The COVID-19 Diaries – Week 8 – ‚Dear IMF, thank you for your encouragement‘
It was widely known that there will be a recession, some might have understated the extent of it. The IMF recently released its forecast for the global economy incorporating the effects of COVID-19. The picture it painted is very similar to Raffaello’s classic, St. Michael Vanquishing Satan. However, the IMF forgot to include St. Michael and we are left on a rendezvous with Satan.
„As a result of the pandemic, the global economy is projected to contract sharply by negative 3% in 2020, much worse than during the 2008 –2009 financial crisis. The economy will experience its worst recession since the Great Depression. Many countries face a multi-layered crisis comprising a health shock, domestic economic disruptions, plummeting external demand, capital flow reversals, and a collapse in commodity prices.“
Let’s chase the ‚V‘
The IMF draws up essentially two major scenarios for the recovery. Base case predictions for global GDP follow below.
FY19: + 2.8%
FC20: – 3% (Versus 2019)
FC21: + 5.8% (Versus 2020)
Thus, the bottom line by the end of 2021 would be a positive 2.6% growth compared to 2019.
I) A better looking, ‚V‘ shaped curve
„In a baseline scenario, which assumes that the pandemic fades in the second half of 2020 and containment efforts can be gradually unwound, the global economy is projected to grow by circa 6% in 2021 as economic activity normalizes, helped by policy support.“
II) Highway to hell
During the 2008 – 2009 economic downturn, the problem arose from within the financial system. Yet, even with the fall of Bear Stearns and Lehman Brothers and the endless number of defaulted housing loans, the global economy only fell 0.1%. The economic fallout was predominantly experienced in advanced economies. However, during COVID-19, basically the global economy is in jeopardy. In 2020, the IMF predicts a lost cumulative output of €9tn, more than twice the GDP of Germany in 2018.
Inflation has entered the chat
„The significant actions of large central banks in recent weeks include monetary stimulus and liquidity facilities to reduce systemic stress. These actions have supported confidence and contribute to limiting the amplification of the shock, thus ensuring that the economy is better placed to recover.“
It is economics 101 that monetary and fiscal policy has to work hand in hand in a balanced manner not just in time of crisis but also in a „business as usual“ scenario. However, as most of the main central banks had close to 0% of base rate as of the aftermath of the 2008 – 2009 crisis, there is only one thing left in the pocket of monetary policy makers. Print money like in ‚La Casa De Papel‘. And whereas ‚The Professor‘ is a character we can sympathize with, one could start worrying about inflation.
Based on the estimate of Paul Tudor, head of a circa €50b macro focused hedge fund, close to €4.0tn worth of cash was „created“ under the name of government support since February, 2020. To put that in perspective, that is almost 7% of the global economic output or the GDP of Germany in 2018.
„How reasonable is it to expect that in the recovery phase the Fed will be able to deliver an increase in interest rates of a magnitude sufficient to suck back the money it so easily printed during the downswing?“
Not really, considering that it took a decade for the Fed to step up a couple percentage points. Now, traditionally, there are asset classes which provide near perfect hedge against inflation such as gold, real estate or TIPS. How does the new school hedge inflation? Bitcoin. Paul Tudor argues that the most compelling argument for owning Bitcoin is the coming digitization of currency everywhere, accelerated by COVID-19.
Amazon: your order of consequences has been dispatched
Expected date of delivery: 2021
„By recognizing the higher-level consequences nature optimizes for, I’ve come to see that people who overweigh the first-order consequences of their decisions and ignore the effects of second- and subsequent-order consequences rarely reach their goals. This is because first-order consequences often have opposite desirabilities from second-order consequences, resulting in big mistakes in decision making.“
When it comes to the current scenario, it is evidently much more complex than recession and the fear of extreme inflation. Yet, it would not be the first time that central bankers failed to see the big picture.
IMF World Economic Outlook 2020 April 30
Tudor Investment Corporation
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