In the last month or so, governments and central banks have been the difference between markets continuing to fall and markets starting to find a bit more support. Together, they have done an excellent job so far, particularly if you compare today to the GFC. Those who experienced the GFC will recall the frustration felt because central banks and governments were terribly reactive, and rather slow. They were seemingly waiting for things to happen before putting plans in place.
This time around, with the benefit of hindsight (and, in a sense, foresight with the virus spreading around the globe in ‘stages’) we've seen governments and central banks going early and going hard. Some of the stimulus we're seeing is unprecedented, dwarfing GFC responses: massive spending programs to keep individuals and small businesses afloat. We've seen huge liquidity injections which have really helped to prevent credit markets from seizing up, and we've seen specific incentives to force the banks to stay in the lending market - and not pull away like they did during the GFC - to keep money flowing in the economy. We’re hopefully going to continue to see initiatives added to this as time goes by.
But the real question is, is it enough? It’s enough to limit the damage and enough to prevent the recession we're moving into from becoming L-shaped or, turning into a deep depression but it’s not quite enough to prevent a serious recession. Sure, a V-shape recovery would be a great outcome, but a U-shaped recovery is much more likely despite all of the good work from governments and central banks.
While we're currently more likely to see a U-shaped recovery rather than a very rapid V-shape recovery, the most important factor is quick and ongoing action by the central banks and the governments. Ideally the next round of responses should be more highly-targeted initiatives from governments and central banks: getting money to the most vulnerable people and companies in society rather than just helicopter money or broad-based stimulus.
Another vital factor is getting the administrative channels right is crucial to actually getting the money into people's hands as quickly as possible. We see announcements all the time from governments all around the world and you'd be amazed how little of it actually translates into real action and even when it does, the lag time for that money to get into the real economy is too great.
On the other hand, inflation is a very real possibility if governments and central banks go too far with their stimulus and if they direct the stimulus to the wrong places. There’s little doubt that what is being done at the moment by governments and central banks will result in increased inflation over time. And in fact that's part of the plan is to bring back growth; it means bringing back some inflation. Is it going to bring back too much inflation? There’s a very real risk of this because the amount of stimulus is so large and it's being done in such a short period of time. We need to keep an eye on this because the last thing we want to see is a high inflation environment coming out of this, or even worse, a stagflation environment where you've got sticky unemployment - unemployment goes up fast but it comes down slow - and then you build inflation through that.
Central banks and governments have done a great job so far, but it’s a little bit too early to declare victory.
Ryan Fisher is an Analyst for the Pengana International group of Funds. Including the Pengana International Fund, Pengana International Ethical Fund, Pengana International Managed Risk Fund, and LIC: Pengana International Equities Limited (ASX: PIA).
Conversely, central banks have done far too much. Buying lower investment grade and high yield bonds ensures they will end with capital losses on securities that their previous owners should have worn. Despite the frequently told lie that there is a savings glut, there is savings deficit covered up by QE. Central banks are covering up excessive government debt and the lack of a buyer base for it. Giving a sugar hit to a toddler helps in the short term, but is counterproductive in the long term. Time for investors to stand on their own feet.