Too-short 'failed lockdown' would be worse outcome for economy in long run, bank warns

Tuesday, 14 April 2020

Westpac is talking up the chances of the Government extending the level-4 lockdown beyond April 22, saying that might be a better option for the economy than risking a resurgence of coronavirus cases and further lockdowns down the track.

'From a purely economic perspective, it is best to 'go early, go hard', and try to beat Covid-19 in a single push,' its economics team led by chief economist Dominick Stephens has concluded.

Extending the lockdown would be very costly for the economy, but a 'failed lockdown' would be even more expensive, it said.

'That would shake the confidence of businesses just getting back on their feet, create ongoing uncertainty, and would effectively extend the period of economic stasis,' the bank said in a bulletin.

'With this in mind, we suspect that the Government will err on the side of extending the lockdown, unless the infection numbers drop to a very low level soon.'

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Westpac voiced its opinion just ahead of the release of a report from the Treasury that forecast unemployment could reach 25 per cent next year in the worst-case scenario that its officials modelled.

That scenario assumed New Zealand spent a year in level 3 and level 4 lockdowns and that the Government did not spend more than the $20 billion it had already committed on mitigating the impact.

In that situation, the country's GDP would fall by 34 per cent in the year to March 2021, before bouncing back 29 per cent the following year, the Treasury forecast.

But neither assumption underpinning that model appears likely, based on the Treasury's more optimistic advice.

That advice was that unemployment would peak just below 10 per cent and could drop back to 5 per cent next year with a further $40b of additional Government support — if New Zealand could make to do with four weeks at level-4 and then another four weeks at level 3.

In that situation, the March year reduction in GDP could be limited to a still eye-watering 11.5 per cent.

Finance Minister Grant Robertson said work was already 'well advanced' on providing further fiscal support to the economy, with the next steps set to be announced later this week.

'New Zealand's underlying strength means the economy can bounce back to be $70b larger by 2024 than in 2019,' he said.

Westpac said the Treasury's report was a big hint that a 'massive fiscal stimulus' was coming.

The Treasury also modelled a scenario in which New Zealand moved in and out the most restrictive lockdown, spending a total of three months at level 4 over the course of a year, and the remainder of that time at levels 1 and 2.

That could see unemployment peak at 18 per cent in June and only drop back to 10 per cent a year later, it said – assuming no additional fiscal response beyond the $20b so far announced.

Westpac estimated that about a third of economic activity could not happen during a level 4 lockdown, whereas at level 3 the constraint on GDP would be only 8 per cent.

But Treasury officials emphasised the hit to the economy would not only be determined by the strictness and length of our own lockdowns.

The 'world outlook' was highly uncertain and the international trend had been towards 'longer periods of public health interventions to limit physical interactions', they said.

'Should global economic recovery be slowed further by measures to combat the spread of Covid-19, we might expect the weaker world economy to have a greater impact over the medium term recovery.'

All the scenarios modelled by the Treasury assumed the border would remain closed to foreign visitors for a year and Westpac warned firms connected to international tourism faced 'a hard road ahead'.

Rules for the level 4 lockdown would need to be continually revised the longer it went on, Westpac said.

'Businesses that are deemed essential and are allowed to operate under level 4 still rely to some extent on inputs from firms that are currently deemed non-essential.

'Essential firms can get by for a while by running down stocks, deferring maintenance and otherwise improvising.'

But as the lockdown went on that would become less feasible, it said.

'For example, shops are now having trouble supplying flour to households due to a shortage of flour bags.'

'What will have to happen is a gradual expansion of what is classed as 'essential'.

'In effect, over time the level 4 lockdown will become less stringent,' it said.

Infometrics economist Brad Olsen said this would be 'a decisive week' in shaping the Government's response to the pandemic.

'Businesses should have a much clearer idea by the end of the week as to whether or not going they are going to continue to tough it out, or whether it is time to call it quits.'

The Treasury's figures were 'incredible' and gave the first official picture of just how brutal the economic shock could be, he said.

But he believed the Treasury might be a little too optimistic about the speed at which the economy could later recover.

'My concern is the very large levels of unemployment and output lost will result in quite a structural change to the economy.'

The Treasury seemed to be forecasting a 'V' shaped recovery, rather than a more protracted 'U' shaped slump,' he said.

'The economy in my mind will take a longer time to recover from this shock.'

Robertson's 'take-away' that unemployment could be kept below 10 per cent might be correct, he said, but he doubted unemployment would fall back down to 5 per cent next year.

'I don't see the economy being able to bounce back so quickly.

'Once you have an enormous amount of job and business losses, you are past that threshold of being able to spring back from that quickly.

'Tourism is not going to bounce back in a year or two's time to pre-Covid levels.'

Olsen agreed with Westpac that moving in and out of strict lockdown would do more harm than good.

'The opinion polls seem to indicate that people are still in favour of extending the lockdown if it is going get us through this quicker.

'If we churn in and out of level 4, the disruption that causes is in my mind worse to the economy over the period than a slightly elongated initial lockdown that means we could return to a 'new normal' much faster.'

While the lockdown has proved excruciating for many small business owners who are watching their investments – and sometimes their life's work – bleed away in front of them, some are backing a patient approach.

Richard Dalton, director of independent cinema company Lido Cinema, which has cinemas in Epsom and Hamilton, said he knew many people who were itching to drop back to level 2 or 3.

But he thought another two or three weeks of level 4 lockdown would not be 'the end of the world' for his business, especially if the Government did step in with extra support such as rent relief for small businesses this week.  

'If we can honestly see that we have some chance of actually beating the virus if we stay at level 4 for another week or two, then surely we must hang in there,' he said.

Otherwise, even just the 'threat' that Covid-19 cases might flare up again over winter and prompt a fresh, strict lockdown would strangle the economy, Dalton said.

'How many businesses will want to invest in anything whilst we are still getting new cases?'

Dalton said he was still angry the country did not close its borders earlier when it had 'a real chance to limit the numbers'.

'Waiting for signs that it was spreading in the community was simply putting the virus on the front foot,' he said.

'But that is then, and so we should focus on the now and really grasp this little spiky bug by the throat.

'Obviously this would also require the Government to harden up even more on arrivals into New Zealand.'