The Covid-19 collapse of the worldwide economy is prompting comparisons with earlier major economic adjustments. And while there is lot of discussion about the Great Recession of 2008, the current crisis has more in common with World War II.
For the U.S. in World War II, an enemy attacked and a significant portion of the economy was redirected to a wartime effort. With Covid-19, a virus has attacked and a significant portion of the economy has been redirected to enforced leisure at home. Time at home is better than having to fight on Pacific islands, but in some ways the economic effects are similar.
During World War II, the U.S. economy produced many more tanks, guns and medical supplies, and GDP growth measured as robust — especially compared to the bad years of the preceding Great Depression. Yet those good GDP numbers are misleading. Data on personal consumption show that there were fewer goods and services to go around, and most people on the home front felt a distinct sense of privation. Many Americans feel the same right now.
Many of the changes came in the form of diminished quality, so even the published consumption numbers understate the losses. During the war the mediocre can of spam replaced the T-bone steak. Today “yoga by Zoom” is replacing the gym visit, and that is also usually a lesser product. (Canned goods are making a comeback too.)
There are various forecasts circulating for second quarter GDP (presented as annualized rates of change), some of them as scary low as negative 24%. Obviously these are not good signs. But those numbers are not an entirely accurate representation of what is going on.
One piece of good news is that America is likely to see a boom once the uncertainty surrounding Covid-19 is gone, and this will resemble the boom that followed World War II. Americans will have spent months postponing their larger consumer purchases. When the time comes, that pent-up demand will be unleashed, and producers of consumer durables will have the inventory to satisfy it. In other words, there is more intertemporal substitution than usual going on.
On the downside, much of the lost consumption will not be recovered, most of all in the service sector. Foregone restaurant meals and music concerts cannot be made up. This will be a very painful recession for face-to-face services, which cannot be diverted to “wartime production.”
As with World War II, one of the biggest dangers today is the risk of unpleasant and unexpected surprises. Those risks include a Eurozone financial crisis and breakup, implosion in troubled states such as Iran, a Saudi balance of payments crisis, or a conflict with China due to rising tensions. It is difficult to estimate the likelihood of those risks, but they may help explain why the stock market has fallen so much — far more than might be justified by a year or two of bad earnings.
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One significant difference between World War II and the Covid-19 crisis is that people knew the war was going to last a long while, and thus there was very little hesitation in committing significant economic resources to the effort. Rather than trying to “prop up” troubled sectors, the U.S. encouraged factories to make tanks instead of automobiles.
Today it is difficult to estimate when matters will return to normal. Is it good policy to prop up small restaurants, so as to enable their full return within a few months? Or will second and third waves of the virus render rapid recovery impossible? In that case it might be better for many of those restaurant workers to switch to driving Amazon delivery trucks, as many of those restaurants will not be reopening.
The course of the recession depends on how accurate these estimates are, but of course these kinds of projections are never very precise. And so far we are largely in the dark.
Economists are debating whether aggregate supply or demand is falling faster right now. Again, the wartime experience is useful here. Aggregate demand can’t come back until the supply problems are fixed. Furthermore, demand is suffering from (at least) two problems at once: Many people are losing their jobs, and a lot of demand is being deliberately suppressed (by, among other things, telling people to stay at home). The real issue is where to redirect demand. For that question, public health experts are of more use than Keynesian economists.–Bloomberg
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