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January 2012

We are considering what the range of plausible economic outcomes is from here and the implications across that range. Data is starting to come in that confirms our analysis that the level of global GDP has dropped a little over 20%. This is of course catastrophic, and the rate of the downturn is unprecedented. But knowing what has occurred doesn’t do much to reduce the range of outcomes from this unique economic shock and the wide range of fiscal and monetary responses. Deep economic contractions that don’t quickly resolve themselves have second- and third-order linkages. This is the case whether a contraction is originally caused by central bank tightening in response to inflation, the bursting of a credit bubble, a commodity shock, a balance of payments crisis, or a pandemic-driven income shock. Adequate monetary or fiscal easing can mitigate these second-order effects, so understanding deeply how these tools work is a necessary step in visualizing how the economy and markets will unfold.

Reflecting on Memorial Day, CEO David McCormick sent the following email to Bridgewater employees on May 22, 2020.

The Two Economies: The Top 40% and the Bottom 60%

The pandemic and the shutdowns that followed have opened two distinct but related holes—a hole in incomes (the real economy), and a hole in asset markets. If left unfilled, these holes would produce a self-reinforcing collapse and intolerable economic and social outcomes. The longer they persist, the greater the accumulated problems and the higher the likelihood of prolonged economic weakness as households and businesses sell assets and eat through cash balances until more and more entities are bankrupt. Faced with this, the main policy choice is whose balance sheets will bear the losses, which will determine to some extent how the economy rebounds after the health emergency eases. Many policy makers are now attempting to use government balance sheets to fill these two holes through coordinated monetary and fiscal policy (MP3)—filling the gap in markets with the central bank balance sheet through QE, and filling the gap in incomes with the government balance sheet through fiscal stimulus monetized by that QE. The intent is to avoid a collapse in markets and to bridge the gap in incomes so that when the pandemic is over companies are still intact, workers can get back to work, and the economy can quickly get back on its feet. In other words, policy makers hope to reduce the impact of the pandemic to a short-term interruption in activity and avoid long-term economic problems.