Stimulating an Artificially Suppressed Demand
“We have to continue to produce and to keep the country running,” President Emmanuel Macron said as France enters a nationwide lockdown in the fight against the Covid-19 outbreak that has since brought global economic activity to a grinding halt. But, despite calls for stricter measures by medical professionals, it appears that the French leader is not in favour of a total lockdown and his government has reportedly called for companies to stay open and on employees in non-essential services to show up for work.
As the pandemic has moved from Asia to Europe and the United States, governments are faced with a similar policy dilemma: bringing industry and supply chain to a halt, and risking a recession that could inflict lasting damage on their economies; or allowing the virus to spread and prolonging the health crisis that has since claimed more than 16,000 lives. More countries are erring on the side of caution and have ordered some degree of lockdowns to reduce reproduction or the number of people each confirmed case infects.
But researchers from Imperial College London whose analysis and data are informing current United Kingdom government policy on the pandemic have recently suggested that large scale social distancing will need to be in place for much longer, perhaps until a vaccine becomes available.
Modelling available data, the team provided two scenarios based on intensity of intervention:
- Mitigation: Isolating suspected cases and their households, and social distancing the elderly and people at highest risk of serious illness. This intervention could slow down the spread of the infection but would not completely interrupt its spread.
- Suppression: Social distancing the entire population indefinitely, or basically, lockdown. This more intensive intervention could interrupt transmission, not just slowing down the spread, and reduce case numbers to low levels, even reversing epidemic growth. However, once these interventions are relaxed, case numbers are predicted to rise.
In other words, while the models show that lockdown works as an effective containment strategy, it is likely that an economy, once the social distancing measures are relaxed, will be on a continuous “on-off” loop based on the rise in case numbers and then a swift return of a lockdown order. Clearly, there is no way for businesses to return to normalcy under this circumstance, and governments are already introducing stimulus packages in anticipation of a recession on a global scale.
Yet the effectiveness of fiscal stimulus is not straightforward in this environment. There are at least two important policy questions to ask. The first is how to finance the stimulus. Drastic times call for drastic measures. It is possible for the central bank to mop up newly issued government bonds, effectively printing money, to fund direct fiscal spending. In an unprecedented move, the US Federal Reserve said it will buy unlimited amounts of Treasury bonds and mortgage-backed securities to directly provide liquidity for business and households, traditionally under the purview of fiscal policy. But this is not without risk to fiscal health, especially if your central bank does not print in US dollar.
The second, perhaps a more interesting one, is where the government makes the spending. Stimulus packages thus far in Japan, Hong Kong, Singapore and even Malaysia entail cash handouts to households and funding facilities to businesses by financial institutions. If the keys to an effective stimulus programme are timely, temporary and targeted, the quartet each faces unique challenges to meet growing public expectations.
The Japanese government is mulling over cash handouts to eligible households amounting to 10% of the country’s gross domestic product (GDP) – its biggest ever stimulus. The challenge seems to be targeting the right households by income level because, as critics pointed out, many households stashed the money into savings when a similar measure was doled out during the 2009 global financial crisis. At the other extreme, the Hong Kong government’s one-time cash handout to every adult resident with no strings attached quickly attracted criticism for being untargeted and regressive. Singaporean and Malaysian governments face rising pressure for bigger stimulus packages – the former has not ruled out tapping on past reserves while the latter is embroiled in a highly controversial plan to allow temporary withdrawals from retirement fund.
Fundamentally, businesses must be allowed to return to normalcy in the shortest possible time. How much consumption boosting can be done when the social distancing order is still in place and businesses are not allowed to generate revenue and pay their employees? There is a clear case, however, for building resilience into the social safety net in this time of crisis, particularly individuals and households at the margin who could be pushed into poverty when facing unexpected income losses. But for most of the population, the longer a social distancing order is in place, the likelier businesses will fail, and jobs will be lost.
One rare bright spot amid all this chaos is the beginning of China’s return to normalcy. Factories in previously locked-down cities in the Hubei province, the center of China’s coronavirus outbreak, have begun to hum as the government seeks to relax restrictions and revive the economy. Businesses now face a bigger demand-side problem as the uncertain external environment translates into companies not getting enough orders. But this could be short-lived as China recently reported new cases, mostly brought in from overseas, as fears rise of a second wave of infections. If China can avoid that without imposing a total lockdown, it will inspire other countries to follow and the lid that is artificially suppressing demand can be lifted much sooner.