Back in February, we discussed Congress’s power to draft and pass legislation, and the Federal Reserve’s tools to influence the liquidity of the economy. We also discussed how fiscal and monetary policy move the needle, while broader macroeconomic factors are the real drivers at play, as businesses make decisions to strengthen their viability for earning income in the short and long run.
We’re now seeing these forces play out to a great degree in the wake of the COVID-19 pandemic. As many folks know, two major forces in economics are supply and demand. Market economies rely on sellers and buyers reaching equilibrium between the availability of goods and services (supply) and the desire to consume those goods and services (demand). This is how markets create prices. Rapid changes to either supply or demand can affect the overall economic output of society and have the potential to cause recessions, or measurable decreases in economic activity. A demand shock is when individuals and businesses cut their spending due to decreased incomes or expectations of decreased income, and a supply shock is when the cost of production for goods and services increases suddenly. Demand shocks are often caused by widespread layoffs, and supply shocks are often caused by shortages in goods and services.
Over the last few months, the world economy and the United States have unprecedentedly experienced both a supply shock and a demand shock at the same time. The Consumer Price Index shows that prices (the equilibrium between supply and demand) have fallen, which corroborates a decrease in overall demand. Additionally, many goods and services simply aren’t available for consumption as many businesses have been forced to close and supply chains have been disrupted. In other words, consumers haven’t just cut their spending because of reduced income or precautionary savings, they’re also reducing their spending because things like restaurant meals and gym memberships aren’t available.
Fortunately, governments and central banks have tools at their disposal to combat demand shocks. In the U.S., the Federal Reserve slashed interest rates, lent out trillions of dollars through its various facilities, and added trillions to its balance sheet by purchasing assets. Congress has passed about $2.9 trillion in spending to incentivize employers to keep employees on payroll and health insurance, while also replacing incomes for those who find themselves unemployed or furloughed. By injecting trillions of dollars into the U.S. economy, the Fed and Congress have leveraged monetary and fiscal policy to a degree never seen before, particularly compared to the Great Recession. This spending has resulted in an incredibly large positive demand shock, possibly offsetting much of the damage from the negative demand shock. Despite putting money in people’s pockets, disposable income isn’t being spent as much as it was before the crisis, and many individuals and businesses haven’t felt the cash injection yet. This is where the supply shock is causing massive disruption. Think of your own personal situation: are you spending less right now than you did before? Is it because you’ve lost some income or are saving out of caution? Or is it because it’s impossible or unsafe to spend on the things you used to, like restaurants or travel? Or is it all of the above?
While much of the demand-side stimulus has helped, solving the supply side isn’t as easy. Giving consumers a safe way to participate in the economy, as both consumers and producers, will be critical in alleviating the lack of goods and services available for purchase. Individuals will need jobs and incomes, and consumers will need the confidence and means to spend their money. Re-opening businesses safely while promoting sanitation and social distancing will be vital but difficult. Increasing COVID-19 testing, monitoring the transmission of the virus, developing a vaccine will all help. These are just a few of the things we’re monitoring as many states enter phases one and two of re-opening.
Our staff has been working remotely for over two months now. One of our favorite aspects of working from home has been using video conferencing with our clients through Microsoft Teams. It’s easy to use, and everyone could probably use some face-to-face human connection!
DID YOU KNOW?
Major League Baseball is working hard to hopefully start its 2020 season. The owners and the players’ association are currently debating how the new league format would function with fewer games in the regular season, implementing the designated hitter league-wide, and perhaps most interestingly, playing games without fans in attendance. This would mark the first time since 1981 that MLB has started a season late, although it did cut a season short in 1994. The Los Angeles Dodgers won the World Series in the shortened 1981 season and have led the National League in wins each of the last three seasons, while losing the World Series in both 2017 and 2018. Will 2020 be their year, or anybody’s for that matter?
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