There are a few people in our business that we should all listen to; not because they can foretell the future, but because they have made the effort to ground their notions about the future of the economy and the investment markets.
Well-grounded assessments often lead to more accurate descriptions of future conditions. Mohamed A. El-Erian is one of these guys, in my estimation.
In his new book, “The Only Game in Town”, El-Erian sets out a compelling case for the end of central bank intervention in the economy and the investment markets.
He believes we are approaching a “T” intersection: political policy makers can either reestablish real growth in the world economies or continue subpar growth, falling family incomes, increasing welfare payments, and a very low participation in the private economy by the working age population.
Current markets seem to indicate that investors are confused about the future. Investors appear convinced that the actions of the central banks around the world are now at best ineffective and are causing severe dislocations in saving and investment decisions as well as mispricing the price/risk of money.
The investment markets have fallen about 20 percent since last spring. Moreover, the decline in the markets has accelerated this year. Bond prices have risen and yields have declined. Indeed municipal bond prices have been performing much better than equities since last April.
According to El-Erian, we are approaching a major decision point in the management of the economy. You may recall El-Erian and Bill Gross introducing the notion of a “New Normal” as we headed into the central bank easing and various quantitative easing policies of the Federal Reserve from 2009-2014. Europe, Japan, and China all followed with similar policies.
These massive efforts led to very slow economic growth, very slow pickup in employment, a lot of financial engineering in the private sector, a low rate of participation in the economy by folks of working age, and declining incomes for middle class households in the United States. This is now the New Normal. As El-Erian points out, investors are now realizing that the tools available to the central banks (monetary policies) are insufficient for solving our economic malaise.
Accordingly, El-Erian points to the need for the governments of the world to begin to implement effective fiscal policies to start to cure the problems in the economy. We might be at the point where investors are no longer convinced that the central banks can help the markets.
Investors are now hoping for political solutions from Congress and the White House. They are looking for Japan to implement fiscal changes that have until now been largely missing and they are looking for Europe to remove all the restraints on their economies to allow growth to occur again. It seems implausible that our lawmakers will move towards growth policies after seven years of inaction. The story is the same in Japan, in Europe, and in China.
There is reason to hope that we won’t screw up this opportunity to fix the economy to make it work for everyone. After all, Reagan took a moribund economy nearly destroyed by the policies of the Nixon, Ford, and Carter administrations and started the greatest recovery in the United States in decades. I recommend reading El-Erian’s book to understand what has happened in our economy and in the investment markets and what might lie directly ahead. Few writers offer the alternatives with such clarity.
