No one can be sure how long it will take for the economy to recover from its current woes. However, of one thing we can be certain: Much as the 1930s Great Depression and the 2008-2009 Great Recession had a profound and lasting impact on the economy, so too will the novel coronavirus epidemic.
Since 1945, the United States has experienced 12 economic recessions. However, never before has it experienced an economic recession that has been quite as deep and quite as sudden as the one that it is now experiencing. Nor has the U.S. succumbed to a major economic recession at the same time that practically every other economy in the world, too, was experiencing a deep economic slump.
Even if there isn’t a second wave of infections this fall, this current recession will almost surely be very much worse than the 2008-2009 downturn. According to the International Monetary Fund, in the best-case scenario, U.S. output is likely to decline by 6% in 2020, double the rate at which it declined in 2008-2009. Matters could turn out to be appreciably worse should there be a second wave of the epidemic or should world financial markets get roiled by a recession-induced wave of bankruptcies and defaults.
A distinguishing characteristic of the present crisis is the speed at which unemployment has risen to levels not experienced since the Great Depression. Largely as a result of a nationwide lockdown aimed at limiting the spread of the epidemic, in barely six weeks, the number of people filing for unemployment benefits increased by 30 million. As a result, unemployment is likely to peak at around 17% this fall, and, even if we have a V-shaped economic recovery — that is, the economy quickly returns to the peak from which it descended pre-COVID — unemployment will still hover at around 10% of the workforce by the end of 2021.
Leo Tolstoy famously wrote that “all happy families are alike; each unhappy family is unhappy in its own way.” The same might be said of economic recessions. Unfortunately, it is likely that the current economic recession will prove to have been the unhappiest recession that we have had to endure in the postwar period. And it will probably prove to be the most difficult one from which to recover fully.
It is not only that the current recession will have been the deepest in the postwar period. Nor is it simply that we had entered this recession with a record amount of corporate debt, making it all too likely that we’ll have a large enough number of corporate debt defaults to unsettle the financial system. It is also the fact that the lockdown induced by the epidemic will have annihilated important sectors of the economy. That, in turn, makes it highly unlikely that those sectors will fully regain their former strength anytime soon.
Until an effective vaccine is developed, how likely is it that the travel and hospitality sectors of the economy will be as vigorous as they were before? With companies having found that meetings can be effectively conducted virtually in the Zoom room, will event-oriented cities such as Las Vegas and Orlando quickly regain their former vitality?
With consumers having been forced to engage almost exclusively in online shopping while they were locked down, how likely is it that the brick-and-mortar part of the retail sector will stage a major comeback? With companies having found that many of their workers were as productive at home as they were in the office, how long will it take for the commercial real estate part of the economy to work off its excess inventory of unused office space?
All of this, coupled with a likely increase in parsimony on the part of recession-scarred households and companies, raises the odds that, at best, we will have as slow an economic recovery as the one we had following the 2008-2009 recession. That recovery was the slowest in the postwar period, and it took seven years for unemployment to decline to its pre-recession low. And this occurred despite the unusually large amount of fiscal and monetary policy stimulus that was given to the economy in 2009.
Unfortunately, we cannot discount the possibility that we might have the sort of W-shaped recovery to which Federal Reserve Chairman Jerome Powell recently alluded. That could occur if we were to have a second wave of the coronavirus this fall, perhaps exacerbated by a premature ending of the lockdown. It could also occur if global financial markets are roiled by another and more vicious round of the European sovereign debt crisis or by a wave of emerging market debt defaults.
And then there’s the public debt. It is much to be regretted that even before the coronavirus epidemic, there seemed to be no domestic constituency for sound U.S. public finances. Instead of taking advantage of the good years to bolster our finances, we engaged in very large, unfunded tax cuts and in public spending increases at the very time that unemployment was approaching its lowest level in the past 50 years. As a result, our prospective budget deficit widened to 5% of GDP for as far as the eye could see, thereby placing our public debt on an ever-rising path.
The current recession is bound to further compromise our public finances substantially. This will partly be due to the $3 trillion economic support program that Congress has enacted to cushion the economic impact of the epidemic. It will also be partly due to the large fall in tax revenues that will accompany the economic slump.
According to the nonpartisan Congressional Budget Office, the net result will be that our budget deficit will balloon to a record 18% of GDP in 2020 and will remain at around 10% of GDP in 2021. As a result, the public debt-to-GDP ratio will skyrocket from less than 80% prior to the crisis to almost 110% of GDP by the end of 2021. This situation could be appreciably worse if the government is forced to provide public support to state pension schemes whose unfunded liabilities will have soared as the stock market swooned and as the Federal Reserve reduced interest rates to their zero bound.
Coping with this debt mountain will pose a considerable challenge to policymakers in a post-coronavirus world. This will especially be the case if there continues to be no real political constituency for sound public finances. It might mean that we will have to resort to the same sort of financial-market repression of artificially low interest rates that followed the large public debt buildup of the Second World War. Worse yet, the large debt buildup could be setting us up for a period of inflation once the economy recovers, especially if there remains no appetite for budget belt-tightening.
What will be the political fallout of all this? Massive global economic dislocations have normally been followed by major changes in the political landscape both at home and abroad. This was certainly true of the Great Depression, which gave rise to the New Deal and to the turbulent international politics of the 1930s. It was also true of the Great Recession, which over the past decade gave rise to a wave of populism, nationalism, and xenophobia, not only in the U.S., but also across Europe and South America.
The severity of the current economic recession and the prospect that unemployment will remain elevated for a number of years are likely to provide a fertile breeding ground for populists on both the far-Right and the far-Left. That, in turn, is unlikely to be conducive to the restoration of a bipartisan approach to solving the nation’s daunting post-coronavirus economic challenges or to rebuilding a constituency for sound public finances.
Equally troubling, the global coronavirus-induced recession could be the prelude to a further souring in international economic relations and to a breakdown in international economic cooperation. Already before the pandemic began, the U.S. appeared to have abrogated its long-standing international economic leadership role by choosing to pursue an America First approach to international economic issues. Judging by U.S.-China tensions over the origins of the coronavirus epidemic, there would seem to be the real danger that the world’s two largest economies will choose to turn inward, much as countries did in the aftermath of the Great Depression.
Hopefully, the world’s economic policymakers will recall how destructive to domestic and world prosperity the undisciplined economic policies at home and the breakdown in international economic cooperation were in the 1930s. Maybe then we can hope that the present coronavirus-induced global recession will not be the forerunner of a lost economic decade — for the United States and the world.
Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.
