Moody’s Ryan Sweet on Stimulus, Economic Recovery and Black Swan Events

Mon, Jun 8, 2020 - 1:03pm

On a special edition of the Financial Sense Newshour, Jim Puplava talked to Ryan Sweet from Moody’s Analytics. Ryan discussed economic recovery and shared his take on Fed policy and stimulus programs. He also covered potential black swan events outside of the coronavirus. See below for excerpts from his interview on the Financial Sense Newshour.

For audio, see Moody's Sees Multi-Year Recovery Ahead.

What is this recovery going to look like?

Even if we avoid another wave of the coronavirus, this recovery is going to take years to complete. Parts of the economy have been hit significantly. Think about restaurants, movie theaters and airlines. What does the travel industry look like on the other side of this? Are people comfortable flying as much as they used to? Does business behavior change? A lot of meetings are being done virtually now. Does that become the new norm? Or do we revert back to doing more in person meetings?

There are a lot of question marks. There are a lot of behavioral questions that a lot of economists are trying to figure out. But we don't have a perfect crystal ball. We don't know how businesses and consumers are going to respond on the other side of this.

One thing I would point out is consumer spending, you know, that's what drives our economy, ‘as the consumer goes, so goes the U.S. economy.’ And the services part of consumption is getting hit extremely hard by this. Not every restaurant is going to make it and some movie theaters might not make it. So, I think you're going to see some shifting in consumer behavior and consumer spending. I think the coronavirus accelerates the shift from brick and mortar stores to online.

A lot of businesses adapted to these changes pretty quickly, and in some cases, it can be really cost-effective.

We can’t underestimate the ability of businesses, the American consumer and the American household to adapt. Last month we were staring into the abyss of the economy—peak to trough decline in GDP this cycle is going to be 12%. So, the peak was in the fourth quarter of 2019, the trough is going to be in the second quarter as a 12% decline. To put that into perspective, during the Great Recession, the peak to trough decline in GDP was 4%.

So, this is an enormous supply demand shock; this economy is reeling. But the good news is that the worst is likely behind us now. We're going to lose a few more million jobs in May, but June should be the turning point, adding more workers. But again, we dug ourselves such an enormous hole with this recession, with this supply and demand shock, that it's going to take years to fully recover from this.

Everyone wants to put a letter of the alphabet on the recovery, is it an L,U,V,W? I think it's going to more look like a swoosh where we fall sharply, we bottom out for a little bit and then over the next several years, we just gradually recover. We won't get back all the jobs that we lost during this recession until 2023 or 2024. We have a long road ahead, but the economy will fully recover just like we have in each of the last recessions.

Can this economy sustain itself without monetary and fiscal stimulus? What happens when the Paycheck Protection Program ends?

The economy needs a tremendous amount of monetary and fiscal stimulus. The Fed has been very, very aggressive. They threw everything they had at it to make sure that markets were functioning correctly or as reasonably well as they could. The Fed deserves an A+ for all the actions they have done during the recession. They got very creative with fiscal policy but we need more fiscal stimulus. We have a lot of issues coming up, the next round of fiscal stimulus needs to provide aid to state and local governments. That’s one of the top priorities.

We are also staring down three fiscal cliffs. The extension of unemployment insurance benefits is crucial, and they’re set to expire soon. As you mentioned, with the PPP loans, we're going to get too close with that as well. The first wave of PPP lending will expire in July and then again shortly after that. Those need to be extended because, again, small businesses are the backbone of the U.S. economy.

If we get a larger than expected wave of small business bankruptcy and the failures that we’re anticipating, that will set the economy back and slow the recovery. It will also cause problems with people becoming reemployed; they're finding new work in either the industry that they were working in or maybe they're going to have to switch industries, given all the potential changes that will result from the coronavirus.

Will the manufacturing supply chain change? Will some companies, for safety and diversification, begin to bring manufacturing back to the U.S., or closer to their sales base?

I think you will see some. Pharmaceuticals is a big one that most likely could be reshored pretty quickly. The idea that we're going to reshore a lot of manufacturing, I think, is premature. I mean, go back to the trade war. The whole purpose of the trade war was an effort to bring more manufacturing back to the U.S. But, labor costs in the U.S. are much higher compared to other countries in Asia Pacific. So, if there is any reshuffling, you know, getting more of your eggs out of China's basket and distributing it elsewhere, I think we'll go to other countries in Southeast Asia, rather than coming back to the U.S.

Another hurdle to reshoring manufacturing is the capital stock for manufacturing in the U.S. is pretty old. And that requires a lot of business investment in redeveloping plants, purchasing new equipment and is likely going to be something that would have to play out over a long period of time, rather than just in the second half of this year or next.

Are there any black swan events other than a second or third wave of the coronavirus? The elections are coming up, could that create disruption?

Yeah, I definitely think election uncertainty will intensify as we get closer and closer to November. But higher on our list of concerns is a second wave of the coronavirus. We're also concerned about a fiscal policy error in the sense that they don't provide aid to state and local governments or they don't extend unemployment insurance benefits. Those are all high on our list.

There's also a growing risk of a shift to fiscal austerity. Looking back at the Great Recession, one of the biggest policy mistakes was that fiscal policy shifted to austerity prematurely. Federal government spending and state local government spending, for the most part, was a drag on economic activity between 2010 to 2014.

We can't afford to replicate that error. Again, our debt path is on an unsustainable pace, but we can adjust that down the road. Right now, we need to worry about healing the economy and getting people back to work as quickly as possible because nothing cures a country's debt to GDP problem like growing the economy very quickly.

There's less of a risk now than a couple months ago, but deflation was a black swan event. I think inflation rates are higher now than at any point during the Great Recession. And deflation is economically debilitating. It feeds on itself. You know, why buy something today if it's going to be cheaper tomorrow or next year, but I think that's a low probability event.

Unfortunately, we're going to need some luck over the next six to 12 months to get through this. Nothing else can go wrong or we’ll significantly slow the economic recovery.

To listen to Ryan Sweet's full interview click here or for an archive of past shows, visit our Financial Sense Newshour page.

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