BM: How do you regard the economic policy response?
KR: It’s a little bit as if you were in a war and saying, “I’m not going to grade how you’re doing on the battlefield. I’m just going to grade how you’re hiring extra workers at home.” Obviously how you’re doing on the battlefield is driving everything.
The economic policy response has been massive and absolutely necessary. You can quibble between the European style of trying to preserve firms and workers in their current jobs and the U.S. version, which is to try to address it as a natural catastrophe and try to subsidize people but allow higher unemployment. They’re actually not that different. If this thing persists, a lot of those European firms will end up having to let their workers go when the crisis passes. Some of the U.S. firms will end up rehiring their workers. But certainly the aggressive crisis response reflects lessons learned in 2008.
BM: Does that explain the stock market surge, which seems at odds with the state of the economy?
CR: How much of the resilience, if not ebullience, in the market is policy driven? I think a lot of it. Let’s take monetary policy before the pandemic. U.S. unemployment was at its lowest level since the 1960s. By most metrics the U.S. was at or near full employment. It’s very possible that the path was toward rising interest rates. Clearly that has been completely replaced by a view that rates are zero now and that they’re going to stay low for a very long, long, indeterminate period of time, with a lot of liquidity support from the Federal Reserve. So that’s a big game changer, discounting futures.
Let me just point out another issue in terms of the policy response. The Fed has established a lot of facilities that are now providing support not only to corporates, but to the fallen angels, the riskier corporates that certainly were not envisioned at the outset of the pandemic. What this does mean is that the market is really counting on a lot of rescues. The blanket coverage by the Fed is broad, and that is driving the market. And expectations are that we’re going to have this nice V-shaped recovery and life is going to return to normal as we knew it before the pandemic. And my own view is that neither of those are likely to be true. The recovery is unlikely to be V-shaped, and we’re unlikely to return to the pre-pandemic world. Although I do think that that’s part of the reason why we see this incongruence between the economic numbers and what the market is doing.
KR: Of course, the “Fed lower forever” is part of it. I also feel the markets have a very sanguine view of the virus and what’s going to happen and how quickly we can return to normal or maybe how quickly we will choose to return to whatever normal is. It seems very uncertain to me. I don’t know how we’re coming back to 2019 levels [in the economy] in any near term. The true fall in GDP, economic historians will debate for years. It’s probably much larger than the measured fall. It’s not just the people not working. What’s the efficiency of the people who are working? The monetary response has been done hand in hand with the Treasury. The market is banking on this V-shaped recovery. But a lot of the firms aren’t coming back. I think we’re going to see a lot of work for bankruptcy lawyers going across a lot of industries.
BM: So what does the economic recovery look like?
CR: There is talk on whether it’s going to be a W-shape if there’s a second wave and so on. That’s a very real possibility given past pandemics and if there’s no vaccine. One thing that’s clear is the numbers are going to look spectacularly great in some months simply because you’re coming out from a base that was pretty devastated. That doesn’t imply that per capita incomes are going to go back in V-shape to what they were before.
The shock has disrupted supply chains globally and trade big-time. The World Trade Organization tells you trade can decline anywhere between 13% and 32%. I don’t think you just break and re-create supply chains at the drop of a hat. There are a lot of geographic changes that are being necessitated because, if the economic downturn has been synchronous, the disease itself hasn’t been synchronous.