Fifty years of US policy come home to roost

Decades of bad choices have relentlessly favoured the interests of the private sector

Rana Foroohar

In New York City, there are not too many words a parent of a teenage boy fears more than, “No basketball”.

Few here can afford spacious quarters, so sending frisky kids like my 13-year-old out to play ball with friends is crucial for familial bonhomie.

But state governor Andrew Cuomo has banned this, as part of New York’s social distancing protocol. Hoops and spirits are down.

Much has been written about how US President Donald Trump is mishandling national efforts to stem the spread of Covid-19, and rightly so. The country now has more cases than any other, overtaking China and Italy, and numbers are unlikely to peak before May.

But what I see in my own neighbourhood underscores how Mr Trump’s fumbling response to coronavirus is part of a bigger national problem. Policy choices, made over decades, have re­lent­lessly favoured the interests of the private sector in general, and large corporations in particular, over both the state and labour, in ways that are proving costly to our health and our economy.

Case in point: many people who do not have full-time jobs with benefits are still trying to work, despite the “shelter-in-place” mandate that allows only critical workers to be on the job these days.

Aside from the people who live near me, those I see on the streets are nannies, cleaners, contractors and others who work by the hour, for cash. Surely some are becoming viral vectors, but who can blame them for trying to make a buck?

The $1,200 per adult benefit being handed out as part of the $2tn federal stimulus package which aims to cushion the financial blow from the virus won’t go far. In fact, in NYC, it will pay only a little over one-third of a single month’s median rent of $3,000.

Uber drivers, who are playing what I consider to be an emergency role in New York (fewer people per head own cars here than in other parts of the US) will fare a bit better. The federal government will end up shouldering the cost of unemployment insurance for these contract labourers, because companies such as Uber have successfully avoided having to admit that they are, indeed, real employees who should receive real benefits during normal times.

If I were a chief executive in a company that has to shoulder those burdens directly, I would be furious about this. While I’m all for the emergency stimulus package, it’s ridiculous that a company with a valuation of $46bn has managed to push that burden on to taxpayers by leveraging the free-market fantasy that there is an equal power dynamic between America’s gig workers and its biggest corporations.

This brings us to an important truth. While private market systems are great at allocating resources in many areas, some markets — not only labour but also healthcare — require more public intervention and investment to function properly.

America’s fragmented and costly healthcare system is Byzantine in the best of times, and needless to say these aren’t the best of times. As I write this line, the third ambulance I have seen today is rolling down my block. I’m glad that I’m not in it, given that Mr Cuomo has stated that while New York needs 30,000 ventilators, it has only 4,000. Mayors and local governments all over the country have been left to fight for available supply with each other in a free market frenzy.

The federal stimulus package does provide $150bn in funding for hospitals, healthcare workers, equipment and services, most of which will be provided by state and local municipalities. But that is a fraction of the $500bn that large businesses will receive, in the hope that they will use some of it to continue to keep as many workers as possible on their payrolls.

Frankly, I wish that the US corporations had chosen to make job protection a more core part of their business models, as many Germany companies have. The German kurzarbeit model of using economic downtime to retrain workers and upgrade factories is an important reason that many German exporters gained market share in Asia at the expense of American companies after the 2008 financial crisis. Then, US businesses were disadvantaged by the extra time and money it took to rehire and retrain the labour they had let go after the crash.

Instead, we have a “just in time” business model, and a very large corporate slush fund that the Treasury secretary, Steven Mnuchin, has far too much control over. Anyone who thinks that the oversight provisions in the bailout will put sufficient limits on corporate handouts is being overly optimistic.

It is local and state governments, not public companies, that will bear most of the burden for Covid-19 efforts.

Yet this comes at a time when investors looking to raise cash in the midst of the pandemic have dumped municipal bonds. That raises debt servicing costs in places such as Suffolk County, home to the Hamptons, New York’s favourite summer spot.

Plenty of people I know have already decamped there, fleeing the New York City crowds, but this may prove to be folly, since hospitals there are even less well-resourced than those in the city.

In an ideal world, we’d have a Reconstruction Finance Corporation of the sort deployed during the second world war, and a president who had a coherent plan about how to organise public and private sector efforts to fight the virus. We’d also have basketball.

Will the Economic Strategy Work?

Because even thriving companies can be killed in a matter of weeks by a recession of the magnitude now confronting the world, advanced-economy governments have reacted in a remarkably similar fashion to the COVID-19 crisis. But extending liquidity lifelines to private businesses and supporting idled workers assumes a short crisis.

Jean Pisani-Ferry

pisaniferry108_Peter Summers - WPA PoolGetty Images_coronavirusbankofenglandmarkcarney

PARIS – With the COVID-19 crisis bringing France to a halt, Insee, the French statistical institute, puts the drop in economic activity relative to normal at 35%. It reckons that the fall in household consumption is of a similar magnitude.

These numbers imply that each additional month of lockdown reduces annual GDP by three percentage points. And sectoral situations are obviously worse: business output is down 40%, manufacturing output down 50%, and some services sectors have come to a complete standstill.

Ex ante estimates for Germany and the United Kingdom are similar, and, if anything, corresponding numbers may be larger in economies with a smaller public sector.

Because even thriving companies can be killed in a matter of weeks by a shock of this magnitude, governments have reacted in a remarkably similar fashion. To prevent bankruptcies, they are extending liquidity lifelines to private businesses in the form of massive credit guarantees and the deferral of tax payments (many of which will never be collected).

Germany, for example is rolling out €400 billion in public guarantees to make sure that its banks will roll over outstanding loans to businesses. Overall, eurozone fiscal liquidity schemes for business and employees amount to 13% of GDP.

European countries are, moreover, making extensive use of mechanisms that temporarily transfer to the government the largest part of the wage bill of companies forced to stop or cut production. Workers retain their employment contract and, one way or another, most of their wage, but the company receives state support that covers nearly all the costs.

Unlike layoffs, which sever ties between a company and its workforce, such schemes make it possible to keep workers financially afloat until the company reopens for business. Such arrangements, where they already existed, were generally used to address sector-specific crises.

Now, they have been massively extended.

Absent an extensive social insurance system to build on, the US stimulus package, adopted on March 26, has similar aims, but a different structure. The federal government will send checks to low- and middle-income taxpayers, extend grants to small businesses, conditional on them keeping their workers, increase the duration of unemployment insurance and broaden eligibility, and pay $600 per week to laid-off and furloughed workers.

This is, in spirit, a very European package. But stark differences remain: from March 14 to March 21, weekly unemployment claims in the US soared by an unprecedented amount – from 282,000 to 3.28 million. No European country has experienced such an abrupt business response to the shock.

Whether the strategy will be effective is hard to assess. Whatever the size of the shield that is being extended to protect businesses and workers, devastation is certain. Many companies were caught off guard by the crisis, loaded with debt and now devoid of prospects. Liquidity helps them but it won’t save them from the threat of insolvency.

The collapsing stock markets have reduced the value of collateral, leaving borrowers more fragile and putting leveraged investors in great danger. Banks are piling up bad debt once again.

Moreover, many gig workers, temporary employees, and new entrants on the labor market have been left without an income, while the bureaucratic plumbing of the new unemployment insurance schemes is an operational nightmare. So there will be many, many casualties. But overall, the approach being taken is probably the best possible.

Is it a sustainable strategy? It is easy to do the fiscal numbers. Assuming that the business sector accounts for 80% of the economy, that its output is down by 40%, and that government action aims at covering 80% of the corresponding income loss, budgetary support should amount to 0.8x0.4x0.8=25% of pre-crisis output, or a bit more than 2% of annual GDP per month. Three months of complete or partial lockdown, followed by only a gradual recovery, could add some ten percentage points of GDP to the budget deficit.

That is a very big number, but in current conditions, governments can afford to go deeply into debt. Interest rates were at historically low levels before the crisis hit, for reasons that were mostly structural and will therefore remain valid. Moreover, central banks everywhere are backstopping their governments and will avoid self-fulfilling debt crises. In these conditions, large deficits can be tolerated, at least in the short run.

The economic sustainability of the strategy is more in question. It is worth keeping a business on life support for a few weeks, because to let it go bust would be a loss not only to its shareholders and workers, but to society at large. Firm-specific skills, know-how, and intangible capital would be lost for good.

So governments have been right not to hesitate. But will that still be true after six months? Or nine? A firm that has remained idle for too long is likely to become riddled with debt, and it may have lost its economic value.

It must be admitted that the conservation strategy is predicated on a relatively short crisis. It is right for the time being, but it may have to be adapted in the light of events.

The hardest issue may be how to manage the exit from the lockdown after the public-health threat has been contained and economic policy takes center stage again. Some have started speaking of a stimulus plan, but supply may well remain constrained for some months, while pent-up household demand for goods and services could be considerable.

As after a war, shortages are likely to arise, in some sectors at least. And it is very hard to predict whether aggregate demand will be excessive (owing to accumulated savings and repressed consumption) or depressed (because of fear, financial losses, debt, and the collapse of international trade).

Managing the economy will be a very hard balancing act.

As the Chinese saying puts it, policymakers will need to cross the river by feeling the stones.

Jean Pisani-Ferry, a senior fellow at Brussels-based think tank Bruegel and a senior non-resident fellow at the Peterson Institute for International Economics, holds the Tommaso Padoa-Schioppa chair at the European University Institute.

Why the Global Recession Could Last a Long Time

Fears are growing that the worldwide economic downturn could be especially deep and lengthy, with recovery limited by continued anxiety.

By Peter S. Goodman

St. Peter’s Square in Vatican City (March 19).Credit...Nadia Shira Cohen for The New York Times

LONDON — The world is almost certainly ensnared in a devastating recession delivered by the coronavirus pandemic.

Now, fears are growing that the downturn could be far more punishing and long lasting than initially feared — potentially enduring into next year, and even beyond — as governments intensify restrictions on business to halt the spread of the pandemic, and as fear of the virus reconfigures the very concept of public space, impeding consumer-led economic growth.

The pandemic is above all a public health emergency. So long as human interaction remains dangerous, business cannot responsibly return to normal. And what was normal before may not be anymore. People may be less inclined to jam into crowded restaurants and concert halls even after the virus is contained.

The abrupt halt of commercial activity threatens to impose economic pain so profound and enduring in every region of the world at once that recovery could take years. The losses to companies, many already saturated with debt, risk triggering a financial crisis of cataclysmic proportions.

Stock markets have reflected the economic alarm. The S&P 500 in the United States fell over 4 percent on Wednesday, as investors braced for worse conditions ahead. That followed a brutal March, during which a whipsawing S&P 500 fell 12.5 percent, in its worst month since October 2008.

“I feel like the 2008 financial crisis was just a dry run for this,” said Kenneth S. Rogoff, a Harvard economist and co-author of a history of financial crises, “This Time Is Different: Eight Centuries of Financial Folly.”

“This is already shaping up as the deepest dive on record for the global economy for over 100 years,” he said. “Everything depends on how long it lasts, but if this goes on for a long time, it’s certainly going to be the mother of all financial crises.”

The situation looks uniquely dire in developing countries, which have seen investment rush for the exits this year, sending currencies plummeting, forcing people to pay more for imported food and fuel, and threatening governments with insolvency — all of this while the pandemic itself threatens to overwhelm inadequate medical systems.

Among investors, a hopeful scenario holds currency: The recession will be painful but short-lived, giving way to a robust recovery this year. The global economy is in a temporary deep freeze, the logic goes. Once the virus is contained, enabling people to return to offices and shopping malls, life will snap back to normal. Jets will fill with families going on merely deferred vacations. Factories will resume, fulfilling saved up orders.
But even after the virus is tamed — and no one really knows when that will be — the world that emerges is likely to be choked with trouble, challenging the recovery. Mass joblessness exacts societal costs. Widespread bankruptcy could leave industry in a weakened state, depleted of investment and innovation.

Households may remain agitated and risk averse, making them prone to thrift. Some social distancing measures could remain indefinitely. Consumer spending amounts to roughly two-thirds of economic activity worldwide. If anxiety endures and people are reluctant to spend, expansion will be limited — especially as continued vigilance against the coronavirus may be required for years.

“The psychology won’t just bounce back,” said Charles Dumas, chief economist at TS Lombard, an investment research firm in London. “People have had a real shock. The recovery will be slow, and certain behavior patterns are going to change, if not forever at least for a long while.”

Rising stock prices in the United States have in recent years propelled spending. Millions of people are now filing claims for unemployment benefits, while wealthier households are absorbing the reality of substantially diminished retirement savings.

Americans boosted their rates of savings significantly in the years after the Great Depression.

Fear and tarnished credit limited reliance on borrowing. That could happen again.

“The loss of income on the labor front is tremendous,” Mr. Dumas said. “The loss of value in the wealth effect is also very strong.”

The sense of alarm is enhanced by the fact that every inhabited part of the globe is now in trouble.

The United States, the world’s largest economy, is almost certainly in a recession. So is Europe. So probably are significant economies like Canada, Japan, South Korea, Singapore, Brazil, Argentina and Mexico. China, the world’s second-largest economy, is expected to grow by only 2 percent this year, according to TS Lombard, the research firm.

For years, a segment of the economic orthodoxy advanced the notion that globalization came with a built-in insurance policy against collective disaster. So long as some part of the world economy was growing, that supposedly moderated the impact of a downturn in any one country.

The global recession that followed the financial crisis of 2008 beggared that thesis. The current downturn presents an even more extreme event — a worldwide emergency that has left no safe haven.

When the pandemic emerged, initially in central China, it was viewed as a substantial threat to that economy. Even as China closed itself off, conventional wisdom held that, at worst, large international companies like Apple and General Motors would suffer lost sales to Chinese consumers, while manufacturers elsewhere would struggle to secure parts made in Chinese factories.

But then the pandemic spread to Italy and eventually across Europe, threatening factories on the continent. Then came government policies that essentially locked down modern life, business included, while the virus spread to the United States.

“Now, anywhere you look in the global economy we are seeing a hit to domestic demand on top of those supply chain impacts,” said Innes McFee, managing director of macro and investor services at Oxford Economics in London. “It’s incredibly worrying.”

Oxford Economics estimates that the global economy will contract marginally this year, before improving by June. But this view is likely to be revised down sharply, Mr. McFee said.

Trillions of dollars in credit and loan guarantees dispensed by central banks and governments in the United States and Europe have perhaps cushioned the most developed economies. That may prevent large numbers of businesses from failing, say economists, while ensuring that workers who lose jobs will be able to stay current on their bills.

“I am attached to the notion that this is a temporary crisis,” said Marie Owens Thomsen, global chief economist at Indosuez Wealth Management in Geneva. “You hit the pause button, and then you hit the start button, and the machine starts running again.”

But that depends on the rescue packages proving effective — no sure thing. In the typical economic shock, government spends money to try to encourage people to go out and spend. In this crisis, the authorities are demanding that people stay inside to limit the virus.

“The longer this goes on, the more likely it is that there will be destruction of productive capacity,” Ms. Owens Thomsen said. “Then, the nature of the crisis morphs from temporary to something a bit more lasting.”

Worldwide, foreign direct investment is on track to decline by 40 percent this year, according to the United Nations Conference on Trade and Development. This threatens “lasting damage to global production networks and supply chains,” said the body’s director of investment and enterprise, James Zhan.

“It will likely take two to three years for most economies to return to their pre-pandemic levels of output,” IHS Markit said in a recent research note.

In developing countries, the consequences are already severe. Not only is capital fleeing, but a plunge in commodity prices — especially oil — is assailing many countries, among them Mexico, Chile and Nigeria. China’s slowdown is rippling out to countries that supply Chinese factories with components, from Indonesia to South Korea.

Between now and the end of next year, developing countries are on the hook to repay some $2.7 trillion in debt, according to a report released Monday by the U.N. trade body. In normal times, they could afford to roll most of that debt into new loans. But the abrupt exodus of money has prompted investors to charge higher rates of interest for new loans.

The U.N. body called for a $2.5 trillion rescue for developing countries — $1 trillion in loans from the International Monetary Fund, another $1 trillion in debt forgiveness from a broad range of creditors and $500 billion for health recovery.

“The great fear we have for developing countries is that the economic shocks have actually hit most of them before the health shocks have really begin to hit,” said Richard Kozul-Wright, director of the division on globalization and development strategies at the U.N. trade body in Geneva.

In the most optimistic view, the fix is already underway. China has effectively contained the virus and is beginning to get back to work, though gradually. If Chinese factories spring back to life, that will ripple out across the globe, generating demand for computer chips made in Taiwan, copper mined in Zambia and soybeans grown in Argentina.

But China’s industry is not immune to global reality. Chinese consumers are an increasingly powerful force, yet cannot spur a full recovery. If Americans are still contending with the pandemic, if South Africa cannot borrow on world markets and if Europe is in recession, that will limit the appetite for Chinese wares.

“If Chinese manufacturing comes back, who exactly are they selling to?” asked Mr. Rogoff, the economist. “How can global growth not take a long-term hit?”