The discovery of a vaccine against Covid-19 raises the joyous hope that our lives might get back to normal next year, posing the question: what would the new normal economy look like?
There are reasons for optimism. The virus has made us appreciate more what we previously took for granted: holidays, days out, going to pubs and restaurants. Which means we might spend more on these than we did previously, making up for lost time.
Retailers too might benefit. They could see increased footfall as it becomes more convenient to wander round stores without a mask. That could mean more spur-of-the-moment purchases.
And, in aggregate, we have the money to spend. The first lockdown forced us to save more: the household savings ratio leapt to 28.1 per cent in the second quarter compared with just 6.5 per cent in 2019. Despite rising spending in the third quarter as the lockdown was lifted, we’ve still got many of the savings we built up then. Bank of England data show that our bank deposits are £87.6bn higher than they were before the pandemic. That’s equivalent to over 6 per cent of annual spending. So if we do spend these cash balances, demand will grow significantly.
But, but, but. Things aren’t so clear.
For one thing, our finances haven’t improved as much as this suggests. Many of us are sitting on stock market losses. Granted, research suggests that wealth effects on spending are usually small. But this might be because losses have in the past been only temporary. With the All-Share index well below its longer-term average, however, some of us have suffered a sustained loss. Which might at least cause some caution about spending.
It's not just equity investors who are worse off. Thousands have lost their jobs – The Office for National Statistics (ONS) says there are 782,000 fewer people on payrolls than there were in March – and more have seen hours and incomes drop. Even if these are lucky enough to see incomes recover next year, they might react by paying down debt rather than spending.
And, of course, many won’t be so lucky. The ONS reports that redundancies hit a record high in the third quarter. And despite the extension of the furlough scheme into March, economists expect even more in coming months. One reason for this is that lockdowns have forced many companies into increased debt, which threatens to cause a swathe of bankruptcies.
There’s also a behavioural question. Yes, some of us might spend more on leisure activities to make up for this year’s lost time. But others of us have fallen into habits of spending less, of meeting friends at home rather than in pubs and restaurants or realising that we don’t need so many consumer goods. We might stick with these frugal habits.
So, we don’t know how much the economy will bounce back even if Covid-19 is defeated – which itself isn’t certain. This might seem a weak conclusion. But it’s not – and not just because honesty and truth are not weaknesses. It has important implications.
For one thing, it warns us not to pile into recovery stocks. Yes, many will benefit from improved sentiment even if the fundamentals don’t warrant it. But others are a dangerous play. Harvard University’s John Campbell has shown that distressed stocks actually deliver low average returns as investors are too hopeful of a recovery in them. We must remember this finding.
And, for another, such uncertainties mean that policy-makers should not rush into tightening policy, but rather wait until the recovery is assured. The Bank of England is unlikely to make this mistake. But talk that the government is considering tax rises makes me fear that it might be too quick to tighten fiscal policy.
