Central banks can't back down from 'taking away the punch bowl' despite pressure from markets, top economist Mohamed El-Erian says

• Despite a small reprieve from public criticism, central bankers can't back down on monetary tightening now, Mohamed El-Erian said.
• While continued rate hikes could lead to more pushback, the Fed risks letting inflation expectations get entrenched in the economy.

Central banks like the Federal Reserve have recently gotten a reprieve on public criticism — but policymakers can't back down now from "taking away the punch bowl" from markets, according to top economist Mohamed El-Erian.

"After serving a seemingly never-ending punch of nearly free money, as well as ample and predictable liquidity replenishments, inflation has forced the central banks back into their traditional role of taking away the punch bowl," El-Erian said in an op-ed for Bloomberg on Monday.

The chief economic advisor of Allianz pointed to a quote from ex-Fed Chair William McChensney Martin, who famously said that the central bank's role was to "take away the punch bowl just as the party gets going" — in other words, to tighten policy just as stocks start to boom and the economy grows too hot.

That makes central bankers prone to criticism, Martin thought — as evidenced by markets' disapproval of the Fed's tightening efforts. In the US, stocks have deflated over 20% from levels in January, and mortgage rates have skyrocketed to 7%. Inflation, meanwhile, has cooled from the 41-year-high seen this summer, clocking in at 7.7% in October.

But despite the pressure from politicians, market players, and homebuyers — who are getting hit with 7% mortgage rates — El-Erian urged policy makers not to stand down from monetary tightening. That could cause a rebound in inflation and lead to inflation expectations getting entrenched in the economy — a "stagflation morass that would be much worse in every respect," he warned.

El-Erian himself has been a loud critic of the Fed, slamming its delayed response to inflation after central bankers called rising prices merely "transitory" in 2021. That belated policy move means the US faces a elevated risk of a "damaging recession," El-Erian previously said, adding that easing up on rate hikes prematurely would be another policy mistake.

That's contrary to what other experts have said though, who urged the Fed to stop hiking to prevent the US from tipping into a recession. Noble laureate Paul Krugman said the Federal Reserve should pause rate hikes to see their full effect on the economy, and Wharton professor Jeremy Siegel noted that inflation-leading indicators often lag behind the statistics by around 18 months, meaning the Fed risks overtightening the economy if they press forward with rate hikes.