Why the world’s central banks stepped in rapidly and in force.
The COVID-19 pandemic drove the U.S. economy into a recession1 starting in February 2020; the World Bank estimates that global GDP will shrink 5.2% by year-end. The unprecedented response by the world’s central banks was uncharacteristically prompt and open-ended, suggesting that the alternative is to court disaster in the form of a global multi-year economic depression.
How realistic is that fear? Brandywine Global’s Brian Giuliano sees meaningful parallels to the U.S. economy in the run-up and early years of the Great Depression of the 1930s. One is the output gap that’s arisen between actual and potential economic production following the layoff of tens of millions of workers.
“… In response to the uncertainty, consumers have cut spending and increased savings, businesses are slashing prices, and wages are under pressure. Deflationary pressures are all around. The environment today is not entirely dissimilar from the early 1930s, the last time a demand shock of a similar magnitude occurred. [The chart] shows what happened to the Consumer Price Index (CPI) in the immediate aftermath of the Great Depression (1930-33). The good news is that today, unlike the early 1930s, policymakers seem to understand the gravity of the situation, and are acting to aggressively combat both the fall in real output and intensifying deflationary pressures.”
(Excerpted from Fighting Deflation Now, Causing Inflation Later?)
U.S. CPI Inflation, 1927 – 1934 (%, as of 3/31/2020)
Source: Haver Analytics. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.
The parallel may not be perfect, but fear of the consequences remains large - explaining the strong policy response:
“In the U.S., deficit spending this year, as a percentage of GDP, will be close to a 100-year high—eclipsed only by deficits incurred at the height of World War II. If we include the expansion of the Fed’s balance sheet alongside the fiscal response, cumulative monetary and fiscal support in the U.S. is likely to be more than 40% of GDP this year, an astounding figure.”
Many were surprised by the lack of inflationary blowback after the 2008-9 Global Financial Crisis. But the past is not always prologue, and the future has yet to be written.
 Source: Nation al Bureau of Economic Research (NBER), via Bloomberg.
COVID-19 is the World Health Organization's official designation of the current novel coronavirus disease. The virus causing the novel coronavirus disease is known as SARSCoV-2.
The Great Depression was the worldwide economic downturn that began in 1929 and lasted until about 1939. It was the longest and most severe depression ever experienced by the industrialized Western world, sparking fundamental changes in economic institutions, macroeconomic policy, and economic theory. Although it originated in the United States, the Great Depression caused drastic declines in output, severe unemployment, and acute deflation in almost every country of the world. Its social and cultural effects were no less staggering, especially in the United States, where the Great Depression represented the harshest adversity faced by Americans since the Civil War of the 1860s.
The Federal Reserve Board ("Fed") is responsible for the formulation of U.S. policies designed to promote economic growth, full employment, stable prices, and a sustainable pattern of international trade and payments.
The National Bureau of Economic Research (NBER) is an American private nonprofit research organization "committed to undertaking and disseminating unbiased economic research among public policymakers, business professionals, and the academic community.
The Consumer Price Index (CPI) measures the average change in U.S. consumer prices over time in a fixed market basket of goods and services determined by the U.S. Bureau of Labor Statistics.
Gross Domestic Product (“GDP”) is an economic statistic which measures the market value of all final goods and services produced within a country in a given period of time.
The financial crisis of 2007–08, also known as the Great Financial Crisis (GFC), global financial crisis and the 2008 financial crisis, was a severe worldwide economic crisis considered by many economists to have been the most serious financial crisis since the Great Depression of the 1930s, to which it is often compared.
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