We can learn something from prior downturns.
Now that we’re in the middle of an economic downturn, there’s a lot of discussion about how long it will take to begin a recovery. Is the recovery curve going to take the shape of a V (a quick recovery), a U (slower), or even the dreaded L (a long, slow recovery)? That’s certainly a hot topic for any of us who own a business. The question is: how fast will business recovery be from this downturn?
The good news is that we can look back at history and past downturns to get some clues about what might happen next in terms of an economic recovery. When you look back, you can see that economic recessions in the past fell into three categories: structural, cyclical, and event-based.
1. Structural (An “L” Recovery)
A structural downturn results from something related to a fundamental element of the economy. One prime example is government regulation. Just look back to our last downturn to see how a legal or policy change by the government can inadvertently lead to an economic recession. In this case, the policy was to loosen the lending standards to make it easier for Americans to buy homes. That is certainly a noble cause. But what happened instead was that banks began lending money to people who couldn’t afford the loans or the homes they were buying. Inevitably, in time, the real estate market collapsed like a house of cards–bringing the economy down with it. Recovery only began when those bad mortgages were finally cleared out of the system–something that took years to accomplish. At the same time, the rules also needed to be rewritten to ensure that lending standards were more rational to help avoid similar crises in the future. The problem with structural downturns is that they can take a while to recover from–which means it’s more like a cruel “L-shape” that takes place over several years.
2. Cyclical (A “U” Recovery)
A cyclical downturn is the product of the markets exhibiting “irrational exuberance.” In other words, we have seen cyclical patterns in the stock market where assets become overpriced to irrational levels–and then predictably fall, causing a recession. Just refer back to the dot-com boom and bust back in 2000 where entrepreneurs with little more than a business plan could raise millions of dollars by going public. The good news is that recovery from a cyclical event can happen relatively fast–a shorter “U-shape–because it’s just resetting market expectations instead of needing regulatory change. Once the market is cured of its irrationality, it can get back to business.
3. Event Based (A “V” Recovery)
Our third category is recessions that are caused by an event of some kind. One example many of us remember is the horrific events of the 9/11 terror attack. There was a tremendous market correct in the aftermath of that day. But it wasn’t long before people overcame their fears of flying or staying in hotels, and the economy rebounded in a shark “V-shaped” recovery. Things went down–and then back up–very quickly.
What about the Covid-19 crisis we are facing now? What category does it fall into? I’d argue that it blends two types of downturns: it includes some elements of an event (the pandemic hitting) with some regulations–the resulting shutdown of the economy through quarantine.
That means that while many people were hoping for a “V-shape” recovery, the fact that the virus continues to pose a threat–which means further regulations could have an impact on the economy and extend the downturn. That promises to be hard for those businesses like gyms and bars who continue to be limited by regulations and their ability to open at full capacity. Unless these organizations had the foresight to put away some cash reserves, it might be difficult for them to stay alive until the recovery finally begins in full–which might not happen until we have a vaccine. A national fitness chain, Gold’s Gym, for example, has already declared bankruptcy. Unfortunately, we don’t know with any certainty when a vaccine might arrive.
There are segments of the economy that face something closer to an L-shaped recovery as they will need to make structural changes to their businesses and overcome the fear that will linger in the population. A prime example is the airlines, while they have been quick to respond with mask policies and empty seats to give people space, this is not a long-term solution. Their economics don’t work with half-full planes. There are fundamental structural changes needed beyond those that have been taken before people are comfortable flying at the rate we did in the past.
Of course, not every company has been adversely affected by the pandemic. Companies in the business of making video conferencing, food sold in markets, or masks, or, yes, toilet paper, have seen increased demand during these times. These companies haven’t seen a dip at all.
As you look to the future inside your business, realize these are unprecedented times. We all hoped for a V recovery, but it looks like a U is more likely and in some segments of the economy, they will be coping with an L recovery. But history does give us some clues about how and when we might be able to rebound–and a lot of that will depend on those scientists hard at work on creating a vaccine that will end the fear that’s currently holding the economy back.