Coronanomics 101*

Coronanomics 101

Remember “too big to fail,” the rationale for the government’s bailout of banks and large corporations during the 2008-09 Global Financial Crisis? Doing so was challenged as creating an unacceptable “moral hazard,” the danger that American companies thereafter would rely on the government to bail them out any time their risk-taking landed them in financial distress. Today, however, bailouts are the new normal. They no longer are considered dangerous or immoral. The lessons of the past are being ignored. We’ve entered a new era with new economic, social and political rules. Welcome to the Covid Economy … and Coronanomics 101!

Coronanomics marks a sea change in capitalist thinking. In the U.S., it used to be that markets decided which companies failed and which succeeded. No longer. The U.S. government now will decide winners and losers. It will operate in bailout mode regardless of whether a business serves a capitalist (or even an American) interest … and whether or not the bailed-out company deserves bailing out. Warren Buffett, the paradigm of American capitalism for more than 50 years, described that reality last week at his annual shareholder meeting, reporting that he has been unable to find appropriate investments during the Covid-19 crisis because the Fed has bailed out all of his potential candidates – all of them. “There was a period right before the Fed acted, we were starting to get calls … and after the Fed acted [they] were able to get money in the public market at terms we wouldn’t have given.” Translation: The Federal government not only provided the economic support that private American enterprises had been prepared to provide – it overpaid for that privilege. Those companies included such strategically irrelevant ones as Carnival Corporation, which the Wall Street Journal said had been on the verge of raising money from a consortium of American investment firms when the Fed stepped in and rescued it. We’re now in an era where the U.S. government is hellbent on ensuring the survival of all of America’s big companies. This used to be called socialism. What should it be called now?

The math that governments and Central Bankers are relying on is simplistic simple. If the total costs of the Covid shutdown equals $25 trillion,[1] governments will inject $25 trillion into the global economy. Such an injection of fiat currencies, they believe, will counterbalance the costs. Unfortunately, it won’t.

The enormous quantity of money that the U.S. government has been injecting into America’s economy is intended to find its way into productive capacity to rebuild what economic closure has destroyed – that is, the hope is that it will be invested in the production of goods and the provision of services. Without getting into the harsher realities, there has not been and cannot be such an offset. Too much of the new money has gone to companies and individuals who don’t need government support – they have sufficient capital or would have survived because of their sound business practices – or to those that are bad investments, destined to fail in the post-Covid world. A portion will go to companies that indeed deserve support and will invest and perhaps maintain jobs …, but which otherwise would have found support from private enterprise. Even so, many will be unable or unwilling to even maintain pre-Covid capacity. The Federal government’s largesse undoubtedly will be sufficient to offset some of the economic loss, but it cannot offset all. With both supply and demand having been simultaneously crushed and with public sentiment at an historic low, even those producers that survive will choose not to invest “survival cash” to supplement supply in the face of declining demand …, and consumers will conserve whatever freshly-printed government money they receive. Everyone now understands that we are facing a deep recession. With the bulk of newly-minted money being deployed by the Fed to purchase distressed bonds, bailed-out bondholders have been using their Fed bounty to purchase other bonds – further driving down interest rates – and stocks – driving the stock market higher. They are not investing their Federal handouts in increased production. How the current lockdowns and money-printing are likely to affect the majority of ordinary American consumers can be easily deduced from the following charts:

A majority of American workers (38{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} of Americans earning more than $75,000 and 25{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} of Americans earning more than $100,000) have little in savings … and more than 30 million of them already are unemployed.

Governments around the world are printing Dollars, Yen, Euros, Pounds, Yuan, etc., in an effort to plug the Covid lockdown gap. If it doesn’t boost production, what effect will all that money-printing have?

Money supply growth is surging at the same time as output is declining and global supply lines are withering. Money-printing is designed to create demand, and with today’s shrinking output economic theory would predict inflation … perhaps hyperinflation. However, the worldwide economic collapse has created severely deflationary conditions. All-too-many workers are seeking all-too-few jobs. Travel has come to a virtual halt. America’s airlines are reporting an average of 17 passengers per domestic flight and 29 for international flights. Crude oil prices have plunged. There are too many planes, too many out-of-work workers, too much oil, too much office space, too many retail stores, too many hotel rooms and cruise ships, too many restaurants … too much of almost everything, with the result that 70{29ea29b64b10057f61377b2c087cd5b7537a0cd24da4295a308b0bf589469f35} of CEOs have reported that they are likely to cancel capital investment plans. That’s deflationary.

TLR has often focused on the push-pull of inflation-deflation (e.g., “The Confrontation Between The Inflationists and The Deflationists” in the December 12, 2019 TLR). Inflation and deflation are economic terms that frequently are overused to describe an incipient macroeconomic trend. Except at the extremes, that is misleading. Inflation and deflation most accurately describe microeconomic components of complex economic interactions. For example, the fact that there are a large number of unemployed American workers is deflationary with respect to (1) their consumption patterns (2) in the geographical areas where they live and (3) with respect to their specific skills. Although this has a macroeconomic impact, in itself it will not create system-wide deflation. As a counterbalance, the departure of those workers from productive activity could lead to shortages in the goods and services they previously produced … which could be inflationary with respect to those goods and services. Of course, lower prices for gasoline, heating oil, lodging and clothing are deflationary and cumulatively have a potent macroeconomic impact. The Fed’s purchasing of bonds both deflates the interest rate received by debtholders and inflates the price of those bonds themselves, incentivizing businesses and individuals to borrow at higher and higher levels of leverage … which should be inflationary. Also inflationary are the rising prices of food, medical care, education and insurance, among other items.

Both inflationary and deflationary forces will continue their push-pull on the economy. The fact that currencies are being printed at comparably, albeit excessive, rates means that inflationary forces are unlikely to dominate in the near term … at least until that closely-coordinated debasement cycle is broken. For the present, generalized deflation is the Covid consequence and the order of the day.

Coronanomics did not begin in 2020. It had its origins in the Great Recession of 2008-09. The world now is experiencing the largest GDP shock in history – driven by the largest supply-and-demand shock in history. The Covid pandemic was preceded by a combination of the largest equity market, corporate credit, student loan, and auto loan bubbles expansions of all time. Added to those is the fact that America is about to experience the largest ever wave of Baby Boomer retirements, creating mandated stock and bond liquidations to fund retiree pensions. Further, the depreciation in value of emerging market currencies means that record pre-Covid emerging market US Dollar-denominated debt will not be capable of repayment post-Covid. Add in the EU banking crisis, the crippled economies of Italy, Greece, Spain and others, Brexit, the energy glut and badly broken international supply chains … and no one can question that Coronanomics has created an economy unlike that of any prior period.

Every government and every Central Bank recognizes this new reality. Every government and every Central Bank therefore is trying, and each will continue to try, to do whatever it takes to save themselves the world their local economy. To do so, they will continue to print fiat currencies at a furious rate. Their goal is to devalue their currencies so that government debts can be repaid with cheaper paper money and debtor businesses can use the newly-printed, devalued currencies to repay their creditors. While money-printing today is coordinated, at some point that printing will become competitive. Global symmetry will fracture. Certain consequences of that fracturing may be foreseeable …, while others cannot be. What is clear is that, although the rich will continue to get richer and the poor will continue to get poorer, the rich will be required to pay higher taxes for that privilege …, and unless steps are taken for the poor not to suffer excessively, there will be social and political upheaval. Similar conditions in the 1930s ended quite badly. What can be done to avoid a bad ending is uncertain in the new Covid Reality. Harvard University economist Kenneth Rogoff has proposed that the Fed embrace negative interest rates to force the wealthy to pay for the privilege of holding idle cash. This would, in effect, impose a savings-and-wealth tax on unproductive cash and drive that idle cash into productive investment. At best, however, that would be only a partial fix. Whatever policies are adopted, history teaches that there is no simple remedy for a Covid Economy. Tumultuous times likely lie ahead.

Finally (from a good friend)

*┬® Copyright 2020 by William Natbony. All rights reserved.

[1] DISCLAIMER: This is an assumed amount and is not intended to constitute a guesstimate of total global costs.

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