The times are out of joint. That is the simple takeaway from the coronavirus-related market rout of the past week. Trading losses in both the US and Europe were the biggest for 30 years. A global recession now seems imminent.
The end of a record bull run, which many market participants suspected was coming for months, has finally been triggered by a perfect storm of simultaneous supply and demand constriction. Coronavirus and its fallout has disrupted all the recent drivers of the global economy — from mass travel and tourism, to consumer spending (which makes up two-thirds of the US economy and the majority of many other developed economies), to corporate hiring and capital investment.
Supply chain disruptions starting in China have infected corporate balance sheets in Europe and the US. Companies are drawing down credit lines, putting stress on the global financial system, even as consumers and workers are hunkering down at home, with factories, offices and schools closed. Online retailers will benefit from the social distancing now happening by choice or by force. But that will not offset the economic contraction that will result from falls in spending on goods and services in many countries.
Fuel was quite literally added to the fire by an oil price war. The inability of Opec plus Russia to agree to production cuts has led Saudi Arabia’s Crown Prince Mohammed bin Salman to engage in an ill-advised stand-off with Russian president Vladimir Putin. Both countries are now pumping as much oil as they like, as is everyone else. This is driving down prices and putting more economic pressure on both oil exporting countries, and the US shale industry, one of the most highly leveraged parts of the private sector, now in the midst of unwinding a record corporate debt bubble.
Lower gas prices will not come as the usual relief to consumers, because they will not be travelling anywhere thanks to the global pandemic. But low oil will probably trigger a cascade of corporate downgrades and defaults, starting in the politically important state of Texas, which is crucial to the outcome of the US presidential elections in November.
That is unlikely to bring out the best in Donald Trump, whose Oval Office speech this week triggered more market declines. Instead of announcing the massive fiscal stimulus investors had hoped for, the president offered up a payroll tax cut to fight a “foreign virus”. Markets did rise on Friday after Mr Trump’s announcement of a more aggressive viral testing effort.
European nations have done better, as have central bankers — the US Federal Reserve in particular is putting its finger in the dyke with massive liquidity support to banks. But the ECB’s efforts were undermined by president Christine Lagarde’s comments that the bank is not “here to close spreads”, between beleaguered Italy and Germany. It was not what either market participants hoping for unlimited support for the economy or Italy’s government had wanted to hear.
In the coming days and weeks, the onus will be once again on the Fed. The US central bank’s low rates and bond-buying programme have, over the past 11 years, resulted in unprecedented share price gains. But they have also resulted in an asset price bubble and inflated a debt bubble that is now collapsing. Given that the financial markets are roughly four times larger than the real economy’s annual production, there is probably much more pain to come. A supply and demand side shock is slowing the economy, triggering market declines that will hit consumers’ wealth and could create further financial disruption, so suppressing growth even more. A recession is ever more likely before things can be set right.
Source: Economy - ft.com
