By Jason Schenker
Despite major challenges at the start of the year, 2021 is poised to build economic momentum in the months and quarters ahead. This is true for manufacturing and material handling, but service industries are also poised to gain ground and experience significant year-on-year growth in the months ahead as vaccinations reach scale domestically and abroad. On the downside, relatively high joblessness and risks from various COVID strains also remain in play. But those risks are likely to be less critical in the months ahead. Inflation, however, is a specter that could haunt U.S. markets through the summer. Plus, fiscal policies, like higher corporate tax rates, present risks well beyond 2021.
The power of base effects
Economic indicators have been generally improving in recent months, and the data is about to heat up. Year-on-year growth rates for the second quarter of 2021 are likely to be particularly strong. After all, the second quarter of 2020 was the weakest period of U.S. economic activity for a number of industries, because it was also the period of peak COVID-19 pandemic concerns and shutdown. Looking ahead at data releases that cover March 2021 to July 2021, growth rates are likely to be strong for many industries—even travel, tourism, entertainment and leisure. Nevertheless, the actual dollar level of activity for some of these industries is still likely to be lower than in 2019. This is because 2021 is a year of improvement, even if it is not a year of complete recovery for these industries.
We expect the root cause of the significant year-on-year growth rates across industries in the months ahead will be largely due to base effects. In other words, growth rates will look strong year-on-year because of economic weakness in 2020, rather than due to outright strength this year. Air travel, brick and mortar retail, and tourism do not even have to be that strong in the second quarter of 2021 to show big year-on-year growth rates. Of course, we do expect they will show significant year-on-year growth rates as well as reflect much higher levels of activity in absolute terms than in 2020. The year-on-year base effect is also likely to be seen in consumer inflation reports that cover March 2021 to July 2021. This presents some risks to financial markets, Fed messaging and corporate strategy.