David Rosenberg on What Could Stall Economic Recovery

Tue, May 5, 2020 - 3:28pm

David Rosenberg recently joined FS Insider to discuss first quarter GDP numbers and what they’re telling us about the state of the U.S. economy. He also explained why he sees the U.S. entering a depression, not a recession, and shares what could slow economic recovery down. Read below for excerpts from his interview with FS Insider. If you’re not already a subscriber, click here.

For audio, see Global Economy in the Eye of the Storm, Says David Rosenberg.

What are your thoughts on this first quarter GDP number? And what does that tell you about where the U.S. economy is today?

Well, some people might view it as just being old news, but we know that the eye of the storm is really happening this quarter. The eye of the storm was in April more than it was in March. In looking at the whole first quarter, the consensus was looking at -4% at an annual rate and it came in at minus 4.8%. To put that in perspective, that is the worst we've seen since the 2008-2009 Great Recession. It’s actually worse than any quarter we saw in the 1990-1991 recession, or in the 2001 recession.

This was rather historic in its own right. The only component that really rose was this panic buying of food. Food volume purchases from the grocery stores exploded to the upside by 25%. If you stripped the groceries out of this number, the GDP decline was 6.3%. We know that we're going to get something close to -40% for the second quarter. I think when you look at the incoming high frequency data, that's a given.

We're getting some good news on the medical front and we’re getting a gradual reopening of economies globally and across the U.S. Even in the best-case scenario though, it's going to take two to three years before this deflationary output gap is going to close. That's not what people are looking at right now.

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Everybody's focused on the stimulus. Everybody's focused on when we're going to get a vaccine or get some treatment. Everybody's focused on the excitement around the reopening. But economists should really be focused on what's happening in the future to aggregate demand and aggregate supply because as long as we have a deflationary output gap, it's going to put ongoing downward pressure on profits and on profit margins, and it's going to create instability in the credit markets and lead to more defaults.

So, the only way we don't get a relapse out of this is with the Fed and the federal government continuing to plow that system with more and more cash and liquidity, and that's going to have its own repercussions down the road. But the first quarter data, coming back to your initial question of why it was so important, is because it showed that we are compounding the massive hole in the second quarter on top of much decline in the first quarter. This makes it that much harder to close the output gap get back to full employment. That's going to now take years even with a V-shaped recovery.

Can you discuss why we might be a in depression and what could slow down recovery?

The reason why I've been saying that this is going to be a form of depression is because the recession is traditionally a business cycle haircut to GDP. We go down for two or three or four quarters. We had a six-quarter recession from 1973 to 1975, five or 10 years later people weren’t still talking about it. The thing about recessions is that you forget about them a year after they happen. A recession doesn't alter, in a secular fashion, people's behavior. It is a haircut to GDP, and we get through it.

A depression is something different. A depression is a shock that creates scars that linger for years. And a depression is different than a recession because while a depression is a recession, a depression invokes a secular change in people's behavior. So how they approach savings, how they approach spending, how they approach indebtedness, how they approach, in this case, where we're going to work, how we're going to travel. I think that in both the context of the personal sector and the business sector, it's going to be a big shift on how we create savings in cash and liquidity. It's phenomenal to me that liquidity became almost a dirty nine letter word going into this—nobody had any.

Portfolio managers went into this situation with a 2% cash cushion. That was unheard of. But the hubris and the complacency were at an incredibly high level. Companies didn't want to keep cash in the balance sheet, they bought back their stock instead. I find it absolutely incredible that after an 11-year jobs boom, we're in a situation where half of the American people did not even have enough savings to cover their expenses for three months.

That's what I'm trying to wrap my head around, is that we had this health shock that morphed into an economic shock. But then the other part of it was the government's decision to lock things down. Who thought it was going to morph into a financial crisis that was worse than 2008-2009? Now it doesn't involve the banks. But the culprit this time wasn't the banks. Who thought that as we went through this shock on the health side, on the economic side, the Fed was going to have to buy up virtually every corner of the fixed income market, who thought about that?

Who thought, at this stage, that the Fed's balance sheet would be 30% of GDP? Nobody was talking about that, even in late February into March, the extent to which we have such an unstable financial system that we need this much Fed and federal government assistance. So, my commentary is this: We went into this situation not prepared in many different respects. Obviously, from a health standpoint and from a medical infrastructure standpoint we were clearly unprepared.

But also, we didn't have enough cash on hand. And I think that the preservation of cash is going to be something very fundamental that will help mitigate the next crisis we have but it’s going to hold back this recovery. I do think that that's what differentiates a recession from a depression, is that the attitudes toward spending, saving, debt accumulation and how we’re going to be preserving more cash on the balance sheets, whether you’re household or business, is going through a profound change in the years ahead.

Click here to listen to our interview with David Rosenberg to get his macro-outlook and investment implications when it comes to bonds, stocks, gold and elsewhere. For a free one-month trial to David's research, go to www.rosenbergresearch.com/clients/register.

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