COVID-19 Economic Crisis: Worse Than the Great Depression?

Why This COVID-19 Economic Crisis Will Be as Bad (or Worse) than the Great Depression

The global economy is on the brink. Unemployment is soaring, and businesses across the country are closing. Even large-scale government relief won’t be enough to stop the economic fallout.

What we’re facing today isn’t just a temporary setback. It’s the beginning of a crisis that could rival, or even surpass, the devastation of the Great Depression.

Humpty Dumpty as an Economic Metaphor

Humpty Dumpty is often portrayed as an anthropomorphic egg. If you were to drop a raw egg and let gravity take its course, putting the pieces together again would be virtually impossible. Even if you managed to glue the shell in place and put the yolk back inside, the structure would be highly unstable and prone to breakage.

Humpty Dumpty is an apt analogy for what the US and the rest of the world face in the weeks, months, and years ahead as we transition into the post-COVID-19 economic crisis. Stock prices have stabilized for the moment, no doubt reacting to the $2 trillion bailout recently signed into law by President Trump. However, don’t be fooled. We’re only a few steps in on the path to economic catastrophe—what I’ve dubbed the “Great Unraveling.”

The Surge in Unemployment: A Warning Sign

The most obvious sign of the Great Unraveling is soaring unemployment. On April 2, 2020, the Department of Labor announced that nearly 6.7 million people had filed initial unemployment claims for the week ending March 28. That’s 10 times worse than the worst week of the 2007 to 2009 recession. The previous week, ending March 21, saw over 3.2 million new claims, four times higher than the previous record.

And we’re just getting started. James Bullard, the president of the Federal Reserve Bank of St. Louis, suggests that the unemployment rate may hit 30% in the second quarter of this year. He also predicts that GDP could drop by a stunning 50%.

By comparison, in 1933 – the low point of the Great Depression – about 25% of American workers were unemployed.

Even professionals like doctors and lawyers saw their incomes drop by half or more.

Not a Temporary Issue

The mainstream media often frames this downturn as temporary. However, every day the economy remains paralyzed by lockdowns, the harder it becomes to put Humpty Dumpty back together. The longer businesses stay closed, the more damage will be done, some of it permanent. Even when restrictions are lifted, a return to “normal” is unlikely.

So, what does this mean for you personally? If you rely on a paycheck or run a small business, now is the time to make a plan for an extended period of disruption. Explore available government assistance programs. Reassess your financial priorities and make sure you have enough savings for essentials.

For small businesses, going digital is no longer an option—it’s a necessity. If you haven’t yet explored how to adapt your services online, now is the time.

Oil Prices: A Domino Effect

Consider the oil industry, for instance. Demand for oil has plummeted nearly 20% in recent weeks due to decreased consumption during the pandemic, compounded by a price war between Saudi Arabia and Russia. This translates into a surplus of nearly 20 million barrels per day. Goldman Sachs’ chief commodity strategist, Jeffrey Currie, predicts that oil prices could decline below zero in some areas because there’s nowhere to store the excess supply.

This situation has a ripple effect. Collapsing oil prices are putting unprecedented pressure on America’s undercapitalized banks. For example, Capital One made a leveraged bet on oil prices—essentially borrowing money to invest in oil futures. When oil prices plunged, the Commodity Futures Trading Commission (CFTC) had to intervene to prevent a devastating margin call. Without this intervention, Capital One could have been forced into bankruptcy.

Fragility of the Banking System

Meanwhile, the Federal Deposit Insurance Corporation (FDIC) recently released a video to reassure Americans that the safest place to keep their money is in an FDIC-insured bank. However, the FDIC’s insurance fund has a reserve ratio of only 1.41%. For every $100 on deposit, the FDIC has $1.41 to back it. While FDIC insurance helps protect depositors, the small reserve ratio exposes potential vulnerabilities. These vulnerabilities could become critical if a large number of banks were to collapse simultaneously.

If you’re worried about the stability of your bank and eventual bank bail-ins, ensure your accounts are within FDIC insurance limits. You should also consider diversifying your savings. Precious metals are a well-known hedge during times of crisis. As well as having accounts in international banks with stronger reserve ratios can give you an extra layer of security. For example, Swiss banks are known for their stability in turbulent times.

The Deflationary Spiral: A Self-Reinforcing Downturn

Over the next few weeks and months, we are likely to see an escalating deflationary spiral. A deflationary spiral occurs when businesses and consumers cut back on spending due to uncertainty, causing prices to fall. Falling prices reduce profits, leading to more layoffs and further spending cuts. As businesses and individuals scramble to cut costs and avoid loan defaults, the downward pressure on the economy intensifies. Many businesses will be forced into bankruptcy, which will further escalate deflation. Creditors will struggle to recover their loans in this environment.

This spiral also extends to the $760 billion junk bond market. Junk bonds are high-risk, high-yield corporate bonds, often issued by companies with weaker financials. As the economic downturn deepens, we can expect a tidal wave of defaults on these bonds, which could lead to massive losses for mutual funds, pension plans, and insurers that invest in them.

For investors, now is the time to reassess your exposure to high-risk assets like junk bonds or stocks tied to struggling industries. Do you have a diversified portfolio that can weather this storm? Consider reallocating your assets to safer investments that historically hold value during downturns, such as gold and silver.

Local Governments and Pensions Under Pressure

Many economists are concerned about the trillions of dollars the federal government is borrowing to cope with the crisis. But state, county, and local governments are in even more dire straits. Unlike the federal government, these entities cannot print money. As revenues from income taxes, sales taxes, and property taxes dry up, they will be forced into austerity measures, leading to layoffs, service cuts, and infrastructure neglect.

The more than 5,500 state and local government pension funds that are heavily invested in stocks will experience even steeper losses as the market falls further. Many of these pension plans were already underfunded before the crisis began. Now, they face the risk of collapse, potentially leaving millions of retirees without their promised benefits.

Emerging Into a New Reality

When the quarantines end, we won’t simply return to the world we knew. Instead, we’ll face widespread unemployment, bankruptcies, and a fundamentally weaker economy. Tens of millions of Americans will permanently lose their jobs, and hundreds of thousands of businesses may be driven into bankruptcy. Homelessness, already a crisis, will likely spike as unemployment reaches 30%.

How are you preparing for this new reality?

If you’re employed, now might be the time to develop new skills that could make you more resilient in a shifting job market. If you run a business, have you explored ways to diversify your revenue streams. Or move your business operations online to adapt to changing consumer behavior?

A Final Word of Caution

While it’s never a good idea to panic, the road ahead will be long, slow, and painful. The Federal Reserve, the FDIC, and mainstream media voices will tell you not to worry, that things will return to normal. However, history tells a different story. During the Great Depression, stock prices fell nearly 90%, and it took over two decades for the market to fully recover. Even the milder recession of 2008-2009 saw stock prices fall by over 50%.

What we’re facing now is unprecedented. We must brace ourselves for significant challenges ahead and prepare accordingly. Patience, caution, and foresight will be critical as we navigate this post-COVID-19 economic crisis world.

In these uncertain times, how are you protecting your financial future?

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