Preventing an Economic Plague


The Coronavirus is bringing economic calamity to every corner of the country. Unemployment claims in the coming weeks are likely to shatter records, and some analysts are predicting that the unemployment rate could reach 30% during the second quarter of 2020. To put this in perspective, the peak unemployment rate during the Great Depression was 24.9%. Montana, of course, is not spared. All major cities in the state have issued orders to close most food, drink, and recreational businesses, and many of these establishments have already laid off most of their employees.

However, this does not need to be another depression. With aggressive policy measures, social distancing, and some luck, the COVID-19 outbreak could be contained (not eliminated) in a couple months. Many small businesses, and even some large ones, will not survive this period if left on their own. They should be bailed out by the government.

There is a natural aversion to government bailouts. They can create a moral hazard (i.e. encourage firms to act irresponsibly with the expectation of further bailouts), and market competition incentivizes firms to be run efficiently and to innovate. But this recession is not like most others; the pandemic is an exogenous shock that has shut down economic activity through no fault of any business (except maybe the cruise industry), and there is no crop of superior restaurants and bars poised to quickly displace the old ones should they close for good.

But the good news is that when this is over, our planes and airports will still work, our gym equipment will still be ready to go, and our bars and restaurants will still have working tables and kitchens. The labor force will no doubt be eager to get back to it as well. Therefore it would be disastrously wasteful to simply allow small businesses to fail en masse, when almost all of the physical and human capital before the pandemic will still be in perfectly good working order whenever we’re ready to use it again.

There are multiple options for keeping businesses afloat during the lockdown. Several European governments are directly compensating businesses for all or most of their wage and overhead expenses, on the condition that they do not lay off their employees. Some commentators have proposed making zero-interest “bridge loans” available to any business that needs it.

Whatever the details, the goal should be to keep businesses whole and essentially freeze the economy in place until we have beaten back the virus (note that individuals out of work will need cash assistance as well, but this post is focused on small businesses). If in a few months we find ourselves with a zombie economy where a huge chunk of employers are gone, it will likely be a deep and lasting recession that will take years to unwind.

Unfortunately state and local governments are constrained by balanced budget requirements. That leaves it up to the federal government, which is the sole currency issuer and is literally unrestrained in the amount of money it can spend. This is another difference from the Great Depression, when the US was on the gold standard and thus constrained by the value of its gold reserves. The economic power our current fiat currency system grants the federal government is substantial but is tailor-made for the kind of crisis we are currently in. This is not to say that federal money creation is a free lunch—money is no more than a claim on real resources, which are limited, and if more money is printed than can be used by real resources the result is inflation, which can spiral dangerously. But inflation is dampened during recessions (when demand for goods is reduced), and is an especially distant prospect at the moment.

So that’s where we are, in Montana and more or less everywhere else. Either the federal government implements a massive stimulus designed to keep both people and businesses afloat for the time-being, or the bottom could fall out for the foreseeable future. As of this writing the third and largest stimulus bill was still being finalized. It is unclear whether it will do enough to save small businesses, but is likely at least a good start.



About Author

Brock Smith is an Assistant Professor in the Department of Agricultural Economics and Economics at Montana State University. He received a PhD from UC-Davis in 2013 and spent three years as a Research Fellow at the Oxford Centre for Analysis of Resource Rich Economies. He mainly studies effects of oil and natural gas shocks in both an international and domestic US setting.

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