The Bottleneck Economy
Deliberately slow walking our way to prosperity
Pick a Letter
There is a great debate right now about the shape of the coming economic recovery and how that will be anticipated by financial markets.
Is it a V, where we see a strong bounce back to prior heady levels?
Is it a U, where there is a grudging improvement, marked by continuing stagnation now and then a slow uptrend?
Or is it an L, where there has been a permanent shock that has knocked us lower for the foreseeable future?
Notably, none of these talked-about scenarios consider the real disaster: a continuing plunge down from today’s possibly temporary plateau, triggered by the accumulated damage to date.
Let’s name that dire scenario after the shape of the Hebrew letter Lamed or ל, where the worst is yet to come. Almost every forecaster assigns that outcome a near zero probability — though that could be a sign of their minds being trapped in “old normal” reasoning or a mass case of wishful thinking.
Does the Alphabet Matter?
On top of this unusually large menagerie of possible outcomes, the odds of any particular economic scenario playing out are murkier than usual.
It is difficult (and maybe impossible, I believe) to actually forecast the future accurately. To that natural impediment must be added the unique nature of this downturn: a once-in-a-lifetime controlled shutdown of the economy, accompanied by a social panic and psychic shock that are likely here to stay.
Yes, the pandemic is important, but its follow-on impacts into the economy, society and politics are already orders of magnitudes more than the health effects. And those deleterious effects are growing, even as the pandemic itself slows.
The best evidence for the current unknowability of the future probably comes from the thousands and thousands of economists who work at the world’s leading central banks, as they have recently opted to say “no comment” about pending economic conditions.
The US Federal Reserve and the Canadian Bank of Canada, in particular, say that they have no idea what the near term future portends. There has been no updated Summary of Economic Projections from the Fed since December and their staff actually presented two projections in the latest meeting, without indicating which one would predominate. The Bank of Canada matched that timidity with its own two-track “illustrative scenarios” in April.
So, no one really knows where we are going, except perhaps the stock market, that usually reliable weathervane of impending economic trends. For its part, it has taken a decidedly V-shaped look recently, recovering more than half of a 30% decline in valuation during March.
Normally, the expectations imbedded in stock market prices can be relied upon to guide both investors and futurists.
These are not normal times, however, and it is quite likely that the stock market bounce happened simply because central bankers threw trillions of dollars at the market and further disasters did not ensue.
The market is up because we did not have a financial crisis to match the real economy one underway, not because the market thinks that the economy is taking off soon. It is a relief rally, not one that is climbing a wall of worry, and it may naturally stall when new investment fund inflows peter out.
Besides which, the gold market, the oil market, the currency market, and the debt markets (in rising order of importance) all also have a vote in the matter of economic recovery. Gold is up, oil is way down, the US dollar is crushing all other currencies, and credit spreads are still vastly extended. Their collective view is that a robust and sustained economic recovery is not at hand.
Bent Out of Shape
Even though our view of the future for the economy may be impaired more than usual, that may not be the central challenge before us.
A more profound issue is that the concept of a recovery relies on normal conditions, and we are so far out in Wonderland that literally anything is possible.
The pandemic seems to have reset us mentally in a way that creates a vast chasm between the past and the future. Since things are so out of kilter, we cannot rely on tried and true methods to guide us forward.
There is an old normal, the time just ended in February, but no new normal. We seem to be in limbo, in purgatory, stuck between places. More accurately, we are not even in limbo, not even in purgatory, since both of these concepts represent some sort of motion towards a final destination. What we are living through is a kind of suspended time, one hundred percent stalled in the moment. Call it the unnormal.
Relying on Gravity
Even in an unnormal situation, however, where the world is full-stop and the future feels like it cannot even happen, we can use some facts from the here-and-now to peer around the coming corners. Like gravity, these things exist regardless of adverse social conditions and our battered state of mind.
For example, we know today that the virus is now lodged in the human ecosystem and so it is highly unlikely to disappear. In fact, though the daily caseloads and deaths due to the pandemic have peaked in many countries, we are still seeing continuing high levels of infection, not a progressive decline to zero.
This means that:
· Regulations and edicts mandating social distancing, travel curtailment, and maximum group sizes will continue.
· The opening up of work places and social venues like restaurants and meeting halls will be gradual, partial, and sporadic. The risk adverse mindset of health officials and policy-makers will contribute to such hesitancy.
· Full capacity usage or crowding of any public areas will be forbidden.
· Physical barriers between people and potentially contaminated areas will proliferate.
· Monitoring regimes and eventual health certification will restrict access to many private and public spaces and constrain various types of movement and travel.
· International travel will be one of the last places to re-open, partly because so many places have yet to be infected and also because of xenophobic attitudes that favor locals over non-nationals.
These deliberate barriers to social interaction create inevitable economic bottlenecks.
They will slow us all down and raise the costs of doing business, by reducing turnover, capacity and revenues and by increasing expenses. The consumer demand for safety and security means that investment spending will rise significantly on essentially unproductive activities.
The net effect is to penalize small scale and low margin businesses, those requiring physical proximity, those with high fixed locational costs, those depending on physical traffic flow, and those without a virtual or loyal local customer base.
At the macro level, there will be an overall drop in economic demand and supply and downward pressure on profits and prices. With these conditions, there will definitely be fewer businesses and less business activity.
Army of the Dispossessed
Another fact on the ground is that we have had an enormous economic disruption to date, leading to tens of millions of newly unemployed workers and widespread (and likely permanent) business closures.
It is not realistic to expect all or most of those people to return to their former economic lives in the near future.
The market has shifted fundamentally and permanently away from public risks and towards safety and security, so many of the old jobs and products no longer exist. More tepid demand and on-going uncertainty will also restrain spending and investment and so slow the pace of job return and business expansion.
Unused resources, whether labor or capital, are poison to the economy. They literally define inefficiency and loss of productivity.
Such jobless and bankruptcy results to date are basically planned, a deliberate policy to disengage from human interactions to prevent viral contagion. A continuing resource excess will be both planned (through regulations meant to keep us safe but distant) and unplanned (the impact of lower overall demand and a much more cautious society). Either way, our economic prospects are reduced.
This slack economy, with fallen and falling productivity, puts downward pressure on wages and prices. We are not at all used to this concept of deflation, where prices drop overall, including our income and salaries. This is a fairly rare economic event but it is likely already underway.
When one-fifth to nearly one-half of all workers are adversely impacted in their employment, hours or wages, then this must have an effect on the price of labor. Further, the government income support programs in many countries are substantial but only temporary, and so workers will soon need to re-enter a jobs market with few positions and millions of competitors, thus putting a cap on wage growth.
The oil market, with negative or single digit prices for some products, is already pointing the way to deflation in a sector marked by global demand destruction and excess supply.
The rest of the economy has the same conditions, though thankfully to a lesser extent. US consumer prices declined in March (for the first time in five years) and producer prices are down two months in a row.
These known facts all point to downward pressure on prices and economic activity. Fortunately, we cannot have sustained deflation without a collapse in money supply and central banks are doing absolutely everything to avoid that outcome.
However, this global negative shock is not moderating and so expectations, general sentiment and attitudes towards risk-taking will fall to meet the lower level of economic activity. Such a depressing mood can only act to hinder the economy’s growth rate and that self-reinforcing process is probably here to stay for at least the next year or two.
Back to Spelling
Bottom line, then, the specific shape of the recovery is a bit of a side issue discussion.
What is far more important are the structural changes in our thinking and attitudes towards social interaction. There is a new normal taking shape, a coming Era of the Safety State, where trust, security, stability, reliability, community, and safety trump all other considerations.
The first steps towards that outcome are already here and we can see some glimmerings in the persistence of the pandemic and economic shocks. Both suggest that what we are going through is not transitory, but rather structural and permanent in nature.
Ninety days ago, no one could have imagined a shattering of wealth and confidence that already rivals the Great Depression in terms of its destructive capacity.
A measure of this confounding time is that no one knows where we will be at the end of the next ninety days.