Is This 2008 All Over Again?
Is this 2008 all over again? The answer is “maybe”, but “probably not”. Let’s go back in time. The 2008 Great Recession started with cash being drained from the monetary system. This was due to a massive failure of collateralized debt obligations held by the largest banks and over-building in the housing sector. This created a liquidity trap where Federal Reserve monetary policy was ineffective. Interest interest rates were already low and consumers were holding cash. There have been three notable liquidity traps in recent history: post-depression 1930’s America; Japan’s mid-1990’s recession; and most of the world after the 2008 great recession.
Although we have not had the customary two quarters of negative GDP, most economists are saying we are now in a recession. However, this one did not begin with the same cash drain as the 2008 crises, but is it creating the same liquidity trap? Not exactly.
This recession started with sharply reduced demand due to social distancing/quarantining and subsequent job losses. It did not start with cash being drained from the worldwide banking system. To date, almost 10 million Americans have filed for unemployment and, according to Goldman Sachs, the U.S could lose 37% of its GDP, the largest hit to GDP in history.
What is the main difference between 2008 and now? The $2.0 trillion fiscal stimulus bill is more than twice the size of the stimulus bill in 2009. It is focused on both businesses and consumers including a $1,200 direct payment for most Americans. In other words, there is far more fiscal stimulus pouring into the economy meant to save businesses and maintain some amount of consumer demand.
How bad will it get? Let’s think about a few important questions:
QUESTION #1: When will this current economic downturn end?
Answer: If the epidemiological models are correct, sometime in June or July we may get back to our near normal routines.
QUESTION #2: How much injury will be done to businesses and consumers?
Answer: It depends on how much cash businesses or consumers started with. If businesses and consumers have enough cash to pay rent, mortgages, and basic needs, then maybe there will be pent up demand and we can take off quickly. On the other hand, if working capital, credit cards, and other loans are already maxed out and cash is low, then a period of months (6-12 months????) may be necessary for the economy to come out of this recession.
QUESTION #3: Will the Fed, U.S. House and Senate be effective in combating this recession?
QUESTION #4: Will there be an inflation hangover from all this borrowing?
Answer: Many economists are saying, “no”. Primarily because the U.S. is borrowing money at a negative real interest rate, and technology and innovation have kept inflation low since 2008, a trend that will probably continue. For example, we are all working from home now and most businesses will learn, just like 2008, that they can do more with fewer people and smaller real estate footprints. These factors, among others, should keep the inflation-making prices and wages mix under control.
One thing is certain, we all need to buckle up for a rough few months and cross our fingers that businesses and consumers are ready to spring into action very soon.