Fathom’s Recession Watch 02.04.2020

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Headlines

• S&P 500 falls more than 4% as President Trump warns of a quarter of a million US deaths
• Further evidence of massive job losses in Europe and in the US
• But survey evidence from China reminds us that a V-shaped recovery is attainable
• Fears that UK stimulus package, while impressive on paper, is not being delivered quickly enough

It is now abundantly clear that the global economy is undergoing an economic contraction on a scale not seen since at least the Great Depression. In the UK, close to a million people have registered for Universal Credit within the past two weeks. With many who are out of work ineligible for this benefit, this is broadly consistent with results from a YouGov Poll, mentioned in last Thursday’s Recession Watch, that suggested close to three million UK workers may already have lost their jobs as a result of the coronavirus outbreak. The new orders component in yesterday’s ISM survey of US manufacturers dropped sharply in March to 42.2, the weakest reading since early 2009.

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Equally, the NBS measure of activity in China’s manufacturing and non-manufacturing sectors reminds us that a V-shaped recovery is still possible. After plummeting to record lows in February, at a time when half of China’s population had their movements severely restricted, both the manufacturing and non-manufacturing measures of economic activity moved back above the neutral 50 level. Taken at face value, this suggests that activity began to recover in March, though it is likely to be some months before pre-crisis levels are attained.

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If our central scenario of a V-shaped recovery is to be achieved, it is vital that widespread lockdowns are successful in bringing the pandemic under control within a few months. The daily mortality statistics collated by Johns Hopkins University make for grim reading. They do, nevertheless, suggest that the lockdowns are working. Two to three weeks after they are imposed, the rate at which deaths are increasing tends to fall from around 30% a day to around 10% day. In the case of China, additional fatalities have been in the low single figures for the past week or so.

A second necessary condition for a V-shaped recovery is that governments around the world put in place packages of financial support that are sufficient to keep those firms that have been told to cease production solvent, and their staff able to pay the bills. Although many major economies have announced generous schemes, often amounting to between 10% and 15% of GDP, much of this is in the form of loans and loan guarantees. It is likely that the proportion made available in the form of cash grants will need to rise. We do, however, detect a growing sense of frustration that these financial lifelines, while impressive on paper, can be hard to access in practice. In the UK, a number of businesses report that they are struggling to access government-sponsored loans through their high street banks. At the same time, self-employed people must wait until June before they are able to receive their own form of compensation. An annual Bank of England survey confirms the financial fragility of many UK households, with one in five having savings equivalent to no more than two to three weeks of their disposable income. The risk, in this environment, is that government support comes too late.

Financial markets remain exceptionally volatile. The S&P 500 fell more than 4% yesterday, as President Trump warned there could be up to 240,000 deaths from the disease in the US, even if Americans followed the social distancing guidelines.

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Information from our proprietary capital flows database shows that global M&A activity fell sharply in the first quarter of this year, as deals were put on ice. By region, the fall in activity was particularly sharp in the US and China. The number of deals struck to purchase companies in many African nations continued to rise.

Interesting reading

• A team from Imperial College, London, finds that containment measures may already have saved close to 60,000 lives

Fathom forecast scenarios

Economic forecasting is difficult even at the best of times. It is particularly difficult today. At Fathom, we think in terms of scenarios and seek, wherever possible, to downplay point forecasts. A severe contraction in global economic activity through the first half of this year is inevitable – we are facing what French economist Pierre-Olivier Gourinchas has referred to as a ‘sudden stop’, something the global economy has never experienced before. But how long will it last? In our Global Economic and Markets Outlook for 2020 Q1, we set out three scenarios. The first was a V-shaped recovery, in which the number of cases peaks within months and begins to decline, allowing activity by the end of this year to return to normal levels. The second was a U-shaped recovery, where the virus continues to spread, depressing activity until a vaccine is found, but the economic and financial market infrastructure remains in place to deliver a strong rebound when that occurs. The third was an L-shaped recovery. Since we finalised our forecast on 17 March, a number of major economies have placed more severe restrictions on movement, and imposed a temporary shutdown on more industries than we had thought likely. This more aggressive action has caused us not only to anticipate an even sharper contraction in economic activity in the first few months of this year, but to increase the weight we attach to a V-shaped recovery. At the same time, we have also increased the weight we attach to our more severe risk scenario, making the outlook somewhat bimodal. In the event that COVID-19 returns with equal or greater vigour once restrictions that are holding back economic activity are lifted, then a severe financial crisis will be very hard to avoid.

If you would like more information about Fathom’s COVID-19 scenarios, please contact us.

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