Coronavirus Update: Time to Reassess | March 16, 2020
The situation is evolving quickly. Over the last several days, governments, communities, employers, and citizens all over the world have taken extraordinary actions to contain the novel coronavirus.
The World Health Organization (WHO), which recently declared the COVID-19 a global pandemic, has urged governments in all countries to enact social distancing measures. The goal of social distancing is to minimize contact with other individuals to stop or slow down the spread of a highly contagious disease. Social distancing consists of initiatives at all levels of society aimed at inhibiting the spread of the virus – everything from individuals not leaving their homes to businesses and institutions reducing or modifying their operations to closing outright, which is what The Louvre, Broadway, Disney theme parks, The MET and many other notable establishments have decided to do. Major sporting events such as the NCAA March Madness Tournament have been cancelled, and many professional sport league’ seasons including the NBA, NHL and MLB have been cancelled, suspended or are playing without audiences. Many schools and universities all over the world announced that they will be closed or are shifting to an online model.
Travel restrictions vary widely across the globe but are all becoming more restrictive. The United States has placed a travel ban on all of Europe and many parts of Asia Pacific, and, as of this writing, was also considering domestic travel restrictions.
Although health officials overwhelmingly agree that these containment measures are necessary, the economic costs of the coronavirus are rising quickly. In this update, we highlight some of the latest developments that are most germane to property:
GDP forecasts being revised downwards
At this stage, predicting the path of COVID-19 and its economic impact with any precision is impossible. However, economists analyzing its potential impact agree that the coronavirus will negatively impact GDP in 2020. Oxford Economics has steadily reduced its global real GDP growth forecast from 2.5% at the beginning of the year, to 2.3% at the end of January, to 2.0% as of early March. For the U.S., the 2020 real GDP growth forecast has been reduced from 1.7% in early January to 1.3% in early March. Given the growing number of restrictions on all kinds of activity, we would not be surprised to see it decline even further. For the eurozone, it has been revised down from 1.1% in 2020 to 0.6%. Other forecasting services are making similar downward adjustments and recession risks are rising. In the March 2020 Wall Street Journal economic forecasting survey, 52 private sector economists assigned a 49% probability the U.S. will enter recession in the next 12 months; Oxford economics assigns a 35% probability.
Consensus still assuming a rebound in 2020H2
Even after a tumultuous couple of weeks, it is noteworthy that most economists still assume that economic activity will accelerate in the second half, albeit with a more tempered rebound than previously thought. Here is a look at the latest quarterly economic forecasts (released the week of March 9):
GDP Forecasts Revised Down Sharply
2020 Real GDP Forecasts
Real GDP growth in the U.S. is expected to reach a nadir in Q2 2020 and begin returning to the pre-coronavirus trajectory from there. This is based on many tenuous assumptions with the most significant being that the infections curve will flatten rather quickly, and the virus will be largely contained by this summer. Still, the consensus continues to call for measured optimism that healthier growth will occur in the second half of this year, and a much stronger trajectory for 2021 as the virus fades and pent up demand is unleashed.
Consensus is Rebound in Second Half
U.S. Real GDP, Annualized Growth
Policy maneuvers increasingly aggressive
Governments around the world are also turning increasingly aggressive to combat the virus and cushion the economic impact of COVID-19. Here are some of the latest moves:
- Monetary policy: The Federal Reserve (the Fed) is reaching into its monetary toolbox to provide support for economic growth. After lowering interest rates unexpectedly in early March, the central bank is taking action to increase liquidity in the banking system by injecting $1.5 trillion into the short-term funding markets, with a pledge to inject up to $5 trillion. Over the weekend, the Fed, unwilling to wait for its March 18 meeting, cut the federal funds rate by 100 bps to 0.00% to 0.25% and reintroduced many actions from its financial crisis toolkit, including a $700B quantitative easing (QE) program, further enlargement of repurchase operations and expanding dollar swap lines with foreign banks to prevent dollar liquidity from drying up. In a novel step, the Fed also announced the creation of a credit facility for commercial banks, specifically to support household and business lending. These actions are being mirrored across the globe as the Bank of England also lowered its policy rate by 50 basis points and the European Central Bank increased liquidity-enhancing measures, including refinancing operations and €120 billion in asset purchase programs (on top of the €20 billion purchases already made each month) and new purchases will include corporate bonds. The European Banking Authority also suspended bank stress tests and eased capital rules. Central banks across Asia Pacific (e.g. Malaysia, New Zealand, Philippines, Singapore, and South Korea) have also cut interest rates in recent weeks; some moved again after the Fed’s decision made on March 15. The Bank of Japan unexpectedly announced a 200 billion yen purchase of longer-dated government bonds as well as an injection of 1.5 trillion yen in two-week lending to maintain market liquidity, in addition to increasing purchases of ETFs. The Reserve Bank of Australia and the Bank of Canada are also beginning liquidity programs this week.
- Fiscal policy: The U.S. Congress passed a $8.3 billion emergency spending bill for coronavirus relief that was signed by President Trump. The President declared a national emergency, allowing for the use of resources tied to the National Emergencies and Stafford Acts—emergency funds and personnel for state and local governments via the Federal Emergency Management Agency and Department of Health and Human Services. The Trump administration also unrolled a public-private partnership geared at streamlining testing and other capabilities Over the weekend, the House of Representatives passed a bill to make COVID-19 testing free and mandating paid sick leave for most workers. President Trump has reportedly signed off on that bill and it is expected to go to the Senate this week. There are also discussions on further fiscal stimulus to deal with the growing economic effects of the pandemic. The forms of future stimulus have not been pinned down, but some of the options being discussed include a payroll tax suspension, support for workers affected by the outbreak, and enhanced unemployment benefits. Most fiscal stimulus across the globe is targeting increased healthcare spending, assistance to small and medium enterprises, income support for families and self-employed individuals as well as the suspension of credit payments in some instances. Among the nations announcing plans last week were Denmark, France, Germany, Japan, Norway, Spain, Sweden, and the UK.
Still no Q1 data on CRE, but this is what we are watching:
- Labor shortages: The labor markets were already tight, with unemployment around 3 to 4% in most tier-1 global cities. COVID-19 is sending more people home, including construction workers. Moreover, the supply disruptions are making it difficult for developers to get the materials they need to build. Will developers begin defaulting on some of their contracts? Will owners be able to deliver on build-out spaces? Might existing buildings and older products benefit from the construction slowdown? We are keeping a close eye on the supply pipeline and how that will impact vacancy rates and leasing activity around the world in 2020H1.
- 10-year government bond yields and spreads: Treasury yields have declined precipitously but are off their bottoms – the 10-year Treasury note closed at 0.54% on March 9 and then began to recover in response to news of increased government action, peaking just under 1.0% on March 13. At that time, the futures market was pricing in an additional 50 basis points in interest rate cuts at the Fed’s March 18 meeting. The Fed exceeded market expectations with its actions, which resulted in a sharp decline in Treasury yields and futures prices. In a crisis, the most important thing is that the Fed evince an attitude that it is prepared to do whatever is necessary to ensure the continued functioning of the markets and the real economy. While the market has so far responded adversely to the policy changes, we believe that it shows that the Fed is determined not to fall behind the curve. Spreads between Treasuries and mortgages, investment-grade corporate and high yield corporate debt have all increased significantly in the last several days and are now similar to levels seen in 2016. The price of credit default swaps, which pay off when borrowers default, have also increased sharply. These movements reflect increased macroeconomic risk. Overall debt costs remain constrained however amid low rates. Whether this remains the case depends on coordinated policy action by monetary and fiscal authorities to contain the virus and the resulting economic damage, support the economy and ensure the continued functioning of the financial system.
- Jobless claims: If the U.S. economy was truly in trouble, it would likely show up in the jobless claims data first, which is released every Thursday. As of March 12, jobless claims were still trending down—at a 50-year low—but we are watching this data very closely.
China’s declining virus cases:
If the early narrative of the crisis was China’s failure to act swiftly, then the more recent narrative is its ultimate success in containing the virus. China effectively contained the virus to the Wuhan region such that while cases have been reported in other regions of the country, they were able to contain these numbers. Said differently, in a country of more than a billion people, limiting cases to under 100,000 must be considered a success. However, it is too early to cry victory. As China continues to normalize social and economic activity, the potential for a resurgence of the virus is significant being as there remains no preventative treatment and little to no immunity in the population that would slow its spread. The experiment that China is running now, and its relative success or failure, will be highly instructive to other nations of the world and will inform timelines for full economic recovery.
On March 16, South Korea announced that for the first time since March 12, the number of new cases dropped under 100. Further, while Italy continues to report a surge in new infections, the efficacy of its dramatic quarantine should be revealed in the week ahead: in the 15 cities shuttered in China in late January, there was a two-week lag until newly reported daily cases started to fall. Learning from the varied experiences throughout Asia and Italy are key attributes to responses in other nations as of late.
Closing thought for this week:
While Asia remains important to monitor, the region in the eye of the storm right now is Europe. How rapidly, or slowly the contagion spreads there will provide important guidelines for the Americas. High-frequency data and survey-derived data will likely be the best indicators of how the global economy is coping.
We will continue to monitor the coronavirus and its impact on property very carefully and provide updates as frequently as possible.