By Jolette Persson, Hottinger Capital Partners
To ease the economic slowdown caused by the pandemic, governments around the world are announcing their versions of a stimulus package coupled with interest rate cuts as much as half or more. Despite this, markets have continued to sell off. We know that monetary policy operates with a lag (typically 6-12 months) so we were unlikely to see instant relief in markets or the economy, but coupled with fiscal measures, which have more of an immediate effect, this should help to ensure business continuity as navigation through difficult waters persists. We recognize, however, that neither type of measure will prevent a recession from happening, but it’s hoped they will support liquidity and provide a floor to the inevitable losses in the current climate.
The US +$1tn stimulus proposal plan recently announced is designed to cushion the impact of the slowdown on households and businesses and will include deferred IRS payments of $300bn and $1,000 cheques cut directly to Americans. The UK has issued a smaller – but nonetheless large – emergency rescue package of £350bn for businesses, which will include government grants for retailers, restaurants, and pubs in need. Further discussions are currently taking place around potential support packages for airlines – which at the current rate are widely forecasted to go bankrupt by May – and airports, to be announced in due course. In response, sterling has experienced what appears to be its worst sustained selling period in 35 years. The sell-off reflects the fact that investors are coalescing around the comparatively safer USD and showing a lack of confidence in the UK government to tackle the current crisis. It is also unclear how the UK plans to finance its emergency package, which will most likely require heavy borrowing. Even so, exactly how effective this will prove to be is yet to be determined, particularly as fiscal policy response to the coronavirus so far has been relatively benign. It will also come down to how successful the virus containment measures prove to be. [i]
At the time of writing, China has – for the first time since the start of the virus outbreak – reported no new local infections, showing that its actions to contain the virus have been effective. [ii] That said, this has been achieved at substantial liberal and economic cost, and furthermore the hiatus in new infections does not guarantee that there won’t be a resurgence as citizens return to work. The suspension period has pushed many businesses into bankruptcy, and as China sets off for a rebound in production, we do not expect this to happen at a fast pace, especially given the reliance on European business activity which seems to be decelerating by the hour. [iii]
In the UK alone, the hospitality, tourism, leisure and retail sectors have all suffered an unprecedented drop over the last week. Many businesses have decided to close their doors for the foreseeable future, which has to led thousands of workers losing their jobs overnight. As the government advises UK citizens to stay away from social gatherings, restaurants and pubs without officially forcing owners to close their premises, we will undoubtedly start to see more businesses file for bankruptcy in the absence of better fiscal support. One could describe the situation as catastrophic, and it leads us to expect a plunge in employment rates by the end of this quarter. The hospitality industry alone employs more than three million people across the country. Retail – already a struggling industry which saw a record number of store closures last year – is on pace to double that this year not just in the UK, but globally. [iv]
We are yet to see these drastic changes showing up in the official data, but it certainly feels inevitable that output across Europe will experience a sharp decline in the first quarter of 2020, triggering a linked recession in larger European economies. The severity of such a scenario will depend on the actions taken by policymakers next. So far, despite recent efforts, policy response does not nearly make up for the cost of the epidemic, which at this rate is estimated to exceed $3tn as it continues to shave off global GDP growth. [v]
Monetary stimulus continues to roll out. The European central bank (ECB) recently announced that it would buy €750bn worth of bonds to improve liquidity and decrease the cost of financing to make it easier for eurozone governments to support domestic businesses. Shortly afterwards, the Bank of England announced billions of pounds’ worth of its own bond purchases and proceeded to cut interest rates once more, which brought its benchmark rate to 0.1%, a record 325-year low. Though bond markets welcomed this news, we continue to see a lack of fiscal policy to follow. Businesses close to bankruptcy may not exactly be jumping at the opportunity to leverage up their balance sheets when business sentiment is at rock bottom. [vi]
Finance ministers need to provide liquidity support through fiscal policy to assist business owners in paying wages and keeping their employees on the payroll. Such efforts would include granting reduced working weeks (such as ‘Kurzarbeit’ in Germany), parental pay schemes as schools continues to close and deferring the collection of VAT and payroll taxes until the crisis is over. The aftermath of this crisis will be different from that of the financial crisis in 2008, as consumption then took longer to recover due to unsustainable debt levels. This time around, we expect manufacturing to pick up fairly swiftly in a “V-shaped” recovery. All social consumption, however, will first have make up for lost time, and as such is likely to experience a prolonged recovery period.
[i] https://www2.deloitte.com/us/en/insights/economy/global-economic-outlook/weekly-update.html
[ii] https://www.nytimes.com/2020/03/18/world/asia/china-coronavirus-zero-infections.html
[iv] https://www.bbc.co.uk/news/business-51923804
[v] https://www.bloomberg.com/graphics/2020-coronavirus-pandemic-global-economic-risk/
[vi] https://www.ecb.europa.eu/press/pr/date/2020/html/ecb.pr200318_1~3949d6f266.en.html
Our investment strategy committee, which consists of seasoned strategists and investment managers, meets regularly to review asset allocation, geographical spread, sector preferences and key global market drivers and our economist produces research and views on global economies which complement this process.
Our quarterly report presents our views on the world economic outlook and equity, fixed income and foreign exchange markets. Please click the link to download.
