PIMCO’s El-Erian: Arab World Strife Fuels Short-Term Stagflation, Long-Term Stability

PIMCO CEO Mohamed El-Erian wrote in a Tuesday op-ed in The Financial Times that while global markets initially paid little attention to the unfolding events in Tunisia and Egypt, those countries have sparked a region-wide “tipping point” for change in the global economy that is beyond the control of Western nations.

El-Erian (left) pointed out that, although the two nations that saw the beginning of social unrest now spreading throughout the region were not significant players in the world economy, they have been “catalysts for a broader phenomenon of change that is gaining systemic importance.” He went on to cite two developments that he said were of particular importance “when it comes to global demand and price dynamics.”

First is the increase in oil prices because of the involvement of oil exporter Libya and the global response to greater supply uncertainty. Second is the change in dynamics, as demonstrations that were popular in Tunisia and Egypt gave way to violence in other Middle Eastern/North African (MENA) nations with governments responding to protests with force.

In the short run, said El-Erian, the result will be stagflationary, thanks to three factors: “First, higher oil prices will increase production costs and act as a tax on consumers. Second, greater precautionary stockpiling around the world will intensify pressures on commodities as a whole, aggravating the impact of demand-supply imbalances and large injections of liquidity. Third, the region will be a smaller market for other countries’ exports.”

While Western nations can do little but watch ongoing protests, he continued, they can take a more active role in the emerging democratic movements in Tunisia and Egypt. However, financially, Western economies “have little room left for further demand stimulus.”

Yet higher commodity prices, coupled with higher risk aversion in the markets, said El-Erian, would ease off “as the impact of greater long-term stability in a key part of the world is felt. In the long term, after all, democracy and individual freedoms are the best drivers of prosperity.”