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Wartime Mood Grips World Leaders, and Debt Fears Melt Away

Global tally of fiscal pledges top $2 trillion and rises daily.

Wartime Mood Grips World Leaders, and Debt Fears Melt Away
A pedestrian walks through the Fulton Center subway and retail complex in New York, U.S., on March 17, 2020. (Photographer: Demetrius Freeman/Bloomberg)  

(Bloomberg) --

Governments are finally getting the message that they’ll have to run exponentially bigger budget deficits to keep economies afloat as the coronavirus brings the world to a sudden halt.

Capitals from Berlin to Washington are shaking off fiscal restraint and vowing to fight the virus’s economic fallout with a blitz of spending. The tally of pledges is approaching $2 trillion worldwide and rising daily, and much of it will have to be financed with public debt.

President Donald Trump endorsed checks to every U.S. household in a stimulus plan that settled at $1.2 trillion. Australia will also provide handouts, and Japan may too. Having already dropped her commitment to a balanced budget, German Chancellor Angela Merkel even said she was willing to discuss pooling the euro-area’s borrowing capacity.

For many, the question is what took them so long. The virus’s spread from China looks set to tip the world into its first recession since 2009 and central banks are running low on ammunition. And even after a jump in the past 24 hours, market borrowing costs across the world are near historic lows -- making a massive stimulus cheaper.

Wartime Mood Grips World Leaders, and Debt Fears Melt Away


Another argument for the splurge is that it’s cheaper to act now to keep households, small businesses and industries solvent -- instead of standing pat and watching a cascade of second-round effects that could send a recession spiraling toward depression.

“In a wartime situation you always borrow like mad,” said Ed Yardeni, president and chief investment strategist of Yardeni Research Inc. He coined the term “bond vigilantes” in the 1980s to describe investors who worried about debt levels and held something like a veto over government budgets.

The coronavirus has turned much of Wall Street into a different kind of vigilante -- clamoring for the government to spend more, not less.

The market capacity to lend may not be limitless. On Tuesday as the scale of U.S. measures was announced, the yield on the 10-year Treasury surged by the most in a day since 1982. Strategists from Deutsche Bank AG said in a report Monday that the fiscal stimulus will “lead to a permanent scar on government balance sheets that were already stretched.”

Wartime Mood Grips World Leaders, and Debt Fears Melt Away

But private investors likely won’t have to supply all the additional funds. Central banks like the Federal Reserve are poised to step up their purchases of government debt.

“The way we got through World War II, the government borrowed a lot of money and the Federal Reserve agreed to peg interest rates at extremely low levels,” said Yardeni. “In effect, that is what we are seeing now.”

Sharp Recovery

The wave of government borrowing may amount to something like a bridging loan for the economy, because many analysts -- based on previous shocks -- think that a virus-driven downturn will be sharp but short. While Goldman Sachs Group Inc. and Morgan Stanley both declared on Tuesday that a global recession is now underway, their base cases are for a revival in the second half of the year.

Analysis by Jamie Thompson of Oxford Economics Ltd. found that over the past 200 years, short recessions have usually been followed by a strong recovery. While there are risks, he expects global growth will grind to a halt in the second quarter before rebounding to a rapid 5% pace within a year.

The bigger the cushion under a collapsing economy, the less damage to repair afterward.

Olivier Blanchard, the former chief economist at the International Monetary Fund, said on Twitter that it’s “no time to be squeamish” about public debt, backing it up with a list of U.S. deficits during World War II that peaked above one-quarter of economic output in 1943.

Wartime Mood Grips World Leaders, and Debt Fears Melt Away


Blanchard’s line was echoed in the U.K., where Robert Chote, head of the independent budget watchdog, said it “is no abdication of budget responsibility to be spending what you need to spend to deal with this in the best way -- in some ways it’s like a wartime situation.”

Policy makers have to do much more than put a dollar number to the response. They also have to come up with effective ways to get the cash where it’s needed. Across the world, governments are attempting measures from debt and tax holidays to direct cash handouts. The early focus has been on smaller business and households. But corporate giants like Boeing Co., which sought a government bailout this week, may need support too.

Not Done Yet

The calls to fiscal arms would have been surprising just a few months ago. As of October, the IMF estimated that the average budget deficit in advanced economies -- adjusted for the ebbs and flows of the business cycle -- had reached 4.5% of GDP, the most since 2012. The fund was saying some countries had “fiscal space” to boost their economies -- but others didn’t.

Now, IMF chief Kristalina Georgieva is among those backing the across-the-board spending spree, calling this week for a “coordinated and synchronized global fiscal stimulus” akin to that seen during the financial crisis.

Trump seems to be heeding the advice, telling his economic team to go big. The result was a U.S. stimulus plan that yesterday seemed to snowball by the hour. And it may not be done yet, according to some analysts.

Scott Minerd at Guggenheim said Congress would probably need to sign off on a rescue program worth $2 trillion to “salvage viable companies.” Narayana Kocherlakota, president of the Minneapolis Fed from 2009 to 2015, wrote that the U.S. stimulus may need to be $2.5 trillion.

Such numbers would push this year’s budget deficit well past the roughly 10% of economic output it reached in 2009, currently a postwar record -- and toward World War II levels.

©2020 Bloomberg L.P.