The 'D' word looking more inevitable

As the economic carnage from the coronavirus pandemic continues, a long-forbidden word is starting to creep onto people’s lips: “depression”.

In the 19th and early 20th centuries, there was no commonly accepted word for a slowdown in the economy. “Panic” was the term typically used for financial crises, while long slumps were commonly called depressions.

US presidents such as James Monroe and Calvin Coolidge used the “D” word to describe downturns during their administrations. There was even a slump in the 1870s that many referred to as the “Great Depression” at the time.

But then, 1929 came, and there was no longer any doubt as to which depression deserved the modifier “great”. The crash hit the entire world, reducing economic output by 15 per cent. And it ground on mercilessly for years – by 1933, unemployment in the United States was at 25 per cent.

The Great Depression was so severe that governments permanently expanded their role in the economy. Since the 1930s, economists and commentators have used the word “recession” to describe economic slumps, and none of them has been nearly as severe as the Great Depression.

The only time this convention was really challenged was after the financial crisis of 2008. The global nature of the downturn, sparked by troubles in the financial industry, led many to draw parallels with the Great Depression. In the end, the term “Great Recession” stuck.

The economic damage from the coronavirus, however, threatens to dwarf the 2008 downturn.

More than 22 million people, or about 13 per cent of the US labour force, have already filed for unemployment. Current forecasts are for the unemployment rate to reach 20 per cent this month. Some predict it could go as high as 30 per cent this year.

So if severity alone is the criterion for a depression, this one will certainly deserve the moniker. President Ronald Reagan once quipped that “recession is when your neighbour loses his job; depression is when you lose yours”.

There will be few people whose economic livelihoods are not hurt by the coronavirus.

Many hope that the economy will bounce back from the coronavirus in a so-called V-shaped recovery. It stands to reason that if the economy crashed because it was intentionally turned off by mandatory shutdowns, then letting people out of their houses will turn it back on.

Unless virus suppression regimes give people confidence that the coronavirus isn’t a threat to their personal safety, they’re unlikely to go out and shop even if the government says there’s no need to worry.

Many economic relief measures are now being implemented, such as the pay cheque protection programme, which extends loans to small and medium-sized businesses if they retain their workers. But while that’s a good idea, there are reasons to believe this downturn will not be over quickly.

First, there’s evidence that the main reason people are staying at home is not lockdowns but the threat of the virus itself. Data from online restaurant reservation websites shows that in major cities, most of the decline in restaurant attendance happened before stay-at-home orders were issued.

This means that unless virus suppression regimes give people confidence that the coronavirus isn’t a threat to their personal safety, they’re unlikely to go out and shop even if the government says there’s no need to worry.

Because effective treatments for Covid-19 probably won’t be available until later, that means many more months of business devastation except in the few competent and lucky places that get test-and-trace systems in place.

Next, there’s the global nature of the downturn. Gross domestic product is set to decline in almost every country. Some forecasters expect all economies to bounce back simultaneously, but a more likely scenario is that many countries will struggle to recover.

Finally, there’s the possibility of long-term financial market turmoil. In addition to severity and duration, a third common criterion for distinguishing depressions from recessions is that the former involves years of financial industry dysfunction and declines in lending.

The Federal Reserve is struggling mightily to preserve the solvency of US banks and prop up asset markets, and, so far, it has succeeded.

But keeping banks on a government lifeline during years of business weakness, although better than the alternative of letting the financial system collapse, might still not equip the financial industry to do its traditional job of lending to productive enterprises. The threat of repeated coronavirus outbreaks, along with continued business failures, may make banks just as afraid to lend as they were after 2008.

Although the US government can and should do its utmost to ensure that the coronavirus recession doesn’t check all the boxes for a depression, its powers to stop both the virus and the international slowdown are limited. Let’s hope this depression won’t last a decade, but an unprecedented slump followed by years of pain seems inevitable.

BLOOMBERG

• Noah Smith is an assistant professor of finance at Stony Brook University, and he blogs at Noahpinion. 

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