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Business Observer Friday, May 29, 2020 1 month ago

How do economists think the economy will recover?

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Some believe the recession could be short-lived, with technology a big help.
by: Adrian Moore Contributor

April’s unemployment figures hit a modern record of 14.7%, shedding 20.5 million jobs. The only ray of light is 18 million of those job losses are expected to be temporary. But there are massive economic consequences of businesses closing or reducing operations as workers and customers either voluntarily stay home or are required to by state and local policies. Most economists agree we are in a recession; the open question is how soon the recovery will begin and how quickly it will happen.

Typically, economic recession and recovery follow a V-shaped pattern as GDP falls steeply for a period, then sharply turns back upwards and grows just as fast. This has been the most common pattern in the U.S. over the past 50 years.

An alternative pattern is a U-shape, where GDP falls steeply and gradually bottoms out and then more gradually begins to recover and climb back to previous levels. This is more likely when the damage of the economic contraction is more severe and disruptive. Since right now whole industries are virtually shut down, and many businesses won’t be able to come back from that the way they can from a more uniform contraction of demand and sales, some economists think this recession may well be a U-shaped one and recovery will take longer than usual.

If there is a double-dip in the economy, perhaps if opening up the economy leads to a significant second wave of COVID-19 sickness that causes a second contraction of the economy, or if economic activity initially jumps but then business bankruptcies and unemployment wind up being too slow to turn around, that could drag the economy down again. A W-shaped recession.

Finally, we could see a swoosh- or check mark-shaped recession, with the sharp downturn in GDP followed by a slow and gradual recovery taking much longer than usual to return to pre-recession levels. This might be made more likely if reopening the economy is done slowly and gradually nationwide.

There are good economic arguments why any of those shapes could be how this recession winds up progressing, another good question is how severe it will be. Reuters polled over 50 economists and while some thought there might not be a global recession, the average estimate was the global economy will shrink by 1.2% at the bottom of the recession. That would be moderate as modern recessions go. The most pessimistic estimate was a 6% contraction, which would be worse than the 2008-09 recession and the worst recession since 1945.

 

Pessimism

The pessimists are well represented by Bart van Ark and Erik Lundh, head economists at The Conference Board. They predict a swoosh-shaped recession and say, “Americans should brace for a prolonged period of pain, not a swift recovery.” They argue the economy will contract by 6% and won’t start to recover until September at the earliest. Even with the 2.3% growth rate we enjoyed in 2019, that would mean nearly three months for the economy to get back where it was, and more years to make up for the lost time.

 

Optimism

The optimists, on the other hand, are well represented by Nobel Prize winning economist Vernon Smith.  He argues that our economy is dynamic and well placed to quickly recover. Stating “we are neither a feeble society nor a feeble economy,” he goes on to say businesses that will fail in this recession will mostly be small and young, and the new businesses that will arise in the recovery will also be small and young, while businesses that weather it will be the next generation of big firms, just like today’s big firms survived and grew in the wake of the previous recession. But this time technology is even more well developed for flexibility and reducing transaction costs, making recovery easier and faster.

“As this crisis unfolds, don’t think of decline in labor and product markets; rather think of the churn, growth and survival that is happening,” Smith says.

I’m an economist and I am not sure who is right. Both sides have good arguments. This contraction is unusually hard-hitting on some industries and seems to be digging a bigger rather than a deeper hole in economic growth. But at the same time technology is enabling an amazing amount of job creation. Which will be the stronger trend depends at least in part on the policy choices made in coming months.

Dr. Adrian Moore is vice president at Reason Foundation and lives in Sarasota.

 

 

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