Sep 24, 2020

Axios Capital

By Felix Salmon
Felix Salmon

This time next week, it's going to be the fourth quarter of the year. After how crazy the first three were, it'll probably be very boring, with not much happening, so your friends will have lots of time to read Axios Capital, which they can subscribe to here.

  • In this week's newsletter I look at just how impressively the third quarter is likely to beat early expectations. Plus: items on money laundering, the problem with prepaid debit cards, equity outflows, and more. I also talk a bit about Trump risk; do let me know if you see that continuing into the fourth quarter.
  • The whole thing is 1,839 words, which will take you 7 minutes to read.
1 big thing: The American paradox

Illustration: Aïda Amer/Axios

It's the rebound economists didn't see coming.

Why it matters: America did nothing that should have been necessary to really get the economy moving again. We didn't get the coronavirus under control, and we gave up on fiscal stimulus after a single short-lived round of it.

  • Nevertheless, we're about to close out by far the strongest quarter of economic growth in American history.

By the numbers: On an annualized basis, the U.S. economy is going to grow about 25% this quarter, according to the Wall Street consensus. The previous record growth rate was 16.7% in the first quarter of 1950.

  • Reality check: The economy is still producing much less, with many fewer workers, than it was pre-crisis, and probably won't regain those levels before 2022. Second quarter GDP plunged at a -32.9% rate — vastly worse than the previous postwar record of -10% seen in the first quarter of 1958.

Few expected a rebound this fast and this steep. Back in June, when coronavirus cases were declining quite quickly, the Fed expected that we would end the year with unemployment at 9.3%, and saw the economy shrinking by 6.5%.

  • Today, with coronavirus deaths still at their June levels, the Fed is much more optimistic. It sees 2020 ending with unemployment at 7.6% and an economy that has shrunk by just 3.7%.
  • In real numbers, that works out to almost 3 million extra jobs, and $600 billion in economic activity, over and above what the Fed expected just three months ago.

Be smart: We might only be a week away from the end of the quarter, but there are still massive error bars on how well the economy is doing. A New York Fed model shows 14.3% growth this quarter — which would be extremely disappointing — while its Atlanta Fed counterpart shows 32% growth. Needless to say, such divergence is unprecedented.

  • We won't get an actual GDP figure until Oct. 29, and subsequent revisions to that number could be large.

The big picture: While the economy is certainly doing better for the rich than it is for the poor, even the poor, in aggregate, are rebounding from the depths of the recession.

  • Axios' Bryan Walsh has the long list of those who aren't doing better, including most prominently the 26 million Americans who remain on unemployment rolls.
  • The better the broad recovery, the less effort that policymakers will make to help those who, through no fault of their own, are being left out of it.

My thought bubble: Economists are bad at forecasting large moves. That's why the 2008 crisis came as such a shock, and it's also why the magnitude of the third-quarter rebound this year is so unexpected.

The bottom line: When you're navigating uncharted waters, no one is going to be able to talk with certainty or authority about the effects of fiscal policy, monetary policy, or COVID-19 prevalence on broad economic growth.

  • What we thought we knew turned out to be wrong. That's par for the course in macroeconomics.
  • The excess economic growth explains some — but only some — of the stock market's impressive showing of late. There's still a lot of room for stocks to fall, if sentiment turns.
2. America's recovery, in 3 charts
Data: FactSet; Chart: Axios Visuals

The expected duration of the pandemic has been growing steadily since March, and with it the amount of time that it will take to get the U.S. economy back to full health.

  • Expectations for third-quarter growth, however, have been rising steadily — even without another round of stimulus.
Data: Federal Reserve; Chart: Axios Visuals

If you had an unexpected emergency and needed $400, would you pay for it with cash?

  • In 2013, only 50% of Americans said yes to that question — a fact that has caused a lot of dubious rhetoric on the left. Still, the time series is impressive: Today, 70% say yes.
  • In households earning less than $40,000 per year, the number answering yes spiked from 39% to 48% just between October 2019 and July 2020.
Data: TransUnion; Chart: Axios Visuals

Most households are still earning less money than they were pre-pandemic. But even here the trend is positive.

3. Trump risk rises for companies

Illustration: Aïda Amer/Axios

Donald Trump fancies himself a businessman — and has given himself a central role in determining the conduct and even the existence of major companies both domestic and foreign.

Why it matters: America has historically been a great place to operate a company under the rule of law, and not be beholden to political whim. Those days seem to be over — at least for companies in the communications industry.

Driving the news: The TikTok saga isn't over, but what we already know is that the future of this $60 billion company was directly threatened by President Trump and that Trump's unpredictable decision-making has already been key to its continued survival.

  • Trump has barely paid lip service to the idea that he's making his decision on national security grounds. Instead he talks about his friend Larry Ellison, the CEO of Oracle, which is looking to take a 12.5% stake in TikTok, or about a fund that may or may not teach children "the real history of our country."
  • Ellison's private conversations with Trump have been much more important than technical findings about the sanctity of American user data.

The big picture: TikTok is at heart a speech platform, which raises First Amendment issues for anybody seeking to ban it. Those issues are already front and center with respect to Trump's attempted ban of WeChat.

  • Trump attempted to get CNN president Jeff Zucker fired as a precondition for approving AT&T's acquisition of Time Warner, according to new reporting from the NYT's Ben Smith.
  • He has also banned private federal contractors from including discussions of systemic racism in their workplace training.

The bottom line: Companies have learned that if they act in ways that Trump approves of, they will have a much easier time than if they anger him.

  • TikTok users famously reserved thousands of tickets to a Trump rally and then didn't show up, embarrassing the president; CNN, similarly, has taken an anti-Trump stance. That put both companies in the presidential cross-hairs.
4. Why money laundering persists

Illustration: Aïda Amer/Axios

2 million suspicious activity reports, or SARs, are filed by banks every year.

  • Those reports are sent to the U.S. Treasury's Financial Crimes Enforcement Network (FinCEN), which has the job of determining whether the reports are evidence of criminal activity, and whether that activity should be investigated and punished.
  • That's a massive job: It can take a team of investigators weeks or months to investigate a single report.

The catch: FinCEN only has 270 employees, which means that FinCEN is dealing with a ratio of roughly 150 reports per employee per week. So it comes as little surprise to learn that most of the reports go unread, and the activity in them unpunished.

For the record: A tiny subset of FinCEN reports — 2,100 in all — was leaked to BuzzFeed News two years ago. That kicked off a major international investigation, involving more than 400 journalists in 88 countries. After 16 months of work, their findings are now public.

  • The journalists didn't have all the tools of law enforcement at their disposal, but they did have the luxury of being able to spend as much time as they wanted on one small group of reports.
  • What they found was more or less what you'd expect: Some of those reports detailed what looks to be criminal activity by criminals. That's why they were marked suspicious by the banks.
  • Journalists can't prove that any behavior was criminal. But it does seem with hindsight that banks allowed a lot of illegal money laundering to continue.

Between the lines: We don't know how much of that activity was caught or investigated by law enforcement. But it's a safe bet that it wasn't enough.

  • We do know that the banks seem to have been generally happy to continue working with their customers after filing the SARs.
  • All too often the banks file their SARs long after the criminals have moved on. The main reason for doing so is just that it's almost impossible to prosecute a bank for abetting money laundering if it has filed a SAR on the activity in question.

The bottom line: Banks need to be an integral part of the fight against money laundering, rather than simply filing SARs to protect themselves. The entire system needs a massive technological and financial upgrade — and law enforcement needs to grow more teeth, especially when it comes to prosecuting banks.

  • My thought bubble: Money laundering persists because banks make more money when it exists than when it doesn't. The only effective way to fight it is to ensure that's no longer the case.
Bonus: When your money disappears

Illustration: Lazaro Gamio/Axios

There's a very high probability that you have a prepaid debit card in your wallet. If you do, it's probably perfectly safe.

  • Some Americans, however, work in a quasi-legal industries like sex work or cannabis, and they can find it difficult to sign up for normal bank accounts or prepaid debit cards.
  • The result is that they can end up holding their money in foreign banks that have no FDIC protection.

Driving the news: An NBC News investigation, part of the FinCEN files, shows how debit-card company Payoneer steered its sex-worker clients to a Belizean bank that ultimately went bust.

The bottom line: Prepaid debit cards are cash-like instruments that have obvious attraction to money launderers. As such, they're a dangerous and underregulated part of the financial system. If your money isn't in a U.S. bank, there's a good chance it isn't safe.

  • The crypto equivalent of prepaid debit cards is the stablecoin, purportedly backed by currency deposits at a foreign bank. That's even more dangerous.
5. Equity outflows speed up
Data: Investment Company Institute; Chart: Axios Visuals

One paradox of the recent bull-market run is that it has taken place in the face of consistent selling by investors in ETFs and mutual funds.

  • Monthly flows from actively-managed stock-market funds have been negative for years, and while flows into passively-managed funds have been positive, they have generally been smaller.

Driving the news: Now, even passively-managed mutual funds and ETFs are seeing outflows. Data from the Investment Company Institute show about $17 billion per month leaving passive strategies in the past three months — something that has never happened before.

  • One possible explanation: A lot of passively-invested money is in target-date funds that periodically rebalance. The stock market rally could have forced those funds to sell some equities, just to keep their total stock-market allocation at the target percentage.
6. Coming up: Palantir's direct listing

Illustration: Aïda Amer/Axios

Palantir will become a public company on Wednesday, writes Axios' Courtenay Brown.

Why it matters: The secretive software company has delayed going public for years.

  • Palantir shares will be listed directly on the New York Stock Exchange. It won't raise additional capital through the listing.
  • In the private market, recent share transactions have valued Palantir at as much as $18.8 billion. The public-market valuation could be very different.
7. Building of the week: Luxembourg Philharmonie

Photo: Arterra/Universal Images Group via Getty Images

Christian de Portzamparc was the first French architect to win the Pritzker Prize, in 1994.

  • He finished this concert hall in Luxembourg — generally known as the Philharmonie, but officially the Grande-Duchesse Joséphine-Charlotte Concert Hall — in 2005, after eight years of work.
  • The hall is famous for its peristyle — 827 vertical columns that filter the light coming into the building, surround the lobby, and act as a barrier providing mental distance from the nearby EU bureaucrats.
  • The Grand Auditorium has 1,500 seats, while a chamber hall seats 300. Both are home to the Luxembourg Philharmonic Orchestra.
Felix Salmon