Six top economists make their best cases for the shape of things to come.
By Russ Banham
Chief Executive magazine
Predicting the future is dicey business, especially when it involves the future of business. Drawn-out uncertainty, as we’re experiencing with the impact of states retracting their shelter-in-place mandates, only makes it more so.
Covid-19 startled the world with its ferocity, spreading viral contagion and economic chaos at an accelerating pace. The federal stimulus packages, in addition to actions by the Federal Reserve to decrease short-term interest rates to zero and buy bonds, increased the money supply and injected liquidity into the financial system, but consumer sentiment is about as low as it can go. Everyone is anxious about their health, jobs and finances.
The silver lining? The economy will recover… at some point.
To get a sense of when, we asked six leading economists to go out on a limb and describe what recovery will look like. We requested they use an alphabet letter to describe this shape, such as a V, W, L or U, although one economist selected a reverse checkmark. Lastly, we asked for the “monkey wrench” that would change their analysis and their advice to CEOs on how best to ride out the storm.
Here’s what they had to say.
STOPPING THE CHAIN REACTION
William Dickens, Ph.D., University Distinguished Professor and former Chair of the Department of Economics, Northeastern University; served as a non-resident Senior Fellow with The Brookings Institution and a visiting scholar at the Federal Reserve Bank of Boston.
Dickens, whose main research focus is examining the cause of long-term unemployment and its consequences for monetary policy, posits a V-shaped recovery. “My hope, but not necessarily my expectation, is that the government will do an adequate job of preventing the thing I fear the most—cascading bankruptcies,” says Dickens. “There are enough smart people in various institutions in Washington who should persuade whoever else is there that people and businesses must be given help so they don’t default and start a chain reaction.”
If these “smart people” prevail, the rebound will be sharp and quick. “Unlike a typical recession where there’s a reason for the shortfall in demand, such as the Federal Reserve raising interest rates and killing the housing sector, this one is hinged to a health crisis that will inevitably moderate,” Dickens says. “When it does, all that pent-up consumer demand will explode. People will run out to shop at stores, and the economy will come roaring back.”
On the other hand, if “smart people” do not prevail, hordes of people and small businesses will seek bankruptcy protection. This will cause a downgrading of corporate debt and the impairment of bank balance sheets, spiraling downward to adversely affect employment, consumer demand and business growth. In short, a domino effect.
Dickens is hopeful this won’t be the case. While stimulus bills are easing the impact of unemployment on people affected by layoffs and job furloughs, more federal largesse may be in order to reduce the possibility of bankruptcies causing trouble for banks. “It may turn into a U-shape after all, but I still see a rapid recovery,” says Dickens.
Monkey Wrench: Bad decisions in an election year. “I’m leaning toward optimism that the government will do what is necessary to reduce the risks of people and businesses defaulting on their debts. When we start doing a better job of suppressing the virus, the economy will shoot upwards and reach the top of the V-shape in 18 months.”
Message to CEOs: Prepare for good times; they’re coming. “Depending on the line of business, expect to receive a bunch of orders as soon as things get better. Industry sectors that revive first include hospitality and restaurants, followed by capital goods. If the financial system holds up well, be ready to seize the moment.”
Stephen Fuller, Ph.D., Professor of Public Policy and Regional Development [retired] at George Mason University and director of the Stephen S. Fuller Institute, which monitors Greater Washington’s regional economy.
FULLER, WHOSE RESEARCH FOCUSES on the evolution of metropolitan economies, posits what he calls a “lazy” W-shaped recovery. “With the Fed shooting all of its ammunition early in this ‘war’ and with three federal stimulus packages now signed by the president, unless there is additional stimulus in the months ahead, we will experience a slow recovery,” says Fuller.
The reason: Many small businesses will not reopen, putting unskilled and semi-skilled workers out of jobs for the foreseeable future. Furloughed employees also will not go back to work as fast as they were laid off, sustaining high unemployment levels. These factors suggest consumers will continue to hoard cash.
“The economy that emerges from this disruption will be different; consumers will have changed,” says Fuller. “The shock of going from full speed to full stop—savings depleted, income reduced and uncertainty about the future occurring so rapidly—will make younger and older consumers more conservative about spending. People will think twice before buying goods and services.”
Fuller also is concerned about the possibility of a second cycle of the coronavirus gearing up before a vaccine and medical treatments are approved and available. With the southern hemisphere lagging the northern hemisphere in Covid-19 cases, the cases rising in the southern hemisphere could generate a return of the coronavirus in the northern hemisphere by late fall—a pattern similar to the seasonal flu. Hence his depiction of a lazy W-shaped rebound.
The laziness references the width of the letter, which accordions from first quarter 2020 into 2022. Fuller posits that the economic cycle bottomed out in second quarter 2020 and will recover over the second half of 2020 before turning negative for a second time in early 2021 with the resurgence of the pandemic, then gradually return to relative normalcy by first quarter 2022. He bases his estimate on the abrupt cessation in demand, continuing unemployment and disruptions in supply. “This is not a traditional recession driven by flaws in the economy,” he says. “It’s driven instead by distortions in the economy that must be mitigated—and that will take time.”
A restaurant that closes will find it harder to reopen the longer this goes on, he explains. Even if the business reopens, it will need to regroup the workforce, which won’t be easy as previous employees may have jobs elsewhere. New people will need training.
“Many businesses will confront more conservative consumers who have learned to live without certain things they thought were essential, like eating out,” he says. “Sales of homes, cars and other ‘big ticket’ items will suffer as consumers pull back their expenses.”
The stock market will bounce along with these repercussions, but Fuller does not see the Dow falling a “couple thousand points at a throw,” he says, adding that the real estate market will slow down, disrupted by sidelined construction workers, difficulties getting raw materials from foreign suppliers and sluggish demand. “Real estate developers will rethink the development of more office buildings if it’s proven that a big chunk of the workforce can work productively from home,” he explains.
Monkey Wrench: The availability of a vaccine sooner than later. “It would put the U.S. and world economies back on their long-term trajectory, moderating the lazy-W recovery. Once widely available, the economy can go back to work, but it will still suffer the drag of unemployment, business failures and curtailed consumer spending.”
Message to CEOs: “The short-term challenges are to preserve capital and cash and retain talent so workforces can be reassembled quickly after the ‘all-clear’ sign is flashed. The long-term challenge is to identify how this recession has changed the trajectory of the business, altering consumer behavior and shopping patterns, where and how and we work, and how we socialize.”
Ernie Goss, Ph.D., Professor of Economics and Jack MacAllister Chair in Regional Economics, Creighton University’s Heider College of Business.
GOSS, WHOSE RESEARCH FOCUS IS labor economics, econometrics and macroeconomics, initially predicted a V-shaped recovery, changing his forecast in early May to a U-shaped one with a longer horizontal.
“I’m still hopeful for a V-shaped rebound,” he says. “People are hunkered down now in their homes, and when many of them receive the check from the stimulus legislation, they’ll eventually spend the money, kicking the economy back into gear. I just think this will take longer than I previously considered. I now see us bumping along at the bottom more like a U-shape.”
The reason, he says, is the continuing spread of Covid-19 around the rest of the world. In December, the economy of only one country, China, coped with the coronavirus. Thailand, South Korea, Japan, Italy, Spain and the United States soon followed. Other countries are headed the same way, not all of them on lockdown with social distancing and stay-at-home orders in place.
“We’re part of a global economy, in which each country’s fortunes is dependent in part on other countries. Our most recent regional manufacturing survey indicates dismal export and import numbers, with two-thirds of supply managers reporting shipping problems to and from vendors. Things are expected to get worse in the weeks ahead.”
Like other economists, Goss has mixed feelings about the government’s $3 trillion stimulus legislation, which he refers to “rescue” bills. “It isn’t stimulus in the sense of what we economists refer to as the ‘velocity of money,’” he says.
Goss is referring to the rate at which money is exchanged in an economy—the number of times (the velocity) at which money moves from one entity to another. In simple terms, it’s the rate at which businesses and consumers spend money on goods and services, measured as a ratio of GDP to a country’s money supply. Goss says the stimulus bill and actions by the Federal Reserve do little to fuel velocity.
“They pump money into the financial system to increase the cash balances of businesses and people temporarily,” he explains. “Recipients are not likely to spend the money until signs are clearer that things are better. And that isn’t going to happen until the rest of the world catches up to the U.S. and stops the virus. We’ll see meager spending until then. Hence my choice of a U-shaped recovery.”
On the bright side, if medical solutions like vaccines and drugs are available and Covid-19 “goes into remission” across the world, he says he’s willing to go back to his initial V-shaped rebound, with the upswing occurring in fourth quarter 2020. Otherwise, the downturn is likely to persist through 2021, hence his choice of a U-shape with a wide horizontal. “The good news is that there will be a big bump up at some point,” he says, “and everyone will go back to eating out, going to movies and concerts and spending their money freely.”
Monkey Wrench: Scant investment in plants and equipment. “Our world is GDP. If company capital and operating expenditures go down, it will elongate the U -shaped recovery. Similarly, if the government erects trade barriers that keep people and products from coming in and going out, we’re in trouble. Our population is not growing. Immigration is vital to future economic growth.”
Message to CEOs: Shore up the balance sheet. “CEOs are always focused on the income statement and growth, but in the current recession they need to give attention to the balance sheet. Now is the time to clean it up since income impairments are more likely to be accepted by investors. Review and reevaluate your investments, accounts receivables, goodwill impairments and accounts payables terms and write off what you can to strengthen the balance sheet.”
SHARPLY DOWN AND SHARPLY UP
Robert Hartwig, Ph.D., Clinical Associate Professor of Finance and Co-Director of the Center for Risk and Uncertainty Management, University of South Carolina’s Darla Moore School of Business.
HARTWIG WAS AMONG THE MORE optimistic economists we interviewed about the current freefall and eventual recovery, selecting a V-shaped recovery, a sharp upturn once the economy hits the bottom of the current precipitous decline. He predicted the bottom would occur in midsummer, assuming state-mandated stay-at-home and social distancing initiatives successfully contain the spread. Federal stimulus will provide the steam for the rapid economic uptick.
“Three trillion dollars represents roughly 13 percent of GDP, which is sizable, even though it will blow a hole through the federal budget,” Hartwig says. “But I also think the American tolerance for a second shutdown of the economy will have reached its limit in the next 30 days. With unemployment claims rising each week to levels not seen since the depths of the Great Recession, the sentiment that the ‘cure will be worse than the disease’ is mounting.”
Buoying his prediction is November’s election. “I cannot possibly see the president shutting down the economy a second time and throwing millions of people out of work again,” Hartwig explains. “The political dynamic will not tolerate it. As we get closer to the election, the administration will do everything in its power to keep the lights on. A range of heroic measures will come out of Washington, and the accommodative measures from the Federal Reserve could well continue for years.”
He projects that after the economy goes through a “freefall stage,” it will ignite slowly and then fire up in the fall as pent-up consumer demand is unleashed. “I can see hints of positive economic growth occurring in Q3 2020, with Q4 being particularly strong, continuing into 2021,” he says.
Monkey Wrench: A tragic policy mistake. “Everything plus the kitchen sink will be thrown at this, but the president could bend to political will and not reopen the economy until the very last molecule of the coronavirus has been extinguished. But I don’t think that’s realistic, as it could cause markets to seize. Society has to realize we make tradeoffs between risks and rewards every day… Thirty thousand people die in auto accidents every year, but we don’t stop driving. And as many as 60,000 people die each year from influenza, but we don’t shut down business.”
Message to CEOs: Cash is king, as is courage. “Over the next few months, your liquidity is everything. Dividends, capital spending and compensation should all be on the table. But don’t go too deeply into the recession bunker, or you could be left behind once the economy reignites.”
MAKING A BAD SITUATION WORSE
David Levy, Chairman of The Jerome Levy Forecasting Center, a world-recognized economic forecaster whose analyses have led to substantial growth gains in financial markets for investors in the Levy Forecast Fund.
Levy’s shape for the recovery is a reversed checkmark, a sharp diagonal headed down on the left, followed by a short and flatter diagonal at right (basically an L tilted backwards). For the past 18 months, Levy has warned that worldwide financial conditions were dangerously fragile and a recession risk. “On February 21, we wrote that avoiding global recession would require containing the coronavirus in China and that if it spread broadly, it would cause a recession,” he says. “In March, we wrote that a severe recession had begun.”
This analysis is based partly on private sector balance sheets that grew faster than income for several decades. As interest rates got lower, more people and businesses took on risk, particularly in emerging markets that borrowed excessively and lack the ability to contain Covid-19’s health consequences.
Levy says that “emerging markets risk” is the “U.S. subprime mortgage housing crisis” in the current economic debacle. “The bigger that balances sheets are relative to income in a country, the more severe the breakdown will be,” he says. “Conditions in the rest of the world will range from awful to not quite as good as in the U.S.”
Assuming social distancing restrictions are largely relaxed by summer in the U.S., Levy anticipates business profits to perk up in the third quarter, due primarily to federal stimulus spending, but profits still “very depressed” in both Q2 and Q3, averaging roughly 40 percent of year-ago levels.
“If that happens, it will take more stimulus,” he adds. “But the bigger question is how successful Europe will be in stabilizing its situation. Most major central banks have little or nothing left to cut interest rates. I’m also concerned if international financial efforts will be provided to emerging markets to help stabilize their condition.”
Monkey Wrench: Testing fails to get people back to work, as the coronavirus makes a return visit. “My hope is that won’t happen, and we’ll manage to restore work for much of the population. The outlook abroad is even worse. Without more developed nation fiscal stimulus and financial support for emerging markets, a bad situation will become worse. Given strong nationalism and gaping political divisions at home and globally, I’m concerned.”
Message to CEOs: Do not expect a quick recovery. “There will be lingering problems. While the U.S. will continue to be relatively healthy compared to the rest of the world, I’d be very concerned about foreign exposures, particularly emerging markets exposures.”
There you have it—the good, the bad and the really scary—the outcomes uncertain and altering by the day. Our own message to CEOs is this: You can’t control how this will pan out, but you can put forward smart mitigations. And lead with empathy.
TESTING IS EVERYTHING
Laurence Kotlikoff, professor of economics at Boston University, has made news globally for the innovative group coronavirus testing process he developed with his brother Michael, a professor of molecular biology and provost of Cornell University. His V-shaped prediction for recovery hinges on how federal and state governments respond to the pandemic.
“We have the potential to end this thing in two weeks and get everyone out of their homes and back at work,” says Kotlikoff. “The key is to mandate that every single American is tested in large groups at once, and then to isolate infected people from those who aren’t.”
Group testing is a vastly more efficient process than individual testing, explains Kotlikoff, who outlines an aggressive testing and response program aimed at combatting infection. By swabbing the mouths of a thousand people at once, the tests can be pooled for a single aggregate view of the findings. Each group would be tested twice. If the entire group isn’t infected, they’re good to go. If one person in the group is infected, the second swab of each person would be tested to identify who is infected.
“We could test the entire U.S. population in a single day and then quarantine all the infected individuals immediately at hospitals, homes, hotels, community centers and the like to stop the spread,” Kotlikoff says. “Obviously, for it to work, we need strict compliance, oversight and medical monitoring.”
People found to be free of infection would be given a green ID badge or bracelet to wear at all times, allowing them to return to work, he suggests. “My hope is for daily testing, preferably by the military, on a household-by-household basis at election polling places and other local venues. Will this be costly? Yes, but nowhere near the costs of a business shutdown lasting months and months.”
The Kotlikoff brothers have written articles on the subject in The Hill and other publications. “If the government takes our advice—and we’re receiving lots of positive comments—I predict a V-shaped recovery, with the diagonals coming so close together it looks like an I,” he says.
Kotlikoff is calling on CEOs to help get the message out and press for aggressive action. “If the government dithers and doesn’t set this up, or people think the idea of requiring green bracelets is ridiculous, then we’ll just keep plodding along,” he says, adding that the private sector has the power to make a difference on a global scale. “If we do things right here, then companies across the world will follow our lead, including those in emerging economies suffering the most. We can get the entire world back to business in two months, six at the most if we have a really bad depression.”
Russ Banham is a Pulitzer-nominated financial journalist and best-selling author.