Pimco's El-Erian Says Fed QE2 May Backfire, Spur Global Currency Tensions

The Federal Reserve’s plan to buy $600 billion of Treasuries to spur the economy will probably backfire, said Mohamed A. El-Erian, Pacific Investment Management Co.’s chief executive officer.

Some of the money pumped into the U.S. will leak out to other nations, strengthening currencies in countries that need weaker exchange rates, El-Erian said in an ft.com article. That increases the risks other nations will impose capital controls and trade protectionism, he wrote in the article, published on the website of Newport Beach, California-based Pimco, which runs the world’s biggest bond fund. The Fed may also need to carry out more easing beyond the current round, he said.

“The rest of the world does not need this extra liquidity,” El-Erian wrote. “Several emerging economies, such as Brazil and China, are already close to overheating. And the eurozone and Japan can ill afford further appreciation in their currencies.”

The Thai baht approached a 13-year high and Bangko Sentral ng Pilipinas Governor Amando Tetangco said low U.S. yields will drive money out of America. The Fed retained its pledge to keep the target for overnight bank lending near zero when it announced its asset purchases yesterday.

Its buying is known as quantitative easing because it aims to increase the quantity of money in the economy. This round is being called QE2 because the bank also scooped up debt last year.

The baht rose 0.1 percent to 29.72 per dollar, according to data compiled by Bloomberg. It gained to 29.63 yesterday, the strongest level since July 1997. Rising currencies make a nation’s goods more expensive to overseas buyers.

Flows Into Asia

Money may continue to flow to emerging markets, Philippine central banker Tetangco said today in a mobile phone text message.

“Funds will flow into Asia to take advantage of the better economic conditions than the U.S. and that keeps the trend of currency appreciation in the region in place,” said Kozo Hasegawa, a Bangkok-based foreign-exchange trader at Sumitomo Mitsui Banking Corp., Japan’s third-largest bank.

The Fed won’t be able to bring down U.S. unemployment by itself, El-Erian wrote in the article, “Blunt QE2 Instrument Likely to Backfire.” The U.S. jobless rate has been above 9 percent since May 2009.

“The unfortunate conclusion is that QE2 will be of limited success in sustaining high growth and job creation in the U.S., and will complicate life for many other countries,” El-Erian wrote. “With domestic outcomes again falling short of policy expectations, it is just a matter of time until the Fed will be expected to do even more.”

To contact the reporter on this story: Candice Zachariahs in Sydney at czachariahs2@bloomberg.net; Wes Goodman in Singapore at wgoodman@bloomberg.net.

To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net.

Bloomberg reserves the right to remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.