March 20, 2020 / 1:36 PM / 19 days ago

Column: Not 2008 perhaps, though worse for a time with silver linings

LONDON (Reuters) - For better and for worse, this is not quite 2008.

A trader works on the floor of the New York Stock Exchange (NYSE) in New York, U.S., March 20, 2020. REUTERS/Lucas Jackson

For the world economy, the current crisis looks set to be deeper but shorter than the financial crisis of 12 years ago, while rescue efforts may need to be bigger, faster and break even more policy taboos.

For financial markets, whose potential malfunctioning could easily take on a life of its own, it’s too early to tell. But experts accept a proverbial ‘kitchen sink’ of remedies is at last being thrown at the economic and financial shock of the COVID-19 coronavirus pandemic, just like the last crisis.

Despite the innovative detail in the global economic rescue over a decade ago, governments eventually grasped that the sheer scale of coordinated action had to be so impressive as to overwhelm markets and the economic crisis at hand, and needed to be repeated as necessary until it succeeded.

No half measures would do.

On size alone, and with increasing speed after a hesitant start, governments’ response to the 2020 pandemic is matching up.

Trillions of dollars of monetary and fiscal support of virtually all varieties for banks and businesses, including direct handouts to workers, are already pledged or underway.

Yet this has not yet overwhelmed nervous investors.

The main reason is that the root cause of the crisis is not financial or within the banks as it was 12 years ago. Rather, it’s a healthcare crisis that requires measures to both shut down the economy and limit the damage while doing so.

Markets haven’t responded to this medicine yet because they are still trying to figure out the disease - or at least its trajectory and the length of the global lockdown.

The true amounts of public money required to backstop furloughed or redundant workers, companies with no cashflow, or banks facing mass defaults will only be known once we know how long the virus continues to spread and the lockdowns last.

‘Whatever it takes’ meets ‘whatever it does’.

Hopes of a vaccine by year-end may offer some time limit.

Most economists are still only guessing at the damage in the interim but numbers are emerging to give it some shape.

In a report entitled “The day the earth stood still”, JPMorgan estimates a coming global recession will see world output contract at an annualised 12% rate in the first quarter, followed by another 1.2% shrinkage in Q2. But then a whopping 19% rebound is pencilled in for Q3, leaving a full-year average down 1.1% - the first drop in GDP since the winter or 2008/09.

America’s biggest bank sees China’s economy shrinking at a staggering 40% rate this quarter and eye-watering contractions of 14% in the United States, 22% in the euro area and 30% in Britain during the April-June period.

As other banks weigh in, these numbers are not outliers.

COMING TO GRIPS

Markets find it hard to even conceive of the earnings hit and debt calculations associated with numbers like that, especially if they also have to aggregate it with such a V-shaped rebound.

That lack of visibility, or ‘fear factor’, plays a lot into the near 30% drop in the MSCI’s all-country share index this year - the worst quarter in the 32-year history of the series.

Even the hair-raising numbers are subject to some unknowables. The rebound assumed by JPM hinges on virus infections peaking around 10 weeks after first confirmed cases, subsequent lifting of lockdowns, success of monetary policy healing credit channels and more fiscal easing.

All governments can do now is bridge the gap by keeping illiquid firms solvent, preventing a seizure of credit markets and cushioning the demand drop, it reckons.

Writing about “Identifying the turning point” on Friday, Bluebay Asset Management’s Mark Dowding said timing a rebound is still impossible but there’s little doubt there would be one.

“We don’t believe there is excess leverage in the system, as was the case of 2008. Banks are in decent shape and there need not be structural impediments holding back growth once we pass this particular episode.”

The debt legacy, like the last crisis, is another matter.

Commerzbank sees U.S. budget deficits ballooning to 8.5% of GDP this year and next. Although less than the 9.8% hit in 2009, it kicks in at a much higher level of debt, and debt/GDP ratios will now breach 100% - on course for the 106% record hit immediately after World War Two.

Comparisons with wartime economies are rife now among both government leaders and analysts - even though, as UBS economist Paul Donovan points out, wars typically boost production while fighting a virus clearly shuts it down.

“The world is de facto at war (against the virus, rather than against each other),” former International Monetary Fund chief economist Olivier Blanchard tweeted this week. “With this in mind: US Federal deficits as a ratio to GDP: 1942: -12%, 1943: -26%, 1944: -21%, 1945: -20%. Let’s not be squeamish.”

The issue, then, hinges on how this public debt explosion will be financed if future growth does not match the post-War booms of the 1950s and 1960s.

For many, the exceptional and temporary nature of the problem may eventually require direct central bank financing of the government plan - what’s known as ‘helicopter money’.

That’s something that worries inflation hawks fearful of politicizing monetary policy longer term. Advocates insist it would right the inequities of ‘quantitative easing’ alternatives of the past decade. QE meant the new money was channelled through banks, not always lent on further, and often ended up inflating assets held by the already wealthy, while pushing some governments into austerity to control debt piles.

Ideas like Modern Monetary Theory propose central bank finance for future investment in things like green energy infrastructure. Many will also point to potentially huge investments in healthcare systems if flu-like pandemics are expected to recur over the coming decades at great cost.

In Europe, the need to move in this direction may also hasten agreement on a joint euro zone government debt instrument or safe asset - long resisted by Germany but something that would improve the functioning of euro capital markets and bind the zone together.

And yet the great lesson from 2008 for many investors is that all seemingly intractable crises end eventually. “Fear is not a permanent state in markets - nor in life,” said Dowding.

The author is editor-at-large for finance and markets at Reuters News. Any views expressed here are his own.

by Mike Dolan, Twitter: @reutersMikeD; Editing by Nick Tattersall

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