#426 Danielle DiMartino Booth: Warsh Could Slam the Economy Into Recession — Fed Day Reaction

Danielle DiMartino Booth · QI Research

Lisa Cook's dissent looks political, and she gets a vote at every meeting while district presidents rotate off.

Cook has been less outspoken than Hammack, Logan or Kashkari, so her dissent came as a surprise. The timing followed the president attacking her again on Truth Social over the mortgage case, and Danielle argues the case has a math problem because she paid a higher rate on the second home. She reads the dissent as a retaliatory, political move: if they keep going after her, she will go after them. Because Logan, Kashkari and Hammack roll off the rotation after the December meeting, Cook's vote counts at every meeting from then on.

“it felt like a very political move on her part.”at 3:28

Danielle DiMartino Booth · QI Research

Warsh's hawkish hold risks tightening markets and slamming the economy into recession, with an emergency cut bad optics.

She reads the October hold as hawkish, with Warsh unwilling to call financial conditions tight even though credit has tightened. If financial markets keep tightening, the Fed could hike or hold restrictively and push the economy into recession, the way markets tightened in late 2018. She also argues that an intra-meeting emergency cut would be a bad look for Warsh. She describes his press conference as word salad that gives the market no clear signal, and says the Fed is ignoring the weakening labor and inflation-breadth data it should be following.

“In theory, if the financial markets continue to tighten, then ... Fed chairs are not allowed to let credit risk run wild.”at 13:46

Danielle DiMartino Booth · QI Research

A $100B IPO pipeline will drain liquidity before year-end, offsetting the usual post-midterm stock rally.

She notes that stocks historically rally after midterm elections, but a $100 billion IPO is still coming down the pipeline. That supply will pull liquidity out of the system. Her view is that year-end liquidity will determine the market's direction, and the IPO supply works against the seasonal tailwind into year-end.

“there's still this $100,000,000,000 IPO coming down the pipeline, which is going to take liquidity out of the system.”at 8:24

Danielle DiMartino Booth · QI Research

Hyperscalers must keep issuing debt to fund data centers, while capital costs rise and ROI doubts grow.

Data-center construction is a continuous cycle that requires fresh capital. Her evidence is that no hyperscaler came to the market in May or in September, and computers and peripherals industrial production fell month over month in May. Each time hyperscalers do come to market they have to pay up, and investors are growing nervous about the return on investment. Because the funding has to keep rolling over, she sees a tightening capital backdrop as a risk to the AI buildout.

“And the reason I say the hyperscalers must continue to take on debt. They have no choice.”at 8:49

Danielle DiMartino Booth · QI Research

Low jobless claims mislead; only one in four unemployed collect benefits, and many are underemployed in gig work.

Warsh highlights how low jobless claims are, but she says only about one in four unemployed Americans are receiving jobless benefits, so the claims data understates slack. Many people are underemployed and stuck in the gig economy because they have to pay the rent. She also says the Fed is ignoring long-term unemployment and labor-market scarring, which typically appears in recessions. She thinks the Fed's labor description is the widest gap between the Fed's view and reality.

“as you've heard me say in the past, only one in four unemployed Americans are collecting jobless benefits.”at 10:16

Danielle DiMartino Booth · QI Research

Companies like Whirlpool and Sherwin-Williams report no pricing power as Americans can't afford higher prices.

Whirlpool and Sherwin-Williams are saying they lack pricing power. Margins are being squeezed because Americans cannot afford to pay up, so these companies are cutting costs and firing people. She argues this shows the inflation debate should move past sourcing, and that weakness in household demand and rising layoffs are the story.

“We're gonna fire more people as a result because we have to cost... Cut cost because our margins are getting squeezed because Americans cannot afford to pay up.”at 14:49

Danielle DiMartino Booth · QI Research

Inflation breadth is narrowing, so Warsh's own breadth test points to easing rather than hawkish caution.

At Jackson Hole Warsh said he watches the share of inflation inputs rising 3% or more in a month, and that inflation is spreading when that share is above 50%. Anna Wong estimates the breadth measure will fall to 38% on a six-month moving-average basis, and below 50% year over year. Danielle says there are fewer sources of rising prices than when he spoke at Jackson Hole, so he should be following the breadth measure he himself recommended, which doesn't support the hawkish stance.

“Anna estimates that that'll be 38% on a six month moving average basis and under 50% on a year over year basis.”at 17:42

Danielle DiMartino Booth · QI Research

AI spending is more than all US GDP growth, so the rest of the economy is contracting and AI growth has peaked.

She argues that more than 100% of US GDP growth is coming from AI spending, plus a defense-spending kicker, which implies the rest of the economy is contracting. She also says the growth rate of AI spending has peaked and turned, citing Warsh's own emphasis on second derivatives. Anna Wong's work on AI inputs to inflation shows those growth rates have also peaked. Together these suggest the economy's growth depends on an AI capex wave that is already decelerating.

“More than 100% of gross domestic product growth is coming from AI with the defense spending kicker. That means the rest of the economy is doing... Is contracting.”at 18:41

Danielle DiMartino Booth · QI Research

The Fed is underestimating credit-market tightening; Warsh's claim that conditions aren't tight is disingenuous.

The credit market has already done a lot of tightening for the Fed in the last few weeks, yet hyperscaler credit spreads have not come in much. Warsh said he was unwilling and unable to call financial conditions tight, which she calls highly disingenuous given that tightening. She compares it to 2018, when the junk bond market shut down on Halloween, the stock market sold off into Christmas Eve, and the Powell pivot followed on January 4, arguing Fed chairs cannot let credit risk run wild. The main risk she sees is that credit markets turn 'angry' and drag down the AI trade.

“The Fed is underestimating the credit market.”at 20:28

Danielle DiMartino Booth · QI Research

A shock to the US AI trade would spread globally, and the AI trade is shaky if credit markets turn.

She cites an IMF report warning that if anything happened to the AI trade in the US, it would have contagion effects globally. Foreigners have been selling Treasuries for years and loading up on US corporate bonds and US stocks, and everyone has piled into the AI trade. She argues the recent weeks show that the AI trade becomes very shaky if credit markets get angry, which ties the AI-valuation risk to the credit backdrop.

“The IMF came out with a report warning that should anything happen to the AI trade in The United States, it would have contagion effects globally because everybody's piled in hand over fist to the AI trade.”at 20:54