InvestmentsOct 29 2020

Preparing your clients for a K shaped recovery

  • Describe the different possible outcomes for the UK economy
  • Explain the implications for the economy of a K shaped recovery
  • Identify the implications for investors of a K shaped recovery
  • Describe the different possible outcomes for the UK economy
  • Explain the implications for the economy of a K shaped recovery
  • Identify the implications for investors of a K shaped recovery
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Approx.30min
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Preparing your clients for a K shaped recovery
Dominika Gregusova/Pexels

These developments are consistent with a “swoosh”, with the global economy settling for mediocrity towards the winter, but even worse, the very latest dataflow raises the probability of a “W” shape trajectory. A negative print for Q4 GDP is unfortunately plausible in several European countries. 

Pandemic problem

Looking at the number of new Covid cases is probably not the right way to gauge the severity of the ongoing re-acceleration of the pandemic given the significant rise in testing capacity. 

But the increase in the percentage of positive cases in the tests is undeniable, and so is the growing pressure on the hospital system. Judging by these two metrics, in most developed countries the second wave is for now less powerful than the first, but it is still forcing governments to curtail activity and – at least in some regions – restrict mobility. 

For some sectors – for instance hospitality – the issue no longer is that their normalisation is merely postponed. Their output is likely to decline again relative to the third quarter. If the rest of the economy is “soft”, then a relapse in recession is on the cards.

Still, we need to be precise in how we would define a “W”. Graphically, such a scenario normally suggests a replication of the same quantum of GDP contraction as during the first wave. 

We don’t think this is likely. Firstly, governments are clearly very reluctant to embark on full, long “lockdowns” as stringent as those experienced in the early spring. 

The worst options currently discussed are presented as “circuit breakers”, that is, as short lockdowns which would keep the health system operational but without pursuing the near complete eradication which was seemingly the approach followed in the spring. 

Progress in treatment methods and the improvement in healthcare capacity make this easier than during the first wave. Second, the business sector is much better prepared than during the first wave. As many firms scrambled with a completely novel work organisation, they had to invent from scratch new processes. 

During this “adaptation period” some output was lost. This time, the processes are immediately ready. Third, arithmetically today the same level of mobility/activity restriction as during the first wave will have a smaller impact on GDP quite simply because in the most exposed sectors the starting point is lower.

To be clearer, in the first wave some businesses – for instance in recreational or in the hospitality sectors – went from a normal level of activity to close to zero. Today, they could unfortunately be brought back close to the trough of early spring but from an already diminished level of output.

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