Today the U.K. shared its Gross Domestic Product (GDP) numbers for the Q2 2020 (April-June) period. Similar to data from France and Spain, these countries saw roughly double the decline in economic output that the U.S. experienced. Many European countries have seen of the order of a 20% fall, whereas the U.S. quarterly drop is closer to 10%. Economies have many moving parts, still, there are two big reasons why the U.S. model has held up well in Q2. Both relate to stimulus for personal income. One appears to have ended, the other seems set to be dramatically cut based on the current state of stimulus talks, which as of now, appear stalled.
Rising Personal Income In The U.S.
Last quarter U.S. personal incomes spiked higher than they have in growth terms, than at any point during all of U.S. post-war history. The two drivers are that are firstly, larger unemployment payments and secondly Economic Impact Payments – that’s government language for stimulus checks. It’s an unusual result. It’s also what primarily accounts for the relative strength of the U.S. economy to this point on the Q2 numbers.
Yes, as in a typical recession more people were unemployed, so unemployment payments would naturally rise as a result. However, the unemployment payments were $600 per week higher too. That caused an enormous boost to unemployment spending by the government. In addition, the $1,200 stimulus checks, broadly distributed to those who met the income threshold and other criteria had about the same size impact as the boost to unemployment. These “personal transfer receipts” as the personal income report terms them, worked out to be about two and a half times more than the fall in wages and income in the U.S. for Q2.
In way, there was too much stimulus in the second quarter from a personal income standpoint. Personal incomes were not just flat as stimulus filled in the gap, they leapt up as stimulus actually increased the income of many unemployed, relative to what they would have earned if working per CBO analysis. That’s a key reason why the U.S. Q2 numbers compare favorably with Europe. Yes, other portions of the economy still tanked, hence the decline in GDP, but personal incomes were up, wildly in fact.
No More Stimulus Checks
Now consider where we are today. There is no current plan for more stimulus checks and materially lower, though still elevated, unemployment payments are planned compared with Q2. Yes, wages and income will likely trend up to the extent the economy rebounds. Still, the removal of enormous stimulus could dwarf the impact of that recovery from a personal income standpoint. After an economy flush with stimulus in Q2, the U.S. may be electing to go cold turkey on stimulus in Q3. Yes, executive orders have happened, but the impact there appears remarkably limited.
An Economic Roller Coaster
Without further material stimulus, the U.S. data may be more of a roller coaster when compared with other countries. Q2 was relatively strong due almost entirely to unemployment payments and stimulus checks. As of now, stimulus checks are over and unemployment payments are materially lower. The same dynamic that drove the U.S. numbers to look strong in Q2 could cause problems for the U.S. in Q3 when the sugar high of stimulus is over.
Roughly $3 trillion was spent by the U.S. in stimulus in Q2, that’s about 15% of annual U.S. GDP for context. For Q3 that number looks materially lower as many benefits ended in July if not earlier. In contrast, the stimulus plans from other countries has been smoother and an abrupt withdrawal of stimulus for other countries is likely to be less acute. The stimulus that drove the U.S. economy to hold up well in Q2 may cause a big crash in Q3 if it is withdrawn.
These are unprecedented times with economic data frequently breaking records, and not necessarily in a good way. The drivers of the stock market are different to the drivers of the underlying U.S. economy. However, the U.S. consumer holding up well due to stimulus has been a positive for the stock market so far. That may be set to end abruptly if stimulus talks don’t produce a deal, and the executive orders offer only minor spending. This seems to be the current trajectory, though negotiations have been very fluid and there may be bipartisan middle-ground that can be reached for more stimulus. However, we are almost midway through Q3 at this point, so the direction is becoming clearer each week. Unfortunately, it’s not positive.