This is Not a Recession

Words matter. In economics they matter profoundly because an ontological complacency, or blindness, allows a thousand arguments to bloom but subsequently bear no good fruit. Truth to tell, I have come to believe that most of the worst and most contentious problems in economics persist because of the epistemological or ontologic difficulties the economics 'profession' is unwilling or unable to face up to.

Many of the core concepts thrown around in economic argument, in economic models, in economic equations, are either imperfectly defined, or in many cases, necessarily impossible to define. Very often, the definitional problem is ignored and 'solved' ex-post-facto by the brute fact of counting something - as if economic 'facts' just lay around on the ground waiting to be picked up.

Here are things I know for sure cannot be counted (even though attempts are made, results published): 'real' capital stock; 'real inventories'; 'money'; 'inflation'. (That's just for starters: personally I suspect that pretty soon we'll be adding 'work' to that list, and productivity, and probably profits too.) The indisputable fact that none of these can actually be defined properly or counted means that some, or perhaps most, of the popularly held economic ideas of the last century or so are necessarily specious. PQ = MV? Explain - no, really explain. That is why I am a theoretical magpie, and why I worry about economists who proudly proclaim themselves to be 'Austrian', a 'neo-classical', a 'Hayekian', a 'Friedmanite', a 'monetarist', a 'Ricardian', a 'Keynesian', or any of the above with 'neo'. All have something to recommend them at various times and places. None are revealed truth.

Words matter. At the moment, the word most likely to get us into trouble is 'recession'. We are told repeatedly that the Western world, and probably the global economy, is facing the worst recession of all time. If you confine your understanding and curiosity to the 'two consecutive quarters of falling output' definition, then you can skip this article. Something counted is not necessarily something understood, or even extant.

If we submit to the lure, the enchantment, of this simple word 'recession', then our understanding will be blunted, our curiosity stymied, our expectations deranged, and policies worse than they would otherwise be.

This is a Recession

Fundamentally, this is what I think is the essence of a 'recession': recessions are interruptions in various economic flows (investment, consumption, employment) needed to deal with stock problems (debt, capital stock, inventory, labour), usually stock disequilibria. We have publicly agreed that if it takes more than two quarters of interrupted flows to resolve the problem in stocks, we shall call it a recession. But really that timing issue is arbitrary: what is not arbitrary is the pressure on flows stemming directly from a problem in the stocks.

This is Not a Recession

What the world's economies are going through is nothing like that. Flows were not interrupted because of a stock problem. No stock problem will be resolved by the interrupted flows. This is not a recession.

Rather, the drop in economic activity was the sole and direct result of government command enforceable by law, with the stated aim of minimising the mortality of a global pandemic. It is, then, not an adjustment to fix a stock problem, it is a mandated and inconceivably abrupt change in economic structure. The only phenomena I can compare it with is a sudden switch to a 'wartime economy', in which production is suddenly shifted away from consumer goods towards defense goods. The difference is that guns, ships, aircraft and munitions are easy to count, whilst the 'healthcare services' which all those in lockdown have actually been contributing towards (in Britain we've been 'saving the NHS'), is uncounted.

So it remains an open question as to whether we can really count the result - ie, whether these GDP falls actually measure what has happened.

In a sense, last week's French unemployment numbers get it almost right, when it was reported that 2Q unemployment rate actually fell 0.6pps to 7%. France's numbers (like the UK's) are compiled according to International Labour Organization criteria which were decided at a time when the idea of an economy-wide 'lockdown' simply hadn't crossed anyone's mind. One of the crucial criteria for being counted as unemployed is that you must have been actively looking for work in the last four weeks. Well, in a lockdown when everyone is confined to quarters, that's simply not going to happen, so you don't get counted as unemployed - you just fall out of the numbers, and become counted as inactive.

There is actually a crucial and correct point here: what happened at 'lockdown' was principally a massive and unexpected transfer of labour from the 'normal' economic structures towards government-paid unproductive 'healthcare work'. Pre-pandemic you were working for an employer in, say, a shop, and that employer told you what to do, where to do it, and paid you for your efforts. In lockdown, the government who told you what to do (very little), where to do it (in your home), and paid you to do it (not much). You were not unemployed, you were a government employee being paid to contribute to the healthcare sector. The British government was utterly explicit about this, the slogan for the lockdown was: 'Stay Home, Save Lives, Protect the NHS'.

On furlough, that was a part-time job. True, you weren't actually being 'productive', but then again. . . how many people actually are? Just because the 'output' of many jobs are counted doesn't necessarily mean the output is real. Indeed, it's not hard to think of jobs with 'negative output?' (Checks mirror.)

What follows from this is that the degree of disruption from here on depends to a large extent on government choices. In particular:

i) Have goverments paid, and are they paying, a fair price for the labour they have commanded?

ii) Have governments paid a fair price for the loss of capital value of assets 'rested' (for example, restaurant seats, gym memberships etc etc).

iii) Are governments able to command an end to the lockdown and a reversion to previous economic structures, as coherently and comprehensively as they commanded their suspension?

My guess is that the answers to all these questions is the same: 'No'.

Government pricing mistakes have probably generated a new set of stock problems which will require further flow interruptions to sort out.

Structural Landslip

But that is not the end of the challenge. As an economy exits a normal recession the underlying economic structure may change, but the change is likely to be incremental, as a necessary development from the previous arrangements. But this is not a recession, and the changes in economic structure are quite likely to be abrupt and dramatic, involving a possibly traumatic reallocation of resources (labour, capital, skills, time). The pandemic seems almost designed to undermine the sort of economic growth model relying on extensive international travel between a relatively small number of 'core' global cities of extremely high population density and cost. Indeed, for somewhere like London - the quintessential global city - the coronavirus has been described as 'a extinction level event'.

This may yet turn out to be scaremongering. But once again, the experience of the 'wartime economy' is relevant - this time in considering what happened as countries exited the 'war economy' structures and tried to restore pre-war economic structures. (I think the aftermath of the World War 1 is more relevant here than World War 2, since the rapidity with which the latter developed into the Cold War protected many of the economic structures inherited from the initial war effort - see the political rehabilitation of Germany's steel industries.) But after WW1 the structures which supported the war effort were obsolete overnight, and the resulting shift in the terms of trade proved traumatic throughout the victors' economies, from the UK to Japan.

Consider what happened in the UK between 1918 (end of WW1) and the early 1920s. First, of course, there was demobilization, with the number under arms falling from 4.43mn in 1918 to 491k in 1921. Not surprisingly, the economy struggled to apsorb that deluge of labour, and the cost of unemployment benefits rose from £224k in 1918 to £14.925mn in 1921. Part of the reason was that whole industries which were vital to the war effort were suddenly massively oversupplied. Shipping was a major victim, and the freight rate index dropped from 751 in 1918 to 166 in 1921 - a fall of 78%. And as the price of shipping collapsed, so did the shipbuilding industry, with the British shipbuilding industry payrolls falling from 12,248 in 1918 to 3,414 in 1920.

Similar abrupt structural shakeouts were felt in other industries and in other countries - the collapse in Japan's terms of trade post-WW1 laid the foundations for all the subsequent financial and political disasters of the next 15 years. The results in the UK and elsewhere were that the economic structural fracture brought about by the end of WW1 resulted in severe economic contractions in the early 1920s.

If the pandemic disrupts patterns and modes of travel, of association, and of entertainment, then major industries (airlines etc), major asset classes (office buildings, high-density urban residences etc), and industrial/commercial arrangements suddenly exposed as fragile (extended global supply chains, 'just in time' manufacturing), will all face structural landslips. There is no reason to believe they must survive.

The End of Days Anyway

There is at least one other aspect to what is coming that cannot really be avoided: the pre-pandemic global economic model was already looking exhausted. This is something I have written about repeatedly over the last couple of years: notably in The End of Days, and Our Times: Where It Went Wrong. If the analysis in those pieces was right, then structural change of some sort was likely and probably overdue. But whether the pandemic ushers in the sort of structural changes which might address the revealed problems, or whether our existing structures are replaced by something fundamentally no better, or worse, I have no way of determining.

However things work out, I think we will look back on what is coming our way and realise that this was no recession, it was something else entirely. No real recession offers a guide to likely paths of recovery of any particular shape. Beyond the rebounds which are already underway, the path looks long and tough, with an end-destination yet to be imagined or discovered.