The effects that the Coronavirus pandemic will have on the economy are almost impossible to estimate with the data that we have today, however, the situation is not looking cool. I live in Brescia, in the north of Italy, the area that has been hit the most by this outbreak so far.

Here, I have the “privilege” to see things a little bit in advance, because certain measures aimed at limiting the spread of the virus that have been adopted a few weeks ago in this area, are being extended now to the entire country and also to other areas of Europe.

Right now, in Italy, schools, many public offices, as well as every production and commercial activities are closed, except for those that are considered necessary and essential to fight the virus and to allow people to satisfy their basic needs (grocery stores, pharmacies, banks, post offices, and a few others). However, even those activities have seen the imposition of new restrictions, like on the opening time and on how many people are allowed to enter at the same time.

In this situation, the economy is inevitably going to be heavily damaged.

Shops and factories are closed, as well as restaurants, pubs, and bars, creating a completely new type of crisis. In fact, when we think of common causes of a crisis it is intuitive to imagine an environment where lower disposable income leads to lower consumption, lower investments, etc.

In other words, we think of a crisis created by the demand side, a lower demand that affects all the other components of the economy creating a vicious cycle that central banks try to interrupt by introducing measures aimed at stimulating the economy.

However, now, we find ourselves in a situation where even before the spread of the virus, almost since the end of last year, economic growth was already expected to slow down due to other macroeconomic factors.

Now we see greater problems coming from the offer side because factories cannot produce goods, shops cannot sell their products and people are not allowed to move or travel, therefore limiting consumer spending.

In fact, economists around the world agree on the fact that the global economy will enter into a period of severe recession, for example, the analyst of Deutsche Bank said that the anticipated declines would “substantially exceed anything previously recorded going back to at least World War II.

They refer to their forecasts that China will see its gross domestic product slump by 31.7% in the first quarter and that the US economy will grow by just 0.6% in the first quarter before slipping into a 12.9% contraction.

Need for liquidity

closed shops in the center of Milan

After this introduction, what I wanted to express is that the true and immediate problem that world economies will face in the coming weeks and months will not be related to find new ways to effectively stimulate the economy, but governments and monetary authorities will have the challenging job of ensuring enough liquidity to support companies that in this kind environment will inevitably go through a period of difficulty and effort.

In fact, to recall the introduction, in Italy, an initial form of lockdown started more than two weeks ago, then, this week it has been toughened, with the complete closing of almost every activity except, as said before, for those that are considered strategic to combat the virus, or that are essential to allow people to satisfy the most basic needs.

For most companies, there are very serious problems concerning liquidity, even among the biggest multinational corporations, in fact, a few days ago, the association of large distributors, which represents big brands like IKEA, H&M, Zara, etc. called for crisis and liquidity support for non-food trade to the government, because they have to pay for fixed costs, like wages and rent, and in other cases, like for those that sell clothes, they have spent millions of euros to buy their spring collection that they will probably be unable to sell due to the lockdown.

In fact, this is not a problem that exists only among the smallest players, but it hits also the biggest names that in theory should be more solid and strong, even in extreme and unexpected situations like the one we are living now. However, if they cannot open their shops, money doesn’t come in, and therefore they face the grave danger of running out of money, even if they are big names.

The Italian government, in order to help companies and individuals to go through this difficult period, has adopted various measures, with liquidity support as their main objective. They suspended the payment of taxes for this month, and they created funds intended to help companies, by suspending the payment of loans.

However it is impossible today to know whether these measures will be sufficient, and for how long this crisis will last, therefore it is probable that in the next months there will be the necessities for the introduction of new measures. In countries like Italy where the economy was already struggling, and with a big public debt, companies and individuals are not feeling safe, they now that the risk of going out of business is real and present.

However, the words of the European Commission President Ursula von der Leyen, when she said that “In this moment, in Europe, we are all Italian … rest assured that this family, your family, will not let you alone.”, have helped to increase confidence in the fact that the European Union will help Italy in dealing with this difficult situation.

In my opinion, looking at the situation in which Italy finds itself is important and is a wise thing, because, given that also other countries in Europe and around the world are adopting similar measures, it is likely that the actions implemented by the Italian government will be necessary for other countries too. Therefore, analyzing the Italian situation could be helpful for other governments and monetary authorities to understand how to better tackle this situation.

Even if it may seem counterintuitive, governments and monetary authorities should not be encouraging increased economic activity right now, a stimulus can be considered when the threat of the virus spread has subsided.

As highlighted by Edward P. Lazear in his recent article on the “New York Times”, “The more important and immediate approach should emphasize help for those who suffer pay cuts, providing enough support to tide them over during the difficult period.

In a crisis like this, where the offer side of the economy is the one that is struggling the most, taking measures aimed at stimulating the economy, as some politicians suggest is the wrong prescription, therefore it is important to give an adequate financial cushion to businesses and individuals in order to make them able to survive the shock.

Even though in many countries this has not yet been the case, it is very likely that governments in the next weeks will have to take measures focused on reducing the chances of infection, and the only way to do it is by closing as many economic activities as possible. Measures like that will inevitably slow down the economy.

Major central banks have committed themselves to buy as much government debt as necessary, for example, the European Central Bank announced that it would spend €750 billion in bond purchases to calm down sovereign debt markets, in the strongest signal in the euro area to date that it was ready to fight against the economic fallout of the coronavirus.

Moreover, the Fed has announced unlimited bond purchases, in order to prevent an economic depression, and aimed also at calming the markets. Following what central banks are doing, governments have to take measures using the tools available to them, focused on keeping individuals and companies solvent, because otherwise, even the biggest companies around the world could go bankrupt, creating enormous damages worldwide.

Making the right moves will not be easy, mainly because we do not know precisely for how long this situation will keep going, and therefore estimating the right magnitude of the intervention that economies around the world will need to get through this crisis is impossible to predict.

However, it is important that monetary authorities and governments are prepared to take measures that can help even efficient businesses that, because of the crisis, seriously risk having to close down their activities permanently due to the absence of sufficient short-term liquidity to buffer the shock.

Right now, it is clear and evident that certain sectors like travel, leisure, and hospitality are the most hit around the world, but as other countries start to take more extreme measures like those adopted in recent weeks by Italy, and in the last month by China and other countries, many other sectors will be seriously hit.

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