Why beating this uniquely terrible recession is beyond central bankers and finance ministers

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The economic downturn that Canada and the world are going through has elements of the unpleasantly familiar. It’s a recession, and its consequences – lost jobs, business shuttered, companies in peril – are brutally familiar.

But in other ways, it’s not like any previous recession. Its cause is exceptional: Bank of Canada Governor Stephen Poloz described it as “more like a natural disaster.” He’s right.

And that is why this recession, unlike other recessions, is one whose length and depth will be determined not by monetary and fiscal policy, but by something else: public health policy.

We are at war with a virus, and the state of the economy ultimately will be determined by the course of the battle we wage against it: how many defeats we suffer; whether we advance or retreat; and when we get to our generation’s May 8, 1945 – VE Day.

A lot of things economists have learned about recessions are going to serve us well in this one, and already have.

Central banks, from the U.S. Federal Reserve to the Bank of Canada, have not just lowered benchmark interest rates, they have also used measures such as quantitative easing to push lower borrowing costs down into the economy, thereby preventing corporate credit markets from seizing up.

Governments, provincial and especially federal, have rolled out tens of billions of dollars in income support for people and businesses. Nobody is worrying about the size of the deficit, and for now, nobody should. A deficit is medicine for a recession; it is blood-pressure-raising medication for a patient suffering from low blood pressure.

But because this recession’s causes are not like those of other recessions, the ultimate solution is different, as is the path to getting the economy back to full employment.

A textbook recession is all in your head – or rather, in our collective heads. It’s basically a loss of confidence, with causes that are individually rational but collectively disastrous. People stop spending because they fear they will lose their jobs; businesses lay off employees because nobody is spending, and the cycle repeats.

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In the long run, the cycle will self-correct. But as the economist John Maynard Keynes once mordantly observed, in the long run, we’re all dead. He wanted to speed up the correction, so it would happen in the short run; that’s what a dose of low interest rates and higher government spending can do.

This recession, however, is more like a globe-spanning hurricane or giant tsunami. But it’s also a unique kind of natural disaster because, unlike a hurricane, it is partly, even largely, in our power to control. Though we do not yet have the tools to eliminate it, we have the means to limit it, and limit it greatly.

We need the smartest people running our central banks; there is reason to be thankful that Mr. Poloz is at the helm of the Bank of Canada, and that his successor is someone as experienced as Tiff Macklem.

Canada even more needs the right fiscal policy. It’s why all of the various federal support payments, and a federal deficit of at least $250-billion, are the right move. It’s also why even more spending, possibly a lot more, may be necessary.

But at the end of the day, this is a novel recession caused by a novel virus. Finance Minister Bill Morneau and Mr. Macklem have tools to ameliorate the economic symptoms, but attacking the root cause is beyond their power.

It is instead in the hands of public-health officials, and in the longer term, scientists working around the clock on treatments and vaccines.

They’re the generals in this war. Ultimate victory will be the equivalent of Canada liberating the Netherlands, and the enemy surrendering. Until the Second World War was won, we couldn’t stop spending on tanks and planes; until the virus war is won, scaling back emergency spending will be counterproductive.

That’s why the emphasis in the coming weeks and months has to be, not just on steps to reopen the economy, but above all on measures that will make an ever greater degree of reopening possible: more and better testing; more and better contact tracing; more and better border screening; more and better knowledge of where the virus is; and more and better ability to control its spread.

In 1945, the road to victory went through Berlin. In 2020, the road to victory goes through a virus. It’s the roadblock to economic recovery, and we can’t get there until we flatten it.

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