Update 427: Corona 3 Implementation Starts
Money Out When? Stimulating a Dead Horse?
The incredible shrinking and increasingly virtual U.S. economy is being transformed by the coronavirus into something we have never seen before and increasingly hard to spot. Ten million jobs have vanished in under two weeks and the famous flattening of the curve is still hard to see.
As we enter an even crueler month, hope is reposed in Corona III, the massive relief measure designed as a policy ventilator for those in critical economic condition. Will it work? How fast? These are the questions of the hour, addressed below with a quarter-end market wrap.
Last week, 3.3 million Americans filed initial jobless claims, quadrupling the previous record. On Thursday, that record was shattered again with 6.6 million new claims reported. The $2.2 trillion in the CARES Act signed last Friday has been authorized, but the economy won’t absorb the funds immediately. How quickly individuals and businesses can receive and make use of the funds depends on program design and the efficiency of relief delivery.
Below, we analyze the timing and delivery of the CARES Act programs and the potential absorption rate of the recipients. We also review the performance of key sectors in the market as a brutal Q1 comes to a close.
Individual Assistance and Automaticity
The CARES Act provides economic assistance through expanded unemployment insurance and direct cash payments, two programs that were also in the 2008 stimulus playbook. But the unique nature of our current economic shock is testing these policies.
- Unemployment Insurance (UI): UI automatically stabilizes the economy during downturns, putting cash in the hands of people who need it most. The CARES Act expanded UI by providing individuals an additional $600 per week for the next four months, making regular UI benefits available for an additional 13 weeks, and opening the program to those who are not normally eligible (gig workers and the self-employed).
Ten million new claimants are stressing states’ UI systems beyond capacity, delaying the absorption of these funds into the economy. In the past two weeks, Connecticut received the number of claims it normally processes within the entire year, creating a five-week backlog. The system is not designed to operate at this level.
- Direct Cash Payments: Yesterday, Secretary Mnuchin said the $1,200 cash payments would reach most recipients within two weeks. The 60 million Americans who already have bank data on file with the IRS from 2018 and 2019 tax returns will receive the first disbursements. But many of the neediest Americans, including the 14.1 million who are unbanked, lacking this automaticity, might have to wait until September to receive a check in the mail.
The 2008 tax rebates provide the most recent data for how Americans might ultimately use the $250 billion in direct payments. Per the Bureau of Labor Statistics, the primary uses of the 2008 rebates were: paying off debt (49 percent), spending (30 percent), and savings (18 percent). With economic activity at a mandated standstill in much of the country, the current payments will likely have lesser stimulative effects through spending than in 2008.
Small Business and Red Tape
Starting today, small business owners can apply for a largely-forgivable loan from the Small Business Administration’s (SBA) new Paycheck Protection Program (PPP). The PPP is designed to get money to small businesses quickly, enabling employers to pay overhead while keeping employees on payrolls. But concerns remain about how long it will take for business owners to receive PPP funds.
First, there is the question of administrative capacity for scaling a program of this size. In 2019, the SBA loaned roughly $23 billion to small businesses through its flagship 7(a) program. That is 6.5 percent of the loan volume that the PPP seeks to disburse over the next few weeks.
While the PPP circumvents much of the SBA’s bureaucracy, banks responsible for processing applications and disbursing funds do not have guidance on how to verify borrower information. On Tuesday, the Treasury announced that banks will bear responsibility for fraud and misuse. Lenders are balking at this prospect. Yesterday, JP Morgan Chase stated that it will “most likely not be able to” participate in the program.
Additional verification steps will create a lag of weeks, or even months, between applying for loans and receiving them — too late for many small businesses.
Corporate Assistance: Stimulus vs. Bailouts
Large corporations are well-positioned to receive funds expediently from the CARES Act’s $454 billion general lending fund. The Federal Reserve will deliver the assistance through lending facilities backstopped by the Treasury.
The Fed can leverage the $454 billion 10:1, so over $4 trillion worth of liquidity (roughly 20 percent of GDP) may be injected into the economy. With little guidance on how or to whom the funds will be dispersed, the Treasury will push these loans out as fast as possible, benefiting businesses that used similar facilities in the 2008 financial crisis and have experience accessing the Fed’s resources. Funds may go out quickly, but nothing ensures that they are absorbed efficiently or reach the areas of the economy where they will be most effective.
The aviation industry will receive $58 billion in cash grants and loans. Instead of navigating a complex loan application process, the companies negotiate directly with Wall Street firms partnering with the Treasury. Will bailing out the aviation industry stimulate the economy today, as the industry lacks demand for the foreseeable future? This bailout may have been informed more by politics than sound fiscal policy.
Meanwhile in the Markets
Perhaps because the crisis does not stem from problems in the financial sector as it did in 2008 or perhaps because falling prices offer tantalizing buying opportunities, the capital markets have been slower than the real economy to realize losses. Still, Q1 saw the Dow drop 23 percent and the S&P 500 drop 20 percent — the worst quarterly performances for the indices since 1987 and 2008, respectively.
Good riddance to that quarter, which ended Wednesday. But unfortunately, the prognosis is even worse for Q2. In this context, which sectors and firms are the “winners” thus far, and which are in more critical condition?
Sectors Performing Well:
- Tech: Only 32 stocks in the S&P 500 saw gains in Q1, with the tech industry accounting for 36 percent of them. Citrix Systems, a cloud services provider, was up nearly 28 percent in Q1.
- Pharma: Unsurprisingly, the best performing stock in the S&P 500 was a company seeking a cure to the coronavirus. Healthcare and pharma are one of the few sectors that, unfortunately, are unlikely to see demand dip anytime soon.
Sectors Performing Poorly:
- Financial Sector: Few financial stocks performed well during Q1. While institutional investors fled to safety in bonds and money markets, amateur individual investors — perhaps on the advice of Larry Kudlow to “buy the dip” — are the ones who stayed in the equity markets.
- Energy: The oil industry has been hit hardest by the crisis, as it faces both reduced demand from consumers and a supply shock from Saudi Arabia and Russia. Of the 50 worst-performing stocks in the S&P 500, 19 came from the energy sector. The downturn in oil prices has already prompted widespread layoffs across the industry.
- Manufacturing: Per the Institute for Supply Management, the manufacturing sector contracted during March, as factory orders hit an 11-year low. Manufacturing workers are experiencing mass layoffs — GE announced 2,500 aviation layoffs last week.
The early stages of the CARES Act rollout show that it’s not just the grand total of an economic relief bill that matters. How quickly the money can get to recipients who need it is also a critical factor in any economic relief bill. As the debate over Corona IV begins, Congress should consider not just the price tag of the next bill but also if their programs will actually reach those who need it before it’s too late.