Not just another financial crisis
From a financial and economic standpoint, the current crisis has no true antecedent. However, we are arguably better placed than ever to deal with the consequences.
The current situation has been compared to everything from the Spanish Flu Epidemic to the Great Depression and the last financial crash. However, from a financial and economic standpoint, there is no single past event which is directly comparable to the combination of circumstances we now find ourselves in.
Unlike the 2008 crisis, the economic and financial crisis in which we find ourselves is not the fault of the financial sector itself. Instead, like the two World Wars, the COVID-19 pandemic has constituted a single, dramatic exogenous shock to the global economy which has had dramatic repercussions for the financial sector.
Suppression of demand
However, unlike in a war situation, the pandemic has suppressed rather than stimulated demand.
“In wars, you have an awful lot of destruction of capital and the economy’s running at full tilt,” says economic historian Professor Martin Daunton. “Whereas in this crisis we don’t have loss of capital but the economy’s slowed right down.”
Basically, while wartime economies give manufacturing a massive boost due to the demand for weapons and supplies, lockdowns have caused a huge drop in demand for most goods and services. In fact, by the Bank of England’s own estimates you would have to go back to 1706 to encounter a similar economic slump in the UK.1
What this situation does have in common with the World Wars is high levels of debt. According to the Institute of International Finance, global debt across all sectors topped $255tn in 2019, so that even before the pandemic global debt, at 322% of GDP, was 40% higher than at the onset of the 2008 crisis.2
A different set of tools
Thankfully, while the severity of the current crisis is arguably unprecedented, governments and central banks are blessed with a wider set of tools than their historical predecessors to help address the situation. Quantitative easing was a novel and somewhat controversial innovation when used in the aftermath of the 2008 crisis. This time around it has been used liberally and with little adverse reaction. At the same time, while many governments, including the UK’s, pursued a policy of fiscal austerity in the wake of the financial crash, there are strong signs of a more Keynesian approach being taken to try to stimulate the economy and grow our way out of recession.
Finally, as Bank of England Deputy Governor for Financial Stability Sir John Cunliffe pointed out in a recent speech, in this crisis banks are well positioned to act as a source of strength rather than a cause of weakness. At around £1tn, UK banks’ liquid assets at the onset of the pandemic amounted to over four times what they held going into the global financial crisis, while their aggregate loan to deposit ratio is less than 100%, compared to over 130% in 2007.
Overall, while the economic and financial challenges facing us are enormous, we are perhaps better placed than ever before to meet them.