The economic effects of a pandemic
Simon Wren-LewisThis is why the biggest impacts on GDP occur when we have people reducing their social
consumption in an effort not to get the disease. However, falls in social consumption
do not scale up all scenarios by the same amount, for the simple reason that supply and
demand are complimentary. If school closures and people taking more time off work
increase the size of the supply shock, the demand shock has less scope to do damage.
The largest fall in annual GDP in all the variants we looked at was 6%.
Could conventional monetary or fiscal policy offset the fall in social consumption?
Only partially, because the drop in consumption is focused on specific sectors. What is
more important, and what we didn’t explore in the exercise, is what would happen if the
banks failed to provide bridging finance for the firms having to deal with a sudden fall
in demand. The banks may judge that some businesses that are already indebted may
not be able to cope with any additional short-term loans, leading to business closures
during the pandemic.
It is in this light that we should view the collapse of stock markets around the world. In
macroeconomic terms this is a one-off shock, so Martin Sandbu is right that the recent
stock market reaction looks overblown.^1 But if many businesses are at financial risk
from the temporary drop in social consumption, that implies a rise in the equity risk
premia, which helps account for the size of the stock market collapse we have seen. (I
say “helps” deliberately, as much of the impact will be on smaller businesses that do not
find their way into the main stock market indices.)
If I were running the central bank or government, I would have already started having
conversations with banks about not forcing firms into bankruptcy during any pandemic.
But economics can also influence health outcomes, and not just in terms of health
service resources. For a minority of self-employed workers there will be no sick-pay,
and those without a financial cushion will be put under stress. One of the concerns as
far as the spread of the pandemic is concerned is that workers will not be able to afford
to self-isolate if they have the disease. So if I were in government, I would be thinking
of setting up something like a sick-leave fund that such workers could apply to if they
get coronavirus symptoms.
The government also needs to think about keeping public services and utilities running
when workers in those services start falling ill. In fact, there are a whole host of things
the government should now be doing to prepare for a pandemic. It is at times like these
that we really need governments to act fast and think ahead. Do we in the UK,^2 or US
1 https://www.ft.com/content/e7fd61ee-57ef-11ea-a528-dd0f971febbc
2 https://www.theguardian.com/world/2020/feb/27/they-have-no-idea-government-failing-on-coronavirus-say-gps