World Finance Chiefs’ Patience Ebbing as Pimco Sees Slump
Pacific Investment Management Co., which runs the world’s biggest bond fund, is forecasting that advanced economies will stall over the next year as Europe slides into a recession, underscoring mounting investor concern about the global economic outlook.
There will be little-to-no economic growth in industrial nations in the coming 12 months as Europe’s economy shrinks by 1 percent to 2 percent and the U.S. stagnates, said Mohamed El- Erian, chief executive officer of Newport Beach, California- based Pimco. That will leave worldwide expansion at about 2.5 percent, less than the 4 percent forecast by the International Monetary Fund this year and next.
Such gloomy sentiment dominated weekend talks of policy makers, investors and bankers in Washington, where the IMF and World Bank held their annual meetings. The Dow Jones Industrial Average suffered its biggest loss since 2008 last week as the Federal Reserve said risks to the U.S. economy had increased and Europe’s debt crisis went unresolved.
“For the next 12 months, the global economy will slow materially with advanced economies struggling to grow much above zero,” El-Erian said in a Sept. 24 interview in Washington. “Emerging economies will maintain faster growth, albeit not as high as the last 12 months.”
Former U.S. Treasury Secretary Lawrence Summers said he has been to 20 years of IMF gatherings, and “there’s not been a prior meeting at which matters have had more gravity and at which I’ve been more concerned about the future of the global economy.”
Stocks rose today, with major European bourses rebounding from last week’s declines. Ten-year U.S. Treasury note yields increased six basis points to 1.90 percent at 1:30 p.m. in New York, rising from near a record low. The euro dropped to a decade low against the yen.
Finance ministers and central bankers urged European officials to intensify efforts to contain their 18-month debt crisis as Greece teetered on the edge of default. U.S. Treasury Secretary Timothy F. Geithner called on governments to unite with the European Central Bank to beef-up the capacity of their 440 billion-euro ($594 billion) bailout fund, warning that failure to act threatened “cascading default, bank runs and catastrophic risk.”
Bank of Canada Governor Mark Carney estimated 1 trillion euros may have to be deployed. U.K. Chancellor of the Exchequer George Osborne said a solution is needed by the time that Group of 20 leaders meet in Cannes, France, on Nov. 3-4.
“Patience is running out in the international community,” Osborne said. “The euro zone has six weeks to resolve this political crisis.”
Whether “the markets will accept the luxury of six weeks grace remains to be seen,” said Jim O’Neill, chairman of Goldman Sachs Asset Management in London. “In the interim, policy makers will have to feed markets with hope as to what might arrive in November and then not disappoint.”
Reports this week may reinforce the sense of weakness, with economists predicting that U.S. consumer spending slowed in August and confidence among European households and businesses fell to its lowest since February 2010.
Memphis, Tennessee-based FedEx Corp. (FDX), operator of the world’s biggest cargo airline, cut its full-year profit forecast last week amid declining demand in the U.S. and Asia. CEO Fred Smith nevertheless said he expects sluggish economic growth rather than a recession.
Billionaire investor George Soros said “something needs to be done” to safeguard Europe’s banks because Greece may be unable to avoid default. The IMF said last week that the turmoil has generated as much as 300 billion euros in credit risk for the region’s banks and advocated capital injections.
German Chancellor Angela Merkel said euro-region leaders must erect a firewall around Greece to avert a cascade of market attacks on other European states that would risk breaking up the currency area. “We have to be in a position to react,” Merkel said late yesterday on ARD television. “We have to be able to put up a barrier.”
Reluctant to boost the actual size of the rescue fund for fear of antagonizing taxpayers, European policy makers hinted they may soon heed Geithner’s advice and use leverage to increase its firepower. They said parliaments must first ratify a July plan to broaden its remit to include bond-buying and aiding banks. German Finance Minister Wolfgang Schaeuble and European Financial Stability Fund CEO Klaus Regling played down speculation the ECB would be needed to increase the fund’s heft.
“Wait a few more days,” said Regling, when asked for details.
One option is for the facility to provide guarantees to investors in government debt so it will take the first losses in the event of a default, said David Mackie, chief European economist at JPMorgan Chase & Co. in London
Finance officials will also discuss this week speeding implementation of a permanent rescue plan by a year to next July, according to a working paper obtained by Bloomberg News. ECB Governing Council members Ewald Nowotny and Luc Coene signaled in interviews in Washington that the central bank may say next week it will begin offering banks unlimited liquidity for as long as a year. Policy makers will also debate restarting their covered-bond purchases, a central bank official said.
Greek Finance Minister Evangelos Venizelos said his country “wants to make it and will make it” and that it will always be a member of the euro area. Prime Minister George Papandreou said yesterday that the EU must take “strategic decisions” and that the end of the global economic crisis “appears even more distant.”
German Deputy Finance Minister Joerg Asmussen said officials won’t be in a position to discuss the next tranche of aid for Greece when they meet on Oct. 3 because a report by advisors has been delayed.
While the IMF vowed to “strongly support” Europe, Managing Director Christine Lagarde warned its $384 billion war chest may not be enough to meet all aid requests if the world economy worsens. The current lending capacity “looks comfortable today but pales in comparison with the potential financing needs of vulnerable countries and crisis bystanders,” she said.
The world economy will find some support from emerging markets, which will grow 4.5 percent to 5 percent over the next 12 months, and Japan’s 1.5 percent expansion, El-Erian said.
El-Erian popularized the “new normal” term to describe how growth patterns in the world economy changed after the worst recession since the Great Depression. The firm under-performed most of its bond mutual fund peers this year after a February decision to eliminate U.S. Treasuries from its Total Return Fund backfired as the securities rallied.
JPMorgan Chase Chief Economist Bruce Kasman said in Washington that Greece is already insolvent and headed toward a depression that will roil the euro area. His team revised their forecasts last week to show the region entering a recession in the next quarter and the ECB cutting its key interest rate on Oct. 6 to 1 percent from 1.5 percent.
“I fear very much that the situation will deteriorate further before it improves,” Axel Weber, the former president of the Bundesbank, said in Washington yesterday. “We will see much more drastic action” by policy makers if the situation in financial markets gets worse.
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