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Buying time for the post-COVID reckoning

Noah Millman

The U.S. stock market has had an extraordinary week, with the broad S&P 500 index rising nearly 12 percent since Monday. Investors seem to believe that the actions of the Federal Reserve in particular — which announced a new $2.3 trillion effort to support local governments and small- to mid-sized businesses — will substantially limit the economic damage caused by shelter-in-place orders and other physical-distancing efforts to combat the virus, and set the economy up for a quick rebound once the crisis is over.

Are they right? It's impossible to know. That very uncertainty is a major reason why the Fed's program, along with other government interventions to maintain payrolls and otherwise freeze the economy in place are a good idea. But the ultimate economic cost will be determined by the virus itself.

Consider the following thought experiment. Suppose, for the sake of argument, that we knew that a safe and reliable cure for the novel coronavirus would be coming to market in six weeks, and that the drug was going to be distributed in massive quantities all over the country and indeed the world.

In that case, investors, business-owners and workers would all know with reasonable precision what they needed to do to weather the storm. All along the chain of economic activity, payments — rent to landlords, interest on loans, salaries to employees, bills to utilities — would need to be deferred for six weeks, after which the economy could simply open up again for business as usual. The government would still have a key role to play in cushioning the blow, particularly for employees at the end of the economic chain, and in coordinating economy-wide collective action, but the problem would mostly be a technical one.

That is not the world we live in. In fact, while there are a number of promising treatments being investigated, we have no real assurance that they will pan out, nor do we know how long they will take to get to market if they do. Similarly, the timeline for an effective vaccine is unknown. And in the meantime, we don't know how much the economy will be able to open up without triggering new outbreaks, and how the shape of the economy will fundamentally need to change to adapt to the new semi-normal that follows the current pause.

That massive uncertainty is a huge economic drag — and is a far more important one than the pause itself. No business can plan financially for a completely unknown economic environment. Nor can any investor. The rational thing to do in such circumstances is simply to hoard cash — which is precisely how you get a depression.

The Fed's interventions are aimed at preventing that from happening. Some of what the Fed is doing is familiar; massive injections of liquidity lower the attractiveness of holding cash, luring money back into risky assets. But the massive lending to small businesses and local governments is very much not normal, but a necessary response to a very abnormal situation where the government deliberately shuts down the economy for a period of time. The objective is to discourage those entities from tightening their belts — not to shutter operations or lay off employees and help them simply wait out the current pause.

They're not just waiting out the current pause, though; they're waiting out the period of uncertainty. In a month or two, everyone will have a much better idea of what the economy is going to look like for an extended period until a cure and/or a vaccine comes available. We'll know which businesses just aren't going to be viable, and which are going to be able to adapt. And that applies not only to businesses but to entire industries, from restaurants to commercial aviation.

That's the tricky part. The federal government is basically paying everyone not to do too much planning during this period of extreme uncertainty, but to keep existing arrangements frozen in place as much as possible. That's the right call right now; if everyone tried to protect themselves in a situation of such high uncertainty, the collective cost would be shattering. Eventually, though, that planning has to happen — and that will necessitate real economic dislocations, potentially profound ones.

Moreover, we actually want those transitions to happen. We don't want the government's role to be propping up businesses and industries that are not viable in a post-COVID-19 world. Rather, we want it to focus on cushioning the social cost of shifting both capital and labor into roles where they can contribute productively. Think of it as the transition from being in the ICU, where machines are keeping you alive and you're just waiting for your body to heal, to emerging into rehab, where you have to learn new habits to regain function.

That's going to be a delicate transition for the economy to navigate, both politically and economically. The stock market bulls are effectively betting that we'll handle it well, that support won't be extended too long for unviable but politically important constituencies, and that the most vulnerable won't be asked to bear the brunt of the costs of that transition, eroding aggregate demand in the process.

I admire their confidence.

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