El-Erian: The ‘New Normal’ Is Over

Politicians are in the driver’s seat, the economist says — will they speed ahead or crash?

Mohamed El-Erian (Photo: AP) Mohamed El-Erian (Photo: AP)

The markets are assessing President Donald Trump’s failure to enact health care reform last week and how this misstep could impact the future of his broader pro-growth policy agenda.

They will continue to watch these developments closely, says Mohamed El-Erian, chief economic advisor of Allianz SE, as the global political economy attempts to wrestle itself (at least somewhat) from the hands of central banks.

“The road that we’ve been on for such a long time, the so-called ‘new normal,’ is coming to an end, because it’s being eaten up by its own contradictions,” said El-Erian, during an interview on Bloomberg TV.

“The good news is if we pivot to a policy-driven recovery in growth and a boost in earnings. If not, we can go the other way,” he explained.

The economist predicted some of the fallout from Trump’s inability to overturn the Affordable Care Act earlier this month.

“By going on health care first, he may reduce the probability of getting tax reform in the summer,” El-Erian said two weeks ago on Bloomberg Television. “You use up a lot of political capital going with health care first, so that’s the thing the market should look at closely — the sequencing of policies.”

Growth Conundrum

The economist and author of The Only Game in Town: Central Banks, Instability and Avoiding the Next Collapse, pointed to an issue that Trump raised during the election campaign: Economies have had slow, steady growth since the financial crisis but require new catalysts to move further ahead as well as leadership beyond that provided by monetary organizations.

“If we do not make that transition — and it is a big if — we’ll find out that central banks are less effective at repressing financial volatility and less effective at promoting growth,” El-Erian explained.

“The political system is going to get more complicated, politics will contaminate economics even more,” he said. “And then markets are going to have to ask themselves, does it make sense where valuations are given the economic and political background?”

The currently high level of cash holdings may work to cushion any potential fallout.

“I think we have a couple of years … ,” he said. “As long as there’s cash, that is going to limit the market reaction. But there’ll come a time when that’s no longer going to be there.”

Interest Rates

While central bankers are shifting out of their role as economic stimulators in general, the Federal Reserve is going from “following the markets to leading the markets” with its rate hikes, according to the economist.

“This is a really interesting time for central banks and a hard time for central banks — especially if you don’t get the policy breakthrough in D.C.,” El-Erian said.

Two weeks ago, he discussed the rate hike producing lower government bond yields and higher stock markets during a CNBC interview.

"That is why people are calling it the 'Goldilocks Fed,' " El-Erian said. "And that's why I like to call it 'the beautiful normalization of rates.' You can normalize rates without disrupting risk assets."

--- Check out El-Erian Says Trump Loses Capital by Tackling Health Care First on ThinkAdvisor.

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