RisingCovid,SuezCanalandStampedeStrategy

Financial markets in India are back to work again after the long weekend. The new wave of Covid infections has again brought back the chatter about lockdowns. Though no announcement has been made yet, if a stringent lockdown is again put in place like last year, it might suddenly convert the V shaped economic recovery into a W shaped one (or L or K - we don’t know). The RBI then will also be required to support the economy through further measures. Though no one can be certain about what those measures will be one thing which will be close to certain that any discussion around rate hikes will be postponed into the future. The problem of rising cases is not localised to India as in the US too the CDC chief warned US citizens of “impending doom” as new cases begin to rise during an emotional address.

GDP is a measure of economic activity. The activity generates monetary transactions, which are then taxed and those taxes are then spent on generating more economic activity. Now the lockdown strikes at this chain by curtailing activity. There are some activities which can be moved to the digital space seamlessly but there are still more (labour intensive ones) which require the physical presence of the two parties. This results in a disproportionate impact on such sectors where job losses become commonplace. The jobless claims numbers hence become an important tracking tool to check for any virus surge for the US economy. NFP numbers will also be out on 2^nd April but we guess they will not be able to capture the impact of the recent surge completely.

Now lets look at the other parts of the chain which we described above. The government, in the absence of economic activity and consequent taxes, have to resort to borrowing. This is new debt which sits atop the pile of the debt which has already been issued. Central banks then subscribe to this debt and give government the money to spend. The money which the government spends in the time of a crisis doesn’t go into making any capital assets but to provide assistance to the general public so that they can replaced lost income. Now the propensity to spend an income which is not generated through a job but with government support are different. The consumer spending remains lukewarm and the savings go up. The industries which were hoping for their product demand to go up hence see a reduction in sales especially if the products don’t belong to the sustenance hierarchy. That’s why economists keep tracking the home sales and car sales numbers keenly because that is where the signal lies of change from sustenance spending to discretionary spending. Economic texts tell us that the latter takes place when the consumers are confident about the economy and their own earning potential.

All the above discussions, which we will continue in later notes, become relevant as the Biden administration looks to bring a bill for another USD 3 trillion of infrastructure spending. The talks that it will not be a pure deficit spending but will be funded by increasing the corporate tax rates will be one thing which the market will watch out for.

In other news the blocked Suez artery is open again after a small operation. This whole saga will surely create some network consequences in terms of insurance and reinsurance claims. Talking of network ripples, one other news item over the weekend was in the same vein. It was about the margin calls on heavily leveraged hedge fund positions which started a scare among the market participants. The very fact that no one knows who is exposed to what extent and which is the next domino to fall, makes it a perfectly legitimate strategy to run for the exit door at the first sign of trouble. But the problem is that the same strategy, applied by everyone, can result in a stampede.