In the past week, events have moved with dizzying speed. Major metropolitan areas such as New York City have more or less shut down. Public spaces, including restaurants, bars, movie theaters, performing arts centers, and many other businesses have been closed by order of state and local governments. Unemployment filings rose by 30% last week and are expected to go much higher.
An article in Bloomberg News (https://www.bloomberg.com/news/articles/2020-03-22/morgan-stanley-sees-u-s-economy-plunging-30-in-second-quarter) on Sunday gave us some new reports from economists at Morgan Stanley and Goldman Sachs. Ellen Zentner of Morgan Stanley told clients her team expects U.S. GDP to fall by 30% in the next quarter (April-June), and the unemployment rate to rise to a 12.8% average. For their part, Goldman Sachs’ team, led by Jan Hatzius, now expect global GDP to drop by 1% this year, a larger drop than in the 2008 financial crisis, and they expect U.S. GDP to decline by 24% in the next quarter. In addition, the president of the St. Louis Federal Reserve Bank, James Bullard, speculated that we could see a GDP drop of 50%, with unemployment of 30%. This is probably a “if nothing changes” type of prediction; certainly it is an outlier. Bank of America predicts a 25% drop, while J.P. Morgan Chase foresees a drop of 14%. Other economists are also speculating that we are already in a recession and that it could be worse than the “Great Recession” of 2008.
In a blog last week, I drew comparisons with that earlier crisis, pointing out that most payments activity goes on regardless of consumer or business spending and that it would take a truly catastrophic situation to actually cause payment volumes to decline. Are we there yet?
As I noted in that previous blog, Visa’s most recent report to the Securities and Exchange Commission (https://investor.visa.com/SEC-Filings/), on March 2, 2020, said that Visa was lowering its guidance by 2.5–3.5% below what was forecast in its January 30, 2020 earnings call. Since that guidance was “low single digits,” we don’t know exactly what that means, but the current analyst estimate of earnings per share for the second quarter (Visa’s fiscal year begins on October 1) as of this writing is $1.39, down 5% from $1.46 in the first quarter (see https://www.wsj.com/market-data/quotes/V/research-ratings).
Looking at the other card networks, we see a similar although less severe situation:
It is only in March that we have started to feel the full effects of the pandemic, however, and economists now expect the worst to come in the next quarter. Therefore, we should not take too much comfort in these results, nor in the actual quarterly earnings, which will not come out until April 22, 2020. In fact, we will not know exactly what the effect has been on Visa until the third quarter earnings release, due at some point in July. The current consensus estimate is for earnings to rise to $1.52, but there is a wide range; another drop in earnings is possible. In any case, the equity analyst community is not yet seeing a major drop, much less a shift to losses. Most analysts still have a “buy” recommendation on Visa. As for the other networks, the estimates are mixed, with a wide range of values. Mastercard EPS are also expected to go up, American Express is expected to go down somewhat, and Discover is expected to go up slightly. None of this suggests that the analysts believe the sky is falling.
Are the analysts not reading the newspapers? Perhaps, but their view does give me some comfort that we are not alone in maintaining that the effects of the pandemic on the payments industry will be modest, certainly on an annual basis. If (and that is a big if) the current “social distancing” campaign succeeds in flattening the spread of the virus, we could see a revival of economic activity. Certainly, the pressure on government to balance the economic costs of the shutdown with the public health risks is growing. The President was reported to be considering easing some of the restrictions in the name of saving the economy although it is unclear when he might do this or whether the states would go along. Nor is it clear whether consumers would respond favorably to businesses reopening; some may continue to stay away.
Congress and the Federal Reserve are engaged in an unprecedented level of stimulus. Just today (https://www.nytimes.com/2020/03/23/business/economy/coronavirus-fed-bond-buying.html), the Fed unleashed a new, even more aggressive round of “quantitative easing,” including for the first time financing corporate debt and commercial real estate debt. This is the third “shock and awe” move from the Fed, intended to demonstrate that the old rules have been thrown out the window and the government will do whatever it takes to support the economy. As of this morning, U.S. stock markets were down on word that Congress has been unable to agree on a $2 trillion stimulus package, but we expect this to be resolved soon because (a) the fight is about how to spend the money not whether to spend the money; and (b) Congress and the White House are under gigantic pressure to be seen doing something big.
This means that we are about to see a huge amount of federal money injected into the economy. Much of that will be in the form of direct assistance, which will keep businesses going until the crisis eases. It will also enable consumers to continue spending money, which will limit the impact on payment networks and processors. Since networks and processors have limited exposure to credit risk, even if banks and credit unions see an increase in delinquencies it should not seriously hurt them as long as transaction volumes and values stabilize.
As for delinquencies, we are already seeing most large banks and card issuers in the U.S. offering to work with distressed borrowers to allow them to skip a payment or pay less than the minimum due; Goldman Sachs, through Apple Card, is already allowing customers to skip their March payment, no questions asked. With the Fed’s support, the banks and credit unions can afford to relax their normal rules on collections and charge-offs, although that will require a greater degree of coordination than currently exists. I consider it likely that such discussions are already going on.
After all, the unemployment numbers do not reflect decisions by companies that their businesses are no longer viable. Rather, the decisions are temporary measures that will be ended once the shutdowns cease and people can return to work. Restaurants and other affected businesses can be expected to rehire their workers once they reopen. In the meantime, essential businesses and delivery services are hiring: CVS today announced a massive hiring initiative, while Amazon is seeking to add 100,000 workers to its warehouses and delivery services. Grocery stores and supermarkets are also looking to hire. Although not everybody will want these jobs, they will reduce unemployment.
In conclusion, while the situation has steeply deteriorated in the past week, world governments are stepping up with massive cash infusions intended to limit the economic fallout from the pandemic. From a payments perspective, this will keep spending up and prevent the worst-case scenario. However, there is still great uncertainty as to how long the crisis will last. If individuals do not follow social distancing rules and continue to congregate, the coronavirus spread could accelerate, and the crisis could last beyond the next quarter. At that point, we will have to reassess the outlook. For now, we are cautiously optimistic, and will continue to update you each week as the crisis develops.