Mohamed El-Erian, CEO and co-CIO of Pimco, spoke to Bloomberg Television’s Betty Liu, Mike McKee and Jon Erlichman this morning. He talked about Greece’s debt crisis, QE2 and whether QE3 should be on the table, as well as the IEA oil reserve release.
El-Erian said that the efforts to resolve Greece’s crisis risks contaminating the entire system because they don’t address structural problems. Excerpts from the interview can be found below, courtesy of Bloomberg Television.
El-Erian on Greece:
“Greece, unfortunately, has two fundamental issues. It has too much debt and it cannot grow enough. What the response so far has been let’s treat this as a liquidity problem, not a solvency and growth issue. One year into a massive bailout every indicator in Greece was soft. And other parts of Europe have gotten contaminated, including the ECB. If you continue with this approach, which is treating Greece as a liquidity problem, not a solvency problem, not only do you not solve it, but you risk contaminating other parts of Greece.”
On a default in Greece as the only way out for the Eurozone:
“[Default] through a restructuring. Identify the problems are a solvency issue, address it, and then try to safeguard other parts to minimize fundamental contagion. We will get technical contagion, but that tends to be temporary and reversible. What Europe should to be doing and working hard at is minimizing fundamental contagion.”
“Let the technical contagion play out. Market participants understand what that is. It will be a disorderly process for a while, but the markets will find a footing. The critical thing is not to contaminate the whole system. That is what we are risking day in and day out if we continue with a liquidity approach for a solvency issue.”
On the IEA releasing crude oil reserves today:
“What we are seeing is that the governments are getting more and more sucked into the markets. Phase one in the fourth quarter 2008 and 2009 was about governments normalizing markets. The phase two, August 2010, when Bernanke was talking about QE2, was about governments trying to push up valuations to get as all to feel wealthier and spend more. But then we get good and bad inflation. Phase three, and today is an example of that, is governments are coming in and trying to distinguish between good and bad inflation. The problem with all of this is that markets get very nervous when a non-commercial player comes into the market and you’re seeing that today.”
On Bernanke’s press conference yesterday:
“I was surprised that [Bernanke] did not go further yesterday. He said the slowdown is partly due to temporary factors. The U.S. faces structural headwinds. In order for us to regain the growth rate and overcome unemployment, we have to overcome these structural headwinds. The Fed is only starting to realize that. Yesterday was a step toward that, but not big enough. We need to make that step if we are willing to get growth higher and unemployment lower in the U.S.”
On what the Fed could do to address the structural problems:
“They need help from other agencies. If you look at what the four structural issues are–they are housing, bank credit, public finances, and the functioning of the labor market. These are things outside the domain of the Fed so to expect the Fed to do the heavy lifting is too ambitious. Other agencies have not yet stepped up the plate in a coordinated fashion. ”
On QE2 and whether QE3 should be on the table right now:
“QE2 is to increase asset prices within QE2, getting growth higher. We got the first phase, but not the second phase. That is not surprising because in order to get the second phase, you have to overcome the structural impediments. Now the economy is in this very uncomfortable position where we have a wedge between fundamentals down here and valuations that have been pushed up by QE2. QE3 would be also unlikely to meet the ultimate objective, which is a better economy.”
On where he sees crude oil three months from now:
“I suspect a lot will depend on whether this is a one-step process or whether the IEA and the consumer countries are trying to give a bigger signal. If you look at the numbers, it is not a huge issue. But what the markets are waiting on is the signal about government involvement. It is hard to predict the actions of a non-commercial player in the market. Over the next few months, I think we will see a tremendous amount of volatility not only in oil, but other asset prices.”
On what it will take to get companies hiring and spending again:
“If you look at economic spending, there is cash available. There is a wallet, but not the will. When you go to the upper income households that are doing fine, it is the question of will. For the will to be there, you need greater clarity. Need greater clarity about the outlook, global growth and what policy makers want to do. Until we get that clarity, a lot of people will be keeping their cash in their pockets, unfortunately.”
On where he sees equities and bonds in the next few months:
“This is the bumpy part of it. People are starting to recognize that there are some major realignments going on. Over the next few months we will see unusual amount of volatility in the market…It is going to be a volatile and messy process. People should have dry powder because there will be lots of opportunities to become a good assets for cheap prices.”
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