At a Glance
- A record-breaking fiscal package and $6 trillion Fed balance sheet underscore the U.S. recovery effort
- These important programs may keep a cascading network collapse from being even worse
The U.S. Federal Government and the Federal Reserve have moved at a rapid pace to provide massive economic support to the U.S. economy as it deals with the economic damage from the COVID-19 global pandemic.
The fiscal response is a record-breaking $2 trillion economic support package, while the Fed has added almost $2 trillion to its balance sheet, taking it to nearly $6 trillion (or 30% of GDP). The programs are unprecedented in scale. They are complex, with moving parts. They have been put together quickly. Adjustments will be made; new programs will undoubtedly follow to fill unintended gaps.
Far From Equilibrium
To understand the impact of the massive economic support programs, we need to first appreciate the nature of the economic damage the world is experiencing. We are in an economic state that might be best characterized as “far from equilibrium”, a term coined by Dr. John Rutledge, my former professor, colleagueand friend. Dr. Rutledge argues that economies are in a major phase transition, such as when physicists analyzethere is a state change, say going from a liquid to a gas.
We understand the properties of a liquid and how they differ from a gaseous state. In phase transitions, all the action and turbulence is at the boundary line. Think of a pot of water boiling and the bubbles forming in chaotic manner on the surface of the liquid as they move into their new gaseous state.
Cascading Network Collapse
With the current economic downturn, world economies are experiencing a phase transition that is similar to what network theory would refer to as a cascading network collapse. Our economic system is a myriad of interconnected parts. We have disruptions in supply chains, transportation, tourism, consumer demand, etc., that feed on themselves.
Many of the measures introduced by the Fed and the federal government, such as loans to companies andpaycheck replacement programs are aimed at containing the damage from the cascading network collapse. These are hugely important programs that will keep the damage from being even worse.
After the network failure has been arrested and we go back to work, the economy will remain far from equilibrium. This will be a phase of assessing the severity of the financial distress and making adjustments. There are parts of the economic support packages that address these challenges, especially the Fed’s support of the mortgage market, money market funds, primary dealers, and central bank swap facilities.
The Next Phase
We need to note, though, that loans, asset purchases, and temporary paycheck support programs are bridges to allow consumers and companies to stay afloat and come out the other side. As economies move into the phase of rebuilding the network, there are few programs, yet, to assist this process.
Supply chain disruptions will still abound. Consumers will save more and spend less than before, as they seek to repair their damaged financial conditions. Companies will need to conserve their precious cash, making for very cautious re-starts of their businesses.
Workers will not return to their old jobs all at once. State and local government finances have been hit hard, and they will need more grants from the federal government to avoid an extended period of layoffs, as happened after the Great Recession. Unfortunately, the rebuilding phase may take considerable time, the pace of growth may be much slower than many hope, and more federal programs may well be on the way.