COVID, the White House and the Economy: A Pre-Election Q&A

Read the October Economic Currents in PDF

For this special edition of Economic Currents, I turned to my colleague, Karen Nye, to cover a broad spectrum of topics regarding where we are and where we are likely to go via a Q&A session we conducted over the course of several days during the week ending October 2. She is a skilled journalist as well as valued colleague. The goal is to cover more ground in an easy-to-consume way. There is a lot to cover, so buckle up.

1. How does the COVID outbreak in the White House affect the outlook for the economy? There are three key issues to keep an eye on. First, we know that policy uncertainty, which is now clearly elevated, acts as a tax on the economy. Businesses tend to delay or hesitate in response to a high level of uncertainty. They may be reluctant to hire and make infrastructure investments until we can better determine how many have been infected and the severity of their infections. The timing is bad given the sharp slowdown in hiring we saw in September. The ranks of the long-term unemployed jumped, while the unemployment rate among workers who now appear to be more permanently unemployed rose. Add in the headwinds of cooler temperatures and a second wave of infections. We were already risking the COVID recession metastasizing into a more traditional and longer recession.

The fact that contagion appears to have been greatest (at least initially) for those traveling on Air Force One will deal yet another blow to the airline sector. This is at the same time fiscal aid for the airlines to retain their workers has expired and layoff announcements have surged.

Second, the course of the virus determines the course of the recovery. The fact that one of the most protected people in the country has caught the virus could be a wakeup call for those who still doubt the severity of COVID. Much will depend on the president’s health. If this development prompts the public to more aggressively mitigate contagion with masks and social distancing, then we could see a more sustainable recovery over time. That is a heavy lift from where we are, but a shift in public sentiment and behavior really can make a difference on contagion and allow us to get to a place where we can open the economy more fully sooner.

Lockdowns are dramatic but not the largest determinant of how pandemics disrupt economic activity. Fear and our collective behaviors to minimize contagion are the primary drivers of economic losses tied to COVID. People who don’t feel safe, don’t congregate and engage in the economy as actively. We have seen this time and time again, every time infections surge after holiday celebrations. That last resurgence was after Labor Day.

Third, the spread of COVID to our elected leadership, a slowdown in the pace of employment gains and the risk that financial markets falter in response to those shifts could prompt Congress to act sooner on an aid package. Treasury Secretary Steve Mnunchin and Speaker Nancy Pelosi have resumed talks, although major sticking points remain. Even a scaled-back package would be a help at this stage of the game. There is some uncertainty about how the Senate could actually vote on such a bill, given the spread to Senators and current laws that require in-person voting. There is also the issue of how many others have been exposed.

A bit of encouraging news came Friday afternoon: Speaker Pelosi has called the airline industry to hold off on permanents layoffs for a few days. The House of Representatives has a standalone bill to keep airline workers employed. The Senate has a similar bill but has not yet taken a vote on it.

2. As an economist, what elements must an aid package contain to help the most people? COVID is like a meteor that hit the earth and knocked it off its axis. The old rules of gravity do not apply. Households, firms and states are suffering through no fault of their own and need more aid, ASAP. A record number of households can’t feed their children each week, the pace of permanent small business closures is accelerating, and state and local governments continue to shed jobs at an alarming rate. I have been a long-time deficit hawk, but this isn’t the time or place.

We also need additional funding for rapid testing and tracing to better manage the spread of the virus. We are still chasing a moving target on testing and tracing. Hospitals need funds to offset the cost of treating COVID; many could face bankruptcies or closures. Those losses, a collapse of many universities and colleges and widespread business consolidation hurt growth today and for years to come.

Clearly, there are issues with liability that will need to be worked out eventually. The hurdles to a resolution on that issue are high. That, coupled with the urgency to get more aid out the door, lowers it on the list of things that must be done first.

3. So what does it mean for the economy if Congress does not come up with another aid package soon? We likely grew at close to a 30% annualized pace in the third quarter, but that is not enough to get us out of the hole we are still in due to COVID. The next six months will be crucial. The economy could easily stagnate or worse in the fourth and first quarters if Congress fails to deliver. What was hoped would be a short-term shock could metastasize into a more traditional and long lasting recession.

We won’t return to our precrisis peak without Congressional aid until well into 2022. With aid, we’ll get there at least six months sooner. Our baseline forecast now assumes we get a skinny aid package about $500 billion prior to the election. That narrows but does not close the gap on the trajectory of growth that we were on prior to the crisis. By the end of 2023, we could lose the equivalent of almost two years of growth relative to the precrisis trend. (See Chart.)



4. This clearly is not a V-shaped recovery any more. Which letter shape best describes how uneven the recovery is? As we go into the 4th quarter, you have this bifurcation, they call it the K-shaped recovery featuring inequality as the rich move up in their spending while low-wage workers experience more economic hardship and despair. We see this in the composition of spending. Wealthy households are buying second homes, remodeling kitchens and snapping up all the newest cooking gadgets, while low-income households are just trying to buy enough food to feed their families. Some luxury brands have come back a bit but conspicuous consumption can be hard to pull off when you don’t have the money or places to go to show it off.

The wealthy can’t carry the economy alone. We will see more challenges to congregating and celebrating as the temperatures drop and the risk of contagion rises. Indoor dining is already limited and could be further compromised, while outdoor venues are likely to close. We have turned an 80-year trend in spending on discretionary services on its ear. That means another blow for restaurants, the travel sector, hotels, sporting events, theaters, live music and shows. It is mind boggling to think of it. This is why we need more aid to prevent the recession from metastasizing into a more traditional recession with a resumption of layoffs and more permanent job losses.

5. You have said, “COVID has revealed and exacerbated inequality.” Who is suffering the most from COVID? For some context of the economic impact, a Citibank study estimates that racism against Black people alone has cost us $16 trillion since 2000. That is a shortfall in overall GDP growth of an average of $800 billion a year, which is about how much the economy grows in most years. White households are better able to take advantage of low interest rates and buy homes than Black and Hispanic households, given the skew of layoffs and persistence of redlining. Those households are more at risk for foreclosure and eviction, more likely to suffer food insecurity, which is at a record high, and more likely to lose access to education when it goes online.

White workers have been called back at twice the pace of Black workers. COVID deaths have hit people of color much harder than white people; there is systemic bias in the access and administration of health care for people of color. Low-income families have a harder time compensating for the loss in in-person classes. This is accelerating the educational inequalities we already see by zip code. All of that is before we consider the unequal treatment of Black people in the justice system; George Floyd’s murder was one of many cases.

COVID strikes a body blow to gender equality. Lowwage Black and Hispanic women have been hit hardest, but few people with young children have escaped the consequences of the recession with the shift to online schooling. Even women who can work from home have been forced to cut back as they bear more of the responsibilities for childcare and are now schooling their children. This sets back their careers as well as their earnings. It undermines the broader progress of the economy. Women’s success is highly correlated with their children’s success. Empowering women has proven to be a game changer when it comes to improving opportunities for children.

6. The Federal Reserve Chairman Jay Powell has repeatedly urged Congress to act, emphasizing that job losses and other COVID damage is no one’s fault. Is there anything the Fed can do? The Federal Reserve is running out of rabbits to pull out of a hat. As Fed Chairman Jay Powell keeps saying, the Fed can lend but not spend. He has pleaded for Congress to do more to fill the gap it can’t. Low rates enhance the bang for the buck on government spending.

The Fed is not done. Officials are willing to keep rates lower for longer and run the economy a bit warm if that means getting unemployment down faster. Powell has even said he would prefer unemployment back down to 3.5% as that is when the benefits of a twelve-year expansion finally began to accrue to low-wage workers. This is one of the few ways the Fed can level the playing field between Wall Street and Main Street: Really low unemployment provides opportunities for the most marginalized of workers and enhances their bargaining power with employers.

The Fed has also discussed yield curve controls as a means to lower Treasury bond rates. That would reduce the costs for Congress to provide additional aid and stimulus once the recession is over. The Fed has made clear that it is a long-term investor and has pledged to hold the assets that it buys to maturity.

7. What if such lavish support from the Fed and Congress ignites inflation? For the most part, the crisis represents a disinflationary shock to the global economy because of the blow it has dealt to demand. But, and I say this with a lot of concern, if Congress does not step up to the plate and preserve more of the economy, we could see disruptions to supply that trigger a flare in some prices. We saw a precursor to this when farmers were forced to let crops rot in the fields and when meat and poultry processing plants closed due to widespread COVID infections. Prices at the grocery store surged.

The worst case scenario would be if disruptions to supply were broad-based enough to trigger stagflation, or a rise in prices while the economy is still struggling. That would erode purchasing power and put Fed officials in a bind; they might have to consider raising rates when unemployment is still high.

8. Would a vaccine change everything? Vaccines represent our fastest and least costly path to herd immunity but are not the panacea that many believe. Only half of Americans are now saying they will take a vaccine, due to safety concerns. That’s down from more than 70% in May. The drop in confidence is consistent across political parties and reflects a fear that political interference could undermine the safety of a vaccine.

Vaccines are only expected to be about 70% effective and may need to be taken annually like those for the flu, which means people will still get sick. Add the nightmare of logistics and distribution of a vaccine, and best-case scenarios suggest we are still about nine months to a year away from achieving herd immunity. In the interim, we need a lot more testing, tracking, treatments and masking to wrestle the threat of contagion to its knees.

9. What keeps you awake at night? COVID could cast a very long shadow. The economic losses we endure could be generational. Millennials, who suffered a blow to their career earnings by graduating into the 2008-09 recession and the subpar recovery that followed, have been hit again. Generation Z is behind them and risks suffering a similar blow to its earnings potential. Students from low-wage households are dropping out of college at an alarming rate, while the number of foreign students has shrunk dramatically. That reduces the subsidies for domestic students to attend college and ups the ante on some colleges closing entirely. What will students with only part of a degree do?

Children are losing access to education and school meals at a critical age. Without a concerted effort to make up for those losses, many will be left behind permanently. That hurts all of us because it weakens the social fabric and the skills of our workers. We seem to have forgotten that education is a public good that warrants our attention and investment. Our children deserve better.

10. Anything else? COVID has acted as an accelerant to a lot of trends already in place. It has moved up the shift from in-store to online shopping (I haven’t been in a grocery store in three months), the move from the largest cities to second-tier cities and suburbs, and intensified the desire to shorten supply chains, and bring manufacturing closer to home.

It has fueled the flames of nationalism, which could exacerbate trade tensions and undermine cooperation on a vaccine and climate change. This would leave us more fragmented and further undermine our potential to grow.

COVID could also act as a catalyst for reforms that enable more equitable and sustainable growth. Congress proved it had the capacity to unite when COVID hit. It looks poised to do so again, which is reassuring. By revealing the worst of our economy, COVID has helped us to diagnose what truly ails us. That provides us with the opportunity to heal and regain our strength. That will require a lot more cooperation by our elected officials. There is always hope.