Mohamed A. El-Erian is the chief economic advisor for Allianz SE. Before joining Allianz, Dr. El-Erian held positions as chief executive and co-chief investment officer of PIMCO and president and CEO of Harvard Management Company, the entity that manages Harvard’s endowment and related accounts. Dr. El-Erian was also a managing director at Salomon Smith Barney/Citigroup in London and spent 15 years with the International Monetary Fund in Washington, DC.
Dr. El-Erian has published widely on international economic and finance topics. His 2008 best-seller, When Markets Collide, was named a book of the year by The Economist, and one of the best business books of all time by The Independent (UK). He was one of Foreign Policy’s “Top 100 Global Thinkers” for four years in a row, and is a contributing editor for the Financial Times. His newest book – The Only Game in Town: Central Banks, Instability and Avoiding the Next Collapse – is another New York Timesbest-seller.
He replied to my questions in an email exchange on November 15.
What is your assessment of the overall health of the U.S. economy? In particular, do you agree with the narrative that the low unemployment rate (4.1%) indicates that we don’t suffer from a lack of aggregate demand?
The US economy is gaining momentum, on a standalone basis and as part of a synchronized pickup in global growth. This process would be turbocharged were Congress able to work with the administration to pass pro-growth measures, including tax reform and infrastructure. And, on the demand side, it would be further aided by an increase in the labor participation rate and higher wage growth in response to the sharp decline in the unemployment rate.
Last month, you wrote that investors must consider whether they are placing implicit bets on three scenarios: endogenous economic and financial healing, long-awaited policy breakthroughs and bigger liquidity waves. I’d like to ask about each of these. You’ve expressed optimism that the U.S. and Europe are on a path to sustained growth. Are you as optimistic about China and Japan?
Yes. All three factors have been important drivers of the impressive rally … and not just in stocks, but also other risk assets. They speak to actual liquidity support and endogenous economic improvements being reinforced by the prospects for policies that unleash the economy’s stronger growth potential. It is a critical policy handoff in order for fundamentals to eventually validate asset prices.
As regards the other two countries you ask about, China continues to navigate one of the most difficult phases in development economics – what the technocrats call the “middle income transition.” It’s a phase that requires changes to how the economy operates, and it is one that calls on the Chinese government to implement midcourse adjustments as needed.
Japan is in a tougher structural position, having acquired cyclical movement forward but lacking the secular momentum that China has. As such, it is even more critical that Prime Minister Abe’s recent poll victory translate into the implementation of what the government has called the “third arrow” – that is, measures aimed at improving growth responsiveness.
With regard to policy breakthroughs, what specific measures would be most positive for economic growth?
Tax reform, infrastructure and de-regulation, followed by further improvements in the actual and future functioning of the labor market – that in the context of educational reforms and greater skill acquisition. And all accompanied by better international policy coordination, including in order to reduce currency and trade tensions.
With regard to liquidity, you wrote that investors have been “enticed to become increasingly exposed to historically illiquid asset class segments.” Are there any of those historically illiquid asset classes that investors should be wary of, because their liquidity will not withstand a market downturn?
Yes, those whose dedicated investor base is relatively narrow in comparison to the potentially more volatile “cross-over” money that has flowed in. As an illustration, this would include parts of the high yield corporate bond markets and certain segments of emerging markets.
On November 1, you said that the Fed is on a “beautiful normalization” as it ends its easy-money policies. Could you elaborate?
The reference to a “beautiful normalization,” a phrase that I adapted from Ray Dalio’s concept of “beautiful deleveraging” which he popularized a few years ago, speaks to the Fed’s ability to stop asset purchases (QE), hike interest rates, and set out a plan for gradually reducing its $4.5 trillion balance sheet – all this without disrupting markets or derailing economic growth. I suspect that the Fed is able to continue on this orderly path of gradual and careful normalization of monetary policy.
The big question in central banking has morphed and migrated. It refers to whether more than one systemically important central bank – and, perhaps, as many as four more (the ECB, the Bank of Japan, the People’s Bank of China, and the Bank of England) can eventually also normalize at the same time.