Pimco's El-Erian's Lost Decade -- Is He Right?

Mohamed El-Erian, chief executive officer of Pacific Investment Management Co., coined the phrase “the new normal” some time ago.  Now, he is hoping to add “the lost decade” to the lexicon.

That’s what El-Erian says the world’s advanced economies may face unless governments wake up to the damage caused by the worst slowdown since the Great Depression.   It’s not a new idea.  Economists dubbed the 199os the “Lost Decade” in Japan because growth there came screeching to a halt after the Bank of Japan sharply raised interest rates because of an unsustainable asset bubble.   What El-Erian is arguing goes beyond that old definition.

“If they (industrial societies)  are not careful, they risk slipping into a lost decade of low growth, high unemployment and welfare destruction,”  Bloomberg News quotes El-Erian as saying yesterday at annual meetings of the the International Monetary Fund and World Bank.

El-Erian is taking a more pessimistic tone than many  experts including billionaire Warren Buffett who was recently quoted as saying he was bullish on the potential for a recovery and ruled out the possibility of  a double-dip recession.  Good news came from the Administration in July when it said that this year’s budget deficit would be smaller than expected.  Though the Congressional Budget Office expects GDP growth to remain “muted” for the next few years,  it does expect to see real GDP growth to hit 4.6 percent in 2012, up from 2.2 percent this year and 1.9 percent next year.  Unemployment should begin to rebound next year as well, albeit at a slower rate than many people would like.

Of course, the good news really isn’t all that “good” and the drumbeat of bad news continues.  The National Association of Business Economists cut its forecasts today for GDP to 2.6 percent from 3.2 percent.  Republicans running in the Midterm Elections are railing against further stimulus spending though some economists such as Paul Krugman and Joseph Stiglitz, both Nobel Prize winners, argue that one is needed.

“We will see in the next two years the real cost of there not being a second round of stimulus,”  Stiglitz recently told a gathering of business journalists. We will see the economy slow down at a very high economic cost.”

Fiscal conservatives, of course, see things differently.  They argue that the stimulus was a failure and that the government bailouts were unnecessary.  To El-Erian’s view, this underscores the problem. Officials in the U.S. and other industrialized nations need to reach an agreement over the extent of the problems of their economy and how best to fix them.

This seems to be a hopelessly naive view. Getting politicians and economists to agree on anything makes herding cats look easy.  El-Erian is correct that no one can solve a  problem unless they can agree what it is.  Otherwise, a “Lost Decade” may be the least of our problems.

Jonathan Berr