‘Helicopter money’ everywhere


Lin See Yan: True, early lifting of lock-downs is unlikely to bring the economy roaring back to life if the disease is still prevalent. Worse, a re-opening followed by a wave of rising infections and a further lock-down, or even a cycle of re-openings and lock-downs, would devastate the economy – quite apart from the credibility of policymakers. As I see it, there are too many obstacles to an early return to normality:

GLOBAL recession is here. The global Covid-19 pandemic changed everything. Lockdowns imposed by governments the world over have pushed the global economy into the sharpest downturn since the Great Depression.

Indeed, the economic and social impact of the coronavirus pandemic, with the world in virtual standstill, is much worse than the 2008 global financial crisis.

April economic data now point to a high double-digit percentage fall, reflecting vast swaths approaching severe shut-down in the gross domestic product (GDP) of the United States and China in 2Q’20 (Europe already in significant contraction).

This has led most economists to slash forecasts for global growth in 2020 – from around 3% at the beginning of the year to a contraction exceeding 5%–7% (-3% in 2008-09).

In the United States, more than 30 million filed for jobless claims in the six weeks up until end-April (so much so many state websites dealing with them crashed) – the sharpest rise in modern US history. Not surprisingly, US GDP fell 4.8% in 1Q’20 and is expected to shrink 12% in 1H’20; and down minus 7%–8% for the year reflecting considerable risks to the medium-term outlook.

As to be expected, governments and central banks responded with huge stimulus programmes, designed to protect incomes of those who cannot work during the lock-downs; stimulate an economy strangled by quarantine; and, ensure growth bounces back fast when normal life returns. This simply means a substantial fiscal boost to support the cashflows of corporates and with new cheap lending; higher unemployment benefits; widespread cash handouts; and massive grants and soft loan support for SMEs.

These, when combined with ultra-loose monetary policy (mainly through purchases of gilts and private debt including junk “fallen angels” bonds for the first time, in unlimited quantities) mean a huge rush to inject liquidity on an unprecedented scale to keep staff and juice broad-based activity, including a gargantuan wad of cash granted directly to persons and families, and to support payrolls.

Helicopter drop

The world economy is experiencing a sudden stop that is without precedent in peace time. The revival of economic activity and the generation of demand imply the need for large fiscal deficits.

The IMF reckons that the enormous fiscal policy actions taken so far globally – worth more than US$10 trillion (including IMF and World Bank support) – will leave a legacy of debt that will last a generation.

They involve two separate policy issues: (i) how to finance the stimulus – should the central bank pay for it through direct monetary financing, i.e. effectively printing money, or indirectly through the purchase of government bonds? (ii) how then to distribute the money – direct handouts or government spending, including project financing? They raise the conventional taboo of monetary financing the deficit, i.e. open call for explicit “helicopter drop” – printing money to bridge the gap.

This idea was “shocking” when I first heard of it from Milton Friedman in the 1960s. Since then, former Fed chief Bernanke has popularised it as the “best available alternative” under certain extreme circumstances. And, we are in a wartime situation. It’s easy to understand why given the administrative simplicity of it, especially when time is of the essence and when the best policy assumes that nobody should lose their job or their income because of the virus.

Today, warnings of its inflationary impact have lost its bite. Direct cash handouts are already happening, even in conservative administrations like in Hong Kong and Singapore (as well as Malaysia). Germany and Norway have their own versions of it.

In the United States, it’s built into the recent US$3 trillion stimulus plan. There are other reasons why this unconventional idea is gaining traction: promoted by the frequency of crises, growing inequality, and fear that technological change will displace jobs.

Like it or not, helicopter money is already here. Definitions scarcely matter in today’s health emergency. Indeed, central banks are already making huge transfers to the private sector (e.g. loans through the banks by the European Central Bank).

Today, it is getting harder to distinguish between outright monetary financing and central bank existing practice of buying government bonds. In the United States, all its debt is denominated in US dollar anyway. And, implementing yield curve control keeps long-term interest rates low.

For years, the Bank of Japan (below) annually buys government debt equal to the fiscal deficit. In the end, it’s a matter of presentation. Desperate times demand desperate measures.



Even the Bank of England has since insisted that it has not engaged in monetary financing of government since any funding is “temporary and short-term.” Hence, its intellectual sleight of hand in doing so via the “Ways & Means” facility, i.e. extending an overdraft, for all practical purposes. But is it affordable? Dangerous only if inflation starts to rise.

Here three factors are on its side: (i) inflationary expectations are well anchored at below targets; (ii) lower oil prices are holding inflation down; and (iii) the massive virus pandemic is a once-off.

The critical aim is to prevent a global depression. In the final analysis, it is the job of central banks to support the over-riding need for the state to protect peoples’ lives and livelihood. Its independence is a means to an end; not an end in itself. Other things do matter in exceptional circumstance.

Stocks rally v grim economics

Stock markets have so far remained strong amid the grim economic outlook. Why? As I write, stocks have continued to rally, with the S&P500 up 31% from its March low. Sure, much of this is not driven by fundamentals – but by Fed liquidity support through robust credit markets. The disconnect with the lacklustre performance of individual economies is stark.

Does the rally have the legs to run? Investors are reluctant to bet against the massive interventions by governments and central banks, and the world. It is noted that much of the rally has bolstered the tech groups (FAANG – especially Amazon and Netflix), that dominate the US stock market, benefiting from the shut-downs, and from home delivery and streaming entertainment.

The sugar high also reflected a nervous “fear of missing out” on the rally. As I see it, the latest run of economic news has been dire – 1Q’20 GDP significantly contracts; short-term outlook remains poor; and unemployment is up – at 14.7% in April. Ouch! Yet, US stocks have rallied – I see there to be a confusion between liquidity and solvency problems.

Sure, the Fed and Treasury can readily address liquidity problems. But are the emerging solvency problems (falling revenues, rising NPLs, rising debt servicing, etc) being resolved?

Already, there are ominous signs of uncertainty surrounding the future viability of a wide range of businesses. I do not see a gilded cornucopia of attractive bargains. I also sense nervousness creeping into the markets triggered recently by ructions in oil with the benchmark WTI price sliding below zero! Once the Covid-19 medical problems are sorted out, it will be the solvency and not liquidity problems that really matter.

EME debts

For emerging market economies (EMEs), Covid-19 struck first through the financial markets, via a sudden halt in foreign investment inflows. Overseas investors have since taken US$95bil out of EM stocks and bonds in the face of collapsing export earnings and the pandemic. IMF claims EMEs urgently face extraordinary needs through nobody’s fault.

Weak health systems, limited fiscal space, and a collapse in access to foreign income have severely limited their options to respond to Covid-19. To assist, G20 countries have since agreed to freeze US$20bil of bilateral government loan repayments for 76 low income countries, and the IIF (an industry club) has urged private creditors to agree on “voluntary” standstills for some of the poorest and hardest hit countries.

However, investors have since pushed back – an early indication of how difficult it can be to get private creditors to collectively and voluntarily agree on relief measures. In addition, there have been impassioned calls for IMF to boost its power to extend finance to the world’s poorest countries with an expansion of fund members’ special drawing rights (SDRs).

The goal is to help low income countries boost health and other fiscal spending as coronavirus spreads. Under the IMF’s allocation mechanism, although many of the poorest nations (with the smallest reserves) would see the largest proportionate increase in spending power, the largest absolute SDR increases would go to bigger countries (who will then voluntarily transfer their SDR allocations to EMEs with the greatest need). It’s easy to create, and highly liquid. Unfortunately, this initiative was vetoed by the United States. I should think this matter is far from closed.

Swoosh

The world went into lock-down at different times – first China, Japan; then EU (Italy) and last; the United States. Global GDP could have contracted by as much as -20% in 1Q’20.

How will and when can they exit? The global economy will reach the trough of recession in 2Q’20. A “swoosh” (as in the Nike logo) recovery is then expected, with GDP rising only gradually – a pathway implying almost two “wasted” years for the United States; and a somewhat worse-off picture in eurozone (where manufacturing has virtually collapsed and services, not much better).

Indications are that China is the first to recover, with weak exports reflecting sharp foreign markets decline! Even here (also in Japan) new stimulus plans have just been unfolded to ensure recovery does happen.

Overall, I worry that the current projections still underestimate the severity of the virus-driven shutdown, an inherently messy and complex restart process, and consequent changes to the post-crisis landscape.

Big businesses lack visibility on what lies ahead, and are suspending guidance on earnings. Many companies have also rushed to raise precautionary cash, including by issuing more debt, even as profits deteriorate in the face of an avalanche of downgrades.

Many enterprises have also raced to reduce costs with large-scale layoffs, resulting in a 30 million jump in US joblessness, equivalent to about 20% of the US labour force, well exceeding the highest unemployment rate during the recession of 2008-2009.

This alarming rise in unemployment, and wage cuts for those still employed, are encouraging households to be more cautious on spending. As I see it, consensus economic forecasts are not alone in failing to appreciate fully the impact of the shock and the reactions of both companies and households.

Financial markets are too bullish also, judging by US price-earnings ratios for stocks and spreads for their lowest quality papers. Neither takes sufficient account of a whole host of risks including a more difficult earnings outlook, higher levels of indebtedness, a much wider dispersion between winners and losers, lasting risk aversion in the real economy and, most importantly, a sharp rise of bankruptcies.

That cognitive gap reflects, in part, an inherent structural bias of markets to treat pullbacks as temporary and fully reversible – a result of multi-year conditioning to try to follow and outpace a super-activist Fed. Lest it’s forgotten, fiscal and monetary policies can help with short-term liquidity problems and market stresses, but cannot avert corporate and EMEs defaults, or quickly restart the economy.

With this in mind, investors will do well by focusing on quality.

They should (a) move out of companies with weak balance sheets and into those with large cash buffers, limited short-term debt and positive cash flows; (b) significantly reduce exposure to businesses that can’t rebound fully in the post-crisis world; and (c) keep cash on hand to take advantage of attractive opportunities in “distressed and special situations.” Bear in mind that the outcome of the virus dictates the timing of a decisive rebound in markets, and then the economy.

It will happen only with significant medical progress in identifying and containing the spread of the virus, treating illness more effectively, and increasing immunity. Of course, early discovery of a vaccine will make the difference. As I see it, the time has not yet come to move into full-recovery mode.

What then are we to do: lock-down vs open-up

For what it’s worth, IMF now suggests that (i) global GDP per capita contracts 4.2% in 2020 (-1.6% in 2009); (ii) 90% of the world will experience negative growth per head (62% in 2009); (iii) rich nations GDP will fall 12% between 4Q’19 and 2Q’20; -5% in EMEs; and (iv) rich nations will recover in 2H’20 reaching a level of GDP at below 4Q’19 until 2022.



This assumes the world re-opens soon after 2Q’20, which I think is optimistic. Alternative scenarios of longer lock-downs and a second wave of the virus offer worse-off outcomes. This raises a key issue: are protecting the people (longer lock-downs) and re-opening the economy mutually compatible? Or as President Trump puts it: “We can’t have the cure be worse than the problem.” The assumed trade-off is more apparent than real.

True, early lifting of lock-downs is unlikely to bring the economy roaring back to life if the disease is still prevalent. Worse, a re-opening followed by a wave of rising infections and a further lock-down, or even a cycle of re-openings and lock-downs, would devastate the economy – quite apart from the credibility of policymakers.

As I see it, there are too many obstacles to an early return to normality: (i) much uncertainty remains; (ii) impact on supply and demand is too widespread & its ultimate effects, too unpredictable; and (iii) ignores the complexities of how the world operates.

Foolish to plan for a swift return to life as it was before Covid-19. Things have changed and will remain different. Suppressing the virus until a vaccine arrives is, I think the best policy for both health and the economy. In the meantime, testing, tracking and quarantine will be required.

Government and businesses will need to make plans to allow as much of the economy as possible to re-open, while protecting the health and livelihoods of the physically and economically vulnerable. This will, no doubt, be a most complex task. Sure, there will be surprises. But it really must be well thought through to inspire confidence.

In the longer term, the right thing to do is going to be the least politically unpopular thing to do.

Kuala Lumpur, May 8,2020

Former banker, Harvard educated economist and British Chartered Scientist, Lin of Sunway University is the author of ‘Trying Troubled Times Amid Trauma & Tumult, 2017–2019’ (Pearson, 2019). Feedback is most welcome. The views expressed here are the writer’s own.

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