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The coming COVID-19 recession

March 27, 2020
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Monthly Review (Page 3)

Data over the first two months of 2020 showed that the U.S. economy was in good shape prior to the onset of the coronavirus outbreak, led by robust job growth, a surge in housing activity, and the strongest service sector readings in a year. Even manufacturing remained in expansion, although just barely. These data, however, were collected before the coronavirus started to severely disrupt supply chains or consumer behavior shifted to adjust to increasing infections outside of China. Financial markets have responded assuming a worst-case scenario, with the S&P 500 stock index dropping into bear market territory (>20 percent decline from the all-time high) in a record 16 days, and volatility surging. Long-term interest rates also plunged, falling to all-time low levels as flight-to-safety flows drove down yields – but then moved higher indicating significant liquidity difficulties. The Fed responded to the financial market turmoil with aggressive interest rate cuts (lowering the federal funds rate to the zero bound) and unprecedented liquidity additions (including open-ended Treasury and mortgage-backed securities purchases). Still, financial markets remain in some disarray, with liquidity demands at very high levels.

Outlook (Page 4)

The economic outlook has shifted rapidly over the past month as the COVID-19 outbreak has had widespread impact on the global economy and financial markets — and is likely to push the U.S. economy into recession almost immediately. At this point we expect a short but sharp downturn centered on the second quarter – with “social distancing” helping to reduce infections from the virus, but worsening the economic impact. The most likely outlook is that the virus will diminish in the late-spring or early-summer, and this will allow social distancing to lessen over the third quarter, reducing the negative economic effects. We project that a combination of the expansionary fiscal/monetary policy now being rolled out and pent-up demand spending will push economic activity up sharply by the end of the year and into 2021 to an above-trend pace. But the propagation of the virus and the efficacy of social distancing are not known with certainty and there is a reasonable chance that the results for public health and the economy will be worse. Short-term interest rates should stay low well into next year as the Fed keeps its policy rate near the zero bound. Long-term rates should rise slowly starting later this year and continuing into 2021 as the economy rebounds, but remaining within our “lower for longer” parameters.

Go deeper with the full March dashboard linked below.