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The Big Bounce Back

The Covid-19 recession will go down as one of the deepest in history, but the world economy should make a swift and complete recovery, says our man in Europe, Andrew Kenningham, of Capital Economics.

7 October 2021

The downturn caused by the pandemic has been the worst since the Second World War.

The global economy contracted by more than 3 per cent last year – a much bigger fall than the half a per cent decline after the 2009 global financial crisis (GFC). And the damage to many European and some emerging economies has been much bigger.

The good news, however, is that in many countries the rebound has been swift.

A quick rebound

The US economy looks set to expand by more than 6 per cent this year and growth in many other countries (including Australia and New Zealand) should be almost as strong.

Indeed, the Chinese economy is already running above its pre-pandemic level. Of course, China is an exception because, despite being the first country affected, it was not as badly hit as many.

The Chinese authorities brought the pandemic quickly under control and have kept it in abeyance since last summer.

But China is not alone. The US is likely to get back to its pre-pandemic level in the second quarter of this year and is now on track to go above the path it was on before the pandemic hit.

For Americans, it may soon seem as if the pandemic never happened. This is great news for countries which are a bit behind in their vaccination programmes.

Why it’ll be short

There are several reasons why this recession should be short-lived:

  • First, asset prices have generally remained quite high. Property prices collapsing were the root cause of the 2009 sub-prime crisis, but this time they have risen. This has made households better off, on paper at least, and has helped banks to avoid serious financial problems.
  • Second, household incomes have held up well. During a run-of-the-mill recession, people who lose their jobs also lose much of their income and are forced to slash their spending – and this in turn causes the recession to deepen. But this time around, governments have helped by setting up generous job support schemes and other welfare payments.
  • Third, there should not be much long-term scarring in the labour market. Most of the people who lost their jobs due to Covid regulations will get them back as health restrictions are lifted. Bars and restaurants will be re-opened, and airlines will start to fly again. This is a big contrast with the experience after 2009 or back in the 1980s, when unemployment remained high for years.
  • And fourth, interest rates have fallen. Partly because of this, there has been no credit crunch – another feature of many previous recessions.

Even aside from the job support schemes, policymakers have been far more generous in supporting the economy than they have usually been in the past.

Politicians had few qualms about spending money to help households and companies weather the storm, because the pandemic was clearly outside their control.

In America, both the Trump and Biden administrations boosted the US government deficits for their own (very different) political reasons. There’s little reason to fear a repeat of the financial austerity we saw after the GFC.

What about the long term?

The rebound looks set to be swift, but this says little about the longer outlook. History is littered with examples of recessions which have been followed by long periods of weak economic growth.

Certainly, we’re not out of the woods yet, because much of the world is still in the grip of the pandemic, witness the latest distressing news from India.

Governments with fewer resources won’t be able to vaccinate the bulk of their populations for a long while to come. And even in richer countries, there’s the threat of new virus variants which could escape the vaccine.

Moreover, some investment will already have been lost due to the crisis – think airlines and office space, for a start. And if household confidence has been shaken, spending may be subdued for a while.

However, set against these concerns, there have already been some positive economic side-effects of the pandemic.

This time it’s different

The pandemic has spurred investment in digital technology, so there will be efficiency gains from increased use of IT in areas ranging from education and medicine to business services.

Not all these benefits will boost economic activity: they may, for example, lead to increased leisure time, if people spend less time commuting. But some of it will increase business efficiency and measured GDP.

So, this recession could really be different from previous ones.

At a minimum, the economic fallout from the pandemic is smaller than many people assume. And in practice, the recession could even be followed by faster economic growth than we would have seen.

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