We interrupt your normal viewing pleasure to bring you a special report: Due to fears about the Coronavirus – more specifically, the forceful government measures designed to halt its spread, the US is on the front edge of the sharpest decline in economic activity since the early 20th century.
The US economy was on track to grow at around a 3.0% annualized rate in the first quarter before fears and response measures escalated. Don't just take our word for it, the GDP model used by the Federal Reserve Bank of Atlanta is still projecting real GDP growth at a 3.1% annual rate in the first quarter. That model generates a forecast based on the reported data available through March 18th, which reflects all the key economic reports for January as well as some of the key reports on activity for February.
But we all know the reports for March are going to be horrible. Initial unemployment claims recently increased 70,000 to 281,000. We're projecting an increase to 1,500,000 for last week. To put this in perspective, the peak for any week during the Great Recession of 2008-09 was 665,000. The record high was 695,000 in October 1982. In other words, it's going to get ugly out there fairly quick.
The hard data for March will show severe declines in business activity across many sectors: hotels, restaurants, airlines, autos, you name it. Small businesses are getting killed - murdered really - as government smothers them with restrictions stiffer than anything seen during the notorious Spanish Flu of 1918, the Asian Flu of 1957-58, or the Hong Kong Flu of 1968-69.
Our best guess – and, at this point, given the unprecedented nature of the situation, anyone who calls it anything other than a "guess" should be taken with a grain of salt – is that the US economy will contract at about a 35-40% annualized rate in both March and April, stabilize in May, and then start growing again, gradually, in June. To put this in perspective, the fastest drop in real GDP in any quarter in the past 73 years (so, since 1947) was the first quarter of 1958, when the US was hit by the Asian flu and fell at a 10% annualized rate.
The unprecedented measures being put forth coupled with the rise in technology likely account for much of the rapid onset of the current drop in GDP. We can watch the infection rates and the state and city closures in real time. Further, we can see how the virus is playing out in other parts of the world. We also have to consider our access to the markets; investors can now monitor and trade their portfolios on their phone. There is no more waiting required. Along with the rise in technology, we have had a rise in the spread of false information. We may not always agree with what the "paper" reported about a topic, but the paper did have to validate its story before going to publish. In the "information age," it is incredibly easy for someone to set up a twitter account, or a Facebook account, or implement a robo-call/robo-text campaign to flood investors with false information. They then push out false information. Making matters worse, the lock down has pulled many of Googles and Facebook's employees out of the office and these companies are relying on AI to scan for inaccurate information; AI is not yet as good as a human at doing this job.
It's important to remember that certain parts of GDP will not feel a pinch, like the rental value of homes, health care, government purchases, or groceries. We're guessing business investment in intellectual property will hold up well, too.
We don't have to fully eradicate the Coronavirus to start growing again. The largest downward pressure on the economy is likely to be felt when the number of new cases is peaking. Once new cases have peaked, we're likely to see a combination of either an easing of government restrictions or, informally, fewer businesses and customers complying with those restrictions. Implicitly, we're projecting the growth in new cases will peak by mid-April, which is why we're forecasting that economic activity levels off in May and grows beyond.
In the meantime, economy-wide corporate profits are likely to temporarily plummet, dropping by 60-80% in the second quarter. Policymakers have a number of imperatives that need to be addressed ASAP, including preventing job losses, helping those who lose jobs and customers due to the government's restrictions, and expanding tests and quarantines for the ill so restrictions can be loosened on the rest of us. We are not typically big supporters of expansive unemployment benefits, but the situation is much different when the government is forcing businesses to shut down.
Time is of the essence. Free-market capitalism, the American way of economic life, is not consistent with mass government-imposed shutdowns of business activity.Those shutdowns, if they last too long, will erode future living standards and may end up killing more people than the Coronavirus itself. The faster we can end the shutdown, consistent with general health and welfare, the better. Therapeutics and, eventually, a vaccine are needed, and will help stem an economic downturn that could lead to a permanent (and ultimately harmful) expansion of the federal government.
To focus the minds of our politicians who are shutting down the economy, we should stop paying them as long as the shutdown lasts. Our politicians and bureaucrats need to get creative. Let experimental drugs move ahead rapidly. Allow restaurants to open at 50% capacity, increasing the distance between tables. Allow people to create safer working environments on their own, letting only a few shoppers in at a time, wiping down counters, etc. The government needs to focus on building up hospital capacity, protecting those who are at high risk – the elderly and those with underlying conditions -- but we need to let others get back to work.
Remember, unless we stop all personal interaction, we are essentially deciding certain risks are necessary. Shutting down "non-essential" business slows the spread of the virus but does not stop it. The same calculus needs to be done for the risk coming from economic damage.
The days ahead are going to be tough, no doubt about it. But in the end, the spirit of America will prevail. It always does.
Source: Brian S. Wesbury - Chief Economist