Another Round of Stimulus: Trick or Treat?
October 26, 2020
By Michael List, CFP®
As we speed through the 4th quarter, I am anxiously awaiting several year-in-reviews for 2020. What will the authors point to as defining themes of 2020? Certainly, the coronavirus and its long ranging effects will be a considerable focus. The elections, too, will have their fair share of commentary.
But in the investment world, no year-in-review would be complete without a discussion on stimulus.
At the onset of our Coronavirus response, the government unleashed massive monetary and fiscal stimulus. Now, there is talk about an additional round of stimulus checks for Americans. Will it really happen? And if it does happen, what are the ramifications of such a policy? Let's take a look:
Doesn’t More Stimulus Mean Inflation?
In our recent Economic & Market Commentary, we noted the law of physics that apply to the financial world, namely:
Mass x Velocity = Momentum
We used this formula to illustrate why expectations for higher inflation have failed to come to fruition.
To briefly summarize, the supply of money from the beginning of the year (Mass) grew by $3.4 trillion or 22%. Most of the Money Supply growth came in a few short weeks and this alone would slow the Velocity of money. Let us take a very hypothetical scenario. Imagine I’m running a race and someone puts my middle child in my arms. Now, my Mass just rose 22% and Newton says my velocity is going to slow. If I keep running and training, eventually, I can increase momentum and velocity will begin to accelerate, but that takes time.
The stimulus will work its way through the economy and momentum will increase, but it takes time. Some of it has already started, we have seen retail sales rebound and unemployment fall; but much of new money supply is sitting idle. Federal Reserve Economic Data shows bank deposits up $2.5 trillion since the beginning of the year.
How Well Did the First Round of Stimulus Work?
We have often said, stimulus affects the bond and stock markets first then the real economy. That is what we saw in the past few quarters, as bond rates have declined and the stock market formed a V-shape recovery. This is also why the market has been focused on another round of stimulus.
By most accounts, the initial stimulus accomplished the intended goal to provide the economy with liquidity, increase asset prices, and provide a stopgap for household finances during the shutdown and quarantines. Going forward, additional stimulus could provide liquidity for sectors that are still struggling and possibly a boost to markets. But longer term, it remains to be seen if the stimulus will translate to higher economic and corporate profit growth.
So ... How Likely is a Second Stimulus?
Although we think more stimulus is probable at some point, based upon ongoing talks between political leaders, the exact timing and specifics remain unclear.
If there is a second stimulus, we know one thing for sure: it won't happen until after Election Day, since both houses of Congress have now adjourned until Nov. 9. We can also expect the second round will likely be more targeted than the previous stimulus relief, however the short-term effects will probably be similar — affecting the bond and stock markets first, and then the real economy.
If you would like to learn more about the stimulus effects on the money supply, see how your account is positioned, or simply do some year-end planning, we're here to help. Meet with an advisor today.