When will the COVID crisis begin?

Exploring contradictions clarifies a scary trajectory

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We are still in the earliest days of the COVID crisis. At this point in the Great Depression, Americans hadn’t experienced the first round of bank failures. At this point in the “War on Terror,” the Iraq invasion was still almost a year away. Whatever this crisis will come to mean to us in the future probably hasn’t happened yet.

When will it really start? Nobody can say for sure, but exploring some of the key tensions playing out now can help us anticipate the likely trajectories for global investment. Even a sober look raises extraordinary questions about the future of the world order as we know it.

The highest level: a remarkable tension between the countries with the greatest institutional power -- the United States and its NATO allies -- and those at a secondary level of formal power -- Asian countries, most notably China. The countries with the most power have fared much worse in the fight against the virus than those in a more subordinate position.

Global currency reserves are a good quantitative proxy for this power disparity. Together the U.S. dollar, euro and British pound make up 85% of global reserves. China’s renminbi, on the other hand, makes up only 2% of the reserves, and yet the country has not had any community transmission of the virus in months. The United States has failed to escape even its first wave of the virus, while Europe has returned to shutdowns amid its second wave.

The shift is showing up institutionally as well. The China-led Asian Development Bank (ADB) and Asia Infrastructure Investment Bank (AIIB) have funded 65% of the COVID relief in Asia’s developing economies, while the Western-dominated IMF and World Bank have only provided 25%.

The United States -- across both its major parties -- has made it clear that it will not surrender its dominance without a fight. That leaves only two resolutions to the tension:

  • The United States blocks any rotation away from its institutional order and the world is led by its least competent forces just as climate change accelerates crisis conditions.

  • It fails to prevent this shift, expending energy and resources in a fruitless struggle that only accelerates its decline.

Internal conditions in the United States will be the deciding factor between these alternatives. Those conditions, in turn, reflect a tension between the spread of the virus and the official response to this spread.

From the outbreak’s earliest days, U.S. leaders have framed the struggle in business terms. Restricting commerce slows the virus, but improving conditions then justify rolling back the restrictions. The virus surges again, and even if formal shutdowns don’t return, customers nonetheless stay away -- visits to places of commerce are still down 20-55%, several times the average gross margin for most businesses.

Scientists and others are now warning that vaccines may not make a real difference until 2022 -- few businesses can operate at a loss for that long. U.S. leaders can thus either tolerate large-scale defaults and endemic unemployment or extend some sort of cash flow support to these businesses.

At the moment, small businesses are getting the worst of all worlds: they have had no “V-shaped” employment recovery, indicating mass default, with nearly 100,000 small businesses closed permanently. They have no access to the bond market, and credit conditions are tightening.

Large businesses, on the contrary, have thrived on Federal Reserve support in at least three ways:

  • The Fed has held interest rates to historic lows, suppressing even long-term yields by signaling near zero rates for years to come

  • It has bought corporate bonds for the first time ever, spurring an unprecedented bull market in corporate debt.

  • By suppressing the real yield on risk-free Treasury bonds below zero, it has raised demand for corporate bonds to historic levels.

Large firms will cannibalize the assets, talent, and market share of failed smaller businesses. Meanwhile, shrinking yields also mean swelling pension shortfalls, as the “safe” bonds pension funds rely upon for income yield nothing after inflation. Retirement investments make up 70% of middle-class wealth, and this tension between middle-class families, small businesses, and their workers on the one hand and big business on the other has a clear resolution: massive wealth redistribution to the 10% of the population that owns 87% of the stock market.

A similar wealth concentration following the Great Financial Crisis pushed liberalism to its breaking point -- hence Donald Trump. Can U.S. political leadership patch it back together after another round of expropriation and debt-stunted slow growth? How else can they muster the energy to hold back rising Chinese power? And if they do succeed, how do they handle the next major crisis, having screwed this one up so badly?

The real beginning to this crisis will come as history answers each of these questions. Their specific shape remains to be seen, but their trajectory is clear and unsettling.

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Photo Credit: Eden Pictures/Flickr