INSIDE ECONOMICS

Mark Zandi:                     Welcome to Inside Economics. I'm Mark Zandi, the chief economist of Moody's Analytics. And I got a slimmed down crew today. That's Mr. deRitis. Dr. deRitis, good to see you.

Cris deRitis:                      Good to see you, Mark.

Mark Zandi:                     Yeah, it's just mano a mano again.

Cris deRitis:                      Yeah.

Mark Zandi:                     There isn't Marisa, Dante, the whole team. Everyone's gone where it's just us. And this is Saturday morning which is really unusual. I've been traveling all week, so got back late yesterday and couldn't record the podcast until now. So thanks for doing this.

Cris deRitis:                      Absolutely. Where were you? West Coast or?

Mark Zandi:                     Yeah. We were in Salt Lake for a day and then Southern California for a few days. So, the folks in Salt Lake told me I picked a good day to come. It was only 100 degrees outside.

Cris deRitis:                      Oh, wow. Okay.

Mark Zandi:                     Yeah. It was pretty brutal. I really don't know how you manage through all that, but people do. Southern California is gorgeous. That was beautiful. Yeah. It's always nice there, but it's really very nice. And you got back from Italy?

Cris deRitis:                      I did. I was back earlier this week. And very hot there too. So another-

Mark Zandi:                     Oh yeah?

Cris deRitis:                      ... heat wave going. Oh yeah. They're in the hundreds as well.

Mark Zandi:                     Really?

Cris deRitis:                      Yeah.

Mark Zandi:                     Wow. Is this unprecedented heat or just hot?

Cris deRitis:                      Yeah, it's-

Mark Zandi:                     Unprecedented.

Cris deRitis:                      Usually it gets hot in the summer. That's natural. But this year, really brutal. Really brutal.

Mark Zandi:                     Oh boy. I wonder what that means for the vineyards. It can't be good or I don't know. I have no idea. Do you know?

Cris deRitis:                      I don't know. I think it might be-

Mark Zandi:                     Makes it sweeter or something.

Cris deRitis:                      ... quality but smaller production. Lower production but higher quality perhaps. But I think it really depends because they also had a lot of rain earlier this year as well. So, the timing of those weather events is ...

Mark Zandi:                     Right. Well, good to have you back. You had a good vacation. You were there for a couple weeks I think. At least two-

Cris deRitis:                      I was. It was nice.

Mark Zandi:                     Yeah. Yeah. You do look rusted. That's great. I'm glad you're back. Well, I thought for this podcast, we kind of take stock of 2023 year to date. We're kind of a little over halfway through and lots happened. I've already forgotten a lot of what's happened, pretty action-packed. Thought we'd take stock of that and maybe also think a little bit about the second half of the year as well. Sounded like a good game plan? Does that sound like-

Cris deRitis:                      Absolutely, yeah.

Mark Zandi:                     Okay, all right. Well, I think kind of top of mind, first question is that I'm been getting is what about the economy's performance so far this year has surprised you the most in a lot of different things going on? What's been most surprising for you?

Cris deRitis:                      Yeah, I would say it's really the resilience of consumers and businesses. You mentioned all the risks, all the things that happened this year. I think we already forgot that there was a debt ceiling drama for a few months and we had the banking mini-crisis, right? High rates.

                                           And I think I underappreciated just how resilient consumers and consumer balance sheets really were. I knew they were strong. That's why I didn't expect to see a major drop-off. But consumers just have been continuing right through. Their spending just keeps going even with high levels of inflation still. They're tapping into their savings, continuing to support the economy through their spending.

                                           Businesses also still looking ahead. Obviously they face a number of challenges but they've also continued with their investments and looking ahead to expand. So, I think that's a key source of the strength of the economy so far. If we hadn't had those types of supports, I think the shocks we did experience would have created more ripples in a different environment.

Mark Zandi:                     I mean, the economy has been resilient. We're going to get the GDP for the second quarter I think this coming Thursday. Is that right? Or Wednesday, Thursday? I can't remember which day.

Cris deRitis:                      Yeah, I think so.

Mark Zandi:                     I think it's generally Thursday. In our tracking estimate, we take all the monthly data as it comes in and translate that into what it means for GDP growth in the current quarter. I think we're at 2.2% real GDP growth in Q2. That's on top of 2% in the first quarter. So that means first half of the year, 2%-ish, which that's the economy's potential rate of growth. That rate of growth consistent with enough jobs to maintain stable unemployment. Unemployment has been rock solid in the mid-3s, so consistent with that.

                                           That's pretty good. And you're saying we were having this conversation at the end of last year thinking about the first half of this year, you would not have thought 2% gross.

Cris deRitis:                      No. No, that's positive still but certainly weaker.

Mark Zandi:                     Right. And of course, hand in hand with that is the job growth also.

Cris deRitis:                      Yeah.

Mark Zandi:                     More resilient. But you say, "Okay, consumers hang in there. Their spending has been more resilient." Why? What do you think is going on there? Why has it been more resilient?

Cris deRitis:                      Yeah, I give a lot of credit to the balance sheets, the excess savings that we point to or we have pointed to on the podcast. That's a significant source of support that our consumers have been willing to tap into to continue to support their spending.

                                           On top of that, you mentioned the job market. Wage growth has been strong. That certainly is another source of support particularly for those households at the lower end which may have already exhausted most of their savings. At least they have this wage increase coming in that can help to offset some of the financial pressures as well. So again, I see that as really the reason why consumers have continued to be willing to spend.

Mark Zandi:                     Yeah. Now, okay. I mean that feels a little unsatisfying to me because we knew about the excess saving. We've been tracking the excess saving. And the excess saving just for the listener is the extra saving that occurred during the pandemic above which would have happened if there had been no pandemic.

                                           And part of that was lower-income households getting government's support, although that probably is pretty much gone at this point. The other part of that is all middle-income, high-income households sheltering in place and not being able to spend during the pandemic and they saved and have all this cash that are sitting in their checking accounts and they've been using it. But we knew that coming into this year that there was a lot of excess saving.

Cris deRitis:                      We did. But I believe there was a debate, at least I was debating whether that saving was truly available for spending or if consumers were viewing that as wealth that maybe they were just parking that cash in an account for now trying to see how they should deploy it. Whether they should buy stocks or bonds or kind of wait and see, but not that they would actually be using that to continue to support spending in the absence of a crisis.

                                           We were truly in recession, sure. That's when people will deplete their savings and do whatever they can to stay afloat. But this was depleting savings just to continue the level of spending the trajectory that they were already on.

Mark Zandi:                     It's funny. I wasn't surprised by folks using cash in their checking account to maintain their spending. That seems like, "Oh, duh, they're going to do that," especially the American consumer. I mean, what's the old adage? Never underestimate the hedonism of the American consumer. That's been a pretty good forecast rule forever.

                                           What actually surprised me on the spending side was they didn't spend more. They haven't been spending with abandon. It's not like they're out dropping their saving rate to a significant degree. They've been amazingly calibrating their spending.

                                           So if you look at real consumer spending, that's the kind of the whole shoot and match. That's everything that people spend their money on from vehicles and other goods, to travel and other services. It's 2% on the nose, 2% on the nose. And it's been like that for well over a year, maybe a year and a half now. I mean, just some months a little higher growth, some months a little lower, but about 2%.

                                           That's what I find so surprising that it's been so carefully calibrated. Consumers have been using, drawing down their excess saving over the past year just to supplement their purchasing power. Their real incomes have been under pressure because of the high inflation, but they've been able to draw down that savings to supplement their purchasing power just enough to maintain the spending and hit that number right on the nose, the 2% real growth.

                                           And of course, consumers are the bulk of GDP thus you get 2% GDP, that kind of thing. No?

Cris deRitis:                      Yeah, no, I'd accept that but there's certainly a lot of shocks still out there. So, why didn't consumers spend even more? I think there's still a lot of uncertainty. So, that would cause them to calibrate a bit more. Yeah.

Mark Zandi:                     I'll tell you-

Cris deRitis:                      I will tell you that the consumers are definitely spending in Europe. And Italy was full of Americans.

Mark Zandi:                     Full of Americans. Oh, is that right?

Cris deRitis:                      More than I've seen in the past. So, clearly there's some segment of Americans out there that's also strong in their spending.

Mark Zandi:                     The strong dollar's got to help too. I mean, sort of strong. I guess the dollar euro is what? 1.13, 1.14, something like that, which is pretty strong dollar.

Cris deRitis:                      It's weaker. It's weaker.

Mark Zandi:                     It's weaker than it was. But in the grand scheme of things, that's a pretty strong dollar I think.

Cris deRitis:                      Yeah.

Mark Zandi:                     No? Yeah.

Cris deRitis:                      Yeah.

Mark Zandi:                     Okay. I'll tell you what, the thing that surprised me and it's not unrelated to the consumer but a little kind of different perspective is jobs. I've been surprised by how resilient the job market has been and how consistently businesses have been able to generate new jobs that I think average monthly job growth in 2023 year to date is got to be over 300,000, around 300,000.

Cris deRitis:                      I think it's right there, yeah.

Mark Zandi:                     It's right there which is pretty incredible, right?

Cris deRitis:                      Yeah.

Mark Zandi:                     Yeah. I mean because the rule of thumb we've had is underlying labor force growth. Abstracting from the ups and downs and all arounds is probably not more than 100K per month. So, an economy can't sustain them above 100K for lengthy periods of time. It can in 2023 because we had a lot more labor supply too, a lot more working age population and labor force participation picked up. So, that's been helpful.

                                           But longer run, we can't support job growth that's over 100K. And here we are well into this jobs recovery and we're still creating 300K. And interestingly, it goes to just pretty low layoffs. I mean, layoffs have picked up this year compared to last, particularly in the tech sector, maybe a little bit in single-family housing or mortgage originations and bit manufacturing. But outside of that, layoffs remain incredibly low.

                                           And the dynamics are it's less clear to me what's driving that. In the case of the consumer, they got cash in the bank. So, that feels like that's a pretty easy explanation for why they're able to spend. The explanation for why businesses aren't laying off workers and why job growth is so strong, that's a little bit more difficult don't you think to explain?

Cris deRitis:                      Well, I think the labor force participation was a bit of a surprise. Not so much the fact that we are creating all these jobs but that there's the workers-

Mark Zandi:                     You're surprised by a lot of stuff. I wasn't surprised by that.

Cris deRitis:                      Come on. That we keep finding people that are willing to come back into the labor market. You got to be surprised.

Mark Zandi:                     Not really.

Cris deRitis:                      Women's labor force participation at an all-time high.

Mark Zandi:                     No, no.

Cris deRitis:                      That keeps growing. That we're going to continue to find people for all these jobs.

Mark Zandi:                     Go look at our forecast that we did before the pandemic of what the labor force participation rate would be today. It's exactly where the labor force participation rate is today. No surprise. No. So I would say that hasn't been surprising to me.

                                           But why do you think businesses aren't ... Well, first of all, do you agree with the characterization that job growth has been strong largely because layoffs have remained low? I mean, hiring is strong although that feels like that's more normalized more recently. So, it feels like it's more on the layoff side that the reason why we can be able to continue generate is strong job growth. Is that fair characterization?

Cris deRitis:                      That sounds right.

Mark Zandi:                     Yeah. Okay. And so what's going on? I mean, the kind of pat explanation is labor hoarding. Businesses realize that their number one problem is going to be through thick and thin, through whatever it is that we're experiencing now. On the other side of it, it's still going to be left with a tight labor market. Just demographics, the aging out of the boomer generation me, the slower foreign immigration into the country which is key to labor force.

                                           So they know that they're going to have the perennial problem filling positions and retaining workers and therefore they're just not willing to do that right now. Is that the answer?

Cris deRitis:                      I'm a little dissatisfied by that. I can see it to some extent, sure. If I know that this slowdown is going to be temporary, yeah, I'm willing to hang on to some folks that otherwise I might not otherwise have. Because I know at the other side of this, it's going to happen. But there's a limit to that. A business can't afford just to hold a reserve army of workers out there doing nothing and hoping that the demand comes back later.

                                           So, that just doesn't sound right to me as that being the major reason. I think there is true growth. I think the consumers do remain strong and they're still seeing a lot of demand for their services and the products and that's why they continue to hang on to their workers.

Mark Zandi:                     But productivity growth has weakened. I mean, we're consistent with the idea that there's labor hoarding. That demand is still growing but it's growing more slowly than the growth in labor input, the job growth. And so productivity growth, I mean you saw this big pop in productivity growth coming out of the pandemic, typically do coming out of recession. But since then, it's been flat-lined. It hasn't gone anywhere.

                                           So that is consistent with the idea that businesses are saying, "Okay, I'm willing to live with less productivity growth which means weaker profit margins, which means lower profitability at least for a while." That's consistent with that.

Cris deRitis:                      Yeah, I still see productivity as undergoing through a transformation here though. I think we're still dealing with the remote work, hybrid work, optimizing around that. So, in the interim, in the short term, you can have productivity growth being low. You're investing, if you will, for a future where productivity growth will pick up.

                                           And AI might be the next factor example for that where in the short term, you actually may see productivity go down as you're trying to figure out how to use these new tools and technologies. You're running the old process in parallel with the new process that's actually reducing your productivity.

                                           But then longer term, things will turn around. I still see firms struggling with the whole remote work or hybrid work environment. So, I see that as being another structural factor on top that may explain some of that weaker productivity growth. So yeah, I don't see that as hoarding though. I see that as transformational.

Mark Zandi:                     Yeah. Yeah, right.

Cris deRitis:                      Yeah. And you said something that kind of resonates with me that hadn't dawned on me until recently. If I'm a business person and I hear the words recession but then I hear in the same breath, "Oh, it's going to be a short mild recession, maybe a few months, maybe six months, maybe down a little bit," I go, "Oh, okay."

                                           And I've been now through many years of fighting to find people to work for me. Because this goes back to way before the pandemic, this labor shortage, businesses' number one problem being labor is not new. It's been around for a while, almost a decade now. Well, not quite a decade but kind of in that ballpark.

                                           And you're saying, "Oh, okay. If it's going to be short and mild, I'm not going to lay anybody off. Maybe on the margin, on the fringes, use this as an opportunity to maybe restructure a little bit but I'm not going to lay off in a big way." Sound right? That's what you're saying. That's what you're saying.

Mark Zandi:                     Yeah. I just won't hire. I mean, I'm going to reduce my hiring at that point.

Cris deRitis:                      Yeah. Yeah, right. I'd reduce hiring but not lay off workers.

Mark Zandi:                     Right.

Cris deRitis:                      Yeah, no, that makes sense.

Mark Zandi:                     Okay. Here's the other thing though to point out with regard to the surprise particularly around the job market is maybe we'll find out that there wasn't as many jobs created. And it's just we're surprised because it never happened.

Cris deRitis:                      It's wrong.

Mark Zandi:                     It's wrong. And this goes to the revisions because the job market data that we look at, the monthly data, the payroll survey data, the data based on our survey businesses, that's a survey. So, it's what? 250,000 establishments, something like that? So it's big but it's still a survey. This data gets so-called benchmarked to actual employment estimates based on unemployment insurance records once a year by the Bureau of Labor Statistics.

                                           And sometimes those revisions are big. And we could see pretty, and I wouldn't be surprised at all if we saw some substantive downward revision in the estimated job growth that we've seen so far this year.

Cris deRitis:                      Yeah. I mean, 300,000 a month is just an incredible pace even in any environment.

Mark Zandi:                     Right. That's the one thing I've learned over 35 years as a professional economist. When something doesn't quite add up, it really doesn't. It doesn't add up. It doesn't add up. And the data ultimately is revised. Even the GDP number, I bet you the GDP certainly last year when you saw those two quarters of negative numbers in the first half of 2022 which if we had done this podcast a year ago, that would have been the surprise. Where did those negative numbers come from?

                                           I'm still betting that once all those revisions on GDP come in and there's a lot more coming, that gets revised away. And it wasn't strong. I'm not saying you had strong growth but I bet you, we didn't experience two quarters of negative GDP. This is just my intuition.

Cris deRitis:                      And right now, GDI, gross domestic income is pointing to weakness.

Mark Zandi:                     That's pointing to weakness, yeah.

Cris deRitis:                      So, it could be that the strength you're seeing right now may not be quite as strong.

Mark Zandi:                     Yeah, right, because GDI, gross domestic income, was stronger in the first half of 2022, the flip of what's happening right now. So yeah, you take the average of those two things, that's probably reality. It's basically saying slow growth, 1% kind of growth, GDP growth, which is more consistent with what we're observing out there.

Cris deRitis:                      In our original forecast.

Mark Zandi:                     In our original forecast. Yeah, exactly. In terms of surprises, let me throw one more out. I got a couple other surprises. Do you have more surprises as well?

Cris deRitis:                      I got plenty of surprises.

Mark Zandi:                     Oh, you got plenty of surprises. Let me throw one out that I know is your favorite, house prices.

Cris deRitis:                      Oh, that's where I was going to go.

Mark Zandi:                     Oh, is that where you're going to go? Okay. Just go there. What were you going to say?

Cris deRitis:                      So, I guess I wasn't terribly surprised by the slowdown. We had been calling for slowdown in prices throughout last year. I actually got some heat. Or we were kind of on the low end of consensus at the time. So when the house prices actually did slow down, I actually even turned negative on a year over year. I wasn't terribly surprised by that.

                                           But more recently, we see house prices holding up much better. And I think where perhaps missed was just how strong the lock-in effect is, the fact that you have very limited inventory of homes for sale, people hanging onto their homes because they've locked in these very low-mortgage rates. And that has overwhelmed the affordability issues with given the higher interest rate, you would have thought demand would pull back and has. But that's that lack of supply that has really kept prices from falling much at all. In fact, they're starting to rise again in many markets.

Mark Zandi:                     Yeah. So the idea is that most homeowners with mortgages. Here, I'm going to play a little statistics game with you right now. I want to see how good you really are, really good. There's no Marisa here.

Cris deRitis:                      Mano a mano.

Mark Zandi:                     Yeah. Here you go. How many single-family homeowners are out there, do you think? Roughly speaking? Oh, roughly speaking because I don't know the exact answer either because I didn't think I was going to ask you this question before I asked it.

Cris deRitis:                      Let me think through. It's been a ... So, 100-

Mark Zandi:                     Well, the home ownership rate is-

Cris deRitis:                      We know of 120, 130 million house-

Mark Zandi:                     Million households, right.

Cris deRitis:                      Home ownership rate is about two-thirds.

Mark Zandi:                     It's on the nose actually.

Cris deRitis:                      Yeah.

Mark Zandi:                     66%, yeah.

Cris deRitis:                      Another data point you should take with a grain of salt.

Mark Zandi:                     True. True. Very true.

Cris deRitis:                      But yeah, two-third on the nose.

Mark Zandi:                     Yeah, do the arithmetic. So, what is that? 75, 80 million people?

Cris deRitis:                      Yeah, something like that. Yeah.

Mark Zandi:                     Okay. And how many of them have mortgages? How many people have mortgages-

Cris deRitis:                      Oh, about half. It's about half.

Mark Zandi:                     Oh, I thought it was a little more than. Well-

Cris deRitis:                      More than?

Mark Zandi:                     Yeah, it's a little more. About almost 50 million have mortgages. Okay. Yeah. You don't believe me. You're doubtful.

Cris deRitis:                      No, no. I have an-

Mark Zandi:                     I see it on your face.

Cris deRitis:                      I have an old number. So, yeah, I haven't looked at it recently.

Mark Zandi:                     We know exactly because we get the data from Equifax, all the credit files in the country every month. So we know exactly. So we can go take a look. I think it's like $49.3 million. Maybe we'll look that up before we-

Cris deRitis:                      Are you subtracting out the second mortgages there?

Mark Zandi:                     That's just first mortgage, first mortgage.

Cris deRitis:                      Well, but it's a first mortgage but you could have multiple properties.

Mark Zandi:                     Well, as defined by the bureaus, the first mortgage. I mean, yeah, I guess-

Cris deRitis:                      It's the first mortgage on the property but the owner might not-

Mark Zandi:                     You're just trying to squirrel out. You didn't know the answer.

Cris deRitis:                      I think it's 50%.

Mark Zandi:                     You go, "Oh, there's the second mortgage."

Cris deRitis:                      I think it's closer. No, I don't.

Mark Zandi:                     Maybe you're right.

Cris deRitis:                      Sandy over counting going ...

Mark Zandi:                     Yeah, maybe you're right. Anyway, where was I going with it? Oh, this is it. So, you got say let's just round to 50 million. 50 million people, the average interest rate on their mortgage because of all the refinancing that's been done over the years and the fact that mortgage rates got so low. I mean, if you go back before the Fed started raising rates in 2021, I think we got down to what, 2.5%, 2.75% percent on a 30-year fixed?

Cris deRitis:                      Yeah.

Mark Zandi:                     I mean something outrageous number.

Cris deRitis:                      Ridiculous.

Mark Zandi:                     By the way, have you noticed when you ask people about their mortgage rate? Everybody's got that 2.5% mortgage. "Oh yeah, I got 2.53%." Everyone's a genius. They got more. It's like so shocking to me. Everyone's got that lower. Well, maybe they do because the average coupon's 3.5%, roughly 3.5%.

                                           So, okay, current mortgage rates are 7% roughly. So, are you really going to sell your home, you extinguish that mortgage at 3.5%, go get another home, get another mortgage at 7%? The economics of that are pretty tough, right?

Cris deRitis:                      Yup, that's right.

Mark Zandi:                     And so, that's what you mean by interest rate lock. People are locked into their home. Even if they hate their home, they love their mortgage.

Cris deRitis:                      They love the market.

Mark Zandi:                     They're not going to ... Life happens. And that maybe we still have house price declines occurring in our forecast because over time, over the next couple, I don't know, two and a half years, because divorce, death, children, job change, people got to move. And once they have the society, they've been putting off those things. Those things happen and they've been putting off moves because they don't want to move. But at some point they're going to have to move.

                                           And when they go out to sell, if at the current house price which is so elevated and at the current mortgage rate, things are just not affordable. They're going to have to start cutting prices so we expect prices to still come in. Although our peak-to-trough decline in house price is not as significant as it was before, right?

Cris deRitis:                      That's right.

Mark Zandi:                     Yeah. At the height of our pessimism around house prices, what did we have peak-to-trough decline in prices? Do you recall?

Cris deRitis:                      It was close to 10%.

Mark Zandi:                     Close to 10%. Yeah, that's the entire market. Yeah.

Cris deRitis:                      Yeah.

Mark Zandi:                     The Fannie-Freddie market, the FHA market, the market that's non-government.

Cris deRitis:                      [inaudible 00:27:01].

Mark Zandi:                     Yeah, right. Okay. So, that was a surprise. And that may go back to consumers too to some degree, right?

Cris deRitis:                      Yeah.

Mark Zandi:                     The fact that housing values have held up means that people's housing wealth is also held up. And another reason for them to be a little bit more confident about going out and spending.

                                           By the way, going back to your point about labor force participation, the one place where I have been surprised about labor force participation is the fact that people who have retired have not come back into the workforce to the same degree as they have historically in the post-pandemic period.

                                           So, we're getting a lot of retirements because the boomers are retiring. And typically historically, when people retire, many of them come back in to look to get work. Either perhaps because of a lifestyle choice they just say, "I just don't like retirement. I want some kind of work." And/or financial reasons, "Oh, I'm not as prepared financially as I thought. I need to work a little bit longer. I need some income." But that's not happening in this government.

                                           And maybe because people are wealthy, right? I mean, house prices are hanging in there. Stock prices are almost back to their previous record high. So, they're saying, "Well, I'm fine. I don't really need to come back in."

Cris deRitis:                      Yeah. Although I think though ... So you're right, they haven't come back to the extent that they were at prior to the pandemic. Between the great financial crisis and the pandemic, the labor force participation rate of the folks over 65 was pretty high. But if you go back a little bit further, I believe it was lower. I think we're getting back to that historical norm if you go back into the '90s.

Mark Zandi:                     I don't think that's a fair comparison though because you got to look at the distribution of ages of people in retirement. You've got a big chunk of folks that have newly retired. That's the boomers. You go back in the '90s, the average age of a person in retirement, they were a lot older back then because you've got this wave of retirements occurring. So, I'm not sure-

Cris deRitis:                      So you want to look at the 65 to 70.

Mark Zandi:                     Exactly. Yeah, that's what I want to look at.

Cris deRitis:                      Fair enough. We'll take a look.

Mark Zandi:                     Oh, you've got the data? Oh, damn.

Cris deRitis:                      I will find it somewhere.

Mark Zandi:                     I could be wrong. I could be wrong. No, I think that's-

Cris deRitis:                      You might be right. You might be right.

Mark Zandi:                     Okay. So-

Cris deRitis:                      Are we going to come back in though or is this permanent do you think?

Mark Zandi:                     The longer it goes on, the more I'm thinking this is going to stick. And I do think it goes back to asset prices. I think it does go back to stock prices in particular. It goes to housing values and the cash that people have that they did save. There's still a lot of excess cash for middle, high middle and high-income households.

                                           And the other interesting thing about boomers is they have invested more of their wealth in stocks than previous generations. And unlike previous generations, as they've aged, they've not left the stock market. They've continued to invest in the stock market which is kind of counter to a lot of theory.

                                           Personal financial advice, right? You're supposed to take less risk but people don't want to do that. They're very comfortable with the equity market. It's gotten a lot easier to invest in the equity market. You got all these trading platforms and everything else. So, it's just a lot easier.

                                           And so, now that stock prices are so high, elevated that I think there's a lot more wealthier boomers out there than has been the case in previous generations and that's less likely they're coming back. Yeah.

Cris deRitis:                      Hey. So, okay, the surprises are the resilience of the economy. You mentioned consumers.

Mark Zandi:                     I don't think that was a surprise but you get surprised about lots of things. That didn't surprise me. But the resilience of the labor market, that surprises me, if it's real, if it ends up being real.

Cris deRitis:                      Yeah. And then house prices, anything else that happened here recently, first half of 2023, that's been a surprise to you?

Mark Zandi:                     Well, I think if I'm honest, the banking mini-crisis is a surprise.

Cris deRitis:                      Could have expected something-

Mark Zandi:                     That it happened to me. That it happened.

Cris deRitis:                      It happened and it happened so quickly and to fairly large institutions. We're not just talking about a few small banks. I mean, Silicon Valley was a huge bank. So, you're right, that was a bit of a surprise, certainly.

Mark Zandi:                     Yeah. For me, that was my most disappointing miss of all the things that ... I'd say my biggest forecast error in the following sense that actually before the crisis, I talked about the banking system as a basis of strength in the economy. One of the reasons why I didn't think we'd have a recession because the banking system was on such fundamentally strong ground.

                                           So, I got that wrong. And it's a good lesson for me that I learned every 10 years. And that is, look at the distribution. What I mean by that is if you go look at the averages or the medians of measures that are reflective of the health of the system, the banking system, financial system, you can look at them and you go, "The system is in great shape." I mean, the level of capital is extraordinarily high. It risen meaningfully since in the wake of the financial crisis and all the regulatory changes, Dodd-Frank and everything else. Liquidity is much, much better than it was historically.

                                           Again, going back to those changes, underwriting has been really actually very good since the financial crisis. Banks have been very cautious in their underwriting, the lending standards that they impose to extend out credit.

                                           So, I looked at those numbers and I go, "Oh." And even the profitability of the banking system. I mean, one of the things that I find so amazing is despite the higher levels of capitalization and despite the more restrictive regulatory environment and despite the liquidity, the demands for higher levels of liquidity, the return on assets, the return on equity of the banking system is not much lower than it was prior to the financial crisis. And of course prior to the financial crisis, the world had lost their minds and the banks had extended out way too much. Credit underwriting was way too weak and that juiced up the return on equity and assets.

                                           So, counting for that, the system had returned completely back to the profitability that prevailed prior to that. By the way, that brings up another point about now the system is being required to hold even more capital in the wake of SVB and banking crisis. We can come back to that if you'd like.

                                           But the thing that I missed in hindsight, it's always like, "You idiot, how could you have missed this," is the distribution. If you look at the distribution across all the banks, if you just had simply done a scatter plot of all the banks on the x-axis share of deposits that are to uninsured depositors, on the other axis the share of realized losses on securities portfolios because of the increase in interest rates, they're way out standing all by itself obviously screaming, "I got a problem was SVB."

                                           Now, actually, in all fairness to me-

Cris deRitis:                      That's what it's all about.

Mark Zandi:                     It's all about that. SVB was a $200 billion bank. Give me a break. If that thing goes belly up, would you have really thought that it would trigger the deposit run that it occurred across the banking system? Probably not, right? Probably not even if you'd seen that. Not of course I missed that. But that's a cautionary tale. We got to look at the distribution particularly when it comes to things like the financial system. We can't just look at the averages. But that's my biggest forecast mistake I think.

                                           But having said that, I'll say one more thing because I'm saying a lot, the fallout, the economic fallout from the banking crisis has also been a lot less than I would have thought. No?

Cris deRitis:                      Yeah, yeah. At least so far. At least so far.

Mark Zandi:                     Well, I mean here we are. We're like what? April, May, June. We're four months away since the crisis. So, what are you thinking?

Cris deRitis:                      Well, the tightening of the standards, lending standards. Maybe that hasn't really [inaudible 00:36:15].

Mark Zandi:                     Filtered through?

Cris deRitis:                      Filtered through because of the balance sheets we talked about. If consumers still have cash and businesses have cash, they haven't really needed to borrow to a large degree. As loans come due, as those resources get depleted, that may be the time when you actually feel the pressure.

Mark Zandi:                     Yeah. But on the other hand, you look at the ... Because we get weekly data on loans outstanding by loan type, credit cards and construction land development loans and multi-family mortgage loans and commercial industrial loans. And that doesn't seem to show any meaningful weakening. It may be a little bit on the margin but I don't see it in the data, at least not so far.

Cris deRitis:                      But not yet because the rates are-

Mark Zandi:                     The rates takes time.

Cris deRitis:                      Rates are just like the mortgage market. The rates are locked in for a period of time.

Mark Zandi:                     Yeah.

Cris deRitis:                      When the businesses actually need to refinance, it's more capital. Later this year or next year, that could be when you see-

Mark Zandi:                     Real problem happens.

Cris deRitis:                      Yeah.

Mark Zandi:                     Like when that multi-family property owner, his mortgage comes due or her mortgage comes due and she goes to the banker and says, "Hey, I need to refinance this mortgage, roll this mortgage over." And the banker says, "Oh yeah, I'll be happy to do that. But the interest rate is 400 basis points higher. The LTV is much lower." That's what you're saying.

Cris deRitis:                      That's right. That's when the impact could be seen.

Mark Zandi:                     Okay, all right. Okay. So I gave you my biggest forecast regret that I completely ... And when I say missed the banking crisis, I remember giving a speech at a Moody's conference. I think maybe it was two days before SPV failed. I will say we had this risk matrix which encapsulates all the risks we think that exist to the economy there.

                                           It was there. It was in the risk matrix. It's just that I didn't even call it out. I felt so dumb not doing that. But I missed that one. So, okay, that's me. I did my forecast mea culpa. What about you? What's your biggest-

Cris deRitis:                      Oh, I thought I gave it. The did existing home sales and the home price-

Mark Zandi:                     That's your worst?

Cris deRitis:                      Home price resilience for the first half of this year. And we're just talking this year, right?

Mark Zandi:                     I think you've got many more than that, my friend. No?

Cris deRitis:                      What are you talking about?

Mark Zandi:                     Really? Okay, all right. That's it. That's what you're going to give me, the house price one. All right, okay. Fair enough.

Cris deRitis:                      Yeah.

Mark Zandi:                     All right, let me ask you the flip of that. What are you most proud of? What forecast are you most proud of?

Cris deRitis:                      Oh, also house price forecast before that. The fact that the house prices were coming in. Last year, there was a lot of pushback that no way the prices could come down from 20% year-over-year growth to anything close to zero.

Mark Zandi:                     Oh really?

Cris deRitis:                      That's when I'd be more proud of.

Mark Zandi:                     Hold on. I don't understand. So you're saying forecasters out there weren't forecasting house price declines at all?

Cris deRitis:                      No. They're very modest.

Mark Zandi:                     Oh, is that right? Very few people were forecasting house price declines?

Cris deRitis:                      Last year, we were getting quite a bit of heat that we were actually calling for prices.

Mark Zandi:                     But it seems that that was so obvious that was going to happen, but no. Okay, all right. Interesting.

Cris deRitis:                      Yeah.

Mark Zandi:                     Because why? Because prices ...

Cris deRitis:                      I think in part because of the momentum, prices had been going up for ... Around 2020, '21, '22, how could they go from 20% year-over-year growth to [inaudible 00:39:51]?

Mark Zandi:                     Oh, I see. Oh, I missed all that. So, people were banging on your door saying, "What are you doing?"

Cris deRitis:                      Yeah.

Mark Zandi:                     I didn't realize.

Cris deRitis:                      Too pessimistic.

Mark Zandi:                     Oh, okay, all right. Okay, very good. Okay. So let me ask you this. This is now we're kind of forward looking here a little. We've been kind of retrospective now, a little bit more forward looking. Of all the things that people are hand-wringing about and I've been out talking to clients. As I said, I just got back from a long West Coast trip listening to folks. And I know you talk to clients all the time.

                                           What are they most concerned about that it's just misplaced? They're overly worried about what's going on. They're throwing out risks.

Cris deRitis:                      It's a long list. Probably at the top, I would put CRE, commercial real estate.

Mark Zandi:                     You say they're overly concerned about commercial real estate as a threat to the economy.

Cris deRitis:                      Exactly. I think it's changing. I think people are coming around to terms that, yeah, there are issues with the commercial real estate market but it's going to play out over time, still relatively small market, unlikely to hit the economy more broadly. But certainly for a while there, there were a lot of concerns that this was it. This is going to be the straw that breaks the economies back.

                                           So, I think those fears would have been a little bit too much-

Mark Zandi:                     Too overdone.

Cris deRitis:                      Not overdone. Not that we shouldn't be worried but certainly, there's an impact. But from a macro-

Mark Zandi:                     So, flesh that out. So why shouldn't people be worried about CRE, commercial real estate?

Cris deRitis:                      Well, in terms of the impact on the banking sector, I think that's where people think the risks are really heightened. It's just kind of an extension of the banking risks that we talked about earlier. Banks do have exposure to commercial real estate loans.

                                           If the values of those loans go down, then there could be problems in terms of the solvency of their balance sheets. Banks certainly do have some exposure but it's not as large perhaps as a number of analysts suggest.

                                           The underwriting on CRE loans by banks has actually been fairly conservative after the great recession. So, it could be a loan-to-value ratio of 50%. So, there's quite a bit of buffer I would say in terms of the depreciation in those CRE assets that can go on without actually causing massive losses for a bank. So, that would be the first thing I would point to.

                                           And then secondly, I do see this as playing out over time. So far, I haven't seen the trigger that would cause all CRE prices to collapse suddenly. Unlike what happened with the residential mortgage market during the Great Recession, the leases are staggered out over time. The mortgages also come due at different points in time. So, I think it will be a rolling issue, if you will, but not that critical Minsky moment kind of a sudden crash that goes on. So, a long slow bleed rather than a direct impact on the economy.

Mark Zandi:                     Yeah, I agree with you. Just to put a finer point on it, to give a couple numbers. I mean, the total amount of CRE, commercial real estate mortgage debt that's coming due this year, 2024 and 2025 is about $1.2 trillion. Of that dollars, outstanding is coming due. Of that, $400 billion is owed to the banking system. The rest of it is REITs and commercial mortgage-backed securities, sovereign wealth funds, all kinds of insurance companies, a bunch of stuff, is widely dispersed around institutions in the global financial system.

                                           And of that, $100 billion is mortgage's backing office properties. And that's really where the problem is. And it's really very specific. It's office properties sitting in downtown areas of big urban centers. Where we live, Philly, I think occupancy here is, I don't know what, 60, 70% probably and not rising. People aren't going back in.

Cris deRitis:                      Of that?

Mark Zandi:                     Of that, yeah. You can look at the Castle data. I can't quite remember. Boston, New York, DC Chicago, Seattle, Bay Area is the poster child for all of the mess. Southern California where I was, there were some high-profile defaults very recently. That's where the problem is. So, $100 billion, people say, "$100, that sounds like a lot." No. I mean, if you look, I think the total, I'm making this number up, but the total asset sitting in the banking system, I think it's $20 trillion, something like that. I mean, some outrageous. $100 billion is nothing.

                                           So, now having said that, let me try this out on you, the risk scenario because you just kind of laid out the base case optimism and you got to think about what could go wrong. Going back to the distribution, looking at institutions, I think the typical bank has maybe 10% to 15% of their assets in CRE, total assets. Loans, securities, the whole shooting match.

                                           But there are a fair number of small banks that have a much higher share, 25%. 35%. And as you share of their capital base, their equity, their tier one capital, it could be close to 100%, it could be over 100%, like that. So you have one or two properties that go belly up, default on the mortgage and it's owed to a smaller institution. Those institutions could get into trouble.

                                           Now, you're saying, "Okay, why should I be worried about that? They're too small. They're not too big to fail. They're not systemically important." But I would point out, given our experience back in March, I'm not sure what systemically important means anymore. Because if people are nervous and start pulling their money out, even if a smaller bank fails, then everyone's too big to fail. So, you could get into-

Cris deRitis:                      Yeah.

Mark Zandi:                     And right now, people are on edge obviously, depositors are on edge. I think I told the story about my 93-year-old mother-in-law who's got some cash sitting in the bank and well below the deposit insurance limit asking me whether she should take her money out. And I'm saying, "No, don't worry." And then she's asking me what do I do for a living just to make sure I'm credible, that kind of thing.

                                           She's nervous and now she's watching CNN. Then every news outlet was saying the same thing that people are very nervous and you could get a deposit run. Does that sound like the most likely risk scenario? The things go off the rails. That's why it would go off the rails.

Cris deRitis:                      Yeah. Not that J.P. Morgan or a large institution gets into trouble. But yeah, even a small one, because we are in kind of a fragile psychological state here that it may not take much to cause more bank runs.

Mark Zandi:                     Right. And just one other reason why I'm not that nervous about it is the big banks have had to stress their portfolios or commercial real estate portfolios under the stress testing scenarios, the so-called CCAR stress scenario. And I think, correct me if I'm wrong, Chris, because I know this data really well. The peak-to-trough decline assumed in last year's stress test was 40% on CRE.

Cris deRitis:                      That's right.

Mark Zandi:                     40% peak-to-trough. So that would mean it had to be almost Armageddon for prices because office prices would probably have to go down by 75%, 80%, something like that.

Cris deRitis:                      That's right. Yeah, because the 40% was across the entire-

Mark Zandi:                     Entire CRE portfolio.

Cris deRitis:                      ... multifamily, industrial properties that actually are retail, hotels, whole shooting match. Yeah.

Mark Zandi:                     Okay. Yeah, that feels like that. And you're right, also I think talking to people, they're getting less exorcised by that risk because as they work through the numbers like we just did, they're nervous but they're less nervous than they were.

Cris deRitis:                      Yeah. So, what are you hearing? What are you ...

Mark Zandi:                     Well, to answer that question, what out there is bothering people that might be overdone, I think it's student loans, the student loan debt moratorium. Because I've been getting this question a lot too. Payment moratorium that was put in place during the pandemic, that ends here. And I think the first payment due of student loan borrowers is October.

                                           If you do the calculation by our calculation using Department of Education data, 22 million student loan borrowers will have to start paying. Their average monthly payment is say $275, $300 a month. You do the arithmetic. That means if all those student loan borrowers started to pay and didn't have other financial resources then and had to cut back on other spending or stop paying on other debt to make that debt payment from their student loan, it's $70, maybe $75 billion per annum.

                                           So, that $75 billion is a quarter percentage point of GDP. That kind of gives you a sense of magnitude. So, if they all stopped in October, November and December the fourth quarter, so you take a quarter percentage point annualized. On a quarterly basis, that's 1% of GDP. Given all the things that we know that are going on, maybe you get a negative GDP number in Q4. But that's a vast overstatement of what's going to happen because a lot of student loan borrowers have other financial resources.

                                           And here's the other thing, I'm not sure how many of those 22 million borrowers are actually going to stop start paying on their debt. Because as we learned, President Biden through executive order told servicers that they cannot report delinquent student loan borrowers to the bureaus. So, there's no penalty to the borrower for not paying, at least for a year. I think this was in place for a year.

                                           So, I'd be surprised if 22 million borrowers started paying on their debt. I mean, it could be half that. It could be a quarter of that. It could be shadow of what they're expecting. So, it's not great. The timing isn't great. The economy is soft and getting softer and probably will be at its softest point late this year going into next. But I don't think certainly not by itself that it's that big a deal. What do you think?

Cris deRitis:                      Yeah, I'd agree. That's what I've been saying as well. That certainly doesn't help. And given some of the other pressures we've talked about, if indeed savings are running out. It doesn't certainly point a positive picture. But on its own, it's not enough to really be the root cause of the next recession.

Mark Zandi:                     Right. Okay. I want to also ask and maybe before we answer the question, maybe we should play a little bit of a statistical game which is going to feel a little weird because it's just the two of us. I don't know how that's going to go, but we might give it a shot.

                                           But I do want to ask, what is the thing that people are missing? The kind of standard you always get what-keeps-you-up-at-night question. But before I come back to that, do you have a statistic? I got one.

Cris deRitis:                      I have one.

Mark Zandi:                     You have one?

Cris deRitis:                      I have one. We kind of alluded to it earlier but maybe that makes it easier.

Mark Zandi:                     Not really because we've covered a lot of ground already. I don't know how helpful that is. But okay, fire away.

Cris deRitis:                      All right. 117-

Mark Zandi:                     And I should say. Wait a second. To the listener, I'm taking it for granted, but they know what the game is. The game is we put forward a statistic, the rest of us meaning me in this case trying to figure out and not look stupid what that statistic is through cues and deductive reasoning and clues. And the best statistic is one that's not so easy I'm going to get it immediately and not so hard I never get it. But so fire away.

Cris deRitis:                      117.6.

Mark Zandi:                     117.6. Is it a economic statistic that came out this week?

Cris deRitis:                      It did. It came out on Monday. It is an index just to give you the units.

Mark Zandi:                     Well, I was going to say that. You established a little credibility. It's not the conference board survey, the leading indicator, coincident indicator.

Cris deRitis:                      No, I didn't think so.

Mark Zandi:                     By the way, on that one, that's getting to be pretty weird because the leading indicators as measured by the conference board have been declining for well over a year now. But where's that recession, my friend.

Cris deRitis:                      Recession is coming.

Mark Zandi:                     Okay. Okay. Here's what I want to know and I haven't been able had the chance to do it, but can you go back and look historically, has there ever been a case where the leading indicators has fallen for so much for so long in a recession not occurred?

Cris deRitis:                      No. No, it's got a perfect track record, at least so far.

Mark Zandi:                     And this started falling I think a well over a year ago.

Cris deRitis:                      Yes.

Mark Zandi:                     Has that ever happened where the recession has followed that?

Cris deRitis:                      No. With that much of a lag? I don't believe so. But I'll double check. There might be some cases where ... I've been looking at the magnitude. We've never had a case where the leading economic indicators have fallen so much and not had a recession within a six, 12-month period.

Mark Zandi:                     And just so folks know, the conference board puts these so-called leading indicator, coincident indicator, lagging indicator. It's a compilation of different economic financial statistics that historically have tended to lead be coincident with or lag the business cycle, lag recessions.

                                           And as you can imagine, the leading indicator is heavily dependent on the shape of the yield curve, the treasury yield curve. And that's been inverted which historically has been a very good prescient predictor of recession. So that's driving a lot of the train.

                                           Also, I think it also includes University of Michigan consumer sentiment index which is a little saying something very different than some of the other confidence measures including the conference which is a weird thing.

Cris deRitis:                      Wait, don't they use the conference board sentiment?

Mark Zandi:                     Oh, I was just going to say, oh, do they use the con-

Cris deRitis:                      I think probably.

Mark Zandi:                     They should ... Do they?

Cris deRitis:                      It'd be odd if they ...

Mark Zandi:                     I don't think they do though now that I say it. I just said it and I'm not sure. But that would be odd, wouldn't it? But no, they would pick the one that is the most prescient, wouldn't they? Historically? I don't know. We should find that out.

Cris deRitis:                      Well, we should double check.

Mark Zandi:                     That's something ... Wait.

Cris deRitis:                      That would be weird. That would be weird.

Mark Zandi:                     Oh, that would be really weird. We should check it out. The other thing though that maybe a reason why the leading indicators are a little off this time compared to previous, they're very heavy on interest rates sensitive sector activity. Housing, manufacturing activity. And those two sectors have held up a lot better for lots of different reasons.

                                           And so, they may not be as good a leading ... Leading indicators may not be that as good a leading indicator because of the idiosyncratic kind of environment that we're in.

                                           Okay. But going back to your statistic ...

Cris deRitis:                      I like how you find yourself some time.

Mark Zandi:                     I'm delaying. Is it a housing-related statistic?

Cris deRitis:                      It's not.

Mark Zandi:                     It's not.

Cris deRitis:                      It's from the Fed, if that helps. Federal Reserve.

Mark Zandi:                     Oh, industrial production?

Cris deRitis:                      Nope.

Mark Zandi:                     Because that's an index. Did it come from the Board of Governors?

Cris deRitis:                      Yes, indeed.

Mark Zandi:                     Is it a monthly statistic?

Cris deRitis:                      It comes out weekly. No, even daily. Sorry, daily.

Mark Zandi:                     Oh, daily statistic from the Federal Reserve Board. Is it financial-related?

Cris deRitis:                      Yes. H10.

Mark Zandi:                     H10.

Cris deRitis:                      Does that help?

Mark Zandi:                     No. You know what? I don't know H10. Is it financial conditions index or something or?

Cris deRitis:                      No.

Mark Zandi:                     No. Damn, I should know this.

Cris deRitis:                      H10 is the foreign exchange rate table.

Mark Zandi:                     Oh, it's a broad trade-weighted dollar.

Cris deRitis:                      Yes, yes.

Mark Zandi:                     Nominal?

Cris deRitis:                      Yes.

Mark Zandi:                     Nominal broad trade-weighted dollar. Oh gosh. There's got to be a lesson in you picking that statistic. You just picked out that to stump me. What the heck?

Cris deRitis:                      We kind of referred to it with the American tourists-

Mark Zandi:                     Yeah, we did. We did.

Cris deRitis:                      ... strengthened so the dollar is weakening. Yeah. It was really strong a year or so ago. It is weakening now, so something to watch. But it's still relative to where we were prior to the pandemic, still relatively strong. So, as we think about inflation and implications of a strong dollar, certainly a weaker dollar could put some upper pressure on the inflation.

Mark Zandi:                     But again, weaker. I mean-

Cris deRitis:                      It's all relative.

Mark Zandi:                     I get it. I mean it's well above its long-run average, right?

Cris deRitis:                      Yes, it is.

Mark Zandi:                     But it's still strong.

Cris deRitis:                      It's fallen pretty swiftly now.

Mark Zandi:                     Really? Okay. I'm not so sure. When you say swiftly, against what exactly?

Cris deRitis:                      Against itself, all right.

Mark Zandi:                     Against what other ... Let's say broad trade-weighted so it's got all these other basket of other currencies. What is the dollar we can invest?

Cris deRitis:                      Well, we mentioned the euro appreciating.

Mark Zandi:                     Yeah, a little bit. Okay. Yeah.

Cris deRitis:                      Well, again I'm not saying that it's collapsing.

Mark Zandi:                     All right. You're stretching, buddy.

Cris deRitis:                      It's not collapsing but it's weaker.

Mark Zandi:                     Okay.

Cris deRitis:                      It continues to weaken.

Mark Zandi:                     All right, fair enough. All right, that's the fodder for a future discussion debate.

Cris deRitis:                      Okay. Fair enough.

Mark Zandi:                     Yeah. I'm not so sure. Okay. I got a statistic. I don't know how fair this is.

Cris deRitis:                      It's probably more fair than what-

Mark Zandi:                     But it's more fair than the one you just gave me. I'm going to give you a hint. It goes to a surprise, a positive surprise about the economy. Well, I'll stop there. I can give more but give I'll give you the statistic. $194.3 billion, $194.3 billion.

                                           It is an economic statistic that is produced by the, well, I'm not going to tell you, but by the government. I don't think it came out this past week. I think it came out the week before. So, I apologize for that.

Cris deRitis:                      Oh, that's going to be tough.

Mark Zandi:                     But it's a really good one. And it's apropos to the conversation at hand because it is a surprise, a very meaningful surprise. Gosh, at least to me. And a reason for why the economy is held up better than expected. I'll give you one more hint. It's ... No, maybe I shouldn't give you that one. It's produced by the Bureau of Census. That should help a lot.

Cris deRitis:                      Oh, okay.

Mark Zandi:                     Yeah. It's monthly.

Cris deRitis:                      $194 billion.

Mark Zandi:                     $194.3 billion. This is as of May, the May data. And we were talking about it in the context of leading indicators and how the interest rate sensitive sectors are holding up better than has been the case historically. And this is one reason why that's the case.

Cris deRitis:                      The housing construction?

Mark Zandi:                     Oh, okay. You got half right. You got the construction right. Yeah.

Cris deRitis:                      But not just housing but-

Mark Zandi:                     No, well, $194 billion is too small for all of construction, right?

Cris deRitis:                      Yeah, that's true.

Mark Zandi:                     This is annualized. It's annualized data. I think annualized construction put in place is well over a trillion.

Cris deRitis:                      Yeah. Which sector?

Mark Zandi:                     Which sector? Oh, you should know this one. Now, you should know it. Yeah. What's booming in the construction sector?

Cris deRitis:                      Oh, industrial.

Mark Zandi:                     Yeah, industrial, manufacturing. Manufacturing construction put in place $194.3 billion. Can you believe it? Two years ago, you go back to May of 2021, it was like $75 billion.

Cris deRitis:                      Yeah.

Mark Zandi:                     That's $75 billion to almost $200 billion. And it's going straight up. It's almost vertical. It's almost vertical. It was so cool, right? Pretty amazing.

Cris deRitis:                      Yeah.

Mark Zandi:                     And that goes to a lot of government support. The CHIPS Act in particular, that's the piece of legislation that was passed a little over a year. I think it was a little over a year ago. That provides tax incentives for global chip producers to manufacture here in the United States.

                                           And it's pulling in a lot of construction, a lot of new manufacturing construction activity. Actual fab plants are being constructed. In fact, I just saw TMCS, that's the large Taiwanese chip manufacturers building a plant in Arizona. They were talking about this when I was in Southern California. They are going to be delayed in starting that plant, going back to some of the issues we were talking about earlier, because they can't find skilled labor.

Cris deRitis:                      Yeah.

Mark Zandi:                     Yeah. This is so funny. So, this comes out of one of the conversations I was having with one of the banking clients this past week because they're following it very carefully. And he was saying, because TSMC said they're probably going to have to bring in some Taiwanese labor engineers here to help to finish this thing. Yeah. He goes, "I don't know how that's going to work at all. They're never going to get any of those Taiwanese workers come because the closest Chinese restaurant to the fab plant is seven miles away." That's what he said.

                                           I go, "That's pretty precise. That's pretty precise." Then he said, "Well, yeah. And the closest decent Chinese restaurant is 20 miles away." And by the way, there's no direct flights from I think he said Phoenix to Taipei which surprised me a little bit. But he knew this. I thought that was pretty ... He took this very seriously.

                                           So, what do you think? That was a pretty good statistic. That's a pretty interesting statistic.

Cris deRitis:                      Yeah, that was a good one. And you were very generous with your hints.

Mark Zandi:                     And I was generous with my hints. Yeah, generously. Okay. Let's go back. Have you noticed we've been speaking with each other on this podcast for about an hour?

Cris deRitis:                      It's just supposed to be-

Mark Zandi:                     I'm not even sure we need Marisa anymore saying, "Oh, really?" Okay. That was rude. Oh, come on. Okay. We can only do this so often. We need Marisa. Bring her back, please. Where is she by the way?

Cris deRitis:                      Hawaii.

Mark Zandi:                     Oh, good for her.

Cris deRitis:                      She's doing detailed economic research into the Hawaiian economy.

Mark Zandi:                     Okay. Good for her.

Cris deRitis:                      I expect a full report when she's back.

Mark Zandi:                     Yeah. Well, Hawaii is an interesting economy. That's a topic for another day though.

Cris deRitis:                      Yeah.

Mark Zandi:                     Okay. Let's end this conversation this way because it's always part of the conversations we have. What is it that people are missing on the downside? What could go wrong here? What should people start being focused on that they're not focused on? What do you think? You must get that question all the time.

Cris deRitis:                      Yeah, for sure. Well, I'm going to go back to my upside surprise which you don't think is an upside surprise but that was the consumer. And I would say the consumer credit is another area.

Mark Zandi:                     Oh, blah, blah, blah, blah.

Cris deRitis:                      Focused on the downside.

Mark Zandi:                     Really?

Cris deRitis:                      Yeah.

Mark Zandi:                     What's bugging you there? I just assuage your concerns around student loans. So, what's the deal? What's bothering you?

Cris deRitis:                      Well, I'm not concerned about student loans. I just don't think it's the trigger.

Mark Zandi:                     I'm not concerned. Okay. Okay. I hate this.

Cris deRitis:                      Because I don't think it's the concern or I don't think it's the trigger for recession. But I think it adds to pressure on consumer balance sheets. As labor market does slow, wages are going to come in. Fed is going to guarantee that. And certainly, that's going to start to put more pressure on consumers.

                                           I think the excess savings we've been talking about have been a real boon, but those are running lower and lower every month. So, I think it's going to get tighter here and we're going to be walking the tight rope. And I worry about the consumer credit delinquency default rates starting to really ramp up here. And that could have a real chilling effect from not only a banking standpoint but even a psychological standpoint if you start to see a lot of defaults, delinquencies. It might lead to consumers thinking twice about taking on additional credit or continuing that spending at the levels that we talked about.

Mark Zandi:                     So, when you say consumer credit, precisely what do you mean? You mean bank cards?

Cris deRitis:                      I mean anything outside of mortgage really. So, auto loans-

Mark Zandi:                     So, you're referring to student loans, auto loans, bank cards.

Cris deRitis:                      Student loans, auto loans, bank card, personal loans.

Mark Zandi:                     Unsecured personal loans, so-called consumer finance. And so you're saying clearly delinquencies are rising here pretty quickly.

Cris deRitis:                      That's right.

Mark Zandi:                     The defaults. Part of that is the stress that lower income households are financial stress that they're under in part because of the inflation. They've blown through their excess saving. Also goes to we've talked about this in previous podcast, score inflation back in the particularly-

Cris deRitis:                      '21, '22.

Mark Zandi:                     Right. That's the bad so-called vintage of loans. That's where the delinquencies are really popping. You're saying that this could get meaningfully worse. Even if we don't go into recession, could get meaningfully worse. But obviously, we go into recession.

Cris deRitis:                      Yeah. I see it getting worse, certainly. It's not going to get better until we move through these particular vintages. That's going to take another year or two. So, expect the delinquencies to get worse, but the risk is that they really take off. If there is some other weakness of it, if the job market slows considerably and if you do start to see unemployment ticking up a bit further, that's going to put additional pressure on these markets and cause those delinquency and default rates to rise. And that's going to cause the banks to start to pull back even more, I suspect.

Mark Zandi:                     Okay. Okay. Fair enough. I mean, the dollar amounts are I guess they're consequential, about a trillion in bank card out debt outstanding. I think consumer finance is what? $250, $300 billion probably.

Cris deRitis:                      Yeah, not that large. Auto is significant.

Mark Zandi:                     That's $1.5 trillion. And student loans are another $1.5, $1.6. So you add that all up, that's real money is what you're saying.

Cris deRitis:                      Yeah. And again, it's really what the impact on the margin in terms of the diminished spending in an economy that might already be facing some headwinds.

Mark Zandi:                     Boy, if that's the worst you can come up with, I'm feeling pretty good. I mean, I agree. I mean, it's definitely a soft spot and going to be some issue. But it already feels like the lenders have tightened up, loan growth is slowing, still growing quickly but starting to slow.

                                           You pointed that out in the last podcast.

Cris deRitis:                      Yeah, that it's slow.

Mark Zandi:                     You were pointing that out. And it feels like delinquency is starting to top out. No, you don't think so?

Cris deRitis:                      I don't know about that.

Mark Zandi:                     Okay, interesting. Okay. Because now, it is back to pre-pandemic. Maybe even a little higher than pre-pandemic.

Cris deRitis:                      In some of the markets, yeah.

Mark Zandi:                     In some of the markets, yeah. Okay. Fair enough. Okay. I got two. One's near term, one's a little bit longer term. Actually, I can give you three, one that's short term, intermediate term, long term. Actually, I can give you four. No, I couldn't give you four. But I don't want to depress people.

                                           Near term, government shutdown. I mean, I think there's a growing possibility that lawmakers can't come to terms before the end of the fiscal year which is the end of September, pass a piece of legislation that funds the government so we could shut down.

                                           And my sense is that we could stay shut down for the entire fourth quarter because the real pressure point politically is that if they don't come to terms on January 1, there will be what's called sequestration, a 1% cut across all discretionary spending, both defense and non-defense. And I don't think anybody wants that, both Republican and Democrat. So they'll come to terms.

                                           But the Republican house could want to send a message here because they're pretty strident and say, "We're going to shut down for a full quarter." If it's a full quarter, Q4, that adds up. Particularly with the student loan thing I just mentioned which adds up. So, Q4 feels a little iffy to me at this point. That could send us into negative GDP territory so I worry about that.

Cris deRitis:                      Yeah. I was thinking a few weeks, we brush it off as usual but if it's a quarter-

Mark Zandi:                     Yeah, I think it could be that long. It could be that long. Here's the intermediate-term concern and it goes back to the financial system, not the banking system because I think the banking system is on much sounder ground because of the policy response, the crisis that occurred in March. The bank term funding program, the Feds established to allow banks to borrow against their security holdings at par, the willingness of regulators, Treasury to ensure all depositors come push to shove, those kinds of things.

                                           They're resolving troubled institutions very rapidly. They're not letting them fester which is I think a good thing. And from the perspective of safety and soundness and making sure the system doesn't fall apart, it's the non-bank part of the system, the shadow system. Particularly the part I know best and I'm worried about all of it in part because I don't understand it and it's not transparent, it's very opaque. You don't have really good data on big chunks of the private credit market. For example, leverage loan market.

                                           But I'll point to the non-bank mortgage industry. Yeah, that makes me a little nervous because they're under a lot of pressure because there's no, as we talked interest rate lock, no home sales therefore no mortgage origination. And that's their business. That's how they make their money. And if there's no origination, they're going to start to see some failure there.

                                           And the institutions, they're mostly intermediaries but they do have some risk and they do have some capital but it's very thin capital. But here's the real kind of vulnerability. They're funding. They're non-bank. They don't have deposits so they rely on warehouse credit lines from the big banks and capital markets for their funding. And you could easily see that under some scenarios drying up. And if they can't get funding and can't make loans, then they go out of business very rapidly.

                                           And they're small in the grand scheme of things so they're not systemically important. But again, if you get a rash of failure and then creditors and the other bigger non-bank mortgage companies start to say, "Hey, I don't really know what's going on here. It's not as transparent as I thought." And they just kind of run for the hills and stop providing funding or equity, then the system kind of stops, it shuts down.

                                           And these guys are big chunk of the mortgage market now I think. They're like 75% of the mortgage market in terms of origination volume. If they stop lending, then the housing market shuts down then those house price declines we were talking about.

Cris deRitis:                      Yeah.

Mark Zandi:                     They're going to get some pretty big price declines. And then of course, your money can go in lots of different directions pretty fast. And I guess adding to that is how does the government respond to that? What's the response? I mean, maybe the Fed could establish a facility but that's pretty tough to do. Maybe FHFA which is the regulator for Fannie and Freddie tells the Fannie and Freddie to establish a source of funding for the non-bank mortgage launch. I don't know.

Cris deRitis:                      Yeah, it's uncharted territory there, right?

Mark Zandi:                     Yeah. Okay. So you agree. You agree.

Cris deRitis:                      Yeah. You would think that that the federal home loan bank system would be.

Mark Zandi:                     They can.

Cris deRitis:                      But these guys are not ... That's the irony is the origin mortgage originators today are not part of that system, right?

Mark Zandi:                     Yeah, because they can't. I mean, the way the system works, the federal loan bank system, they take securities as collateral.

Cris deRitis:                      Exactly.

Mark Zandi:                     These guys don't have the collateral. They post the collateral to get their lines of credit. So, there's no way of ... So, the federal home loan banks isn't a source of liquidity either. So, you would agree. So is that more of a concern to you than the consumer credit?

Cris deRitis:                      Oh, I guess-

Mark Zandi:                     If you had to rank order.

Cris deRitis:                      I guess I'm still more concerned about the consumer.

Mark Zandi:                     You are? Okay.

Cris deRitis:                      Yeah. Just in the sense that there are [inaudible 01:14:48]-

Mark Zandi:                     Because we know that's a problem. We know delinquencies are arising. The other, we don't know. It's more speculative as well.

Cris deRitis:                      It's more spec. And you're right, there's concentration in terms of originations but there are a number of them, the number of these originators out there. So, if one goes down, there are others that could step up to fill the volume.

                                           But I take your point regarding the nature of a run. If suddenly a large mortgage originator gets into trouble, suddenly all the other ones become tainted. The banks don't want to lend necessarily to any of them until they figure it out. The system could really seize up for a while.

Mark Zandi:                     Yeah. Okay. You want one more and then we'll call it a podcast?

Cris deRitis:                      Go for it. Go for it.

Mark Zandi:                     AI.

Cris deRitis:                      Oh, that was the one I was going to mention if we were going to go long term.

Mark Zandi:                     Well, because I get that now all the time.

Cris deRitis:                      Every single meeting, right?

Mark Zandi:                     Yeah.

Cris deRitis:                      What about AI?

Mark Zandi:                     Okay. So, actually on this trip I had out West, I had Dante with me. Listeners know Dante. Dante is a great economist who comes on every job's Friday. And I had him come because I wanted him to kind of shadow me and just see how this is done because he's going to be doing this out meeting clients a lot more than he has historically.

                                           He talks to the clients all the time but he hasn't done a lot of traveling. So, the last dinner we had which was in Southern California, someone of course asked about AI and I asked him to answer the question. He did a great job. So, I'm going to turn that back to you. How would you answer the question around AI? How big of a concern is that? I mean, obviously the concern is it's dystopic to the labor market. But I'll turn it back to you. How would you answer that question?

Cris deRitis:                      Yeah, dystopia is certainly one version of the picture you can paint here. To answer the question directly, in terms of the short-term implications, I see them as very limited. Any technology is going to take some time to be fully integrated into the economy.

                                           You have to train people up on AI. Maybe the learning curve for using AI technologies for certain knowledge workers is shorter than computers in the past. But still, it's not going to be instantaneous. So, there's some training that needs to be conducted. People need to figure out how to use this new technology effectively in their job.

                                           So, I don't see this as a 2023, 2024, even 2025 type of risk. This is longer term. It's certainly going to have some structural or has the potential for some structural changes in the economy. So, I think that, we could take off the table in terms of the immediate effect. There's a lot of buzz around AI right now, but just go back to the internet. There was a lot of buzz around the internet too initially, but it took years, decades to actually bring that up to speed. So, I would remove the short-term risk.

                                           Longer term, the risks really depend on how this AI project works itself out. I remain quite optimistic though that AI is coming at the time when we actually need it given all the lack of labor that we have. The issue with the labor market today and into the future is going to be a real lack of workers to fill all the positions that are available. And so, we need these productivity enhancements to continue to grow the economy, continue to grow productivity and ultimately continue to grow wages So I see this as a real benefit to the economy overall.

                                           Will there be disruptions? Certainly. But there always are disruptions in the economy with any new technology. So, I don't see those as being any worse though with AI than with other technologies. Meaning over time, we will adjust. This isn't going to be an immediate shock where we lay off all the programmers in the country and we just go to AI. It's going to be something that gets integrated with industry over time, makes people more productive.

                                           And I think you'll barely notice at the end of the day the real implications in terms of layoffs on the economy more broadly because it's going to play out over a number of years.

Mark Zandi:                     Yeah. I thought-

Cris deRitis:                      How'd I do?

Mark Zandi:                     Yeah, well said. Yeah, no, I agree. I mean, I preface the response to the question by saying I forecast lots of things. Some things I'm confident in, some not so much. This one, I'm not so much because this is a tough one like all technologies.

                                           But if history is a guide and we always use history as a guide, everyone does when they forecast, they go, "Okay, what happened in the past? I'm going to use that as a basis for predicting the future." And you go back and you look at technologies, big technologies like the internet or electrification, it takes time for those technologies to diffuse out into the economy and to have big impact.

                                           And actually, it doesn't really have a big impact until new businesses form and optimize around that new technology. That existing businesses that tie to gerrymander the technology into their existing business practices, that's problematic. And in fact, to your point, could be actually counterproductive at least for a time because they're going, "Oh, what do I do with this thing? How do I organize myself? How do I take advantage of it? I'm spending all these resources on it."

                                           And by the way, the initial impact could be positive, not negative because companies have to invest in the underlying physical hardware and software and people to be able to actually do it, actually implement it to bring it on. And so, it's not this labor-saving thing, it actually maybe creating demand for labor in the near term, not hurting it.

Cris deRitis:                      Yeah, good point.

Mark Zandi:                     Yeah. So, I agree with you. I think it's going to take some time to diffuse out into the economy. But having said that, like the internet, the internet probably added, in the 2000s when it really kicked into high gear, probably added half a point, maybe a point to productivity growth. Productivity growth in that period was 3% per annum. So, I think that was the internet.

                                           Electrification, if you go back into the '20s, same deal. Added could have been a half a point to a point. So if you told me over the next 10, 15 years you get a period of five, 10 years of 3% productivity growth, I don't know that. I won't argue with you. That's a real possibility. But I don't think that's dystopic, dystopic in the sense that you throw so many folks out of the work so fast that they can't find other jobs.

                                           And here's the other thing, these technologies, they create wealth, right? And by creating wealth, they create more demand for stuff we can't even anticipate. Think about all the things that we're consuming now that weren't even in our mind's eye back before the internet was in full swing. Mobile phones, right? I mean, so forth and so on.

                                           So, I think we'll be able to digest it. But obviously it's a risk. It's a potential downside risk going forward. Certainly, I don't think it keeps me up at night but it's something I'm thinking about more deeply as we move forward here.

                                           Okay. We covered a lot of ground.

Cris deRitis:                      Are you using AI?

Mark Zandi:                     What's that?

Cris deRitis:                      Are you using AI at all?

Mark Zandi:                     Yeah, I have been using it. Kind of like a glorified Google. Take it with a grain of salt though. And it's not particularly useful for ... I thought, "Oh, I could use this for helping me understand what's happening now in different economies." You can't because I think it's limited at this point. ChatGPT is 2021. So, I go to ChatGPT, "How's the New York economy doing?" And it says, "Well, as an AI, I don't have access to the data past 2021. I can't really answer the question." Then I stupidly say, "Certainly hindsight stupid, quick hindsight stupid."

                                           "Well, how's the economy going to do in the future?" "You idiot. You moron. I just told you I can't go beyond 2021. Come on. Wake up over there, human." That kind of thing. So, I felt a little diminished after that. But yeah, are you using it?

Cris deRitis:                      It's great for coming up with titles.

Mark Zandi:                     I think Marisa uses it for the statistics game, to be frank. Yeah.

Cris deRitis:                      Also if she can't get the latest data in there.

Mark Zandi:                     Oh yeah, good point. "You idiot. You moron."

Cris deRitis:                      It's really good at summarizing things.

Mark Zandi:                     "You big dummy." Yeah, all right. Okay, very good. I was thinking about badgering you about your recession call, but I'm going to wait for the right moment for that.

Cris deRitis:                      I felt it. That's interesting, by the way.

Mark Zandi:                     It was coming. It was coming. I'm not going to do it because we're long in the tooth here and this is Saturday morning. I actually-

Cris deRitis:                      More script to be written, my friend.

Mark Zandi:                     More script to be written, yeah. Whose line is that, my friend? Yeah. Yeah. Anyway. All right, we're going to call this a podcast unless you got anything else you want to say.

Cris deRitis:                      No, I think the listeners have had enough.

Mark Zandi:                     They've had enough. All right, dear listener, you've had enough. It was very good chatting with you. And I think next week ... Next week, do we have a guest. I think we do. Yeah. And Marisa will be back. Put us back on the straight and narrow.

                                           Okay. With that, we're going to call it a podcast.

Cris deRitis:                      Take care, everyone.