Ireland Playing Jenga with National Finances

The economic analysis of the potential impact of Covid 19 remains up in the air, combining the maths of infectious disease with speculation about the efficacy of health system responses. Overnight the OECD has added to sounding the alarm. In line with general estimates of a temporary contraction in economic growth it thinks that -0.50% will be clipped off global growth for the year. This is the V-shaped recovery scenario but if Covid 19 persists and expands which is the objective of all viral organisms, global growth will halve. This is the view of both the IMF and World Bank who together issued a statement yesterday targeting the resourcing of health systems. Central Banks are already connecting to examine fiscal policy. The FED is flagging rate cuts, leading to the inevitable cheer in stock markets desperate for a fingerhold in sliding forecasts and addicted to Crapitalism -Central Bank dole money. These early stage responses share in common a grim sense of uncertainty about what can be done when the issue driving consumers is health and safety while there is disruption to supply chains at the same time.

Whistle Goodbye to Vote Poaching

In Ireland, so far, the overwhelming coverage has been on the virus, not its societal impacts which will be much more widely spread because of Ireland’s open economy. You can whistle goodbye to the General Election vote poaching and file away the national budget planned by all parties as popular fiction. Ireland is caught cold with no effective Government, no one with the power to make pivotal decisions and with political parties still in the bubble of the General Election. The erstwhile leader of the opposition is at home with the kids perhaps not grasping how lockdowns on a global scale derails her manifesto.

No one seems to grasp the economic challenge coming at us like a meteorite. We are staring into a scramble for shrinking resources based on the current information which has yet to penetrate the political bubble. Looking at today’s lead headlines which ignore the OECD, IMF, World Bank and Central Banks there is sparse commentary about how economic reality has already shifted. Simon Harris dominates RTE Tueday morning March 3rd not Paschal Donoghue and no party leader is wising up to the new dawn.

My own take at this early juncture is that nobody knows just how bad this will get including the OECD, it is too early. The process of containment itself, which is of course medically is the correct thing to do, may have the effect of drawing out the disruptive economic impacts for quite some time, meanwhile Establishment Ireland slumbers through the warnings.

Airlines Lead Economic Contagion

For example, in comment over the last weekend a noted aviation expert Mr Joe Gill Director of Corporate Broking Goodbody posted “The global aviation complex is undergoing a major Black Swan event that will force a raft of airline closures and consolidation in the leasing industry. Not since 9/11 have I seen such a dramatic and rapid change in the revenue outlook for global airlines and as the facts unfold in coming days and weeks the consequences for this capital-intensive industry will become clear. Governments will be tapped to backstop Flag Carriers and major restructurings are inevitable as the industry resets” Do bear in mind that Ireland is a huge hub in the global aircraft leasing market and this veteran writer is at the crossroads of an informed network of information.

Gruesome Calculation

This contrasts to the chilly calculation of one equity analyst, a self-confessed equity bear who was, until the outbreak, briefing clients that a melt up in 2020 was on the cards. His analysis is that the rate of cooling in infection rates outside of China from convex to concave indicates that the likely infection rate will only extend to 0.15% to 0.30% of the global population, which with a fatality rate of 2% will kill between 200,000 and 400,000, say 1m adjusting for poorer health systems in large parts of the world. This is hardly a blip on normal mortality rates he thinks.

Leaving aside such gruesome calculation it is clear that the fear of contagion is unlikely to be smoothed out by hard data. The fear genie is out of the bottle, estimates of falls in Italian tourism revenues of -20%, retail -15% and transport -10% feel closer to likely outcomes as consumers vote with their nerves not with their calculators. Already sporting events are being cancelled and global brands are warning of falling revenues. Goldman Sachs, a perennial Bull is predicting zero growth in US Corporate earnings this year, expecting economic cooling in the USA but falling short of outright recession for the year. There is super-cooling growth everywhere and recession in some countries with Italy and Germany looking at more risk of contraction than France or Spain. It is very hard to read Chinese data, it is enigmatic but even the best case estimates are for China to cool from 6% growth to 4% and the worst case is near recessionary conditions.

Business Debt Rollover Risk

But the biggest issue in my view is the impact on corporate zombies, those big companies and banks that cannot afford a fall in revenues without tipping into structural problems trying to service debt from weakened balance sheets. Sitting in the undergrowth is the IMF warning that falling revenues anywhere near 2008 levels could destabilise a large chunk of the global corporate debt markets, the rollover of which can blow out if creditors fear servicing risks, not from higher rates but from collapsing revenues. That is the problem with the debt mountain and the perennial Bull priced for perfection because of the continuation of the Central Bank dole when asset prices fall.

In Emergency Break Glass -Helicopter Money for Europe?

Take the US economy which had been expected to come at in 2% growth in GDP this year but adjust for the plain fact that it is being fuelled by Trump’s deficit spending of 5% of GDP and the US fragility becomes clear. The FED, according to Goldman Sachs is likely to cut rates by -0.75% but swap over to Europe which has no such room with zero bound rates and the ECB is likely to be found dusting down its tool box marked, in emergency break glass.

It is difficult to see how Helicopter Money, injecting cash into consumer bank accounts will encourage anything but hoarding in a climate when going out to spend in shops is considered a risk to health and discretionary shopping is delayed. If prices start falling in the High Street, the consumer expectation of lower prices can quickly feed through to longer delays in spending.

The point is that there are two shocks, firstly on the supply side from factories shutting in key parts of the global supply chain (those bits that keep inflation down) and secondly on the demand side from spooked consumers fearful of congregating. This is a perfect storm and many are still at Stage One, Denial. But it is why the key US 10 yr Treasury Yield has been plummeting, leading to the flattening of the yield curve, parts of which are now inverting again and thus flashing recession. It is clear that there isn’t going to be any normalisation of interest rates anywhere, anytime soon. It is why Gold has surged given that cash deposits are paying nothing and, the expectation is that Central Banks will keep the spigots open.

The big unknown is the degree to which the global economy was cooling anyway before Covid 19, the risk that the virus has masked an underlying problem. This is what concerns the IMF where worries about the resilience of the global financial system have remained since the GFC. Remember in the second half of last year, despite the massive intervention of the PBoC at the end of 2018 coupled to the Fed flagging rate cuts, parts of the global economy were already flashing signs of recession. Plummeting PMI in China and Germany, the continued weakness in Japan and large parts of Emerging Markets, all indicate that a pivot point is imminent.

It is early days and no one can accurately model what happens next or determine where the wiring in the global economy and its financial bodies might take economic contagion in response to Covid 19 but it is clear that Ireland is still in denial, shorn of an effective Government with political leaders who believe they are playing poker with the national finances when in reality they are now playing Jenga.

PS At time of posting Tues March 3rd Seattle has confirmed six deaths bringing Covid 19 crashing into USA and Trump’s attempts to talk it down

Eddie Hobbs

3rd March 2020