Walking a tightrope
When we flagged a looming recession back in April and projected a deep 7% GDP contraction in May, the most pessimistic at the time, we had expected that after one of the most stringent lockdowns in the world, the economy would slowly transition by year-end into a “new normal.” Although the government, using blunt rules to regulate activity, is trying to walk the tightrope of keeping infections down and economic activity up, the 3Q restart has been restrained by rising infections and continuing critical constraints in public transport, with fiscal conservatism and weak public health institutions and leadership unable to lift confidence. We think that not only is a larger 8.5% GDP contraction in 2020 more likely now, but also that government’s projected V-shaped recovery in 2021 is unachievable. Reviving animal spirits will be very difficult considering (a) the simultaneous shock to demand and supply that has led to massive unemployment, (b) the new ways of thinking and doing things in response to the pandemic that have been disruptive to businesses, and (c) the increased regulatory and political uncertainty as the administration tries to come to grips with the crisis and its fallout on people’s lives.
The rest of this report discusses: (a) monetary authorities’ success in instilling confidence in the financial system, although as far as encouraging more lending, they seem to be pushing on a string; (b) fiscal authorities’ constrained policy space due to the sharp fall in tax revenues; and (c) the hefty increase in external balances resulting from the pandemic.
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