El-Erian Lacks Ideas, But He’ll Make Up For It In Hyperbole

Mohamed El-Erian, net worth — I don’t know, a lot — is concerned about “the poor.”

If I wanted to be funny, I’d leave out “the” and say “poors.”

But I don’t want to be funny, because there isn’t much that’s funny about economic precarity and also because El-Erian probably is concerned about those less fortunate than himself, notwithstanding the inescapable reality that the richer one gets, the harder it is to empathize with the poor, even if you were once poor yourself or otherwise came from relatively humble beginnings.

So, I’m not out to criticize El-Erian for fretting about the impact of surging inflation on lower-income Americans. I will, however, critique his suggestion-free indictment of US monetary policy.

On Thursday, El-Erian penned an Op-Ed for the Financial Times in which he accused the Fed of succumbing to “the usual behavioral traps… includ[ing] inappropriate framing, confirmation biases, narrative inertia and resistance to a loss of face.”

As an institution, El-Erian suggested the Fed’s persistence when it comes to parroting the “transitory” narrative “seriously increases the risk of otherwise-avoidable economic, financial and social damage” as long as the data continues to come in hotter than forecast.

The problem which such criticism is that critics, when pressed, simply can’t explain how rate hikes would make much difference.

For example, after excoriating Jerome Powell and indicting “Fed hesitancy” for posing “a material risk to economic and social well-being,” El-Erian said his remarks were penned with “full knowledge” that dialing back monetary accommodation won’t solve supply chain problems or help with labor shortages which he (correctly) identified as “the two major causes of accelerating cost-push inflation.”

Let that resonate. El-Erian penned an Op-Ed called “The Fed’s inflation miscalculations risk hurting the poor” in which he explicitly acknowledged that the Fed’s calculations (or at least as they manifest in policy decisions) can’t solve the problems which are the “major causes” of the very same inflation he suggested the Fed is exacerbating through the expectations channel.

That latter part is critical. We know the expectations channel is important. Indeed, that’s the psychological mechanism through which inflation can become entrenched. But because it’s a psychological phenomenon, it’s extremely difficult to say who’s responsible for it. Is the public expecting higher prices because they know something about monetary policy largesse? Or is the public expecting higher prices because people like El-Erian are writing high-profile Op-Eds about higher prices? Or, far more likely, is the public expecting higher prices because they’re currently paying higher prices?

It’s impossible to answer those questions definitively. We can conduct polls, but that’s about it. So, folks like El-Erian have carte blanche to claim the Fed is exacerbating the situation without having to provide any evidence to support that contention.

But let’s say the Fed is partially to blame. What do folks like El-Erian suggest the Fed do? Engineer a recession so that demand simply craters and prices can’t help but fall? What happens if they try that and then lose control in the other direction leading to a deflationary spiral and triggering a malaise that ends up lasting for decades?

El-Erian (amusingly) claimed he’s trying to avoid precisely that scenario. Specifically, he argued that the longer the Fed waits to deliver “an effective monetary policy adjustment,” the more likely it becomes that policymakers will end up being “a driver of three simultaneous contractionary forces in the middle of next year.” Those forces are higher rates, potential market turbulence and a decline in the inflation-adjusted value of household savings.

Ok, fine. So far, so good. But I challenge folks to read the linked Op-Ed and tell me where, exactly, El-Erian spells out what that “effective policy adjustment” might actually look like. Spoiler alert: He doesn’t. At least not systematically and certainly not at any length.

Instead, El-Erian resorted to the nebulous notion of slowly applying the proverbial brakes (i.e., reducing accommodation now) in order to avoid slamming them on later. He also called for “a credible central bank voice on inflation” and suggested the Fed might consider accelerating the pace of the taper starting next month.

Let’s take those one by one.

First, trimming monthly bond-buying isn’t going to do anything to ease price pressures on the supply side and likely not on the demand side either. It could conceivably have an impact on expectations except that near-term inflation expectations are the most unanchored among lower-income and undereducated demographics (figure below from the latest installment of the New York Fed’s consumer survey).

For the most part, those cohorts don’t understand what quantitative easing is and therefore can’t possibly be expected to adjust their expectations based on a tweak to the taper timeline.

I should note that three-year expectations for the “some college” category were actually higher than the “high school or less” demographic in the October poll. And by the same logic I’ve just employed, one could argue that accelerating the taper would at least help allay fears among higher-income cohorts with graduate degrees given they likely are aware of the extent to which QE can be inflationary.

But generally speaking, does anyone seriously believe that if the Fed decided to, for example, accelerate the taper to $30 billion per month ($20 billion in USTs and $10 billion in MBS) from the currently planned $15 billion, that consumers making less than $100,000 and/or who lack a college education would suddenly recalibrate their expectations for prices? Or that anyone would suddenly recalibrate their expectations other than perhaps some tiny percentage of the populace steeped in the policy debate? That seems wildly implausible to me.

Just to give you an idea of how out of touch El-Erian might be, he cited Goldman’s financial conditions index and the Fed’s forward guidance while saying Powell is contributing to a de-anchoring of inflation expectations. How many average people (“poor” people, as  El-Erian put it) do you think are familiar with the GS financial conditions index and/or could define the term “forward guidance”?

If the argument is that getting the taper done sooner will allow the Fed to hike rates sooner, then we’re right back to asking how rate hikes are going to help people unload container ships faster. Or incentivize more people to drive trucks. And so on.

Second, El-Erian didn’t define what “a credible central bank voice on inflation” would sound like. How many times has Powell said, explicitly, that the Fed would “use all of its tools” if inflation were to accelerate violently? Implicitly, that means the Fed would hike rates aggressively if the need arose. Does he need to say that? And if he did, would it make any difference? Is it “credible” just to say that you might pull a Volcker? Or do you actually have to do it to be credible? If actions speak louder than words, we’re back to asking how preemptive rate hikes are going to help unload container ships again.

Finally, the phrase “easing its foot off the monetary stimulus accelerator” is just another way of talking about the taper.

So, in the final analysis, El-Erian apparently has no suggestions. Instead, he has an Op-Ed which, much like all of his Op-Eds, is woefully short on specifics and long on hyperbole dressed up as prudent counsel.

If there’s anything that has the potential to act as gasoline on the fire vis-à-vis inflation expectations, it’s hyperbole.