- A month ago Wall Street thought coronavirus would just be a short sharp shock to China, now it’s shutting down the US economy and tipping the global economy into recession.
- It’s time to throw out all your financial models and assumptions. The best way to understand what will happen to the US economy is to look at what happened to China.
- From China’s experience we’ve learned that it takes a while for an economy to get back on its feet again. And once it’s back, that doesn’t mean demand problems are solved.
- US policymakers should try to curb this by getting cash in the hands of all Americans ASAP.
- This is an opinion column. The thoughts expressed are those of the author.
- Visit Business Insider’s homepage for more stories.
Before the coronavirus made it to the US, I remember listening patiently as a hedge fund guy explained to me that the market (then at record highs) was actually cheap.
He explained how, theoretically – given this, that and the other technical finance term – it could continue to go up forever. This almost seemed like a safe assumption in a news cycle where nothing, not even the President assassinating an Iranian military leader, could stop stocks from rallying.
This, the hedge fund guy said, was how a lot of funds were thinking about the market at the time. Limitless.
I said that was all very cute, but reminded this gentleman that his model wouldn’t mean anything the moment something eventually happened – a major event. Big things do happen, and in markets one should never lean on the word „forever.“ So his theory wasn’t not really worth much. In unprecedented situations everyday models and predictions are bound to fail.
If it seems like the coronavirus caught caught Wall Street totally unaware that’s because, for the most part, it did. A couple of weeks ago the mantra on the Street was still „nothing matters.“ Buy stocks. Now all of that has changed. A recession is coming, one featuring a collection economic problems we have to solve all at once.
In the coming weeks you will hear a myriad of prognostications about the US economy. Largely these will be made by people who’ve been quickly, desperately revising their rosy estimates for the economy down – and then down again – over the last week. On Monday, Goldman Sachs determined US GDP will contract by 5% in the second quarter – a drop not seen since the depths of the financial crisis.
Just how quickly the US economy makes a recovery depends on how well Americans practice social distancing, how quickly coronavirus testing is ramped, how much help the government is willing to help American families and businesses, and finally how much confidence Americans have to go back to their daily lives when this is all over. This all is impossible to model or predict.
What we do have, though, in the absence of credible assumptions, is comparison. So if you want to know what’s going to happen to the US economy you may want to look less to Wall Street and more to China.
Long hard slog or short sharp shock?
China has been fighting the coronavirus since mid-January, when officials finally admitted that it had spread all over the country and had taken a particular hold in Hubei Province, where Wuhan is the capital.
They fought the virus much in the same way it looks like the West will have to – though with all the draconian trappings of an authoritarian government – by shutting down entire the entire country in order to find the virus and set up a system for separating the sick from the healthy.
What that effort has done is devastate China’s economy in the first two months of 2020.
- Over that time China’s industrial production fell 13.5% and its service production fell 13%.
- Manufacturing production was especially hard hit, falling over 15%.
- Automotive production fell a whopping 32%.
- New housing starts fell by 44% and there was a 23% drop in housing completion.
- Retail sales fell by 23% in real terms.
- And finally, because of work disruptions, exports fell 17%.
Earlier this month Charlene Chu of Autonomous Research told me that she expects Chinese GDP to fall -12% in the first quarter, though the government will never print anything like that. The Chinese Communist Party has tried to strike an optimistic tone but that is belied by how slowly things are getting back to normal.
Technically China reopened on February 10th, but Autonomous noted that according to the Ministry of Industry & Information Technology, only 33% of small and medium sized businesses had returned to work by February 26th.
Once you stop a machine as big as the Chinese economy, it can take a while to start back up again. Small businesses need to be rescued, the sick still need care, 50 million migrants still haven’t returned to their jobs, analysts are watching to see if heavily indebted companies default, and China’s banks – which suffered a mini crisis last summer – are expected to extend themselves as much as they can.
All of this means that the economy is still weak and that recovery will mean a longer harder slog than Wall Street first assumed. And some – though not all – of those maladies are about to inflict the US economy.
USA! USA! USA!
Forget what the jobs number was last month, or what consumer confidence was doing, or whatever earnings estimates you had for US companies. Throw all of that out the window.
Instead it’s more useful to compare what happened in China to what can happen here. There are obviously differences between the US economy and the Chinese economy. For one thing, we don’t have to wait for hundreds of millions of migrants to go back to their factory jobs in cities to get the industrial sector going again. Hopefully that will contribute to a faster supply shock recovery.
Ultimately, this could mean our supply shock may not be as severe as China’s.
That doesn’t mean it won’t be ugly, though. On Monday the New York Federal Reserve’s Empire State Manufacturing Index fell deep into negative territory. New York is one of the states hardest hit by the coronavirus, and no one likes a print that goes from 12.9 in February to -21.5 in March.
But a manufacturing crisis doesn’t hit as hard here as it does in China. Last year US manufacturing was in the worst slowdown since the financial crisis, but the wider economy was able to keep chugging along because our service sector is a much bigger contributor to economic growth. So Americans kept buying stuff.
Of course, that’s only part of the story of this crisis. Now that analysts at Societe Generale are filtering through the wreckage of China’s economy, they see that while supply side issues – like labor shortages – slowed the economy at first, what will slow it for longer are the slowdown the „signs of severe income shock to both corporates and households.“
This is where the US and Chinese economies look the same. In both countries families and businesses desperately need cash now.
In the US households and corporations are holding a record amount of debt. We have the opportunity to start stimulating the economy and handing out checks now so no one misses debt payments. If we allow those to pile up we could find ourselves in an entirely different crisis once this is over. And while the Federal Reserve can take interest rates to zero, that’s not super helpful in a world where no one has cash flow.
Utah Sen. Mitt Romney suggested sending every American adult $1,000. We should do that and much more.
Here in the US what will send markets convulsing is any sign that the government is being stingy or incompetent. Partisanship has been and will be punished through stock and credit markets.
China has its own troubles that come with a government rescue. Here in the US the problem is that the Senate is a graveyard where Republicans are ideologically opposed to large stimulus packages, anything that smacks of free healthcare, and „handouts.“ None of that is useful now. Those are old fights no one has time for anymore. We have to focus on fighting the virus, and we need to be generous with each other, now more than ever.