After a difficult 2020 and a sluggish start to 2021, we are finally able to envision a return to economic normalcy. As the year progresses, both a fiscal surge and the ongoing vaccine rollout will likely dominate the economic outlook. Fiscal support in the form of the $1.9 trillion American Rescue Plan is expected to provide $1.2 trillion (or roughly 5% of GDP) of additional spending to the economy over the course of just six short months and much of this is targeted toward lower-income households that are more likely to spend it.
The US will spend the better part of 2021 and beyond recovering from the pandemic that has left deep scars on the economy and labor markets. The good news in this story is that the vaccine came sooner and is more effective than expected. Furthermore, single-party alignment in Congress increases the chances of continued fiscal stimulus for the economy.
The second quarter saw broad financial markets rebound strongly, erasing nearly all losses experienced during the March meltdown. Markets were buoyant on the back of unprecedented fiscal and monetary support from policy makers around the world as well as early signs that COVID infection rates appear to be levelling off and may be past peak in some countries.
The economy has been receiving palliative care since it was forced to take a back seat to the medical crisis that is still unfolding around the world. A flattening infection curve in many places and talk of “reopening” the economy have lifted markets from March lows, in a bounce almost as violent as the initial selloff itself. But it is far too early to assess the economic damage caused by efforts to contain the spread of Coronavirus.
The Federal Reserve charged to the rescue in a big way in 2019. In the face of increasing trade tensions and recessionary forces bearing down on the economy, US central bankers reversed course and reduced short-term rates three times starting in late July and in October, took steps to increase liquidity in short-term lending markets. By December, investors began embracing the idea that the worst of the US-China trade war was behind us.
Equity and bond markets can’t agree on one basic question this year: is the economy headed toward recession or not? US equities, which were up more than 20% through the end of Q3, seem to be brushing off signals that the economy may be slowing while bonds, up more than 8% (corporate bonds more than twice that) through the same period – far better than their stellar performance during the 2008 credit crisis – seem to be pricing in a sharp recession.
The current economic expansion entered its 11th year in July (the longest in recorded history) and there are currently enough early warning indicators of recession to justify a quick look at what that means for markets and your portfolio. What is a recession and why do they happen?