COVID-19 Diary – Number 1 (April 1, 2020)

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A reader suggested that while this pandemic continues, I keep an open diary on this site with frequent short entries focusing (though not exclusively) on investment and the markets. This is the first of these posts.

Markets are less concerned about the virus itself than with the recessionary impact of the lockdowns and quarantines.  That perspective points to two considerations:

  1. Actions by the federal government, and to a lesser extent states and cities, to lessen the recessionary pressure.
  2. Because the longer the lockdowns and other restraints remain in place, the deeper into recession the U.S. economy will sink and the longer and harder it will be recovering, markets necessarily also consider how long this period of restraint will last.

Washington—that is, the government and the Federal Reserve––has now delivered large (more than two trillion dollars) and well-crafted policies to deal with the recessionary dynamic. While these moves cannot ensure the economy will escape the pain of a recession, they do offer good reason to hope that the future will be less severe than it otherwise might have been.  The markets rallied in response, actually in anticipation of this welcome news.

The news on the duration of lockdowns and quarantines is less encouraging.  President Trump has given up on his “hope” that the nation could get back to work by Easter, and he extended the advice to keep things shut down until April 30.  He may have to extend it further because new Covid-19 cases are multiplying in the U.S.

  • The global picture does offer some hope. The tracking system administered by Johns Hopkins University reports that new Covid-19 infections peaked on March 27 at 67,400 and in the following two days fell about 10 percent.  But we must keep in mind that this picture of abatement is really tentative.  At other times we have seen such improvements only to face a new surge.
  • For the U.S., the picture is less encouraging. On March 31, the World Health Organization reported that the nation suffered some 19,332 new infections, nearly five times the number reported on March 27.  Yet these figures may not be as bad as they appear.  In just the last few days, the country has made considerable headway in testing – not as much as the experts say is needed, but an improvement nonetheless.

Investors should keep in mind that the nation will survive this pandemic, as will most of its businesses.  Those who bought equities for the long term (which, as so many of these posts have emphasized, is the only way to buy stocks), should keep that “long term” in mind and hold on for the inevitable recovery.  Panic selling now will only deprive you of the opportunity to take part in that recovery.  For those who have cash, the present market setbacks presents buying opportunities. But because no one can know when the pandemic and its economic fallout will end, it is not possible to pinpoint the best buy.  The smart approach would be to invest in stocks piecemeal, and over time –– perhaps on each major market reverse.  Investment professionals call this “dollar cost averaging”.

 

 

 

An Update: The Covid-19 Recession

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The U.S. economy – and the rest of the world – is at the gates of a severe recession.  The economic downturn is emerging neither from the COVID-19 virus nor from its threats of debility and death.  It is the quarantines, the lockdowns, and the supply constraints that have created a powerful recessionary thrust, because the longer those pressures last, the greater the possibility of more fundamental layoffs, shutdowns, and bankruptcies.  Efforts by the Federal Reserve (Fed) to ease monetary policy may blunt the recessionary dynamic, as will the fiscal stimulus measures, such as tax cuts, contemplated by the White House.  But what would really help is if Washington and the states focused on the specific drivers of today’s emergency and thus break the chain  dragging us into recession.

The situation today is very different from a typical recession.  Downturns usually grow out of shortages in demand.  Governments combat demand shortages by spending themselves and by offering people inducements to spend, for example through low interest rates or tax cuts.  The coronavirus emergency has instead imposed a shortage of supply.  Quarantines are keeping people from productive jobs, first in China and now globally.  Working from home cannot fill that gap, especially with factory work as well as many service industries.  The consequent shortfalls in production have denied other production operations the parts and materials they need to meet their output schedules.  Consumers who are otherwise eager to spend face a paucity of options as public health measures have closed restaurants, events, and retail facilities.  Though the demand for goods and services remains, it is supply constraints that are limiting economic activity.

A recession will arise because these stymied demands cannot last if the shutdowns and quarantines persist.  Businesses may keep idle workers on the payroll for a while, either in response to government mandates or from loyalty, but the businesses (which must also pay taxes, rent, and interest on their debts) cannot long meet these expenses in the face of shortfalls in revenues imposed by the closing of businesses and public spaces.  Companies are reaching that limit quickly and when they do they will have to turn to more permanent layoffs and staff reductions.  Many businesses––small firms especially––will face bankruptcy, leaving employees without income and many suppliers and landlords facing additional revenue squeezes. Other businesses in less difficult straits will nonetheless shelve expansion plans, leaving producers down the line facing a shortfall in demand for their products. The number of companies in this situation will grow the longer the present economic pause persists, and the greater that number gets, the deeper into recession the U.S. and the world will fall.

Monetary easing, such as the Federal Reserve (Fed) has recently implemented, and the kinds of fiscal measures being contemplated by the administration, could blunt such recessionary effects. But it is highly doubtful that such measures can fully counteract these recessionary forces once they gain momentum.  It would be better to take additional, if less common, measures to help stop the transition from today’s “pause” to the layoffs and other cutbacks that will bring on recession. Though not a complete list, here are five suggestions for what needs to be done:

  1. During this time of emergency, Washington should enable the Small Business Administration (SBA) to make low-interest or zero-interest loans to help small businesses sustain payrolls and stave off bankruptcy. Under the standard rules of disaster relief, the SBA has made provisions for loans of up to two million dollars, but this emergency requires larger amounts extended over a longer repayment period.
  2. States and cities could bolster such an effort with similar programs of their own, and the federal government could support them by changing the rules to allow states and cities to raise money by offering tax-free bonds for such targeted lending.
  3. Though large firms have the financial resources to hold out longer than small ones, these larger ones, too, cannot survive the current pressures indefinitely. They could get essential help if Washington were to offer them “special lending,” perhaps contingent on maintaining payrolls.  Such loans could come from the federal government directly or they could be organized between the Fed and the banking community.  While the Fed has never made such arrangements for commercial and industrial endeavors, it certainly has done so for banks and other financial firms.
  4. Washington and the states might prepay (in effect, pay ahead) existing contracts for one or two years enabling those firms to use the immediate cash flow to cover expenses during this emergency.
  5. The nation’s retailers might obtain similar help from arrangements that allow consumers to prepay future purchases at a local shop or favorite restaurant, with the inducement, perhaps, of a discount. Many firms already offer such “gift cards,” but today’s greater need might involve help from local chambers of commerce or even city governments.

More imaginative people could add to this list.  Normally such admittedly unusual arrangements would not be necessary, but these are hardly normal times.

 

 

 

 

 

 

 

 

 

More on the Economics of the Coronavirus

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Let me begin by framing this essay with what is obvious: we, and the world, are in a highly fluid situation. With COVID-19 intensifying in the U.S., there has been clamoring for Washington to take action to protect the economy.  The Federal Reserve (Fed) has just cut interest rates again (March 15).  President Trump’s economics team has floated the idea of payroll tax cuts.  To many, these responses seem wholly inadequate and in many respects they are.  Tax cuts and lowering interest rates will not stop the spread of this still-mysterious disease.  Nor will they do much, if anything, to ease the supply interruptions created by COVID-19’s economic havoc thus far.  Such actions would help, however, if the virus endures and precipitates a classic economic retrenchment.  In that case, the present and contemplated policy moves will look wise.

The immediate futility of such policy measures is evident in the nature of today’s economic fallout.  The disease’s spread has kept workers from their work, not only those who are sick but also the far greater number who worry and have been warned about contagion. In reaction, much of daily activity in the country has been curtailed, including public school systems, universities, sports events, restaurants, museums, theaters, concert halls and more.  Output has slowed in China and increasingly across the world.

China’s problems are among the most pronounced.  It is where COVID-19 got its start and remains most severe.  Statistics are scarce.  Most telling is the release by China’s purchasing managers of February statistics.  Their index of production, in which the value of 50 delineates the line between expansion and contraction, showed a drop of more than 20 percent, falling from 51.1 in January to 40.3 in February.  The manufacturing subsector fell to a low of 35.7.

Problems, of course, have extended beyond China.  That country’s quarantines have cut off the huge and lucrative flow of moneyed Chinese tourists to Japan, South Korea, North America, and Europe.  And producers in these and other countries have found it increasingly difficult to get needed supplies and parts from China.  Apple, for instance, sources many of its products there.  The United Auto Workers recently hinted that General Motors may have to close some of its plants because of a lack of parts, and it appears that some 125 prescription medicines in the United States will be unavailable because of a lack of China-based ingredients.  As the virus has spread to Europe and North America, cutbacks in travel and work have repeated the Chinese problem and added to supply and parts pressures elsewhere in the world.  Neither interest rate cuts nor tax cuts can do anything to address these matters.

  • Lower rates might otherwise encourage borrowing for capital investment and expansion, but it is highly unlikely that businesses will invest or expand when concerns about contagion are otherwise idling existing facilities.
  • Tax cuts might otherwise increase take-home pay and thus induce people to work and spend more, but it is questionable how effective such policies would be if people are afraid of catching the virus and managers are telling existing workers to stay home.
  • And neither action will restart the flow of tourists from China or its shipments of parts and supplies.

Tax and interest rate cuts only can help in the case of classic recessions, which involve a drop in demand for goods and services.  The problem today is a shortage of supplies, parts, and workers.  Should, optimistically speaking, COVID-19 run its course relatively quickly, as SARS and MERS and other similar pandemics did earlier, people would soon return to work, supply chains would resume functioning, and economies would soon rebound, which is what happened in the case of past viral outbreaks.  In such an environment, lower interest rates and lower taxes would do little to accelerate the process and would be useless, except perhaps to calm nerves.

But this does not mean that the policies already implemented or contemplated have no purpose.  There is no guarantee that COVID-19 will follow past patterns.  If it persists, continuing supply shortfalls and bottlenecks will generate layoffs (of which there already is evidence) instead of pauses and work-at-home arrangements, leading to a drop in consumer spending.  Supply problems of long duration would lead to other and more permanent cutbacks, including bankruptcies, which would compound the shortfalls in demand and would bring on a classic recession (of which there already is some evidence). In these circumstances, the demand stimulus of interest rate cuts and tax cuts could perform important counteracting roles,  and such stimulus actions would look prescient in retrospect.

It hardly matters whether policy-makers in Washington are thinking about this longer-term possibility or are simply trying to calm nerves by “doing something.” The interest rate cuts announced by the Federal Reserve on March 15 and earlier in the month, as well as ongoing tax cut considerations, though they may look inept in light of immediate problems, would nonetheless position the U.S. to deal forcefully if the world, in its efforts to combat COVID-19, doesn’t have the relative luck it had with SARS, MERS, Ebola, and other outbreaks.