Are we in the Great Compression?
State of the world with major economies still in global lockdown
From Recession to Compression
One of the better analyses of the current economic contraction is by Professor Campbell Harvey of Duke University. He describes the current crisis as a Great Compression, with economic activities being compressed to a lockdown-induced minimum.
The Great Compression will come to an end, as soon activities can resume. He acutely observes that this is different from the 2008-09 Great Recession when it was not clear when economic activities would resume, since it was not known when households would cease their deleveraging efforts.
So, the end of this economic contraction will end as soon as the majority of the lockdown measures can be removed. Simple, right?
How to avoid a Depression?
Unfortunately it is not that simple. The longer the lockdowns last, the bigger the risk of killing otherwise sustainable private sector balance sheets, in particular those of low wage households, self-employed and small and medium enterprises. The depletion of households savings and the bankruptcy of smaller and medium corporations would create permanent damage to the economy, thereby undermining a speedy recovery. The Compression would morph into a Depression.
Clearly the authorities are aware that this time they need to aid tens of millions of citizens, and millions of smaller companies, rather than bail-out a relatively small number of large corporations and financial institutions, as they did during the Great Recession. Unfortunately, it is technically much easier to write some checks for a few corporate behemoths, rather than to ensure that the money arrives in the pockets of tens of millions of households, as well as millions of corporations. Then again, the process has just started and the political will to transfer the funds is overwhelming. Chances are that the technical difficulties will be overcome.
How to undo the lockdowns, and how to keep economies going?
Governments, scientists, businesses and citizens around the world are racing to find solutions to the COVID-19 health crisis. Scientists are struggling to develop a treatment and a vaccine against the virus. The latter might materialize only in 2021. Treatment, however, could be closer. Such treatment – together with a massive upgrade of countries’ healthcare systems, equipment and protective gear – should make a second wave manageable, were it to emerge after the summer.
As for the current situation, a flattening of the infection curves should allow governments to gradually undo the lockdowns. Governments are also, in cooperation with citizens and businesses, adapting smart exit strategies for prioritizing and customizing the resumption of specific activities.
Luciano Jannelli, Ph.D., CFA is the Head of Investment Strategy at Abu Dhabi Commercial Bank (ADCB) and Adjunct Professor of Economics at NYU, Abu Dhabi