A nice lecture by PIMCO’s Mohamed A. El-Erian at NBER-Sloan Conference on the European Crisis.
He looks at whether econ know-how helped understand policy issues in European crisis:
I recognize that, especially at the end of a very stimulating day of panels and discussions, it is very hard to say something that is both new and interesting. So rather than join much more able colleagues here today in their comprehensive analyses of the European crisis and possible solutions, I will focus on how we judge the intersection of economic knowledge and policy issues. And I will do so based on work and discussions that have taken place at PIMCO over the last few years, and that have involved colleagues from around the world.
We believe that this intersection – between what economists and policymakers know – is a critical one to get right, and not only for a long-term investor like PIMCO. You see, unless there is a strong economic anchor, policymakers (and their political bosses) will lack the conviction and foundation needed to take difficult decisions and explain them well to citizens. So it is crucial for both sides to know what is known – and also to recognize, to the extent possible, the known unknowns.
We approach the issue from the perspective of our daily challenge – investment managers who, like others in this field, face the necessity of positioning portfolios for what have become highly macro-driven markets. And with you today, I will try to differentiate between: (i) areas where economics has informed and influenced the policy debate, (ii) where policymakers have failed to sufficiently internalize existing research findings, and (iii) where greater research is urgently needed.
So what are the main thoughts in these three areas?
(i) areas where economics has informed and influenced the policy debate:
- The eurozone crisis is fundamentally about incomplete design issues
- Policy measures have consistently undershot policymakers’ own expectations.
(ii) where policymakers have failed to sufficiently internalize existing research findings
- policymakers had totally ignored the rich economic literature on both crisis prevention and crisis management
- Policymakers also under-appreciated the economic literature on the complicating role of private capital flows during crises, including bank deposits
(iii) where greater research is urgently needed.
- the network effects when the probability of the two modes of the expected outcome distribution is similar and yet the outcomes are radically different:
- the extent to which economic agents (individuals and firms) opt for self-insurance, including willingness to pay what are historically expensive premia;
- how certain segments of the financial services industry will navigate ultra-low German and U.S. interest rates, including the highly challenged segments that provide long-duration services to many in the form of pensions and life insurance;
- the functioning of global financial system in the context of fewer “safe assets,” particularly as the balance between interest rate and credit risks shifts unfavorably for a growing number of Western sovereigns;
- the aftermath of unusual central bank activism; and
- the operational implications for such “routine” issues as the design of benchmarks, margin requirements guidelines, counterparty risk, etc.