The last time the world seized with panic over an economic catastrophe, those given the job of limiting the damage knew what to do. The global financial crisis of 2008 presented a textbook case of what happens when people lose faith in the banking system all at once. World leaders could rely on lessons gleaned from history to forge a plan: They flooded the markets with money and waited for calm to return.
But this time, as economic overseers confront a pandemic that has sent stock markets hurtling downward while provoking talk of a global recession, their tools appear impotent. The disaster feels eerily familiar, with trillions of dollars in wealth annihilated near-daily and deepening fears that businesses will fail. Yet the traditional policy prescriptions seem no match for the affliction at hand.
“In many ways it’s far worse than 2008,” said Joseph E. Stiglitz, the Nobel laureate economist. “There was a sense that 2008 was a show that we had seen before — the panic of 1907, the Great Depression. We know about financial crises. We knew that it was just money, and that one way or the other the government would step in and save the bankers from their folly.”
This time, Mr. Stiglitz added, the cause of the emergency is not bankers and their exotic and dangerous creations, but the natural sphere — a less predictable realm. The fundamental threat to the global economy is the spread of the coronavirus. Yet the means of containing its spread entails worsening the economic pain by keeping workers home, limiting travel and disrupting commerce.
This is playing out as corporations are bearing historic levels of debt. A profound economic downturn could trigger a cascade of defaults. That could prompt creditors to pull back on lending, starving economies of capital.
Central banks appear largely ineffective in the face of this reality, while governments have been slow to deliver public money. Not least, investors fear a leadership vacuum. A global pandemic is unfolding, threatening life and livelihood on six continents, just as the world is roiled by an upsurge in nationalism, protectionism and a pushback to globalization. That appears to be hampering the response, reinforcing borders rather than inspiring coordinated action across them.
A sense of powerlessness is feeding the fear that is prompting investors to dump anything risky, which is in turn damaging economic prospects and reinforcing fear — a feedback loop.
“This is a shock arising out of the real economy, out of the real world, out of biology, not out of financial shenanigans or complexities,” said Adam S. Posen, a former member of the rate-setting committee at the Bank of England and now the president of the Peterson Institute for International Economics in Washington. “We are much less well suited to deal with this.”
On Friday, world leaders were readying measures aimed at dispelling that impression. In Washington, the Trump administration and Congress neared agreement on a spending package to help workers and companies harmed by the pandemic. In Berlin, German Chancellor Angela Merkel said her country would set aside its longstanding aversion to debt while spending as needed to preserve public health and protect businesses.
But those actions — while a potentially crucial source of relief for people and businesses — cannot snuff out the basic threat to the world economy. Only the containment of the pandemic can achieve that. And that objective unavoidably involves worsening the economic straits in the immediate term.
Much as in 2008, markets have been plunging because investors have grown terrified of every variable as imaginations run toward dark places. In normal times, markets process gradations of risk, pricing stocks and bonds according to the probability that something bad could transpire. In times of panic, markets avoid all risk as existential.
That psychology was so fierce in 2008 that nearly every market threatened to break down. The world is nowhere near that level of panic now, even as stock markets dropped further on Thursday than any day during the global financial crisis.
But some elements appear more perilous.
Investors grasp that the traditional crisis response — central banks dropping interest rates — is effectively inoperative. Rates are already so low in the United States, and negative in Europe and Japan, that pushing them lower yields scant benefits. Cheaper credit does not bring workers back to factories or shoppers back to malls so long as the virus remains a threat.
As the U.S. Federal Reserve, the Bank of England and the European Central Bank have intervened with emergency measures, each has precipitated a fresh plunge in stock markets. The central banks sought to boost confidence by demonstrating their resolve. But markets divined a different message: The world was on fire, and the fire department was out of water.
For years, economists have been saying that governments need to wean themselves of their reliance on central banks to spur economic growth, while spending their own money.
Britain responded this week, unveiling a budget that included 30 billion pounds (about $38 billion) to address the pandemic. Italy has outlined plans to spend 25 billion euros (about $28 billion). The United States has so far found only $8.3 billion, though more is apparently on the way.
Europe has a history of crippling recriminations in the face of crisis. Within the 19 countries that share the euro currency, Germany has effectively stymied calls for more generous public spending, posing doubts about the follow-through on Ms. Merkel’s muscular promises.
China, the worst-hit country, is a much larger part of the world economy than a decade ago, yet increasingly limited by worries about its own mounting debts.
The most profound alarm may be the perception that the overseers of policy are not adequately committed to the challenge, especially the leader of the world’s largest economy, the United States.
President Trump initially portrayed the outbreak as a hoax perpetrated by his political enemies to damage him. His speech to the nation on Wednesday evening — during which he blamed a “foreign virus” for the pandemic and announced a severing of flights between the United States and Europe — resonated as a sign that he was managing the optics of the crisis rather than the crisis itself.
The markets have been yearning for evidence that higher powers will deploy unrestrained resources toward relief. What they have seen time and again is that the people in charge
lack the appropriate resources for the job, or are unwilling to use them.
Economic historians may debate for centuries how policymakers in the United States and Europe responded to the global financial crisis — whether they were too generous to the bankers and too parsimonious to ordinary people; whether financial interests captured the regulators. But most take as a given that the governments in charge mounted a sincere effort to set things right — a stark contrast to the mood now.
“The fact that financial markets went markedly into shock,” Mr. Posen said, “has to be attributed to a lack of confidence in policies and leadership. It’s a failure of worldview. Bush and Obama believed in reality.”
Conventional wisdom holds that the pandemic will be confined to the economic sphere, damaging livelihoods, but falling short of triggering a financial crisis. The banks are in far stronger shape now, the logic goes, having been forced by chastened regulators to set aside reserves.
The crisis of 2008 forced economic policymakers to grapple with the interconnection of financial players around the world. The masters of money had taken mortgages and packaged them into exotic combinations, selling them to institutions that used them as collateral against other investments.
Only after home prices declined did the markets grasp the extent of the interlinkage. The assets were hard to value, and the liabilities were hidden in a tangle of unorthodox contracts. The markets froze in bewilderment and fright.
This time, the forces of decline are more conventional, limiting the scope for panic. Airlines are suffering along with hotels, cruise ships, and oil and gas companies. That is hurting stock prices and challenging their ability to pay back debts. But even if they go bust, markets will still function, with prices adjusting to the new realities.
“This is a severe and temporary shock,” said Kjersti Haugland, chief economist at DNB Markets, an investment bank in Oslo. “Things are going to improve in the second half of the year. It doesn’t have to entail that we are in a downward spiral.”
The biological origins of the crisis present a natural form of insurance that was not present when Wall Street wizards concocted unlimited quantities of financial derivatives. “The natural arc of even the worst epidemics is that they are finite in duration,” said Mr. Posen. “When the worst of the epidemic is over, people will go back to normal.”
But some argue that such depictions rest on excessive faith in the solidity of the financial system.
Banks retain creative powers to embellish their books by moving liabilities elsewhere. “Balance sheet numbers look better, but they fool you,” said Anat R. Admati, an economist at the Stanford Graduate School of Business
The ratings agencies that played a central role in the last crisis — affirming as wholesome the poisonous mortgages scattered around the earth — retain status as the official arbiters of risk. “There was no real reform of the ratings agencies,” Ms. Admati said.
By the end of last year, total outstanding debt among corporations other than financial institutions had surged to a record $13.5 trillion worldwide, roughly double the level of 2008, according to a report by from the Organization for Economic Cooperation and Development. Many companies have sold riskier bonds to finance expansions.
Just as in 2008, investors are confronting huge variables that outnumber solid facts. Will the virus weaken as the seasons change? Will it mutate and become even more virulent?
If the pandemic goes on long enough, it could ravage economies and bring down companies, threatening their ability to pay their debts.
“Large economic shocks have a proclivity to turn into financial shocks,” said Mr. Stiglitz, the economist. “There is every reason to believe that things will get much worse.”