- The Federal Reserve has lost credibility in its call on inflation, Mohamed El-Erian told Bloomberg.
- Now, he has to choose between sending the economy into recession or letting inflation run high, he said.
- El-Erian said there is a high probability that the Fed makes a policy mistake.
Renowned economist Mohammed al-Arian doesn’t think there’s an optimal, soft-landing outcome for the Federal Reserve as it tries to tame inflation, and it’s facing a lose-lose situation.
“The whole point of further policy guidance by the Fed is to bring the markets in an orderly fashion,” El-Erian told Bloomberg on Tuesday. “Instead, we are seeing markets shy away from the Fed and do so in a chaotic manner, and that is why the risk of policy error is so high.”
The economist explained that markets have lost faith in the Federal Reserve on its ill-fated call on inflation through the pandemic. Now, the Fed lacks credibility when it comes to fighting inflation, predicting inflation, or setting policy narratives.
“If the Fed validates what the market is tempted to do now, the Fed will break something in the economy. But if the Fed doesn’t validate what the market is doing, the Fed will not reinstate inflation. Credibility. It’s the result of lose-lose… that’s what I’ve been worried about since last summer.”
Volatility has seized the markets since the Fed first indicated it would raise interest rates, but the uneven messaging from the central bank has left investors even more vulnerable.
El-Erian said the Fed keeps flip-flopping between hawkish and dovish signals, so he’s not sure what to expect. El-Erian, however, said he would err on the side of higher prices over a recession as the preferred outcome of the Fed’s actions.
“Now that you are in this situation and you are going to make a mistake, which is a high probability outcome, I would rather make the mistake of letting inflation continue than throwing this economy into recession,” El-Erian said.