Economy: Three-phase National Recovery

In 2021, the new normal will begin to resemble the old normal.

The pandemic that brought about an economic recession may still be with us, but absent another lockdown of the population and shutdown of businesses, the 2020 COVID-19 recession is over. It lasted three months – March through May – making it the shortest U.S. recession on record thanks to massive fiscal and monetary policy responses. The peak-to-trough plunge in gross domestic product (GDP) was 10%. That’s two and a half times larger than the 4% drop experienced during the Great Recession – December 2007 through June 2009.

I expect the economic recovery from the COVID-19 recession to occur in three distinct phases: first, an initial bounce in activity due to the lifting of stay-at-home restrictions and business re-openings; second, an extended period of choppy growth that lingers until a medical solution to the virus is widely adopted, which I assume will occur in mid-2021; and third, a period of steady, sustainable, above-average growth.

In the second quarter of 2020, many states eased restrictions, reopening fully or partially. Despite contagion fears and social distancing, people emerged from the spring lockdowns. Pent-up demand helped retail sales recover and spending on both durable and nondurable goods surpassed pre-pandemic levels. That initial rush to spend represents a rebound from extreme shocks and massive economic stimulus rather than economic reality.

The third quarter bounce returned U.S. GDP to 95% of its pre-pandemic level, up from 90% in the second quarter. The labor market also rebounded. From May through July, the number of jobs rose by 7.1%, reversing 42% of the peak-to-trough drop in employment.

Now the U.S. economy is in the choppy phase. The economic recovery has slowed in the final quarter of 2020. The realities of permanent job and income losses have set in.

Meanwhile, the COVID-19 pandemic continues. Official lockdowns are over, but almost everyone is practicing some degree of social distancing, which limits the spread of the virus, but also restrains the economic recovery and profitability. That is especially true for providers of high-contact services (e.g., lodging, airlines and dine-in restaurants).

In 2021, positive forces should sustain the recovery, despite some negative pressures, but it will continue to be a slog. V-shaped recoveries for retailers and housing are the biggest positives, but also the biggest exceptions. The fact that households have saved a lot and will spend some of their savings should sustain consumer spending. The Federal Reserve will do “whatever it takes” to support the struggling economy.

COVID-19 dramatically accelerated the adoption of digital technology and remote work. Capital spending, innovation and productivity will benefit from the increased digitization of the U.S. economy.

Capital goods orders will fare better in the wake of the COVID-19 recession than in the wake of the Great Recession. Meanwhile, depleted inventories and firmer orders will shore up industrial production.

Nonfarm employment will expand by 0.9%, which compares well to the 6% decline estimated for 2020, but the labor market will not recover the 22 million jobs lost to the COVID-19 recession until 2024.

Some types of businesses will remain essentially shut down (for example, live entertainment), and some will never reopen (many restaurants and movie theatres). Growth will be weak in early 2021, but if an effective vaccine is adopted in mid-2021, GDP growth will be strong in the second half of the year.

If my assumptions are correct, U.S. GDP will increase by 3.5% in 2021. The expectation of an above-average 5.0% pace of GDP growth in the second half of 2021 reflects a dramatic broadening of the economic expansion to include the most severely impacted industries and geographies. For the first time since the pandemic began, high-contact industries such as restaurants, hotels and live entertainment will be able to fully engage.

In terms of economic growth, the new normal will begin to resemble the old normal.