In 2019, US analysts and economists alike were hyping the strength of the U.S. consumer and how it accounts for about 70 per cent of the US GDP.
As at the end of 2019, the US consumer was already in a very weak financial position. They had piled on record levels of debt and their financial flexibility was already shrinking before this crisis. At the end of the last quarter of 2019, the US consumers had a record $14 trillion in total household debt. This number has surpassed the peak of over $12 trillion in household debt before the mortgage crisis that caused the Great Recession from December 2007 to June 2009. To make more of a statement of the crisis revolving around US household debt, people over 60 are past their prime earnings age yet accounted for $2 trillion in total household debt.
That said, as the COVID-19 situation in the US got worse, markets have seen an overall decline in consumer confidence. The consumer confidence index, compiled by the University of Michigan, declined to 89.1 in March and further deteriorated in April to 71.8. This remains the lowest reading since December 2011.
Given that consumer sentiment makes up around 70 per cent of GDP and has been on the decline, it is to no surprise that the US economy shrank by 4.8 per cent annualised in the first quarter of 2020. This ended the longest period of expansion for the U.S and was the steepest pace of contraction in GDP since the last quarter of 2008.
In fact, most economists already see a US recession due to the fact that the first quarter just includes a few weeks of the COVID-19 impact. It is clear that consumers, not only in the US but all over the world, are going to be traumatized by this COVID-19 crisis and the consumer confidence index may continue to show major drops in May and further along the line.
More importantly, even if the economy reopens in the short-term, citizens might take a step back in spending unless necessary, especially if coronavirus numbers are still around and no cure is available. In the long-term, consumers feeling the impact of the coronavirus on their pockets, may vow to prevent such dire financial situation for themselves in the future. This could lead to a higher savings rate and lower consumption for a decade or more.
In fact, the household saving rate increased to 7.9 in January and to 8.2 in February. Hence, a continuous pattern of an increase in savings is plausible. There is no doubt that the closing of many businesses, the sharp rise in layoffs over the last five weeks, and extensive distortions to economic activity have resulted in a record-shattering drop in consumer attitudes.
Stimulus efforts may help in the short-term, but ultimately, beating COVID-19 and getting life back to normal is the only way to sustainably boost the economy and consumer sentiment. Whether that is a quickly achievable outcome or not is highly questionable. However, one cannot ignore the recent stimulus packages put forward both from a fiscal and monetary front.
Indeed, further aid seems to be the way forward as remarked yesterday by the Fed. Interest rates were left unchanged but remarked that they will ensure that they will use all the tools at their disposal to stimulate the economy.
Furthermore, markets also positively reacted to the news that a drug by Gilead showed improved signs of recovery. Surely a positive that should alleviate the current stressed scenario. Despite the current stress, we believe that selective sectors should still be tapped given their levels. However, being diligent is crucial for long-term returns.
Disclaimer: This article was issued by Maria Fenech, credit analyst at Calamatta Cuschieri. For more information visit www.cc.com.mt. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.