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Top economist Mohamed El-Erian says crypto is a canary in the coal mine for an era of 'irresponsible risk taking'and the fallout could lead to 'financial accidents'

Crypto investors have collectively lost $2 trillion since November of last year, and the list of casualties in the ongoing Crypto Winter continues to grow.

The downturn was only compounded by the collapse of the worlds second largest crypto exchange, FTX, which went bust last month, leading to accusations that its former CEO was running a Ponzi schemewhich he has denied.

Now, Mohamed El-Erian, president of Queens College at the University of Cambridge, is warning that the lack of risk management seen in the crypto space might be a canary in the coal mine that has broader economic implications.

What if the irresponsible risk-taking that we see in crypto was also taking place elsewhereand that crypto simply happened to be the structurally most fragile of those cases? he asked New York Times reporter Ezra Klein in a Friday interview.

El-Erian believes that cryptos dark days arent yet a systemic risk to the financial system or the broader economy, but says there are signs of distress everywhere including the near-collapse of the U.K. gilt market and emerging market debt crises in places like Sri Lanka.

What I worry aboutis that they are simply canaries, he told the New York Times Friday. These are little fires, but the risk here is that these little fires start spreading and start becoming something bigger.

El-Erian argued that the Federal Reserves near-zero interest rates and willingness to backstop markets during tough economic times, gave some investors the notion that markets only go up, which created an aggressive and dangerous risk appetite.

The economist, who once served as the CEO of Pimco, said that after the Great Financial Crisis of 2008, the banking system was strictly regulated, but that risk in the entire financial system didnt just disappear.

It migrated. It migrated from banks to nonbanks, he said. And nonbanks are less well-understood by regulators, less well-regulated, and less well-supervised.

The Bank for International Settlements warned earlier this month that pension funds and other nonbank financial institutions owe some $25 trillion in debt that is essentially hidden from regulators.

This offbalance-sheet dollar debt poses particular policy challenges because standard debt statistics miss it, BIS researchers wrote. Thus, in times of crisis, policies to restore the smooth flow of short-term dollars in the financial system are set in a fog.

El-Erian said that his biggest fear is that financial accidents caused by reckless behavior at nonbanks will spill back into the real economy.

We saw how bad that world could get in 2008 in the banking system, he said. I dont think it gets that bad, but I worry that this is yet another headwind to high, durable, and inclusive growth. And we desperately need high, durable, and inclusive growth.

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Twin hurricanes just decimated what was left of Florida's orange crop

Production of oranges in Florida this season is forecast to be down 36% from earlier estimates, in part a reflection of twin hurricanes that battered growing regions, according to U.S. Agriculture Department figures released Friday.

The latest forecast calls for about 18 million boxes of oranges to be produced in 2022-23 in the state, compared with agency estimates of 28 million in October that did not account for damage caused by Hurricanes Ian and Nicole.

The most recent numbers show a drop of 56% in Florida orange production compared with last season, agriculture officials said. The boxes generally weigh about 90 pounds (40 kilograms).

Other citrus crops are also forecast to be down, with grapefruit production coming in at 200,000 boxes fewer than estimated in October and 100,000 fewer boxes of tangerines and tangelos.

The decline in orange production would make the 2022-23 season one of the lowest since World War II. The harvest was 41 million boxes in 2021-2022 and more than 67 million the season before that.

This is a gut punch. Theres no doubt about it, said Matt Joyner, CEO of the Florida Citrus Mutual trade association.

Florida Agriculture Commissioner Nikki Fried said Hurricane Ian damaged about 375,000 acres (152,000 hectares) of commercial citrus when it roared across the state in late September. While Nicole did far less damage, it also struck some of the same areas in November

For consumers, this already means higher prices for orange juice, the main product made with Florida oranges. The U.S. Bureau of Labor Statistics reports prices for juices and nonalcoholic drinks are over 57% higher in 2022 compared with 1997.

And it means food companies likely will need to increase imports of oranges from countries such as Brazil and Turkey. Californias orange production for 2022-23 is expected to top 47 million boxes, far surpassing Floridas expected total.

In Florida, overall agriculture losses from Hurricane Ian have been pegged at at least $1.56 billion, according to the University of Florida. In total, counting cattle, vegetables and other agriculture interests, the Category 4 hurricane affected about 5 million acres (2 million hectares) in the state.

Before the storm, citrus production in Florida was already forecast to drop by a third compared with the year before, in part because of winter freezes and ongoing disease problems. Growers say the hurricanes are yet another obstacle to overcome.

If you eat, youre part of agriculture, said Roy Petteway, a fifth-generation Floridian, said during a recent tour of his groves. We were anticipating a very good crop this year. Sadly, theres nothing we can do about it. Its just a devastating thing.

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The biggest oil spill in the history of the Keystone pipeline is dumping more than a half million gallons of crude into a creek in Kansas

An oil spill in a creek in northeastern Kansas this week is the largest for an onshore crude pipeline in more than nine years and by far the biggest in the history of the Keystone pipeline, according to federal data.

Canada-based TC Energy on Thursday estimated the spill on the Keystone system at about 14,000 barrels, or 588,000 gallons. It said the affected pipeline segment had been isolated, the oil had been contained at the site with booms, or barriers, and environmental monitoring had been set up, including around-the-clock air-quality monitoring. It did not say how the spill occurred.

After a drop in pressure on the pipeline that carries oil from Canada to the Texas Gulf Coast, the company said it shut down its Keystone system Wednesday night. Oil spilled into a creek in Washington County, Kansas, about 150 miles (240 kilometers) northwest of Kansas City.

Zack Pistora, a lobbyist for the Sierra Club in Kansas, noted the spill in his state was larger than all of the 22 previous spills combined on the Keystone pipeline, which began operations in 2010.

This is going to be months, maybe even years before we get the full handle on this disaster and know the extent of the damage and get it all cleaned up, he said.

In September 2013, a Tesoro Corp. pipeline in North Dakota ruptured and spilled 20,600 barrels, according to U.S. Department of Transportation data.

A more expensive spill happened in July 2010, when an Enbridge Inc. pipeline in Michigan ruptured and spilled more than 20,000 barrels into Talmadge Creek and the Kalamazoo River. Hundreds of homes and businesses were evacuated.

The Keystone pipelines previous largest spill came in 2017, when more than 6,500 barrels spilled near Amherst, South Dakota, according to a U.S. Government Accountability Office report released last year. The second largest, 4,515 barrels, was in 2019 near Edinburg, North Dakota.

The U.S. Environmental Protection Agency said drinking water wells were not affected by this weeks spill and the oil didnt move from the creek to larger waterways. The spill was in pastureland about 5 miles (8 kilometers) northeast of Washington, the county seat of about 1,100 residents and no evacuations were ordered.

Pipelines are often considered safer than shipping oil by railcar or truck, but large spills can create significant environmental damage.

The nearly 2,700-mile Keystone pipeline carries thick, Canadian tar-sands oil to refineries in Illinois, Oklahoma and Texas. An arm of the Transportation Department that oversees pipeline safety permitted operator TC Energy run the pipeline at pressure greater than is usually allowed if the company used pipe made from better steel.

In a report to Congress last year, the Government Accountability Office said Keystones accident history was similar to other oil pipelines, but the spills have gotten larger in recent years. Investigations ordered by regulators found that the four worst spills were caused by flaws in design or pipe manufacturing during construction.

The TC Energy permit included more than 50 special conditions, including on its design, construction and operation, the GAO report said. Bill Caram, executive director of the nonprofit advocacy Pipeline Safety Trust, said Friday that he would have thought that the additional safety measures would have been enough to offset the pipelines higher pressure.

When we see multiple failures like this of such large size and a relatively short amount of time after that pressure has increased, I think its time to question that, Caram said, noting the 2017 and 2019 spills.

Concerns that spills could pollute waterways spurred opposition to plans by TC Energy to build another crude oil pipeline in the Keystone system, which would have cut across Montana, South Dakota and Nebraska. Critics also argued that using crude from western Canadas oil sands would worsen climate change, and President Joe Bidens cancelation of a U.S. permit for the project led the company to pull the plug last year.

The spill caused a brief surge in crude prices Thursday. Benchmark U.S. oil was up more modestly about 1% on Friday morning as fears of a supply disruption were overshadowed by bigger concerns about an economic downturn in the U.S. and other major countries that would reduce demand for oil.

Tom Kloza, an Oil Price Information Service analyst, said that oil is now perceived as plentiful, and this mishap will not have any appreciable impact on gasoline or diesel prices. Prices at the pump will continue to drop a few cents a day, or even more, and that between Canadian imports and the Strategic Petroleum Reserve, the U.S. has enough crude to last more than three years at current demand, he said.

Patrick De Haan, an analyst for GasBuddy, which operates a price-tracking app, said there is pressure to repair the pipeline quickly and keep refineries supplied, adding that if it lasts more than a few days, that could spell trouble.

Past Keystone spills have led to outages that lasted about two weeks, but this outage could possibly be longer because it involves a body of water, RBC Capital Markets analysts said in a note to investors. Though its possible that a portion of the pipeline could restart sooner, they said.

The spill was 5 miles (8 kilometers) northeast of Washington, the county seat of about 1,100 residents.

The pipeline runs through Chris and Bill Pannbackers family farm. The hill where the breach happened was a landmark to locals and used to be a popular destination for hayrides, said Bill Pannbacker, a farmer and stockman. He disagreed with the companys decision to build the pipeline over that 80-foot hill rather than bore through it, now questioning himself for relenting.

I wish I would have held firmer. And I bet now they wish I would have held firmer too because Im assuming the flow against that bend in the pipe is maybe what caused some of the problem.

There is nothing special about 2%: BofA says central bankers just made up their inflation target

The Federal Reserve has raised interest rates six times this year in its effort to lower inflationcurrently at 7.7%to what it considers to be the ideal level of 2%. But how did the central bankers decide that 2% is ideal rather than some other number?

Its a question several Fed critics have raised. On Friday, Bank of America was the latest to weigh in on the matter, saying bluntly, There is nothing special about 2%.

The Fed has company in its 2% inflation target. Several countries have the same target, seemingly giving more confirmation that 2% is perfect.

Bank of America, however, has a different take, saying that the Fed could be reluctant to adjust its 2% target to some other number because it would undermine its credibility.

Moving the target the first time it is seriously tested undercuts central banks credibility, raising real concerns about a slippery slope, Bank of Americas global economist, Ethan Harris, wrote.

The Feds 2% target was officially adopted in 2012. But the Fed and other central banks had used it more informally amid the high inflation in the 1970s and 1980s. The target has provided buffers for policymakers by leaving room to cut interest rates during a recession while also largely eliminating the risk of deflation, BofA said.

Suppose the neutral real policy rate was 2% and underlying inflation increased to, say, 3% during a boom, Harris wrote. Then to make policy restrictive the central bank would raise the policy rate to above 5%. If and when the next recession came, they would be able to cut rates by more than 5% before hitting zero. By historic standards, that seems like an adequate buffer.

Still theres little to suggest that 2% is the optimal target, Harris said.

The evidence is that steady 4% inflation imposes very small additional costs compared to steady 2% inflation. Either way the economy adapts.

Harris also argued that 2% doesnt necessarily satisfy the notion that central banks must maintain price stability, referring to the Feds two primary goals of ensuring maximum employment and maintaining.

If inflation stabilized at 3%, the Fed may compromise or give itself more time (although theres no clear deadline) to reach its target, BofA said. A mild recession could drive inflation down to 3%, after which the Fed could reduce inflation to 2% over timesimilar to what happened in the 1980s and 1990s, BofA said.

Nonetheless, the Feds obsession with its 2% target risks pushing the economy into a recession, Barry Sternlicht, CEO of private investment firm Starwood Capital Group, and prominent economist William Spriggs, previously told Fortune.

Theres nothing written in stone that says inflation is supposed to be limited to 2%, Spriggs said. That target was not the result of an economic model that says 2% inflation is the ideal inflation.

Sternlicht, who has slammed the Fed for using lagging numbersmeasured by the consumer price indexthat dont actually show whats happening with inflation in real time, criticized the 2% target.

I think the number 2% is kind of arbitrary, Sternlicht said. And could it be 3% or 4%? That would be fine.

He added: I think 2% as an artificial target may seem like a nice number. But its so close to zero. And the problem is, as you go to 2%, you could easily go to minus 2%. You could go into a deflationary world where theres no demand and too many goods.

Whatever the case, Harris suggested that the Fed wait until inflation is under control to make any changes to its 2% target. At that point there would be much less concern about a lack of credibility or slippery slope, he said.

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Coinbase tells customers to switch to stablecoin it cofoundedwithout fees

Crypto exchange Coinbase has soured on Tethers USDT, and its telling its customers to instead switch to the stablecoin it cofoundedwith no fees.

In a reference to FTXs financial implosion last month, the company wrote in a Thursday blog post that the fallout has put some stablecoins to the test. USDT briefly lost its 1-to-1 peg to the U.S. dollar after FTX collapsed, but regained it days later.

Tether was the first stablecoin in the world and has been trusted by millions around the world since its inception. In fact if you ask people outside a narrow group in the US theyd pick tether over USDC.
Gabor Gurbacs (@gaborgurbacs) December 9, 2022

In recent years, Tether has faced accusations of obfuscating its reserves. Tethers parent company, Bitfinex, paid $18.5 million in a settlement with the New York attorney generals office over whether it made false statements about the backing of its stablecoin and moving hundreds of millions of dollars between Bitfinex and Tether to cover up losses by the former. The company did not admit any wrongdoing as part of the settlement, but it agreed to post quarterly reports of its reserves for two years starting in 2021.

Coinbase, the San Francisco-based crypto exchange, added that its customers can now convert any USDT holdings to USDC, the stablecoin it co-founded with Circle, without any fees until further notice. Both USDC and USDT are pegged to the U.S. dollar.

The blog post comes just months after Binance, the largest crypto exchange globally, auto-converted all customer holdings in USDC to its own stablecoin, BUSD. In an SEC filing on Nov. 14, Circle, which issues USDC, said Binances actions led to approximately $3 billion of the $8.3 billion decline in USDC circulation between June 30 and Sept. 30.

A spokesperson for Tether said Coinbases actions were wildly inappropriate and downplayed USDC as competition, adding, This isnt an honest competitive rivalry.

Tether has been the biggest name in stablecoins for years, but earlier this year it seemed like Circle was closing the gap. In August, USDCs market cap had grown to $53.9 billion, on its way to catching Tether at $63.3 billion, before falling back to about $43 billion.

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Sam Bankman-Fried will testify before Congress

In a tweet on Friday morning, FTX founder Sam Bankman-Fried agreed to testify at a hearing in front of the House Financial Services Committee, although there is still uncertainty about whether he will appear before the Senate Banking Committee the following dayunder threat of subpoena.

After the early November collapse of FTX, one of the largest crypto exchanges, members of Congress have renewed calls for regulation of the volatile industry, as well as investigations into the bankruptcy.

The Senate Agriculture Committee, which introduced crypto legislation called the Digital Commodities Consumer Protection Act earlier this year, was the first to hold a hearing on FTX, on Dec. 1. According to a person with direct knowledge of the matter, the Agriculture Committee did not invite Bankman-Fried to testify.

The next two congressional hearings will be held by the House Financial Services Committee and the Senate Banking Committee, on Dec. 13 and 14, respectively. Chair Maxine Waters (D-Calif.) of the House Financial Services Committee invited Bankman-Fried to testify over Twitter, which he initially declined. She denied reporting from CNBC that she would not consider a subpoena, although his change of mind on Friday to appear means that a subpoena is no longer necessary, at least for the House.

It is unclear whether he will appear in-person or virtually. Bankman-Fried did not respond to a request for comment.

The Senate Banking Committee took a stronger stance, with Chair Sherrod Brown (D-Ohio) issuing a public letter to the disgraced founder on Dec. 7, warning that if Bankman-Fried did not agree to testify, Brown was prepared to subpoena him.

According to a statement issued by Brown and ranking member Pat Toomey (R-Penn.) on Thursday night, Bankman-Fried did not respond to their request. Toomey tweeted on Friday morning that Bankman-Fried still hadnt responded, despite agreeing to testify in front of the House Financial Services Committee. A spokesperson for the Banking Committee declined to answer whether it would proceed with the subpoena, directing Fortune to its letter to Bankman-Fried from Wednesday and statement from Thursday.

Even if the Senate Banking Committee did issue a subpoena, there is a jurisdictional question over its ability to serve Bankman-Fried overseas, as hes reportedly still in the Bahamas. Mark Kornfeld, an attorney at Buchanan Ingersoll & Rooney focused on regulatory enforcement, told Fortune that Congresss subpoena powers on foreign soil is an unsettled issue, including how Congress would enforce the subpoena in cooperation with the Bahamian government.

Its an interesting procedural morass, Kornfeld said.

While the Senate Banking Committee figures out its path forward, Bankman-Frieds appearance on Dec. 13 before the House Financial Services Committee likely will be the first time he testifies under oath.

Whether he provides any useful information remains to be seen. Bankman-Fried has stated that he does not have access to the information that members of Congress are seeking. As he tweeted in response to Waters, There is a limit to what I will be able to say, and I wont be as helpful as Id like.

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The largest asset manager in the world says were headed for a whole new economic regime characterized by these three major global shifts

BlackRocks top minds seem worried. Investment strategists at the worlds largest asset manager warned of a coming recession, stubborn inflation, and a new era that wont be so kind to investors in their 2023 Global Outlook released this week.

The Great Moderation, the four-decade period of largely stable activity and inflation, is behind us, Vice Chairman Philipp Hildebrand and a team of top executives wrote. The new regime of greater macro and market volatility is playing out. A recession is foretold.

Hildebrand and his team argue that The Great Moderationa period of low inflation and steady economic growthallowed stocks and bonds to flourish in a way that wont be possible moving forward.

For investors, this new economic era will require a fresh, flexible strategy that involves selective stock picking and more active portfolio management.

We dont see the sustained bull markets of the past. Thats why a new investment playbook is needed, they wrote. What worked in the past wont work now.

A new era

Three major regime drivers are set to keep inflation elevated above central banks targets, subdue economic growth, and make it more difficult for investors to turn a profit for years to come, according to BlackRock.

First, aging populations will shrink workforces and force governments to spend more to care for the elderly, causing worker shortages and reduced production.

Second, tensions between global superpowers signal that weve entered into a new world order, where globalized supply chains that once helped reduce the price of goods may be broken.

This is, in our view, the most fraught global environment since World War Two, Hildebrand and his team wrote. We see geopolitical cooperation and globalization evolving into a fragmented world with competing blocs. That comes at the cost of economic efficiency.

Finally, a more rapid transition to clean energy will ultimately be inflationary unless a new stream of investment flows into carbon-neutral solutions.

If high-carbon production falls faster than low-carbon alternatives are phased in, shortages could result, driving up prices and disrupting economic activity, they wrote. The faster the transition, the more out of sync the handoff could be meaning more volatile inflation and economic activity.

Pricing the damage

BlackRock also broke down three themes to help prepare investors for the new normal in their 2023 forecast.

First, the asset managers experts argued that factoring in the damage done by central banks interest rate hikes and the risk of recession when evaluating stocks will be critical next year.

Equity valuations dont yet reflect the damage ahead, in our view, they wrote. We find that earnings expectations dont yet price in even a mild recession.

BlackRock doesnt like developed market stocks, at least in the near term, because Hildebrand and his team believe the Fed wont save markets by slashing interest rates when a recession hits like they have in the past. Its the end of the so-called Fed put.

Central bankers wont ride to the rescue when growth slows in this new regime, contrary to what investors have come to expect, they argued. Thats why the old playbook of simply buying the dip doesnt apply in this regime.

Hildebrand and his team even went so far as to argue that central bankers are deliberately causing recessions by aggressively raising interest rates to fight inflation.

The new playbook calls for a continuous reassessment of how much of the economic damage being generated by central banks is in the price, they wrote. That damage is building.

Rethinking bonds

After years of underperformance vs. equities, it may be time to look to the bond market for steady income as a recession looms.

Fixed income finally offers income after yields surged globally, Hildebrand and his team wrote. This has boosted the allure of bonds after investors were starved for yield for years.

They recommended investors look to investment-grade credit and short-term government bonds, but warned to avoid long-term government bonds due to rising debt levels and higher inflation.

In the old playbook, long-term government bonds would be part of the package as they historically have shielded portfolios from recession. Not this time, we think, they wrote.

Living with inflation

Year-over-year inflation, as measured by the Consumer Price Index (CPI), likely peaked in June at 9.1%. And some CEOs and money managers argue that its set to come down fast.

But BlackRock has a different point of view.

Even with a recession coming, we think we are going to be living with inflation, Hildebrand and his team wrote. We do see inflation cooling as spending patterns normalize and energy prices relent but we see it persisting above policy targets in coming years.

In this higher inflation environment, they recommend inflation-protected bonds and avoiding stocksat least in the near term.

More volatile and persistent inflation is not yet priced in by markets, we think, they warned.

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