Coronavirus Recession Threatens to Push 'Precarious' American Households Into 'Financial Catastrophe,' Ex-Top Fed Economist Warns

As America looks set to enter a deep recession because of the coronavirus pandemic, the sudden and dramatic economic shock leaves many households and small businesses on the brink of financial crisis.

President Donald Trump conceded on Monday what many economists have now warned about for several weeks as measures to mitigate the coronavirus pandemic choke the domestic and global economies. Trump said the U.S. "may be" heading for recession

The White House is working with Congress on a $1 trillion stimulus package, which includes mailing checks to American households and cash support for businesses, to prop up the economy until the pandemic clears. But it still may not be enough.

David Wilcox, nonresident senior fellow at the Peterson Institute for International Economics and a former director of the Federal Reserve's Division of Research and Statistics, told Newsweek it is "a much more precarious situation than it should be."

Just a few weeks ago, the American economy was at the top of a business cycle and growing strongly, yet millions of households were riding along the edge of a financial cliff.

A Federal Reserve survey in 2018 asked American adults how they would handle a sudden and unexpected $400 expense. Sixty-one percent said they would cover it with cash, savings, or a credit card paid off at the next statement, up from 54 percent in 2015.

While this is an improvement it leaves the remaining 39 percent with difficulty paying and "extremely exposed to medium-sized shocks," Jialan Wang, assistant professor of finance at the University of Illinois' Gies College of Business, told Newsweek.

Twenty-seven percent of those surveyed said they would borrow or sell something to pay the expense and 12 percent could not cover the cost at all. Moreover, 17 percent of adults were, as it stood, unable to pay the current month's bills, a figure that rose to 29 percent if households were faced with a surprise $400 bill.

A fifth of adults had major, unexpected medical bills to pay in the prior year—and a quarter "skipped necessary medical care in 2018 because they were unable to afford the cost," the Fed report said.

Wilcox said this information is useful but the situation now facing households is significantly worse than a sudden bill. It is the loss of a job or a business, which likely means the loss of much or all of their income. "It's a financial catastrophe," Wilcox told Newsweek.

Households have also become more indebted. The level of household debt hit a 14-year high at the end of 2019, according to data from the New York Federal Reserve, reaching $14.15 trillion. The lion's share of this, $9.95 trillion, is housing debt. But $4.2 trillion is non-housing debt and its share is steadily rising.

Wang said consumer debt levels "have rebounded since the depths of the great recession, but have shifted away from mortgages and toward student and auto loans."

"Overall, much of this debt has been accumulated by older, higher-credit score consumers that might be better placed to handle a shock," Wang said. "However, the big exception is student loans, which have grown significantly and have already had very high delinquency rates for several years."

"Student loans are a big area of concern," Wang continued. "Debt levels have continued unabated for decades, and it's now the second largest form of consumer debt. Delinquency rates on student loans have been elevated for most of the last decade, and are the highest of any form of consumer debt."

Student loans had an 11.1 percent delinquency rate at the end of last year, the New York Fed data shows. Credit cards had the second-highest delinquency rate at 8.4 percent. It is probable that the recession will cause a spike in delinquency rates.

Overall, Wang said the average household "may be in a moderately better financial position" compared to where it stood pre-2008 crash "as we have not seen a huge run-up in debt relative to income in the past decade as we did in the early to mid 2000's."

"However, a direct and sudden hit to incomes in industries affected by the COVID-19 outbreak may still hit many consumers very hard, especially the large fraction that has not been able to maintain a short-term savings cushion," Wang told Newsweek.

Looking at the Fed's data, the personal saving rate was 7.9 percent in January, on the higher end of average for recent years, suggesting many people were still, until recently, putting their money away for a rainy day. It was below 4 percent before the last recession. The total savings deposits at institutions is $9.99 billion, the highest on record.

And Household Financial Obligations as a percent of Disposable Personal Income, which reflects the portion of a household's disposable income that goes on the likes of debt repayments, is at 15 percent. Entering the financial crisis it was 18.1 percent.

Still, these are average figures, and many households are not starting this recession from a position of financial strength.

"The outbreak may also affect small businesses in a more sudden and direct way, and one area of concern is that we do not have nearly the visibility into the financial health of small businesses in a timely manner as we do for consumers," Wang said.

The small business data we do have is not encouraging. The Fed's Small Business Credit Survey 2019 found that 44 percent of firms with fewer than 500 employees, who make up almost the entirety of employer establishments in the U.S., were either breaking even or at a loss.

And 64 percent had faced financial challenges in the previous 12 months. Of those, 40 percent struggled to pay operating expenses and 27 percent had difficulty making payments on debt.

Then, in its March report Dun & Bradstreet's U.S. Small Business Health Index recorded a 6.4 percent annual rise in payment delinquency and a 6.6 percent increase in credit card delinquency among firms.

The current coronavirus shock will unfold quickly. There are already reports of unemployment lines growing as businesses shut up shop, their customers and staff told to stay home and avoid others where possible for public health reasons.

The weekly unemployment claims data will likely show initial signs of this on Thursday. "You'll begin to see some indications before then that the bottom has fallen out," Wilcox told Newsweek.

Then, the monthly job reports "are likely to be the worst ever on record," Wilcox said, echoing the view of Trump's former top economic adviser Kevin Hassett.

Wilcox said May's jobs report, which covers a pay period in April, is the one to watch. This is because April's jobs report will cover data for the March 12 pay period, just before the layoffs really began.

Many people will suffer because of the recession, but some significantly more than others. Wilcox said the effects of the coming recession will not be distributed equally among the population and it is the underprivileged who will suffer first and most.

"These individuals who will be catastrophically affected are and will be concentrated by area of residence, by race and ethnicity," Wilcox said. "They will, of course, be concentrated in the bottom-half of the income distribution. They will be disproportionately exposed to having inadequate benefits packages from their employer or no benefits at all."

Wilcox said this "absolutely terrible development" is "especially damaging" because it comes just as the labor market had tightened substantially, nearing full employment and repairing deeply the wounds inflicted during the financial crisis.

The labor market's tightness was giving many people a second chance in life, Wilcox said, such as former prisoners. Employers needing workers were less picky and willing to hire people with problem pasts, and struggling communities were starting to turn around.

"That process needed to go on for as long as possible, preferably for years or indefinitely, but now that will obviously be abruptly terminated," Wilcox said.

Underprivileged people feel more acutely the problems recessions cause than better-off groups because they tend to be lower-earners, have little or no employment benefits, and live in areas of economic deprivation.

One example Wilcox gave is research showing that when the unemployment rate for whites goes up by a percentage point, it rises by 1.8 percentage points for African Americans and by 1.5 percentage points for Hispanics.

"Recessions are horrible experiences for anybody who is on the losing end, and there are a lot of people who are on the losing end, but they're especially horrible and unfair for people who occupy relatively nonprivileged positions to start out with in the economy," Wilcox told Newsweek. "Every dimension of the experience is worse."

The recession has barely started, its implications for Americans still only theoretical with many unknowns laying on the road ahead, but Trump is already talking about a "tremendous" recovery later down the line.

"We're not thinking in terms of recession, we're thinking in terms of the virus," Trump told reporters on Monday when asked about an economic downturn.

"Once we stop—I think there's a tremendous pent-up demand, both in terms of the stock market and in terms of the economy. And once this goes away, once it goes through and we're done with it, I think you're going to see a tremendous—a tremendous surge."

US economy recession coronavirus poverty
A homeless man looking for work panhandles along a street on August 16, 2019 in Lawrence, Massachusetts. The U.S. economy is facing a deep recession because of the coronavirus pandemic. Spencer Platt/Getty Images