May 2020 Macro Outlook
I’ve recently been asked by a few people what my outlook is on the macroeconomy. Each of these people know me well enough to understand the limitations of any such opinion in general, but particularly now, in the COVID era. However, while global pandemics may put a temporary end to March madness and Spring Graduations, they don’t put an end to the need for business planning. In that spirit, allow me to lay out a baseline scenario that I am using for my business planning, along with its assumptions and limitations.
[Not the Great Depression] The first thing to get out of the way is that I don’t think we are entering a second Great Depression. Having said that, we will likely see unemployment levels much greater than what we saw during the Great Recession, and some of the quarterly GDP and unemployment statistics may be similar to what was observed in the Great Depression.
The Great Depression lasted from 1929 until the beginning of World War II. At its worst, unemployment in the US was 24.9%, and GDP declined by 26.3% (1932 and 1933). These numbers are devastating. For context, in December 1982, the unemployment rate hit 10.8%; it reached a maximum of 10.0% in October 2009, and outside of those two instances, it hasn’t exceeded 9% since the Great Depression.
[Not the Great Recession] The great recession was, at its heart, a banking crisis. The Great Depression had many causes, but it also precipitated a banking crisis. I do not expect to see a banking crisis associated with the current situation. Banks are much better capitalized and regulated than they were 12 years ago. Further, though I have many problems with the ‘Too Big to Fail’ designation, it is a public recognition of how damaging financial crises are. It is generally accepted that recessions that have financial crises are slower to recover, and therefore more severe, than those that are not. Watching the fortunes of the banking sector will be a very important indicator of the severity of this crisis.
[Similar Severity to the Great Recession] While it will be different than the Great Recession, as I don’t foresee a banking crisis, I think that it will be remembered as similar in overall effect. Likely the best analog is the Financial Panic of 1907, which, although it was a financial crisis, and a very, very serious and acute one, it was very quickly managed through the efforts of JP Morgan. Within 18-24 months, the nation had largely recovered. This is what I believe the current crisis will most resemble–a sharp fall in consumer demand that reverberates through the economy, but the economic damage is narrower than in many previous recessions, and is largely driven by consumers permission to spend, not their ability or willingness. As that permission is restored, the economy can start to heal.
[What Else?] The Saudi-Russian oil war of early 2020 is contributing to the decline in the US economy. Only 15 years ago, such a situation would be stimulative to the US economy, as we were much larger consumers than producers of energy. The shale revolution has changed that equation to turn the US into the largest oil producer in the world. We are also by far the largest producer that does not have the explicit ability to set production. If Saudi Arabia, Russia, or Venezuela wants to cut production in order to manage global output, they can do so. The US, with the exception of the Texas Railroad Commission for Texas producers, cannot. Therefore, any production cutbacks in the US will have to be forced through the price mechanism, which, as we’ve seen, is brutal.
[Is there more?] Of course. This also assumes that we don’t descend into some sort of trade war. It is not a coincidence that Smoot-Hawley was passed during the depths of the Great Depression, and we are hearing many calls for a further reduction in US trade, or for an ‘on-shoring’ of US supply chains. If forced by revised and/or revoked trade deals, such actions will only prolong and deepen the current crisis.
In the coming days and weeks, I’ll be posting more commentary on different sectors of the general and agricultural economies. But since I had to put this down in writing for a colleague (okay, my wife/business partner), it made sense to put it up here, too.