October 31, 2012

PIMCO’s El-Erian Warns on Small-Business Hit From Hurricane Sandy

‘The upfront decline in GDP and the destruction of physical wealth will be offset over time by greater economic activity,’ El-Erian predicts

PIMCO CEO and co-Chief Investment Officer Mohamed El-Erian says uninsured small businesses will suffer the biggest impact from the Hurricane Sandy superstorm that hit the East Coast this week, but they shouldn’t expect much government help to recover from the disaster.

Also billed as “Frankenstorm,” Hurricane Sandy forced the New York Stock Exchange to close up shop for two days in a row due to weather for the first time since 1888, but El-Erian said the storm’s overall impact on GDP could be positive.

PIMCO CEO and co-Chief Investment Officer Mohamed El-Erian (Photo: AP)“Uninsured small businesses and personal sectors will be particularly badly hit,” El-Erian (left) wrote in a CNBC guest blog post, “Sandy’s Market Impact—From the Known to the Uncertain.” “The upfront decline in GDP and the destruction of physical wealth will be offset over time by greater economic activity.”

Indeed, even though the NYSE used a generator to start up operations Wednesday and local transit was limited, the stock markets were little changed on the first day of post-storm trading despite fears that volatility would be pronounced. At midday, the Dow Jones industrial average was down 43.39 points, or 0.33%, at 13,064, and the S&P 500 was down 4.53 points, or 0.32%, at 1,407.

El-Erian Pinpoints 4 Frankenstorm Outcomes

Noting that he foresees four possible outcomes due to Hurricane Sandy, El-Erian said that his first concern was for individual sectors, where distinct winners and losers are likely to emerge.

"Specific segments have suffered demand destruction, which will be difficult to reverse in the short term," he wrote. "Think here of airlines, other transportation companies, and parts of the retail sector in some of the major population centers on the East Coast. Some have also incurred higher costs. Business interruption insurance will only partially offset the hit on these companies' operating earnings."

Secondly, El-Erian believes that after an initial negative impact on U.S. gross domestic product, the impact on overall GDP will be mixed to slightly positive.

“While the balance sheet of the country as a whole has been negatively affected, there will be a boost to certain components of aggregate demand as some of the delayed activity is made up and reconstruction proceeds,” he wrote.

Tight-Fisted Government, Spotty Private-Sector Response

On the downside for the nation’s economy, El-Erian foresees a third possible consequence of the storm, which is that government policymakers may not respond as they have traditionally in the aftermath of a natural disaster. This time around, he warned, federal, state and local governments will be unable to increase spending on reconstruction and infrastructure.

“Indeed, government assistance to the uninsured and less well-off sectors—both personal and small business—has proven especially valuable in curtailing negative social and economic effects,” El-Erian wrote. “But budgets are already under pressure. Meanwhile, the Federal Reserve has already floored policy rates, limiting its ability to assist unless it goes even more unconventional.”

Private sector-led response to the disaster will involve volunteer efforts and be somewhat unresponsive to immediate emergences, fragmented and spread out over time, he warned.

And this, El-Erian concluded, could lead to a fourth yet highly uncertain outcome: congressional leaders will set their party differences aside and take action.

“Finally, there is one of the most uncertain issues in the aftermath of the storm—the extent to which the realization of limited policy effectiveness at a time of great need will entice our Congress to step up properly to the challenges of economic governance," El-Erian wrote. "This would start with the fiscal cliff and hopefully would pivot to the list of long-delayed policies."

Read PIMCO’s El-Erian: Fed Wants Inflation Now, Will Clean Up ‘Mess’ Later at AdvisorOne.

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