Black swan and the global economy

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While the global economy was still recovering from the wounds afflicted by the Financial Crises of 2007-08, coronavirus has come as a “black swan” and has dealt us another blow. It has just exacerbated our pain by sprinkling salt on to our pre-existing wounds. As I write, all I see is bloodbath in stock markets, recessionary fears hanging by our neck, countries going into lock down, airlines going bankrupt, unemployment numbers soaring, health care systems faltering and most of all, government’s mettle being tested to its core. 

Crises has never been a pleasant situation. Though Financial crises of 2007-08 by nature was a balance sheet crises but it costed the world fortunes. Dow Jones industrial average declined from 14000 points in Oct 2007 to 6600 points in Mar 2009. This was a decline of 50% over the period of 17 months and very similar to the fall of 54.7% during Great Depression in 1930. It cost the world $1.48 trillion which included tax cuts and fiscal stimulus and bailouts for major banks. 

The point being that financial markets don’t really care whether its the housing bubble or the pandemics. Financial markets are sensitive to sentiments and they react within nanoseconds of news break. Here are some of the worst market crashes in the world history and no wonder COVID-19 has already made its presence felt.

Financial Markets across the globe:
As I write, financial markets across the globe are already hot red and investors are pulling out their money to save themselves from the pandemic driven crises. Last week was very depressing for the financial markets across the globe. While the major reason was uncertainty and fear mainly due to coronavirus situation but part of the reason can also be attributed to suppressed oil prices due to failed negotiations between OPEC+ countries, and Riyadh preparing for all-out price war. 

Dow Jones, S&P 500, FTSE and Nikki are some of the major indexes representing financial markets worldwide and to no surprise there has been above 20% decline in each of them over the last week or so. Just a heads up that this decline is registered when coronavirus hasn’t even peaked yet. 

Global Economic Outlook:
The question posed by the ongoing spread of the coronavirus is that what risk does it entails for the global economy? A massive slowdown in the economic activity is already being observed through out the globe. Supply chain disruptions and subdued demand is just getting better of the economy. 

While addressing the world yesterday, IMF managing director Kristalina Georgieva hinted that outlook for the 2020 is negative and and we are looking at a recessionary period as bad as the global financial crises or worse. On the other hand, she expects recovery in 2021. She also went on to mention that IMF stands ready to deploy all their $1 trillion dollar capacity to support the economy.

According to the United Nations Trade and Development agency, the slowdown in the economy caused by the coronavirus outbreak could potentially cost the world at least $1 trillion. Moreover, the COVID-19 shock is expected to bring recession in some countries and would also strain the global annual growth rate this year to below 2.5%. That is the recessionary threshold for the world economy. After the Financial crises of 2007-08, COVID-19 shock is just leading us downhill in terms of global GDP growth.

According to the UNCTAD report, potential damage to the economy can be classified into two different categories mainly demand and supply.

On the demand front, declining incomes along with fear of contagion can mean that private spending would fall. The most hit from the private spending would be the services sector, mainly tourism and entertainment industries. Reduced working hours accompanied with possible layoffs can induce household to reduce their spending. This will in turn impact the private investment. So, all in all demand in short-run is expected to remain subdued due to COVID-19.

On the supply front, global value chains are being disturbed due to stoppage in manufacturing activities and transportation delays. These hindrances in turn will affect the employment and wages in the industry which could mean that the affects can again be felt on the demand side.

In the United States, four major industries contribute massively to the country’s GDP. These include airlines, hospitality, amusement parks and dining. According to JP Morgan they contribute approximately $1.2 trillion to the US economy, or 5.5% of the GDP. For a country that derives 70% of the economy from the US consumer, disruptions in these industries is going to hit hard. On the employment front, 23 million American jobs are in immediate danger from the ongoing pandemics.  

Well, for the other countries throughout the globe, situation isn’t pleasant either. Hence, the economic outlook is very bleak in the short term until the coronavirus subsides. 

At this stage, what is more important is how countries respond to the current situation through their policy measures. Major tools countries have at their discretion are fiscal and monetary policies. So lets have a look at how countries have responded so far to the ongoing pandemics.

Global Economic measures to deal with COVID-19:
Governments and Central Bank globally have been proactive in terms of their policy measures to fight against the coronavirus. On the fiscal front, governments have mainly resorted to fiscal stimulus in various paramount sectors of the economy. On the monetary front, central banks have continuously been slashing their interest rates, doing repetitive quantitative easing, reducing reserve ratio requirements, supporting the SMEs, Foreign Exchange interventions and injecting liquidity into financial markets. Here is the list of both monetary and fiscal responses adopted my some of the key major countries hit by the pandemics.

Future Outlook:
It is imperative to discuss the future outlook based on the current ongoing pandemics because that is what is  ultimately going to matter. Where do we go from here depends on three variables: the growth and spread of virus, how long before the vaccine is found and lastly and most importantly is the effectiveness of policy makers in mitigating the damage to our physical and economic health and well-being. China’s policies in containing the virus so far seem to have materialized with no local cases reported for three consecutive days. But, their overall efficacy can only be evaluated once the lock down is removed. I believe that the future outlook for the 2020 looks bleak with slowdown in economic activity and recession knocking on our door. On the other hand, how far we go out to control the damage depends on the governance, implementation and efficacy of the policies adopted by the countries globally. The better the efficacy the better our chance to avoid severe damage and recover. 

So all in all, we are at waging a war against black swan and interestingly it is in our control to decide who gets to win it. Hence, it is in our best interest to win this war by using all the available tools and resources at our helm and let black swan rest in peace.

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