How ‘tapering’ of Fed bond buying could affect global growth
Mohamed El-Erian is the CEO of the investment firm PIMCO, the world’s largest bond investor. In an interview, he discusses what might affect the Fed's decision to begin tapering its asset purchases and what impact such a move may have on the global economy.
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NATHAN GARDELS: What does the reverse flow of capital out of the emerging markets back to the advanced economy due to Fed “tapering” mean for global growth?
MOHAMED EL-ERIAN: Much depends on why the Fed is tapering.
It would be good news for global growth if the Fed is tapering for “good” reasons – meaning that the central bank has strong reasons to believe that the US economy is approaching “escape velocity.” In such circumstances, the taper would signal that, after too many years of sluggish growth, the US is resuming its role as an engine of global growth.
But the Fed could also taper for “bad” reasons – that is to say that its prolonged experimentation with unconventional monetary policy threatens to create too much collateral damage and unintended consequences. In these circumstances, the taper, which involves reduced Fed support for markets and the global economy, would indicate growing policy effectiveness.
This fundamental distinction is important, as global markets will likely amplify whatever signals come out of the Fed.
In most likelihood, the Fed will taper for a mix of reasons. Specifically, it will likely be comforted by the notion that the American economy continues to heal, but frustrated by the gradualism of the recovery and the threat of collateral damage.
GARDELS: How much was the emerging economy’s development due to this cheap money? What must they do to sustain growth in the absence of low Fed rates?
EL-ERIAN: It is difficult to know for sure. Our evaluation is that the “emergence,” as you call it, has had a lot more to do with the policies implemented over the years by emerging economies and less with the monetary policy stance in advanced countries.
For some emerging economies, the Fed’s experimental policy stance has constituted a headache from day one. And countries like Brazil have been quite vocal in expressing concerns.
By venturing deeper into experimental monetary policy territory and staying there for longer, the Fed contributed to cross-border surges of private capital, which overwhelmed some emerging economies’ ability to absorb the inflows productively. This weakened the domestic financial intermediation process in these emerging economies, caused an excessive appreciation in the currency, and created pockets of financial vulnerability. Now, with talk of Fed tapering, the capital flow has reversed violently, causing another set of instabilities.
GARDELS: When the rest of the world says the US should “calibrate” its interest rate climb with others' interests in mind, what can that mean practically?
EL-ERIAN: It is a broader issue that reflects the highly interconnected nature of today’s global financial system.