When Will the U.S. Economy Recover?
The U.S. economic recovery paused at the end of 2020, but it will soon be ready for liftoff.
The U.S. economic recovery paused at the end of 2020, as a third wave of the coronavirus pandemic caused a retreat from the return to normal activity. This is no indication that the recovery is finishing up for good, however. Once the United States achieves herd immunity and we reach the end of the pandemic, we expect the U.S. economy to take off like a rocket.
Consumers are eager to spend, but their options are limited currently by the need to social distance. Normalization of consumer behavior following mass vaccination will mean a snap-back of consumer services, driving an overall GDP recovery (including a full recovery in the job market). Households and firms alike are in good shape on average thanks to record stimulus in 2020 and another massive stimulus injection likely coming in 2021.
We project U.S. real GDP growth of 5.3% in 2021 and 4% in 2022. We now forecast GDP to surpass our pre-COVID expectation by 2022.
(Morningstar Office and Direct clients can find the full economic outlook report here.)
U.S. Economic Recovery Paused at End of 2020 (Due to COVID-19 Third Wave)
After widespread shutdowns and plummeting confidence caused a collapse in U.S. economic activity in April 2020, the U.S. economy mounted a very impressive recovery in the following few months.
However, this recovery essentially paused in the final months of 2020. Employment was about flat from October 2020 through January 2021 and is still down 5.4% from January 2020 levels. The halt in activity growth was ultimately due to a halt in consumer expenditure growth, with nominal personal consumption peaking in October before slipping through December to down 2.6% from January 2020 levels.
The third wave of COVID-19 particularly affected consumer services spending, which ceased recovering in September.
Consumer services account for 70% of total consumer expenditure, and they have consistently been the part of the economy hit hardest by social distancing needs.
Though the full range of spending behavior has been constrained, we think consumers remain eager to spend, as evinced by very strong consumer goods sales in the second half of 2020. In particular, spending on big-ticket items like autos has been solid, which virtually never happens in a typical recession.
Mass Vaccination Will Enable a Completion of U.S. Economic Recovery
As of the fourth quarter of 2020, the hit to U.S. GDP from the pandemic recession is now entirely attributable to consumer services, and so a complete U.S. economic recovery is waiting on consumer spending on services. We believe that will come with mass vaccination in the U.S. in mid-2021.
Consumers have consistently responded to troughs in infection rates during the pandemic by increasing their participation in consumer services, such as restaurants, hotels, and air travel. We saw this pattern play out in May and June (after the first wave) and August and September (after the second wave).
Once the threat of the virus is essentially removed, we think the floodgates will open on services spending.
Services Drive Large Consumer Spending Recovery in 2021 and 2022
Our base case is that the U.S. will achieve herd immunity by May, or at least by July. Herd immunity is when enough of the population has immunity (either via vaccination or prior infection) that the natural growth rate in cases is negative, even without social distancing or other interventions. In other words, it means that a complete return to normal is possible.
With this timeline in mind, we forecast a 6.7% jump in real consumer services expenditure in 2021 followed by a 5.5% increase in 2022. Given that services account for 70% of personal consumption, this causes overall personal consumption to increase sharply, up 6% in 2021 and 4.2% in 2022.
Job Market Should Recover in Tandem With Consumer Services Spending
Ultimately, a sustained economic recovery will require a recovery in labor markets. As of January 2021, U.S. employment was still down 5.4% from January 2020 levels. This is still about as bad as the Great Recession nadir (employment down 5.6% from November 2007 through January 2010).
But if consumer behavior returns to normal when the U.S. reaches herd immunity in mid-2021 as we expect, then a strong labor market recovery is assured. This is because the industries hardest hit by the pandemic (mainly consumer services like restaurants and hotels) are disproportionately important for the labor market: They account for just 6% of U.S. GDP but 15% of U.S. employment (at 2019 levels).
Employment will recover in tandem with output in these hard-hit industries, which will be crucial for the labor market recovery. We forecast that the U.S. employment/population ratio will recover to 60.5% in the fourth quarter of 2021, only just below that of the fourth quarter of 2019 (61%). Commensurately, the unemployment rate will fall to 4.3% in the fourth quarter of 2021 (versus 3.6% in the fourth quarter of 2019).
2020 Fiscal Stimulus Furthered U.S. Economic Recovery (and More Stimulus Is Coming)
The U.S. delivered unprecedented levels of fiscal stimulus in 2020. The federal deficit/GDP reached about 16%, the highest level in peacetime U.S. history (and the highest level in any year outside of the World War II era). This stimulus caused private incomes to soar in 2020. Much of this income windfall was saved, and this store of savings will fuel higher spending and economic activity in 2021 and years to come.
Furthermore, 2021 is set to bring a near repeat of this record-shattering stimulus, as we project that the federal deficit/GDP will only slip to about 15%. This incorporates our expectation that President Joe Biden’s proposed $1.9 trillion stimulus plan is largely enacted in full.
How High Can the U.S. Economy Go?
Thanks to mass vaccination plus record levels of fiscal stimulus, there's little doubt now that the U.S. economy will not only recover from the pandemic but that it will test its limits in a way that hasn't been done since before the Great Recession.
The key question then turns to where the upper limit is. We're not ready to match some of the more optimistic forecasts we’ve seen, as we think the U.S. economy will probably start brushing up against capacity constraints around 2022. We’ll cover this topic in more detail in upcoming reports.
To explore more about our economic forecasts and the effect vaccination will have, sign up for our webinar.