Economist says worst of pandemic is over, but full recovery is far off

CME's Blu Putnam offers insights into scope of recovery and sentiment in commodity markets

25 June 2020


In a keynote address at IDX-V on the impact of COVID-19, CME's chief economist used recent data to paint a picture of how much uncertainty was created by the pandemic and just what it will take to achieve a full economic recovery.

Blu Putnam, managing director and chief economist at CME Group, outlined the global economy generally and derivatives market sentiment, in particular, using economic data and trends across commodity markets. However, he was quick to point out up front that traditional economic theory can only tell us so much about the current environment. "If you took economics 101, you were taught what we call comparative equilibrium economics. That does not apply. We are in a dynamic situation," Putnam said.

He instead likened the situation to a "phase transition" where water is boiled and becomes steam -- an event that requires a lot of energy and creates a lot of "chaos" on the surface amid the final change from a liquid to a gas.

Putnam said the primary challenge for the global economy in March was a "cascading network collapse," a phenomenon akin to when "dominoes fall" in one area and upset the state of things elsewhere. Few dominoes are still falling as we enter summer, he said, and lately the global economy has entered a "restructuring phase" where it analyses how far things have fallen and what the capabilities are to climb back up again. The good news is that we may have hit bottom and that restructuring is "a very short phase" Putnam said, before the economy rises from the bottom of the crisis. However, he noted that this phase is a crucial one because the plan to rebuild demands exploration of a multi-year recovery phase and the length of time for full recovery is ultimately determined on both the speed of response as well as its effectiveness.

Putnam stated that responses to the pandemic come in two types: supportive, which "help get from one side of the crisis to the other" by softening the damage and "regenerative" policies that assist in speeding up the pace of rebuilding.

"Most of the policies today have been supportive, but now we're looking toward regenerative policies," Putnam said, pointing to efforts such as a massive increase of $3 trillion in the U.S. Federal Reserve's asset portfolio in an effort to stabilize financial markets. However, "we're now looking for another round of policies that include spending that would otherwise not have occurred that will put people back to work: infrastructure spending or grants to state and local government." Ultimately, these are what market participants much watch to determine how fast recovery back to prior levels will occur, he said.

"Unfortunately, this is probably going to be pretty slow," he said, given both the massive impact of the pandemic and the practical challenges that have prevented recovery packages from having bigger or faster impacts as quarantine creates natural challenges for traditional relief. Beyond a general look at the crisis, Putnam also focused specifically on commodity derivatives markets and how sentiment shifted across the early days of the pandemic. A look at market data including futures and options pricing can be seen as a measure of sentiment about forward prices, he said, and tells us whether the market is generally optimistic or pessimistic.

In regards to oil, the sentiment has largely stabilized - however, there remain "fat tails" where a small number of market participants still have expectations of either a big move higher or a big move lower in the near future. He said that's a factor of all the uncertainty created not just by the pandemic but also by other circumstances including a move away from fossil fuels, as well as trends in Russia and Saudi Arabia oil production and general infrastructure concerns about transportation and storage.

Looking at investor sentiment for gold based on commodity market data, the picture is the same with most market participants largely neutral but a few investors on the extreme ends of pricing predictions because of all the uncertainty. Putnam noted that is in part because of uncertainty around the recovery, but also about uncertainty around whether government responses will spark inflation that will fuel an increase in gold prices as a result. "There are no inflation risks while we're in the crisis, but once we're out of the crisis, do they keep buying assets? Do we keep running big budget deficits? That will determine whether or not we have deflation or whether we have inflation and what the inflation risk would be if we kept on spending, even after we didn't need to, several years down the road," Putnam said.

Perhaps most interestingly of all, Putnam explored sentiment in agricultural commodities that have been affected not only by the pandemic but also by global trade tensions with China. He pointed to "conflicted" sentiment back in April where the data showed few market participants were neutral on corn prices but instead were split into either a firmly negative camp or a firmly optimistic camp. Prices have since resolved into a more typical view, but the presence of such sentiment earlier this year shows just how much uncertainty the markets have had to deal with in 2020.

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