(ABC) One of the world's most influential investors says a crash is coming and central banks are impotent to protect against it.
When Mohamed El-Erian speaks, Wall Street listens. While chief investment officer of the fabled global trading powerhouse PIMCO, he grew it from managing $US1 trillion ($1.46 trillion) of funds to $US2 trillion.
He is now chief economic advisor at global financial giant Allianz, which bought out PIMCO, and has an estimated personal fortune of $2.4 billion.
Dr El-Erian has recommended people take a look at their investments and undertake some "regret minimization."
"Ask yourself — what mistake can I not afford to make?
"If you are investing in the most illiquid, highest risk part of the marketplace, where companies are highly indebted and require continuous refinancing from the marketplace, I would be really careful because there you can get a default and that is a mistake that cannot be reversed."
'Lose, lose, lose' situation for central banks
Speaking exclusively to the ABC's The Business from his hometown in Southern California, Dr El-Erian voiced concerns that ultra-low interest rates around the world are doing more harm than good.
"Beyond a certain point, it starts distorting all sorts of behavior and it is inconsistent with a well-functioning economy and markets," he said.
"So I very much worry, I think in the case of Europe, for example, we have already reached that point."
Central banks, he said, are in a lose, lose, lose situation.
"They can't do more because that is becoming counter-productive, they can't go back because that risks causing market instability and where they are is uncomfortable, so I really do feel for central banks."
While he was firmly against central banks cutting any further, he conceded it is very difficult for them to remain on the sidelines and not do something as growth in all major economies drags.
"It's like going to a doctor — a doctor will try and help you even if they don't have the right medication, they will at least buy you time with painkillers etc," he said.
"I think that's what central banks have been doing for a while, but fundamentally the assumption was a hand-off — that they would be able hand-off to a more comprehensive policy response, and unfortunately that hasn't happened."
Ultra-low rates benefit the wealthy
Dr El-Erian noted that central banks, such as the Reserve Bank, cannot do anything about economic imperatives such as boosting productivity, building infrastructure and upskilling workers.
Rather, they can only lift asset prices in the hope that the people who own those assets, such as stocks and real estate, will feel wealthier and open up their wallets.
He argued that governments' excessive and prolonged reliance on central banks has to stop, but told The Business that is not happening.
"The only thing that has worked is a boost to asset prices, and who owns the assets? The rich, the better off.
"So ironically one of the side effects has been to worsen wealth inequality at a time when the trifecta of inequality of wealth, inequality of income and, most importantly, inequality of opportunity has become a real economic social and political issue."
Attitudes to inequality
Central bank leaders have repeatedly raised concerns that the effectiveness of monetary policy is reaching its limits.
Reserve Bank governor Philip Lowe has increasingly raised concerns about the negative effects of low rates, and his sentiments were echoed this week by US Federal Reserve chair Jerome Powell.
Dr El-Erian said time is running out and the global economy is now coming to a dangerous "T-junction" — where one road sees governments stepping in with stimulus and the other leads to recession.
"If that hand-off [from central banks to politicians] doesn't happen, then it is recession, financial instability and an even more complicated political set-up — that is where we are heading," he warned.
"We are getting closer and closer, and the longer the policy hand-off is delayed, the more the probabilities shift in favour of the bad outcome.
"I have it at 60/40 chance — 60 that we'll end up at the bad outcome, 40 that we end at the good outcome."
He does not put the chance of a major economic and market fallout any higher because, for now, he believes that politicians will start to listen to the pleading from central bankers.
'High risk' of trade war forcing US-China choice for Australia
Dr El-Erian marveled at Australia's record of 28 years without recession, but said this nation is not thinking enough about the significant risk that the unpredictable trade war between the US and China poses.
"If the trade tensions continue, if the recent de-escalation that we have seen proves to just a short-term truce, there is a very high risk that things get so tense between China and the US that Australia may face a binary choice — do you want to continue to do business with China because its your main market, or do you want to continue the very special security arrangement with the United States?"
Dr El-Erian cited the recent example of the US threatening to cut ties with German companies if they continued to do business in Iran.
"Australia does depend on certain export types, but also on China, which is your major market, and China is having to deal with a completely different situation where it can no longer rely on the global economy to facilitate internal reforms," he observed.
"For China, the global economy has gone from being a tailwind, which opens up markets and enhances productivity, to a significant headwind and the jury is out as to how they will manage that."
FOMO, not facts, pushing markets higher
Dr El-Erian is also concerned that share markets are currently overvalued globally.
"More than a 50 per cent chance that we will get a significant repricing," he warned.
Just how deep that repricing, or plunge, will be, he said it is hard to tell, given that every time the market has dipped recently investors see it as a signal to buy because they know the central banks will prop them up.
He said FOMO — the fear of missing out — is also a factor.
"But if central banks are increasingly are perceived as ineffective or, worse, as counter-productive, I think that conditioning of investors changes," Dr El-Erian said.
