29 March 2020

Towards A More Resilient Economy

The recent COVID-19 driven disruption to the global economy refocuses attention on the issue of how our economy copes with economic shocks and downturns. 

The business cycle, recessions, economic downturns and "panics", bear markets, natural disasters, and events like pandemics that negatively shock the economy are inevitable no matter how hard policy makers try to minimize and prevent them. This is even more true in our modern global economy where a serious shock half way around the world can take you down with it.

This reality means that productivity and efficiency aren't the only virtues we want in an economy. It may be worth deliberately having less than optimal productivity and efficiency in the economy in order to make it more resilient, which is to say, an economy that functions better in times of declining productivity and other economic shocks.

There are some big picture concepts that can make an economy more resilient.

* Prefer equity to debt. The U.S. tax code currently strongly favors debt over equity in big businesses, and provides tax advantages to people who have lots of mortgage debt over those who have little. A failure to make debt payments can cause a business to collapse. But, a failure to make distributions to shareholders cannot. Islamic finance with its prohibition on interest (which can be circumvented in such a manner as to allow de facto interest but not compound interest) likely reflects economic thought arising from the experience of economic downturns.

* Prefer owning to renting. While debt payments can be equivalent to rent, debt payments typically can't increase to reflect increasing asset value and when property is owned debt free, the owner can weather limited cash flow by using an owned asset without risk of losing it in hard times.

* Maintain excessive inventories of essential items. Just in time delivery supply chains are more efficient and profitable when they work. But, the prospect of lockdowns prompted a mass transition to Mormon-style stockpiling of grocery store necessities like toilet paper, flour, dry beans, rice, and cleaning supplies. The Mormon religious mandate to have a year of supplies on hand at all time may be excessive, but living with just a few days supplies on hand may not be optimal either. We should also have, at an institutional level, have stockpiles of medical supplies that might be needed in times of pandemics and natural disasters, of food in the event of crop failures or interruptions in supply chains, wars, and so on.

* Put in place a strong social safety net. Universal access to health care, housing, food and other necessities buffers the long term ill effects of economic shocks, preventing a hurdle from becoming "game over" or a lifetime of impairment.

* Increase the economy's capacity to react to change. The economy needs to be able to quickly reallocate resources from choices that used to make sense to those that make sense in a new reality. Distilleries can be retooled to make hand sanitizer. Sports jersey makes can turn to making face masks. Teachers and professors can transition from providing services in person to teaching on line. People can move from places where there is no work to places where there is a shortage of labor.

Policy choices, in both the public and private domains, can make the economy more resilient, and hence endure economic shocks while experiencing lower levels of harm to individuals, families, and firms.


Dave Barnes said...

And, if you are a Trump supporter, then attend Easter services with 300+ people and MAGA.

andrew said...

Discussion of shifting from debt to equity for airlines and banks. https://www.mercatus.org/bridge/commentary/haircuts-airlines

andrew said...

Supply chain security with redundancy. https://www.foreignaffairs.com/articles/2020-04-01/how-pandemic-proof-globalization