MOHAMED EL-ERIAN: 'Spain Can Navigate A Very Fluid And Uncertain European Outlook'

At a time when the debt wreaks havoc, especially in Europe, Mohamed El-Erian, CEO of Pacific Investment Management Co., better known as Pimco, has become a key player of the world’s biggest bond fund.

Aside with Bill Gross, El-Erian is responsible, along with the founder of the company, to manage about 1.34 trillion dollars in assets.

During a critical week for Europe, where risk premiums soared due to uncertainty over Italy, one of the most acclaimed and respected voices in the financial industry answered to the questions asked by this newspaper.

There is still a future for the Eurozone with the same members as today?

Yes but only if they quickly agree to a meaningful fiscal union with closer political integration. The other two alternatives are a very messy fragmentation or a smaller and less imperfect zone

Who is really interested now in buying peripheral sovereign debt, aside from the ECB?

Most investors are in a wait and see attitude. Some, such as banks, are reducing exposures and letting the world know about it. Their goal is to try and reassure markets about their own wellbeing. This is reminiscent of the “macho provisioning” back in the 1980s during the Latin American debt crisis

Would you say that Greece is the “Lehman” and Italy will be the “AIG” for the EU?

Interesting question. I would say that Greece is the toe with an infection that was badly diagnosed and, therefore, started to contaminate the rest of the body including Italy. The contamination is thus destabilizing vital organs

Is a default avoidable in Greece? What about Portugal, Ireland or Italy?

I see no alternative to a major debt restructuring in Greece in which there is a major reduction in the face value of bonds. Indeed, the “haircut” could go beyond the 50 per cent that came out of the October 26th European Summit. The only question in my mind is whether it is done in an orderly or a disorderly fashion.

Unfortunately Portugal may well be following the same road, albeit in a much less severe fashion. Ireland has started to turn the corner but needs more time. Italy need not restructure and, for the future of Europe, everything should be done to ensure that it stabilizes quickly. This will require major multi-year efforts on the part of Italy, official creditors and private creditors.

And talking about confidence. Would you say, markets have lost their confidence in the core European countries as France and Germany?

Germany is rock solid in terms of economic and financial indicators. Moreover, it is benefiting from multi year structural reforms that have increased the competitiveness and productive flexibility of the economy.

Market concern about the AAA rating of France comes less from the country’s internals and more from the fact that it is financial exposed to the more vulnerable economies in the Eurozone.

What are your thoughts about Spain. There is going to be a political change soon, but seems the country will not meet its deficit goal for 2011. With a 21% unemployment and a sluggish growth, what is need to be done?

Spain has the ability to navigate a very fluid and uncertain European outlook. To do so well, it must continue to press ahead with the reforms that are being introduced.

Do you consider the Congress Super-committee in the US will approach an agreement about reducing the deficit? If not, do you see any possible downgrade ahead?

I am hoping that the Committee will, to use the popular phrase, “go big” but worried that this too may fall victim to the highly polarised nature of American politics today.

America desperately needs it’s politicians to come together and address structural impediments to growth and job creation. And the to do list goes well beyond the fiscal area. It also includes such issues as housing, the functioning of the labour market, credit and infrastructure.

Do you consider the bond market is most profitable than stock markets in times like this?

This the time to worry about the return of your capital rather than the return on your capital. Investors should be playing general defence and only very selective offence.

Are we heading to another global recession after emerging markets start feeling the hit from Europe and US slowdowns?

It is a risk scenario but not yet the baseline. Much will depend on the reactions of policymakers.

This post originally appeared at El Economista.

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