Econ Weekly (Trial Week of June 7, 2021)

Inside this Issue:

  • Employment Enjoyment? Not quite, but May jobs report better than April
  • Wherefore Art Thou Warehouse? Logistics Taking Center Stage
  • Is Supersonic Economic? United Airlines Thinks So
  • Holy Ship! Cruise Bookings on Fire
  • 5G Jam: Why the Slow 5G-telecom rollout?
  • Money Market Muddle: Are Negative Interest Rates Coming?
  • Gravy for the Navy: Congress Weighs Funding for Next-Gen Subs
  • Machine Yearning: The Origins of Internet Recommendation Systems
  • Senior Danger: As the Population Ages, a Threat from Higher Wages
  • And This Week’s Featured Place: Fresno, California, Alarm on the Farm

Quote of the Week

“Who would have expected us—and by ‘us’ I mean the industry and the broader economy—to exit a pandemic as strongly as we are going to.”

-JP Morgan co-President Gordon Smith, speaking at an Alliance Bernstein investor event

Market QuickLook

The Latest

March was uplifting. April was a downer. May, it turns out, was something in between.

The much-anticipated May jobs report, published by the Labor Department on Friday, showed a gain of 559,000 new jobs during the month (excluding farm work). That was mercifully better than the mere 278,000 created during April, not a lot in the context of heavy government demand stimulus. But the May numbers fell short of the 785,000 new jobs created in March. The Fed, remember, wants to see clear signals of a robust labor market before beginning the process of winding down its crisis-era bond-buying. A more forceful May signal—some hoped for more like 1m new jobs—would have made the Fed’s decision easier.

Of those 559,000 new jobs, a bit more than half were in the leisure and hospitality sector. The education sector too, saw sizable gains. So did health care and social assistance, which includes childcare. Auto sector jobs, which shrank in April, grew in May.

To be clear, the labor force remains meaningfully smaller than it was pre-crisis. Some 9.3m Americans are still officially unemployed, compared to 5.7m just prior to Covid. The unemployment rate, 3.5% before Covid, currently stands at 5.8%. The active labor force as a percentage of the total population, still at just 62%, is almost two points lower than it was.

How to explain a job market characterized by both elevated unemployment and a shortage of workers? That discussion lingers on—Are there still lots of workers sitting out because of health and childcare concerns? Are many content to not work due to generous unemployment benefits? Is there a big skills mismatch; in other words, lots of open jobs requiring qualifications that too few Americans have? Are more people retiring early? Average wages did increase last month, topping $30 per hour, or closer to $26 excluding supervisory workers.

Are rising wages a sign of the inflation some fear? How about the manufacturing sector’s transition from “addressing demand headwinds, to now overcoming labor obstacles across the entire value chain.”? The quote is from Timothy R. Fiore, chair of the Institute for Supply Management. The group’s latest survey, indeed, shows clear optimism about demand, but also “record-long lead times, wide-scale shortages of critical basic materials, rising commodities prices and difficulties in transporting products.” To this add “worker absenteeism, short-term shutdowns due to part shortages and difficulties in filling open positions.”

What’s better for the economy? Strong demand but a troubled supply chain? Or a smoothly functioning supply chain but weak demand? Most would probably opt for the former. And regarding inflation risk as a longterm problem? Still no change in the Fed’s relaxed assessment. The current rise in prices, Mr. Powell and friends still say, is just transitory. One argument in their favor: There were similar energy and food spikes after the last recession, which never turned into 1970’s-style inflation.

The Fed has expressed some concern with rising asset prices, including a frothy-looking stock market that exhibited more meme-stock weirdness last week. Clearly, the renewed appetite for AMC stock doesn’t reflect widespread bullishness about the movie theatre business. In the critical housing market meanwhile, the Mortgage Bankers Association reported another decline in demand, attributed to “tight housing inventory, obstacles to a faster rate of new construction and rapidly rising home prices.”

Speaking of sectors vital to the U.S. economy, a big private equity deal for Medline (a firm selling medical equipment) again highlights the increasing appeal of health care as a target for investment. America’s largest company Walmart seems interested. So is America’s second largest company, Amazon.

The health sector, giant though it is, didn’t get too much attention in the Fed’s latest Beige Book report published last week. There were a few mentions, including the Kansas City Fed’s observation that demand for things like non-essential surgeries is still well short of pre-Covid levels. More prominent in the Beige Book were anecdotes about factory output increasing despite supply chain and hiring difficulties. The Dallas Fed reported a rise in oil drilling activity. There was talk of lending volumes increasing modestly. The New York and Atlanta Feds are seeing more tourism. New York City’s hard-hit rental market “remains soft but appears to have hit bottom.” The ag sector is most definitely benefiting from the reopening of restaurants. Exporters are benefitting from a depreciating dollar. The Richmond Fed, meanwhile, mentioned a university that’s seeing a “substantial spike in applications” but not among lower-income students.

That will concern some policymakers. But few things are more concerning than the growing wave of cyberattacks on U.S. companies, predominantly originating in Russia and eastern Europe. A major meat plant was victimized last week, which follows a ransom attack on an oil pipeline.

As for President Biden’s infrastructure bill, there was more give and take on Capitol Hill during the week. But still no compromise. Negotiations continue.

May Unemployment Trends for Selected Sectors

source: Bureau of Labor Statistics 

  • Leisure and hospitality (restaurants, bars, hotels, theme parks, etc.) still burdened with double-digit unemployment but conditions much better than they were


  • XPO Logistics: There’s not much sexy about transportation and supply chains. Or there wasn’t pre-Covid, anyway. Now, transportation and supply chains are front and center as manufacturers and retailers navigate a surge in e-commerce and home delivery. Firms are at the same time navigating major disruptions to global supply chains, brought on by closed borders, container shortages, input shortages, labor shortages, seaport congestion and a sudden dramatic shift last summer from plummeting demand to bustling demand. It’s in this new world of logistics that Connecticut-based XPO can happily tell its investors: “In sum, our business has been firing on all cylinders.” XPO’s core business is helping companies around the world move things by truck. It’s now spinning off its logistics unit—responsible for about 40% of total revenues—into a separate company to be called GXO. It’s a business that’s booming as customers grow their e-commerce, outsource their supply chain management and demand more warehouse automation—all three trends accelerated during the pandemic. Goliaths like Apple, Coca-Cola, Boeing, Intel and Nike are all XPO customers. When GXO is gone, what’s left will be XPO’s transportation business, specializing in what’s called the less-than-truckload (LTL) market. It’s just like it sounds: smaller shipments that don’t take up a whole truck. XPO earns money by managing the shipments as efficiently as possible, optimizing pickups and deliveries, yard and dock operations, loadings, driver routings, fleet utilization and pricing. As you might imagine, artificial intelligence and machine learning are extremely useful in this endeavor. Scale matters too—the company moved 12m shipments roughly 2.3m miles a day last year. It did so with a fleet of nearly 8,000 tractors and 25,000 trailers, operated by roughly 12,000 (mostly non-union) employee drivers. But that’s just one part of its transportation business. XPO is also a trucking broker, linking customers with a network of approximately 75,000 independent carriers operating more than 1m trucks. In this part of the business, “the story is growth, growth and more growth.” The trucking business, like the warehouse business, is benefiting from e-commerce growth and an appetite for more outsourcing. Finding drivers, to be sure, is a challenge. But on the brokerage side, the industry driver shortage actually helps XPO because it’s inhibiting new capacity, at a time when XPO has relatively large access to capacity. As an aside, a recent NPR report asked: Is there really a truck driver shortage?” The real problem, it concludes, is retaining According to the American Trucking Associations, the average annual turnover rate for long-haul truckers at big trucking companies has exceeded 90% for decades. If a company has 10 truckers, nine will be gone within a year; large numbers of new drivers leave within a few months.
  • United Airlines: Another age of supersonic flying? United thinks so. The Chicago-based airline made a splash last week by announcing its intention to buy as many as 50 planes from a Denver-based company called Boom Supersonic. The new Overture planes are designed to fly at twice the speed of today’s fastest passenger jets. That means a Newark flight to London in just three and a half hours, or a San Francisco flight to Tokyo in just six hours. And with net zero emissions no less, thanks to engines optimized to run on sustainable fuels. Don’t get too excited yet, though. The plane is still in a somewhat early development stage, and United’s contract has lots of contingencies. Boom, in other words, first must prove that the plane can operate both safely and economically. Its own best guess: If all goes well, the first test flights will occur in 2026, followed by entry into service in 2029. It would mark a return to supersonic airline service following retirement of Concord jets that last flew in 2003. The Concord (or Concorde in French) was a technological marvel but an economic failure—it was exceptionally fuel inefficient, which spelled trouble during the 1970s oil shock, and again when fuel began spiking in the early 2000s. Boom hopes big advances in technology will enable much greater fuel efficiency this time around, though the challenge of flying sustainably makes that more difficult—sustainable jet fuel is still significantly more expensive than oil-based jet fuel. The demand will surely be there though. What investment banker or corporate lawyer wouldn’t want to save hours on trips to Europe and Asia? They’ll no doubt be willing to pay premiums too. The big-money question is: Will the new Overture planes have a low enough purchase price—plus low enough operating costs including fuel burn—for United to make money charging reasonable fares. High fares, no problem. But not exorbitant fares. Also note that the Overture planes will seat fewer than 100 people. On United’s largest planes today, it can recoup costs by selling roughly 400 tickets per flight.
  • United Airlines: United separately provided an update to its business outlook, which is finally brightening as it exits the worst demand shock in airline industry history. To be clear, United and other U.S. airlines fared better than in past shocks, avoiding bankruptcy thanks to healthy balance sheets going into the crisis, along with government aid and copious access to credit—airlines borrowed massively to stay alive last year. But as CEO Scott Kirby told investors during an Alliance Bernstein event last week, United is starting to play offense again. Demand for domestic leisure travel is stronger now than it was pre-crisis. Unfortunately, that’s only about a third of United’s demand base. But business travel and intercontinental travel—the other two thirds—will likewise come back strong, according to Kirby. Key milestones will be 1) the fall, when many companies return to their offices, and 2) the moment—whenever it comes—that international borders reopen. He rejects the idea that businesses have permanently reduced their travel plans. If anything, they’ll fly more as they look to catch up on lost time with employees and customers around the globe. Clients most eager to travel abroad, he says, are those with operations in Asia, including big Silicon Valley giants like Apple (United happens to be the largest airline in San Francisco). Also driving more business travel will be remote working trends, whereby employees live far from their office but fly in once a month or once a quarter. Already when borders open, United is seeing a quick and sharp spike in overseas tourist demand. And when there’s a widespread reopening, its disproportionate exposure to longhaul corporate demand will be a plus. Why? Because, as Kirby sees it, seat supply will grow faster than demand domestically. Internationally by contrast, airlines permanently retired large numbers of large planes. Overseas routes, moreover, are all but free of the low-cost carriers now fast-expanding within the U.S.—this includes two new startups (Breeze Airways and Avelo). United by the way, is the product of a 2010 merger with Continental Airlines. This was one of five big mergers that consolidated the industry between 2008 and 2016 (the others were Delta-Northwest, Southwest-AirTran, American-US Airways and Alaska-Virgin America).
  • Norwegian Cruise Line: There were worse hit than even the airlines. As Norwegian CEO Frank Del Rio explained on a Goldman Sachs podcast, cruise companies never got a penny of government aid. And the Centers for Disease Control actually shut the industry down. But the worst is over. “We are better booked today for 2022 sailings and 2023 sailings than we’ve been in any year of our history at this point in the booking curve.”

Tweet of the Week

“U.S. labor productivity, measured as nonfarm workers’ output per hour, rose at a 5.4% annualized rate in Q1, after falling 3.8% in 2020:Q4”

-St. Louis Federal Reserve


  • Logistics: The pandemic transformed many industries, lots—surprisingly—for the better. The business of moving and delivering packages certainly benefitted, lifting companies like Amazon, FedEx, UPS and XPO discussed above. Don’t forget about real estate companies that own and invest in warehouses. San Francisco-based Prologis is one, and its CEO Hamid Moghadam shared his thoughts on Scott Galloway’s Prof G podcast. It’s been an extremely busy year for logistics companies amid huge growth in e-commerce and home delivery. Everyone wants their stuff faster and faster, and with more product options, Moghadam explains. “All of a sudden,” he adds, “supply chain is at the forefront of everything.” He notes a shift from the days when warehouse demand was tied to manufacturing production and optimized to control costs. Today, they’re more a function of consumption and optimized for proximity to consumers. The largest warehouses are now larger than ever but accompanied by a network of much smaller ones close to population centers, for the last-mile portion of delivery. Separately, tracking technology has greatly improved. But even so, logistics in an age of e-commerce is highly labor intensive, requiring people to handle everything from stuffing parcels with packing material to processing returns. Interestingly, during a decade of low productivity for the economy, Moghadam says much of the gains that did materialize came from supply chain advancements. Walmart and Amazon, keep in mind, are both famous for their ever-improving distribution prowess. Does Moghadam think there’s a future in creating warehouses from troubled big box retail stores (picture an old Sears in a shrinking community)? In some cases, yes. But he cautions that it’s a lot harder than it sounds, given legacy contracts between retailers and mall owners, the implications for municipal property tax revenue and community resistance to all the new truck traffic that warehouses bring.
  • Small Business: Fast fact: Jay DesMarteau of TD Bank, tells Bloomberg that the U.S. has about 30m small businesses. Of these, 76% are sole proprietorships and 90% have annual revenues less than $100,000.

Fair Footage?

The chart below was published by Freddie Mac, using Census Bureau data

  • It shows that home builders are increasingly focussed on the higher-price, higher-income end of the market


  • Overnight Reverse Repo: The overnight what? In 2013, the Federal Reserve, concerned about negative short-term interest rates, launched a program to take cash from financial institutions in exchange for essentially risk-free, very short-term government securities. Well, demand to use this reverse repo program is now spiking. Banks and money market mutual funds, big participants in the multi-trillion-dollar overnight borrowing and lending market, quite simply have more cash than they want. As a reminder, an overnight repo transaction, simply put, is when an institution lends a security and receives cash. A reverse repo is when they lend cash and receive a security. And the latter is what everyone seems to be doing now—with the Fed as a counterparty. The problem recently is that there’s lots of cash flooding into the system and lot of securities leaving the system (driven by the Fed’s monthly securities purchases, along with households depositing their stimulus checks). Money market mutual funds, usually a place where investors can get a small return without much risk, now have a growing supply of cash and a dwindling supply of safe securities to buy. That’s causing interest rates on some overnight securities to go negative, hence the appetite to park the money at the Fed, never mind that it pays nothing. In sum, it’s a case of “What to do with all of this cash?” As the Financial Times describes it: “Money market funds investing in short-term government debt have taken in hundreds of billions of dollars of new money from savers in recent months. But there is stiff competition to tap a dwindling supply of low-risk assets that generate positive returns.” MarketWatch described the Fed facility as “an investment opportunity of last resort.” Someone on Twitter put it even more succinctly: “Too much cash/not enuf T-bills.” Banks, to be sure, have the same problem—they don’t want so much cash during a time when demand for loans is weak, because cash deposits are a liability and liabilities trigger regulatory constraints. Alright, so who cares? The wider risk is that negative short-term interest rates become widespread, filtering into the wider economy and messing with the Fed’s ability to do its job. Negative interest rates, furthermore, would create major headaches for banks. The overnight lending market, indeed, is a critical pillar of the financial system, ensuring that different institutions in the economy have the liquidity they need, when they need it. So keep an eye on Reverse Repo.
  • Oil: Daniel Yergin, author of “The Prize” and other influential books about oil and energy, tells Bloomberg Surveillance that oil demand is currently rising as markets around the world reopen. But supply will likely increase as well as OPEC and Russia add some production, Iran potentially gets sanctions relief and prices reach levels that incentivize U. shale producers to revive output. The latter, however, are more disciplined now, Yergin says, after a period of overexpansion and consolidation. Yergin, who works for the research firm IHS Markit, said his best guess for peak global oil demand is around 2030. The exact year, of course, depends in large part on how fast the world transitions to electric vehicles.
  • Coal: Here’s a stat capturing the changing nature of employment in the energy sector: According to the University of Pennsylvania’s Kleinman Center for Energy Policy, the number of U.S. workers directly employed by the coal industry has fallen by half in just the past decade. The reason, quite simply, is that cheaper sources of energy are now available, most importantly natural gas and renewable power. The shift has been especially difficult for coal producing regions like the Appalachian Mountains in the east and the Powder River Basin in the west. Data from the U.S. Energy Information Administration show that five states account for 71% of total U.S. coal production. Wyoming is number one, followed by West Virginia, Pennsylvania, Illinois and Kentucky.
  • Used Cars: A stat from Auto Finance News: The average listing price of a used vehicle topped $22,000 at the end of April… for first time ever. It’s a good time to sell a used car. Not a good time to buy.
  • Labor: Another quick stat, this one from the May jobs report: In May, 16.6% of employed persons teleworked because of the pandemic, down from 18.3% in April.


  • Military Spending: In its latest fiscal year, the U.S. spent $714b on defense, accounting for about 16% of all federal spending. One program currently getting attention is the Navy’s plan to build a next-generation nuclear-powered attack submarine. It would eventually replace the current Virginia-class subs which the Navy has been buying since the late 1990s. The new subs are not expected to be ready for procurement until 2031. But officials are asking Congress to approve $98m for research and development in the next annual federal budget. The current Virginia-class subs, for the record, cost about $3.4b each. The new ones should cost around $6b in current dollars. Who builds the Navy’s subs? Hundreds of suppliers are involved. But there are only two contractors with U.S. shipyards capable of building nuclear-powered ships: One is General Dynamics with facilities in Groton, Connecticut, and Quonset Point, Rhode Island. The other is Huntington Ingalls in Newport News, Virginia. Naturally, these places benefit enormously from lots of high-paying construction and engineering jobs. The next-gen subs, by the way, will aim to be faster, stealthier, more heavily armed and better capable of defending against unmanned underwater vehicles.


  • Fresno, California: You know about Silicon Valley. You know about Hollywood. But there’s more to California than microchips and movies. Away from the coastline and beyond the mountains lies a valley, a valley with what just might be the most fertile agricultural land on planet earth. California is indeed an agricultural powerhouse, led by the prodigious output of its Central Valley. Fresno, with roughly a million people in its metro area, ranks 55th among all U.S. metros. Yet Fresno County produced more agricultural output than any other county in the nation—nearly $8b worth in 2019, according to the California Department of Food and Agriculture. Nearby counties in the San Joaquin section of the Central Valley produced almost as much, making the region as a whole America’s undisputed leader in farming. The Fresno area itself is America’s largest producer of almonds and raisins, to name just two products. Others produced in great quantity include pistachios, grapes, cotton, cattle, tomatoes, milk, plums, turkeys, oranges, peaches and nectarines. Much of the output (roughly a quarter) is exported abroad. The area, furthermore, is unsurprisingly home to many food-related businesses engaged in canning, curing, freezing and so on. This, however, doesn’t translate into high incomes. Fresno, on the contrary, is poorer per capita than not just the wealthy coastal cities of California but also the national average. Census data show median household income was $54,000 during the latter half of the 2010s, compared to San Francisco’s $112,000 and $63,000 for the U.S. nationwide. Just 21% of Fresno’s population has a college degree—the figure in San Francisco is 58%, the figure nationally is 32%. A fifth of people live in poverty, double the national rate. Interestingly, in 2006, the president of the San Francisco Fed came to Fresno and pointed out how most high poverty places in the U.S. were shrinking, i.e., Appalachia, the Mississippi Delta, Rust Belt cities like Detroit, etc. The Central Valley, by contrast, was growing rapidly at the time, and maintained a steady pace throughout the 2010s. That Fed official by the way, was current Treasury Secretary Janet Yellen. More than half of Fresno County’s residents identify as Hispanic, and many are seasonal farm workers from Mexico. Mexican workers began coming as early as World War I. During World War II, the U.S. established the “Bracero” program allowing farms to hire guest workers during a time when many able-bodied Americans were off fighting a war. The Atlantic estimates that by 2014, 38% of Fresno’s immigrants were undocumented. In general, while farm output has steadily grown in the 2000s, the number of farm workers has not. As the high level of undocumented workers suggests, labor shortages are a persistent attribute of farming in the Central Valley, and famers have automated what they can. But they face something more alarming than labor shortages. They face severe water shortages. As the San Francisco Fed reported in last week’s Fed Beige Book, “growers in California noted that current drought conditions are expected to negatively impact annual crops this year, driving up labor and electricity costs as farmers depend more on wells and water pumps for irrigation.” That’s poised to further increase food prices for all Americans. Fortunately, there’s more than just farming in Fresno. As in most U.S. places, health and education jobs play an outsized role in the labor force, with Community Medical Centers the area’s largest employer. Tourists traveling to Yosemite National Park often go via Fresno. Southwest Airlines, meanwhile, just launched flights to Fresno. Sure enough, the area has become a useful site for e-commerce fulfillment with The Gap and Ulta Beauty recently opening warehouses. And of course, so did Amazon, in 2018. It helps that Los Angeles and San Francisco are both roughly just three hours by truck. Fresno stands to get another boost as an early stop on California’s high-speed rail network. That will be a while. But the Bay Area Council Economic Institute, for one, sees the railway as an opportunity to position Fresno as a commuter town for Bay Area tech workers. It’s also seen by boosters as a rare place in California that’s not prohibitive to live and start a company. For now, though, agriculture remains front and center for Fresno. And for agriculture, water remains front and center. Pray for rain.
  • The U.S. Southwest: “The lure is open land, local tax breaks and a growing supply of tech-savvy workers.” That’s the Wall Street Journal’s explanation for a boom in manufacturing output in Arizona, New Mexico, Texas and Oklahoma. No other region of the country saw bigger gains during the past four years. Add Nevada to the mix, and this grouping added more than 100,000 manufacturing jobs from January 2017 to January 2020, representing 30% of U.S. job growth in manufacturing, the Journal said, citing Labor Department data. Intel and its Taiwanese semicon rivals are investing billions in Arizona, a state heavily reliant on tourism, inbound retirees and residential real estate. Next-gen automakers like Tesla and Lucid are building new facilities in Texas. There’s even a steel company that came to Texas. Aside from the attractions mentioned above, the Southwest benefits from proximity to Mexico’s northern manufacturing belt. Housing costs are relatively low. Parts of Nevada, for its part, are just a day’s drive from the busy twin ports of Los Angeles and Long Beach. The region is opening new trade schools. And companies are looking for places to re-shore production from Asia. The Southwest region does, however, face water shortages that pose a threat to manufacturing operations.
  • Arizona and Florida: Speaking of those inbound retirees, communities like The Villages near Orlando expanded massively in the 2010s as baby boomers retired—The Villages was in fact the single fastest growing metro area in the U.S. last decade (see chart below). Arizona too, boomed. So did other retiree havens like Myrtle Beach. But as a Bloomberg feature warned, retirement communities depend heavily on lowish-paid younger workers doing service jobs like mowing loans and waiting tables. Post-pandemic the cost of such labor is spiking, and its supply contracting. Bloomberg sees some similarity with how the tech-heavy boom in California drove up costs and led to a shortage of resources. The same thing could be happening to retirement-boom places. Also keep in mind that retirees typically live off of fixed income assets that would erode in value if inflation becomes a problem.


  • Britain: Mark Carney, who ran the central banks of both Canada and later England, is making his rounds promoting a new book called “Value(s): Building a Better World for All.” In one discussion with George Mason’s Tyler Cowen (on the latter’s Conversations with Tyler podcast), Carney cites some reasons for Britain’s productivity slowdown in the 2010s. One is that the country’s very large and influential financial sector generated lots of gains before 2008 (producing more loans per employee). But the financial crisis changed all that. He also thinks the benefits of new technologies became more concentrated among large companies, with limited diffusion across the wider economy. Brexit uncertainty, he adds, clearly played a role in reducing investment. Carney spoke about Canada’s economy too, but we’ll focus here on just one fact he gave that might just come in handy at your next conference cocktail party: Ottawa, he said, is the world’s second coldest capital city after Ulan Bator.
  • Canada: We should probably say a bit more about Canada. Here are some general observations about its economy: For one, it’s heavily dependent on cross-border trade with the U.S. It’s also a major commodity exporter, and when oil prices in particular are high, the Canadian dollar tends to be strong, as it was during the first half of the 2010s. It began depreciating after the global commodity meltdown of the mid-2010s. But this year, the Canadian dollar has steadily strengthened versus its U.S. counterpart, flirting with highs not seen since before the last commodity boom. The currency is also getting lifted by a booming housing sector and a less accommodative monetary policy—Canada’s central bank (unlike the Fed) is already stepping back from its Covid crisis emergency measures. GDP during Q1 grew about 6% y/y despite heavy Covid restrictions including tightly closed borders. Note that Calgary (and Alberta province more generally) is the center of Canada’s oil industry.
  • Italy: Let’s go back to Mark Carney, the central banker. In one of his book promotion interviews, he notes how the size of Italy’s economy (GDP) is the same now as it was in 1999 (ugh). Germany’s, by contrast, is about 25% larger. The boot-shaped country, he says, suffers from weak productivity, in part due to infrastructure underinvestment and aging and shrinking demographics. (Italy spends more on retirement pensions than it does on education). Carney also mentions counterproductive regulations including bankruptcy laws that make it difficult to reorganize lossmaking entities. A classic example is the state-owned airline Alitalia, a big fiscal drain for decades but never allowed to fail—its politically powerful labor unions are a big reason for this. Looking ahead, Carney thinks Italy has a great opportunity in green hydrogen energy. The country’s new prime minister Mario Draghi meanwhile (a former central banker himself), is pursuing an aggressive post-Covid fiscal policy. That’s a break with the past, when Italy either didn’t want to be fiscally expansive due to its huge debts or couldn’t be fiscally expansive due to German-inspired European Union restrictions. Italy never did require any bailouts like Greece, Ireland, Portugal and others though. Indeed: No real dangers of any government bond defaults. And no real problems with inflation.

Looking back

  • Recommendation Systems: NPR’s Planet Money talks to veteran computer scientist Doug Terry, now at Amazon Web Services (AWS), about an invention of his that “helped make the modern internet so addictive.” It wasn’t really intentional. In 1990, while working at Xerox Park in Silicon Valley, Terry and his team were looking for ways to better organize their incoming emails. Their solution: Collecting people’s likes and dislikes and turning them into a recommendation algorithm. Their solution would eventually come to “define the modern internet.” Indeed, as New York Times tech columnist Kevin Roose explains, “today, the entire world runs on recommendation engines. Billions of dollars a year spent and lost depending on what is and isn’t recommended to us.” These recommendation engines also determine what shows up on our social media feeds, what we watch on our phones and televisions, what music we listen to and perhaps even what politicians we vote for. The most famous engine is perhaps the Facebook Like button which Terry devised. The early solution to the email problem involved teaching the computer to know which emails to prioritize, based on the preferences of users. So, for example, if lots of people said they liked a particular article someone sent, the email system would know to prioritize it. Other emails might get classified as spam or junk. Terry called it “collaborative filtering.” The idea really took off in the mid-2000s when Netflix offered a $1m prize to create an improved recommendation system. The company made all its user data (more than 100m movie recommendations) available to contestants. The winner was a team led by Robert Bell, using machine learning to better understand links between people’s movie preferences and what they also might like to see. In one example, the machine learned that even if you disliked a particular science fiction movie, you probably would be interested in a similar movie because your dislike indicated you were at least interested in the genre. This Netflix contest, according to Roose, “basically started a recommendation revolution… Many other tech companies started realizing that recommendations could be used for so much more than just movies. They could help us figure out which music to listen to, which clothes to wear, which restaurants to patronize, maybe even which news was important.” Recent research has sure enough shown these algorithms to be extremely influential. Maybe dangerously influential. According to Roose, we’ve entered a world of “opaque algorithms owned by companies that want to make a profit off our behavior, recommending things that will keep us scrolling and clicking and watching forever and ever.”
  • The History of U.S. Banking: Why is U.S. history filled with banking disasters? Canada, after all, has had an extremely stable banking industry throughout its history. The 2008-09 financial crisis is only the latest example of a recurring U.S. problem that dates to the early days of the Republic. Authors Charles Calomiris and Stephen Haber examined the history in their 2014 book: “Fragile by Design: The Political Origins of Banking Crises and Scarce Credit.” As the title suggests, they stress the importance of political forces, dating back to old coalitions like the one between populist farmers and thousands of small independent banks with local monopolies. (The U.S. Constitution, they remind readers, says nothing about banking). Through much of American history, this farmer-small bank coalition successfully fought to preserve a ban on branch banking, meaning banks were forbidden to open branches outside their home territory. This created a “unit banking” system that was non-competitive, unstable and inefficient. In Canada by contrast, banks could diversify their lending exposures to different regions and different sectors by establishing branches throughout the country. If one geography was short on funds, another branch in another location could provide some relief, thereby heading off a bank run. With fewer and bigger Canadian banks, it was also easier to coordinate responses to liquidity crises. The suboptimal U.S. system managed to survive for generations with help from various government programs and regulations introduced over the years. In 1914, the U.S. had 27,349 banks, 95% without any branches. During the Great Depression of the 1930s, 38% of all U.S. banks—many of them in agricultural areas—suspended operations, causing a widespread contraction of credit. As late as the mid-1990s, most small business loans made by banks were to companies located less than 51 miles away. It was in the 1970s, though, that the unit banking system began to crack. Inflation turned interest rates negative, giving strong incentive for companies to park their funds in new money market funds and in interest bearing accounts abroad (hence the rise of shadow banking and the Eurodollar market). With a prohibition on paying interest to depositors, banks had to compete for funds by offering ridiculous prizes like toaster ovens. In addition, the invention of automated teller machines (ATMs) made it much easier and more cost efficient to open branches beyond a bank’s home state. Further pressure to deregulate came with the advent of computing power that made it easier for banks to assess creditworthiness without needing to be physically close to their customers. American banks were also losing market share to rivals overseas. And the sector was battered by the Savings and Loan crisis, a fall in oil and crop prices, changes to real estate tax laws and the collapse (and subsequent bailout) of Continental Illinois Bank in 1984. Sure enough, regulations were relaxed, and by the 1990s, large banks with nationwide branches began forming. A wave of bank mergers followed. Did this make the U.S. banking system more structurally sound? Yes, for a time, until new economic and political forces resulted in the 2008-09 financial crisis. They include reckless lending to unqualified homebuyers, extremely lax regulatory oversight and—according to Calomiris and Haber—an alliance between bankers lobbying for deregulation and urban activists seeking to increase home ownership through more lending.

Looking ahead

  • 5G: The Wall Street Journal looks at what’s holding back the rollout of 5G telecom in the U.S. The industry’s Big Three—Verizon, AT&T and T-Mobile—have all made ultra-fast 5G a centerpiece of their marketing campaigns. But the service and speed customers are currently getting isn’t really that different from 4G, at least not yet. The current average 5G speed in the U.S. is 67 megabits per second, according to the report, compared to 366 in South Korea. Speeds should improve as the carriers build more towers and other infrastructure. But progress has thus far been stunted by several headwinds. One is the limited access carriers have to the mid-band spectrum most useful in providing 5G service—much of it remains in government hands, used by the military or agencies like the National Weather Service. (The government did auction $81b worth of mid-band spectrum earlier this year). There’s another reason for the slow rollout: 5G will be used by many more devices than 4G, thus a need for lots of new equipment, much of which is manufactured by the Chinese firms ZTE and Huawei, both subject to U.S. import restrictions. What’s more, 4G was a huge breakthrough in enabling video streaming and the app economy. A textbook example is Uber—4G was fast and reliable enough to let people hail rides from their phones. But 5G? No killer apps yet. And besides, the Big Three carriers ultimately weren’t the ones that captured most of the financial benefits of the 4G-enabled apps—it was the app builders themselves (like Uber) that benefitted. This makes the Big Three somewhat more reluctant to invest in 5G, though they do see potential in offering it to companies alongside consumers. In doing so, however, there’s the possibility that companies ignore the Big Three and build internal 5G networks on their own.
  • Crypto Economy: One of the most common arguments among crypto bulls goes like this: Crypto is currently where the internet was in its early days. Not true, says one of the most prominent crypto bears. Economist Nouriel Roubini, speaking on a Goldman Sachs podcast, says the internet was much farther along after a decade of use, with billions of users and lots of useful applications including email. Crypto, he scoffs, has maybe 100m users more than a decade after the advent of Bitcoin. Transaction costs remain high. And some two-thirds of applications involve what he describes as either trivial fads like Crypto-Kitties or outright scams and Ponzi schemes. Much of the rest, Roubini adds, are decentralized exchanges that have low transaction volume and limited liquidity. The real revolution, he asserts, is in non-crypto fintech. Companies like Square, Venmo and PayPal are disrupting areas of finance like payments with near-complete disregard to blockchain technology. What’s far more useful is their pioneering use of artificial intelligence, built on mass data collection. Other fintech disrupters, meanwhile, are introducing scalable and secure solutions in areas like borrowing and lending, credit allocation, insurance and asset management. Many are already profitable. Some companies, he points out, are using private But that defeats the central goals of the crypto enthusiasts. Private blockchains are not by definition public and permissionless. They’re not decentralized. And they don’t outsource the trust factor to a dispersed network of computers (aka miners). The fundamental problem with crypto, in Roubini’s eyes, is that “trust cannot be created by technology.”

Champions of Capex

Last week, the Progressive Policy Institute (PPI) published its 2020 list of the U.S. economy’s top spenders on capital investment. Capital expenditure is critical to an economy because of the productivity gains it’s designed to generate. And productivity gains are ultimately what makes an economy wealthier. Note: the list focusses on non-financial firms only.

  • Look at 2020’s list compared to the first list the PPI published in 2011. Oil companies are less prominent today, reflecting a shift toward renewable energy already underway.
  • Also note just how massive Amazon’s investments are. The telecom sector remains capex heavy too, with the rollout of 5G its current focus.
  • The PPI did say that in 2020, total U.S. capex dropped 7% amid the Covid crisis, which could be contributing to today’s supply bottlenecks. Will the decline have any longterm effects on productivity? Maybe not, because capex this year has been up strongly. Examples of big investments include Intel’s plan to build more foundry capacity, Google’s work on quantum computing, Facebook’s bet on virtual reality, Duke Energy’s spending on nuclear power and the auto sector’s big bet on electric vehicles. And of course Amazon continues to invest massively in many different areas.
  • We’ll give the last word to The Economist, which writes about a post-Covid capex boom now underway: “Businesses are starting to invest in huge numbers. In America capital spending (or capex) by companies is rising at an annual rate of 15%, both on the hard stuff, such as machines and factories, and intangibles, like software.”




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