El-Erian On Whether The World Is Near A Tipping Point

Tyler Durden's picture

It's another day, which means the probability of a Mohamed El-Erian op-ed is 99%. However, while in the past we may have ridiculed these now almost daily missives which lead many an LP to wonder just which media double of the real El-Erian is managing Pimco's $1.4 trillion in AUM, this one is actually worth reading as it ties in the recent developments out of Japan, with the firm's previous insistence that there will be no QE3. Oddly, this party line still has not changed: "Some will undoubtedly call either for a QE3 or for the extension of
QE2. Others will warn against this type of “active inertia” in
policymaking, noting that the repeated use of such an instrument will
likely shift further the balance of outcomes away from “benefits” and
towards what Chairman Bernanke, in his Augst 2011 Jackson Hole speech,
correctly labeled as “costs and risks”. And remember, these costs and
risks – or what at PIMCO we have analysed as collateral damage and
unintended consequences – have consequential economic, financial, and
political elements that play out both domestically and abroad. Taking all this into account, our inclination is that the hurdle rate
for introducing a QE3 will prove to be very high, and rightly so."

World Near Tipping Point?

  • Much of the potency of policy responses has been used up in the successful efforts since 2008 to avoid global depression.
  • The longer the persistence of supply disruptions, the greater the risk of core inflation increasing.
  • Questions about the end of quantitative easing in the U.S. pose a challenge for policymakers.

interview was originally published on blogs.FT.com on March 21, 2011.
In this interview, Mohamed El-Erian responds to questions from readers
of beyondbrics, an FT.com blog focusing on emerging markets.

How to invest in a crisis?

beyondbrics reader: How do you see the events of recent days
impacting commodities prices and land prices, especially in emerging and
frontier markets that produce grains? Which sectors will benefit?

Due to the tragic events in Japan and to the Middle East uprisings,
the world economy is currently undergoing both a supply and a demand
shock; and it will continue to do so over the next few months.

On the supply side, national and cross-border production chains are
being disrupted by the horrific events in Japan and the high and
volatile price of oil, a key input for many activities. On the demand
side, consumption is declining in Japan, the third largest economy in
the world, while a greater share of consumers’ income all over the globe
is being devoted to energy and away from spending on other goods and
services. And all this comes on top of a generalized, multi-month surge
in commodity prices due to demand-and-supply imbalances, as well as the
adverse externalities of policies in some advanced economies.

Emerging and frontier economies, as well as advanced ones, are
impacted differently depending on their initial conditions and their
composition of trade.

At a general level, the biggest gainers will be the oil exporters who
are not currently impacted by geo-political uncertainties. These are
located mainly in the set of emerging and frontier economies (e.g.,
Angola, Gabon, Ghana, Indonesia, Nigeria and Russia) but also in the
advanced world (e.g., Norway).

The worse impacted are large net importers of commodities who also
depend heavily on manufacturing exports and tourism. Many, though not
all, of these reside in the advanced world and emerging Asia.
Fortunately, they have higher levels of income and wealth to act as a
buffer in the face of adverse external shocks. The ones in the
developing world face greater challenges.

As regards sectors, it is also a story of differentiation, both across and within sectors as well as over time.

For example, the energy complex may well continue to benefit in the
next few months though, within this sector, there will be increasing
questions about the future of nuclear power. Meanwhile the non-tradable
sector in advanced economies, most importantly real estate, will likely
face renewed headwinds. Similarly for some areas of tech and, to some
extent, autos, which may face production delays die to Japan’s role in
the vertical supply chain.

In addition to these country- and sector-specific issues, there is an
important macro question that we should all keep on our radar screens:
In aggregating the impact of all these exogenous shocks, how close is
the world economy getting to an unfavourable tipping point?

This question assumes growing importance and complexity given that
much of the potency of policy responses, be they fiscal or monetary, has
been used up in the successful efforts to avoid the global depression
that would have followed the 2008 global financial crisis.

Benefits for central bankers?

beyondbrics reader: Can the current new wave of uncertainty
tangibly decrease inflationary expectations – by slowing down the hike
in commodity prices and by triggering a move out of equities to
high-grade bonds – and, if that is the case, could this make life easier
for central banks in commodity-dependant emerging economies like
Brazil, under a lot of strain from currency appreciation and high

A great question that involves many intricate dimensions and interactions!

The reality and uncertainties of a demand shock would, in themselves,
act to reduce inflationary expectations. In monetary policy
terminology, the demand destruction would cause headline inflation to
converge down to a low and well-behaved core inflation level.

But, as explained in the response to an earlier question, the demand
shock is being accompanied by a supply shock which has the opposite
effect. Indeed, the longer the persistence of supply disruptions, the
greater the risk of core inflation converging up to the more elevated
headline inflation rate.

This latter phenomenon tends to be more pronounced in emerging
economies where food is a larger part of the consumption basket.
Moreover, the policy dilemmas you cite, including the linkage between
tight monetary policy and complicating surges in capital inflows, tend
to impact the effectiveness of anti-inflationary measures.

What about your questions on asset classes? Needless to say, the
asset allocation effects of all the ongoing shocks are complex, to say
the least, as one must also take into account developments in real
economic activity and the technical positioning of markets. As an aside,
this speaks to the recent pick up in both realized and implied
volatility in many asset classes over the last few weeks.

When faced with these uncertainties, investors must be clear about
what they think and, equally importantly, how they think it. This
relates essentially to the robustness and adaptability of analytical
underpinnings and the underlying frameworks.

At PIMCO, we found it advisable to complement our existing frameworks
with what my colleague, Bill Gross, has labeled “safe spreads”. The
operational test is the identification of expected high real returns –
that is, expected nominal returns adjusted for the evolution of risk
factors (e.g., inflation, liquidity, volatility, credits and equity
premia, etc…), as well as changing correlations across markets.

In its practical application, this concept serves to qualify in an
important manner some long-standing conventional distinctions that, we
believe, are less valid today – be it the one between advanced and
emerging economies or the conventional notion of “safe spread” in
government bonds.

Will Japan buy fewer US Treasuries?

beyondbrics reader: Will the Japanese disaster be an important factor for Treasuries? Will it result in less demand from Japan?

A great question, that speaks directly to how Japan will fund its reconstruction program.

After the required focus on human rescue operations and the
stabilization of the nuclear reactors, the attention of the Japanese
authorities will shift to a massive reconstruction programme to offset
the impact of the terrible earthquake and devastating tsunami. The
funding can come from three major sources: borrowing, debt monetisation,
and the repatriation of the considerable Japanese investments held

The impact on US Treasuries will depend on the exact mix of these
three. The larger the repatriation, the greater the upward pressures on
US treasury yields (and, also, the implications for some other assets

As regards demand, yes there will be a reduction in the Japanese
component as the country’s current account surplus will fall
significantly. Since global balances need to add up, the reduction in
Japan’s surplus will be accompanied by a higher surplus/lower deficit in
other countries. The net impact is what counts for US Treasuries.

Note that, according to the data issued by the US government, we have
had periods in which Japan has been a net seller of Treasuries. The
impact was offset by purchases by other countries, most notably China,
with similar asset preferences for Treasuries.

Based on all this, and in considering the level and composition of
the various marginal propensities to save that are in play, we are
inclined to the view that this demand effect would be also place upward
pressures on the existing level of US Treasuries yields.


beyondbrics reader: Who is going to buy Treasuries when QE2 ends in June? Will the Fed do it again?

It is not clear to us who will step in after June 30th when QE2
formally ends; and this is a challenge both for policymakers and for
current valuations in some market segments.

At current yield levels, we do not see sufficient demand coming in to
offset what the Fed has been buying, be it from domestic sources or
purchases from other countries. Meanwhile, on the supply side, we expect
the Treasury to continue with its heavy issuance program.

At this juncture, the Fed is minimising the problem by noting that
“stocks” matter more than “flows”. In other words, since the Fed has
effectively taken out a significant amount of Treasuries from the
marketplace (and they will not be selling them), other participants have
no choice but to buy the new supply. However, as others also suspect,
we think that it is much more complicated than that. And recall that the
FED has little history to guide its thinking here.

In response to your question on whether the fed “will…do it again,”
let us suppose for the sake of discussion that the economy weakens and
Treasury yields spike as we get close to the June 30th expiration of QE2
and/or in its immediate aftermath.

Some will undoubtedly call either for a QE3 or for the extension of
QE2. Others will warn against this type of “active inertia” in
policymaking, noting that the repeated use of such an instrument will
likely shift further the balance of outcomes away from “benefits” and
towards what Chairman Bernanke, in his Augst 2011 Jackson Hole speech,
correctly labeled as “costs and risks”. And remember, these costs and
risks – or what at PIMCO we have analysed as collateral damage and
unintended consequences – have consequential economic, financial, and
political elements that play out both domestically and abroad.

Taking all this into account, our inclination is that the hurdle rate
for introducing a QE3 will prove to be very high, and rightly so.

An emerging market bubble?

beyondbrics reader: Investors are reallocating their fixed-income
portfolios in order to increase their weightings in emerging market
debt, largely government bonds and issuances by SOEs with an implicit
government guarantee. Previous examples of such shifts in other asset
classes have caused unsustainable bubbles. Indiscriminate buying by
ill-informed new investors has often contributed to these bubbles. Given
the limitations of existing analytical tools, such as credit ratings,
what are the top three economic factors that investors should be
focusing on to differentiate emerging market sovereigns?

The data on mutual fund flows suggest that, in the last few months,
investors as a group have stopped allocating massively to emerging
market bonds. In fact, there have been a few weeks of net redemption
after very, very large inflows in 2010. This phenomenon is even more
acute for emerging market equities.

These flow patterns tend to be large relative to the absorption
ability of markets. As such, emerging markets tend to be subjected to
both over-shoots and under-shoots that are not warranted fully by
changes in underlying fundamentals. While these movements have tended to
decline with the gradual maturation of the asset class, they must
always be considered in investors’ decisions regarding the scaling and
timing of their allocations.

We would agree with you that it is unwise to rely just on the ratings
issued by credit rating agencies. Indeed, at PIMCO, our analytical work
eschews these ratings preferring, instead, to focus on our internal
assessments. This process of continuous re-evaluation is, of course,
part of a broader investment philosophy and process

As to the specific factors, the key is to cover those that materially
influence sovereigns’ ability and willingness to pay; and do so
pro-actively. We thus focus on solvency and liquidity variables for debt
and debt service, economic growth potential, and policy responsiveness.
This allows the continuous comparison of our forward-looking
assessments of credit with what is being priced by various segments of
the markets.

A sales tax to pay for US pensions?

If the old saying is true and demography is destiny, the
developed world faces a tsunami of pensioners over the next thirty
years. How can our economy cope with these retirees drawing down on
health care and other services, and who will pay for it? Do you see a
national sales tax in the future to pay for this?

These are critical issues that are finally attracting more attention
in policy circles. It is critical that the resulting deliberations lead
to meaningful and timely actions to pre-empt big problems down the road.

Should such actions not be forthcoming, we suspect that the answer to your questions will be yes, yes, and yes.

Yes, demographic factors are important and, indeed for some
countries, will become crucial in the years ahead and will overwhelm
more conventional economic and financial factors. This is particularly
true for rapidly aging societies that have made large entitlement
promises (pensions, health care, etc.) that they will find difficult to
deliver on.

Yes, there is a question as to who will pay and through which
mechanisms. Depending on the country, we will see a mix of higher
inflation, increased taxation, and disappointments on long-standing
entitlement promises.

And yes, we think that a national sales tax in the US will likely be
an option that will attract lots of deliberations and, potentially,

Printing money not enough for Ireland

To me it seems that the Irish government needs to print money, by
one means or another, to fill the gap left by the toxic bank assets in
Ireland. Do you agree? How could the Irish central bank do this in an
imaginative way, considering the coupling to the European central bank
and the complexities of European politics which determine how the Euro
is managed?

Let us start with the sad facts.

Ireland’s public finances have been overwhelmed, and in a bad way, by
the decision to assume so many banking sector liabilities. Because of
that, the country faces a series of potential challenges.

The huge budget hole requires a massive fiscal adjustment
notwithstanding large bail out funding from the ECB, EU and IMF. The
related uncertainties add to the headwinds facing growth and employment
creation. And membership of the Euro-zone limits policy options.

I suspect that these factors are the ones leading you to explore an
“imaginative way” for Ireland to “fill the gap left by the toxic bank
assets” – and correctly so.

Believe it or not, Ireland is already doing what you suggest. It works in the following way:

Public debt instruments are issued to the banking system which then
turns around and exchanges them for cash with the ECB, either directly
or via the Irish central bank. In effect, money is being printed.

We think that this will not be enough for at least two reasons.

First, there is an issue of size. Ireland’s toxic asset problem is
large, and will get larger if the economy is not able to quickly restore
economic growth.

Second, the type of funding that is being used is too partial. It
provides liquidity but not solvency support. As such, the protracted
debt overhang acts to discourage new investments that are key to
Ireland’s ability to grow at a high and sustained level.

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Alcoholic Native American's picture

An Unlimited budget Utopia.

Imagine if all treasuries got bought, all toxic garbage got bought. Imagine if 700 billions was just the tip of the iceberg.

Can you imagine it?

LowProfile's picture


Per Rickards, the maturing debt the Fed now owns can be used to buy $750B annually.  Instead of retireing it, they will simply purchase more debt. 

You cannow expect a minimum $0.75T bid on the market annually.

Alcoholic Native American's picture

Can't turn down guranteed returns even if projections calculate in QE.....1,2,3,4, yea right, the system is broken.

Thomas's picture

Rickards math is wrong. It argues that the banks balance sheets will not increase, which implies that the Central Banks will not be monetizing anything. Such balance sheet stability would be great, but ain't gonna happen. It's akin to saying that your interest payments on your credit card will be used to pay off new purchases.

smlbizman's picture

due you mean how my whole life policy used to work?

knukles's picture

El-Erain's missives have become more dense than Fuckushitnme's radio-nucleotide emissions.

williambanzai7's picture

This guy would have much more cred if he was not with PIMPCO. Who knows what card he is playing.

Herd Redirection Committee's picture

Yeah, exactly, his intelligence gives him cred, but his associations clearly indicate you can't fully trust the man.


"The Day The Standards Died"

DutchTreat's picture

I am going long ink, printers and trees.

mr. mirbach's picture

isn't fiat currency printed on cotton rag printing stock?  Too late to buy cotton fx? Or is that one of the reasons cotton fx is up?

DutchTreat's picture

You're probably right in respect of USD and may be a reason cotton skyrocketed. Thanks to Ben the Cotton Picker!

The fiat currency I use to buy my (soon to be priced at 1 million EUR) bread is made of paper (and (non)-precious metal).

Now that I come to think of it: I should probably also go long Ames (www.ames.com) as soon, everyone will switch from a wallet to one (or more) wheelbarrow(s).

GubbermintWorker's picture

Digital man, that's how they make money now! Paper money is so  passé!

Dirt Rat's picture

Go long on Crane Paper. They provide the paper for the banknotes, among other things. I used to use Crane paper for my hardcopy resumés.

Herd Redirection Committee's picture

You never can tell with El-Erian, he is clearly a smart guy, but it seems he is 'in too deep', or in other words, he has been compromised, and is giving us the best kind of disinformation, the kind that is 98% true!

Check out the latest from the Capital Research Institute "The Day The Standards Died":


We have spent a lot of time discussing the Gold standard and what it means to have the world reserve currency here at the Capital Research Institute. But today we want to look at something a little different, but just as crucial: the importance of accounting standards. OK, OK, I am hearing the yawns already, just bear with me! When the Financial Crisis hit in late 2008 not only did Capitalism die, when the Government decided bankrupt firms (of their choosing) should no longer be exposed to the risk of failure! The history books are going to be speechless on that one, and will simple relate: “It seemed like a good idea at the time!?!?” But what may have slipped under a lot of (non-accounting) people’s noses was that accounting standards were also effectively removed at that time. The most important of which were mark-to-market accounting rules.

HedgeFundLIVE's picture

a few things everyone should know about AT&T's proposed acquisition of T-Mobile http://bit.ly/ih0YVn

Tulli's picture

Portugal is near a tipping point: the main opposition party PSD will vote on Wednesday against austerity measures version 4.0 to be presented by the government to parliament.

The government is expected to fall as a consequence.

The rationale presented by PSD can be found here: http://www.psd.pt/?idc=4&idi=79230

As it turns out, if they get elected they prefer to go for a bailout now, rather than procrastinate.

Kool aid forever.

Tail Dogging The Wag's picture

US Army 'kill team' in Afghanistan posed for photos of murdered civilians

Commanders brace for backlash of anti-US sentiment that could be more damaging than after the Abu Ghraib scandal


The original article with three (3) pictures from Der Spiegel


InconvenientCounterParty's picture

memes are more powerful than bullets. When you hear about "winning hearts and minds" this is what they are referring to.

This hurts deeply on behalf of struggling Afgans and the altruistic young pepole in harms way. 

The "truth justice and the American way" meme, must be defended from within, which means eye-for-an-eye.

plocequ1's picture

Go long Gideons and Jack Daniels.

themosmitsos's picture

Tyler I call BULLSHIT. I'll bet we see they BTFD in TSYs in huge size

Larry Darrell's picture

The world passed the tipping point in 2008.

It's just taken this long for the downhill slide to commence.

Think about sitting in the front of the rollercoaster.

You cross the top of the hill, but you don't start the acceleration to the bottom until the rest of the coaster cars come over.

We here on ZH have known we crossed the apex long ago.  We just didn't know how many cars were behind us before the full fledged descent could commence in earnest.

fragrantdingleberry's picture

El Erian for President...of Egypt!

SWCroaker's picture

Um, when I look at a chart of the money supply, I see the Fed has been "Quantitative Easing" without an official recognition of it since, oh, about 1913.  When Hank P was our Sec Treas, we got all wrapped up in the amount of $750B.  When the Bloomberg FOIA data finally came out, it appeared that the Fed had actually been moving around $12T.

If a Fed printer eases in the woods, but there is no offical label for the MSM to report it, does it really happen?

SDRII's picture

The myth of inflation "rates" no longer matter when absolute numbers become asphyxiating/unmitigatable/unmanagable 

Cursive's picture

Taking all this into account, our inclination is that the hurdle rate for introducing a QE3 will prove to be very high, and rightly so.

Ben Bernanke:  How's SPX 950 for a hurdle rate?

LostWages's picture

It's hard to trust a man talking his book. 

Sophist Economicus's picture

Or that sports a mustache that rivals Stalin's

squexx's picture

All this shit going on, and of course the market is up 200 points just now. I want to kill every Wall St fuck I can!

Sophist Economicus's picture

Really?   Need directions or do your superhero powers breakdown when it comes to crossing rivers?

falak pema's picture

Hat tipping point to Poutin?

Leg tripping point to Q-daffy. If we can find his legs in his bunker.

Butt tipping point in Yemen, Bahrein?

Head tipping points in Angola, Gabon?

Tooth picking point on WS?

Shit tipping points in Fukushima?

Tit tickling points when they turn the light out in Tokyo?

Brazilian babe tipping points if O'b and CEOs go nuts doing the mega contracts samba?


slaughterer's picture

So when do the insitutionals start selling off equities in fear of a stop in QE?  What is the precise time line here? Do we have another "Jackson Hole" type event to pin on our calendar as a type of one-day "binary event" or will the erosion be spread across April and May as the funds slowly "front jog" the QE discontinuation and plunge?   Please, Mr. El-Erian, you should know. 

DR's picture


El-Erian says:
“The data on mutual fund flows suggest that, in the last few months, investors as a group have stopped allocating massively to emerging market bonds

Gross says in todays Bloomberg article:
“Pacific Investment Management Co. says investors should buy company debt in Russia, Brazil and other emerging markets where rising wages..”

Pimpco is trying to front run a flow back to EM…

DR's picture

"Do you see a national sales tax in the future to pay for this?.....

Should such actions not be forthcoming, we suspect that the answer to your questions will be yes, yes, and yes."

Ouch....sounds like Pimpco believes a VAT is backed into the cake!

Saxxon's picture

QE until the shithouse blows into the air.

They will buy treasuries and whatever else is necessary, to stay in power.  They will call it something else; or call it nothing.  They will tell whatever lies are necessary.

Sorry, closed loop now.

The people are just flocks; and these gauges that El Erian uses are measurements of the nutritional value of what goes into their pens and crowded cages.  The likes of Mr. El Erian are untouched.


ghostfaceinvestah's picture

Looks like we need to attack Chile next


Obama arrives in Chile on Monday, where protestors will greet him with demonstrations demanding apologies for the United States' support of President Agusto Pinochet in the 1970s and 1980s.

Early Monday morning, a small explosive device blew-out the windows of a U.S. cultural institute in Viña del Mar, on the Chilean coast. There were no reported injuries and no group claimed responsibility for the blast.

Real Estate Geek's picture

Chile--because three wars aren't enough.

Eagle1's picture

I used to compete with PIMPCO when I managed the Marine Investment Management Co. back in the mid 80's. Certainly, some of what they say at the senior level can be self serving...but you cannot begrudge their performance. They were sharp then and are sharp now.

It all boils down to the fact that we are fu**ed pretty much no matter how you look at it and one's investment strategy should be formulated accordingly.



Calmyourself's picture

George, I did not manage a large fund, so how do you adjust with no timeline for the Fu**ed portion of the party.  Money to invest but none to burn by being early in..

Stuck on Zero's picture

Fukushima will be Japan's excuse to dump US Treasuries.  "So solly." 

It will be Bernanke's excuse for QE III.  "So needed." 

tiger7905's picture

Definitely agree Fukushima makes a great excuse, see these comments by Pento on how this will play out.


zenmeister's picture

Waaaayyyy too credible....

tradewithdave's picture

Wrong.... Here's El-erian's quote; "Since global balances need to add up."

Ummm... since when are we operating in a vacuum and if that's not what he meant, what's to say that GAAP revisions and and new lifecycle accounting, new carbon credits, etc. are not two other ways to unbalance his assumption of global balances? The entirety of economics as an academic practice, based on efficient distribution of scarce resources, is being brought into question.  What model of "add up" is he talking about exactly; The new one as measured by his stated demise of the Smithian liberal Anglosphere?

This statement, unless it's a set-up, makes me want to at least reevaluate one aspect of my previous opinion on the PIMCO/Goldman cage fight.  Is it possible that the surprising regularity of the El-erian editorial feed has possibly been established for the purpose of well-timed and selective disinformation in anticipation of the inevitable reset button?  What would the motivation be otherwise?  It's not just a new economic paradigm... it's a new religion and President Obama is "calling you dude." http://tradewithdave.com/?p=5780

Dave Harrison


da sharkster's picture

Dave, can you clarify the Pimco/Goldman cage fight for me...seems Pimco bailed on Treasuries and Goldman is shorting them? Seems like they are on the same side?

sbenard's picture

From John Mauldin's newsletter this weekend, he has a very good inside-the-Fed source to suggest that QE3 is on its way:


I come to the end of the letter with a brief note on a very worrisome conversation I had yesterday with Martin Barnes, editor of the esteemed Bank Credit Analyst. Martin is one of the people I call when I want to know what the Fed might do. I guess I was looking for assurance that the Fed would not do QE3. I did not get it.
“Look, John” (insert Scottish brogue as I paraphrase), “if the Fed sees the economy rolling over into recession they will put their mandate for employment ahead of their mandate for stable prices.”
“But that would mean higher inflation in the face of a slow economy.”
“And?” he shot back. “That would just be the price of trying to increase employment, in their minds.”
“But at some point you have to bring out your inner Volker!” I intoned. “What about the future?”
The conversation continued, but I never got my warm and fuzzy assurances. For the record, another round of QE, unless there is a true liquidity crisis (and the last QE did not qualify!), would be a disaster, at least from the cheap seats where I sit. There are all sorts of inflationary and stagflationary consequences, none of which I like.

6 String's picture

Taking all this into account, our inclination is that the hurdle rate for introducing a QE3 will prove to be very high, and rightly so.

No, the hurdle rate is only there at all because the pressure Bernake is starting to receive...from Congressman like Ron Paul, to Richard Fisher, and many more.

So, their will be a QEIII. But not until things start to unravel in the summer. The Fed doesn't want things to unravel too close to June 30th...that way they can claim the "see we needed that QE shit" in time to ram in another few rounds...

So, Pimco is just waiting for the unravel part. Since they admit their isn't enough money to fund our ongoing deficits means they think treasuries will go bidless and chaos will ensue. It can't mean anything esle.

Thus, QE3 by August/Sept.