Tags: El-Erian | Currency | g7 | pimco

Pimco’s El-Erian: Expect More Currency Confusion, Volatility

By Glenn J. Kalinoski   |   Wednesday, 13 Feb 2013 02:26 PM

Investors should expect currency volatility to continue after G-7 officials issued a currency statement, “clarified” it and criticized the clarification, warned Mohamed El-Erian, CEO of Pimco, manager of the world's largest bond fund.

Tuesday's statement "was a response to increasing global concerns about ‘currency wars,’ ” El-Erian, the CEO and co-CIO of Pimco, wrote for CNBC.com.

“It stressed that members’ policy approach `remained oriented towards meeting … domestic objectives using domestic instruments.’ And to make things totally explicit, officials added that exchange rates are not being `targeted.’”

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Despite what was contained in the statement, G-7 officials are influencing their exchange rates.

“They are doing so through the aggressive choice of monetary policy and the manner it is being pursued – particularly the ever-deepening experimental combination of floored policy interest rates, bold forward policy guidance and, of course, unprecedented use of their balance sheets,” he wrote.

El-Erian also noted that the G-7 is far from united on policy.

“Some countries, like the U.S., are advocating a broader adoption of `reflationary national policies’ around the world,” he wrote. “Essentially, they believe that the income effects will dominate the prices effects. Others, such as Germany, worry about the inflationary implications and related financial fragilities of such policies.”

El-Erian added that the statement’s impact was immediately blunted by officials’ attempts at a forced analytical distinction between direct and indirect influences on exchange rates. The G-7’s stab at economic diplomacy collided with economic reality, he wrote.

“Given all this, it is not surprising that the G-7 statement did very little to dampen currency movements,” El-Erian wrote. “I also doubt that the other likely short-term objective – that of pre-empting currency disagreements at Friday’s G-20 meeting – will be fully successful.”

Other developments investors should expect include:

• Policy interest-rate convergence to spread globally as central banks adopt the Federal Reserve’s approach.

• Equity investors will divide themselves more between those who have “unfaltering blind faith” in the effectiveness of central banks and those who believe their policies are becoming increasingly ineffective and that collateral risks/unintended consequences will mount.

"Rather than calm the markets, the poorly communicated statement has significantly raised volatility," said Richard Gilhooly, fixed-income strategist at TD Securities in New York.

U.S. and European officials have been concerned about comments from Japanese officials that suggested Tokyo was targeting a specific level for the yen, which would run counter to the G-7's official stance.

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