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Coronavirus, oil prices, a service sector economy and bailouts

Posted by Bahr, Kevin - March 9, 2020 - Business and Economics, Center for Business and Economic Insight

Another week that began with stock market turmoil. 7%, 13% and 20% – those are the magic drops in the S&P 500 that trigger “circuit breakers” for the New York Stock Exchange (NYSE). Circuit breakers are when stock market trading is halted to give investors and traders a breather to assess what is going on and avoid panic selling. A decline of 7% triggers a 15-minute halt in stock trading; a 13% decline triggers another 15-minute halt. If the S&P 500 declines by 20% on a given day stock trading is stopped for the day. On Monday morning March 9, the S&P 500 declined by over 7% and trading on the NYSE was temporarily halted. The uncertainty of the coronavirus on global economies was evident once again.

Contributing to the turmoil, the dramatic fall in oil prices due to changes in both demand and supply. On the demand side, a slowing global economy due to the coronavirus has contributed to less oil demanded as travel and factory production has declined. Oil prices had already been under pressure on the demand side when Saudi Arabia announced it would increase oil production and launch a price war against Russia, after Russia disagreed with OPEC proposals to cut oil production. On Monday morning March 9, oil prices dropped approximately 20%. After trading at over $60 a barrel in early January, the price of West Texas Crude fell to only $34 a barrel on Monday morning March 9.

Another precipitous decline in the stock market and the fall in oil prices may present several challenges for the U.S. economy – and policymakers. The stock market decline includes the growing uncertainty over future consumer spending. Much of that spending occurs in the service sector. 

According to the U.S. Bureau of Labor Statistics, nonfarm payrolls in the private sector consisted of 128 million jobs as of February 2020. Out of those jobs, approximately 107.2 million (about 83 percent) were in the service sector, approximately 20.8 million (about 17 percent) were in the goods-producing sector. What is the significance of a service sector economy given the current economic environment?  That sector includes jobs in transportation, retail trade, restaurants, real estate, movie theaters – industries that depend on personal visits and service. Many of those jobs are within small businesses.

If travel and leisure activities decline, many service sector businesses and employees of those businesses could face financial difficulties. The challenge for government officials and policymakers is to be prepared and have an economic/fiscal plan. Hopefully, the stock market declines will reflect only temporary, short-term economic challenges for firms and employees. However, the stock market does reflect expectations of future profitability. Since early February, the NYSE index of airline stocks has dropped nearly 40% while Carnival Corporation stock has declined almost 50%. The point is simple, a worsening economic environment may create substantial financial difficulties in a service sector economy. The drop in oil prices may significantly hurt certain energy companies; airlines, cruise ships and other leisure industry companies may take a huge hit due to travel declines. But it’s not just the large companies. It is also small businesses that are highly dependent on customer visits and customer service – including transportation (like UBER), retail trade, restaurants, and movie theaters that may have a difficult time withstanding any significant economic downturn in their business.

The recent cut in interest rates by the Federal Reserve did little (if anything) to help the economy and financial markets. It is not an interest rate problem. Any economic slowdown will primarily be caused by a demand problem – a drop in consumer spending. This could potentially be at least partially offset by an economic plan featuring fiscal policy – government spending. Many firms and their employees could face significant short-term financial difficulties. The U.S. government could face some interesting choices. How will employees and firms be helped (if at all)? Will all (or any) firms facing financial difficulty be helped? Will the U.S. only help those firms that are “too-big-to-fail”? And what about employees. What help would be available to those experiencing financial difficulties and/or losing their job? Certainly the U.S. is not at that point yet, and hopefully never gets to that point. However, having a plan or at least discussing plans to address these issues before they occur would be prudent. These choices become even more challenging as the United States budget deficit surpassed $1 trillion in 2019, as deficits have continued to grow since the recently implemented tax cuts.

Kevin Bahr

Prof. Kevin Bahr, Ph.D. is the chief analyst of the Center for Business and Economic Insight at the University of Wisconsin-Stevens Point School of Business and Economics. Follow his blog for the latest news from CBEI.

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