Worse Economic Collapse Ever?

The Worst Economic Collapse Ever?

Tuomas Malinen 

Country after country has reported extremely dark economic numbers. The gigantic jobless claims, 6.6 million from the U.S. last week, are just the tip of the iceberg. For example, the service sector PMIs have been simply ghastly across the globe. We are now in a crisis of epic proportions.

But, how massive can the crisis eventually get? Since our inception, in 2012, we have contemplated three scenarios as a part of our quarterly forecasts. While we have not referred to them in each report, we have repeated them periodically. They are:  the optimistic, the most probable and the pessimistic.

But at this point our main worry is the approaching realization of the pessimistic, or the worst, scenario.  It’s likelihood, while still low, is increasing fast in our estimate.

Underpinning its severity is not the virus, but the fragility of the global economy.

Into the Abyss

These fragilities, combined with the massive economic impact of the coronavirus, leads us to our most pessimistic scenario.

In it we assume that

• Many governments will not be prudent enough in suppression measures, which will lead to severe global pandemic peaking in summer.
• Due to the worsening outbreak and delays in containment, suppression measures will eventually be prolonged and they become draconian (“Wuhan style”).
• The massive stimulus measures enacted by governments and central banks will be ineffective in providing support for the economy, as the tardy application of draconian suppression measures lock people at home in several key countries of the global economy for a prolonged period of time.
• Global economic activity plunges to never-before-seen lows.
• European banking sector breaks.
• Eurozone unravels violently.
• China ‘lands hard’.
• Global financial system collapses.
• A systemic crisis engulfs the world.

A systemic crisis simply means that the banking sector and financial markets collapse. In practice, this implies that most banking services will stop and funding through financial markets will cease. This also means that the monetary system is likely to collapse (see Q-Review 4/2019 for a detailed explanation).

It should be acknowledged that we have never faced such a scenario on a global scale (though the collapse of the Soviet Union could certainly be classified as “systemic meltdown”). That is why the sheer scale of such an apocalyptic scenario will be horrifying. They are presented in the Figure below.

Fragilities laid bare

The Covid-19 pandemic will reveal all the fragilities of the world economy. The near collapse of the U.S. capital markets in mid-March was averted only through unprecedented socialization of the financial markets. However, when the Flood of corporate bankruptcies begins, central banks will not be able to withstand the onslaught. Then we will face only extreme economic options.

The global collapse scenario, presented above, would bring in its wake massive unemployment, poverty, misery and the eventual re-structuring of our whole social and economic order. The world would be utterly and permanently changed as a result.

This is something we absolutely need to be prepared for, even though its likelihood is still relatively low.

But it is increasing fast, and that should worry us all.