Joe:

Hi, I'm Joe Lupton from Global Economic Research at J.P. Morgan, and you're listening to At Any Rate, our Global Research podcast where we take a look at the stories behind some of the biggest trends, themes, and industries and markets today. It's been a chaotic time for markets and it's going to be even more chaotic time for the global economy.

We're here to talk about a number of those issues, unfortunately, we are not in the studio, but my guest and I are calling in from our homes, as are many people working from their homes in these kind of trying times.

So just stepping back, it's hard to keep up with the data flow. There's a lot of policy supports happening as well. All of this feels a little bit stale as new things are coming down the pipeline, and it reminds me a little bit of that I Love Lucy episode where they're in the chocolate factory and Lucy and Ethel are trying to keep up with the chocolates as they're whizzing by.

We've seen big sell offs in equities, collapse in energy prices, all of this is compounding concern surrounding the spread of the coronavirus, which is really the root cause of all of this. Today, I'm joined by Joyce Chang, chair of global research, to talk about the global impact of the COVID-19 outbreak. Hi, Joyce, thanks for being here.

Joyce:

Joe, great to be with you. And boy, what a week it has been. The speed of recent market moves is historically unprecedented, and policymakers are truly being tested. And even though they've responded and they have synchronized the responses, this outbreak has weighed on global financial markets. We've seen a selloff in stocks, bonds and commodities as investors have raced to boost cash in an effort to really buffer themselves from the broadening economic damage that's caused by the virus.

The route in the U.S. stock market has erased almost a third of the value in the three major equity benchmarks over the past year. And in the treasury market, which is the most liquid bond market in the world, we've seen liquidity really just disappear. But we've also seen, just looking at the markets, a speed of the selloff which is without precedent. From the peak of the market, so the SMP 500, to going to a bear market, it was only 15 trading days.



I think this whole selloff is going to be remembered as the great liquidity crisis and it's something that we've been looking at J.P. Morgan since the global financial crisis. What are the consequences of the rise in algorithm, the trading, systematic trading strategies passed as investment, and the role that the banks used to play as more of a buffer holding inventory, that all was transformed by the global financial crisis.

Joe:

Right. And Joyce, in terms of just what you're hearing when you're talking to people at our bank, around the street, how much is the stress in funding markets a source of real concern here? You know, the equity markets get all the attention. Credit spreads are kind of blowing out as well. But funding markets are also kind of seizing up a little bit, aren't they? And that is reminiscent a little bit of the global financial crisis. What are you hearing out there?

Joyce:

Well, the markets having been seizing up and the Fed has been very quick to intervene and to, really state very clear that they're going to continue with that intervention. And you've really seen policymakers go back to the toolkit that was in place during the 2008, 2009 financial crisis to ease stress in the credit side of the money market. So we've seen a reintroduction of the commercial paper funding facility and also the primary dealer credit facility.

Together, with the stimulus package, we've also seen other central banks acting as well. You've had the Bank of England came out and said that they would buy 200 billion sterling of U.K. government bonds. The European Central Bank and the Bank of Japan also made a major announcement. The European Central Bank announced a 750 billion Euro pandemic emergency purchase program above the existing asset purchase program. And this means that they're going to actually purchase around 120 billion per month, and they've even included the Greek sovereign bond in this. So we've seen just a rapid series of responses by policymakers around the globe within the last 72 hours.

Joe:

Right. So let's just step back a second. You've had significant market moves seizing up in the near-term funding markets, which is a source of problem. Not just for market participants, but for corporate trying to meet their working capital needs. You've had a policy response to that. You touched on a few of those things. But let's step back and say a little bit about the real root cause here is the virus.

What's the kind of current state of events here? Is it kind of over in China? Is it now the rest of the world? And how much longer does the rest of the world, have to deal with this before things start to flatten out as people are talking about?

Joyce:

Well, the focus really is outside of China right now. So there's more than 200,000 in the global infection toll right now. More than 80,000 of that is China, but we've seen now that the death rate in Italy is exceeding that of China. So China is beginning to get this under control. They were the first in. They're probably going to be the first out of this, but there's fears about a second wave. And there's been a real change in the way of thinking. So a couple of weeks ago, everybody thought, "Will this be V-shaped?" Now what they're really talking about is, how do we space out this shock? Because we don't have the medical facilities to deal with it. So now it's much more, about trying to just slow down the severity of the outbreak, but this means that the duration could actually last longer than what we thought.

So whereas a few weeks ago, everybody thought the V-shape would be possible, now there's much more of a sense that this is going to extend well beyond the second quarter even and be something that goes into the third quarter of the year.

But Joe, I wanted to ask you, just now that we're looking at this being something that the duration, we no longer think tha,t the first quarter has already passed us and that even the second quarter, it might be hard to get this under control. What is the toll that it's taking on the global economy? How are you revising the forecast for global GDP growth? How are you looking at the impact this could have on consumer sentiment and also on the labor markets?

Joe:

There's no doubt that this has gone from something that we thought initially was going to be a severe shock in China that had some rippling out effects on the global economy to now something where this is a global pandemic in terms of the virus and very much a global macroeconomic event in a very serious way. This is a huge shock. This cannot be understated, and we now think that we are currently in a global recession. We are looking for global GDP to contract over a percent this year. For our listeners, a contraction in global GDP is a very rare event.

We did see a contraction in global GDP in the global financial crisis. This will actually be on par with that. We think China could be down as much as 40% annualized in the first quarter. That is then followed by the U.S. and Euro area as you look into the second quarter where we're looking for U.S. to be down 14% annualized. We're looking for the Euro area to be down 22% annualized in the second quarter, so overall, global GDP is going through a serious event here.

Now, the big question and you kind of touched on it in terms of the virus, spreading out and the duration lasting a little bit longer is how long will the macroeconomic shock last? This is going to depend a lot on policy support. Things are moving certainly on the monetary policy front. On the fiscal front, things are moving quickly, but of course they take a little bit more time, and we're seeing big packages start to be talked about and even rolled out, including the U.S. where the current administration is talking about a package as big as over a trillion dollars, which would be bigger than the package that was done during the global financial crisis. That was on the range of about 800 billion.

So that policy will start to kind of kick in. It will bridge the gap, and then hopefully provide some support, so that as the virus fades when we move into somewhere in the third quarter, people start to come back to work, businesses rehire, and the global recession kind of gets off to a pretty good start.

Overall, we think global GDP could be up as much as 20% annualized in the third quarter. But a lot of uncertainty around it. Labor markets will be damaged through the rough patch here where we see the U.S. unemployment rising up to as much as 6%, which is, a good 2.5% above where we are now. Joyce, your background is in the emerging markets are there areas with any emerging market stresses that we should be worrying about?

Joyce:

Well, you have had policymakers take a lot of actions. I mean, looking at this since the beginning of the year, 16 central banks have cut rates. And we think there are 24 more rate cuts by central banks by the middle of year. In the emerging markets, 15 out of 22 emerging markets, we think are going to ease further between now and the end of the year. But all eyes are on China right now. What does that China rebound look like, and is there a risk of a second wave?

We've brought China's growth rate down all the way to 1.1%. And when you think about this back of the envelope, every 1% off of China's growth takes about half a percent off of global growth. But the areas that are the most impacted when China slows down is the emerging markets particularly the commodity exporters. So you've got the double whammy. You've got the China slowdown and you also have just this dramatic drop in oil prices as well, with everybody saying, "Boy, that OPEC meeting in June, that's a very long time away."

So we are keeping a very close eye on many of the commodity exporters. We see very sharp slowdowns, coming in Latin America take a look at a country like Mexico, couldn't track as much as 15% in the second quarter of the year. There is some fiscal response that's occurring, but we think the fiscal policy overall will add maybe 1.3% of the GDP this year. That's still not going to match the pace at which we're seeing, these contractions. And I think the real problem is if the argument is you can't overwhelm the health system so we need to slow this down, this is going to take months, not weeks.

So that whole point is have we written off the first quarter, the second quarter? What if you really aren't seeing a comeback until the fourth quarter of the year? Is it going to be a lost year? That's what a lot of people are asking right now.

Joe:

Right. Let me ask you this, Joyce, one of the arguments made by the high frequency traders is that, they're there providing tons of liquidity that no one else is able to do but if what we're really seeing here is actually these guys move with the rest of the market and they actually do it much more quickly, are they actually exacerbating problems and does the whole foundation of that argument kind of fall apart if what we see is they disappear when you really need them?

Joyce:

Well, what we've seen in the U.S. Treasury market was that about 75 to 80 percent of that market was high frequency trading, and that dropped to about 50 percent right now. And so, this is one reason why you've really had to have the authorities step in. So, when it's a bull market, people don't really question this, but we're now seeing how rapidly the market conditions can change.

And I think the difficult thing about, COVID-19 is that it's hard for anyone to put a guess on the duration of this. Some of the consequences of this, there are always unintended consequences out of every crisis, do we have to look at the regulation that was in place and think about whether some of this should be reversed so that the policymakers can act quickly and have that flexibility?

During the global financial crisis we often heard about the need for a lender of the last resort. Now what I'm hearing is that we need is an employer of the last resort. We basically need to give companies money to keep people on the payroll. You essentially have to pay people not to go to work.

Joe:

You're 100% right. Labor markets are going to be very key here. I don't think we should kid ourselves, though. Labor markets are going to deteriorate rapidly. You're going to see, over 100,000, maybe 200,000 fall on monthly payrolls, for a good, maybe even couple months in a row. And then the question is, can you turn that around and how quickly can you turn it around?

There's no doubt goods sector's going to get hit very hard here, and you can see factories shutting all over the place. But what's going to be unique is the service sector, and the nature of the downturn is such that service sector activity is also getting hit very hard. And that's what makes this a much bigger event than would typically be the case. They're going to experience something that they're not used to, probably even worse than what they had during the global financial crisis.

Lots of things to be watching here, it's going to be a pretty tumultuous period that we're going go through. I wish it could've been a kind of more upbeat podcast, but it's going to be a grim few months here. This wraps up our discussion for today, Joyce, thanks for joining me, I hope our listeners have enjoyed the conversation as much as I have.

Joyce:

Well, thank you so much, Joe, I mean, but what a week it's been and a lot to talk about and to think about in the weeks and the months ahead.

Joe:

Thank you, everyone, for listening and please stay tuned for more episodes of At Any Rate, J.P. Morgan's global research podcast series.

This communication is provided for information purposes only. Please read J.P. Morgan research reports related to its content for more information, including important disclosures. 2020 J.P. Morgan Chase & Company, all rights reserved. This episode was recorded in March, 2020.