Saturday, April 4, 2020

As bad as the Great Depression

We are starting to see the economic impact of Covid-19 with the announcements in the last few days of the closure by Bauer Media of its magazine publishing business in New Zealand and by NZ Media Enterprises of its Radio Sports network. Many other businesses are already struggling and we can expect to see many more announcements of closures and receiverships, notwithstanding the Government's wage subsidies and other handouts. The surprise expressed by Prime Minister Jacinda Ardern at the Bauer Media decision only shows her ignorance and insensitivity to the costs being imposed on New Zealand businesses. Of course, the Government's insensitivity didn't start with the Covid-19 response. Its treatment of landlords, farmers, banks and many other businesses as pariahs had already served to stymie business confidence since the socialist-nationalist-environmentalist coalition took power in October 2017. Only this week we have seen the implementation of a new minimum wage law, which prevents businesses from employing anyone for less than one of the highest minimum wages in the world. The government chose to go ahead with imposing this significant increase in costs on businesses despite the obvious signs that many companies will not survive the Covid-19 lockdown.

Make no mistake, we are in this Covid-19 situation for the long haul. Even if we bring the spread of the virus under control during the lockdown in New Zealand, and that is by no means certain at this time, it is going to continue in other countries for many more months, which means we will need to keep our borders closed for that time. Our tourism industry is facing a long period of utter devastation and many of our exporters may lose markets during this period. Domestic businesses such as retailers and restaurants will recover somewhat after the lockdown ends, but many companies and individuals will continue to hunker down, not investing or spending until they are sure the economy is well on the way to recovery. The OECD estimates [H/T Michael Reddell] that the impact of the Covid-19 shutdown on New Zealand will be amongst the worst of its members at nearly 30% of GDP, which is a similar impact to the Great Depression.

The Government will be gambling on an economic resurgence as soon as the lockdown ends. It will try and spend its way out of the downturn, as it always does. It will prime the economy with a flood of cash such as we have never known, and it is already doing this by hiking welfare benefits as part of its $12.1 billion "economic recovery package". The problem is that this money won't go a fraction of the way to covering the business and individual losses from the lockdown and consequent recession. Besides, the economic situation is primarily a supply-side (i.e. business investment and revenue) problem and governments today seem to only understand demand-side (consumption) policies.

Many politicians and voters don't seem to appreciate the reality that every dollar spent by the government needs to come from taxpayers, who need to earn that dollar in order for the government to take and spend it. Even when the government borrows money to fund its splurge, it is just postponing the bill to future taxpayers. The problem for many Western governments is that they are already overextended in terms of government debt and these events are just going to make the situation worse. Countries like the United States will be counting on the fact that they will quickly recover to their recent levels of strong economic growth, but while New Zealand is in comparatively good shape in terms of the government's balance sheet, no one can have a great deal of confidence that we are going to grow our way out of the hole we are digging for ourselves (the US GDP per capita growth rate has hit nearly 4% in recent years compared to New Zealand at less than 2%).

The reality of Covid-19 hasn't really hit the global economy yet. The recent falls in stock markets around the world have only taken us back to where markets were about three years ago. Once companies begin to announce the expected impact of Covid-19 on their earnings, I believe we will see significantly greater drops. The property market hasn't really shown any impact yet (other than a pause in sales), but given that some commercial tenants are simply refusing to pay rent during the lock down, we can expect a significant down turn in prices to reflect lower earnings in this sector as well. The reductions in earnings will mean more layoffs of employees, greater losses to investors, and even lower taxes to fund the government splurge. We will be in a race against time to recover from Covid-19 before we lock in the greatest economic downturn since the Great Depression.

I have written before about how complacent New Zealanders have been in recent years. I have been pessimistically confident that a significant economic downturn was coming, and although I didn't predict it would be due to a pandemic, I was expecting it to come this year. Now that it is here, I think we lack the political leadership in New Zealand and in many other countries to respond effectively. But that topic is probably best left to another post. 

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