Depression Data But Depression Not The Base Case

By Gary Evans and Jon Custer
Custer Consulting Group


  • The Atlanta Fed’s GDP Now is estimating a -34.9 percent Q2 GDP print, which is 3.5x the largest quarterly decline in the post-WWII economy
  • If realized, the 11.3 percent non annualized first-half GDP collapse in 2020 will approach the worse year of the Great Depression, when in 1932, the economy shrank 13.1 percent for the entire year  
  • We are not paying much attention to these numbers as they reflect an economy that has been closed for two months, which should experience a relatively sharp snapback in Q3, with unemployment most likely peaking this month
  • Nonetheless, the pandemic and economic lockdown will do some long-term structural damage to the economy and will look much different on the other side
  • Large technology companies will come out the big winners
  • The rapid growth of the monetary aggregates alleviates much of the deflationary forces in the economy in the short-term and we perceive inflation could be an issue over the medium-term
  • If the GDP Now estimate holds, and even if GDP prints a record annualized 27.6 (5.0 Q/Q)  percent number in Q3, real output will still be 7 percent below the Q4 2019 level with unemployment remaining close to low double digits
  • We suspect the recovery will come too late and not be enough to save President Trump
  • Companies should plan for a higher corporate tax rate

Since the COVID crisis hit America, many businesses are operating at limited capacity while others have ceased operations completely.  The unprecedented aggregate supply and demand shock to the U.S. economy has resulted in horrific economic data, including the 20.5 in nonfarm payroll jobs lost in April and the unemployment rates shooting up over 14 percent.


The data released Friday also caused the Atlanta Fed’s GDP Now model to lower its Q2 GDP estimate to a stunning annualized -34.9 percent, which puts it at the lower end of the range of Blue Chip forecasts.  The GDP Now Q2 estimate will certainly change as new economic data is released over the next few months.


Atlanta FRB



It is important to keep the data in context.  The economy has been slammed shut for two months and is just starting to slowly reopen.   The dismal data surely does not reflect the prospects for the economy over the next 12-24 months unless a second and more virulent wave of COVID-19 breaks out, which is not a zero probability.

Still, if Q2 GDP does come in at the annualized -34.9 percent, it would represent a quarterly collapse 3.5x the next largest decline of 10.0 percent during the Eisenhower recession in Q1 1958.  Even more stunning, the non annualized first-half 11.3 percent GDP collapse in 2020 would approach the worst year of the Great Depression when GDP fell 13.1 percent for the entire year during a period of mass bank failures.



Depression Data But Depression Not The Base Case

We all can take a little consolation and hope that though we are witnessing economic data plumbing the depths of the Great Depression, the data will improve as the economy slowly reopens.  It is uncertain how much structural damage the pandemic and the temporary lockdown has done to the economy but it could be significant for certain sectors, such as dining, live entertainment, and transportation, mainly air travel, for example.

The electronics industry may come out stronger on the other side though final demand could remain punk over the next few years.

There is also very little doubt it will take some time for the economy to fully recover.  How long is anyone’s guess?

The table above illustrates for U.S. GDP to recover its Q4’19 level by Q3 (assuming the Q2 GDP Now estimate holds),  growth will have to snap back by an annualized 61.3 percent next quarter.   To recover real output fully by the end of the year,  GDP growth will have to average an annualized 27 percent in Q3 and Q4.

We think this is highly unlikely and suspect it may take 2-3 years for the economy to return to the year-end 2019 output levels.

Recovery During The Great Depression



During the Great Depression, the economy didn’t recover its 1929 real output level until 1936.



Furthermore, because of the virulent deflationary forces that took hold during the Depression, the result of the 25-30 percent contraction in the monetary aggregates, caused by the massive bank failures from 1931-33, nominal GDP did not recover its 1929 level until 1941.  From 1929 to 1933,  demand deposits, which made up over 85 percent of narrow money in 1929, fell by 35 percent.  The Fed failed big-time in its role as lender of last resort.

That’s not the problem today as illustrated in the following charts of the compounded rate of change in M1 and M2.

While many fret over temporary deflationary pressures, some of which are just relative price changes as the economy begins to adjust to the post-COVID new normal,  we fear more about a potential wave of higher inflation over the medium-term, which absolutely nobody is expecting.

M1 Money Stock Compounded Rate Of Change


M2 Money Stock Compounded Rate Of Change


Q3 Economic Snapper Is Coming

We also believe the economy has already troughed and the employment data will bottom in May allowing GDP to realize a fairly sharp snapback in Q3, which will most likely exceed the 3.9 percent largest Q/Q GDP increase in the post-WWII period, realized in Q1 1950.

If the economy can muster, say, a 5.0 percent Q/Q growth rate in the third quarter, which may be a push but not totally unreasonable that translates into a 27.6 percent growth headline number, far exceeding the Q1 1950 16.7 percent annualized growth rate.  We suspect selling a sharp Q3 rebound will be the central focus of the President’s campaign strategy.

Unemployment Rate_1928 to 2019_3

Even so, U.S. real output will still be down 6.8 percent from its 2019 closing high and unemployment will most likely be in low double digits.  Can Trump be re-elected with those numbers?

Based on our analysis and what the prediction markets are signaling, not our political bias,  our central case is the Democrats are going to take the White House, Senate, and House by wider than expected margins in November.

Investors and businesses should plan accordingly, including for higher corporate and capital gains taxes, which are the low hanging fruit.  More regulation of the financial markets and industry will almost certainly be on the docket.  There will also be a large push to move strategic supply chains back to the U.S..

The financial markets are still obsessing over “flattening the curve” and the first-order existential effects of the pandemic.  This crisis is n-dimensional, however, including state and local government budget crises, a potential tsunami of bankruptcies, and potential emerging market debt crises. There is also now increased uncertainty about the sustainability of the Euro currency and doubts that many small businesses can survive, especially independent restaurants.

Until the issued are addressed with strong leadership the recovery, which is slowly underway will be less than robust over the next few years.


These are our thoughts and best guesses.  We are all in the guessing game these days and remain at the mercy of whatever trajectory the pandemic decides to take, which will largely be determined by the efficacy of U.S. health policy.

As always we reserve the right to be wrong.