Down But Not Out: Pandemic Likely Dealt Blow To Economy, But There's Room For Hope

The resurgence in the pandemic likely dealt a major blow to the U.S. economy in the last three months of the year, though it is not expected to have delivered a knockout punch.

Most economists expect fourth-quarter gross domestic product data on Thursday will show a significant slowdown compared to the July to September quarter, when the economy staged a sharp recovery from the early days of the pandemic.

Key sectors such as leisure and hospitality have been hit hard by the pandemic's resurgence, and had it not been for the $900 billion rescue package that Congress passed in the final weeks of December, the economy might have started 2021 with a double-dip recession.

The Federal Reserve highlighted the pandemic's drag on economic activity in a statement Wednesday, while renewing its promise to leave interest rates near zero for an extended period.

"We're a long way from a full recovery," Fed Chairman Jerome Powell said. "There's nothing more important to the economy now than people getting vaccinated."

Ben Herzon, a senior economist with IHS Markit, expects Thursday's report from the Commerce Department will show GDP grew less than 1% in October, November and December.

That's a significant slowdown from the previous three months when the economy grew by 7.4% as businesses reopened from pandemic lockdowns in March and April.

(The Commerce Department typically reports quarterly GDP changes at annualized rates, but that exaggerates swings both up and down. Measured by that rate, third-quarter GDP grew 33.4% after a drastic 31.4% contraction in the second quarter.)

"We got a really strong third quarter, and then things started to fizzle out a little bit," Herzon said.

Hurt most in the last three months of the year were restaurants and in-person entertainment businesses such as movie theaters as a winter wave of coronavirus infections and deaths made consumers nervous about going out. The leisure and hospitality segment of the economy lost nearly 500,000 jobs in December.

Other segments of the economy have fared better. Manufacturing and homebuilding continue to bounce back from their pandemic slump, and consumption of goods is higher now than it was before the coronavirus struck.

"There are some strengths," Herzon said. "It's just that services, which is a very large part of the economy, is really struggling to get back to where it was."

While the U.S. has made up much of the ground it lost early last year, the economy likely ended 2020 about 3% smaller than when it began.

With COVID-19 still killing around 4,000 Americans every day, economic activity is likely to remain subdued for the next several months. But if new vaccines are successful in stopping the pandemic, the economy is poised for a strong recovery in the second half of this year.

The International Monetary Fund expects the U.S. economy to grow 5.1% in 2021 and match its pre-pandemic level sometime in the second half of the year.

Any forecast, however, comes with a number of question marks: How smoothly will the vaccine rollout go? What is the impact of new coronavirus variants? And how much more money will consumers spend once the pandemic is under control?

Americans who have kept working during the pandemic have socked away about $1.3 trillion in extra savings during the last year, according to Pantheon Macroeconomics. That could provide a significant boost to the economy, if and when they decide to spend it.

"You probably won't get more haircuts than you otherwise would have," Herzon said. "But maybe people are really tired of staying home, and they will go out to eat more than they would have otherwise."

Additional fuel could come from the federal government if Congress approves another round of $1,400 relief checks, or other parts of President Biden's proposed $1.9 trillion package to rescue the economy.

A surge in demand for airline tickets and restaurant reservations that suddenly outstrips supply could trigger a jump in prices.

But the Federal Reserve is not overly concerned that short-term price hikes will lead to runaway inflation.

"We're going to be patient," Powell said. "Expect us to wait and see and not react if we see small and what we would view as very likely to be transient effects on inflation."

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