Sunday, October 22, 2006

One thing is Clear....things are not at all very clear!

After reading this BLOG which describes a talk given by Mohamed A. El-Erian, the President and CEO of the Harvard Management Company. These are the people who manage the investment of the $29 billion Harvard University Endowment.

Apparently the fund has been doing quite well with their investments, so the comments of the CEO might something to listen to.

As I read this, he says several things.....first, he "expects" the US economy to have a soft landing. He expect this not only because he sees indications of softness....but that even the dramatic softness (my words) will not result in dramatic downturn (my words) because the rest of the world could not stand it.

He seems to say that a US recession would result in a world downturn, and this would not be good and everyone knows it. But he notes that there are certain things that need to happen....and he lists a few of them. (he notes that we current have a massive imbalance in US trade which has apparently hit records that no one has seen as a percentage of GDP)

Mr. El-Erian notes that these things must occure:

+ Rebalance of US economy—US must consume less.

+ Structural reform in Euroland and Japan to grow faster.

+ Asia has to consume more.

+ Oil exporters provide cheap financing in the interim.

BUT: if any one of these parties moves first, they’re hurt.
This is a classic game theory dilemma/prisoner’s dilemma. So without
coordination, it’s best not to move.

When discussing the huge imbalance, and the fact that Asia is essentially "loaning the USA thye money needed to buy their goods" (and therefore keep our debt growing), he noted that there may come a time when Asia will recognize that the "paper" (IOUs) we offer them for their goods will be going down in value....and there are three schools of thought:

A. Optimists ("new paradigm school") looks
at: US productivity gains, demographics, entrepreneurship. Maturation of key
emerging economies. Gradual resurgence of Japan/Europe.

B. Cynics. Others believe we’re on verge of large
disruption: size of huge current account deficit, leverage in financial sector,
bubble in housing market, risk of a change in the asset preferences of holders
of US financial assets.

C. All the views in the ‘muddled middle’: those
noting ‘dark matter’ (measurement error), enhanced policy credibility, system
self-insurance.
He then notes:
This is a frightening slide. Endowments and foundations have
to focus on long term, and there are question marks about what the long term is.
I admit to not understanding a fair bit of this discussion, having only a very limitted knowledge of economics and world affairs. I also admit to being one of the above noted Cynics, seeing our country following the debt crazed path my parents always warned me against folowing. (and I always trusted my mother and father's advice :-)

Yes, I am perhaps worrying too much about all this. If it is all a soft landing, we will all have time to react and yes, we will take our lumps for sure...but hopefully not so dramatically.

My friend Pradeep has been warning me about his vision of the hard landing though....for about 4 years now. My thoughts were of deflation and depression....but he has about convinced me that hyperinflation is the route. (since it would hurt the world as a whole less)

Either way...or neither way...as Mr. El-Erian notes, "Endowments and foundations have
to focus on long term, and there are question marks about what the long term is."

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