Tuesday evening, the Financial Women’s Association of New York hosted a sold out, members only event featuring Dr. Mohamed El-Erian, CEO & co-CIO of PIMCO. Dr. El-Erian discussed the changes facing the financial markets, the US, and the world, as we navigate what he has coined “the new normal.”
Interviewer Michelle Caruso-Cabrera, analyst and reporter at CNBC, opened the evening by asking what the US Treasury’s first ever issue of a negative yield meant in terms of inflation. Dr. El-Erian said, “It tells you the economy is having some trouble gaining strength.”
But on a broader scale, he continued, “it’s an indication that the unthinkable and the improbable, or at least what used to be unthinkable and what used to be improbable, is not only possible but is the reality.”
Dr. El-Erian believes that rather than simply resetting after the recession, the market is head in a totally new direction – one that is now a structurally different institution. “We came up with the idea that the system wouldn’t reset, that this is the ‘new normal’.” Dr. El-Erian said that the new normal is characterized by slow growth, persistently high unemployment, more political involvement in economies, and a much flatter distribution of outcomes.
The New Normal and Politics
Caruso-Cabrera asked Dr. El-Erian what the current economic situation meant for politics, and he said that the Obama administration had made three underestimations.
First of all, he explained, the government did not see that the change in the market was structural. “We are used to credit being abundantly available. When credit is abundantly available, we do lots of things that don’t make sense.” Now, he said, the economy is reorienting itself.
The administration also underestimated “how quickly the banking system would return to profits while Main Street suffers.”
And third, it did not understand that this is part of a global realignment. And because of these three reasons, policy outcomes have consistently fallen short of policy expectations.
When asked what he would have recommended to the President, he joked that, ever since working at the IMF he had a policy of never making outgoing phone calls. But, if it had been up to him, he said he would have created structural reforms, better social safety nets, and a bit of quantitative easing (but not as much QE as is taking place now).
He also said that we need to expect governments to participate strongly in the markets moving forward, and that this will cause other market players to act differently. “Non-commercial players change the rules.”
He explained by telling a story. He has recently started playing board games with his 7 year old daughter – particularly the game Risk. “I used to win every time,” he said. But now that his mother-in-law joins them, he frequently loses. He explained, “My mother-in-law’s objective is to knock me out – which is not the game’s objective. It’s her objective. When she starts playing, I change my behavior. I can’t ignore her.”
He continued, “People underestimate what it’s like when you have non-commercial players – not playing to win, but playing for social reasons.”
Dr. El-Erian also discussed the need for a social safety net, for the individuals who have lost their jobs or way of life, during the transition to the new normal. Regarding the economic recovery, he said, “We declared victory too early. We need to protect the peace.”
“We have structural unemployment,” he continued. “I really worry about this issue. …The numbers are terrifying. More than half of the unemployed have been unemployed for more than half a year,” he said adding that the longer someone is unemployed, the harder it is to get a new job.
“Whole industries are not coming back. We have a responsibility to provide a social safety net.”
He added, “This is really hard stuff. We don’t have a playbook.”
Outlook on Greece
Dr. El-Erian created a stir earlier Tuesday when he had commented a conference sponsored by the Economist, that he believed Greece would default on its loans within 3 years.
Tuesday night he explained further, “I worked at the IMF for 15 years, and I have never seen a country deliver on the sort of [program] Greece has agreed to.”
Caruso-Cabrera asked how the situation in Greece compared to that of Argentina in the 1980s. Dr. El-Erian responded, that while the case is similar, Argentina’s case wasn’t as bad in terms of collateral damage. But, he continued, “The big difference is because of the neighborhood. Greece is in a better neighborhood, because it has rich neighbors,” who will help mitigate the damage.
Editor’s Note: Copies of Dr. El-Erian’s new book When Markets Collide were provided to event attendees courtesy of McGraw-Hill.