Americas Quarterly - Spring 2009

asK tHe eXPerts

MoHaMed a. el-erian is CEO of PIMCO and author of When Markets Collide: Investment Strategies for the Age of Global Economic Change, winner of the 2008 FT/Goldman Sachs business book of the year award.

MoHaMed answers:

Realization is finally sinking in that today’s crisis goes well beyond a cyclical slowdown. We are in the midst of a global, synchronized recession that is fundamentally re-defining economic, financial and institutional relationships. The resulting structural changes are consequential for the long-term growth of the global economy and the potential for poverty alleviation.

When economic and financial cycles turn, they inevitably catch some segments of the global economy offside. Recessions deepen until these segments are able to get back onside through balance sheet rehabilitation; alternatively, and less common, they can be compensated by the entry of a sizeable new wallet.

AP Photo/MArk LennihAn

Having been caught offside, we are witnessing today the simultaneous contraction of four massive segments: housing, finance, industrial nation consumption, and emerging market demand. With the negative feedback loops working overtime, it is virtually impossible for any of these segments to endogenously get back in shape. As market failures multiply, the global system looks to help from a new balance sheet—that of the government.

Policymakers are clearly willing to resort to bold measures. Yet such willingness does not translate into immediate policy

effectiveness. Policymakers have to navigate the crisis with incomplete information, blunt instruments and sociopolitical constraints. They find themselves miles away from anything that resembles a first best. Yet they have no choice but to plod on.

The 2009–10 outlook depends on the success of a policy “big bang” as defined in two ways. First, a simultaneous move to normalize housing, finance and demand; and second, an internationally coordinated effort to ensure that national policies are complementary and not conflicting.

The long-term outlook is even more challenging. The global system has to adapt to three major structural changes: a consolidation of the financial system that reduces credit available to fund productive activities; a high degree of government ownership and control of some key institutions; and a dramatic increase in precautionary behavior as individuals and companies shift from an age of entitlement to an age of thrift.

We are in the midst of a truly historic time for the global economy. Societies are looking to policymakers to counter previously unthinkable economic and financial dislocations. Yet we should also be realistic about what policymakers can do. There is simply no immediate reset button. Instead, we are all on a bumpy journey to a new destination.