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Over the weekend, the price of oil fell 25%. On Monday, stock-market futures plunged so much that they tripped the “circuit breaker” and exchanges halted trading. The US Treasury yield curve, a metric fabled for its ability to predict recessions, fell below 1% for the first time ever. The Treasury market’s fear gauge of the bond market (TYVIX) hit its highest level since July 2007. In short: fear, confusion, and chaos.
The Stock Market partially rebounded Tuesday as the Federal Government appeared to take control. The White House is reportedly working on an economic stimulus plan to counteract the impact from the coronavirus outbreak and considering federal assistance to the shale industry as oil prices tanked due to a price war between Russia and Saudi Arabia.
After the WHO declared the Coronavirus a pandemic and in multiple contradictory announcements the Federal Government suspended most travel from Europe, trading was temporarily halted again Thursday morning after the Dow Jones Industrial Average fell over 7% a few minutes after the opening bell.
To help explain what this all means, The Jet Jotter reached out to Longmeadow resident and Economics Department Chair at Nichols College, Dr. Hans G. Despain.
What’s your reaction to what happened Monday?
This is very bad news. In my opinion, the markets are reacting more to the financial weaknesses of the United States and China, than the coronavirus.
If this was simply a reaction to the coronavirus, I would say the market will return to normal in one month to one year. However, the coronavirus is the sideshow, the real problem is very weak financial markets. This economy is not going to recover by itself even with the coronavirus solved.
Why is the coronavirus having such a strong impact on our markets?
The coronavirus is impacting the markets primarily because the financial markets were already very fragile. According to many analysts, stock prices have been inflated; opinions can differ here, but evidence for a bubble is that the NYSE was at record highs, yet US growth rates were very low. This means a lot of stock buying going on with little positive impact on main street economy, suggesting an inflated stock market. In addition, the debt level of US households and private business debt are at all-time highs, again suggesting a very precarious financial situation. Thus, investors were already very uneasy and wondering how soon they should sell stocks. The coronavirus simply encouraged a stock market dump that was imminent without the coronavirus.
In others words, if the economy and financial markets were stronger the coronavirus would have had little impact, but because the economy and financial markets have particular weaknesses it was a good excuse to switch from stocks to cash.
What Does This Mean For Students?
This is not good news for students. Interest rates for some school loans may go up, especially for students who max out their federal subsidized loans and have to get unsubsidized loans to supplement them. Thus, the poorest students could experience a net increase for their loans. Even if rates come down, it may become more difficult to get student loans, and maximum loans could be lowered.
It is complicated because in the short run interest rates are coming down. However, the private debt levels are at historically record highs in the history of the United States. Thus, when the Federal Reserve says they are lowering rates, they are saying it will be easier for people to take on more debt, but debt is at record levels. Thus, by analogy, if a business says consumers owe us record amount of money, and it appears that a recession is going to slow demand and the business says we will increase the credit limits of all consumers, anyone can predict that indeed store consumers will purchase more goods in the short-run with the easy credit, but the ability to pay back is impaired, so the medium and long-term outlook is terrible.
We know this, if you graduate from college during a recession, on average each college graduate makes $400,000 in a 40-year work history than college graduates who graduate during an expansionary or non-recessionary economy. Thus, on average $10,000 less per year for the average college graduate.
The Federal Reserve estimates a 40% chance of recession in the next 12 months, a very strong and high prediction from the Federal Reserve; I predict a 90%+ chance for a recession in the next eight months (i.e. before the elections). Terrible news for everyone, in particular any young people hoping for a happy future. Life has been made far more difficult for young people. Wealthy older people can depend on current assets, most young people have no assets, and their ability to accumulate assets has worsened.
Behind all this is a very weak job market for graduating seniors. Unemployment is very low, but the labor conditions and job market for recent high school and college graduates is very poor. According to the Federal Reserve of New York, more than 40% of college graduates in the last six years have jobs that do not require a college degree.
What Does This Mean For China?
The case in China is terrible. Financial markets have been inflated for more than 10 years. This happened for several reasons, but the Central Government of China flooded the financial markets with money, to avoid the crash of 2008. They avoided the recession, but now there are thousands of investment projects that are not generating profits, e.g. railways, bridges, entire college campuses, and even entire cities that are radically underutilized — and Chinese and international investors are going to lose their shirts. Real estate prices in the major cities, especially Hong Kong, are ridiculously high. Thus, China’s financial situation is significantly worse than the US’. The coronavirus will put financial activity in a tailspin. This would have happened without the coronavirus, and has been happening since 2018, with or without the coronavirus, but the health scare encouraged Chinese investors to hoard cash, sell stocks, and real estate prices are going to crash. China is headed for a very serious collapse (the data on China is not always reliable, and the policy reactions from Chinese Communist Party could soften the collapse, but the financial structure in China is horrible, worse than the US in 2006 and 2007, just before our collapse).
More From Dr. Despain:
Springfield Republican article published last July on the variabilities and weaknesses of the US economy, and the conditions have worsened in the last 8 months: “The Great Recession of the 2020s” https://www.masslive.com/opinion/2019/07/the-great-recession-of-the-2020s-guest-viewpoint.html
Op/ed in the Springfield Republican published May 2019: “Congratulations Class of 2019. Get ready for precarious job prospects and low wages.” https://www.masslive.com/opinion/2019/05/congratulations-class-of-2019-get-ready-for-precarious-job-prospects-and-low-wages-guest-viewpoint.html
