The Coronavirus Economy: How Bad Will It Get?
The epidemic, and the weapons being used to fight it, are having devastating effects on the economy.
PARIS — How can such a tiny creature wreak so much havoc on the economy? The novel coronavirus, which has killed 0.00006% of the world's population to date, has already cost shareholders $2.5 trillion in a single day. And it is estimated to erase at least $1 trillion of GDP in 2020, according to experts from the United Nations Conference on Trade and Development.
According to some, such disarray can only be explained by irrational behavior or Keynesian "animal spirits." While it's all moving a bit fast, logical decisions can explain most of it.
The starting point: a deadly and contagious virus, one that makes men and women sick, sometimes to the point of losing their precious lives. The effect: the most effective short-term solution to contain the illness is isolation. In 1720, the southern French town of La Ciotat was spared from the plague — which killed a quarter of the population of the surrounding region — because the walls surrounding the town allowed the filtering of comings and goings. Similarly in 2020, China succeeded in reversing the coronavirus epidemic by drastically limiting travelling.
More than the irrational, it is uncertainty that dominates.
The public authorities in France are interested in restricting movement to slow the spread of the epidemic over time in an effort to avoid congestion of hospitals, French Minister of Health Olivier Véran explained. From there, it will become possible to identify the major levers of the epidemic on the economy, pertaining to supply and demand, the "real" and the "financial." The potential impact is massive.
In China, at the beginning of February, authorities ordered factories to close (or rather, not to re-open after New Year's celebrations) in the highly industrialized region of Wuhan where the epidemic started. Tens of millions of Chinese people were asked to stay at home. Transport services were severely reduced. At the health level, these decisions are justified. Economically, they weigh heavily on Chinese production, which could fall in the first quarter of 2020 for the first time in over 40 years. This same dynamic is now spreading across Europe. Italy has been hit hardest by the epidemic, with the whole country in quarantine since March 9. Here too, activity will inevitably decline, along with economic exchange.
The closing of certain factories blocks others downstream which depend on their production. Stretching over the past 20 years, the "value chains' cannot withstand the breaking of a link. Carlos Tavares, CEO of car manufacturer PSA, gives an example: "Of the 4,000 parts making up an automobile, 3% come from China. But if we are missing a single part, we cannot deliver the car." Manufacturers will have to organize themselves differently, with shorter and more local chains. In the meantime, they risk being blocked.
The virus sends some employees to the hospital and condemns many others to isolation. In China, travel restrictions have trapped millions of vacationers away from work ... All of this causes a loss of manpower and therefore, production. Not to mention the indirect impacts. The closure of schools in Japan and Italy is forcing many parents to stay at home, since sending the children to their grandparents' is out is out of the question, the latter being more susceptible to the virus.
Supply is not the only one to be struck by the virus. Planes fly, but few travelers want to risk of not being able to return for weeks due to quarantine measures, causing the travel industry to take a massive hit. Public places are deserted because authorities have limited access to them (salons, concerts, sports fields) and consumers don't dare going out (hotels, restaurants, shops). The side-effects of this are daunting: weakened airlines will buy fewer planes, employees with reduced incomes will spend less: After exports, investment and consumption will suffer.
In many companies, revenues fall faster than expenses. Bank accounts will tighten, as seen in the end of 2008. It will be difficult to repay loans with corporate debt rising high. The banks are also likely to suffer in turn. Investors have reason to worry; no one knows the duration and extent of this epidemic. No one can quantify the power of each of these levers, and nobody knows what the government is truly prepared to do to limit the economic damage. More than irrational thoughts, it is uncertainty that dominates now. And that is the real poison for the economy.
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