From Bloomberg via Yahoo Finance, May 18:
When Carmen Reinhart and Kenneth Rogoff published their heavyweight
history of financial crises in late 2009, the title was ironic. This
Time Is Different: Eight Centuries of Financial Folly reminded readers
that the catastrophic 2008-09 credit crisis was far from unique. The
authors became the go-to experts on the history of government defaults,
recessions, bank runs, currency sell-offs, and inflationary spikes.
Everything seemed to be part of a predictable pattern.
And
yet a little more than a decade later, we’re experiencing what appears
to be a one-of-a-kind crisis. The Covid-19 pandemic has catapulted the
world into its deepest recession since the Great Depression, provoking
an unprecedented fiscal and monetary response. The International
Monetary Fund is already warning that the outlook has deteriorated since
it predicted in April that the world economy would shrink 3% this year.
To figure out what might be next, Bloomberg Markets spoke to Reinhart, a
former deputy director at the IMF who’s now a professor at the Harvard
Kennedy School, and Rogoff, a former IMF chief economist who’s now a
professor at Harvard. It turns out this time really is different.
BLOOMBERG MARKETS: How are you faring during the lockdown?
CARMEN
REINHART: My husband and I are among the lucky ones because we can work
from home. We came to Florida, where we’ve had a house for a decade.
Our son lives in this area. Vincent’s brother lives in this area. So we
wanted to be close to family. It’s a very busy period even though you’re
always at home.
KENNETH
ROGOFF: I’m with my wife and 21-year-old daughter in our house in
Cambridge, quarantining, so to speak. It’s been a very intense period
partly because I was teaching a lot. And there was the shift to Zoom,
which created more work because you’re trying to prepare differently and
do your lectures differently. It’s obviously a surreal experience
overall.
BM: I will start with the clichéd question. Is this time different?
CR:
Yes. Obviously there are a lot of references to the influenza pandemic
of 1918, which, of course, was the deadliest with estimated worldwide
deaths around 50 million—maybe, by some estimates, as many as 100
million. So pandemics are not new. But the policy response to pandemics
that we’re seeing is definitely new. If you look at the year 1918, when
deaths in the U.S. during the Spanish influenza pandemic peaked, that’s
675,000. Real GDP that year grew 9%. So the dominant economic model at
the time was war production. You really can’t use that experience as any
template for this. That’s one difference.
It’s
certainly different from prior pandemics in terms of the economy, the
policy response, the shutdown. The other thing that I like to highlight
that is very different is how sudden this has been. If you look at U.S.
unemployment claims in six weeks, we’ve had [job losses that] took 60
weeks in terms of the run-up. If you look at capital flows to emerging
markets, the same story. The reversal in capital flows in the four weeks
ending in March matched the decline during the [2008-09] global
financial crisis, which took a year. So the abruptness and the
widespread shutdowns we had not seen before.
KR:
Certainly the global nature of it is different and this highlights the
speed. We have the first global recession crisis really since the Great
Depression. In 2008 it was the rich countries and not the emerging
markets. They [the emerging markets] had a “good” crisis in 2008, but
they’re not going to this time, regardless of how the virus hits them.
The
policy response is also different. Think about China. Can you imagine
if this had hit 50 years ago? Can you imagine the Chinese state having
the capacity to shut down Hubei province? To feed nearly 60 million
people, give them food and water and concentrate medical attention? So
there is a policy option that we have and I think most countries have.
It’s the choice that had to be taken to try to protect ourselves.
Obviously, this has been done to differing degrees of effectiveness in
different countries, with Asia reacting much quicker and with much
better near-term outcomes than Europe and the U.S.
BM: How do you regard the economic policy response?
KR:
It’s a little bit as if you were in a war and saying, “I’m not going to
grade how you’re doing on the battlefield. I’m just going to grade how
you’re hiring extra workers at home.” Obviously how you’re doing on the
battlefield is driving everything.
The
economic policy response has been massive and absolutely necessary. You
can quibble between the European style of trying to preserve firms and
workers in their current jobs and the U.S. version, which is to try to
address it as a natural catastrophe and try to subsidize people but
allow higher unemployment. They’re actually not that different. If this
thing persists, a lot of those European firms will end up having to let
their workers go when the crisis passes. Some of the U.S. firms will end
up rehiring their workers. But certainly the aggressive crisis response
reflects lessons learned in 2008.
BM: Does that explain the stock market surge, which seems at odds with the state of the economy?
CR:
How much of the resilience, if not ebullience, in the market is policy
driven? I think a lot of it. Let’s take monetary policy before the
pandemic. U.S. unemployment was at its lowest level since the 1960s. By
most metrics the U.S. was at or near full employment. It’s very possible
that the path was toward rising interest rates. Clearly that has been
completely replaced by a view that rates are zero now and that they’re
going to stay low for a very long, long, indeterminate period of time,
with a lot of liquidity support from the Federal Reserve. So that’s a
big game changer, discounting futures.
Let
me just point out another issue in terms of the policy response. The
Fed has established a lot of facilities that are now providing support
not only to corporates, but to the fallen angels, the riskier corporates
that certainly were not envisioned at the outset of the pandemic. What
this does mean is that the market is really counting on a lot of
rescues. The blanket coverage by the Fed is broad, and that is driving
the market. And expectations are that we’re going to have this nice
V-shaped recovery and life is going to return to normal as we knew it
before the pandemic. And my own view is that neither of those are likely
to be true. The recovery is unlikely to be V-shaped, and we’re unlikely
to return to the pre-pandemic world. Although I do think that that’s
part of the reason why we see this incongruence between the economic
numbers and what the market is doing.
KR:
Of course, the “Fed lower forever” is part of it. I also feel the
markets have a very sanguine view of the virus and what’s going to
happen and how quickly we can return to normal or maybe how quickly we
will choose to return to whatever normal is. It seems very uncertain to
me. I don’t know how we’re coming back to 2019 levels [in the economy]
in any near term. The true fall in GDP, economic historians will debate
for years. It’s probably much larger than the measured fall. It’s not
just the people not working. What’s the efficiency of the people who are
working? The monetary response has been done hand in hand with the
Treasury. The market is banking on this V-shaped recovery. But a lot of
the firms aren’t coming back. I think we’re going to see a lot of work
for bankruptcy lawyers going across a lot of industries.
BM: So what does the economic recovery look like?
CR:
There is talk on whether it’s going to be a W-shape if there’s a second
wave and so on. That’s a very real possibility given past pandemics and
if there’s no vaccine. One thing that’s clear is the numbers are going
to look spectacularly great in some months simply because you’re coming
out from a base that was pretty devastated. That doesn’t imply that per
capita incomes are going to go back in V-shape to what they were before.
The
shock has disrupted supply chains globally and trade big-time. The
World Trade Organization tells you trade can decline anywhere between
13% and 32%. I don’t think you just break and re-create supply chains at
the drop of a hat. There are a lot of geographic changes that are being
necessitated because, if the economic downturn has been synchronous,
the disease itself hasn’t been synchronous.
Another
reason I think the V-shape story is dubious is that we’re all living in
economies that have a hugely important service component. How do we
know which retailers are going to come back? Which restaurants are going
to come back? Cinemas? When this crisis began to morph from a medical
problem into a financial crisis, then it was clear we were going to have
more hysteresis, longer-lived effects.
KR:
In our book, Carmen and I use the definition of recovery as going back
to the same income as the beginning. That, by the way, is really not the
Wall Street definition of recovery, where recovery is going back to
where the trend was. So we use a much more modest version of recovery.
And still, with postwar financial crises before 2008-09, the average was
four years, and for the Great Depression, 10 years. And there are many
ways this feels more like the Great Depression.
And
you want to talk about a negative productivity shock, too. The biggest
positive productivity shock we’ve had over the last 40 years has been
globalization together with technology. And I think if you take away the
globalization, you probably take away some of the technology. So that
affects not just trade, but movements and people. And then there are the
socio-political ramifications. I liken the incident we’re in to The
Wizard of Oz, where Dorothy got sucked up in the tornado with her house,
and it’s spinning around, and you don’t know where it will come down.
That’s where our social, political, economic system is at the moment.
There’s a lot of uncertainty, and it’s probably not in the pro-growth
direction.
Also
you probably need a debt moratorium that’s fairly widespread for
emerging markets and developing economies. As an analogy, the IMF or
Chapter 11 bankruptcy is very good at dealing with a couple of countries
or a couple of firms at a time. But just as the hospitals can’t handle
all the Covid-19 patients showing up in the same week, neither can our
bankruptcy system and neither can the international financial
institutions.
So
there are going to be phenomenal frictions coming out of this wave of
bankruptcies, defaults. It’s probably going to be, at best, a U-shaped
recovery. And I don’t know how long it’s going to take us to get back to
the 2019 per capita GDP. I would say, looking at it now, five years
would seem like a good outcome out of this....
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