Instead of spending money directly during this Covid-induced recession, governments across the world could put the same in the hands of people to spend, says leading economist Richard Koo.
In a podcast interview with Real Vision Finance, the chief Economist at Nomura Research Institute drew a contrast between the traditional balance sheet recession—a theory he’s famous for—and the current “pandemic recession” to justify his conviction.
He says the current Covid economic downturn is an exogenous collapse of economic activity that leads to disappearing income and a tightening of financial conditions, unlike the balance sheet recession, where a bursting of a debt-financed bubble causes a collapse in asset prices and an emergence of debt overhang.
“During the Great Depression, during the Great Recession in Japan, or in the United States and Europe after 2008, the money should be spent on something like public works, because that really goes into the economy and workers get the money and they spend it and the economy moves forward.
“However, in this recession, the pandemic recession, the government should really not spend the money but put the money into the hands of the people who need them because they really need that money right away,” Koo said.
For instance, he says if any government tries to come up with a nice bridge and highways, someone has to produce the drawings, one has to go through the auction process or whatever, but by then, everybody will be dead.
“In this recession, we don’t want the government to be spending money on public works. If they have extra money, of course, they can do that, but they should be spending money directly, bringing them directly into the hands of people so that they can make ends meet until someone comes up with a vaccine,” the economist said.
“It’s a short term battle, a year, maybe a year and a half max… and so even the use of money would be very different compared to the balance sheet recession situation,” he added.
The statement of Koo reinforces the fact that the US probably made the right decision to make direct payments to workers in the form of stimulus checks and extended jobless benefits to help people tide over the Covid-induced economic crisis.
Koo says that once the pandemic is over, the recovery is likely to be very rapid, but what he worries the most is that the recession will help inculcate the habit of savings among the ordinary people.
“During a lockdown of course, the money has to go to the people who need them desperately. Then I think we will have a period where suppose—well, we don’t know when the vaccines will be found but supposedly, the medical problem is behind us, then the economy should be recovering. That recovery probably will be very rapid because of the pent up demand, people already got locked in their houses for so long.
“The next step is where I worry and that is that once the income returns to a normal level, ordinary level, what would people do or what lesson did people learn from this pandemic? I think the key lesson that these people have learned from the pandemic, would have learned from the pandemic, we really have to have savings for the rainy days,” he added.
In such a scenario, he thinks, a pandemic-driven recession would give way to his balance sheet recession.
