The World’s Not Ending ... It's just on pause for a while

In regular times, whenever there is a recession (or threat of one), it is triggered by an event such as the dramatic rise in oil prices in 1975 or the ‘dot com’ bubble bursting in 1999 or the Debt Crisis in 2008 or, a combination of factors.

Usually, these are seemingly random events that appear to come out of nowhere and take everyone by surprise. A few experts always come forward after-the-fact to say that it was all predictable.

This time the ‘event’ is Coronavirus. What is different and, hopefully, unique about this time is that it is not the event itself that will impact us financially, but the Government-mandated response to it.

Globally, the pandemic is being tackled by restricting all social interaction and requiring people to stay at home. The result is that economies are now to some degree at least ‘closed for business’. It doesn’t take a genius to figure out that this will result in a short-term drop in economic activity.

The consensus is that a recession could potentially take the following course:


Stage 1: Enter the recession

Evidence is all around, take a walk down any street to see closed shops, few cars and even stray wild animals wandering around some town centres. This is not a slow creep into a recession where individuals gradually discover the new economic reality; this is a mandated halt on a significant proportion of consumption.

When looking back at economic charts, recessions are usually described as “V” or “U” shaped. V-shaped recessions fall steadily, bottom out and then rise steadily over a relatively short period. U shaped recessions have a much sharper initial fall, which plateaus for a while and then the rise (when it comes) is equally as intense. Phase 1 of this potential recession will probably resemble the latter U-shaped form.


Stage 2: End of recession

Given that the impact on the economy is due to Coronavirus and resultant Government action to prevent us mingling, we have an unusually strong sense of when and how the potential recession will end.

Once the virus has made its way through the population, immunity should build up. At some point, therefore, government policy will change, and we can potentially return to normal behaviour. This bounce-back will be enormous, as the population emerges from their homes.


Stage 3: Post-recession

All of this means that there are likely to be some longer-term implications for the economic system. Human behaviour may change. Vulnerable companies relying on short-term discretionary spending will have been weakened; some will inevitably be lost. Meanwhile, other companies will find opportunity and will thrive to new levels.


It’s different this time

We know ‘why’ it is happening and have at least some idea of how long it might last. Therefore, various Governments and central banks can work on measures to get us through the short-term ‘flash-crash’. They will be able to act boldly and aggressively; that is different from the past. This unprecedented support is likely to remain beyond the shock, to offer the best chance of a global recovery.


The Stress Test

In much the same way as we ‘stress test’ your individual financial plan against potential threats; premature death, serious illness, or a significant fall in global markets, we have found ourselves stress testing a possible ‘worst-case scenario’ for the global economy.

We will preface this however by saying that, like everyone else, we have absolutely no idea what the future holds. It is impossible to consider every potential scenario, but there is one that stands out to us, and that is a re-occurrence of a global debt crisis.

According to the Institute of International Finance, the ratio of global debt to GDP hit an all-time high of over 322% in the third quarter of 2019. With continued spread of Coronavirus, the implication is that any fragilities in the financial system have the potential to trigger a new debt crisis.

As 2008 demonstrated, the global banking system is highly interconnected, and a problem in one country can rapidly spread. Remember, banking relies on ‘faith’ in both the system and the Governments behind it. If that faith is compromised, panic can ensue and before we know it, hordes of people turn from stock piling toilet roll to hoarding boxes of cash under their beds!

Please don’t forget that this is an extreme scenario; we can’t predict whether or not a debt crisis will actually happen. However, we consider that it is prudent to use stress testing models to help you (and us) prepare for the impact of a worst-case scenario. If we can weather that, then we have the makings of a robust and resilient plan.