First Trust ROI Podcast
On the ROI podcast, we discuss some of the most important questions facing investment professionals today, ranging from macroeconomic views, to perspectives on the equity and fixed income markets, to insights on practice management. We aim to cut through the noise, examine the data, and provide fresh insights to investment professionals as they help their clients find better ways to invest…seeking to generate attractive returns on their investments.
First Trust ROI Podcast
Ep 49 | Brian Wesbury | Unconventional Wisdom on Tariffs, Taxes, and the Fed | ROI Podcast
Brian Wesbury discusses why the conventional wisdom about tariffs and inflation is wrong, how the Fed can save taxpayers $2 trillion over the next decade, and the positives and negatives of the Big, Beautiful Bill.
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Hi, welcome to this episode of the First Trust ROI podcast. I'm Ryan Isakainen, ets strategist at First Trust. Today, I'm joined by Brian Westbury, chief economist at First Trust. Brian and I discuss his outlook for the US economy. We talk about the budget and whether the federal government is capable of cutting spending. We talk about the tax bill that's weaving its way through Congress. All that and more on this episode of the First Trust ROI Podcast. There's a lot of ways I want to take this conversation, but we've got limited time and I think a good place to start is. We talked about tariffs a little bit last time, right, yep, and you still hear the narrative that tariffs are going to cause inflation. We've just recently had some inflationary prints that were below the expectation.
Brian:Four of them so what's your take there?
Ryan:Let's revisit that for a second Explain. Does that surprise you? First of all, and why are we seeing the opposite of what people expected?
Brian:Yeah. So, before we jump into tariffs, the number one thing, number one way that I forecast inflation in fact, the only way, is to look at the money supply. And so, if we go back to 2008, that's when they started quantitative easing. Why didn't that QE turn into inflation? And it was because the Fed was buying all these bonds, printing money, flooding the banking system with deposits, but at the same time, they jacked up capital requirements and liquidity rules and wouldn't let the banks lend it out and, as a result, m2, which is the money supply number that I look at and the reason I do is because Milton Friedman told me to it grew about 6% a year. It was volatile, but about 6% a year in the five, six, seven years after COVID or after, excuse me, 2008 QE, and so that's why we never got inflation. It was the same money supply growth as before 2008. Then, along comes COVID. We do QE again.
Brian:Many people said, ah well, it didn't cause inflation the first time, it won't cause inflation this time. But this time we actually reduced the liquidity rules, and the reason we did is we wanted banks to make the PPP loans and also to take direct deposits for the pandemic unemployment benefits. So what happened is the money supply exploded Between 2020 and 2022, m2 went up 40%. It was literally one of the easiest forecasts I ever made in my career. Inflation is coming and all you had to do was look at M2. Well, since then? So M2 peaked in 2022. It went down it actually went negative and we could talk that gets a little like arcane, if you will but it went down and then it went up and today the M2 money supply is a half a percent above where it was three years ago.
Brian:So I would call that flat. I mean, the money supply hasn't been flat, but technically, from the peak to where we are today, it's flat and that's why I think we're seeing better than expected inflation numbers. Now, I would never use one month like one month of CPI at 0 or 0.1, or one month of PPI at negative, 0.2, and everybody's declaring victory or something like that. But no, but now we have four months in a row of better than expected inflation data on the CPI and the producer price index, consumer and producer and, as a result, what I would argue is yes, it's coming from that slowdown in the money supply and I expect inflation to continue to be better than people expect. We've had a big bounce in oil prices, so maybe we'll have a month where it jumps up, but the bottom line is inflation is in a much better place today because the money supply has slowed so much so the tie-in with the money supply.
Ryan:The way I understand it, and mainly because of the way that you've explained it, is that the reason why that's more important than, say, tariffs in terms of influencing inflation is because, let's say, as a result of tariffs, I pay $10,000 more to buy a car, right, I've got $10,000 less to go and spend on other goods and services.
Brian:Therefore, it's going to put a downward pressure on the price of those other goods and services where there's less demand, even though I'm paying a higher price for the car, is that pretty much Exactly right? So, yeah, and all I talked about was inflation. I forgot the tariff part of the question. Sorry about that. But yeah, tariffs will raise the price of the things that are tariffed.
Brian:But if we don't increase the amount of money in the economy overall, then what that means is if everybody buys the same amount of imported goods and pays higher prices for them, then they have less money to spend on other things and those prices, the demand for that stuff falls and those prices go down. So it doesn't mean that in a certain month the CPI or the PPI won't jump because we tariffed a whole bunch of things. We have to remember that the CPI and the PPI are just measures of prices. They're not actually inflation, they're just our estimate of inflation. And so, even though they might, you know, when oil, like we have a hurricane and they shut down all the Gulf drilling, you know, and they move everybody off the platforms, well, oil prices go up and then the CPI will go up that month, but then the next month it'll come back down. So I'm not saying we won't see a month or two of measured prices looking a little bit higher.
Brian:But overall, if the Fed doesn't accommodate it by printing more money, then that will all recover and inflation itself won't change. Inflation is, by definition, money printing. It's not tariffs, it's not wages, it's not hurricanes, it's not drought causing crop prices to go up. It's printing money. You print more money, you get inflation. That's what inflation is.
Ryan:Okay, there's another nuance there and something that you've talked about on our podcast before, involving government spending and a lot of people kind of equate well, the government's spending more, therefore it's going to cause inflation. But you have told me that that's not the case, Right?
Brian:Only if the Fed prints the money to pay for the government spending.
Ryan:Okay, so that is a good segue to my next topic for you, and that is government spending. Okay, so that is a good segue to my next topic for you, and that is government spending. Yep, you know there's, there's bills that are in process that you know pass the Senate going to the house and involving the reconciliation bill, the tax bill and the spending associated with that. Were you surprised, or are you surprised, to see the level of spending that's kind of embedded in that bill? And I guess the bigger question is is it possible for the government to slow down spending or to cut spending?
Brian:Yeah, I guess I'm not surprised I've become more cynical lately. And just, I don't mean to correct you in public, but it passed the House and it's now in the corrections, don't worry.
Brian:It passed the House and it's now in the Senate. So it's a reconciliation bill. And the craziest thing has gone on because in the reconciliation bill so Speaker Johnson, the Speaker of the House, said, look people. He actually used the word people, look people, people, look people. It's not a. This isn't a spending bill, it's a reconciliation bill. And what that means is they. They can only do things that like taxes or entitlement. They can't. They can't do the real budget in a reconciliation bill. So so in a way it's kind of true, but at the same time majority majority leader Thune in the Senate comes out and says this is the biggest spending cut in history and it's.
Brian:It's easy for people to like wait a minute, I thought it wasn't a spending bill, now you're telling me it and so what. But what they can make changes in is things like Medicaid. So what they've done is they've put a work requirement in. If you're on Medicaid because of your income level, then you have to have, you have to work. It's kind of like the work requirement that Bill Clinton put in for welfare and then President Obama took it out and we need to put that back in. It actually led to more employment and it's a good thing, because these programs aren't designed just to let you not work, but that will save some money relative to the baseline. This is the problem with doing all this. The Congressional Budget Office forecasts spending in the next 10 years, 20 years, and then they compare the new bill to what they forecast and then, even though spending's going up every year, they call it a spending cut if it's less than the baseline. And so they did make some Medicaid changes. They also rolled back some of the Green New Deal which was in the Inflation Reduction Act, but at the same time they increased spending on the military and on immigration. So they want to build a wall, they need to pay for all these deportations and more ICE officers to round people up, and so they've increased spending with one hand, reduced the growth of Medicaid in the future with another hand, and net, net, net. The budget will grow every single year. We're going to keep spending more every year for the next 10 years.
Brian:The level of spending relative to GDP comes down a little bit, and that's what I focus on. How much of our GDP is government spending? And we peaked at 25%, 26%, 27% during COVID and it automatically came back down to 23%, 24% and by the end of this 10-year period, this current bill the one big beautiful bill gets spending down to about 22% of GDP. Gets spending down to about 22% of GDP. To put that in perspective, when Bill Clinton left office, it was 18% of GDP. So the two crises the 08 crisis, the financial panic and then COVID have permanently boosted spending. It looks like, even with Republicans in control, about five or six percentage points of GDP, and that, to me, is that's what will create problems in the future.
Brian:Here's where the rubber meets the road. So this bill it only needs 51 votes, but then they will go to the budget and that's when you pass the 12 appropriations bills. There's 12 parts of government, if you will, and every committee has a different bill that they push through and then they put it all together and that's the budget. That's where they can affect discretionary spending. How much do we spend on defense? How much do we spend on food stamps? How much do we spend on defense? How much do we spend on food stamps? How much do we spend on health care and all of those? By the way, congress hasn't passed a real budget, like literally got the Excel spreadsheet out, put the numbers in, everybody voted on it and that's our budget in over 20 years and they call it regular order. So they don't follow regular order anymore. We don't pass budgets anymore, and that'll come in September of this year, and that's when we'll find out whether they're really interested in cutting spending. So is that back in the Bush administration?
Ryan:Oh yeah.
Brian:It goes all the way back to the 90s, the last time we had a true regular order thing. You know it has to. Goes all the way back to the 90s, the last time we had a true regular order thing. It has to pass all the committees. Then you put the 12 appropriation bills in front of the full House and Senate. Then they pass them, then they put it together and they have a budget. Every company, in every division of every company, comes up with a budget and then they aggregate them and they have to send them to the CFO of every company. In every division of every company, comes up with a budget and then they aggregate them and they have to send them to the CFO of every company. And they have to do that every year. And if they don't do it, you get fired.
Brian:Well, congress hasn't done it for over 20 years. In my view, they should all be fired, but they're not doing their job. And that to answer. The tail end of your question is do they have the will to actually cut spending? Apparently not, because they won't even pass a real budget. They pass continuing resolutions, they go. Basically what they're saying is ah, whatever they did last year, we'll do again this year. And then they add to that spending with emergencies, and so I become massively cynical. And that's, by the way, this goes to Musk. I mean, there's a big debate Was their fight fake? Was it real? I don't even care about all this.
Ryan:There's also the debate about where the black eye came from from Musk and the Oval Office.
Brian:Besant, not his kid. Yeah, I heard that Besant and Musk got physical, but where I was going to go with this is that I truly believe Musk was massively frustrated Because when you run into the buzzsaw of the bureaucracy and of Congress and none of them want to cut spending, I mean it's not like a company, like he's CEO he says, do this. And somebody either does it or they get fired. Well, you know he's right, we should cut this, we should cut this. He found fraud, he found waste and nobody cares and they'll push back and try to force it to be. So I get why he was frustrated.
Ryan:Yeah, one of the forms of potential spending cuts that I just heard about and I don't know if you saw this on CNBC or not, but Ted Cruz was just on CNBC within the last couple of weeks talking about something that you've talked about for years and that is paying interest the US government paying interest on excess reserves sitting on the balance sheets of banks, and he said something like we could save a trillion dollars if we stop paying interest on excess reserves.
Brian:So maybe it sounds like you did see that. Oh, I've been on the phone with Ted Cruz, okay.
Ryan:so my question is is that actually something that could happen? Because my fear would be that, okay, they stopped paying interest on excess reserves and the banks decide that they're going to lend all that money out, and then you've got all that money in the wild.
Brian:Well, that's the big fear of going back to where we were in 2007. But I said this at the very beginning Ben Bernanke did quantitative easing and we didn't have inflation. So if they stop paying it's? There's three reasons banks aren't taking all of this money that the Fed printed and lending it out. Three reasons. Number one we raised capital requirements on banks, so they can't. They have a limit on the size of the balance sheet that they can hold with their current capital. The second thing is we have liquidity rules on banks their current capital. The second thing is we have liquidity rules on banks, so they have to have a certain amount of cash and they get to count reserves as part of that cash. So if we raise liquidity requirements, they would have to hold more cash and make fewer loans. The third reason is we're paying them to hold those reserves and that's the interest on reserves. So there's three tools. If you got rid of one, you can make it up with the other two, and so what I would argue is it didn't cause inflation with Bernanke and it doesn't have to cause inflation today.
Brian:And it's interesting, if we stop paying interest to banks, the Fed still earns $100 billion. See, right now we're paying banks about $200 billion a year roughly and these are all rough numbers, I'm not trying to be exact and they earn about $100 billion a year on the bonds that they hold, which means the Fed is losing $100 billion a year. If we stop paying banks, they would now be making $100 billion a year. If we stop paying banks, they would now be making $100 billion a year and that money would flow into the Treasury, and that's a trillion dollars of money that goes to the Treasury. Now banks would lose $200 billion. I still don't understand how Elizabeth Warren isn't having a cow over this, because she hates banks and I don't think that's too overstated Private banks, I mean, she wants a national bank, and here we are paying private banks $200 billion a year and seemingly nobody cares, and so that's where Ted Cruz is getting the trillion dollars.
Brian:Over a 10-year period, if the Fed was making $ because of this new system of managing its monetary policy abundant reserve policy they have lost $225 billion over the last few years, and what they call that is a deferred asset. I don't know how you call a loss an asset, but nonetheless they do, and the whole idea is that at some point we plan on making a profit again Sounds like a private equity deal, right. Like at some point we're going to make a profit again, so we're going to call this a deferred asset and when we make a profit again we'll pay this down. And that's their promise. Like so yeah, we've lost money, treasury, and we've had to borrow from you to pay our salaries and keep our lights on, but eventually we're going to make a profit again and we'll pay you back. And I want to know.
Brian:The question I want asked is how are you paying salaries? Because if it was a private equity firm, let's say it's a private investment and you're a financer of it, and you give this company and they have a burn money and they have a burn and they burn through all the money you gave them. They have nothing in the bank. They have a law. Actually, they, they, they have a loss because they borrowed money from somebody else and spent it and and and. Then what do they do? They either have to raise more money or they have to shut down. Well, the fed just keeps going. They either print the money to pay their people or they borrow it from the Treasury, like under the table, and call it a deferred asset, but nobody will ask them these questions and hopefully, with Senator Cruz doing this, those questions start to get asked. And the reason he's doing this, what makes sense is if we can save a trillion dollars, then we can cut taxes a trillion dollars. So why is the taxpayer paying the Fed to pay private banks?
Ryan:Yeah, it seems like that would have to gather some momentum pretty quickly to get that discussion going. Yeah, well, I think it is.
Brian:I've done Charlie Kirk on this issue, steve Bannon on this issue, that's how it came up to Senator Cruz and now he's jumped aboard and I think we're going to get a few other members that start talking about this. And it's about time that the Fed faced some questioning, because what they did in 2008 is, in my opinion, did in 2008, is, in my opinion, one of the most important changes in monetary policy, economic policy, in US history. I mean, if you look at the Fed, the first one was we invented it in 1913, and then Nixon closed the gold window in 1971. And those are massive events, huge historical economic events in the history of the United States. I would put this 2008 change, when we started paying interest on reserves and started doing QE, right up there with either of those two.
Ryan:Since we last spoke on the podcast, another thing that's happened has been the downgrading of US debt by the final of the three major rating agencies. I'm curious of your take on that. You know, does that matter? And you know, is the US still the? I mean, will we still be the global reserve currency? And you know all the other issues attached to that. So is it important?
Brian:first off, yeah, moody's just downgraded us from AAA to AA or I think that's the. I don't even follow that kind of stuff that closely. I need to talk to the bond people about that.
Brian:That's right, but all the ratings, but by one notch. All right, we're one notch below perfect, but S&P and Fitch were already there, right, so okay, what's new? And I would argue Moody's is, of the three rating agencies, is the most political. So why didn't they do it when we were running $2 trillion deficits over the last two years, with a 4% unemployment rate? That?
Ryan:is an interesting question.
Brian:They waited until Trump was in office, right, and it's all because of a guy named Mark Zandi, and so it's political. But having said that, it's a serious question Are we at risk of losing American exceptionalism? You know, and I hear two. I mean, there's a million views amongst people, right, but two real divergent kind of pods. One is Trump is wrecking America, all our relationships with everybody, everywhere. Europe hates us, china hates us, everybody hates us. Everybody's selling the dollar. Nobody will buy US stocks anymore. American exceptionalism is done. Trump is killing it. The other one is he's playing 3D chess. Actually, I read on Twitter the other day he's playing 5D chess. Wow, yeah, I don't know what the other Ds are yes.
Brian:I don't know what the other.
Brian:Ds are A lot of dimensions, yes, but he's playing 5D chess and nobody understands it and it's so brilliant. America is going to be triple exceptional, you know, and I think both of these are wrong. And so we're somewhere in the middle. The big beautiful bill keeps tax rates from going up, that's positive. We're actually going to pass in that big beautiful bill expensing for all business investment, which is fantastic. We need that. That's a positive change in taxes. And so we're not making policy any worse. And we're also at the margin. Slowing spending a little bit Doesn't mean deficits won't be big, but they're not going to keep growing, so that's good.
Brian:And so all this idea that see Moody's, actually, the reason they downgraded is because of the tax, like keeping the tax rate the same. It's not the spending part that they're concerned with. No, they don. No, they want tax rates to go up. That's the craziest thing In Illinois, for example, when Illinois or Chicago raises taxes on people, moody's raises the rating because that's good, we're going to get more revenue, we can afford more debt. Well, the problem is they raise tax rates and more people leave and they get less revenue. But that's the way Moody's does it. And so what they're comparing it to is what the Congressional Budget Office CBO baseline said hey, at the end of this year tax rates are going to go up and that means we're going to get more revenue. And so if we're going to keep those tax rates where they are, that means we're going to get less. And so it's all compared to this future baseline which they're always wrong about, by the way those forecasts are terrible. But because if we keep tax rates low, in my opinion we're more likely to get a faster-growing economy.
Brian:And so, anyway, to come back to this, who's going to replace the dollar? Like what do you need? The key thing here is I need to find a better way to say this but America is not strong economically or in any way because we're the world's reserve currency or in any way because we're the world's reserve currency. We're the world's reserve currency because we're strong. Now I don't mean that doesn't mean we're booming in the economy. Strong means a bunch of things. We have a constitution. We have accounting rules that are the best in the world. You can trust our data. We have respect rules that are the best in the world. You can trust our data. We have respect for property rights. We enforce contracts. You make a contract in the US.
Brian:I mean, I'm sure people can find you know you go back to the auto bailouts and the bondholders were, you know, I think, abused in that situation. You can find a few things, but what other country in the world has better legal and financial structures than we do? And that's what you need. To be the world's reserve currency. You also need to be big, a big economy. So maybe India, maybe China, but they don't have the same financial infrastructure. I would argue Switzerland could be a reserve currency. The problem is they're not big enough. So what other currency in the world could take it over?
Brian:And then when you look at our, yeah, we have $36, $37 trillion in debt, but we also have $350 trillion in assets in America and our GDP is $25 trillion. So I mean, yeah, debt's high, but are we going to go broke, like, no, like. So I'm not opposed to having the rating of our bonds downgraded a notch because we're out of control $2 trillion deficits and seemingly an inability of even Republicans to cut spending. Yeah, down the road, that's an issue. But is it an issue today? No, and actually bond yields, I think, are lower today than when that rating got changed.
Ryan:Interesting. There's definitely that gap between, say, the German boond yields and what we're paying on our debt here, and so maybe that reflects. You know, the differential between those is the difference between AAA and whatever notch we're at now, yeah, Germany has.
Brian:I just looked at this the other day and forgive me if I'm off by a few percentage points, but it's like I think their debt to GDP is 63%, 64%, something like that. Ours is over 100, 125, something like that. So those are don't quote those, look them up before you use them but it's a significant difference. But I still wouldn't argue that Germany is a better investment than the United States. Neither one of us are going to default and the US is not going to default. So the reason I think our bond yields are as high as they are is because the Fed's holding rates up and won't cut them.
Brian:The short-term interest rate in the United States is too high. Today. We have about 2.5% inflation at the most. Most if you have one, one one and a half percent real yield on top of that would give you three and a half to four percent on interest rates and the Fed's holding the Fed funds rate at four and a half. I think the Fed should cut. Given where inflation is today, it's not like imperative that they cut, but but interest rates, real yields today are high relative to history. They're actually higher than they have been since 2006, 2007.
Ryan:So there's room to cut by the Fed, but it seems like they've been somewhat reluctant to give in and I can understand some of the reasons why they're afraid that they're going to cut and then inflation is going to come roaring back Right. Do you think that by the end of the year I think there's one or two cuts that are priced in, Is it? Do you think that the Fed will have sort of the will to make cuts by the end of the year?
Brian:I think. I think inflation data is going to going to continue to be good we talked about four months in a row and if it stays good, they're going to be forced to cut. Okay, I mean, they don't like to look. If Trump wants lower rates, he needs to stop yelling at the Fed, because they don't want to appear as if they're cutting because he yelled at them, right? So that politics is funky. Sometimes it's backwards, you know, and so the more he yells at them, the more unlike they they are. Not just I don't think Powell likes Trump, but but it's not just because of that, it's because they want to appear independent. They don't want.
Brian:They don't want to appear like they're their taco you know that's what I was gonna do.
Ryan:It's like the opposite of the taco tree yes, exactly the taco trade for people, isn't it? Trump always chickens out, and and he hears about that and I suspect that he's like oh, I'm not gonna chicken out now and yeah, and you know, if you want trump to raise tariffs, you call him. You know, you invent the taco tree, right?
Brian:exactly, exactly and so so it would be the opposite of that. But it's like, yeah, and so it's paco. Powell always chickens out Like no, but the Can we coin the Paco? Trade we might have the Paco trade, that's great.
Brian:So they should probably cut rates. They should let the money supply increase faster too, because I think it's been too slow over the last three years. But anyway, that's why I think our yields are high, and Germany I mean the US is neither one of us are going to default on our debt, and so this idea that their yields are lower because they're a better risk, I just don't buy it. We have the ability to print money to pay off our bonds, and so if it's fear about future inflation because that's what we're going to do well, I think Germany should have that too. By the way, germany is.
Brian:If you go back to Liz Truss remember she was prime minister of Britain for like two and a half weeks Because she proposed a tax cut and at the same time, I think she was set up, the Bank of England raised rates and it kind of blew up their pension funds because rates went up and they weren't expecting it and they had all this leverage, and then they blamed it on trusts and then they drummed her out of office. Well, I want somebody to look at German pension funds, because these pension funds were buying bonds the German Bund at negative 60 basis points, and those yields are now 270. And if you run that through your Monroe trader I think it might break it. It's such a huge loss on those bonds and nobody's talking about it. And I believe those German pension funds. They're better funded than ours but they've got huge losses on their bond portfolios today because they were buying rates when yields were negative.
Ryan:Yeah, so the dollar, relative to the euro and other currencies as well, has weakened lately. Do you think that that is something that is desirable? From the perspective of the Trump administration especially? That's a positive.
Brian:It helps our exports, no doubt about it. But here's, I believe, one of the reasons that the dollar weakened. So when we buy imports, we send dollars overseas. There's this argument that when you're the world's reserve currency, you have to run a trade deficit with the rest of the world. Because they need your currency, they buy oil in that currency, they use it to back their currencies. It's the world's reserve currency, so they need dollars. So, basically, we have to run a trade deficit. Any country would if you're the world's reserve currency. Because they need your currency, the whole world does. Well, if you think of it that way, what it really means is the way they get dollars is they sell stuff to us, Then we pay them in dollars, and then they have those dollars and they buy bonds or farmland or whatever it is, and then they and or they use it to back their currency. And and, and and and and. So the front running of tariffs. See, I actually added all this up If you look at January, february, march of of this year compared to last year.
Brian:So last year's average trade deficit was $70 billion a month roughly. We went $120, $138, $148, something like that. January, february, march, january, february, march. If you add all those up and subtract 70, 70, 70, we sent $200 billion more in three months overseas, and so the world was flooded in dollars. Now, if you assume they want dollars, they need them. There's some demand for dollars. It was about $70 billion a month last year. If you think that the trade deficit comes from the need to have dollars, it was about $70 billion a month last year. If you think that the trade deficit comes from the need to have dollars, it was about $70 billion a month. Well, all of a sudden, in the first quarter, we sent $200 billion extra. So the world was if supply and demand. What that means is we had extra dollars overseas. No wonder the dollar fell, because the demand didn't change.
Ryan:We pulled forward all those imports pre-tariffs.
Brian:Yep, and I believe now, with the front running over I think it's over April, we went from $140 billion trade deficit to $60 billion. It was the biggest monthly change ever in the history of the United States, and it was all because of the front running. It's not underlying fundamentals that are causing any of this, and so what's happened is now we're sending fewer dollars, but we increased the supply of global circulating dollars so massively relative to their demand that no wonder the dollar fell. So everybody's telling me the dollar fell because Trump's wrecking it and nobody wants dollars anymore. Well, let's just assume that would be true. People want fewer dollars. Well, we just sent them 200 billion extra, so I don't even have to use a falling demand to get a weak dollar. It just stayed the same and we just flooded the system, flooded the zone, and that's why the dollar fell. So I actually expect it to strengthen here in the next few months.
Ryan:Okay. So my final question for you we had a negative GDP print in the first quarter. It sounds like you think that's going to maybe reverse in the second quarter. Kind of the inverse side of that coin, maybe we have less imports and therefore that positively contributes to GDP. What about the rest of the year? You know quarters three and four. Are you still thinking we'll have a recession this year or have you kind of changed that base case a bit? Nope, I do?
Brian:I mean ADP employment was 37,000. If you look at the last employment report, it was pretty weak on a bunch of fronts. Initial unemployment claims are picking up, Like auto sales, and home sales haven't gone up for five years. Real retail sales are flat for the last four. I think we're finally going to have that slowdown that we should have seen right after COVID, but it was hidden because of these massive budget deficits that we ran.
Brian:But to come back to the first and second quarter, I think most everybody understands this. But if you go and buy a quarter zip at JCPenney's and it was made in that means consumption goes up and that's part of GDP. But if it came from China, that's not domestic product, gross domestic product. So what we do is you buy the quarter zip, consumption goes up, but because we imported, we subtract it, and what happened is we brought all the quarter zips in for the whole year in three months and so, even though people weren't buying that many quarter zips, we had a bigger negative from the trade and that's why we had a negative point two percent growth in first quarter. Well, when that reverses it, you get the opposite. So right now, yeah, we're gonna have four percent, it looks like four percent or higher real growth in the second quarter.
Brian:And I see all these people going on TV and telling me that's the Trump boom. And I laugh because this is all. It's this trade disruption which caused the negative number and now it's going to cause this boom. And neither one of them were true. And if you average both of them together it's about 2% growth, which is the average growth rate of the past 20 years. So nothing's changed.
Brian:But I think in the second half of the year the past 20 years so nothing's changed. But I think in the second half of the year, as long as we don't have some of these crazy moves in trade or something like that we're going to see GDP growth slow. Part of that is Doge. Government employment was growing twice as fast as private sector employment in the last two years Not anymore and private sector hasn't accelerated. It's actually slowed down a little too. So you have government coming down sharply and the private sector not accelerating, which means GDP growth is going to be weaker in the next year and we need to ignore these massive swings in GDP in just the first two quarters.
Ryan:Interesting. It'll be interesting to see how that impacts profits in the private sector if a lot of it's caused by government employment going down Right.
Brian:Yeah, and it won't change. Yeah, I mean, that is a great point and that would be an argument against my bearishness about the market. I do think the slowdown in the economy is going to affect profits. They're not going to grow as fast as people think. But, even more importantly, if you look at our models and I'll kind of conclude on this we use profits discounted by the 10-year. Profits need to go up 30% this year where, if profits need to go up 30% this year like I think the bottom-up analysts have them at 7 or 8 or 9 right now, but they need to go up 30% with interest rates where they are to justify the current valuation of the S&P 500. And I would argue that the odds of GDP slowing down mean that's virtually impossible.
Ryan:Yeah.
Brian:I actually look for earnings to grow less than the consensus for this year because I see the economy growing more slowly in the second half.
Ryan:All right, well, we'll leave it there. Thank you once again for joining us on the podcast. Look forward to maybe doing it again later this summer, absolutely, or early September, late August, something like that.
Brian:Perfect, always great to have you on. Yeah, let's get here and bring Bob Stein on and me on to talk about when they do the real budget. Let's see if they actually do a real budget this year.
Ryan:That sounds amazing. Yeah, all right. Thanks, brian, and thanks to all of you for joining us on this episode of the First Trust ROI Podcast. We'll
