Why Bill Morneau needs a plan to fight a recession – and why he shouldn’t use it yet

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"All men are mortal,” begins a famous syllogism. “Socrates is a man. Therefore, Socrates is mortal.”

The business cycle version of that might be: “All periods of economic growth eventually end. Since 2010, the world has been in a period of economic growth. Therefore, it will come to an end. Eventually.”

It’s still too early to say if the novel coronavirus, and the fear of it, is going to be the shock that sets off a chain reaction and short circuits the economy. The real economy – workers working, companies producing, consumers buying – doesn’t yet look so different from yesterday. But the stock market, the bond market and the oil market are all signalling that investors believe that is about to change.

So what to do? The good news is that, in Canada at least, the federal government has an arsenal at its disposal. It can deploy fiscal stimulus worth tens or even hundreds of billions of dollars, if necessary. And it can borrow at the lowest interest rates in human history, which it can lock in for decades.

However, it is still too early to say if such a response is necessary.

Monday’s stock market plunge was a statement about where investors think the economy is going and, more importantly, where they think other investors think asset prices are going. Mr. Market can be an emotional individual, subject to dramatic mood swings. But the market’s emotions aren’t the same thing as the real, underlying economy facts.

However, sustained signals from the markets can over time feed into the real economy. And as for oil prices, which fell by nearly 25 per cent on Monday, they are very much part of the real economy. Lower prices will benefit some consumers and companies, but they are a big and immediate economic minus sign in Newfoundland and Labrador, Saskatchewan and especially Alberta.

In a typical recession, the private sector pulls back, as individuals and companies conclude – sometimes with good reason – that now is the time to save more and spend less. Because your spending on a meal, a haircut or a car is somebody else’s income, and their spending is your income, the more each of us pulls back, the more that leads to an accelerating economic retreat.

There are a couple of ways to unwind the cycle, so as to get the economy moving in the right direction and making full use of its fallow office buildings and furloughed workers.

One is monetary policy, with the Bank of Canada and other central banks lowering short-term interest rates. All else equal, that encourages people and businesses to borrow and spend. The problem is that rates are already so low that taking them to zero, or below, is likely to deliver less of a bang than rate cuts in earlier downturns.

And if the driver of the next recession is a pull back in private-sector spending, caused by people staying away from restaurants, stores and workplaces because of a virus, it’s hard to see how lowering interest rates on car loans and corporate borrowing will make much of a difference, at least in the short term.

The other tool is fiscal policy. When the private sector is pulling back and spending less, the public sector can step in and spend more. In the event of a recession, some of that will happen through automatic stabilizers, such as employment insurance. The higher the unemployment rate, the more Ottawa automatically spends on cheques to the unemployed.

And if we head into a recession, Ottawa has the ability to stimulate the economy by spending far beyond those automatic stabilizers, so as to temporarily take up the private-sector slack.

On Monday afternoon, Ottawa could borrow for 30 years at an interest rate of barely more than 0.7 per cent. Such absurdly low borrowing costs, including negative interest rates in some countries, signal profound worries about economic growth.

But they also offer a tool to address the problem. Savers are practically paying the government of Canada to take their money.

Federal Finance Minister Bill Morneau, whose annual budget is expected in the next few weeks, does not have to implement an anti-recession plan tomorrow. But he has to have one in his hip pocket. It has to be available to be deployed in the months ahead – but only if necessary.