Has COVID-19 killed recessions? It’s a fascinating question. Let’s hope not because they are vital to advancing living standards as they sweep out the capital misallocation of the cycle and help drive productivity growth. Deutsche Bank muses:
So aggressive has been the policy response that the US Covid recession is likely to be the shortest on record in spite of a savage global pandemic. If you can restore growth so quickly in a period when lockdowns are prevalent, then surely a normal recession will now hold no fear and be quickly reversed.
To be fair this trend has been in place on a smaller scale for the last forty years. All four of the cycles since the early 1980s make the top six longest in the thirty-four recorded since 1854 and as today’s CoTD shows these four super cycles have coincided with a unique move to structural deficit financing. Indeed the graph shows other long cycles all coincided with large deficits largely around wars and the New Deal in the 1930s. If it was this easy to avoid recessions why wasn’t it done all the time?
The simplistic answer is that such a policy would have been impossible when money was tied to gold and was only facilitated when the US periodically broke currency ties to gold and then permanently once the Bretton Woods system broke down in 1971. However, for a decade this was highly inflationary and disruptive economically. A miracle then occurred from the early 1980s as we saw a secular four decade structural shift lower in inflation.
We think China’s re-entry into the global economic system in the late 1970s and the natural demographics of the developed world and China ensured that the supply of global labour (much of it very cheap) surged from this point. We think this helped ensure that the usual pressure on wages and prices as activity rose through the subsequent cycles was more subdued than it would normally be and fiscal and monetary policy could be kept looser and ward off economic headwinds much more easily. The cost of this was huge debt accumulation and latterly huge central bank balance sheets and perhaps a structural loss of productivity.
So what’s stopping this becoming the normal policy response and thus ending all but short technical recessions going forward? The answer is likely nothing until either inflation or political constraints arrive.
Without either, policymakers will now likely pursue MMT/helicopter money type policies when the need arises. However, the structural cycle poses risks to this. As the labour supply has now peaked in the key global economies/regions and as globalisation is challenged we might hit inflation pressures earlier in subsequent cycles which will provide the biggest challenge to this no recession theory.
Policymakers could soon face more dilemmas than that seen over the last forty years if we are correct but if we are not, the business cycle could be a thing of the past.
So long as the new virus reality is managed effectively, I don’t see why the business cycle should end. It is likely that MMT will advance as western politicians seek to mollify the losers of globalisation. But that is not the end of the business cycle so much as a new demand driver within it.
In theory, at least, that extra demand should drive the output gaps that have dogged many developed economies to close versus the last cycle.
If so, it will eventually result in higher wages and inflation and, once central banks are forced to shift away from their newfound easiness, it will also bring volatility back to the business cycle.
Don’t get me wrong. I don’t see this coming in the short or medium term as other forces quiet global inflation. In particular, I am referencing the return of Chinese restructuring which will impart serious global disinflation again before long. But over the longer term, if the MMT will is there, it will happen.
If so, COVID-19 will mark not the end of the recession phenomenon but its rebirth as global interest rates grind slowly higher and asset prices, god help ’em, become speed humps for real economy advancement.