Our apologies for a slightly longer economic update than normal - we felt that the current environment warranted more detailed information. We hope to go back to the shorter format in the next 1-3 months.
Large-scale fiscal and monetary stimulus is being deployed by countries around the world as governments confront the extent of the economic impact of COVID-19
Oil markets were thrown into disarray after failed talks between Russia and Saudi Arabia resulted in a price war that threatened US shale oil producers
The Australian government has announced a raft of stimulus measures, including support for businesses to keep workers on the payroll (Job Keeper)
In the US, various therapeutic agents are working on active trials of a vaccine, but these will likely take many months to be made available
As the UK announced its own support measures, Prime Minister Boris Johnson was moved to intensive care after contracting the virus - and has now been released.
Governments around the world have implemented extreme measures including social distancing, partial shutdowns and full lock-downs in order to prevent the spread of COVID-19. With consumer-facing sectors essentially shut down and global supply chains in disarray, economic activity is rapidly falling and a recession has most likely already begun.
As the COVID-19 pandemic sweeps across the globe, shutting down countries and closing borders, the Australian Government had to quickly come to terms with the severity of the health crisis and the inevitability of an economic recession. A series of economic measures have been announced since early March to mitigate the impact on the local economy and people's lives. The usual May federal budget has been delayed to October 2020, whilst the uncertainty makes formulating reliable economic and fiscal estimates an impossible task.
The government is providing up to $100,000 to eligible small and medium sized businesses and not-for-profits (including charities) that employ people, with a minimum payment of $20,000. Employers with turnover less than $1 billion who have experienced a 30% reduction in revenue will receive payments of $1,500 per fortnight per eligible employee for up to six months.
The RBA cut rates to 0.25% in March and left rates on hold at its April meeting. The RBA also announced a policy of yield curve control, targeting 3-year bond yields at 0.25%. Many loans are priced off the three-year bond and this guidance indicates that the RBA will purchase government bonds and semi-government securities across the yield curve to help achieve this target as well as to address market dislocations.
On 15th March the Federal Reserve cut the funds rate by a full percentage point from 1.25% to 0.25% and announced that it would embark on unlimited bond purchases in an unprecedented move that aims at keeping Treasury yields and mortgage rates low. The US 10-year Treasury yield spiked to 1.2% from 0.5%, while mortgage rates had crept up to 4.0%, undermining efforts to support housing and equity markets.
The US has implemented a US$2 trillion fiscal stimulus package in response to COVID-19. This amounts to around 10% GDP, while the current fiscal deficit is around 5%. Given an expected contraction of GDP in the vicinity of 10% in the June quarter, this stimulus package seems appropriate. The key for any fiscal response is size, speed of implementation, and the ability to target the measures to those most exposed.
There is, however, considerable uncertainty over the extent and duration of the damage to the GDP. The extent of the economic damage to date has been most clearly evident in the unemployment data. Non-farm payrolls showed a reduction of 701,000 jobs in March, while initial jobless claims made an extraordinary leap to 6.6 million according to the April release, up from 281,000 in the March release.
EU leaders continue to disagree on a fiscal response to COVID-19. While there were signs of some early support for so-called 'corona-bonds', which would take the form of jointly issued debt by EU member states, the idea was ultimately rejected by Germany and the Netherlands. The most likely solution will involve providing credit via the European Stability Mechanism (ESM) bailout fund, which could be up to 2% of the requesting country's GDP with a maturity of 5-10 years.
Most Europe-wide economic data thus far pertains to February, before containment measures were introduced by national governments, making the full impact on jobs and economic activity difficult to determine. However, all agree that swift action is required from the EU in order to forestall the worst effects from the virus.
At a national level, Germany announced a fiscal stimulus worth Euro 756 billion, or 10% of annual GDP. This includes a Euro 600 billion bailout fund to take stakes in stricken companies, while the government will also add Euro 156 billion in additional debt and extend borrowing above the 'debt brake' limit of 0.35% of GDP.
The UK announced a 250 billion pound package of loans and grants to help British businesses pay the bills, while those businesses in sectors such as retail and hospitality will receive a year long holiday from paying business rates (taxes on non-residential properties).
The situation in China appears to be stabilising, with the rate of infection slowing in recent weeks while the rest of the world takes action to prevent the spread. China has begun easing restrictions in Hubei with some travel permitted and some industries restarting approximately two months since the region was locked down. This followed a visit from President Xi Jinping to the region as show of confidence in his government's efforts.
The broader impact on the Chinese economy is most clearly seen from the PMI numbers. February's result saw a drop from 50.0 to 35.7 indicating a very significant contraction. After recording GDP growth of 6.1% in 2019, the World Bank now estimates that growth will fall to 2.3% in 2020 (and that's a best case scenario).
The market is expected some sort of stimulus to be forthcoming, but few expect the measures to be of the same magnitude as previous packages. This time around, China has less room to move given high levels of debt and the diminishing returns on large-scale infrastructure projects. That's not to say there will be no response - Chinese authorities are considering spending up to RMB 2.8 trillion (US $394 billion) in local government special bonds to boost infrastructure which, while smaller than previous programs, would still be significant.
Japan is preparing to deploy a large-scale stimulus package worth JPY 108 trillion (US $990 billion) - the equivalent of 20% GDP - to combat the economic impact of COVID-19. Japanese GDP growth was already declining thanks to the US-China trade war and the consumption tax rate hike in October 2019. The postponement of the Tokyo Olympics also means Japan will forgo a much-needed economic boost. The Bank of Japan has doubled its annual equity-buying program target and has rolled out a new lending facility, pledging to provide ample funds and continuing to buy Japanese government bonds. So far, it has not lowered interest rates further below zero, but further cuts remain an option. The priority is to provide smooth corporate financing and stability to financial markets.
South Korea remains a source of positive news, with early signs that its aggressive strategy of broad testing (which enables them to identify those infected early, isolate them, and trace their contact with other people) has been working.
India has announced a US $23 billion relief package for its poorest citizens. The measures involve a combination of direct cash transfer benefits and food security measures, with Finance Minister Nirmala Sitharaman saying 'no one will be allowed to go hungry'.
PMI's represent the 'purchasing managers index' which is used as an indication of business sentiment.
This update was written by Lonsec Research Pty Ltd. Information contained on this web page is of a general nature only and your personal financial position, objectives or needs have not been considered. Please ensure you have the necessary financial, tax and legal advice before acting on this information. Do not rely upon it when making financial decisions.