Calling President Barack Obama’s Sept. 5 economic speech “mission critical,” PIMCO CEO Mohamed El-Erian says if Congress “continues to squabble, both the economy and the market will become even more hostage to a harmful feedback loop involving the trio of deteriorating fundamentals, insufficient policy responses and disruptive technicals.”
In a Huffington Post opinion piece on Sunday, El-Erian names grim economic news, political infighting and the loss of the “sacred” Triple-A sovereign credit rating as reasons for the current fiscal woes. But he adds, “Americans' equity-heavy 401(k)'s have suffered from a volatile 16% decline in the broad-based S&P stock market index.”
“It is tempting to dismiss all this economic, political and market volatility as just the usual−volatility that constitutes irritating ‘noise’ rather than insightful ‘signals,’” he writes. “After all, economic data always fluctuate, politicians always posture, and markets overshoot both on the way up and on the way down. But, be very careful before you are opt for this seemingly comforting interpretation.”
So, how does the negative feedback loop work, he rhetorically asks? El-Erian starts by explaining its three components, beginning with fundamentals.
“The problem with a sharp growth slowdown is threefold. First, initial conditions are very worrisome, including a very high and too persistent level of un- and under-employment. Second, other parts of the world are also slowing and, therefore, there are few engines of growth. Third, the over-indebted segments of this global economy desperately need high growth in order to safely de-lever otherwise they can tip into highly disruptive debt traps.”
Calling elected representatives and their appointees “essentially MIA,” El-Erian says they have shown little understanding of the seriousness and urgency of the economic challenges.
“Endless political bickering has sapped their energy and focus. And, to make things worse, they are now positioning for next year's elections rather than today's realities.”
These factors, he says, are behind the recent sharp stock market sell-off, leading to the third element of the feedback loop: undermining the sound functioning of a market economy.
“In policy circles, there is one group that recognizes the need to break this terrible loop of weak economic/debt fundamentals, lagging policy response, and fragile market technicals. Indeed, in the last two weeks, central banks have made two dramatic (and controversial) attempts to act as circuit breakers.”
The first, he notes, was the announcement on Aug 15 by the European Central Bank that it will expand the purchasing of debt issued by member governments. The second was last week's “previously unthinkable” Fed statement suggesting that policy interest rates would remain at zero percent for two years.
“It is encouraging that the media has been picking up signals from the White House that the President intends to take economic policymaking to a higher level,” he concludes. “Let us hope that a refreshed President Obama will return to Washington willing to respond and lead; and let us hope that, for their part, members of Congress will return in a much more constructive mood, able to work with the President to break an increasingly damaging negative feedback loop.”