Stock Market Reaction to Expiring COVID-19 Programs

by Jeffrey Kleintop, Senior Vice President and Chief Global Investment Strategist, Charles Schwab & Co., Inc.

Key Points

• Stock markets around the world welcomed the COVID-19 fiscal stimulus programs; but now those programs are starting to expire.
• If not extended or replaced, the fading support for the unemployed raises the risk of weakening economic momentum, turning the V-shaped recovery into a W.
• As investors seem to be discovering with international stocks outperforming in recent weeks, there are very different implications for U.S. and European workers.

Stock markets around the world welcomed the COVID-19 fiscal stimulus programs; the passage of the CARES Act in the U.S. in late March coincided with the start of the market rebound. But now these programs are starting to expire. Key support for the unemployed in the U.S. and Europe is set to fade, raising the risk of weakening economic momentum and turning the V-shaped recovery into a W. However, as investors seem to be discovering, there are very different implications for U.S. and European workers.

In the United States, an additional $600 per week for the unemployed expires July 31. Although the House passed the HEROES Act in May, which would extend this CARES Act benefit until January, it is unlikely to pass in the Senate when it reconvenes this week. The average unemployment payout without the CARES Act benefit is only $333 per week. Losing the extra $600 a week is like a two-thirds cut to income for 17 million Americans receiving state unemployment benefits.

In Europe, the programs work differently. Furloughed worker programs that replace 60-90% of workers’ incomes while keeping them on company payrolls are expiring in coming months (Spain’s ended in June, but was extended to September). As a result, the official unemployment rate will likely rise this quarter. Because furloughed workers are not counted in the unemployment tally, there has been quite the difference in Eurozone unemployment when compared with the U.S. unemployment rate, as you can see in the chart below.

Unemployment chart of US versus Europe

Source: Charles Schwab, Bloomberg data as of 7/19/2020.

Converging unemployment

This discrepancy could change dramatically. Millions of workers in Europe are at high risk of losing their jobs when the furlough programs expire. Those on furlough vary by country, but average at a quarter of the number of workers employed at year-end 2019 for the major countries of Germany, France, United Kingdom, Italy and Spain. Economists forecast that unemployment rates in Eurozone could converge with that of the U.S., at around 10% by the end of the third quarter.

Potential change in unemployment rate

Q3 forecast is Bloomberg-tracked economist consensus
Latest unemployment rate is as of most recent official monthly or quarterly report.
Source: Charles Schwab, Bloomberg data as of 7/19/2020.

Differing impacts: U.S. vs. Europe

In the U.S., the unemployed may see their incomes drop sharply with the expiration of the CARES Act benefit. But what happens in Europe to furloughed workers once their programs expire? The answer may determine whether we see a “W” shaped slowdown in Europe. For those that don’t return to their jobs, Europe’s workers would go from being furloughed (still employed, just not working and getting 60-90% of their income from their employer, which is paid by the government) to becoming officially unemployed where they may get around 57-80% of their income replaced.

Potential change in income replacement from furlough to unemployment

Source: Charles Schwab, data from various government sources as of 7/19/2020.

The degree of unemployment benefits depends on the country. In Germany, there is no change in income replacement compared with the furlough program. This also appears to be true for workers in Italy and Spain. Workers in other countries may see reduced benefits. For example, in France the 84% of income replaced while on furlough would fall to 57% on unemployment and in Sweden it slides from 90% to 80%.

While the unemployment rate in Europe may rise as the furloughs expire, there is likely to remain substantial support for the unemployed in Europe relative to the United States, which could contribute to a divergence in consumer spending for the two regions. The year-over-year change in retail sales has been similar in the U.S. and Europe, the latest reading in the Eurozone was -5.1% in May, similar to the -5.6% for the U.S. (which recovered further in June). But this trend may change. We know last week’s July U.S. consumer confidence report from the University of Michigan reversed much of the rebound observed in May and June.

W-shape forming in consumer confidence?

Source: Charles Schwab, Bloomberg data as of 7/19/2020.

Investing implications

International stocks have outperformed U.S. stocks during six of the past eight weeks, including last week. One of the reasons may be the looming expiration of labor support programs and the different impact this could have on the unemployed in the U.S. compared with Europe.