One year ago, in March 2020, State and Local Governments put the United States into a recession in response to the global COVID-19 Pandemic. From the outset, it was apparent this recession would be unlike the past recession, or any other in our memory (see my post from March 19, 2020). It set in motion structural changes in our economy that will last decades.
V, U, W, K Recovery
As soon as the recession was declared, economists tried to describe the shape of the recovery. The first forecasts were for a sharp recession and a proportionally sharp recovery, a “V”. As COVID surged in a second wave during the summer, the concern became a long recovery and a long bottom, or a “U” shaped recovery. The improving economics in the fall lead to fears of a fall recovery and a winter retrenchment, followed by a more sustained recovery in the spring, or a “W” recovery. It is clear, that the COVID-19 recession will be something different, a “K”.
A “K” shaped recovery is an economic cycle with a sharp downturn, followed by sectors that boom and others that bust. This bifurcated recovery is painful as some languish under frustratingly dismal conditions while others watch their economic outlook brighten.
Value stocks languished in bear territory following the spring correction while Tech was responsible for the S&P reaching an all-time high at the end of the year. Big box retail saw tremendous pressure on sales while industrial distribution centers experienced record demand. Apartments in the densest urban cores are saw lease rates fall more than 20% while suburban and rural housing saw record high price levels. Tourism destinations such as New York City, Hawaii, and Las Vegas were hit very hard while destinations near national parks in states that did not close performed well. Restaurants with large dining rooms struggled to remain open while drive-thrus saw record sales. Non-essential employees who could not work from home became unemployed while essential and remote enabled roles remained employed and may have thrived.
Unfortunately, K-12 education, one of the most resilient sectors in any recession, has not been spared the bifurcated outcomes. While budgets were hit with technology and curriculum modifications, the bigger impact was students who could continue to attend in person versus those who could not. Parents and students without means were disproportionately impacted by closed schools. With children at home, parents may have had to choose between essential jobs and their child’s education. Education is a means to opportunity, and many were set back by policies that kept children home without necessary technology, supervision, and support.
Structural Population Shift
Since the Industrial Revolution, people have migrated to cities for education and employment. While the country was historically dominated by small farms and agricultural jobs, the industrial revolution resulted in technology and productivity gains that transformed farming and created opportunity in nearly every other industry. The result was generations of better jobs and upward mobility concentrated in urban centers.
These urban centers have housed the nation’s largest employers and attracted talent from across the country. In many instances, employers are there because they were looking for a deep pool of human capital and the infrastructure to support their growth. Over decades, state and local governments set policy with the knowledge that employees would be required to work where their employers were headquartered.
While technology was enabling remote work and remote education for a few prior to the pandemic, COVID-19 may have broken this relationship between employer and geography by allowing millions of jobs to move remote nearly overnight.
Live, work, play is a movement that has been upended by COVID-19 and the structural shifts in its wake. It used to be that we lived where we worked. Now, many may have the opportunity to live anywhere. If they have that choice, will they choose to live where they play? Will they relocate to be near family? Will they choose to live in expensive urban centers? We have already seen that many are willing to relocate if their employer will allow them.
This is a potential reversal of a migration trend that could favor most communities in the country with only the largest, most expensive, most dense urban centers impacted. It is a reversal that could change population and demographic trends for generations to come.
What happens when interest rates are not set by market forces, but rather managed by policy? Jerome Powell, chair of the Federal Reserve, and Janet Yellen, immediate past chair of the Federal Reserve and current Secretary of the Treasury, have stated that they do not want to see interest rates rise. An increase in interest rates would make government borrowing more expensive.
What are the impacts of a managed low interest rate environment? First, is the intended boost to consumption and investment. Because interest rates are low consumers and investors are incentivized to spend more. Housing is a good example. A 1% decrease in interest rates on a $350,000 home will allow the price to rise approximately 14% while the mortgage payment remains the same. In other words, the payment on a $350,000 house at 4% is approximately the same as the payment on a $400,000 house at 3%.
There is downside. First, if you are looking to earn a return on savings, you will be disappointed. This incentivizes savers to take additional risk and compete for other investments like stocks, bonds, and real estate—driving those assets values up. Second, the distortion makes government borrowing for federal, state, and local governments appear lower than it should be, incentivizing borrowing by government.
When interest rates become more about policy decisions than economics, unexpected distortions occur that are not healthy in the long run.
More than ever, economics is valuable in helping understand the result of policy choices. It is important to listen to what policy makers say, but it is even more important to watch what they do.
Policy makers have often said they want to help individuals who have been hurt by the COVID-19 induced recession. More than once, they have issued checks of $1,400 to qualifying individuals. They have provided rental assistance and eviction restrictions. At the same time, interest rate policy has increased home values on average by $50,000 in the United States. This disparate impact has benefited homeowners and widened the wealth gap relative to those who rent.
Policy makers have said the want to put money in families’ pockets to help them weather the pandemic. The combined relief packages of over $5.2 trillion in COVID-19 stimulus in the United States distributed to over 130 million households would have been $40,000 per household if distributed directly. If relief focused only on those who lost jobs during 2020, the combined relief packages for approximately 25 million lost jobs is $208,000 per lost job.
Policy makers are concerned about large urban cities and their recovery. Structural shifts accelerating work from home options have released many from living in urban areas, and they have responded by moving to less crowded areas. The result is less traffic, less crime, better air, and better balance for relocating employees. The downside is less revenue to support urban infrastructure and programs.
Policy makers have said they are concerned about getting Americans back to work. Many will stay out of the work force by no choice of their own until economies are open and policy makers trust citizens to make good decisions.
Policy makers are concerned about equal opportunity for all Americans. There is no greater equalizer than education, yet in many communities our schools remain closed and those students who are least prepared to catch up are being impacted the most.
Unfortunately, as with most recessions, individuals are impacted differently. This recession is unique in that winners and losers are primarily determined by policy, not by economics. The response has been to stimulate the economy by lowering interest rates and fiscal spending of $5.2 trillion. Homeowners, suburban and rural communities, and essential services are winners that are benefiting from the upside in a “K” shaped recovery. Urban centers, renters, children, and low wage earners are feeling the downside. The policies of the last year are highly inflationary, even if inflation doesn’t show up in traditional consumption items such as food, fuel, or other household purchases. Asset prices are rising and will do so until the policy induced stimulus runs out.