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Patrick: Welcome back to the Barclays Brief podcast. Last week on the show, we had a really interesting conversation between Andrew and Ronnie talking about massive numbers around AI CapEx spend from the hyperscalers, how they're going to finance that from the credit perspective, and the impact it was having on the equity markets. We want to carry on that conversation today thinking about AI CapEx, but we want to think about it from a different lens and a really interesting one. So we're going to be talking much more around macro and FX today. And there's no one better at Barclays in our Research business to talk about that than Themos, who's our Global Head of FX and EM Macro Strategy. Themos thanks so much for joining me here today.

Themos: Thanks for having me. And indeed it has been interesting in how the FX market has been slow or even numb in responding to what has been, as you say, earth shattering numbers, 

Patrick: Earth shattering numbers, numb. There are some big words that we can use around this trend. Now, what you wrote in your note, that's just been published. The note is called ‘An AI revolution for the dollar’ You said that the FX market is operating in a ‘parallel universe’ to the equity market. What did you mean by that?

Themos: Sure, so you have private sector, highly successful private sector, US companies pledging what is more than $3 trillion over the next five years, and the FX market is doing nothing. A few months back, only when Germany announced about a sixth of that spend in terms of infrastructure spending investment spend, or spread over twice the time, the FX market was moving a few percentage points. So there's a pretty big disparity in how the market is addressing the two different market reactions to it.

Patrick: You're talking about huge numbers here again. And yet the FX market seems kind of numb to it. We've obviously done lots of work on prior investment booms. In the note, you talk about, the 50s and 60s when we had the durable goods boom. We have talked about the investment in the internet in the 90s.

So what are the key lessons from history and what normally happens to the dollar when you have these massive investment booms? 

Themos: So in this note, when we took a look back, into previous investment cycles, it was very interesting that some of the lessons held true across a very wide cross-section of cases, whether you looked at technologically driven booms or just simple investment booms for other reasons. Whether you looked at, the US, other G10 economies or emerging markets, some things held true across the board. You had a higher GDP growth rate than average as a result of that, you had a very large, unusually large investment contribution to GDP. But contrary to what you would have expected from standard identities, in economics, the external balances and even the current account improved, which is a statement of the fact that the economy just operated at a higher equilibrium, and that just drove the currency stronger by a few percentage points per year for on average and across these economies.

Patrick: Okay. So how does that history that you've done all this work on resonate with what you're seeing and observing with the US tech sector and the dollar in the market at the moment, 

Themos: It's not too dissimilar to the cloud revolution, if I can use the same word, has been a crucial element of dollar strength for the last decade, let's just say. You've had a pretty big increase in profits share of income for the US. You've had a pretty big accumulation of profits and a few companies that are dominant in the sector. And they have absorbed, revenue from outside the US and the combination of a bigger revenue from outside the US and capital invested in those profitable companies has been a key driver for dollar strength.

Now, as we can draw a parallel from that, you can definitely think a few things: First of all, when you look at the actual spending, you can get a sense that the US has been spending more and more in services that are vulnerable to AI and could be reshored. And some economies such as the UK, Sweden, but also in Emerging Markets, India or the Philippines could stand to lose from that shift.

But also geopolitically, given that AI is a very big part of defence, national security information, data sovereignty, you could be creating strategic dependencies even for big countries like Europe or Japan that have less capacity or less instinct to invest as fast in what is becoming a bifurcated world, where only the US and China are engaging in this very fast, very aggressive arms race in AI.

And that obviously benefits, the US for relative to a number of other economies, other currencies. 

Patrick: Right. So, in the interest of keeping it simple, you're basically saying it's a two horse race between the US and China. Is that fair?

Themos: That's fair. 

Patrick: Okay. Right. But that makes sense. But what doesn't make sense is this lack of, movement in the dollar right now, given these massive investment, across AI in terms of CapEx.

So what's going on here? Because if the dollar isn't moving, there must be some risks to that fairly simple narrative. And if so, what are those risks? 

Themos: The first one is a fairly straightforward one. We're going through a period of indigestion. The amount of issuance is enormous. And there are some questions on whether the market will allow in terms of spread or, other kind of opportunities will allow that kind of enormous financing.

So we need to go through that period of ingestion, make sure that this CapEx spend will be financed and will take place. To some degree, the market could be going through some kind of, delayed response because of backward narratives that have been troublesome so far, like Fed independence, you know, shut down government shutdown risk, data quality, etc..

Again, that's something that we could transition out of at some point. What I think is also contributing here is that for the best part of the of the past few months, we have been discussing de-dollarization, and that theme still lingers in the heads of a number of investors as a big risk to the greenback.

Patrick: Yeah, it's interesting, isn't it, because if we rewind a year, the market was expecting a dollar rally as President Trump took office. Then the narrative changed to widespread concern. And this narrative around de-dollarization as the tariffs were announced. So where are we now in that debate? 

Themos: I would say that it's a smaller or more marginal debate than people imagined it to be. In the beginning of the year. It is basically we haven't seen the capital outflow that would be associated with a investors abandoning their dollar assets. In fact, we have seen rapid inflows over the last few quarters. We also have not seen the reserves from officials, the official sector being wound down very aggressively from the dollar and the infamous hedge ratios, they have stopped increasing. So people haven't been hedging the dollar risk in a more aggressive way. At this point. However, what we have seen is that there is some diversification flow that has benefited smaller assets. It's not that big to have an impact on something as big as the dollar, but it's definitely meaningful for a place like Gold, which you touched upon in your great podcast with Ajay, or even some emerging markets that are beneficiaries of that diversification trend.

Patrick: Let's just dig into that for a moment. Talk about gold. And Ajay talked and argued that the surge in the gold price was about a distrust, in FAIT regimes reading at the moment about China, buying up more gold than perhaps others thought. So what's going on there? And is that purely related to dollarization, in your view?

Themos: I would say that the gold price has definitely benefited from central bank purchases. We have monitored that in our research, together with a delayed response of gold to accumulated inflation. I would say that there are some dollar pairs that are benefiting from that outright.

And what I find the most interesting, because some of them could be benefiting for tactical reasons. What I find more interesting is that in some of those currency pairs in Emerging Markets, you could see some strength against the dollar and definitely against other currencies. Virtue of the fact that they themselves will be beneficiaries of the big AI trend, namely the AI CapEx cycle, will need a lot of metals, rare earth metals, copper, aluminium, and those can be found in a concentrated way in a number of emerging economies.

And in some smaller G10 economies, places like Chile, Peru, Australia, Indonesia, they all stand to benefit from that. Andrea Kiguel, my colleague has written an excellent, part of our Outlook around what could be a potential CapEx cycle. Related to metals related to the AI investment cycle in these economies. And the early innings of those cycles tend to be very beneficial for those currencies.

Patrick: Okay. So I think we'd need a whole new podcast to talk about that investment in metals, we've got a huge amount of interest in the gold price, lots of discussion about distrust of FAIT regimes. We've got a mini or maybe massive, rise and super cycle in metals like copper. We've got huge amounts of dollar investment in AI CapEx and still FX markets are a little bit stale. So what happens next? What's changing in the narrative? And what do you think the kind of key question or debate will be for you next year? 

Themos: Maybe it's the, Greek in me speaking, not being too enthusiastic about what's going on in the US, what's going on in Europe in response to that. But I do think that the disparities are going to be widening up, and I do think that the dollar will be, strengthening – not everywhere, not against those metals, investment destinations, etc. perhaps not against China, where all the spend that is there, but definitely relative to major currencies such as the euro.

And this is part of, this story that underlies an upgrade to our dollar views, which we have done in our recent outlook, just published 

Patrick: A perfect way to finish Themos. Thanks so much for joining me today.

Themos: Thanks for having me.

Patrick: Okay, so as I walk out of the room today, I think the key takeaway for me is that if the US tech companies AI CapEx plans do materialize, the impact could be economically and geopolitically completely transformational for the dollar.

But there are short term headwinds that the market will have to navigate, and we're going to be keeping a very close eye on that here at Barclays. 

Clients can read more from Themos and all of our analysts on Barclays Live and there's a link in the show notes. And don't forget to subscribe to the podcast wherever you're listening.