We’re Not All Going To Get COVID-19, But We Are All Going To Pay For It

The COVID-19 crisis has shaken the economic landscape of nations on a global scale. In the United States, our economic response has created a snowball of deficit and debt which is rolling down the steep decline of years of deficit spending, and it is gaining speed and mass at an alarming rate. The consequences of COVID-19 and the corresponding stimulus response will be of significant magnitude. Even if we discovered a cure tomorrow, it is not possible to undo the nearly $3-5 trillion in economic response. We need to look at the ramifications of trillions of dollars in direct aid coupled with lost revenue to understand the bigger picture of the current and developing economic situation. More importantly, we need to take an honest look at the tools in our arsenal for repairing our crippled economy. 

Primary Issue: Aid and Stimulus. First, consider the primary economic stimulus from the Federal Government. As of April 16, 2020, we have had four COVID-19 stimulus bills that total $2.8 trillion. To put that in perspective, all federal individual income taxes collected in the US for fiscal year 2019 totaled $1.7 trillion. All federal corporate taxes collected in 2019, which was a good year, were computed at $230 billion. In 41 days, we spent 164% of the entire previous year’s total income tax collections. We may want to note that we ended fiscal 2019 with about a $1 trillion deficit, so if everything became perfect tomorrow on the health front (miracle cure), we would have a deficit of about $3.8 trillion dollars. In other words, our deficit is greater than all our revenues. Wait, it gets worse.

Revenue. A huge deficit is troubling, but even if the miracle cure came tomorrow, we would still need to confront the massive amount of lost tax revenue which will further exacerbate the problem. Consider the example of a single person making $52,000, or about $1,000 a week. Their check looks something like this:

Out of a paycheck, the federal government was collecting $184 from the employee, and the state was collecting $39, depending on the state. We should note that the employer also pays into Social Security (up to a base on wages of $137,700) and Medicare (no base on wages), as well as Federal Unemployment insurance, so the federal government gets $368 (plus some unemployment taxes) every week. The state also gets, in addition to state income taxes, the unemployment taxes paid by the employer (which is usually about 5.4% of the first $7,000 of wages for the year).

If our fictional worker is laid off and begins collecting unemployment, plus the CARES Act’s supplemental payment ($600), their ‘check’ looks more like the chart below. For our calculations, we’ll use the average state unemployment benefit:

Our hypothetical employee is making more unemployed than when working. Even though unemployment benefits are taxable, they actually net more because they aren’t paying into Social Security or Medicare. However, the Federal government is paying the $600, getting $104 in taxes on what it paid and losing $368 in lost taxes it would have collected if our person was working. In our example, the unemployed person is costing the federal government $864 a week in benefits and lost revenue. Comparatively, state governments are worse off: They were getting $39, now they are paying $387, getting $38 and losing $39. The average state is out $388 a week in our example.

Businesses. A large part of the massive stimulus is the PPP program, which provides forgivable loans to small businesses (the definition of which is loose, at best). If all $659 billion is used (which it likely will be) and 70% is forgiven by companies meeting the criteria, that’s $461 billion tax-free to small businesses. Depending on the business type, that could be a loss of 21% (if it’s a C corp.) or up to 37% (if it’s a pass-through). If we say the aggregate tax rates are 25%, that’s a loss of $115 billion of revenue.

In addition, most bigger companies are suffering greatly from the shutdown and fallout from the virus. For Q1, the S&P 500 reported an earnings decline of 15.8% year-over-year. Q2 will likely be much worse, since the economic effects of the pandemic weren’t felt until March of 2020. Lower earnings, lower taxes. To add insult to injury, the CARES act rescinded the Net Operating Loss Rules, allowing businesses to carry-back losses and get a refund of taxes paid in prior years. As a simple example, about $230 billion were paid in corporate income taxes in 2019. If half of the companies that pay taxes sustain a net operating loss for 2020, the government loses half of $115 billion in revenue and gives back another $115 billion in refunds.

There’s more. Of course, there’s more, changes in supply chains, for example, and how that may be positive (more manufacturing back in the US) or negative (ports cities and consumer prices) depending on your vantage point. What about the disparity of the costs on states? Some states, especially tourism-driven states, will sustain huge COVID-19 economic damage, while others will not, but all citizens will bear the burden of at least some of the costs. What happens to property taxes in light of a decline in the rental stock for commercial property? What if 20% of all employees continue to work from home? What happens to global trade? How well does Social Security work when millions of people (and their employers) aren’t paying into an already-stressed system?

The way out?  General wisdom dictates that it is inappropriate to present a problem without a solution. I think there’s hope. We should note that the US, and the world, made it out of the one-two punch that was 1917-18 (it included a World war and Global pandemic) with a period of prosperity. Similarly, we (and Japan and Germany) recovered and thrived after World War II, which produced not only immense human casualties, but physical destruction. I liken this current pandemic to a waterless tsunami, with immense human loss, but without the complication of property damage, and I believe that human history illustrates a pattern of overcoming adversity. However, this crisis not only causes a massive primary, but also secondary, collateral budget damage to the US economy. In 1916, the maximum income tax rate was 15%, by 1917, it was 67% and by 1918, 77%.  In 1945, the maximum income tax rate was 94%. We will eventually have to pay for this. I see only three ways:

·       More revenue (higher taxes)

·       Less expenditures (unlikely, with massive increases in debt)

·       Inflation (to lower the costs of debt repayment and inflate tax revenues)

After the infection vector has subsided, don’t be surprised to hear talk about a national sales tax or an increase in the upper tax rates, or repeal of the estate tax exclusions. Don’t be surprised if they want to pull the ceiling off the wage base of Social Security and make people pay on it up to a larger number.

Bottom line. I’m just a simple numbers guy. I hope and pray that Dr. Fauci comes on TV and announces that over 50 million of us have already had the disease and survived nicely and that peppermint Lifesavers cure COVID-19, and we’ll all get a free roll and can go about our lives. But irrespective of how quickly this pandemic is resolved, the economic impact will reverberate for a long time in our lives, our society, and our economy. Now more than ever, is the time for a reasoned, and detailed, look at our financial lives. We need to revise our financial plans, for ourselves, our companies, and our culture.

Stress and adversity can highlight the worst in people (e.g., hoarding essential supplies) but it can also bring us together to care for one another and work towards cohesive solutions for ourselves and the generation to come. I see challenges on the horizon, but I believe we can, and will, overcome them.

There are interesting times, to paraphrase the now-famous Chinese curse.

Stay safe, we’re all in this together.