The Coronavirus Recession

Over the past few months I have been doing a lot of economic and housing market outlook talks. In one 24 hour period last week I did a presentation quadfecta: presenting on Zoom, MS Teams, WebEx, Skype. In this post I share some of the insights I have been sharing.

Opinions and views expressed are solely my own and do not express the views or opinions of my employer.

Expansions expand, recessions contract

In the U.S. the National Bureau of Economic Research (NBER) provides "official" recession/expansion dates (https://www.nber.org/cycles.html). On June 8, 2020 the NBER announced that the U.S. had entered recession in March 2020 (https://www.nber.org/cycles/june2020.html). The longest expansion in postwar U.S. history had come to an end in February after 128 months. Over time, the length of U.S. expansions has tended to expand, while the duration of recessions has contracted.

Does this mean that the U.S. recession starting in March 2020 could be exceptionally short? It is way too early to tell right now. Even if the U.S. economy starts to expand, there still is quite a lot of work to do to get back to where we were in February 2020. The jobs report for May 2020 provided a small dose of good news. While economists expected to see a contraction of about 7.5 million jobs in May, the U.S. Bureau of Labor Statistics reported a net gain of 2.5 million jobs. The consensus forecast was off by about 10 million jobs.

Even with the surprise in May, the U.S. economy is still down about 19.5 million jobs. We'd need to see eight consecutive months of job gains like May to erase the job losses we experienced so far.

Current estimates for the second quarter hit to Real GDP growth are off the charts. In the first quarter of 2020 the U.S. economy contracted by about five percent at a seasonally adjusted annual rate (SAAR). A negative five percent SAAR growth rate would be very bad. But the hit to second quarter 2020 economic growth will be much larger. The economic shutdowns to battle the Coronavirus pandemic took place in March 2020. The first two months of the year were pretty strong for economic growth. Estimates for second quarter 2020 economic growth range from a consensus forecast of about -34% (June 8, 2020) to below -50%. The Atlanta Fed's GDPNow (https://www.frbatlanta.org/cqer/research/gdpnow) tracking estimate is running at -48.5% (June 9,2020).

Now attention has turned beyond the second quarter towards recovery. Before we forget the past and present, we should note that not all the lost spending in the second quarter will be made up later. Below I show Google search trends for "buzz cut", which exploded in April/May. There will be no retroactive haircuts. Some of the lost consumer spending is lost for good.

With the economy in contraction the U.S. economy has experienced three months of deflation for the All-items Consumer Price Index (CPI). Will that deflationary pressure persist? The chart below shows trends year-over-year percent change in the Consumer Price Index for various items. While the year-over-year growth remains positive, it has fallen all the way to 0.3%. Weakness in commodities is starting to spill over into weakness in services. Continued deflation will present a major challenge to economic recovery.

Housing and mortgage markets respond

U.S. housing markets have held up relatively well in the early months of this recession. Housing construction contracted sharply in March and April. The U.S. economy needs to add (gross) at least 1.5 million housing units every year to match population. See for example: https://www.freddiemac.com/research/insight/20181205_major_challenge_to_u.s._housing_supply.page. After the housing market crash of the mid-2000s it took 13 years for housing starts to climb back to an annual rate of 1.5 million starts. It took two months to see starts fall below one million.

But after contracting sharply in March and April U.S. housing markets have started to rebound sharply. Home purchase applications fell by over 30 percent year-over-year in March and April, but are now trending higher.

The surge in purchase applications is helping to make up for lost ground. Typically U.S. home purchase demand peaks in May, but this year things might be delayed.

Home builder sentiment as measured by the NAHB/Wells Fargo Housing Market Index has returned to positive in June 2020.

Low Mortgage Rates

Certainly, low mortgage rates are helping to support the housing market. In recent weeks, U.S. weekly average 30-year fixed mortgage rates have reached historical lows.

Not only are rates low, but they have dropped almost two percentage points from recent highs. That drop provides many homeowners with substantial incentive to refinance.

And indeed, refinance applications have surged. Already in the first quarter of 2020 refinance mortgage origination volumes were quite strong. But, after adjusting for inflation were only about one third of the nearly $1.2 trillion in inflation-adjusted refinances we saw in 2003.

Consumer balance sheet

Refinances help U.S. households save money. A typical conventional refinance borrower saved about $2,000 a year in lower payments by refinancing. Another source of support for U.S. households has been government transfers. Those transfers hit almost $3 trillion at an annual rate in April 2020. Given the contraction in consumer spending, households saved much of those funds and the personal saving rate hit 33 percent, easily a record for the U.S.

Borrowers also receive support from various credit channels. Forbearance and other hardship programs have helped borrowers avoid delinquency per this report from TransUnion (https://newsroom.transunion.com/as-covid-19-impacts-the-consumer-wallet--federal-programs-and-lenders-provide-temporary-relief/).

Three key questions for the future

As we look to the future, forecasting is especially difficult. In my mind there are three key questions about the path forward for the U.S. economy.

1. Recession was here, but is it already gone?
2. Housing market indicators have rebounded, but will the recovery be sustained?
3. After effects of shutdown and possible second wave to the pandemic remain as risks to the outlook, how big are these risks?

Recession was here, but is it already gone?

It is far too early to tell how long the Coronavirus Recession will last. Given the strong rebound across many indicators in May and June it is possible that future analysts will conclude the recession ended after just three months. However, such a call right now would be far too early. There are still significant challenges facing the U.S. economy and many more difficulties to overcome.

Housing market indicators have rebounded, but will the recovery be sustained?

The U.S. housing market has held up fairly well. After a sharp contraction in March and April, more recent data has indicated a solid recovery. However, it is unclear at the moment how much of that surge was related to seasonal catch up (spring surge carried over into May/June), and how much reflects a sustainable trend.

As I said last year (https://www.dhirubhai.net/pulse/me-bears-leonard-kiefer/) I believe the U.S. housing market has a lot of favorable tailwinds. If the broader U.S. economy gets on the road to recovery, I suspect housing will make a solid contribution to future growth.

After effects of shutdown and possible second wave to the pandemic remain as risks to the outlook, how big are these risks?

There are two major risks the outlook that are hard to quantify.

First, what will be the path of the pandemic. If we see infection rates rise again it may require future lockdowns. As an economist I defer to epidemiologists and public health experts to tell me how things will proceed. But given the nature of this pandemic it is at least conceivable that we have future waves of the virus that would disrupt any economic recovery.

Second, even if the virus is contained we will have to deal with potential after-effects of the shutdown. These after-effects include a possible collapse in demand after government support wanes. If there are not future rounds of stimulus some of the current benefits that support U.S. households shall expire over the next few months. In addition, many state and local governments may face budget challenges that force them to contract spending. Finally, the pandemic may have permanently changed consumer behaviors and certain industries (perhaps airlines or movie theaters) may see a permanent contraction in demand. Adjusting to those shifts could be difficult and result in a slower recovery.

Overall I am feeling much better about the economy than I was a couple months ago. However, the challenges are very real and it could take a long time before we fully recover.