MFG PMIs Bounce But Beware the Corona Effect Is Coming; Unstoppable Force Meets Immovable Forecasts

Let me explain the title. The coronavirus is spreading. And that is clear. The impact on China is huge. That is clear. And yet no economist will forecast recession anywhere- or so it seems. We hear of zero growth or zero growth for two quarters in a row (there's a razor's edge forecast if there ever was one). It is amazing the contortions economists will go to in order to avoid the forecast of something they view as unpalatable. Regardless, the virus will spread. The risk will intensify, and economists will pretend that we can - whatever happens with the virus- hold the line on growth. Don't bet on it.

Short-term weakness
Eight of 15 (excluding France and Germany) entries in the table have manufacturing PMIs below 50 in February. This compares to six in January and six in December. Seven have three-month averages below 50. Eight have readings below 50 on their six-month average and 10 on their 12-month average.

Momentum
Separately, there are seven PMIs weakening month-to-month in February, compared to six in January and nine in December. There are 6 three-month averages below their six-month averages. There are 7 six-month averages below their 12-month averages. There are 14 of fifteen 12-month averages below their 12-month averages of 12-months ago.

Broader weakness
In terms of broader comparisons, the queue rankings assessing the standing of this month's index relative to all values since January 2016 report results as a percentile standing in that queue of values. Only four have readings above 50. On this metric, 50 is the ranking of the PMI value where the median of the PMI value lies. All but four countries show performance that is below their respective median showings. Vietnam and China report the lowest readings of this period; the China gauge also reports the lowest value in its history which includes the Great Recession.

Apart from the four countries that lie above their medians (India, Brazil, Indonesia and Turkey), only two countries (Malaysia and Canada) lie above the lower one-third of their queue of data. Five lie in their lower 15th percentile at extremely weak standings.

However, worse times lie ahead.

China as a paradigm: the lesson
China is the demonstration effect for how much economic activity might have to pull back to contain the virus. Other countries are not as infected as China so China is an extreme case, but it is also the analogue case of how the virus is stopped. It is stopped by putting economic activity on hold to a large extent.

Reality bites
That's why this weakness will spread and worsen in the coming months. We know how much the virus is spreading and we can see the economically disruptive actions countries are taking to fight it. So don't fight that; it is reality.

Rebound as endangered species
The uptick in the manufacturing PMIs will be short lived. The probability of some actual decline in economic activity while being denied by economists is actually likely and is part of the therapy.

The two most important things
We have to look at the two most important things that have to be healed.

• First, there is putting a halt to the health crisis.

• Next, there is the repair of the health of the economy.

You can't treat both of them at once and be effective. Treating the health crisis first is the only way to go. So countries will begin to curtail economic activity to stop contagion. After they have controlled contagion, then it will be time to consider stimulus. It is not time to consider stimulus now because stimulus will not be effective as the virus is spreading and the risk of contagion is high. Central banks have little ammunition left they should keep what they have rather than to blow it off as a show of force that will have little impact. With the virus spreading economic contraction, the reduction in corporate earnings and profits is going to continue to worsen and impact stock values. One large rate cut will not stop that. Basically, those adverse market events will be the result of a policy to preserve national health as well as due to uncontrolled supply shocks. So trying to offset this weakness now does not even make sense. I am not in the camp pushing for large or coordinated rate cuts now. I think central banks need to huddle and plan to do something in the future when it can work… BUT NOT NOW.

What to do...
There is room for targeted fiscal policy or for central banks to do some QE to seem responsive, especially the Fed that made itself a balance sheet problem it could now erase using QE. The Fed could buy securities in a way to have a bigger impact on markets as well; as could the ECB and BOJ. The ECB and BOJ have more limited policy options overall. But more importantly, as economic activity slows, there will be layoffs and small businesses in need of emergency loans. A fiscal program to help people and businesses caught in those circumstances would be very welcome. But I favor a safety net lending program not open-ended macroeconomic stimulus. You can't put the toothpaste back in the tube and virus is definitely oozing out of the tube at a rapid rate.