Business_news Mohamed El-Erian warns the Fed supporting junk bonds could eat away at ‘what makes America special,’ and create a new generation of ‘zombie companies’

Business_news

Reuters/Lucy Nicholson

  • Famed economist Mohamed El-Erian warned that the Federal Reserve has raised the prospect of creating a generation of “zombie companies” by buying junk bonds during the pandemic.
  • El-Erian comments comes after the Fed announced a$2.3 trillion package on April 9to bolster lending and begin buying corporate debt across a range of credit ratings.
  • Zombie companies are those that can only really afford to pay off the interest on their debts, but not the debt itself, leaving them unable to get out of financial trouble.
  • El-Erian said three things will determine how quickly economies recover after coronavirus lockdowns are lifted. 
  • Visit business Insider’s homepage for more stories.

The Fed action on junk bonds is in fact giving birth to zombie companies, famed economist Mohamed El-Erian warned Monday. 

The chief economic adviser at Allianz told CNBC on Monday:“The Fed opened up the high-yield market for almost everybody and that raises the specter of zombie companies.”

He added: “We’ve got to be careful about this because that eats away at what makes America special. That’s the reason why we don’t ever bet against America, because of its dynamism.”

Zombie companies are those that can only really afford to pay off the interest on their debts, but not the debt itself, leaving them unable to get out of financial trouble, and forcing them to exist in a sort of fugue state.

The Fed announced a$2.3 trillion package on April 9to bolster lending and begin buying corporate debt across a range of credit ratings.

Read more:A stock chief at $6.5 trillion BlackRock outlines 5 major themes the pandemic is poised to shape – and why investors should take note of each

The Fed announced it would begin buying corporate bonds for the first time in its 107-year history, offering aid for cash-strapped businesses large and small.

In mid-March it then announcedplans to inject $5 trillion into stressed markets, and reduced interest rates close to zero.

But El-Erian has doubts on how effective the Fed’s measures will be.

“My own sense is the Fed went too far in going into the high-yield market, but I understand why they did it.”

“But on the other hand, you get people who shouldn’t be borrowing raising money.”

“Would you rather have the blanket support of the Fed as we did this time around or would you rather have Warren Buffett’s rescue financing as we did in 2008?”

Billionaire and famed investor Warren Buffet, and chairman of Berkshire Hathaway said hesold all of his stock in the “Big Four”US airlines – American, United, Delta, and Southwest – in April, he announced at the company’s annual general meeting on Saturday. 

Buffett bailed out Goldman Sachs, General Electric, and other companies during the 2008 financial crisis.

Buffett said: “The American miracle, the American magic has always prevailed, and it will do so again.”

Read more:Renowned strategist Tom Lee recommends 12 beaten-down travel stocks to buy now for an average profit of 32% during the pandemic recovery.

El-Erian said three things will determine how quickly economies will recover once lockdown is completely lifted. 

“One we learn how to live with the virus, meaning weight or spread of the infection is low and we learn how to cope with those who fall ill.

“We learn that consumer behavior has not been damaged in a fundamental way, people will go back and re-engage.”

“Three, we learn companies are willing to go back and are not resizing,” El-Erian added. 

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