March 23, 2020
March 23, 2020 | Adviser News
Economic update: COVID-19
Charles Stodart, Investment Specialist at Zurich Investments
The last week has seen a blizzard of new announcements and measures globally in the face of the sharp escalation in new COVID-19 cases (from @ 11,000 on 15th March to @ 32,000 on 21st March; according to data from the World Health Organisation). This escalation in both the number of new cases and the government response has been very evident in Australia as well.
To date, health outcomes have outweighed economic outcomes in terms of government priority. Containment remains top of mind – Australian borders were closed to non-residents from 9pm on Friday 20th March and subsequently individual states have also closed off their borders. More local containment measures have also been implemented. It remains unclear how long this level of containment will remain in place, or indeed what conditions are required for these measures to be lifted.
However, the government is also alert to the very real possibility that we will have a recession in Australia (2 quarters of negative GDP growth), ending our enviable record of over 28 years of continuous economic growth. To that end, a second stimulus package totalling $66.1bn was announced on 22nd March, in addition to the $17.6bn package that was announced on 12th March.
Across all arms of Government, this brings the total amount of economic assistance to $189bn, or approximately 9.7% of GDP. The key focus is to provide support to households that are most in need and to provide assistance to small businesses to keep people in a job. The aim is to provide support and ‘build a bridge’ to enable Australians to get to the other side of the Coronavirus crisis.
Key measures to the second stimulus package:
|Small business (revs < $50mn)||Up to $100,000 boost to cash flow, tax free||From 28/04/20||$25.2bn|
|Welfare recipients (‘Coronavirus supplement’)||$550 per fortnight for 6 months||$14.1bn|
|Welfare recipients||$750 one-off payment (#2)||13/07/20||$4.0bn|
|Individuals in financial distress||Early release of Super; up to $10,000 in FY20 and FY21||FY20/ FY21||$1.2bn|
|Pensioners||Further reduction in deeming rates||$0.9bn|
|Australian airlines and airports||Cash flow support||$0.7bn|
|Small and Medium Enterprises||Government as guarantor of 50% of $40bn in new SME loans||$20.0bn|
The extent of the second stimulus package is apparent when you consider that the pledge to small business is expected to benefit around 690,000 businesses employing around 7.8 million people. The Prime Minister has also made it clear that the government stands ready to deliver more stimulus packages if (or when) required.
The Reserve Bank of Australia (RBA) has supported the government’s stimulus packages with a meeting on 19th March, cutting rates and announcing other extraordinary measures in a bid to cushion the economic impact:
- Rates were cut from 0.5% to 0.25%. There is no plan to cut them further at this point.
- (First) QE programme launched, targeting a yield of 0.25% on 3-yr bonds. The RBA will buy government bonds in the secondary market (though the door remains open to expand their shopping list in the future)
- Term Funding Facility provided to banks: up to $90bn at 0.25% over 3 years to banks if they lend that cash to small and medium-sized businesses
This was the first RBA inter-meeting cut since 1997 (and the second cut this month) and is clearly an indication of how challenging the situation is becoming – the key aim is to make sure that credit remains available. The AUD touched 55c intra-day on 19th March.
RBA actions are also in response to a tightening of liquidity in the bond market, evidenced through a widening of spreads on typically highly liquid instruments. According to Morgan Stanley, the main intentions of RBA’s easing package is to lower borrowing costs, support the functioning of financial markets and ease restrictions on credit supply.
At the time of writing, the US Senate appears close to finalizing a package that could top $1trn (or close to 5% of GDP). The focus is on small business loans, payroll subsidies, relief for key industries (eg airlines), direct payments to individuals ($1,200) and tax relief. There may also be legislation allowing the Treasury to use the Exchange Stabilization Fund (ESF) to guarantee money market mutual funds as a further boost to confidence.
The scale of the challenge becomes apparent when you consider the downgrades that are coming through to US GDP growth this year. Goldman Sachs now forecasts 1st quarter US GDP to contract by -6% (quarter on quarter) and for the second quarter to be down a massive -24% before rebounding in the second half. For the full year, GDP may contract by 3.8%.
The impact on equity markets has been swift and brutal. Weekly falls of over 10% have been seen in a number of markets as participants take the approach of ‘shoot first, ask questions later’. Of course, equities are forward looking and aim to anticipate conditions some time hence. This is highly challenging given the uncertainty regarding the depth and extent of the economic impact from COVID-19.
We know that earnings downgrades have to come as containment measures squeeze corporate top and bottom lines. Market tumbles already reflect a sharp reduction in expectations and a re-setting of valuations. Past experience tells us that sentiment can take markets lower in the near term, though at some point even the gloomiest of forecasts will have been discounted.
Sources: WHO.int, Government, Goldman Sachs, Morgan Stanley
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