The Recovery begins

  • Economic data remains weak and Q2 GDP numbers will be awful almost everywhere
  • But confidence is rising, if from low levels, and frequently rising more than expected
  • It is difficult to spot turning points as they are happening, but it does seem that the recovery has begun


One question that has been asked ever since economies were thrown into steep decline at the start of national lockdowns was how quickly they would start to recover when the lockdowns were eased. With most countries re-opening large parts of their service sectors in recent weeks, we will soon have a chance to start finding out.  And we believe that the world might be pleasantly surprised.

This is not to say that the standard indicator of economic activity – GDP – will suddenly leap back up to pre-crisis levels.  Q2 GDP data will begin to hit headlines in July, probably beginning with China, then the USA, the UK and eventually Japan and the Euro Area, with a host of smaller economies thereafter. And the numbers will be horrendous. But GDP is a lagging indicator — it tells us where we were not where we are heading. For that, we need to look forward and for that, the best tools we have (other than anecdotal evidence) are the so-called leading indicators.  And among the most useful for economists are business and consumer surveys.

These surveys are important because these are the most reliable very near-term indicators of business and consumer attitudes and intentions. We can all look at anecdotal evidence – the number of people saying they will be going to pubs and restaurants and so on – but what really counts is what those providing the service at the pubs and restaurants are doing and planning to do.  This is particularly true for surveys of small and medium-sized enterprises, whose owners tend to be very much on top of near-term developments (they need to be, otherwise they would not survive).

Among the different types of indicators, two key surveys to look at when gauging a recovery are those measuring industry and consumer confidence.

Industry is crucial because it is so volatile. While in every advanced economy the service sector is considerably larger than industry, a good rule of thumb is that maybe up to half of services are services to industry, and hence dependent on industry developments. Consumer confidence is also important because much of government policy to cope with the pandemic has by necessity involved scaring households (whether locked-down or not) into staying at home or out of public spaces and gatherings, and the state of consumer confidence will therefore tell us whether those same households have been permanently frightened or are prepared to go out and spend once the health situation improves.

At the moment, it seems that we are seeing two trends. The first, which is general across most major economies, is that confidence is improving, albeit from very weak levels. This is not so much of a surprise and so not of great significance.  The second trend, which is not quite as clear or universal but which I think is genuinely there, is that confidence is not only improving, but improving by more than expected. This is more unexpected and therefore more significant.

This “better than expected” story is true of key US surveys such as the ISM manufacturing survey and the NFIB small business indicator (as well as the NAHB housing market index)[1]. The message from the University of Michigan consumer sentiment survey[2] is less clear, but expectations improved in June from a low point in May. In other economies, the German Ifo index[3] reached a four-month high in June, and crucially, the gap between the “current situation” and the “future expectations” sub-indices widened in favour of the latter, a clear sign that confidence will continue to strengthen.

For the Euro Area, the European Commission’s Economic Sentiment Index (ESI) rose to a three-month high in June, a trend mirrored among most major members with the significant and unsurprising exception of Italy. More importantly, there was also a pick-up in industry and consumer confidence (again with Italy a laggard among the major economies).  And in China, which of course had a head start, both into the pandemic and (hopefully) out of it, purchasing managers’ indices are edging up.

The major exception to these (moderately) favourable news stories is Japan. Although Japanese consumer confidence and the Economy Watchers’ Index are both picking up, the quarterly Tankan survey[4] for Q2 came in both worse than in Q1 and below expectations, and with an even more pessimistic outlook for Q3.

Is it too early to call the recovery? Could improving confidence be reversed? Of course it could. Certainly, renewed major outbreaks of COVID-19, with widespread local or regional lockdowns could reverse the trend (even if reimposed national lockdowns are less likely except in very small countries).  Moreover, the road out of the pandemic depression will be bumpy and it will almost certainly take a number of years before we recover to pre-pandemic output levels.

However, the direction is now clear and when one day, the bookend of the pandemic depression is determined by economic historians, it will turn out to be right about now. Even the Bank of England thinks so, according to the main story in The Times one day last week. The Bank is also forecasting a V-shaped recovery, something I have argued for in previous Comments as the most likely near-term development (although in my view, the recovery will eventually trail off). In turn, that would be good news for financial assets, which in any case will benefit (indeed already have benefited) from the massive monetary and fiscal stimuli.

Sentiment is a strange thing.  The same people who are keen to deny that a crisis is upon them can become over-gloomy and refuse to admit that the worst may be behind them.  Norman Lamont famously as Chancellor of the Exchequer saw the “green shoots of the recovery” in the summer of 1992, well before anyone else could see them – he was laughed at at the time, but the statistics, when eventually compiled, proved him right.  And so it may prove now.  The world is by no means out of the economic woods – but we might just be seeing the beginnings of better days.


[1] ISM survey:  A monthly composite index, released by the Institute for Supply Management, based on surveys of 300 purchasing managers throughout the USA in 20 industries in the manufacturing area.

NFIB survey:  The National Federation of Independent Businesses small business optimism index, providing an indication of the health of small businesses in the USA.

NAHB housing market index: The National Association of Home Builders measure of US housebuilder opinion on current and future home sales.

[2] University of Michigan consumer sentiment survey:  A survey across the USA of household spending intentions, conducted monthly by telephone.

[3]  Ifo Business Climate index:  A closely followed leading indicator for economic activity in Germany, prepared by the Info Institute for Economic Research, Munich.

[4]  Tankan Survey:  An economic survey of the state of large Japanese firms, carried out by the Bank of Japan.