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Crisis Mode: What’s Different This Time?

Mar 26 , 2020
  • Zhang Monan

    Senior Fellow, China Center for International Economic Exchanges

The world is reeling from the novel coronavirus epidemic. While the epidemic has been effectively contained in China, many other important economies across the world are being hit hard, and humanity has been thrown into crisis mode.

The World Health Organization declared a pandemic. Some 118 countries and regions have reported more than 130,000 cases to the WHO. Since late February, the number of infections has climbed exponentially.

With Italy and other Schengen countries, including Spain, France and Germany, Europe has become one of the hardest-hit regions in the world, with the number of confirmed cases accounting for more than 40 percent of the global total and the number of new infections accounting for more than 60 percent.

The status of the pandemic could be described this way: For China, the peak is past; South Korea and Japan are nearing the peak; and European nations are at the stage of exponential growth. But in the United States, it may be just the beginning.

Since the outbreak, global financial markets have experienced violent swings, with plunges more precipitous than they were during the global financial crisis of 2008. The stock markets of the United States, European nations, Canada, South Korea, Japan, Brazil and Mexico all triggered the market circuit breaker at least once or more, with the U.S. and European stock indices plunging more than 20 percent in less than a month.

The U.S. treasury, a traditional haven, has also been under pressure, with massive sell-offs. Although the U.S. Federal Reserve announced an injection of  $1.5 trillion into short-term lending markets, and many countries across the world have banned short selling in emergent moves to prevent a market meltdown, the crisis mode has continued.

It’s safe to say that a crisis at this scale has not been seen for decades, and this one is completely different from the 2008 global financial crisis and the 2010 Eurozone debt crisis.

First, the channels and angles of impact are more complex and unpredictable. Unlike previous crises that were simply economic or financial, the one is a compound. Its impact is mainly reflected in the following three aspects: public health, socioeconomic development and psychological expectations. Each of these aspects interacts with the others in a complicated and unpredictable way, and even gives rise to spiraling risks.

One bit of direct damage the pandemic has done to the global economy is its disruption of the production and supply of goods and services. But the most serious and troublesome impact is its spillover effect. Amid the epidemic, some countries have adopted protectionist measures, such as imposing travel bans on the hardest-hit countries, pushing for a reshoring of the manufacturing industry and speeding up the decoupling process. These measures deliver a double-whammy to the global economy.

Second, the short-term economic resonant effect will be eye-catching. In fact, a synchronized recession will be more serious than the recession of a single country’s economy and will likely last longer. China, the United States, Japan and South Korea, which are among the hardest-hit, will make up the scale of global economic losses via the pandemic’s impact on supply and demand.

Because of the epidemic has broken out in cycles, its onset and peaks will vary in different countries. There will be a domino effect from local disruption to global supply chains. The severity, complexity and subsequent risks of the epidemic should not be underestimated.

Its impact on the global economy is emerging, growing and self-evident. None of the major economies and big trading nations, including China, the United States, Europe, Great Britain, Japan and South Korea, will escape the pandemic unscathed. The respective combined GDP and trade volume of these countries accounts for about 60 percent and 50 percent of the global total.

The JPMorgan Global Manufacturing PMI for February declined to 47.2, with such sub-indices as manufacturing output and new orders recording the biggest drop since April 2009. Growth in manufacturing globally has been low for about a decade.

According to projections in the OECD Economic Outlook, Interim Report March 2020, global economic growth will slow to its lowest level in 10 years because of the pandemic. Economists from the United Nations have warned that the coronavirus will result in as much as $2 trillion in economic losses globally.

Third, financial and monetary system, after weathering two crises, has been seriously overexploited. In the process of coping with the previous two crises, the governments and central banks of all countries have already used up their financial resources and employed available policy tools, which has not only led the world into the era of zero or even negative interest rates but also to the pileup of debt in all countries.

The World Bank projected earlier that the world would soon have to embrace a fourth wave of debt. From the previous three waves, it could be seen that each round of debt crisis was caused by factors such as spikes in the preference for risk aversion, risk premiums, exponential hikes in borrowing costs and the impact of a slowing economy on debt sustainability.

According to the latest forecast made by the Institute of International Finance, global debt may have hit a record high of more than $255 trillion in 2019, with the debt of developed economies accounting for more than 50 percent of the global total and the debt-to-GDP ratio higher than 380 percent. For emerging economies, debt  has been growing for eight consecutive years at an exceptionally fast rate. The global outbreak of the pandemic could be a trigger that initiates a breakup of the fragile debt chain.

Monetary policy has also been seriously overused. After the 2008 global financial crisis and the 2010 eurozone debt crisis, the central banks now have limited room for monetary policy maneuvering, particularly the European and Japanese central banks, where actual interest rates are already in negative territory.

Europe now is the epicenter of the global pandemic. Unlike the emergency interest rate cuts adopted by more than 20 central banks around the world, the European Central Bank decided to continue its loose policy stance in its latest interest rate decision by announcing new bond purchases worth 120 billion euros. But it failed to jump on the bandwagon of global interest cuts due to lack of ammunition.

This shows that the ECB is caught in a prisoner’s dilemma in terms of monetary policy. In September, the bank announced a basket of loose monetary policies to shore up the economy, including cutting the deposit interest rate by another 10 basis points — even though it was already in negative territory — and launching a new round of quantitative easing.

At present globally, negative-yielding bonds have already accumulated to $16 trillion. These bonds could help ease the financial burden, but they could also bring systemic financial risks and cause twisted resources distributions on large scale.

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