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Macro & Market

A Russian Doll of Risks

COVID-19 Macro & Market White Paper
March 2020
A Russian Doll of Risks

Authors & Contributors

Chief Economist Vincent Reinhart assesses the repercussions of the ongoing pandemic on the economy, financial markets and the Fed.

The overall picture is gloomy as world output descends vertiginously at first. In our view, however, policy responds, weather improves, and nature runs its course to promote a second-half rebound. In our baseline, a “V-shaped” recovery ensures, but the downward leg is sharper and more substantial than the upward one, leading us to slash our global GDP growth forecast for 2020. Alphabet risks bracket the outlook. A sharp dash downward, especially were there to be more declines in financial wealth and oil prices, exposes weaknesses on national, firm, and household balance sheets that may tip the economy into recession, turning the GDP path into a “U” shape. We assign a 40 percent chance to this outcome (approximately), in part because we take heart from the differential incidence of these price movements on sectoral circumstances. On the other side of the baseline, a sharper and more distinct “V-shape” path of recovery would expose fiscal and monetary policies to be locked in an “L-shaped” profile of accommodation. Fiscal stimulus never gets reversed, even when its shelf-life date passes, and we suspect Fed officials would be hesitant to remove unusual accommodation in 2020 for the good reason of recognition lags and the bad one that this is an election year.