The 2008 recession was such a nightmare because it seemed to drag on forever. 

I remember the first tremor of it in August 2007 – an unexpected intervention by the ECB in the money market. Then things got worse and worse. And then it just lingered. The gloom didn’t lift until 2015 or so. 

Everyone was shaped by the experience. You can still see it in Irish people’s nervousness over house prices (and dislike of bankers). 

Another hangover of 2008 is that we expect recessions to last a long time. However, it looks to me like the Covid-19 slowdown will be different. I think Ireland’s economy will spring back in the middle of this year1.

I’m confident the economy will bounce back quickly because, of the two varieties of recession, this is the fast-to-heal one.

Can’t spend / won’t spend

I wrote in April about the two types of recession — the can’t spend variety and the won’t spent variety. In economics jargon, supply-side and demand-side recessions.

A supply side recession is when something stops a country producing stuff. This could be a natural disaster, a spike in the price of imported oil, or a plague like Covid-19.

A demand side recession is when everyone gets spooked at the same time, and stops spending. This leads to a vicious circle. One person holds back on spending which cuts the next person’s income and so on down the chain.

Both kinds of recession are painful. If you lose your job, you don’t care much whether supply side or demand side factors were responsible. But demand side recessions are much slower to heal. For technical reasons to do with wages2, and slow policy responses, it can take a long time to get everyone back to work after a demand side recession. 

Happily, supply side recessions aren’t like that. Once the shock has passed — the plague, oil price, or natural disaster — there’s nothing stopping everything getting back to normal quite quickly. That’s what I think will happen in 2021.

The economist Lars Christensen makes the analogy of Louisiana after Hurricane Katrina. Katrina was obviously devastating for the Louisiana economy, particularly for those in the worst-affected areas in the Ninth Ward of New Orleans. Overnight, unemployment up to 11 per cent. But once the shock passed, the state economy was quick to heal. Where it took Ireland the guts of ten years to get back to full employment after 2008, Louisiana did it in five months.

In my column in April, I fretted that Covid might spook everyone sufficiently that we’d get a demand-side recession as well as the supply side one. But that never materialised – in large part because of all the government deficits and money printing. Governments and central banks did a great job this time around, especially compared to 2008. Hats off!

The lucky ones

What we’ve seen in Ireland and elsewhere is that the median person’s financial position actually improved last year, despite the lockdown. That’s because most people didn’t lose their jobs. And what’s more, because of the lockdown, they were stopped from spending their money on non-essentials. According to the Central Bank, between March and October consumption fell by 6.8 per cent compared to 2019. So they ended up paying down debts. The following chart shows the change in non-mortgage borrowing over the last two and a bit years:  

The same thing is happening in the US. The following chart shows what proportion of income American households spend servicing their debts:

Many Irish people are now eyeing up bigger houses. According to MyHome.ie, asking prices rose 6.3 per cent in the fourth quarter of last year. And according to Dr Ali Uğur, chief economist with the Banking and Payments Federation of Ireland, the €1.25 billion of mortgage approvals in October was the highest since the data series started in 2011. 

These are undoubtedly the lucky ones. According to the Central Bank of Ireland, the wealthiest 40 per cent of households “are likely to have accumulated disproportionately high levels of savings during pandemic restrictions”.

The government’s bet

The government’s priority through this has been to hold companies together. The is important because, when a company break up, its particular chemistry and know-how is lost forever. Ireland has spent a lot of money on schemes to support employers such as the CRSS and EWSS. By contrast, the US has supported employers less and individuals more. 

As a consequence there have been relatively few corporate bankruptcies in Ireland so far. The following chart from the Central Bank shows the unemployment rate (light pink) and the company insolvency rate (dark pink). The two numbers usually track each other closely, with unemployment slightly lagging insolvencies. In 2020 though, that’s not what you see. Insolvencies have hardly budged, while unemployment has spiked. 

Injections of money, forbearance on tax liabilities, and a willingness from The Office of the Director of Corporate Enforcement to turn a blind eye has allowed companies to stay intact, despite the stress many of them are under. 

If I’m right, and the economy is ready to bounce back, then the government is doing exactly the right thing. By the middle of the year the pubs and planes will be full again, and we’ll have held on to many fine businesses that would have otherwise gone under.

If I’m wrong, and the economy recovers slowly, the government will have spent more than ten billion preserving unviable “zombie” companies. That wouldn’t be good. Though in that scenario we’ll have bigger problems.

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1A UK study has estimated that vaccinating the most vulnerable 20 per cent of the population will cut Covid-19 deaths by almost 90 per cent. Which presumably would mean the end of lockdowns. Given that Israel has already vaccinated 12 per cent of the population, 20 per cent should be achievable by the middle of the year.

2Demand side recessions take a long time to heal because of what economists call downward nominal wage rigidity. What this means is, people hate wage cuts. 

So, when a factory’s orders dry up, it makes more sense to sack 20 per cent of the workforce — and keep everyone else at their existing pay —than to cut everyone’s pay by 20 per cent and make everybody resentful.

That’s why, when overall spending in the economy drops, the unemployment rate goes up instead of wages just adjusting downwards. And having lost their jobs, it takes time for people to find a good match again. Some eventually drop out of the workforce. The whole process is painfully slow.