El-Erian Says Slowing Economy Raises Fed Policy-Error Risk

(Bloomberg) -- Softening in the measure of inflation favored by the Federal Reserve highlights a slowing economy that’s upping the risk of a policy error by the central bank, Mohamed El-Erian said.

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“The economy is slowing faster than most economists expect and faster than what the Fed expected,” El-Erian, the president of Queens’ College, Cambridge and a Bloomberg Opinion columnist, told Bloomberg Television on Friday.

The price index for personal consumption expenditures, or PCE, rose 2.6% year-on-year in May, the slowest rate so far this year and in line with forecasts. The Fed is aiming with its interest-rate increases of the past two years for an inflation rate averaging 2% as measured by the PCE price index.

“The economy is slowing, and it has few buffers,” El-Erian said. “A forward-looking Fed would certainly have the possibility of a July rate cut on the table.”

Rather, the Fed is “still excessively data-dependent, and it takes quite a bit of historic data to get them to change.”

Fed officials this month published updated forecasts with a median of one quarter-point rate cut this year, compared with three in March. Market interest rates continue to anticipate at least one quarter-point cut this year, as early as September. A July rate cut is given minimal odds.

The Fed is at risk of keeping rates “too high for too long,” El-Erian said. In his view the odds of a US recession are 35% compared with 50% for a soft landing.

“The more likely error right now is that the Fed will not start cutting early enough,” and eventually “wind up having to cut rates more than they should.”

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