Markets got a good reminder at the end of 2020 of what governments do and don’t do well.
The US government looked at its very best as it began the distribution of Covid-19 vaccines. The Trump administration and the world’s leading pharmaceutical firms delivered unexpectedly effective protection and a breathtaking rollout.
But America’s political divisions were also on full display. Congress struggled to keep federal operations funded into the new year and pass another stimulus bill before even more crucial benefits expire. Both parties want to deliver results. They face off in two January run-off elections in Georgia that will determine control of the Senate. Even if the current package passes at a level below $1tn, the debate on how fast to withdraw US support next year has already begun.
What does this mean for 2021?
After what will be a difficult winter with infections and deaths still rising, the spring looks better with lockdown measures likely to end. There will then be a burst of pent-up demand for planes, hotels and restaurants and a sharp recovery in consumer confidence. Yet history suggests economic scars of such crises are lasting and require continued attention even after the worst is over. Even the International Monetary Fund, which has historically stressed the importance of controlling deficits and debts, recommends that governments keep the punchbowl around a little longer so the party doesn’t break up before it gets going.
America’s recent jobless claims have stabilised below a million per week. Rising numbers of long-term unemployed will not automatically find work again. Bankruptcies remain low compared to previous crises but have started edging higher. More small enterprises may fall victim to what is shaping up as a mixed holiday season. While the Federal Reserve continues to signal its readiness to extend monetary accommodation as long as necessary, the fiscal picture is much cloudier. President-elect Joe Biden campaigned on a long list of front-loaded spending priorities, from infrastructure to education and climate, that would be financed with higher taxes. Even with Democratic control of the Senate, tight Congressional majorities will force him to dial back his ambitions.
Financial markets clearly welcome a brighter outlook as the vaccine permits more activity to resume in the spring. But investors will soon start to assess whether a summer burst in activity can overcome three headwinds: lingering unemployment, stretched business balance sheets and gridlocked government that will start curtailing fiscal support before the recovery is fully entrenched.
Christopher Smart is Chief Global Strategist and Head of the Barings Investment Institute.