The risks of the U.S. economy entering a double-dip recession and falling into deflation may now be around one in four, the chief executive of Pimco, the world's biggest bond investment manager, said on Thursday.
"The U.S. is still able to avoid deflation. We do not think that deflation and double-dip is the baseline scenario, but we think it's a risk scenario," Pacific Investment Management Co. (Pimco) Chief Executive and co-Chief Investment Officer Mohamed El-Erian told reporters.
The probability of such a risk scenario is about 25 percent, said El-Erian, who helps oversee more than $1 trillion at Pimco.
A recent rally in bond markets in the United States, Japan and Germany reflects recognition among market players of what PIMCO calls the "new normal," which refers to a period of muted growth and disinflation, El-Erian said.
The 10-year U.S. Treasury yield hit a 15-month low of 2.855 percent in July and the two-year yield hit a record low near 0.52 percent this week.
In Japan, the 10-year government bond yield fell below 1.0 percent this week for the first time in seven years as a rising yen reinforced worries about the economy and persistent deflation.
While it is not too late for Japan to exit deflation, it becomes harder every year, El-Erian said. Japan could exit deflation by conducting substantive reforms to the domestic economy, or via a major positive external demand shock that could come from China, or through a major crisis, El-Erian said, adding that such outcomes were unlikely in the next 12 months.
"So what we are likely to see is a continuation of the deflation trap. And ironically, as other countries start risking deflation, it puts Japan in a more difficult position," he said.
Although there have been brief periods when it gained some respite, Japan's economy has mostly been stuck in deflation for more than the last 10 years.
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