency ments both at home and in the U.S.
Stocks swaps index

Correlation of the level U.S. 0.44 0.42 -0.15 IS THERE MORE INFORMATION to be gleaned from the rate of change
of economic surprise
index to asset returns Euro area 0.38 0.29 0.10 in economic surprise? In other words, does the shape of the line
during the preceding tell us more than the level of the line? I compared the 13-week
13 weeks U.K. 0.20 0.15 0.03
change in the three economic surprise indexes with the 13-week
change in the asset markets to find out. The short answer:
Not really.
Correlation of the U.S. 0.35 0.43 -0.11 As you can see, the correlations are generally lower than
13-week change
in economic surprise Euro area 0.14 -0.01 -0.06 between the levels of the economic surprise indexes and asset
index and asset returns returns. One exception is in rates, where euro-zone and U.K. swap
over that period U.K. -0.03 -0.06 -0.20
markets have exhibited higher correlation with the change in the
U.S. surprise index (roughly 0.34 for each).
This analysis has focused on using economic surprise indexes
Correlation of the level U.S. 0.06 0.00 -0.06 as an explanatory variable for past price action. But does the level
of economic surprise or change in economic surprise tell us anything about future price
index and asset returns Euro area 0.19 0.14 0.11
over the subsequent action? Using a similar methodology, I compared both the level
five weeks U.K. 0.13 0.16 0.15 and 13-week changes in the various surprise indexes with the
forward-looking five-week change in various markets.
Generally speaking, the results weren’t as good as the con-
Correlation of 13-week U.S. 0.04 0.06 -0.11 temporaneous correlations described above. When regressing
change in economic the level of surprise indexes with future price action, the relation-
surprise index and Euro area 0.16 -0.09 0.12
asset returns over the ships in Europe and the U.K. were stronger than those in the U.S.
following five weeks U.K. 0.01 0.06 0.00 (though they weren’t strong in an absolute sense). Combined with
the findings above, this might suggest that non-U.S. markets are
relatively inefficient, reacting to American economic developments
*Based on weekly data 01/03/03–6/29/18; currency index data starts 12/31/04.
Sources: {ECSURPUS Index}, {ECSURPEA Index}, {ECSURPGB Index},
in real time while reflecting domestic fundamentals only with a
{SPX Index}, {SXXP Index}, {UKX Index}, {USSW10 Curncy}, {EUSA10 Curncy}, lag. Note that these windows weren’t optimized, so it’s entirely
{BPSW10 Curncy}, {BBDXY Index}, {EURO Index}, {POUND Index}
possible that stronger relationships can be identified with more
rigorous data mining. Meanwhile, 13-week changes in the various
indexes offer little insight into future market returns.

SO WHAT HAVE WE LEARNED? Economic surprises do appear to

example, for the euro-zone stocks, I calculated the return of the
Stoxx Europe 600 Index and compared that to the level of the
Bloomberg ECO Euro Area Surprise Index. The results are set out
in the table on this page.
Although we generally think of rates and foreign-exchange
markets as being more “macro” than equities, the correlation was
highest with stocks. Indeed, there appears to be little to no rela-
tionship between currency markets and economic surprise. This
is probably because exchange rates reflect relative rather than
absolute fundamentals. But even if we plot the correlation between
bilateral exchange rates and relative economic surprise, we find
coefficients of only 0.2 or so.
Interestingly, both euro-zone and U.K. swap and equity
explain some of the observable movement in asset markets, though
the strength of the relationships range from modest to random.
Curiously, the correlations are strongest with equities, which are
ostensibly driven primarily by company-specific idiosyncratic
factors. On the other hand, there is relatively little evidence of a
statistically significant relationship between economic surprises
and currencies. Strangely enough, that’s probably the market
where surprise analysis is most heavily used!
The levels of an economic surprise index appear to be mod-
erately more useful than changes in surprise, though neither is
particularly successful in forecasting future asset price moves.
Perhaps the most interesting finding is that developments in the
U.S. can be more important for European markets than the near-
term tenor of domestic economic activity.
Then again, if you’re a bund trader who pays attention to the
U.S. payroll report, you probably already knew that.
Crise is a macro strategist who writes the Macro Man column
for Bloomberg and blogs for Markets Live.

<GO> INSIDE THE TERMINAL 25

Credit Growth
China’s Giant Banks Top This Ranking.
And That’s a Cause for Concern
By YALMAN ONARAN
IN 1988, 9 of the 10 largest banks in the world were Japanese.
Three years later the country’s financial system, along with its
lenders, collapsed, sending Japan into its infamous lost decade
(or three, considering the country is still struggling to escape
deflation and low growth). The nine Japanese companies in the
top ranks by assets 30 years ago have since consolidated into four
successors. Only one turns up in this year’s ranking.
By 2007 all of the top 10 slots were filled by U.S. and Euro-
pean lenders. A year later the subprime mortgage meltdown hit
the U.S. The sovereign debt crisis followed in Europe. Four of the
10 had to be bailed out by their respective governments. If they
hadn’t been rescued, they probably wouldn’t exist today. U.S. and
European economies, like Japan’s, have contended for most of
the past decade with low growth.
It’s 2018, and the rankings teem with Asian banks again. This
time the top four by assets are Chinese. Of course, this may not
be a sign of where the next financial crisis will erupt. But in light
of the recent precedents, it’s a cause for concern.
The outsize growth of a single country’s banks is a sign that
credit expansion is faster there than in other nations—money bor-
rowed by companies and consumers makes up the bulk of bank
assets. China has been relying on speedy credit growth to keep its
economy humming since the 2008 financial crisis. While nobody
disputes the role of borrowing in China’s ability to keep expanding,
many, including the Chinese government, argue the country is dif-
ferent and won’t collapse like Japan did in the early 1990s or the
U.S. in 2008.
China’s economy is managed closely by central authorities.
Most banks are government-owned, financing comes overwhelmingly
from domestic sources, and the government understands the dangers
26 <GO> INSIDE THE TERMINAL
of surging credit. The country’s leaders should be able to manage the
leverage and avoid a crash. Or so the argument goes. “The main reason
they’ve been able to last this long is the absence of inflation,” says
Charlene Chu, a senior partner at Autonomous Research in Hong
Kong who’s long warned about the dangers of rising credit in the
country. “Typically this much credit would be very inflationary, and
the central bank hiking rates to fight it would make some bloated
lenders crumble. But inflation is showing signs of revival.”
The credit boom has led to overheated real estate markets
in many cities and overcapacity at state-owned companies.
Chinese authorities have had their eyes on the problems for a
while, but each time they try to crack down on borrowing, the
economy starts to slow and they put the efforts aside to maintain
their targeted 6 percent growth. “We have an economy addicted
to credit,” Chu says. “So as soon as the government reins in lenders
and credit pulls back, everybody screams for more credit, and the
government relaxes the leash.”
The balance sheets don’t even tell the full story. Chinese
banks also have off-balance-sheet exposures that could come
back to hurt them during a downturn, as U.S. banks experienced
with their special investment vehicles during the 2008 crisis. The
five Chinese banks on the top 10 list had an additional $1.1 trillion
of assets kept off the balance sheet at the end of 2017, according
to data compiled by Autonomous Research.
This time might be different, of course. But as the 2009
book by economists Carmen Reinhart and Kenneth Rogoff, This
Time Is Different, demonstrated with data from 268 instances of
financial turbulence in the past three centuries, it rarely is.
Onaran covers finance at Bloomberg News in New York.
THE WORLD’S BIGGEST BANKS IN …
The 10 largest lenders by assets 30 years ago, before the global financial crisis, and today (dollars in billions)

1988 2007* 2018*

Merged in 2002 Bailed out by government in Chinese banks
Merged in a series of deals starting 2000 the wake of the crisis

Dai-Ichi Kangyo Royal Bank of Scotland Industrial &

Bank Ltd. $353 Group Plc $3,650 Commercial Bank of $4,213
China Ltd.

China Construction
Sumitomo Bank Ltd. $335 Deutsche Bank AG $2,946 Bank Corp. $3,634

Agricultural Bank of
Fuji Bank Ltd. $328 Citigroup Inc. $2,692 China Ltd. $3,441

Mitsubishi Bank Ltd. $318 JPMorgan Chase & Co. $2,495 Bank of China Ltd. $3,206

Sanwa Bank Ltd. $307 BNP Paribas SA $2,471 JPMorgan Chase & Co. $3,108

Industrial Bank of Mitsubishi UFJ

Japan Ltd. $262 Barclays Plc $2,433 $2,890
Financial Group

Norinchukin Bank $232 HSBC Holdings Plc $2,354 HSBC Holdings Plc $2,652

Crédit Agricole $214 Bank of America Corp. $2,128 BNP Paribas SA $2,651

Tokai Bank Ltd. $214 Crédit Agricole SA $2,062 Bank of America Corp. $2,641

Mitsubishi Trust & China Development

Banking Corp. $206 ING Groep NV $1,914 Bank $2,470

*Figures for U.S. banks adjusted to eliminate accounting differences on derivatives holdings
Sources: Banking on Basel (2008), company filings, Bloomberg

<GO> INSIDE THE TERM INAL 27

Credit
How China Created an
Enormous Dollar-Bond Market
By CHRISTOPHER ANSTEY and NARAE KIM
CHINA USED TO RAIL against the outsize role of the U.S. dollar. But
in a major turnaround, the world’s second-biggest economy has
started embracing the currency of its larger rival.
Chinese companies and banks—and even the government—
sold bonds denominated in dollars at a record pace last year, and
underwriters expect that growth to continue for years. The roughly
half-trillion-dollar market has two key attractions for China’s bor-
rowers. For some, it’s an easier place to raise cash than at home—
where regulators are cracking down on leverage. For others, dollars
are simply easier to use to fund acquisitions and investments abroad.
The upshot: There’s a large and growing supply of dollar
securities that offer exposure to Chinese companies for investors
wary of diving into the country’s increasingly accessible yuan-
denominated domestic debt. The offshore bond market is also
set to provide a stake in President Xi Jinping’s “Belt and Road”
initiative (BRI)—a grand plan that envisions deepening trade and
investment ties with countries across the Eurasian landmass and
beyond (page 66). Bankers see the BRI as a key source of growth
in Chinese dollar bonds.
“To hedge the escalating trade tensions with the U.S., China
will become even more committed to the BRI, which is China’s form
of globalization,” says Ken Hu, chief investment officer for Asia Pacific
28 <GO> INSIDE THE TERMINAL
fixed income at Invesco Hong Kong Ltd., which has introduced a fund
to invest in what’s also known as the Silk Road project. “We expect
increasing new Chinese dollar-bond issuance to relate to the BRI.”
THE IRONY OF USING dollars to fund a globalization project that helps
counter President Trump’s “America First” doctrine is all the richer
coming nine years after China blasted the global financial system’s
overreliance on the greenback.
In the depths of the global financial crisis, then-People’s Bank
of China Governor Zhou Xiaochuan called for the creation of a new
unit of exchange “disconnected from individual nations” and
designed according to rules. The heads of the U.S. Department of
the Treasury and Federal Reserve swiftly rejected the March 2009
call, assuring a dead end for the proposal at the one institution
capable of overseeing a global currency: the International Monetary
Fund. (As the IMF’s largest contributor, the U.S. essentially holds
veto power over major decisions.)
Undeterred, China’s official Xinhua News Agency in 2013
repeated the call for a global currency. It would be a step toward a
“de-Americanized world” insulated from the woes of a country that
was then embroiled in one of its periodic political battles over its
debt limit. In the meantime, Chinese reformers saw a golden
 For a ready-made search for Chinese issuers’ U.S.-dollar bonds, run {SRCH @KUNGFUBOND <GO>}.
Click on the Results button, then on the Matrix tab to slice and dice market data.

Issuance reached Builders have eagerly

a record of more than tapped the
$200 billion last year. dollar-bond market.

opportunity to elevate their own currency and pressed for allowing
the yuan to be used more freely abroad so it could “overtake” rivals,
in the words of one official in 2009.
As part of its internationalization campaign, China built a
yuan-denominated bond market in Hong Kong, along with an off-
shore version of its currency. When a botched devaluation of the
yuan in August 2015 roiled global markets, however, Chinese
authorities put the brakes on the internationalization project.
Increasingly strict capital controls, to shut down an exodus of
domestic funds, diminished interest in the yuan offshore market.
China needs to act “cautiously” on yuan internationalization,
says Hu Xingdou, an economist who serves as executive chairman
of the Belt and Road Foundation, a group set up to promote the
BRI. Not only does the managed exchange-rate regime help reduce
the risk of capital outflows, but it also makes it tough for specu-
lative money to surge into China. The flip side is that Chinese com-
panies need dollar-bond sales to better tap international capital,
“After all, offshore investors prefer dollar bonds” to those priced
in yuan, Hu says. “We expect China’s dollar-bond finance growth
to continue.”
China’s tightened capital controls helped stabilize the yuan
over the past couple of years, something that’s encouraged
Chinese borrowers to look increasingly at the dollar-bond market
to tap both overseas and Chinese demand for dollar investments.
Although China’s world-record official foreign exchange
reserves are well-known, standing at about $3 trillion, what’s less
recognized is that Chinese banks are also flush with foreign
exchange deposits, to the tune of about $850 billion. The reason:
domestic demand for foreign currency, along with China’s per-
sistent trade surpluses and foreign direct investment into the still
rapidly growing economy. Because domestic banks have those
dollar deposits, Chinese authorities have allowed them to issue
dollar debt offshore. Those banks often use the proceeds to buy
higher-yielding dollar debt issued by Chinese companies.
Among corporate issuers, property developers have been
particularly aggressive in selling dollar debt. Although without
dollar revenue of their own, builders eagerly tapped the dollar-bond
market in an environment of a stable exchange rate and lower
yields offshore than at home. They ramped up issuance 300 percent
in 2017 from the previous year, to $42 billion, according to data
compiled by Australia & New Zealand Banking Group Ltd.
With borrowing costs on the rise and a retreat in the yuan, the
environment hasn’t been as friendly for issuers in recent months,
and some have had to sell shorter-dated securities to meet

<GO> INSIDE THE TERMINAL 29

 Go to {NIM22 <GO>} to monitor new issues in the Chinese offshore market.
investors’ reduced appetite for risk. In the case of China Vanke Co.,
one of the largest property developers, it resorted in May to a
floating-rate note—a security more the province of banks than non-
financial issuers. Authorities have been keeping an eye out for exces-
sive risks, moving in June to consider a ban on sales of dollar bonds
with maturities of less than a year—which would close a loophole
that allowed companies to issue without official preapproval.
China’s moves to restrict credit growth at home, after cor-
porate debt surged to 160 percent of gross domestic product last
year, has squeezed some borrowers, triggering defaults in the
dollar-bond market as well. Now that investors have the fear of
God (or at least default), issuance in the market has slowed in
recent months. But running {NIM22 <GO>} on the Bloomberg ter-
minal shows that new issues of Chinese offshore bonds
continue. Junk-rated China Aoyuan Property Group Ltd., for example,
sold $200 million of 7.5 percent three-year bonds in June.
China’s large savings pool and its investors’ familiarity with their
country’s borrowers mean that even with higher yields and default
risks, the dollar-bond market will continue to grow, says Ben Yuen,
fixed-income chief investment officer in Hong Kong for BOCHK Asset
Management Ltd. He sees 20 percent average annual growth over
the next five years, taking the market to more than $1 trillion.
30 <GO> INSIDE THE TERMINAL
A clear sign of endorsement by the government of borrowing
in dollars came in October, when China sold $2 billion of notes that
bankers said were aimed at providing benchmark borrowing costs
for nonsovereign Chinese borrowers. The thinking was it could help
lower rates for state-owned entities and banks. An additional
$3 billion sovereign offering is planned for this year.
“It’s part of the government’s push to get companies to diver-
sify funding sources,” says Leong Wai Mei, a fixed-income portfolio
manager at Eastspring Investments in Singapore. “Dollar-bond
funding raised for Chinese projects overseas makes more sense
than funding in onshore RMB, due to size and also because a lot of
the capital-spending requirements are billed in dollars,” she says.
(RMB stands for renminbi, another term for China’s currency.)
Leong says the benefits of borrowing in dollars include gaining
international exposure, obtaining cheaper funding, and financing
overseas operations with offshore money rather than taking yuan
out. Once interest rates stabilize and macroeconomic risks come
down, she says, “issuance will likely pick up again.”
—With Jing Zhao and Lianting Tu
Anstey is a managing editor at Bloomberg News in Tokyo.
Kim covers fixed income in Hong Kong.
 » Official mandates

Putting » Priced deal announcements

you at the » Guidance updates

» League tables

centre of the » Pipelines

global bond » Distributions stats

» Market perception

markets » Historical data

High grade IGRD <GO>

Emerging markets EMRD <GO>
High yield HYRD <GO>

Global Primary Bond Markets News & Analysis

Japan
This Analysis Uncovered
Rising ‘Structural’ Capital Investment,
A Potential Boon for Growth
By YUKI MASUJIMA
For analysis of economic data, events, and themes, go to {BI ECON <GO>}.
PRIVATE CAPITAL EXPENDITURE in Japan is on pace to increase for
the eighth year in a row in 2018. What’s remarkable, according to
our analysis, is that the current streak is being driven by investment
in new facilities and technologies, not short-term spending to
adjust to temporary shocks or inventory cycles. Companies, in
other words, are making “structural” commitments to the economy.
The implications are important: Capital expenditure may prove to
be more sustained than many observers expect, and such capex
could support durable growth in the world’s third-largest economy.
What’s more, structural capex is less likely to be affected by
marginal changes in funding costs. For the Bank of Japan, that could
make it easier to raise its yield-curve targets when the time comes.
Bloomberg Economics used a so-called spectrum analysis
technique, building on methodology described in a Bank of Japan
staff paper, to break down drivers of real nonresidential investment.
The technique uses a band-pass filter—which in effect sifts data
at certain frequencies—to separate out shorter-term investment
cycles from more durable structural changes and trends in spend-
ing. For longer-term growth, it’s the latter that are more important:
32 <GO> INSIDE THE TERM INAL
Cycles come and go, but structural and trend drivers tend to have
more persistent effects.
Japan’s private investment has been driven by different
factors at various points in the past. During the asset-price bubble
of the 1980s, annual growth in headline business investment
peaked at 17.4 percent in 1988, rising from 9.2 percent in 1985.
But within that overall increase, structural and trend investment
slowed to 6.8 percent in 1988, from 9.3 percent in 1985, according
to our analysis. What triggered that slowdown? It came from a
downshift in Japan’s competitiveness.
Recall that 1985 was the year of the Plaza Accord, under
which the Group of Five—France, West Germany, Japan, the U.K.,
and the U.S.—agreed to weaken the then-strong dollar against the
Japanese and German currencies. The subsequent appreciation
of the yen—to about 120 per dollar by the end of 1987, from roughly
250 at the beginning of 1985—was a severe headwind for Japanese
exporters. Five interest rate cuts by the Bank of Japan from 1986
to early 1987 helped to boost capex related to inventory cycles
and investment-renewal cycles. But the monetary easing
 WHAT’S DRIVING JAPAN’S CAPEX?
Annual growth rate* of Japan’s capital expenditures, by component
Structural factors and trend
Inventory cycles
Investment-renewal cycles
Short-term fluctuations
Total real business investment
1981
wasn’t enough to counter slowing structural investment.
Since 2011, real business investment has been rising. Our
spectrum analysis shows that inventory and investment-renewal
cycles were the main drivers until 2014. The impetus then shifted
to structural factors and trend spending. Last year the structural
component accounted for 2.5 percentage points of the 2.9 percent
rise in total investment.
Here’s some more detail about our methodology for this
analysis. We decomposed Japan’s real nonresidential investment
following a method outlined in an academic paper by Lawrence
Christiano at Northwestern University and Terry Fitzgerald, a senior
economist at the Federal Reserve Bank of Minneapolis.
We looked for three cyclical factors: short-term fluctuations;
inventory cycles, which reflect the buildup and drawdown of stock-
piles of equipment; and investment-renewal cycles, which track
the periodic replacement of machinery, for example. To identify
those factors, we filtered by three bandwidths of time: up to two
years for short-term fluctuations, two to five years for inventory
cycles, and five to 15 years for investment-renewal cycles. We
<GO> INSIDE THE TERMINAL
15%
2018 -15
*Estimated using seasonally adjusted investment values
Sources: Cabinet Office, Bloomberg Economics
then estimated structural factors and trends by subtracting the
three cycles from actual real nonresidential business investment
(the capex component of gross domestic product).
How did the three cycles fit actual events and data? Short-
term fluctuation factors captured the ups and downs from Japan’s
sales tax hikes in 1997 and 2014 as well as the blow to sentiment
from the Brexit vote in 2016. The length of the inventory cycle in
our analysis matched the contribution of private inventories to
GDP, overall.
Distinguishing structural factors from the trend in investment
is difficult to do. Even so, it’s clear that Japanese companies are
stepping up spending in a durable way. Part of this may reflect a
boost from China. The mainland government is pursuing a “Made
in China 2025” policy, which requires significant capital goods.
Japanese companies may be boosting investment to build out
supply chains to meet this demand—leading to the structural shifts
in capex over the medium to long term.
Masujima is a senior economist at Bloomberg Economics in Tokyo.
33
Monetary Policy
Ultraloose ECB Monetary Policy Signals
Faster Tightening Ahead
By DAVID POWELL, JAMIE MURRAY, and DAN HANSON
THE EUROPEAN CENTRAL BANK announced in June that it would soon
end its asset purchase program. It also indicated that the first rate
hike will come after summer 2019. Our estimates of the neutral
policy rate suggest the second increase shouldn’t be too far behind.
Monetary policy is looser than called for at this stage of the
economic cycle, according to our analysis. Given the ECB’s enor-
mous stock of asset purchases, the refinancing rate might need
to be 1.25 percentage points higher to keep the euro-area economy
on trend. If the stance of policy prompts overheating, the ECB may
find it has some catching up to do.
What Is the Neutral Rate, Again?
For each economy, there’s a neutral rate that will keep aggregate
demand expanding at its potential rate once the output gap—the
difference between actual and potential output—has been elim-
inated. In other words, it’s an interest rate that’s just right—neither
so low that the economy overheats nor so high that it cools.
How Do We Measure It?
The neutral rate can’t be observed directly. So we have to work it
out by looking at actual interest rates and taking the economy’s
temperature. When the economy has overheated, that suggests
policy was too loose—interest rates were below the neutral rate.
Conversely, if the economy is operating with spare capacity, actual
rates may have been above the neutral rate. And because we think
we know how much lower borrowing costs boost the economy
(or how much higher costs hurt it), we can infer what the neutral
rate might be. In normal times, it would be surprising if the neutral
34 <GO> INSIDE THE TERMINAL
rate were to move suddenly. So we can assume that it evolves
slowly unless there’s a big shock.
To estimate the neutral rate, we adapt a Federal Reserve
Bank of San Francisco paper by Thomas Laubach and John Williams.
In addition, we also take into account the influence of asset pur-
chases and credit spreads, creating a measure called the effective
interest rate. And we use the modeling framework to estimate its
counterpart, the effective neutral interest rate.
What Does History Tell Us?
Charting our estimates shows that the effective and neutral rates
weren’t too far apart in the early days of the euro area. Then, during
the global financial crisis, the neutral interest rate plunged,
reflecting weaker trend growth and a widening of credit spreads.
As spare capacity opened up, effective rates remained above the
neutral rate, suggesting the crisis could have been less severe if
policy had been more responsive.
The same seems to have been broadly true during the euro
crisis and its aftermath. Since then, the neutral effective interest
rate has continued to fall, and the ECB has pushed the actual
effective rate down further by purchasing assets. In short, policy
has become much more accommodative. At the same time, the
margin of spare capacity in the economy has shrunk—we estimate
slack will be almost completely used up by the end of the year.
At that point, the effective interest rate ought to be raised
to the neutral effective interest rate. But our estimates suggest
the gap will still be very wide—about 125 basis points. Our model
suggests policy is ultraloose.
 LOOKING LOOSE
ECB refinancing rate at quarter’s end
Main rate Neutral main rate

4%

1Q ’03 1Q ’18 0
Source: Bloomberg Economics

RATE PLUNGE
ECB effective* interest rate estimate at quarter’s end
Effective rate Neutral effective rate

3%

Asset purchases will end this year, possibly later than nec- 0
essary. In fact, the last rounds of asset purchases may not have
been needed at all. Still, the ECB clearly thought the insurance
against the possibility of deflation was necessary. It was a reason-
able position to take, but the central bank may have to play
catch-up if inflation begins to accelerate more than expected. In
1Q ’03 1Q ’18 -3
the meantime, it has the luxury of remaining cautious.
*Incorporates the influence of asset purchases and credit spreads
With quantitative easing no longer the active instrument of
Source: Bloomberg Economics
monetary policy, it’s worth thinking about what all this means for
the main policy rate. Given the amount of QE in the system, the
neutral policy rate is now much higher than the current zero percent
refinancing rate.

When Will the First Hike Come?

When the ECB kept rates unchanged in June, President Mario
Draghi said, “We expect them to remain at their present levels at
least through the summer of 2019.” In July, he reiterated the guid-
ance. That likely means the deposit rate will be increased by
15 basis points in September of next year. Such a small increase,
to -0.25 percent from the current -0.40, would restore normality
to the ECB’s interest rate corridor—the bank’s three rates had
previously been 25 basis points apart. Financial markets are indi-
cating the same thing: The euro overnight interest-rate swap curve
has priced in 10 basis points of tightening in one year.
And the Next One?
The second rate increase may follow rather quickly, given the
modest nature of the deposit rate hike. Financial markets have
priced in an additional 25 basis points of tightening from 12 months
to 24 months but provide little clarity as to when. Surveys of econ-
omists point to first quarter 2020. We forecast one 25-basis-point
hike every six months after the first increase. That reflects the
ECB’s cautious approach to policy making.
This analysis suggests the risks to that expectation are skewed
to the upside. If growth keeps chugging along and inflation accel-
erates faster than forecast, the ECB may find itself behind the curve.
Rates could rise at a quicker pace, especially if Jens Weidmann, the
Deutsche Bundesbank’s hawkish president, takes the helm at the
ECB when Draghi’s term ends in November 2019.
Powell, Murray, and Hanson are economists at
Bloomberg Economics in London.

<GO> INSIDE THE TERM INAL 35

Private Credit
A Debt Pioneer Looks to
Usher Schuldschein Into the Digital Age
By JACQUELINE POH
P H OTO G R A P H BY A L I N A E M R I C H A N D K I E N H OA N G L E
to have created a new debt market.
F E W P EO P LE CA N C L A I M
Andreas Petrie is one of them. And more than two decades after
his breakthrough deal, he’s once again driving a transformation.
Petrie wants to see Europe’s largest private debt market
escape a tangled web of phone calls, emails, and faxes by shifting
to digital platforms within five years. The technology drive is also a
key part of efforts to expand so-called Schuldschein lending beyond
the German heartland and into global markets.
“The room for growth is huge,” says Petrie, the Frankfurt-based
head of primary markets at Landesbank Hessen-Thüringen, or
Helaba. “The world is constantly moving toward a digital age, and
we need to be creative.”
PETRIE’S ORIGINAL BRAIN WAVE in 1996 was to introduce corporate
borrowers to Schuldschein, a bond-loan hybrid then mainly used
by European sovereign and financial institutions. German banks led
by Helaba, Landesbank Baden-Württemberg (LBBW), and Bayerische
Landesbank have since built the idea into a market that reached
record issuance of €35 billion ($40 billion) in 2017, before slowing
this year. Investors have flocked to a product offering comparatively
high yields from generally investment-grade issuers, even after a
couple of recent high-profile blowups. Borrowers appreciate a
number of features: Schuldschein don’t need credit ratings; trans-
action details can remain private, unaffected by this year’s stringent
Markets in Financial Instruments Directive II; and paperwork is light,
even for billion-euro deals.
“The beauty of Schuldschein is in its flexibility,” says Paul Kuhn,
head of debt capital markets origination at Bayerische Landesbank,
or BayernLB. For closely held or unrated companies otherwise cut
off from capital markets, the product is the best option, he says.
36 <GO> INSIDE THE TERM INAL
Like Helaba, BayernLB is working on digital Schuldschein
using a platform called VC Trade, which was developed by fintech
company Value Concepts GmbH. In April, Petrie’s team at Helaba
arranged the first Schuldschein on the platform, a green deal for
Austrian power company Verbund AG. Helaba then worked with
BayernLB on a sale for utility Entega AG. The system cuts processing
costs as much as 30 percent, Petrie says, as it manages every step
from syndication to issuance and trading. The number of investors
on the platform has swelled to more than 100 in just a few months
and may double by yearend, says Value Concepts co-founder
Sebastian Glock. “The platform is accessible to all investors and
free for investors and issuers to use,” he says.
Meanwhile, LBBW, the biggest Schuldschein arranger in 2017,
set up a rival digital platform called Debtvision in partnership with the
Stuttgart Stock Exchange. Marketing for the system’s first transaction,
for logistics company BayWa AG, began in June. LBBW is now focused
on bringing more traffic to the platform. “We are open to share the
platform with other banks, but we are not willing to dilute our quality
standards,” says Joachim Erdle, LBBW’s head of corporate finance.
Competition among VC Trade, Debtvision, HSBC Holdings
Plc’s Synd-X platform, and possibly other systems may help
accelerate the adoption of digital. Still, the risk is that separate
systems will reduce potential efficiencies, as has happened in
other bank-led efforts to create digital trading platforms for
specialized securities. “In an ideal world, we would all be using the
same platform,” says Michael Bergmann, an active Schuldschein
investor as a director at Basler Kantonalbank. “It would be a hassle
and cumbersome to have to remember the different passwords
and different processes on several platforms.” The Swiss-based
lender has joined LBBW’s Debtvision. (Bloomberg LP
 Petrie
competes in many areas of fixed-income electronic trading.)
Schuldschein issuance has surpassed term loans and non-
rated corporate bonds in Germany, helping fuel growth for the Mit-
telstand, the small enterprises that form the nation’s manufactur-
ing backbone. Deal size averaged about €210 million in 2016, roughly
in line with the U.S. private placement market, according to a Euro-
pean Commission report. About three-quarters of issuers were
companies with less than €5 billion in sales.
Larger borrowers include carmaker Volkswagen AG, which
raised €600 million in January following a €900 million sale last year.
Schuldschein also makes up about 60 percent of gross debt at Axel
Springer, publisher of Bild, Germany’s biggest tabloid. “Schuldschein
currently offers more favorable terms than other financial instru-
ments,” says Heike Rust, head of group finance at Axel Springer.
<GO> INSIDE THE TERMINAL
The advantages of Schuldschein, particularly for smaller bor-
rowers, include deal terms that are largely standardized and typically
only a few pages long.
Deals can be divided into tranches of different maturities,
with fixed or floating rates. Each tranche is further cut into slices
according to demand from individual investors—effectively creating
a series of direct loans of varying sizes but identical terms. Buyers
generally hold their pieces until maturity, although one aim of the
technology push is to spur trading. By spreading out the credit
among investors, borrowers can avoid bank lenders that might insist
on selling additional services.
Technology has helped make the market more liquid, encour-
aging investors to seek larger deal slices, says Christoph
Osterbrink, head of corporate finance at hospital operator
37
 For a closer look at Schuldschein issuance, go to {LEAG <GO>}, enter “Schuldschein”
in the <Search Table> field, and click on the Corporate Schuldschein match.
Asklepios Kliniken GmbH, a frequent Schuldschein issuer.
One drawback of the Schuldschein market is that renegoti-
ating deals is more complicated than it would be with bonds or
loans. Borrowers have to reach agreement with each lender sepa-
rately, rather than getting majority support and imposing a deal on
everyone else. Sales also take about six weeks, similar to a loan, as
investors assess the risk in-house.
PETRIE, 59, HAS ANOTHER avenue for his appetite for risk: racing
motorcycles. A photo of a Ducati Multistrada sits on the desk in his
office, which is on the third floor of Helaba’s landmark 200-meter
(656-foot) skyscraper, home to the highest public observation deck
in Frankfurt. There are about 20 other motorcycle racing fanatics
on his trading floor, Petrie says.
His capital markets team has grown to 30 people from three
when he became head in 1993. He’d come from a syndicated-loan
background, so when he saw the simple documentation of sovereign
Schuldschein, he knew he’d found his niche. “I’m a fan of simplicity,”
he says. In 1996 he sold the first corporate Schuldschein, a 50 million
deutsche mark issue by household-products maker Benkiser GmbH.
Fewer than 10 local banks were offered the deal, a far cry from the
hundreds of domestic and overseas banks and funds that participate
in the market today. Still, it was quickly oversubscribed, convincing
Petrie that the idea was a winner.
Schuldschein lending gradually grew. When bond markets froze
up during Europe’s credit crisis, sales continued because issuance
was dominated by German banks that lent to local businesses and
then held on to the loans. That shielded Schuldschein from daily
fluctuations in mark-to-market prices. When tighter regulations pared
direct bank funding, larger borrowers entered the market.
38 <GO> INSIDE THE TERMINAL
Investors were able to lock in comparatively high returns.
Spreads on five-year Schuldschein tranches averaged about 99 basis
points over the euro interbank offered rate last year, almost double
the 52.8 basis-point premium paid by investment-grade euro bonds.
Sales last year totaled €35 billion, triple the figure in 2010.
There were 185 deals, almost half of which were from first-time
borrowers, including U.S. paintmaker Sherwin-Williams Co. At least
20 more debut deals were done in the first half of 2018. The push
to internationalize Schuldschein has made roadshows in Asia more
common. Lenders from the region including Bank of China Ltd.
and Mizuho Financial Group Inc. have also acted as managers
on deals.
Still, overseas growth has boosted risk as borrowers extend
beyond the conservative Mittelstand. Investors in a €131 million
Schuldschein were wiped out earlier this year following the collapse
of U.K. contractor Carillion Plc. The fate of a €755 million facility
from troubled global retailer Steinhoff International Holdings NV
was still up in the air in early July. “The Schuldschein market is losing
its innocence,” says Neil Weiand, a partner at law firm Linklaters.
Investors have become cautious, causing deals to fall through.
ADVA Optical Networking SE decided not to proceed with a facility
in April based on market feedback. The easing of European Central
Bank stimulus measures has also weighed on Schuldschein issuance
this year, which mirrored declines for bonds and loans.
The shift to digital platforms may help revive growth by easing
syndication and reducing expenses. “Market competition and spread
compression have put pressure on income, so we need to optimize
cost structure,” Petrie says. “Going digital is the answer.”
Poh covers syndicated loans at Bloomberg News in London.
Economics Focus

ASHLEY GILBERTSON/VII/REDUX

40 BLOOMBERG MARKETS
 BY JONAS BERGMAN, ENDA CURRAN, AND RICH MILLER
POWERED BY BLOOMBERG ECONOMICS

Your
Guide to the
Next
Recession

With the global economy coming off its best performance in six years, it
may seem strange to be speculating about the next recession. But when
it comes to investing—and policy making—it pays to think ahead. In the
following pages, we lay out some potential causes and warning signs of
a downturn and why, if one occurs, it could end up lasting for a while.

VOLUME 27 / ISSUE 4 41
CAUSES

Central Banks Wade Into Historically Dangerous Territory

1
Since the end of 2015, the Federal
Reserve has been bumping up interest
rates to keep the economy from
overheating. That tactic may be the
economy’s undoing.
Almost every U.S. recession since
1970 has had at least one thing in
common: a sustained campaign of
interest rate hikes by the Fed. As the cost
of credit went up, companies and
consumers cut borrowing and spending,
weakening the world’s largest economy.
The only time in recent history that
the U.S. central bank raised rates and
didn’t end up triggering an economic
downturn was in the mid-1990s, partly
because of a subsequent technology-
driven spurt in productivity. Now the risks
of a monetary misstep are rising as the
European Central Bank joins the Fed
in scaling back stimulus.

FEDERAL FUNDS TARGET RATE

Upper bound

Recession 20%

10

1/29/1971 6/29/18 0

An Escalating Trade Conflict With Few Winners

2
The Great Depression that hammered
WINNERS AND LOSERS IN A TRADE WAR
the world economy was fueled, at least
Projected difference in GDP and current account balance through 2020, assuming a
in part, by the U.S.’s passage of the reciprocal 10 percent tariff levied on all goods and services between the U.S. and the rest of the world
Smoot-Hawley Tariff Act in 1930. The law
taxed a swath of imports and triggered Current account balance, percentage point change
a global retaliation. Economists differ on
2
the scope of its impact, but what’s certain
is that world trade volume sank, and the U.S. Winners
South
U.S. remained in a rut until the war boom. Spain Africa
Denmark 1
In 2018 the U.S. has been taking a
Brazil Developing
more piecemeal approach to tariffs, but Italy
Europe
China India
the response by its trade partners has
Belgium Australia 0
been swift. The European Union, Canada, Africa Turkey Germany
Indonesia Sweden
China, and Mexico have promised tariffs Japan U.K.
South Korea Norway
on tens of billions of dollars in U.S. goods. Switzerland France -1
Economists say a full-blown trade Russia
war would hurt confidence and sentiment, Losers Mexico
eventually slowing growth. If the U.S. raises
-2
import costs by 10 percent and the rest
of the world retaliates by raising tariffs on Canada
Hong Kong
U.S. exports, the cost by 2020 would
be a dip in global gross domestic product -2% -1.5% -1% - 0.5% 0 0.5%

of 0.5 percent, or about $470 billion, GDP, percentage difference

Bloomberg Economics estimates.

42 BLOOMBERG MARKETS
 An Oil Shock in All Over,
3 The Offing
4 Debt Bubbles
Over
Most of the world’s largest economies After a decade of unprecedented
are net crude importers, so when monetary policy stimulus, the world
oil prices rise, global economic growth is leveraged. Total debt in advanced
typically slows. economies stood at 276 percent of
With new sanctions on Iran and GDP at the end of last year.
chaos in Venezuela, the oil markets have
tightened in 2018, driving prices higher. 1Q ’08
That should worry consumer nations 251%
4Q ’17
across the developed world, which face 276%
rising inflation and crimped pocketbooks.
President Trump has urged OPEC
to open its spigots wider to bring prices
down as U.S. gasoline costs rise. The Three mountains of debt in particular
group of oil suppliers and its allies could lead to problems.
did agree to an output supply boost in In China, state-owned banks and
late June, though a vaguely worded enterprises have been on a borrowing
statement left much speculation over tear to help the country sustain its high
just what would be carried out. growth rate. Borrowing by Chinese
businesses stood at 160 percent of GDP
at the end of last year, down a bit from
GROWING ON CHEAPER ENERGY
its peak in the second quarter of 2016
World real GDP, year-over-year change
but up sharply since 2008.
6%

1Q ’08 4Q ’17
97% 160%

4
Meanwhile, emerging-market government
debt hit a record last year, but
corporate debt may pose the real danger.
$70.27 Corporate debt in developing economies
rose to 105 percent of GDP last year.

2
1Q ’08
61% 4Q ’17
105%
ILLUSTRATION BY LA TIGRE FOR BLOOMBERG MARKETS

0 In the euro-zone, sovereign debt levels

$14.85
are elevated. Major countries such as
Crude oil price per barrel
France, Italy, and Spain have debt near
or exceeding their total GDP. The average
for the bloc was at almost 100 percent
last year, up from below 70 percent
in 2007. Italy, now ruled by populists,
2Q ’88 1Q ’18 -2 will next year also face significant debt
repayments, adding to concern.

VOLUME 27 / ISSUE 4 43
SIGNALS

The Bond Market Approaches the Upside-Down

5
An inverted U.S. yield curve has been
a reliable omen of a recession, although
the length of time between the inversion
and the start of the downturn has varied.
There are two common explana-
tions. First, as short-term interest rates
rise above longer-term ones, banks find
it increasingly unprofitable to extend the
credit that the economy needs to grow.
That’s because they borrow money short
and lend it out long. Second, a yield curve
inversion is a sign that investors believe
the Fed has jacked up short-term rates
too far and will need to cut them to
counter a weakening economy.

TREASURIES SIGNAL TROUBLE

Percentage-point difference between the 10-year and 2-year yields

Recession 3.0

Normal yield curve 1.5

0
Inverted yield curve
-1.5

6/30/1976 6/29/18 -3.0

When Sweden’s Factories Slide, Korean

6 Europe’s Follow
Although it’s outside the Group of 20,
Sweden is closely watched by
economists for signs of a slowdown.
Home to companies such
as SKF AB, one of the world’s biggest
makers of ball bearings, and heavily
dependent on exports, the country
is somewhat of a bellwether.
By looking at its purchasing
managers’ index, it’s possible to glean
the direction of overall European
manufacturing.
The largest Nordic bank, Nordea
Bank AB, finds the Swedish indicator can
give investors a two-month jump on the
euro-zone PMI.
7 Exports Mean
The World
As a technology and manufacturing
powerhouse, South Korea is a harbinger.
Its exports are highly correlated with
global GDP. Part of the reason: China’s
exports trend roughly in line with those of
South Korea, which plays a central role in
a complex regional supply chain. As Asia’s
economy goes, so goes the world’s.

AN UNLIKELY LEADING INDICATOR WATCH THE SOUTH KOREAN PORTS

Purchasing managers’ indexes, seasonally adjusted Global GDP, year-over-year change
Swedbank Sweden PMI
6%
Markit Eurozone Manufacturing PMI
60
21%
4

Expansion 6%
2
Contraction 50

0
South Korean exports,
year-over-year change
7/2012 6/2018 40 3Q ’06 1Q ’18 -2

44 BLOOMBERG MARKETS
RESPONSES
Central Banks Are
8 Running Low on Ammo
The Fed cut rates by more than
5 percentage points on average to
counter the last three U.S. downturns,
and the ECB reduced them by almost
2.5 points. The U.S. benchmark rate
stands at 1.75 percent to 2 percent,
and the ECB’s is zero.
The growth in both central banks’
CHOCK-FULL
Fed’s balance sheet at month’s end
€1.5t
ECB’s balance sheet, in euros
12/2007
In the Global Financial System,
9
‘Safer’ May Not Be Safe Enough
MORE IN THE BANK
Level of capital at a sample of 88 large, internationally active banks
1H 2011
Europe Americas Other
€774b €802b €824b
1H 2017
Europe Americas
€1.4t €1.2t
A decade ago, banks had too little
capital to withstand losses during turmoil.
Over the past decade, regulators have
tried to shore up their defenses. Since
the latest global regulatory framework
released in 2011, the world’s banks have
almost doubled their capital levels to build
their resilience. The biggest banks have
built up their capital even more. Bank of
England Governor Mark Carney says the
global system now is “safer” because the
balance sheets means they’ll have
less room to undertake quantitative
easing by buying bonds in the next
downturn. The Fed’s balance sheet has
risen to $4.3 trillion, from $891 billion
in December 2007, while the ECB’s has
risen to €4.6 trillion ($5.4 trillion),
from €1.5 trillion.
€4.6t
$4t
6/2018
€2.4t
Other
€1.9t €4.4t*
big global banks have capital levels that are
10 times higher than before the crisis.
Still, many of the academic experts
who were concerned about leverage at
banks before the crisis are now worried
the drive hasn’t gone far enough. Stefan
Ingves, the Swedish central bank governor
who oversaw the latest capital agreement
known as Basel III, said in a speech in
January that the work on bank capital
levels has just begun.
VOLUME 27 / ISSUE 4
Borrowed
10 Time
Since the last crisis, debt has surged
around the world, limiting governments’
ability to buy their way out of trouble.
The details vary by country, but global
debt is up to a record $164 trillion,
according to the International Monetary
Fund. Global public and private debt rose
to 225 percent of the world’s GDP
in 2016, the last year for which the IMF
provided figures.
No single country or group is
to blame, although China accounts for
almost three-quarters of the rise
in private debt since the financial crisis.
More than a third of advanced economies
2 have debt-to-GDP levels greater than
85 percent, three times more nations
than in 2000, the IMF said. Meanwhile,
0 a fifth of emerging markets and middle-
income countries have debt levels
above 70 percent of GDP.
In Europe, an agreement born out of
the euro-zone crisis will limit governments’
ability to counter a recession by
borrowing. A plan by French President
Emmanuel Macron to create a common
budget for the euro area remains vague.
KEY ECONOMIES IN THE RED
Government gross debt as a share of GDP in 2017
Japan 236%
Italy 132
U.S. 108
France 97
Canada 90
U.K. 87
Brazil 84
E.U. 83
India 70
Germany 64
China 48
45
The Markets Q&A

MARK CARNEY SEEMED revolutionary enough in 2013 when he became the irst non-British citizen to be appointed
governor of the Bank of England. But the 53-year-old has since had to contend with a much greater upset: the
U.K.’s vote to leave the European Union. Now he reveals that he spends half his time preparing the inancial
system and economy for Brexit, which takes efect in March. Born in Canada’s remote Northwest Territories
and educated at a public school in Edmonton, Carney graduated from Harvard and Oxford before working at
Goldman Sachs Group Inc. and the Canadian inance ministry. In early 2008 he became the eighth governor in
the Bank of Canada’s history, winning praise for his quick reaction as the inancial crisis developed. He succeeded
Mario Draghi as chairman of the Financial Stability Board (FSB) in 2011, becoming the point man on global
inancial system reform. At the Bank of England, Carney has juggled Brexit, negotiating new regulatory standards,
and adapting the 324-year-old institution to its expanded supervisory responsibility. As the BOE’s 120th gov-
ernor, he says some disruption was in order. “You don’t need an outsider all the time, but at the time it helped.”

By STEPHANIE FLANDERS
P H OTO G R A P H S BY F E L I C I T Y M c CA B E

Mark
Carney:
“Within
nine months,
we could
have a
disorderly
Brexit
stress test”
46 BLOOMBERG MARKETS
STEPHANIE FLANDERS: Five years. If you think back to starting
your tenure in this building, then you were mostly known as the
guy with the star résumé who was going to be the irst non-national
governor of a major central bank. Remembering your expecta-
tions on that irst day, how has the experience measured up?
MARK CARNEY: It has exceeded my expectations in terms of the
quality of the organization, the importance of the issues, both the
intellectual and practical policy challenges.
My expectation coming in was that the platform here would
help increase the ambition and efectiveness of international
[inancial] reforms because of the expertise that’s present in the
organization, the importance of the U.K. inancial system, and
because many of the ideas for not just ixing the problems that
caused the crisis but potential solutions for a more resilient system
had been generated in the U.K. I could help with that, and obvi-
ously I had the advantage of coming in as still chair of the FSB. It
has very much met or exceeded expectations in all those respects.
Of course it’s hard to go from concept to agreed global
policy and then have that implemented, but I think—others
will judge—relative to my expectations it’s been pretty faith-
fully implemented.
Secondly, it was about securing the recovery here,
which at the time I took the position [Carney was appointed in
November 2012] hadn’t really begun, or at least it didn’t appear
on measured statistics. By the time I showed up [Carney started
in July 2013] it certainly had begun, and the question was how
to embed that.
The third issue coming in that I expected to spend time on
was the managerial task of how you refresh the organization, how
you get the most out of it. Of course the bank at that time had just
doubled in size in terms of the number of people and tripled in
responsibilities—not just microprudential but macroprudential
supervision—so how can we make the most of that? That mana-
gerial challenge I expected to be a big part of the job, and if any-
thing, it’s been a bigger part of the role than I expected coming in.
The irst few years were kind of the easy bits: trying to get the insti-
tution operating as one institution after you’d merged two institu-
tions; to have all of the policy responsibilities on an equal footing,
equally resourced, people being able to move between the various
policy areas. Now it’s much more an agenda around true diversity
and inclusive decision-making processes to get the beneit of the
diversity and getting much better at communication.
SF: But the Bank of England did, when you arrived, have a rep-
utation for being old-fashioned, traditionalist, also somewhat
autocratic in terms of the way your two predecessors had oper-
ated. Do you think you fundamentally changed the culture?
MC: First of, there are the tremendous strengths of this culture
built up over 300-plus years, and the intellectual leadership, the
dedication to public service is at the center of it. So you build on
the strengths, but cultural evolution is necessary to get the most
out of those diferent areas.
Historically all central banks have been quite hierarchical.
The longer a central bank has been around, the more hierarchical
it’s been. That’s not a modern way of managing an organization.
Every organization has certain people responsible—whether it’s
a CEO or a minister or whoever has ultimate accountability—but
the decision-making process tends to be less hierarchical, more
inclusive, more diverse.
48 BLOOMBERG MARKETS
One thing we’ve tried to reinforce is, in a safe way, getting
more ideas out there. Through the Bank Underground [research
blog], through more people giving speeches, there’s a lot we
can share. I think we’ve gone across that watershed where not
everything that comes out of the bank is instantly interpreted
as “This is the new MPC [Monetary Policy Committee] or FPC
[Financial Policy Committee] policy,” but “Here’s an interest-
ing idea; here’s the research on it,” and then it gets taken apart
or taken up by others. That’s a much healthier environment for
intellectual rigor, for policy development, and for attracting and
retaining good people.
SF: From the outside it feels like, particularly on things like the
Monetary Policy Committee, there has been an ongoing failure
to get enough female representation on the committee. Do you
think there just aren’t enough women economists out there who
are interested in macro?
MC: I think it’s eminently solvable. Yes, there are issues in the
pipeline—25 percent of people who study A-level economics
and 25 percent of people who study economics at university are
female. It’s 1 in 7 professors or lecturers in the U.K. There are
ways to attack that, including just attracting people into the dis-
cipline, which is why we have this outreach program that we’ve
just put in place for 100,000 students at state schools across the
country over the course of the next 18 months to just draw people
in. And I’ll tell you that one of the experiences of meeting people
like me is that people get over the impostor syndrome pretty
quickly, right? Canadian state school [graduate] ends up at the
Bank of England? Well, why can’t I do the same thing?
One of the things I learned personally through the crisis,
and it sounds trite, but diversity of thought, diversity of perspec-
tive are hugely important.
Our new intake is now 50 percent economists—therefore
50 percent of the people studied something else from law,
inance, humanities, sciences, etc. So you have a bigger pool from
which to draw female colleagues.
The tragedy is always if a good mid- or senior-management
position comes up and somebody can’t get it because they haven’t
fulilled the criteria. Let’s say they haven’t managed people. We
now look at mid-upper-level management positions on a batch
basis. So you don’t sequentially take a series of decisions in which
each individual decision might be rational, but the team that
you’re creating as a whole isn’t. So we’ve looked to move away
from that. We’ve gone from 20 percent of senior management
ive years ago to 30 percent of senior management now. The
question is, where can we move from here?
And, to state the obvious, we don’t appoint the members
of the policy committee. [The chancellor of the exchequer does.]
SF: There was a referendum that was barely on the horizon
when you arrived which has since come to dominate your time.
Do you worry that Brexit will dominate the way you’re per-
ceived, that you will be the guy who happened to be at the Bank of
England when all this stuf happened?
MC: In central banking, you’re always the guy or the woman
who’s at the central bank when other stuf happens. You’ll go mad
in these jobs if you start thinking about how you’re going to be
perceived, so I honestly don’t.
In terms of Brexit speciically, let’s be clear: It takes 50 percent
of my time now. We spent a fair amount of time in the contingency
 “There are some tentative signs that this
more hostile and uncertain trading environment
may be dampening activity”
planning, but now it certainly does crowd out other things. But it
should, because the issues are incredibly important. We have a
responsibility, at a minimum, to manage through the downside if
there were a disorderly outcome, something unpredictable. We
have to take as many of those risks of the table, make sure the
system functions as well as possible. We’re doing that. But also it’s
this opportunity of constructing this new arrangement and helping
the government.
SF: Rightly or wrongly, there was a perception that econo-
mists had a lot of dark predictions about Brexit that didn’t turn
out right. That perception has outlasted the fact that we are now
seeing real economic damage. Do you think that earlier per-
ception that the dark forecast was wrong is actually making the
British public complacent about the economic damage of Brexit?
MC: I don’t want to speak for the British public. I think that what
we did as an institution and speciically the FPC—the macro-
prudential authority—was take a look at what could happen and
then take a series of steps to mitigate those risks. And that took
away some of the downside. This institution, I will say this, was
very well-prepared for the referendum result. We had put in place
everything we needed to do with the major central banks around
the world. We had used our supervisory authority to get the banks
in a position for a vote they never expected to happen. They were
not happy that we were moving them into position to be resilient
for that. We had prepositioned £250 billion of collateral—more
than that, of realizable collateral—with us so we could stand up
and be prepared the morning after the referendum.
SF: And objectively you had done a lot more preparation in
terms of hours than the Treasury.
MC: I suspect that’s probably right. We can compare time
sheets afterwards. We did think, though, that the exchange rate
would go down. We took a lot of heat for saying that in advance,
but it was the easiest call one could make, probably the easiest
call I’ve seen in macro in 25 years in terms of what was going to
happen to the exchange rate if the vote went a certain way. It did.
We thought inlation was going to rise, we thought the economy
would slow. And all of those have transpired. Every prediction,
VOLUME 27 / ISSUE 4
every forecast, every comment in that environment has been
ampliied. But I think the institution was well-prepared, and
because it was well-prepared, the inancial system was well-
prepared. And because the inancial system was well-prepared,
the transition has been better. And we instantly turned to sup-
porting the government as required during those negotiations.
SF: Do you think you and other policymakers will have a clear
idea of what the future relationship with Europe is going to look
like by the end of the year?
MC: It’s the objective of both sides in the negotiation.
SF: There are worries on both sides of the channel that the
absence of the U.K. around the table in thinking about future
inancial reforms will fundamentally make the European inan-
cial system more inward-looking than it has been. Do you worry
about that?
MC: A lot of the most important inancial reforms in Europe had
their genesis in the Bank of England. If you think of the too-big-
to-fail legislation, efectively the core ideas came from this institu-
tion or certainly this institution plus the broader inancial sector.
So that’s U.K. leadership there. I think a lot of the capital regime
as well came through the U.K. So I think a less direct channel
between what will still be the world’s leading international inan-
cial center and European policymakers will have an impact.
In some circles in Europe there is a greater predisposition
to ring-fence inancial activities. That could lead to a very large
but efectively local inancial center in Europe, as opposed to a
global inancial center, which I believe London will continue to
be. There are real beneits for Europe as well as the U.K. in having
access to what is a global, resilient, and fair inancial sector, which
is what London is.
SF: There is a chasm between regulators and economists about
whether enough has been done on things like bank capital. Econ-
omists say banks should be holding much smaller amounts of
leverage than they are now, whereas you and others would say
we’ve fundamentally changed the safety of banks. Should we be
worried that these experts completely disagree on what makes for
a safe bank?
49
“We have substantially reduced the probability and
the severity of financial crises. We haven’t eliminated them.
It’s not the ‘stability of the graveyard’ ”
MC: Financial reform has been led by the practitioners, not by
the industry, but by the policy practitioners, many of whom have
academic economic backgrounds but also have inance back-
grounds and policy backgrounds. The academic community has
lagged. They’re catching up.
Second point, when you look at the scale of the capital,
$1.5 trillion of capital put into banks, the scale of liquidity [has
undergone] a tenfold order of magnitude shift. We run a stress
test. Our most recent stress test: 4.7 percentage points down on
U.K. GDP; commercial real estate, residential real estate both
down by about 35 percent; the exchange rate down more than
25 percent; unemployment to 9.5 percent; interest rates up by
3.5 percent. This system is capitalized for that—to not just with-
stand that and survive but to be in a position to lend to the real
economy. Having run through those stress tests, one’s pretty
hard-pressed to say that there’s a material deicit of capital.
Within nine months we could have a disorderly Brexit
stress test. We’re living these stresses. I do think we have
put the system in a totally diferent position in terms of cap-
italization. In the end, we’re not looking for a system that’s
100 percent capitalized. We are looking for a banking system
that can still make a return, because that’s also part of resil-
ience—the ability to make a return. Put on top of that some
of the incentive structures you get with having bail-inable
debt [debt that converts to equity in a crisis, so that the bank
is “bailed in” by its own bondholders instead of “bailed out” by
the government]. It means that bondholders have to pay atten-
tion and bondholder pressure is real pressure. Prior to the crisis
[credit] spreads moved, but there was a judgment made by the
sharper end of the market, which was, “Don’t worry, the state
will come in and bail them out.” At that time they were right. In
the future they will be wrong.
SF: Some people do doubt whether those bail-in conditions will
actually be triggered. You’ll have all the same reasons not to want
to trigger them.
MC: That’s the real challenge. To put in the organizational
structure—the ability to separate critical economic functions
50 BLOOMBERG MARKETS
as we do with ring-fencing in the U.K., the ability to make sure
that critically systemic markets can continue to function, as we
are doing with the derivatives market. So Bank X goes down, the
retail side is already carved out—ring-fencing takes efect this
year—they can be detached from the centrally cleared deriva-
tives so the contagion risk is dramatically reduced. And they have
debtholders that can recap [recapitalize] particularly the trading
side. We’re on a process to that; 2019 is a big way station. The
Bank of England needs to be very clear where institutions stand at
that point. Do they have enough bail-inable debt? Have they met
the 2019 requirements? Have they ring-fenced? How credible
are their resolution plans? Then we need to take stock and igure
out what needs to be done.
SF: When you think of those building blocks that you’ve high-
lighted, that you think make the system fundamentally safer, is
there anything you see in the way of backtracking—particularly
out of the Trump administration—that you think fundamentally
undermines those building blocks or could undermine them?
MC: One of the most important things had been to make
sure that we or the American authorities can manage through
a resolution process, keep the organization functioning while
this bail-in process is going on. I think that the most recent
reforms—and full credit to the houses of Congress and the U.S.
administration—they have kept that. I will admit that prior to
the inal agreement on that, that was something we were really
concerned about, because it’s so central. The administration has
worked hard.
When we look at the changes to Volcker, the Volcker Rule
is unique to the U.S. The way it ended up being implemented,
maybe not surprisingly with ive diferent regulatory authorities
involved, proved to be incredibly complicated, and so they’ve
made some adjustments. When a jurisdiction is super-equivalent
to the international standards, I don’t think we can complain if
they adjust for eiciency reasons.
SF: We know there will be another recession at some point. Do
you feel that we are fundamentally less likely to have a inancially
caused recession now?
 MC: When we look at various reforms, as well as the optimal
level of bank capital, we look at to what extent have we reduced
the probability of a inancially generated recession or, in the
extreme version, a inancial crisis. And by how much more would
we reduce that probability if we added on another 3 to 5 percent-
age points of capital, and is that worth it relative to what we would
do to the path of growth over that period of time? That’s not the
only way we come to these determinations, but that is one of the
things we look at. And we think we have substantially reduced the
probability and the severity of inancial crises. We haven’t elimi-
nated them. It’s not the “stability of the graveyard.” And because
we haven’t eliminated them that means that things like ending
[the problem of inancial companies that are] too big to fail, things
like making sure that the inancial infrastructure, CCPs [central
counterparty clearinghouses], and other things themselves are
resilient so that they can withstand failure.
It’s a kind of forward orientation of inancial reform and
inancial policy. We had some very speciic things we needed to
ix. And some of those things were common errors that happen
over history, and they just reappear because people get compla-
cent, so those were ixed. Some of them were unique. But part
of what we’d like to change in the thinking is to make the system
as resilient as possible to unknown unknowns. What’s the shock
that could happen? Do I have enough capital? If somebody fails
can I clean up the mess in an orderly way?
How should institutions be reorganized so that it’s easier
for the system to withstand the loss of a major piece of inancial
market infrastructure or a major inancial institution? Think
about the bad scenario: a big bank being taken out by cyber—are
you organized to deal with that? And obviously, irst and fore-
most, institutions and others—and we—should be working on
making it very unlikely that’s going to happen. We should also be
prepared that, if it does happen, the system can function.
SF: Is the lesson of the last few months [in Italy] that the euro
zone is still not as far away from another crisis as we would like?
MC: It’s been the case since the Five Presidents’ Report [in
2015] that the euro is uninished business. A series of require-
ments are needed to inish the business of the framework and
construction around the euro. Some progress has been made
around ESM [European Stability Mechanism], some early
progress around capital markets union, but neither of those
have yet been completed. Banking union, as we know, proba-
bly won’t be completed by the time this gets published. I’m on
record observing that currency unions usually have some form
of iscal sharing.
Until all of those elements are in place, it’s likely that there
will be more strains. It’s just tougher to run that currency area than
it is one that’s part of iscal federalism with a banking union, capital
markets union, other risk-sharing mechanisms.
SF: If you think about the challenge of normalizing policy, for
many years the risk was not giving enough support to the economy
rather than too much. Is that shifting back to more 50-50?
MC: If I talk globally—so not speciically for the U.K.—I think
that to talk in absolute terms of interest rates and efective inter-
est rates if you talk about quantitative easing, it’s more likely than
not that the equilibrium level of policy has begun to rise. In other
words that the balance of savings and investment is such globally
that some of the extreme pressures on r* [the neutral level of

VOLUME 27 / ISSUE 4 51
real interest rates] have begun to abate. That’s a cyclical point.
Structurally the forces go both ways. There is more balance in the
risks around the stance of policy. But any given jurisdiction has
to take into account its own domestic forces, whether there are
headwinds from iscal policy, headwinds from uncertainty, head-
winds from trade discussions or other factors.
SF: The early skirmishes from the U.S. were largely ignored by
investors and economists, but are we getting to the point where
we have a genuine global trade war in the oing?
MC: The impact of the actions to date is likely to be small—
relecting the small share of overall exports afected—and would
be largely conined to the countries directly involved.
However, a larger increase in tarifs would have a substan-
tial impact. For example, an increase in tarifs of 10 percentage
points between the U.S. and all of its trading partners could
take 2.5 percent of U.S. output and 1 percent of global output
through trade channels alone.
Moreover, these estimates consider only direct trade chan-
nels, but there are likely to be indirect efects via business coni-
dence and inancial conditions—something the experience of
Brexit has underscored.
Adding on a fall in business conidence and tightening
inancial conditions to the direct trade channels and the possibil-
ity that the tarifs could be viewed as permanent could plausibly
double the losses in output from direct trade channels alone.
SF: Is this something that could seriously dent the global
recovery?
MC: There are some tentative signs that this more hostile and
uncertain trading environment may be dampening activity. For
example, survey measures of global export orders and manu-
facturing output have fallen back from highs at the start of this
year, and growth in U.S. and euro-area capital goods orders fell
to zero in the irst quarter of this year. For now, these are only
straws in the wind.
SF: European Central Bank President Mario Draghi has voiced
some concerns recently about the rise in unilateralism around the
world—not only in trade but global politics. Do you share that
concern? How does it afect the way a central banker thinks about
the world if we see an erosion of the rule-based approach to inter-
national policy—if it gets to be less about rulemaking and more
about big countries striking deals?
MC: We can choose between a low road of protectionism
focused on bilateral goods-trade balances and a high road of lib-
eralization of global trade in services. The low road will cost jobs,
growth, and stability. The high road can support a more inclusive
and resilient globalization.
Taking this high road could help solve the problem of per-
sistent trade imbalances. Bank of England research suggests that
reducing restrictions on services trade, to the same extent as those
on goods have been lowered over the past couple of decades, could
reduce excess global imbalances by close to one half.
SF: Former Federal Reserve Chairman Ben Bernanke said
after he left in 2014 that he didn’t expect to see the federal
funds rate at 4 percent in his lifetime. But he’s quite a lot older
than you.
MC: He’s in good shape, though.
SF: In the U.K., the long-term average for the bank rate is
about 5 percent. Do you expect to see the U.S., U.K., and other
52 BLOOMBERG MARKETS
major economies’ policy rates back at their long-term average
in the next decade?
MC: There was a Bank Underground article from some of my
colleagues that looked at historic estimates of r*. And one of
the observations was that there are these periods, sort of regime
shifts, that can go on for a fairly long period of time but then shift
out of them relatively quickly in the long cycle of history.
And so a decade down the road, is it possible that a combi-
nation of a pickup in productivity, shift in the nature of invest-
ment, some of the demographic bulge moving through [and
losing] some of the uncertainty wedge that’s been in there [will
raise the long-run interest rate]? Yes, it’s possible. But a lot of
things have to go right in order for that to be the case.
SF: It could happen sooner than we think?
MC: I wouldn’t want to say it that way. Well beyond my horizon,
but hopefully in my lifetime.
SF: When you look back, do you feel there are things you would
do diferently now in terms of communication?
MC: One can always parse over any speciic comment, especially
with the wisdom of hindsight. But I think the general thrust of the
bank’s communication, and the bank’s moves to transparency,
has been right.
I do think it’s very undervalued that we communicate with
the public at a minimum in parallel with inancial markets but
really, in this country, irst to the public.
The questions I get at the press conference and when I
go around the country, they’re around-the-supper-table kinds
of questions. What’s the impact on jobs, house prices, what’s
happening with my mortgage? It’s important to have rela-
tively clear messages. Now they have to be accurate, but telling
people that rises will be limited and gradual, people kind of
need to know that. Should people in the country be oriented
that rates are more likely to go up than not? Yeah, they should,
because that is more likely—but not at a more rapid pace.
Should they know whether there are risks from Brexit? Should
they be worried about another 2008 from Brexit? We need to
be absolutely clear with them [about] the extent to which there
are those risks and what we’re doing about it.
You have to stand up and say, “Here are the three or
four problems. We can knock of these two really easily. This
one we’re pretty sure of, and that one we need to sort out with
the Europeans.”
Some of it will be cast in the light of the politics of the day,
but in the end, if you repeat it enough, it gets across.
SF: How do you stay grounded? How do you stay sane?
MC: One of the ways you stay grounded is you sit here and think,
I’m the 120th person to be here, there’s going to be another, and
so try to leave it better than you found it. My main utility, if I had
any, was that outsider, diferent perspectives helped to catalyze
some changes that probably would have happened anyway but
helped bring them together.
SF: You think it helps being an outsider?
MC: I think it helps, yeah. And you don’t need an outsider all the
time, but at the time it helped.
SF: Are you deinitely going back to Canada?
MC: I was just there!
Flanders is senior executive editor for Bloomberg Economics in London.
DI S PATC H E S FROM
 Entrepreneurs in Venezuela
sell handbags made from
near-worthless banknotes

A N EC ONOM IC C ATA ST ROPH E

Life in Venezuela has been turned upside down. In eight diary entries
from the capital, Caracas, our correspondents
describe how people are getting by
I L L U S T R AT I O N S B Y PAT R I C K L E G E R
Venezuela, rich with oil, was once one of the most
stable and wealthy countries in Latin America. But
two decades after the late Hugo Chávez launched a
policy experiment he called “Socialism of the
21st Century,” few places on Earth are as chaotic or
dangerous. In a series of “Life in Caracas” stories
for Bloomberg News this year, reporters are chron-
icling their surreal journey through a land of hyper-
inlation, shortages of basic goods, collapsing gross
domestic product, and a shrinking population now
led by Chávez’s successor, President Nicolás
Maduro. (These articles were irst published from
March to June. Prices were kept as they appeared in
the original stories and do not relect today’s levels.)
—David Papadopoulos
Cash at a Hefty Premium
My most recent order arrived by motorcycle, a loaded, black trash
bag tossed my way. “This is what’s available,” the courier said
gruly before zooming of. I nodded. There’s no begging in the
bolívar business.
What he delivered was cash, 200,000 bolívars of it. I, in turn,
wired 400,000 bolívars to his bank account. Why such a huge
markup? Because in hyperinlationary Venezuela, we’re all des-
perate for paper money, a ridiculously scarce commodity but a
necessity—even for someone like me, with plenty of credit cards.
You need cash for gasoline, to use the metro or park your car in a
garage, to buy fried ish on the beach, or a cup of cofee on the street.
So this is the question that’s all over Caracas: “You got a guy?”
I hear it in dive bars and at posh dinner parties, and in line at the
bank, which, invariably, is out of the desired product.
The guy, of course, is a cash dealer. My phone is illed with a
half-dozen numbers. They’re cab drivers and restaurant owners
and produce sellers, anyone with a bit of hustle. It’s a booming
business. The 100 percent premium I paid that day isn’t unusual.
For me, it’s just another of the frustrations of living in an
imploding economy. Low-denomination bills—anything below
100 bolívars (0.05¢ at the black market rate)—are often used now-
adays for such things as confetti at baseball games. And the gov-
ernment is so broke, it can’t aford to print bigger bills fast enough.
It’s a curiosity, this whole mess, almost bordering on a riddle:
Hyperinlation has rendered paper money so worthless that it’s
become incredibly valuable.
The paper chase is most intense in the slums, where many
people have no other means of payment. Fixers are everywhere in
these neighborhoods, eager to get their hands on all the cash swirl-
ing around.
One lipper, Orlando Villarroel, told me he positions himself
at a bakery checkout. One by one, he pays for customers’ items with
56 BLOOMBERG MARKETS
his credit card, giving them a markdown and collecting their
banknotes until he’s chased out of the place.
The shortage, I’ve noticed, is growing worse. Desperation is
mounting. When I pull out enough bills to leave a decent tip or pay
a valet at a restaurant, onlookers stammer, “Can you get me some?”
Maybe. For a fee. —Andrew Rosati, March 2
Too Many Zeros to Compute
“We don’t have any.”
Living in Venezuela, you get used to hearing that, but the
story behind the missing ham was diferent. It’s not that supermar-
ket managers were having trouble inding enough to sell—the
typical cause of shortages ravaging the country—they had decided
to stop ordering it. The reason: After years of hyperinlation, the
price is too long.
The store’s deli scales, which show prices along with weights,
run to only six digits. And ham, my WhatsApp food-hunting com-
munity tells me, is retailing for about 1,480,000 bolívars per kilo-
gram. It didn’t matter that I wanted only a few hundred milligrams.
The cost was, at this market at least, incalculable.
A similar dynamic is impeding the use of credit and debit
cards. The price of a set of sheets (33,541,963 bolívars), a pair of
Adidas sneakers (10,500,000 bolívars), or even a slice of lasagna
(401,450 bolívars) can’t it on the screens of older card machines;
the solution is to split one purchase into several transactions. Even
the invoice printers that many businesses use for reports to tax
authorities are running out of space.
It would seem to be only a matter of time before the Maduro
regime opts to reset the value of the currency to ease these logisti-
cal headaches. It’s been 10 years since oicials irst tried such a
move, lopping of three zeros and rebranding it “the strong bolívar.”
That strength didn’t last long. As the government cranked
up printing presses to inance extravagant spending plans with
fresh cash, inlation soared. There are no oicial igures, but by
all accounts, prices are rising faster than ever. Bloomberg’s gauge,
the Café Con Leche Index, estimates that inflation has been
PREVIOUS SPREAD: PHOTO REFERENCE: FEDERICO PARRA/AFP/GET T Y IMAGES
running at an annualized pace of more than 82,000 percent over
the past three months.
Back at the supermarket, the clerk told me they’re trying to
ix the scale so they know how much to charge. They’d better add
a whole lot of digits. —Patricia Laya, March 14
Animal Pills for People
For my friend Elena, it was the ultimate indignity. She showed me
the prednisone she takes for severe allergies: The photo on the
package was of a frisky puppy.
Like everyone else in the city, she hits at least a half-dozen
pharmacies when she’s on the hunt for medicine, either prescrip-
tion drugs or over-the-counter basics. Like everyone else, she
usually walks away empty-handed. Those with resources order
from Spain products they can’t find here, and those with
connections ask Americans who visit to pack luxuries such as
NyQuil and Excedrin.
And others go to the vet. It’s common now, turning to vet-
erinarians and pet stores because pharmacists rarely have the goods,
and black-market peddlers charge exorbitant rates for items of
questionable provenance. So people swallow antibiotics made for
dogs and painkillers made for cats.
“I’m outraged that I have to take medicine for animals,” Elena
told me. She teared up. Her 18-year-old daughter, who has hepa-
titis, resorts to them, too. “It’s terrible that we have to do this.”
Pet drugs can be similar to those fashioned for humans—if,
as local vet Fernando Navia put it, “there are good standards and
good manufacturing.” In Venezuela, those are big ifs. Even in the
best of cases, vast diferences exist in dosages and inactive ingre-
dients. But the crucial factor is that animal meds aren’t imported
through government-regulated channels and so are, relatively
speaking, widely available.
Physicians are both horriied and resigned. Stewart Sem-
bergman, a doctor at a public hospital in Caracas, says he tells
patients that pet pharmaceuticals should be their last option—
realizing how limsy the advice is. “It’s worse not to take any med-
icine. In this crisis, we have to use any resource.”
The government hasn’t publicly recognized the medicine
shortage—or those of food or cash or car parts or building supplies
or anything else. A few weeks ago, I was at a press conference at
which President Maduro denied there’s any kind of humanitarian
crisis in the country.
But my social media sites are flooded with pleas. “Does
anyone have access to blood pressure medicine for my father, who
just had a heart attack?” “Can you contribute to this GoFundMe
campaign for my mother, who has cancer and needs chemotherapy?”
There are scattered street protests, such as the one a few
days ago that people with Parkinson’s disease staged outside
United Nations headquarters in Caracas. They asked for help
getting the drugs they need, some holding signs that said, “I do
not want to die.”
So what Elena is doing makes sense. I have two healthy,
happy rescue dogs. If I get sick, I won’t hesitate to go to their vet.
—Noris Soto, April 11
“There’s something of a steely resolution.
‘Human beings can adapt to anything’ is a line
I heard again and again”
VOLUME 27 / ISSUE 4
Trading Haircuts for Eggs
The other day, I made a baguette-for-parking swap. It worked
out brilliantly.
I had time but, as usual, no bolívars. The attendant at the
cash-only lot had some bills but no chance to leave his post during
the leeting moments the bakery nearby put his favorite bread on
sale. The deal: He let me leave my car, and I came back with an
extra loaf, acquired with my debit card. He reimbursed me—giving
me a bonus of spare change for my pocket.
That’s how we make do in our collapsing economy. If some-
body has lots of one thing and too little of another, an arrangement
can be made. I’ve exchanged corn meal for rice with friends from
high school, eggs for cooking oil with my sister-in-law. Street
vendors barter, too, taking, say, a kilo of sugar as payment for one
of lour. There are Facebook pages and chat room groups devoted
to the swappability of everything from toothpaste to baby formula.
A barber in the countryside cuts hair for yuccas, bananas, or
eggs. Motorcycle taxi drivers will get you where you need to go for
a carton of cigarettes. The owners of one of my favorite Mexican
restaurants ofer a plate of burritos, enchiladas, tamales, and tacos
in return for a few packages of paper napkins. At a fast-food joint
near my oice, the guy working the register let me walk away with
a carryout order of chicken, rice, and vegetables without paying
the other day, relying on my promise to come back with the
800,000 bolívars.
Acting on that kind of trust was unheard of just a few years
ago. Charity is also something new. I didn’t grow up with the tra-
ditions of canned-food drives and volunteerism that are common
in the U.S. Now parents from my kids’ school collect clothes for
the poor, and neighbors gather toys for a children’s hospital. My
friend Lidia, a property rights lawyer, delivers homemade soup to
the homeless.
I like to think of all of this as a noble expression of solidar-
ity, as evidence of the decency of my fellow Caraqueños at a time
of mind-numbing shortages of basic goods and exploding inlation.
I know that in most cases the motivation is necessity, even des-
peration. But that’s all right. Handing that freshly baked baguette
to the parking lot attendant made both of us smile, even if for
just a second. —Fabiola Zerpa, May 4
57
Cryptomining Everywhere

Crypto fever may have cooled across much of the globe, but don’t
tell that to folks here in Caracas. They’re mining coins like crazy.
One buddy of mine who works in advertising bought a
machine, set it up in his home, and told his 20-year-old son to run
it 24/7. They’re grinding out about $6 a day. Another friend, an
unemployed programmer, also installed one in his apartment. The
darn thing was so loud that the neighbors complained until he
moved it to his parents’ home across town. And still another friend
invested with his family in three machines. They’re now clearing
$1,000 a month. That’s a small fortune here.
Even the $6 a day is half-decent money in a country mired
in a horriic economic depression. One key to my mining pals’
success: Electricity, while spotty, is basically free, the result of an
odd combination of hyperinlation and government-mandated
utility price freezes. (It’ll cost you 900,000 bolívars—or about 90¢
at the black-market rate—for a cofee, pastry, and juice at a cafe,
but you can pay your monthly electricity, water, gas, internet, and
phone bills for about 300,000 bolívars.)
I caught up with some old friends while back in town to cover
last weekend’s elections. They form part of the ever-shrinking
Venezuelan middle class. Many of their peers have been thrust into
poverty. Countless others have led overseas.
For those who remain, there’s something of a steely resolu-
tion. “Human beings can adapt to anything” is a line I heard again Even if you weren’t in a vehicle, you couldn’t avoid the exhaust
and again. and the noise.
A key aspect to that adaptation is managing some way, Now it can be almost serene at rush hour. And as lovely as it
somehow to set up a steady low of revenue in dollars or some is to walk down Francisco de Miranda Avenue in the morning and
other foreign currency. It’s the only way to keep up with inlation actually hear the wild parrots squawk, I’m nostalgic for the hair-
that a Bloomberg index estimates to be running about pulling gridlock. The fact that a taxi can speed me from La Castellana
16,000 percent a year. A family of four can live reasonably well to the city center in under 15 minutes just reminds me of how
in Caracas on $500 a month. Caracas is emptying out, how impossible it is for mechanics to ind
So if it’s not cryptomining, it’s programming services for spare parts, how the world’s cheapest gasoline doesn’t matter if
overseas companies or playing online fantasy games or collecting you don’t have a tank to pour it into.
remittances from family members who are working abroad. That The motorcycles, known here as motos, are disappearing
last segment is booming. It’s odd to see. Remittances were always along with the bottlenecks. For me, Caracas used to be best nav-
something that powered other economies in the region—places igated on two wheels. Barreling between lanes and against
such as Honduras and El Salvador and the Dominican Republic. traic—on sidewalks when necessary—motorcycle taxis were
But Venezuela, the party-hearty, free-spending OPEC nation that awesome alternatives. Traic signals were mere suggestions in
I cut my teeth on as a young journalist years ago? moto world. I loved it, for the thrill and the sometimes-successful
“Countries don’t disappear.” bids for punctuality.
This is another phrase I heard a lot this past week. It’s true. Now, “there’s no traic, no cash, no nothing,” says Pastor
But they do implode. —Daniel Cancel, May 25 Colmenarez, the head of a moto stand in East Caracas. His outit
is another casualty of the economic meltdown. Last year his line
boasted 15 motorcyclists; today there are four. Many drivers quit
because they couldn’t maintain their bikes or because business
went south—or they simply emigrated to Argentina or Chile or
Colombia or Peru.
Traic Has Disappeared Insane inlation has, oddly, made bolívars scarce commodi-
ties, so most of the moto guys I know who are still trying to make
a go of it depend on bank transfers from a limited roster of regular
One of the things I miss about the old days is how being 45 minutes clients. You can hail a ride and pay with packs of cigarettes or staples
late was generally accepted as being on time. The traic jams were such as plantains and corn lour. Really, though, there’s no need to
great equalizers, preposterous messes of cars and trucks and buses risk your life to get across town. These days, folks may still show
going mostly nowhere that made everybody’s commutes miserable. up late, but only out of cultural habit.

58 BLOOMBERG MARKETS
 Colmenarez says he’s going to stick it out, even though—
since someone stole his bike’s battery—he’s had to launch every
trip with a running start. He’s committed but knows it can’t last.
“Soon enough,” he says, “we’ll all be walking.” —Andrew
Rosati, May 31
Grave Robbers Close In
When I arrived at the cemetery’s main oice, there was a long line
of people waiting in the stiling midafternoon heat. They had all
come to ask the same question I had: Is it true what everyone is
saying—are graves really being stripped of their plaques?
Yes, we were told, it is true.
Slowly, one by one, thieves have been prying of the plaques
to sell the slabs of bronze on the black market. Graves on the hilly
outskirts have been hit the hardest. But there was no need to worry,
the cemetery oicials told us. They had a plan: They would remove
the plaques themselves and replace them with a cheaper material
that would be of less value to criminals.
I didn’t ind this very reassuring. I’ve got aunts and uncles
and cousins and dear friends buried here in Cementerio del Este.
Why should I believe that these new markers won’t simply be
swiped, too? Am I to just show up hoping I can locate my family
members and then stagger around until I think I’m in the right
spot? Is nothing sacred in this godforsaken country anymore?
Life here is grim enough already. I’m surrounded by misery.
Famine, disease, mob justice, insane inlation. I’m always on edge.
And now this?
Yeah, I know grave robbers have been around since the dawn
of mankind. I get that. In fact, right here in Caracas, in the public
cemetery used by those who can’t aford plots in Cementerio del
VOLUME 27 / ISSUE 4
Este, thieves have been digging up graves for years and selling
everything they could get their hands on—from jewels to skeletons
(which are sought out for witchcraft).
This is precisely what terriies me, and others, the most. It’s
the metal plaques in Cementerio del Este today and skulls and
femurs tomorrow.
One woman I encountered in the main oice that day told
me she’d had enough. She’d instructed cemetery officials to
exhume her parents. She would then have them cremated. That
way, she figured, there really would be nothing left to steal.
—Fabiola Zerpa, June 15
Magnificent Macaw Mystery
The macaw, a big, brilliantly colored, and scandalously loud species
of parrot, is deinitely not indigenous to Caracas.
And yet the bird now seems to be everywhere here.
On a given day, I may spot a pair soaring past my window in
the morning, a handful on my way into work, and a few more as I
head home at night. They loat in and out of trees and zoom from
apartment balcony to apartment balcony—big streaks of neon blue
and yellow and green—in search of the scraps of food that their
admirers leave out.
I love them. We all do. In a city where misery is seemingly
encountered on every street corner, they provide a brief moment
of joy. They’re beautiful, exotic, and, like Caraqueños, a little lam-
boyant. (They also add, I will say, to the post-apocalyptic feel of the
place; much of the human population has led, the buildings have
crumbled, and the macaws have swooped in.)
But where did they all come from, exactly?
That’s something of a mystery. There are many theories. The
most common posits that the birds were introduced in the city
several decades ago. They were illegally trapped in the rainforests
of southern Venezuela and shipped northward as pets.
Macaws, though, aren’t really great companions for
cooped-up apartment dwellers. They’re big—about three times
as long as a cardinal—and they chatter at full volume. Many people
turned them loose, especially as the collapse of the economy started
to strain personal inances in recent years.
Today there are four species of macaws living in the wilds of
Caracas. Ara ararauna—the blue and yellow variety—is the most
common. Malu Gonzalez, a biology professor at Simón Bolívar
University, says the macaws have assumed the role of symbol of
the city and helped reconnect its inhabitants with nature.
“I’m not sure if this has been good for the species,” says Gon-
zalez, “but for the people, it’s magniicent.” And then she says some-
thing that is almost never heard in a country that’s been plunged into
misery by one public policy misadventure after another: “Fortunately,
this experiment worked out well.” —Noris Soto, June 29
Papadopoulos is a managing editor on Bloomberg’s news desk in
New York. Laya is Venezuela bureau chief, and Rosati, Soto, and Zerpa
are reporters in Caracas. Cancel is managing editor for Latin America
in São Paulo and the former Caracas bureau chief.
59
‘Yes,
But
Do You
Know
Any Michala Marcussen, Société Générale

Catherine Mann, Citigroup

By LUCY MEAKIN
and JEANNA SMIALEK
P H OTO G R A P H S BY
K AT E P E T E R S
 Janet Henry, HSBC

These three women are the irst female global chief economists at
the banks they work for. But don’t break out the Champagne just yet

Women?’
THERE’S A PARTICULAR telephone conversation that HSBC Global
Chief Economist Janet Henry has down pat. Here’s how it goes:
“You get a call from a headhunter,” she says. Then Henry inevitably
inds herself saying, “No, I’m not interested.” But it doesn’t end
there. “They always say, ‘Do you know anyone that might be?’ I give
them men’s names because I’m always curious to see if they’ll say—
and they do say—‘Yes, but do you know any women?’ ”
As one of a handful of women leading economic research
departments at global banks, Henry is well-positioned to observe
the recent shift in demand for greater gender diversity within her
profession. She looks back on her own experience as she sips tea
from a disposable cup in a noisy cafe at HSBC Holdings Plc head-
quarters in London’s Canary Wharf. When she joined the bank in
1996, she was the only woman on its global economics team. Now
women account for 13 of her 39-strong global group.
While there’s still nothing like equality in numbers with men,
women are taking on prominent economic roles at major banks
from Wall Street to the City of London. Henry is joined at the top
by Catherine Mann, who became global chief economist at Citigroup
Inc. in February, and Michala Marcussen, who was named Société
Générale SA’s group chief economist last year.
In that role, they make big calls, identifying trends that can
form the rationale for a bank’s decisions. Henry, one of the irst of
her peers to forecast that the European Central Bank would under-
take quantitative easing, more recently warned that the “triple
shock” of tightening U.S. inancial conditions, higher oil prices,
and President Trump’s aggressive trade policies is likely to mate-
rially harm the global economy. Like other chief economists at
banks, Henry often takes to the trading loor to make sure she gets
her points across to the money-making side of her institution. At
a time when perceptions matter and markets cry out for explainers,
women chief economists are often also a bank’s public face, pre-
senting the institution’s take on macro developments on TV and
radio as well as at gatherings such as the annual World Economic
Forum in Davos, Switzerland.
Chief economist roles are big jobs and can be steps on a career
ladder. Bill Dudley, the former Goldman Sachs economics head,
went on to become president of the New York Fed. Goldman Sachs’s
Gavyn Davies became chairman of the British Broadcasting Corp.
in the early 2000s. Still, these positions are rarely a conduit to
higher jobs in inance. And when that has happened, it’s happened
to men, like former Morgan Stanley chief economist-cum-Asia
Chairman Stephen Roach.
Henry, Mann, and Marcussen are the irst women to rise
to their lofty positions at the banks they work for. That’s a measure
of progress, but it also underscores just how far the banking indus-
try has to go. Women still form a stark minority in macro-
economics classrooms, a potential predictor of future gender
imbalance. While the emergence of more women in key econom-
ics posts at banks marks a signiicant change in a male-dominated
profession, it’s not a moment for wild self-congratulation in the
inance industry.
FOR HENRY, 49, a life in inance was certainly not the plan. In sec-
ondary school, she followed her older brother’s example and studied
economics. She stuck with it at University College London because
it was her best subject and because she appreciated the nexus of
economics and politics—not because she had a burning ambition
62 BLOOMBERG MARKETS
to pursue its application in inance as a career; she left that to her
male classmates.
Graduating from UCL into the recession of the early 1990s,
Henry wanted to become a foreign correspondent at the Financial
Times. She landed her irst job at the Economist Intelligence Unit,
where she wrote about the economies of countries such as Myanmar
and Papua New Guinea. Still at the EIU, she moved to Hong Kong,
arriving at a time when the region’s heady markets were peaking.
In 1996 her career took a decisive turn. Scouted by a former
EIU colleague, she joined HSBC on the eve of the Asian inancial
crisis. After living through the market rout as it raced from Thai-
land across much of the rest of Asia, Henry moved to London in
1999. She was well-ensconced and ready when the full force of the
subprime-driven global meltdown hit about nine years later. “At
least it keeps you in demand,” she says, laughing. “A lot of the
progress in my career happened as a consequence of the euro crisis.
You’re always going to have a higher proile as an economist when
things are not going well.”
Mann’s career started early, with a babysitting gig in the
1970s. As a teenager in Lexington, Mass., the budding wonk looked
after a little girl whose father worked for Data Resources Inc., an
economic forecasting company. He gave Mann small data-analysis
jobs as a side project, and before long, she was trekking to the base-
ment of the Baker Library at Harvard Business School in nearby
Cambridge to collect housing-related numbers. She’d write them
down on a big pad of paper, key the data into a teletype machine,
and analyze stacks of regression output. She was hooked.
“Maybe I wasn’t such a good babysitter, but I was good at
data,” says Mann, 62. “I really got an appreciation for how data
helps us to understand how economies work.”
Studying economics at Harvard, Mann particularly remem-
bers two female assistant professors, future Federal Reserve
Chair Janet Yellen and international trade economist Rachel
McCulloch. Until she graduated in 1977, Mann had summer jobs
at Data Resources.
After graduating from Harvard, Mann went down the road
to get her doctorate at MIT, where her thesis committee included
the economist and future Nobel laureate Paul Krugman. She got
her Ph.D., a job at the Federal Reserve in Washington, and then
a succession of posts at the World Bank, the White House Council
of Economic Advisers, and the Peterson Institute for Interna-
tional Economics.
McCulloch, who’d moved to Brandeis University, helped
bring Mann on board. Mann became a full professor in 2006—a
big move for someone who hadn’t risen through the ranks of
academia, and a rare one for a woman. Most tenured professors at
top university economic departments are men: Harvard didn’t
have a single tenured woman in economics until 1990.
Mann says McCulloch wanted her department to be more
diverse. “That gives you an idea of how important role models,
female professors, and networking are in the profession as a whole,”
Mann says. “That leadership—that commitment, that one person
at Brandeis—has led to a situation where there is a ifty-ifty balance
at the full professor level. That’s very rare.”
Mann left Brandeis in 2014 to become chief economist at
the Organization for Economic Cooperation and Development,
making her the second woman in the body’s history to take on
the role. About four years later, she made the jump to Citigroup.
 “That gives you an idea of how important
role models, female professors, and networking are
in the profession as a whole”
“I’ve done an awful lot of things,” she says. “I’ve achieved
quite a bit. I’m not unique to be able to do that. You have to put one
foot in front of the other.” She wants to build on that: “I see my role
as very similar to the role Rachel McCulloch played—as a leader,
as a mentor, as making it easier for people to follow me.”
Marcussen’s experience at the University of Copenhagen in
the late 1980s mirrored Henry’s at UCL. Marcussen, a Dane, says
men so outnumbered women in economics classes that her tutors
chose to cluster the female students together. “They didn’t want
just a few women sitting in the classroom feeling somehow under-
represented,” she says, “so they decided to create more balance.”
Like Henry, Marcussen wasn’t always set on inance. She
initially planned to work at the Danish Ministry of Foreign Afairs,
but after getting an M.S. in economics at the University of Copen-
hagen, she worked briely as a trainee at the European Commission
in Brussels before getting a full-time job at Danske Bank. In 1994
she landed a job at Société Générale, despite, as she puts it, her
“rubbish French.”
Her French has gotten better. Marcussen, 52, who speaks
luent English in a hard-to-place accent best described as interna-
tional, now holds complex economics discussions on TV in France.
Having risen through the SocGen ranks, she was named group chief
economist last year.
OF THE 10 largest banks in the world by total assets, not one has a
female chief executive oicer. Santander Bank NA, which ranked
16th last year, comes closest, with Ana Botín as CEO. Women fare
better at public institutions and nongovernmental organizations
that are perhaps more susceptible to societal pressures than com-
mercial banks. Christine Lagarde leads the International Monetary
Fund. Laurence Boone, Mann’s recently appointed successor at the
OECD, is a woman. In 2014, after more than a dozen years in other
leadership roles at the Fed, Yellen became the irst woman to lead
the central bank. About 40 percent of Fed managers are female, and
three of 14 policy makers are women.
Even in the public sector, however, it’s easy to overstate prog-
ress. Portraits of former Fed chairs smile down from an anteroom
VOLUME 27 / ISSUE 4
wall in the historic Eccles Building in Washington. While Yellen’s
signature bob is in the mix, the group is largely balding or bearded—
and white: Like women, persons of color are a rarity. When Trump
replaced Yellen this year, he chose a white man, former Fed Gover-
nor Jerome Powell. Although a woman and a black man were among
the candidates, the New York Fed recently named former San Fran-
cisco Fed President John Williams as its new leader, stirring criticism
from those who’d hoped for greater diversity.
Outside of the U.S., central banks are even less diverse. One
of nine members of the Bank of England’s Monetary Policy Com-
mittee is a woman. The U.K. Treasury, which is in charge of appoint-
ments, this year named another white male to the MPC, even though
all of the other interview candidates were female. The European
Central Bank’s 25-person Governing Council has two women, with
another on her way. In Japan, despite the fact that Prime Minister
Shinzo Abe has sought to promote diversity, just one of the Bank
of Japan’s nine-member policy board is a woman. Most of the world’s
major central banks have never had a woman at the very top, includ-
ing the BOE, the ECB, the BOJ, and the People’s Bank of China.
In inance generally, Marcussen says, the dearth of women
economists is partly because of “the supply-side issue.” As she
observed in her economics classes, men sorely outnumbered
women, and they still do. Claudia Goldin, an economics profes-
sor at Harvard, has estimated that in the U.S. there are three
male undergraduate economics majors for every woman. The
gap isn’t shrinking. A higher proportion of men at top liberal arts
colleges studied economics in 2013 than in 1993, while the share
of women fell slightly.
Women have also been overlooked because of the type of
economics they study. “Women tend to go into ields like applied
micro—things related to health, education, development,” says
Tatyana Avilova, program director for the Undergraduate Women
in Economics Challenge, which aims to encourage more women
to major in economics. “You have women going into macro-
economics, but deinitely to a much lesser extent. It’s a $1 million
question: Why?” She suggests it may be harder for students to
see the real-world application of macro, while microeconomics
63
“Once people start to understand
that it really makes economic and business sense,
that’s when it happens”
is readily applicable to ields including health and education.
Additionally, some research has found that women in eco-
nomics are more prone to being bullied than their male counterparts.
Last year, Alice Wu, then a University of California at Berkeley
undergraduate, published a paper that quantiied the gender-related
vitriol in an online discussion forum, “Economics Job Market
Rumors.” The words anonymous posters used in unique association
with women included “hot,” “whore,” and “kissed.” Those most
associated with posts about men include “macro” and “supervisor.”
Wu’s paper provoked an outcry. Justin Wolfers, a professor
of economics and public policy at the University of Michigan, wrote
about Wu’s research in an opinion piece in the New York Times
under the headline “Evidence of a Toxic Environment for Women
in Economics.” Wu’s paper helped spur the American Economic
Association to revise its code of conduct, asking members to
“conduct civil and respectful discourse in all forums.”
In the U.K., lawmakers investigating the imbalance between
the sexes in the inance industry cite hard-to-quantify barriers.
Alison McGovern—who sits on a parliamentary committee that
oversees the Treasury and associated bodies, including the Bank
of England—points to research showing it takes longer for female
academic economists to get their papers into peer-reviewed jour-
nals. “There’s a massive disincentive for women economists to
reach the top of the academic profession,” she told an audience at
Bloomberg LP’s European headquarters in London in June, “and
I can only imagine the same thing might be true of women econ-
omists in the City.”
So concerned is the committee about the lack of diversity at
the BOE that it’s taking matters into its own hands, threatening
not to approve future appointments to the central bank’s policy
boards unless there’s suicient progress.
MARY DALY, executive vice president at the San Francisco Fed and
a favorite in the ongoing search for the branch’s next president,
gets calls not unlike those that reach Henry. Often, they’re from
recruiters at banks hoping to hire a woman or a minority. She’s
struck by how many of her callers are looking for economists with
64 BLOOMBERG MARKETS
a macro background. Daly tries to encourage them to think more
holistically. “Depending on how bold I feel that day or how much
of their business I know,” she says, “I suggest that they broaden
their ield.”
Daly and like-minded colleagues in the Fed system have spent
the better part of the past two decades pushing their in-house col-
leagues to incorporate microeconomic analysis in the explanations
of macro trends such as falling labor force participation. The push
for micro got traction in the wake of the Great Recession, as stan-
dard macro models of the labor market failed to explain what was
happening with unemployment and wages.
As chair, Yellen regularly referenced microeconomic work.
In a 2014 speech, for example, she cited Daly’s work into why
employers are slow to cut wages at the start of recessions and why
that leads to slower wage recovery post-recession. Daly says it’s
time to rally around micro. “You have to make this value case that
this toolkit is a useful toolkit,” she says. And as a side beneit, she
says, hiring microeconomists “dovetails exactly with the gender
distribution in economics. You get gender diversity, and you get
diversity of thought. It’s a win-win.”
For her part, Marcussen warns against using female econo-
mists as “exhibits to be dragged out and shown of.” She wants
meaningful change: “If you get a bunch of women and a bunch of
men that have all been to the same school and are from the same
socioeconomic backdrop, OK, you may get diversity, but I don’t
think you’ll get the diversity maximization.”
Banks will get serious when they see that diversity, like port-
folio diversiication, is in their interests, Marcussen says. “It’s like
climate change,” she says. “As long as diversity is something that’s
just nice to have, only a small handful will invest the resources
genuinely needed to address the issue. It’s mostly seen as just a nice
advertisement. But once people start to understand that it really
makes economic and business sense, that’s when it happens. And
I think that is where we are right now.”
Meakin covers the Bank of England in London.
Smialek covers the U.S. Federal Reserve in New York.
Silk Road Economic Belt
Maritime Silk Road Initiative

MOSCOW

ROTTERDAM DUISBURG

VENICE ATHENS ISTANBUL

TEHRAN

Piraeus, Greece
In taking control of
this strategically
important port, China
has acquired a perch
on the Mediterranean.

NAIROBI

Mombasa, Kenya
The Chinese have built
a new railway line here,
replacing a worn-out
one left over from
British colonial times.

Empire M A P BY

Building B RYA N C H R I S T I E D E S I G N
 BISHKEK ALMATY URUMQI

SAMARKAND

Yiwu, China
Some 13,000 traders
from around the world
XI’AN live in this mountain
market metropolis in
DUSHANBE
Zhejiang province.

GUANGZHOU
FUZHOU
ZHANJIANG

KOLKATA
HANOI
GWADAR

Hambantota, Sri Lanka

With the government
in Colombo strapped
for cash, Beijing lent
Gwadar, Pakistan
a hand—and got a
This is a city of dreams
seaport in the process.
made in China, which is
financing a $1 billion
infrastructure project
on the Arabian Sea.

COLOMBO

KUALA LUMPUR

JAKARTA

Xi Jinping’s new “Belt and Road” initiative was designed to promote economic development and extend
China’s influence. Has it? Bloomberg Markets reporters traveled along the new Silk Road to ind out
CHINA IS BUILDING a very 21st century empire—one where trade
and debt lead the way, not armadas and boots on the ground. If
President Xi Jinping’s ambitions become a reality, Beijing will
cement its position at the center of a new world economic order
spanning more than half the globe. Already, China has extended
its inluence far beyond that of the Tang Dynasty’s golden age
more than a millennium ago.
The most tangible manifestation of Xi’s designs is the new
Silk Road he irst proposed in 2013. The enterprise morphed into
the “Belt and Road” initiative, a mix of foreign policy, economic
strategy, and charm ofensive that, nurtured by a torrent of Chinese
money, is rebalancing global political and economic alliances.
Xi calls the grand initiative “a road for peace.” Other world
powers such as Japan and the U.S. remain skeptical about its
stated aims and even more worried about unspoken ones, espe-
cially those hinting at military expansion. To assess the reality of
Belt and Road from the ground up, Bloomberg Markets deployed
a team of reporters to ive cities on three continents at the fore-
front of China’s grand plan.
What emerges is a picture of mostly poor nations—laggards
during the past half-century of global growth—that jumped at
the promise of Chinese-inanced projects they hoped would help
them catch up. And yet as some high-proile ones falter and the
cost of their Chinese funding rises, would-be beneiciaries from
Hambantota, Sri Lanka, to Piraeus, Greece, are questioning the
long-term price. In Malaysia, one of the biggest recipients of
Chinese investment in Southeast Asia, newly installed Prime
Minister Mahathir Mohamad is pushing back. Expressing concerns
about loan conditions and the use of Chinese labor that limit
benefits to the local economy, he’s put billions of dollars of
Chinese-funded rail and pipeline projects on hold.
Xi intends a century-long enterprise. China has already out-
spent the post-World War II U.S. Marshall Plan, measured in today’s
dollars. Within a decade, according to Morgan Stanley estimates,
China and its local partners will spend as much as $1.3 trillion on
railways, roads, ports, and power grids. “Economic clout is diplomacy
by other means,” says Nadège Rolland, Washington-based senior
fellow for political and security afairs at the National Bureau of
Asian Research. “It’s not for today. It’s for mid-21st century China.”
Belt and Road is very much about politics at home, too. With
the government and state-owned enterprises investing vast sums
outside China, Xi is encouraging Chinese companies to channel
their spending into domestic projects that will directly beneit the
economy and, incidentally, the popularity of his regime.
Businesses aren’t exactly defying Xi, but they’ve adjusted
their plans to it his. With the Belt and Road project enshrined in
the Communist Party’s constitution as of last year, Chinese com-
panies are using it to help them navigate Xi’s restrictions on foreign
investment and capital outlows. Many are sheltering their over-
seas projects under the umbrella of Xi’s pet project to get the state’s
blessing. Belt and Road, says Michael Every, head of inancial
markets research for Rabobank Group in Hong Kong, is “a polit-
ical special sauce. ... If you drizzle it on anything, it tastes better.”
At irst, the sauce whetted the appetites of many develop-
ing countries in Asia and Africa. As the notion of a modern Silk
Road gained traction, Belt and Road meandered into places that
had never had any connection with ancient caravans. This year
it reached South America, the Caribbean, and even the Arctic.
68 BLOOMBERG MARKETS
In June it rocketed into space: Beijing announced that Belt and
Road-participating countries will be among the irst in line to
plug into China’s new satellite-navigation services.
Most of the proposed plans are infrastructure-based, such
as a new deep-sea port in Myanmar and power lines in the
Maldives. But almost any overseas investment gets tagged as
being part of the initiative: a freight train carrying Chinese sun-
lower seeds to Tehran, a new courthouse in Papua New Guinea,
an irrigation system in the Philippines.
The growing web of trade routes, including the Silk Road
Economic Belt and the Maritime Silk Road Initiative, now extends
into at least 76 countries, mostly developing nations in Asia, Africa,
and Latin America, together with a handful of countries on the
eastern edge of Europe. With most global trade moving by sea,
it’s no surprise that many of the irst places to lock up major Chinese
investments were ports along with pipelines and other transport
links that connect shipping to markets.
China’s plans to build or rebuild dozens of seaports, espe-
cially around the Indian Ocean, have sounded alarm bells in
Washington and New Delhi: How many of those docks will end
up hosting Chinese warships? Just as mighty navies and global
networks of military bases helped support trading empires for
Britain in the 19th century and the U.S. in the 20th century, so
China is building a leet of submarines, aircraft carriers, and
warships that will rival U.S. power.
China has said it has no intention of using Belt and Road
to exert undue political or military inluence and that the initia-
tive is designed only to enhance economic and cultural under-
PREVIOUS SPREAD, SOURCES: HONG KONG TRADE DEVELOPMENT COUNCIL, CHINA’S NATIONAL DEVELOPMENT AND REFORM COMMISSION
standing between nations. “In pursuing the Belt and Road ini-
tiative,” Xi said in 2015, “we should focus on the fundamental
issue of development, release the growth potential of various
countries, and achieve economic integration.”
If that’s the case, Xi will need to change the perceptions of
people who live along the length and breadth of his latter-day Silk
Road. And that can only happen in the towns and cities that are
being transformed by China’s empire of money. —Adam Majendie,
with Sheridan Prasso
Yiwu, China
Nestled in the mountains of Zhejiang province, Yiwu is the embod-
iment of “Made in China.” The market here is unlike any other. A
vast complex of ive-story buildings houses 75,000 booths selling
1.8 million kinds of goods across an expanse the size of 650 soccer
ields. If you’ve picked up cheap jewelry and toys in District 1, you
may need to hop onto a motorcycle taxi to reach auto parts in
District 5. Most of those thousands upon thousands of stalls spe-
cialize in single items—scissors, for example: scores and scores
of diferent kinds of scissors.
An ancient market town about 180 miles southwest of
Shanghai that’s grown into a city of 1.2 million people, Yiwu got
a big boost from Belt and Road. People from Beirut to Seoul and
beyond have come to start businesses. Some 13,000 traders from
around the world now live here. More are arriving every day, says
Mohanad Ali Moh’d Shalabi, a Jordanian businessman who owns
the Beyti Turkish restaurant in the center of the city and a company
that exports goods to the Middle East. “In my restaurant,” he

diplomacy by other means. It’s not for today.
It’s for mid-21st century China”
says, “I have met people from countries I have never known of.”
It wasn’t always like this. When Bloomberg reporters visited
in early 2014, business was so slow that bored shopkeepers played
computer games, read newspapers, or slumped over in their
chairs, asleep.
Janey Zhang, whose Zhejiang Xingbao Umbrella Co. employs
about 200 workers, remembers the bad old days. In 2013 the vast,
labyrinthine halls of Yiwu—a legacy of 1978, when it became one
of Communist China’s first wholesale markets—were almost
deserted. Wholesalers and producers struggled with soaring man-
ufacturing costs and the rise of online marketplaces such as Alibaba.
Then came a glimmer of hope. On social media and television,
Zhang started seeing reports about a new freight train that would
roll west for thousands of miles, crossing China into Central Asia
and on into Europe. This was part of the Xi government’s “New
Eurasian Land Bridge,” a seemingly endless skein of stacked con-
tainer wagons replicating ancient Silk Road camel caravans. “The
impact of the railway was huge,” Zhang says. “I remember seeing
pictures of it piled high with cargo. After the service started, our
sales and customers quickly increased.”
The irst Europe-bound train pulled out of here in Novem-
ber 2014, heading to Kazakhstan and Russia, then through Eastern
Europe and on to Madrid—an 8,000-mile journey that supplanted
the Trans-Siberian Railway as the world’s longest freight-train
route. Since then, more routes have opened to destinations includ-
ing London, Amsterdam, and Tehran.
Zhang’s dream is for her Real Star brand to become the
Hermès of umbrellas. Europe has long been her biggest market.
Since the new freight trains came to Yiwu, she’s picked up custom-
ers all along the route, from Kazakhstan to Russia to Iran.
Trains have cut the time to Europe by a third or more com-
pared with ships. The return journeys bring European goods such
as wine, olive oil, vitamin pills, and whiskey. China Railway Express
Co. said the value of outbound freight from Yiwu in the irst four
months of 2018 jumped 79 percent from a year earlier, to 1.8 billion
yuan ($268 million), while imports tripled to 470 million yuan.
Even so, rail freight accounts for less than 1 percent of
VOLUME 27 / ISSUE 4
“Economic clout is
China’s overall exports. While it can shorten journey times to
Europe, it’s more expensive than seaborne trade and slower and
less lexible than air cargo. But for cities such as Yiwu, and espe-
cially for those in western China even farther away from seaports,
the train that Xi built has injected new life into their economies.
—Kevin Hamlin and Miao Han
Hambantota, Sri Lanka
In a southern Sri Lankan jungle, Dharmasena Hettiarchchi plucks
green chile peppers that grow in the shade of banana trees. His
grandfather tended the same patch of land when this island was
the British colony of Ceylon. Hettiarchchi takes a break from the
heat under a teak tree, removes his wide-brimmed hat, and says,
“If a jeep with Chinese characters comes down the road, the
whole village will gather in protest.”
Hettiarchchi’s village and the surrounding town of
Hambantota have become a cautionary tale for Xi’s Belt and Road
aspirations. The idea was to take an inconsequential harbor visited
by fewer than one ship a month on average and turn it into a
modern, bustling seaport adorning a southern Belt and Road
maritime route. It hasn’t turned out so well.
After Sri Lanka elected Hambantota native Mahinda
Rajapaksa as president in 2005, he began sprinkling development
projects across the region, one of the least-developed parts of
this nation of 21 million people. Even long before Belt and Road
was oicially embedded in Chinese government policy, Beijing
was eager to lend a hand, and Chinese loans inanced Rajapaksa’s
muniicence. Hambantota (population at the time 11,200) got a
new port, an international conference center, a cricket stadium,
and an airport that, despite all the staf on show, doesn’t service
a single scheduled light.
To fund the projects here and others all across Sri Lanka, the
Rajapaksa government fell deep into debt. The port at Hambantota,
for example, was partly funded during the Rajapaksa administration
by a loan from the Export-Import Bank of China. By the time
69
Rajapaksa was voted out of oice in 2015, more than 90 percent of
Sri Lanka’s government revenue was going toward servicing debt.
Last year, with Xi’s Belt and Road plan in full low, a new
Sri Lankan government moved to ease the debt. In return for
$1.1 billion, it basically handed the seaport over to China. Under
a 99-year lease agreement, the government gave 70 percent
ownership of the port to China Merchants Group, a state-owned
company with revenue bigger than Sri Lanka’s economy.
China Merchants has promised to revive the port and turn
it into a major regional trading hub. But some local people have
had enough of promises. “All these huge projects are a waste,”
says Sisira Kumara Wahalathanthri, a local politician who opposes
the current Sri Lanka government. “No ships are coming to the
port. No lights are coming to the airport.”
After 30 years of civil war, many Sri Lankans are glad to see
investment, any investment. At the port and in a surrounding
industrial zone, construction work continues, presaging change.
Displaced from their normal habitats, wild elephants regularly
trample the port’s perimeter fence. At a nearby ancient Buddhist
temple, head monk Beragama Wimala Buddhi Thero says he began
attending protests because the area’s way of life is under threat.
While his temple will be spared, the nearby farms won’t, leaving
him and his fellow safron-robed monks without worshipers.
“It’s becoming a Chinese colony,” he says of Hambantota. In
a darkened hall, reclining on a wooden throne decorated with elab-
orately carved lions and lowers, he complains that China has already
despoiled its own rivers in the name of progress. “If that kind of
pollution comes here,” he says, “it doesn’t matter if we’re developed.”
The chile farmer Hettiarchchi is wary of the surveyors who’ve
begun to appear in his neighborhood, making measurements and
leaving their telltale markers behind. He says the plan is for him
to be relocated to a part of eastern Sri Lanka to make way for devel-
opment. It’s all happening so fast, and what Hettiarchchi could be
losing can’t be replaced easily or quickly. Gesturing to the tower-
ing teak above him, the 52-year-old says, “A tree like this cannot
grow within my lifetime.” —Iain Marlow
Gwadar, Pakistan
Surrounded by desert in southwest Pakistan there’s a stone arch
bearing a single name, Al-Noor. Farther along a desolate road, a
black shipping container has been painted to tell you where you
are: Gwadar Creek Arena.
Al-Noor and Gwadar Creek are planned housing
developments—emphasis on “planned.” There’s nothing here
yet. The same goes for White Pearl City, Canadian City, Sun Silver
City, and other residential tracts on the drawing boards. What
you see are billboards, lots of them, as speculators and developers
carve out future projects on the sun-blasted outskirts of an old
ishing village named Gwadar.
Gwadar is a city of dreams made in China. Beijing is pouring
money into highways and roads, a hospital, a coal-ired power
plant, a new airport, a special economic zone along the lines of
Shenzhen, and, crucially, the port. The chain of events that led
to Chinese involvement here its a pattern repeated up and down
Belt and Road routes: Local or national eforts to expand a port
stumble; China comes in and saves the day.
70 BLOOMBERG MARKETS
In the case of Gwadar, a redevelopment project begun in the
2000s under then-military ruler Pervez Musharraf foundered. In
2013 the Chinese arrived. A deep-water port here would be a
natural southern terminus for a key binational project started that
year, the $60 billion China-Pakistan Economic Corridor, as well
as an important component of Belt and Road. To that end, Beijing
is inancing the lion’s share of the $1 billion in spending on the
port and infrastructure development elsewhere in Gwadar.
Gwadar, across the Arabian Sea from Oman, is so remote
that its electricity comes from Iran, 60 miles down the coast. In
recent years, the village has become a city of 100,000 or so.
Although still mostly a gigantic building site lanked by highways
and crisscrossed by roads, signs of change abound.
Ghulam Hussain, 40, is a shopkeeper. Every month, he
gets six to eight truckloads of rice, lour, sugar, and other gro-
ceries delivered to him from Karachi, an eight-hour drive to the
east. Five years ago, three loads a month met his needs. “There
was nothing in Gwadar before,” he says. “It was deserted. We
were really backward. Since the Chinese came, our businesses
are booming.”
Even so, it’s hard to imagine Gwadar as the sea terminus of a
road-and-rail trade link stretching 3,000 miles to eastern China.
Most of the route would traverse some of the world’s most
inhospitable—and economically barren—mountains and deserts.
A rail line, says Andrew Small, a senior transatlantic fellow
at the German Marshall Fund of the United States, a Washington-
based public-policy think tank, “makes no economic sense in the
foreseeable future. The economy of Pakistan and the economy of
western China would need to look quite diferent.”
Some say that military expansion is the real driver of the
activity in and around Gwadar. “The Gwadar Port shows that
there is a close link to the Chinese military ambitions,” U.S.
Congressman Ted Yoho (R-Fla.) said during Foreign Afairs Com-
mittee hearings on U.S.-Pakistan relations in February.
Zahid Ali, who used to run a small business topping up
credit on mobile phones in Sindh province in eastern Pakistan,
sees things very diferently. Desperate to ind a way to pay of
800,000 rupees ($6,300) in debts, he asked a client if there was
any job in Pakistan that paid 50,000 rupees a month. Go to
Gwadar, the customer replied.
That’s what Ali did. He started as a laborer, learned steel
work, and was soon earning 55,000 rupees a month. Now, having
learned a little Chinese, he’s been promoted to supervisor. “We’re
getting good money, so people are coming from far away,” he says
during his work shift on the six-lane East Bay Expressway. “It’s
good that the Chinese came here. A lot of people have gotten jobs
who were jobless.”
The Chinese who came here to work don’t mix much with
the locals. Some of the 150 or so of them live in a guarded and
gated compound where green shipping containers have been
converted into living spaces.
One of the irst things a visitor to Gwadar notes is that there
are more soldiers on the streets than police—an added precau-
tion against the threat of terrorism across Pakistan. Security is
tight because Chinese wouldn’t come otherwise, says a Pakistani
army oicer who declined to be named because he’s not autho-
rized to talk to the news media. He says there are checkpoints
on all the roads leading into the city.
 Yiwu, China
Good, says Naseem Ahmed, 25, who works for the provin-
cial government. “Security is great here,” he says as he warms up
before taking part in a soccer game at a local stadium. “You can be
out at 3 a.m. in the morning, and there is no fear.” —Faseeh Mangi,
with Chris Kay

Mombasa, Kenya

Astride his boda boda, or motorcycle taxi, at a crossroads in

Hambantota, Sri Lanka
Gwadar, Pakistan
Mombasa, Kenya
BLOOMBERG (3). IMAGINECHINA/AP PHOTO (1). REUTERS (1)
Mombasa, Simon Agina is counting containers on a passing train
that’s heading to Nairobi: “… 82, 83, 84.”
There are plenty of freight containers back where those came
from—and much more besides. The port of Mombasa, Kenya’s
import lifeline, is a heaving mass of traic of all sorts. Trucks line
up quayside to move shipping containers from the docks to the
railway. Three-wheeled tuk-tuks weave dangerously between other
vehicles through hot, dusty streets illed with noise and litter.
Kenya’s largest port is also its oldest. So in 2011, with the
ancient British colonial-era Mombasa-to-Nairobi narrow-gauge
railway falling into disrepair and Beijing in the market for African
investments, Kenya made its move. It agreed to let China inance
and build a standard-gauge railway at a cost of $3.8 billion. The
Mombasa-Nairobi SGR, as it’s called, is the nation’s largest infra-
structure project since independence from Britain in 1963.
Atanas Maina, managing director of Kenya Railways, says
more than 30,000 Kenyans were employed directly on the project,
which was run by China Road and Bridge Corp.; an additional
8,000 worked for subcontractors.
The irst paying passengers rode the line in June last year.
Along its 293-mile journey, the SGR rumbles across almost
100 bridges and viaducts, many designed to allow the lions,
zebras, and other wildlife that inhabit two national parks, Tsavo
East and Tsavo West, to cross under the tracks.
Freight trains like the one Agina saw from his boda boda
began running in January. “Those are 84 trucks of the road,” he
says as the containers whiz by. The railway cuts the Mombasa-Nairobi
trip to ive hours, down from more than eight by truck. Five freight
trains a day were making the journey during spring. The number
could eventually increase to 12, removing as many as 1,700 of the
3,000 trucks that currently ply the route.
Like any major infrastructure project, the rail line has its
detractors. The economist and government critic David Ndii
says it’s not commercially viable, while a Kenyan newspaper, the
Standard, accused China Road and Bridge of “neo-colonialism,

racism and blatant discrimination” in its treatment of local

employees; Kenya Railways subsequently said it would investigate
Piraeus, Greece the allegations.
Environmental activists tried without success to block the
SGR from going through Tsavo parkland and have taken legal
action to try to stop the next phase of railway construction, which
would run the line through Nairobi National Park on the edge of
the capital.
Trucking companies, whose business grew steadily as the
old railway decayed, are now worried about the loss of customers.
Vanessa Evans, managing director of Rongai Workshop & Trans-
port Ltd., says the SGR could have been a plus for the Kenyan
economy in the long run, but poor coordination at the Mombasa

VOLUME 27 / ISSUE 4 71
and Nairobi rail terminals causes cargo backups and delays. The
new rail line, she says, “has nearly destroyed our business because
the turnaround time varies between not good and awful. We have
been in agony for the past ive months.”
The train that pulls out of Nairobi Railway Station each
morning at 8 o’clock, with noteworthy punctuality, is called the
Madaraka Express. In Swahili, “madaraka” means power or
responsibility; Madaraka Day, a national holiday, celebrates
self-rule. If the old railway was a relic of Kenya’s British colonial
past, the new one, built with Beijing’s money, could be seen as a
harbinger of a new kind of imperial reach.
It’s a blue-suited Chinese instructor who makes sure the
female train attendants—uniformed in the colors of the Kenyan
lag—are standing in a nice straight line as passengers board.
China inanced 90 percent of the SGR’s $3.8 billion cost. And
the giant Chinese Communications Construction Co. will operate
the rail line for its irst decade.
The area around the station thrums with activity as con-
struction pushes ahead on houses, container yards, and ware-
houses. Along the route to Mombasa, gleaming steel-and-glass
stations stand out against clusters of tiny houses with rusty cor-
rugated iron roofs and mud walls; the contrast encourages the
locals “to dream big,” says Maina.
Michael Ndungu, 21, a student who studies in Mombasa
and visits the capital on weekends, used to take the bus. “The
SGR has made my life much better,” he says. “It is faster and
deinitely safer.” In Mombasa the surge in passengers—1.3 million
during the irst six months of the year—has been good for the
economy. “Business is good,” says Stephen Kazungu, a 26-year-
old taxi driver.
The newly laid track, the trains, the stations—“You don’t see
that kind of infrastructure development in this part of the country,”
says Agina, the 22-year-old boda boda driver, as the freight train
fades into the distance. “This is amazing.” —Samuel Gebre
Piraeus, Greece
It was the spring of 2016. Greece was in the vise-grip of the Euro-
pean sovereign debt crisis. Its neighbors and creditors were pres-
suring the government to enforce austerity. So Greece sold control
of Piraeus, the storied seaport once connected to Athens by for-
tiied walls, to China Cosco Shipping Corp., a Chinese state-
owned enterprise.
The deal bears many of the hallmarks of China’s biggest
Belt and Road projects. It began years before Xi’s signature project
was announced—in 2009, Cosco won a contract to run part of
Piraeus’s container business—and was then handily folded into
the initiative; it was geared largely toward enhancing the reach
of China’s maritime trade; and it involved a host nation desper-
ate for investment.
But unlike many of China’s high-priced Belt and Road
investments, this isn’t a remote greenield construction project
in a developing nation. The port deal marked China’s gradual
takeover of one of Europe’s oldest and most important sea gate-
ways. Piraeus has been Athens’s port and shipyard for about
2,500 years, a perch on the Mediterranean that helped Athens
become a naval superpower.
72 BLOOMBERG MARKETS
From his oice, Ioannis Kordatos, managing director of the
Hellenic Welding Association, can see the wall of containers stacked
high at Pier II, Cosco’s original beachhead here. “If Cosco magically
disappeared tomorrow, it would be a huge loss,” says Kordatos.
“What matters isn’t that they are Chinese but that they are a private
company doing serious business in the area.”
Very serious business. The 2016 deal gave Cosco a 67 percent
share of Piraeus Port Authority SA for €368.5 million
($429.5 million). During PPA’s irst full year under Chinese control,
its net income jumped 69 percent, to €11.3 million, as revenue from
its container terminal rose 53 percent. Since Cosco irst became
involved, Piraeus has risen to be Europe’s seventh-busiest container
port; 10 years ago, it wasn’t in Europe’s top 15.
Piraeus is a bustling city in its own right. Marinas here are
illed with Athenians’ yachts ready for weekend sailing. Passen-
ger ferries dock near the town center to carry locals and tourists
to Aegean islands. Farther west, in the repair yards, workers
mend boats. Above all, giant gantry cranes loom over ship-
ping containers.
These days, whether you arrive here by sea, by metro, or
by road, you’re bound to run into construction, with chunks of
the city boarded up as bulldozers work on a new subway station
and public transportation connections.
In the heart of Piraeus, Cosco plans to upgrade the ferry
and cruise ship terminals, adding a shopping mall and new hotels.
Farther out, around the Gulf of Elefsina, Cosco’s investments
could help revive Greece’s rust-belt industrial heartland in the
Thriasio Plain west of Athens. There, a planned logistics center,
linked to the port by rail, could become a staging area for goods
headed north through the Balkans.
Not everybody in Piraeus shares Kordatos’s warm feeling
toward Cosco’s purchase of PPA. “If I had the money, I’d buy it
myself rather than let it go to foreigners,” says Evlampia Kavvatha,
who owns a store selling shelving in the town center.
Perhaps Cosco’s presence here is a case of desperate times
calling for desperate measures. Like the rest of the country, Piraeus
has been hit by a depression that’s wiped out a quarter of the
nation’s economic output since the sovereign debt crisis. Away
from the main shopping district street, Piraeus sufers from the
blight of empty storefronts that alicts cities across Greece.
Giorgos Gogos, general secretary of the Piraeus Dockwork-
ers Union, says he’s worried about the impact of a Chinese state-
owned enterprise on labor relations and the local community. “We
think it’s a mistake for infrastructure like this to leave the state,”
he says. “The Chinese have their own way of operating. [Cosco is]
a state colossus backed by capital of the Chinese state. It has the
characteristic of Chinese state capitalism.”
For all the concern about the potentially corrosive efects
on Greece’s economy and sovereignty—and about Beijing’s
ulterior motives—Cosco’s incursion into Piraeus has something
in common with other investments by Beijing along the vast and
meandering Belt and Road: China put its money where others
wouldn’t. —Marcus Bensasson
Majendie is a senior editor in Singapore. Hamlin and Han
cover the economy in Beijing. Marlow covers government in New Delhi.
Mangi covers companies in Karachi. Gebre covers news in Nairobi.
Bensasson covers the economy in Athens.
 NATURE
HYDR ATES

Did you know that each person needs

20-50 liters
of fresh water a day to meet their basic needs
for drinking, cooking and cleaning? *

By preserving and restoring essential lands upstream, we help strengthen

the natural flow, filtration and regulation of watersheds that supply
drinking water to people across Latin America, North America and Africa.

How can you help meet nature’s needs? Learn by visiting nature.org.

* World Water Assessment Programme (WWAP)

The
‘New
Keynesian’
Fed

By MATTHEW BOESLER
I L L U S T R AT I O N B Y J I M M Y T U R R E L L
 The U.S. central bank’s new leaders developed an economic model
from the inlation lessons of the 1980s. But is it right for today?

Richard Clarida,
Marvin Goodfriend,
and John Williams
ABOUT 18 MONTHS BEFORE U.S. President Donald Trump nominated
him to the Federal Reserve’s Board of Governors, Marvin Goodfriend
told an audience that his own family had been the victim of bad
economic policy.
His father had accumulated most of his savings in the 1970s
before retiring in 1984, the Carnegie Mellon economics professor
recounted at the May 2016 panel discussion in Amelia Island, Fla.
The savings dissipated so quickly, Goodfriend said, that his mother
wondered if her husband had a secret family on the side.
“He had all his money in government bonds, and the nominal
value of government bonds was such that his savings were wiped
out by inlation over a decade,” he said. “The reason it’s so hard for
savers to get protection is because governments have been
irresponsible about either their monetary systems or other things,
and I think we need to start there.”
Along with data, calculations, and theory, personal experi-
ences can play a formative role in the worldview of policymakers.
For Goodfriend, 67, and others in his generation, the double-digit
inflation of the late 1970s and early 1980s—and the Federal
Reserve’s war to tame it—had a profound impact on their vision
of responsible government.
Goodfriend’s economic philosophy is, in large part, shared
by fellow Federal Reserve Board nominee Richard Clarida, 61,
Federal Reserve Bank of New York President John Williams, 56,
and even Fed Chairman Jerome Powell, 65. One deining ethos of
the “Trump Fed” so far may be the conservative, inlation-centric
“New Keynesian” economics that Goodfriend, Clarida, and
Williams helped formulate.
But not everyone at the central bank is on board with the
New Keynesian prescriptions, and the assumption that there is a
“natural rate of unemployment” the Fed is unable to afect increas-
ingly is being called into question. Wages and inlation are failing
to behave in ways that New Keynesian models would predict. Battle
lines are being drawn around a debate that will probably come to
a head next year.
In today’s post-inancial-crisis world, boosting workers’
pay and tackling inequality seem more relevant than worrying
about inlation, which has been mostly low and stable for the past
25 years. Indeed, Goodfriend’s appointment stalled after a rocky
Senate Banking Committee hearing in January, in which he strug-
gled to defend some of his past inlation predictions in questioning
by Democrats.
To understand the origin of New Keynesian theory, it helps
to go back to 1980. That’s the year Goodfriend received his Ph.D.
in economics from Brown University and began a 25-year career
at the Fed. Ronald Reagan was elected president, ushering in a
12-year run of Republican White House control and a decades-long
rise in the share of wealth held by the richest Americans.
Then-Federal Reserve Chairman Paul Volcker was engineer-
ing a draconian tightening of monetary policy to tame U.S. inlation
that peaked at an annual rate of almost 15 percent. While that policy
contributed to two recessions, it also succeeded—eventually—in
restoring price stability. An economic recovery followed.
The theory that Goodfriend, Clarida, and Williams developed
held that if the central bank can convince the public that it will keep
inlation low and stable, those expectations will be largely self-
fulilling. That in turn will stabilize other important aspects of the
economy, such as unemployment.
76 BLOOMBERG MARKETS
The group was dubbed the “New Keynesians” because, unlike
classical economists, they saw a role for central bankers to correct
failures that occur in the free markets. The British economist John
Maynard Keynes’s early 20th century writings gained enormous
inluence in the aftermath of the Great Depression. Traditional
Keynesians believe that the government can stimulate employment
by creating demand for goods and services and sometimes must
do so when private-sector demand falls short.
In the eyes of the New Keynesians, traditional Keynesians
took the “stimulus” too far in the late 1960s and early 1970s, allow-
ing deicit spending and overly easy monetary policy to fuel the
inlation that destroyed the Goodfriend family’s savings. In reaction,
New Keynesian theory makes sacrosanct the central bank’s respon-
sibility for controlling inlation, as Volcker did.
Since it was developed in the 1990s, the New Keynesian
framework has won widespread acceptance. Clarida’s most inlu-
ential work, a 1999 paper titled The Science of Monetary Policy:
A New Keynesian Perspective, is a common reference in standard
economics textbooks. Central banks around the world have adopted
the doctrine’s principles.
New Keynesian research “formalized this idea that people
sort of knew, but we were precise about it,” says Mark Gertler, a
New York University economics professor who co-authored a
number of works with Clarida in the 1990s.
Clarida, a Columbia University economics professor who is
also a managing director at Paciic Investment Management Co.,
is poised to win conirmation as the Fed’s vice chairman, illing one
of four vacancies on the seven-member Federal Reserve Board.
Williams moved this year from the San Francisco Fed, where he
was president, to the same role at the New York Fed, gaining a
permanent vote on the policy-setting Federal Open Market
Committee as a result.
Fed Chairman Powell spent much of his career in private-
sector inance roles, except for a stint at the U.S. Department of
the Treasury in the early 1990s. As a Fed governor since 2012, he’s
become familiar with the New Keynesian philosophy, and his strong
support for Clarida and Williams stems in part from his desire for
a disciplined policy approach.
The emphasis New Keynesian theory places on communi-
cation is creating a challenge as the Fed’s plans have become polit-
ically unpopular, attracting criticism even from Trump. Since
PREVIOUS SPREAD, PHOTOS: AP PHOTO (1); BLOOMBERG (2); GET T Y IMAGES (2)
September 2017 the FOMC has been signaling that because the
unemployment rate has dropped so much, the Fed will have to raise
interest rates to forestall inlation.
This conclusion stems from a key equation in the New
Keynesian model on the relationship between unemployment and
inlation. The equation posits that once unemployment falls below
a certain hypothetical “natural rate”—a concept originated by the
late University of Chicago economist Milton Friedman—prices
will begin to rise. Once that happens, the only way for the central
bank to control inlation is to clearly signal it will raise interest rates
to levels that restrict economic growth until unemployment rises
back to its natural rate.
According to projections published in mid-June, FOMC
participants’ median estimate of the natural rate of unemployment
was 4.5 percent. The actual rate fell below that in early 2017 and
was 4 percent as of June 30. As the gap between the two numbers
has widened, Fed officials have responded by increasing their
 “We still have this New Keynesian model in our heads.
The fact that we’re not maybe seeing it work the way we thought
has led us to consider some alternatives”
estimates for how much they will need to raise interest rates. Most
on the committee now predict the federal funds rate needs to be
2.5 percent to 3 percent to keep the economy “neutral.” That will
be attained next year at the current pace of rate increases. Then
the debate will be: Should rates keep rising to ensure unemployment
returns to the “natural” rate and inlation remains contained, or
can the Fed stop and see what happens?
New Keynesians believe that, before Volcker, the Fed’s
failure to respond aggressively to inlation developments “left
the door open for self-fulilling, destabilizing expectations,” says
Peter Ireland, an economics professor at Boston College who
worked at the Richmond Fed in the 1990s, when Goodfriend was
director of research there. “The Fed wouldn’t do enough to ofset
those, and as a consequence, actual inlation followed expected
inlation up.”
If the expectations of businesses and consumers are as
important and as malleable as New Keynesian theory indicates,
central banks can—and should—manage them with statements,
speeches, projections, and the like. Fed oicials have now fully
embraced that lesson.
But a younger generation of researchers is reassessing the
earlier work. Emi Nakamura, an economics professor at the
University of California at Berkeley who received her Ph.D. from
Harvard in 2007, has been looking at the empirical evidence and
is finding that it differs from some of the New Keynesian
model’s assumptions.
In one recent paper, noting that actual unemployment is
typically above estimates of the natural rate instead of luctuating
around the estimates, she and her co-authors ind that allowing
higher inlation may reduce average unemployment. In another,
they suggest that some of the costs of higher inlation implied by
the original New Keynesian models are overstated.
“We still have this New Keynesian model in our heads,”
says Mark Wright, research director at the Minneapolis Fed.
“The fact that we’re not maybe seeing it work the way we thought
has led us to consider some alternatives.”
Increased attention to unequal wealth distribution is also
VOLUME 27 / ISSUE 4
challenging the conventional wisdom. The share of savings held by
the poorest 90 percent of the population fell to 23 percent in 2016,
from 33 percent in 1989, according to the latest results of the Fed’s
triennial Survey of Consumer Finances, released last year.
As a result, the New Keynesian focus on inflation means
protecting a far smaller and wealthier group of savers than it did
in the 1970s.
During the summer of 2014, shortly after she became Fed
chair, Janet Yellen suggested that tightening labor markets could
spur wage growth without increasing inlation. Her argument was
that the dramatic shift in income distribution toward shareholders
and away from workers over the previous decades left room for
workers to recoup some of the share before companies would be
forced to raise prices. That meant the Fed wouldn’t have to raise
interest rates so quickly to fend of inlation.
Clarida tweaked a government data set to reproduce the
labor share of national income, the portion allocated to wages. Paul
McCulley, then chief economist at Pimco, dubbed the number
“Rich’s Ratio.”
“There is ample room for the Fed to let Rich’s Ratio climb
for a long time, before fostering a breach of its inlationary mandate
so egregious as to warrant immoderately high long-term interest
rates,” McCulley wrote at the time. Since then, Rich’s Ratio hasn’t
improved much and inlation remains dormant, leaving Yellen’s
idea untested.
Yellen was replaced by Powell in February. In the Fed shaped
by Trump, the New Keynesians taking the reins seem, so far, com-
mitted to maintaining their inlation-ighting credibility.
If central banks “try to exploit the nonresponsiveness of
inlation to low unemployment and push resource utilization sig-
niicantly and persistently past sustainable levels, the public might
begin to question our commitment to low inlation, and expectations
could come under upward pressure,” Powell said in a June 20 speech.
But as long as wages and inlation remain low, pressure will
grow on the New Keynesians to test their own theory.
Boesler is an economics reporter at Bloomberg in New York.
77
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A Function I Love
DOTS
<GO>
THE U.S. IS AT a fascinating juncture in
its economic history. We have a new
chairman of the Federal Reserve, Jerome
Powell, who, unlike his predecessor, is
not an academic economist. Meanwhile,
some traditional ideas about how the
economy should behave seem to be
buckling. That can be seen most notably
in the U.S. unemployment rate, which has
plunged below levels that many people
thought represented “full employment.”
Inflation, which should be ticking up,
remains relatively tame.
Powell and the rest of the Federal
Open Market Committee have a tricky
path ahead, to say the least. With that
context, one of the best places to go to
Weisenthal co-hosts What’d You Miss? on Bloomberg TV and is news director for the Americas at Bloomberg.
80
Connecting the Dots
understand what monetary policy
makers have in mind is {DOTS <GO>}.
If you’ve been monitoring the Fed in
recent years, you know it publishes
a scatter plot of “dots,” each of which
represents an individual FOMC member’s
estimate for the appropriate path of
monetary policy. If you looked in July, for
example, you would have seen that four
members expected the fed funds rate to
be 3.125 percent at the end of 2019 and
another four saw it at 2.875 percent.
Some others were scattered higher and
lower. Taken together, these dots give
the market a sense of where the FOMC
thinks policy is headed.
Two big things stand out at the
BLOOMBERG MARKETS
By JOE WEISENTHAL
moment on {DOTS <GO>}. One is that
the median dots for 2018 and 2019
(the green line) are well above where the
market is currently pricing the policy rate
(the white and purple lines). Either the
Fed will have to slow its expected path
of hikes or the market will be in for a
hawkish surprise. The other thing: The
Fed sees rates going higher in 2020 than
in its longer-term outlook. The median
dot in 2020 is at 3.375 percent, while the
longer-term median is 2.875 percent.
Just from this one image, you can
get a sense of how complicated the
Fed’s task is. And if you regularly check
the page, you’ll see how the challenge
is evolving.
Research.
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