The attached note takes a look various questions in relation to the impact of the Coronavirus on the economy and the response to it, including: why does a big part of the economy have to go into ‘hibernation’? How long might it be for? How big will the hit to the economy be? What does it mean for unemployment? Why is it so important for governments and central banks to protect businesses and workers? Can we afford all this stimulus?
The key points are as follows:
- Significant government support is essential to enable parts of the economy to successfully hibernate.
- This will be financed by borrowing and is affordable given Australia’s relatively low public debt and low borrowing rates.
- Central bank support to keep financial markets functioning properly is also essential and quantitative easing is part of this.
- We are more likely to see a U-shaped recovery than a V or L.
Along with the horrible human consequences, the coronavirus pandemic is having a huge impact on the way we live and as a result investment markets. This has raised a whole bunch of questions: why does a big part of the economy have to go into “hibernation”? how long might it be for? how big will the hit to the economy be? what does it mean for unemployment? why is it so important for governments and central banks to protect businesses and workers? can we afford all this stimulus? This note provides a simple Q&A for most of the main issues from an economic & investment perspective. To the extent simple answers are possible in this environment!
Why do we need the shutdowns?
This is a medical issue, but it drives everything that follows. The answer is simple. Something like 15% of those who get coronavirus need hospitalisation and 5% need intensive care. And this is not just elderly people. And there is little to no community immunity to it. So, if a lot of people get it at once the hospital system can’t cope and the death rate shoots higher. Italy shows this with a death rate of 11.7%. So, unless we want to see the same surge in deaths as Italy we have to “flatten the curve” of new cases so the hospital system can cope. And to do this we have to practice social distancing which means meeting up with as few as people as possible which means staying at home wherever possible. This in turn means a big part of the economy gets shutdown.
Which sectors of the economy are most impacted?
Roughly 25% of the economy is being severely impacted and this covers discretionary retailing, tourism, accommodation, cafes, clubs, bars and restaurants, property and various personal services. But there is also likely to be a flow on to construction and parts of manufacturing as uncertainty leads to less housing construction for example. Only about 20% of the economy – communications, healthcare and public administration – will really get a boost.
How big will the hit to the economy be?
It’s impossible to be precise, but if 25% of the economy contracts by 50% with other sectors offsetting each other, that will drive a 12.5% detraction in economic activity mainly in the June quarter which is basically what we are assuming. This will the biggest hit to the economy seen since the Great Depression. Of course, if this leads to collateral or second round effects as, for example, businesses and households default on their loans the impact could be much greater and longer.
But why all the talk of hibernation?
The hibernation concept is a good way to look at it. As a result of the shutdown many businesses are seeing a massive loss in their sales and some must partially, or in many cases fully, shutdown until the virus is contained and the shutdowns can end. But rather than shutdown forever the best outcome is for them and their employees to effectively go into “hibernation” for a period so they can go back into business and resume their normal lives once the virus is under control but without being encumbered with so much more debt and rent arrears, etc, that they go bust anyway.