5% Rates, Bessent's Failed Gamble & What Comes Next w/ Krishna Guha | The Real Eisman Playbook Ep 78

Krishna Guha · Evercore ISI

Quantitative easing did stimulate demand, though Walsh is right that it was overdone.

Guha disagrees with Eisman's view that QE did nothing for the real economy. When policy rates hit zero in a deep hole, central banks must push down longer-term rates by buying assets. That lifts asset prices and creates wealth gains that support consumer spending. It also lowers the corporate cost of capital, because company borrowing rates track government yields plus a spread, which encourages more investment. He thinks Kevin Walsh sees QE as justified in market seizures like 2008 and the early pandemic, but as overdone when continued after recovery, at large cost to the balance sheet and asset prices.

“I don't agree with the premise that quantitative easing didn't have any stimulative effect on the economy... So I personally believe strongly that QE did contribute to demand.”at 8:36

Krishna Guha · Evercore ISI

Walsh will shrink the Fed balance sheet gradually, waiting for calmer bond markets.

Guha says Walsh still wants a smaller balance sheet and has not given up on that goal. One of his five external task forces is studying how the Fed should run its balance sheet. Walsh knows that announcing large sales of Treasuries and mortgage bonds would push long-term rates higher, so he will move carefully. Guha expects him to wait for a window when bond conditions stabilize and yields come down, then reintroduce a plan to gradually reduce holdings.

“I think he's gonna proceed carefully... I think he's going to look for a window of opportunity when bond market conditions stabilize, when yields come down some, where he can start to reintroduce a plan to gradually reduce the bond holdings of the Fed and to shrink that balance sheet.”at 12:19

Krishna Guha · Evercore ISI

The neutral Fed funds rate will stay higher for several years because of the AI investment boom.

Guha argues bond investors now see a shift from too much saving chasing too few investment opportunities to a world of strong demand to invest, driven by a multiyear AI build-out. Part of the savings pool is also absorbed by government borrowing. He calls this a medium-term strong demand world in which the neutral rate, or r-star, must be somewhat higher than before. He describes that as the normal policy rate over the next several years.

“bond investors looking at the prospects of a multiyear AI investment boom... this is a kind of medium term strong demand world where the normal interest rate is just gonna need to be a little higher.”at 13:50

Krishna Guha · Evercore ISI

Walsh's removal of Fed guardrails has helped drive rates markets to run rampant.

Guha argues that past Fed chairs, at least Greenspan for half his tenure and his three predecessors, saw it as their job to put guardrails around markets by explaining the Fed's thinking and strategy. Walsh has stepped back from that, and Guha believes this has contributed to recent rates-market moves, alongside AI investment, debt issuance, war and oil. He agrees with Walsh that narrow, specific forward guidance is risky and should be an emergency tool. He disagrees with dropping broader road-map guidance on the strategy and reaction function, since markets overshoot and guessing the Fed's criteria is inefficient.

“[Walsh] has removed those guardrails, and that has contributed, in my view, to rates markets running rampant over recent weeks.”at 23:57

Krishna Guha · Evercore ISI

Greenspan earns top marks for macro management but poor marks for financial regulation.

Guha splits his verdict on Alan Greenspan. On macroeconomic management he gives a very high mark, around 9 or 10 out of 10. On regulation he gives a much lower mark, about 3 or 4 out of 10, because Greenspan largely believed markets were self-disciplining and self-equilibrating. Guha argues those views contributed importantly to the lack of financial stability regulation that the country paid a heavy price for in the financial crisis, though he says Greenspan was by no means solely responsible.

“It was very, very good. You'd have to give him a nine out of 10, maybe even a 10 out of 10.”at 38:08

Krishna Guha · Evercore ISI

Bernanke will be viewed very favourably; his crisis tools arguably saved the world twice.

Guha argues history will view Ben Bernanke very favourably, given the extraordinary challenges he faced that were not of his making. He credits Bernanke's financial-market interventions that stabilised the banks during the crisis and his innovations in Fed policy, including QE and forward guidance, which proved their worth in the middle of the financial crisis. Guha says the world will never thank the Fed for what it did, and that the same tools were pulled out again to deal with COVID. He concludes these tools arguably saved the world twice, and that Bernanke's Fed stood between the US economy and a return to the Great Depression.

“Bernanke's Fed stood between The US economy and a return to the Great Depression.”at 41:01

Krishna Guha · Evercore ISI

Yellen had a very good record, keeping rates low longer to heal the labour market.

Guha rates Janet Yellen's record as very good. She was not the Fed leader at the moment of maximum peril, so she did not make the historic contributions Bernanke did. Early on she identified deep structural issues holding back the US economy in the recovery from the financial crisis. She judged the Fed needed to keep rates very low for much longer than many expected to foster a fuller labour market recovery. Guha credits her leadership for the good years of growth and the fuller healing of the labour market that followed, placing her slightly below Bernanke.

“Yellen figured out something quite early on, which was that there was some fairly deep structural issues holding back The US economy in the recovery from the financial crisis.”at 42:21

Krishna Guha · Evercore ISI

Powell deserves extraordinary credit; Trump's policies, not Powell, blocked the final soft landing.

Guha gives Jay Powell extraordinary credit for running the Fed through COVID and threats to Fed independence. He acknowledges Powell was slow to grasp the strength of post-pandemic inflation, but calls that forgivable. Powell applied a more aggressive version of Bernanke's stabilisation, backstopping private borrowing, which prevented a GFC-scale crisis in 2020. When inflation rose, Powell moved aggressively to catch up with a fast tightening cycle, shrinking the balance sheet and raising rates quickly, and achieved a soft landing that most economists thought unreachable. Guha argues the Fed was on track to bring inflation to target without wrecking the labour market, but the Trump administration's trade war and then a Mideast shooting war, oil spike and AI demand boom derailed that last mile. He says that failure is more fairly placed at Trump's door than Powell's.

“the fact that he wasn't able to deliver that last mile of the journey was, I think, you know, is, I think, more fairly placed at Trump's door than his.”at 47:29

Krishna Guha · Evercore ISI

Rising long yields are driven by AI hyperscaler debt, the 6%-of-GDP deficit, and oil, not by Walsh.

Guha calls the rise in long yields a classic perfect storm. AI hyperscalers are issuing large amounts of debt, and the government runs a deficit of about 6% of GDP, so more borrowers compete for the same savings and push up the rate they pay. Bond investors also see a multiyear AI investment boom that raises demand for capital. Oil and refined products add inflation pressure. He says these fundamental factors, not Walsh's communication, are what is moving yields.

“First of all, you have a ton of debt issuance by the AI hyperscalers... And, of course, as we know, the government's running a massive deficit already, 6% of GDP.”at 13:06

Krishna Guha · Evercore ISI

Scott Bessent's buyback program failed to damp yields and may have hurt Treasury credibility.

Bessent's buyback program, funded by issuing short-dated T-bills to buy longer bonds, was announced in August and expanded later. Guha says the program was too small for a roughly $40 trillion market, so it could not stabilize yields, and ten-year yields near 5.25% show it did not work. He adds that it may have hurt on net because serious governments like the US don't usually intervene in their own debt markets. Doing so signals to investors that the government is struggling to place its debt. He also says the intervention may have been a reaction to the market move, a point he credits Bessent for not escalating.

“it looks pretty clear that [Bessent] did not succeed in damping down these yields. And arguably, this may have actually on net hurt them rather than help them. Because of credibility issues.”at 31:23

Steve Eisman · The Real Eisman Playbook

The 10-year yield rising above 5% so fast makes the economy's slowdown threshold a real worry.

Eisman notes that markets now move mainly with oil prices and the 10-year yield. The 10-year has risen from about 4.5% to well over 5% in a very short time. He argues people are getting nervous because at some level of long-term rates the economy starts to slow. Nobody knows exactly where that rate is, but he says the market is getting closer to the Rubicon.

“the ten year has marched from 4.5% to well over 5% in a very, very short period of time.”at 48:17

Steve Eisman · The Real Eisman Playbook

Bessent's $6B Operation Twist failed; it is far too small against a $40T Treasury market.

Eisman describes Scott Bessent's Operation Twist, in which the Treasury issued short-term bonds to buy about $6 billion of long-term bonds. He argues the size is far too small against a roughly $40 trillion Treasury market, calling it bringing a butter knife to a gun battle. Whatever one thinks of Bessent, Eisman says the operation has clearly failed, because long-term rates have marched significantly higher since.

“At this point, it seems like it's clearly failed, because long term rates have marched significantly higher.”at 49:48

Krishna Guha · Evercore ISI

US inflation is heading down; tariff inflation is rolling out of the data and oil won't cause a lasting impulse.

Guha says inflation data has improved, with a cooler summer, and that the labor market is in good shape. He expects tariff-driven inflation to drop out of the numbers fairly soon, and says it is already moving that way. He sees no evidence that oil will create a lasting inflation impulse, so he expects inflation to keep gradually coming down. He still calls the Fed's decision to take out some inflation insurance defensible.

“My view on inflation is still relatively constructive. I do think it's heading down. I do think that the tariff inflation is gonna drop out of the numbers fairly soon. It's already going that way. I don't see any evidence that oil is going to create some kind of lasting inflation impulse.”at 3:48

Krishna Guha · Evercore ISI

Diesel and jet fuel have risen far more than crude, pushing up inflation and bond yields.

Oil has been rising again since the ceasefire broke down in early summer, and diesel is at all-time highs. Looking only at WTI or Brent, or at pump gasoline prices, understates the pressure because refined products such as diesel and jet fuel have risen much more. Guha says diesel has roughly doubled in a short period, a move on the scale of oil near $200. That energy complex is adding to inflation and pushing bond yields higher.

“you're not getting the full picture because refined product like diesel and jet fuel has actually increased a lot more than you would think... diesel prices have doubled in a relatively short period of time.”at 15:17

Krishna Guha · Evercore ISI

The AI-driven economy is less rate-sensitive, while non-AI parts already feel strain at 5%-plus yields.

Guha argues the AI story is much less sensitive to interest rates than normal business activity. For a company expecting a very high return on AI investment, borrowing at 6, 7, or 8% makes little difference, and recent evidence shows the AI sector has been resilient. The economy in aggregate can therefore tolerate higher yields than before the AI boom. That is a two-part story, though. The non-AI economy, such as a mom-and-pop store or an old-economy business, is already feeling strain at a 5% handle on yields and is seeing crowding out.

“The AI story is plausibly a lot less interest rate sensitive than other types of normal business activity... the economy in aggregate is probably less sensitive, can tolerate higher yields than it did in the past.”at 32:54

Krishna Guha · Evercore ISI

Housing is bombed out at 7% mortgage rates, with no sign of a near-term turnaround.

Guha says the rise in long yields is crowding out borrowing in other sectors, and housing is the ground zero. Mortgage rates around 7% have left the housing market completely bombed out. He sees no sign of that turning around anytime soon.

“Ground zero for this is the housing market. Housing is completely bombed out because mortgage rates are 7%. And there's no indication of that turning around anytime soon.”at 34:47

Krishna Guha · Evercore ISI

AI stock gains may come under pressure if long-term borrowing costs rise to around 6%.

Guha says AI investment itself is not yet significantly impaired by current rates. That would need long-term borrowing costs to rise further, perhaps to around 6%. At that level, AI stock price gains could start to come under pressure. He links this to the wealth effect that supports consumer spending, since AI stock gains are a key part of that wealth.

“That might require rates to go... Long term borrowing cost to go even significantly higher from here, say six and or something. But we might be entering into territory where the AI stock price gains start to come under pressure.”at 35:23

Krishna Guha · Evercore ISI

Consumer spending is propped up by top-end wealth gains, so a stock selloff would hit spending.

Guha describes the economy as very sensitive to wealth effects. AI investment spending largely goes on imports such as chips, while AI-linked consumption is mostly spent at home by people whose stocks have risen. Consumers who are otherwise squeezed by wages, gasoline, and cost increases are being carried by big wealth gains at the top. If the stock market sells off under ten-year yields near current levels, the resulting negative wealth hit to the consumer would be a major problem.

“we are now in an economy that is very sensitive to wealth effects... the consumer spending as a whole is being held up by these big wealth gains at the top.”at 36:09

Krishna Guha · Evercore ISI

Trump's trade war caused an initial inflation wave as import prices rose, now rolling over.

Guha says the Trump administration launched a trade war that created at least an initial wave of inflation because imported prices shot up. By the point the tariff impact was starting to roll over, the Mideast war had pushed oil higher, and the AI demand boom added difficult judgments. He presents the tariff-driven price shock as a real but temporary inflation impulse that was fading before the other shocks hit.

“Trump comes in, launches a trade war, which of course creates at least an initial wave of inflation because imported prices shoot up.”at 46:57