[LOS ANGELES] First came the "new normal," an era of subdued economic growth. It led to the "new neutral" scenario of lower central bank interest rates for longer.
Now, the world is entering a phase of rising risks as the effect of central-bank stimulus policies diminishes, according to a long-term forecast by Pacific Investment Management Co.
"You can think of it as insecure stability," Richard Clarida, Pimco's global strategic adviser, said in an interview. "We believe there are diminishing returns to monetary-policy activism. They may still be positive, but they're diminishing."
Pimco's outlook comes on the same day as the Organisation for Economic Cooperation and Development warned that the global economy is slipping into a self-fulfilling "low-growth trap" where ultra-loose monetary policy risks doing more harm than good. While global growth is just fast enough to keep economies from stalling, there are no evident sources of productivity increases or organic demand to support a more robust expansion, Pimco said.
Pimco published its three-to-five-year outlook Wednesday based on discussions and presentations at its annual secular forum in May in Newport Beach, California. The firm popularized the term new normal after a forum following the 2008 financial crisis to describe a protracted period of below-average economic growth, heightened government intervention and increasing clout for emerging-market economies. In 2014, it refined the outlook by arguing that central banks' "neutral" policy rate had moved lower than it was before the crisis.
Financial markets have priced in the new neutral view, reflected in rising asset prices amid a search for yield, according to the report Clarida co-wrote with Pimco's Andrew Balls and Daniel Ivascyn. The forum featured input from the firm's global advisory board, which includes former Federal Reserve Chairman Ben Bernanke, ex-UK Prime Minister Gordon Brown and former European Central Bank President Jean-Claude Trichet.
With central banks in Europe and Japan pursuing negative- interest-rate policies and piling up debt with stimulative asset purchases, the impact of further monetary moves is limited, the authors wrote.
"There is the distinct possibility," they said, "that monetary policy exhaustion and an overhang of debt in some major economies pose material threats to the sustainability of the global recovery and financial stability."
The Paris-based OECD, which advises its 34 member countries, said that too much of the burden of lifting growth has been left to central banks. After pushing interest rates below zero and pumping money into their economies through asset purchases, they are starting to see diminishing returns and their actions could even generate financial-market volatility.
Pimco, which oversees US$1.5 trillion, plans to "have more cautious positioning in our portfolios, and to make capital preservation the number-one priority," according to the report.
The firm's largest fixed-income mutual funds have a mixed record against the benchmark Barclays US Aggregate Bond Index. In the past three years, the US$87 billion Pimco Total Return Bond Fund has an annualized return of about 2.1 per cent, compared with 4.5 per cent for the US$58 billion Pimco Income Fund and 3 per cent for the index, according to data compiled by Bloomberg.
Pimco sees US gross domestic product expanding at or slightly above an annual rate of 1.5 per cent to 2 per cent, compared with growth of 1 per cent to 1.5 per cent in the euro area and 5 per cent to 6 per cent in China.
While most of the outlook warns of the risks of deflation and slowing economies, the firm also recommends buying inflation-protected securities, especially in the US, "as offering both good value and valuable protection."
Other investing implications include seeking seniority in debt purchases, guarding against negative interest rates in Japan and Europe, and using active management to select securities that provide higher returns than an index.
"The broad theme is that we think there will be a reward for active management," Mr Clarida said in the interview. "This is not an environment where investors want to go passive."