Talent acquisition, capital investment, and innovation will be critical to an organization’s ability to adapt to the emerging challenges and opportunities of a strong but uneven economic recovery.
Broadly speaking, the U.S. was able to avert economic disaster in 2020 due to significant fiscal and monetary policy response. GDP in the U.S. fell the least of any OECD economy, except Sweden and Switzerland.1
Nevertheless, the economic and social response to the pandemic has not been uniform. Likewise, the geographic, industry, and household impact has not been uniform, leading economists to call the recovery “K” shaped. The upper and lower legs of the K indicate that the relative performance of various geographies, industries, and households is bifurcated between those that are doing well versus those that are doing poorly.
The pandemic produced a surge in goods consumption and a steep decline in services consumption. Goods consumption rose by 3.9 percent in 20202 as households purchased goods that improved their experience of working and spending greater amounts of time at home. Meanwhile, services consumption fell by 7.3 percent in 2020.3 Many parts of the services industry experienced both a supply and demand shock. A supply shock occurred because services such as sporting events or live concerts were not supplied, and a demand shock occurred because services such as air travel and indoor restaurant dining were demanded at much lower levels due to concerns about the pandemic.
|GDP (full year)||-3.5%||6.5%||5.7%|
|Inflation (annual average)||1.2%||3.1%||2.4%|
|Unemployment rate (annual average)||8.1%||4.9%||3.9%|
Turning to real estate, the residential housing market is benefiting from low interest rates, high savings, and shifting demand for what people want out of their homes. The corporate real estate market is suffering from a negative supply shock as some business are not allowed to open and a negative demand shock as other firms choose to keep workers at home until vaccinations allow the resumption of in-office work.
The K shaped recovery is also seen at the household level. Especially hard hit is the leisure and hospitality industry, which currently employs 20 percent fewer4 people than prior to the pandemic. The unemployment rate for those in roles that cannot be performed remotely is 7.6 percent compared with an unemployment rate of 3.5 percent5 for those who can work from home. In addition, income levels for those who can work from home are higher, as these positions are mostly occupied by those with at least a college education. Meanwhile, only 9 percent6 of those with just a high school diploma are able to work from home at all. This will present two very different labor markets as we exit the pandemic. We expect wages for those who can work from home to rise more swiftly than for occupations where there is higher unemployment. Additionally, the labor market for those who can work from home is substantially less bounded by geography, whereas the labor market for those who must work from a job site is bounded by geography.
As the U.S. and other economies deploy fiscal policy to prevent economic collapse from lost output caused by the pandemic, one key question economists are asking is, will this level of debt have unintended negative consequences in the years to come? That the fiscal and monetary assistance provided to weather the pandemic has helped many organizations survive is evidenced by the fact that bankruptcies in the U.S. are down from high levels seen early in the pandemic. Those companies that could increased their borrowing at the outset of the pandemic to bridge cash flow to the postpandemic period. Corporate debt was already at record levels prior to the pandemic, and we believe higher interest rates and record debt balances will serve to cool corporate debt issuance this year.
For governments, the question is more complex. The priority of governments is to maintain the firewall built around the COVID-impacted parts of the economy until we reach the postpandemic economy.
Low interest rates—substantially below the growth and inflation rate—suggest it would be wise to borrow now to return the economy to prepandemic levels. The question of how debt levels will interplay with interest rates will likely be determined by the level and type of inflation the post-pandemic economy generates. Demand-pull inflation is more durable and desirable than cost-push inflation, though some level of both is to be expected, even preferred, provided inflation does not get out of hand. As bottlenecks are emerging in goods supply chains even as demand remains strong, we anticipate further price pressure in the goods market for the remainder of this year. However, by 2022, we expect the supply constraints to dissipate as vaccinations grow worldwide, reducing work stoppages and goods shortages. Meanwhile, base effects will be another factor driving up headline inflation through the third quarter of 2021. Given these events, we do not anticipate sustained inflation above 2.5 percent over the next several years, which should allow U.S. interest rates to begin normalizing in 2023. It also means that nominal growth (real GDP growth plus inflation) could be close to 10 percent in 2021, thereby growing the numerator in the debt/GDP ratio substantially.
Much of the $1.9 trillion fiscal relief package is aimed at maintaining the economic firewall around the impacted parts of the economy, along with elements focused on increasing vaccination rates, providing assistance to impacted state and local governments, and funding to allow schools to reopen and childcare to be available.7 After the pandemic, the trajectory for recovery is dependent on a monetary policy environment that threads the needle of allowing sufficient inflation to spur growth and investment while not allowing the inflation genie to get out of hand.
One factor that works in favor of the medium-term inflation outlook not getting out of hand is the fall in labor force participation that has occurred during the pandemic. More than 2 million workers over the age of 55 have left the labor force, likely due to health concerns for themselves or their households. An additional 2.1 million prime-age workers (ages 25–54) have left the labor force.8 Several studies suggest childcare issues and health concerns have been the main drivers. The availability of childcare and education is crucial to returning labor force participation rates to prepandemic levels. The return of these workers during the recovery will contribute to keeping wages and inflation in check despite significant fiscal assistance.
The heightened level of technological know-how among firms and households is a key component of the likely productivity boost the economy may experience in coming years. We liken the current economic environment to the post-World War II era, which allowed the U.S. economy to harness high savings rates, accumulated technological know-how, capital investment, and pent-up demand for goods and services. The post-COVID era is likely poised to commensurately harness unprecedented levels of savings accumulation, low interest rates, accumulated technological know-how, and digital transformation. While the post-COVID economy will also unleash pent-up demand for goods and services, demographics will likely prevent the same level of boom seen after World War II. Nevertheless, we do expect above-potential GDP and a productivity surge that should help to propel growth for the next several years after the pandemic.
In this environment, boards should be having robust conversations with management about talent acquisition, capital investment, and innovation. Firms that continue to invest in digital transformation will be better equipped to capitalize on the growth anticipated over the next several years. While it is possible economic conditions may be hampered by supply shortages and price increases, it is much more likely that companies’ ability to adapt to the stressors of the pandemic will work in tandem with the fiscal, monetary, and technology backdrop to harness a period of strong growth in the years to come.
1 OECD, Bureau of Economic Analysis
2 Bureau of Economic Analysis, KPMG Economics calculations
3 Bureau of Economic Analysis, KPMG Economics calculations
4 Bureau of Labor Statistics
5 Bureau of Labor Statistics, KPMG Economics calculations
6 U.S. Census, Bureau of Labor Statistics
7 The American Rescue Plan Act
8 Bureau of Labor Statistics