World is holding its breath as coronavirus spreads

By the end of last week, at least $US6 trillion ($9 trillion) had been wiped off the world’s stock exchanges as the reality and possible threats of COVID-19 began to sink in. The initial reactions of commentators to the news of the virus, which originated in China’s Hubei province, were mixed.

Several claimed there was not much to see, that the economic consequences would be slight and it would all blow over quite quickly — a bit like the severe acute respiratory syndrome episode of 2002-03.

Other commentators were not as sanguine, deciding to wait for more information both in relation to the spread, the death rate and the early signs of the economic impact. Even now, the completeness and the quality of the data are uncertain.

We tentatively know that COVID-19 is highly transmissible, with a reproduction rate of between two and three (one infected person will give it to between two and three others). It would appear that the death rate is relatively low, below 1 per cent, but the likelihood of death increases with age. For people aged over 60, for instance, COVID-19 is many more times lethal than seasonal influenza.

The existence of superspreaders — modern Typhoid Marys –— is further complicating the picture. These are people who may be only mildly ill or may exhibit no symptoms at all but can spread the virus in large numbers. This phenomenon may be part of the explanation for the rapid spread of the virus in South Korea. There is also the instance of a British man who attended a conference in Singapore, stopped off on a skiing trip in France and returned home, spreading the virus as he went.

When thinking about the economic and financial consequences of COVID-19, it’s important to bear in mind the sequencing of the effects. Most of the early impacts have been the result of the imposed quarantine arrangements in China and the travel restrictions introduced by the Chinese government and other governments. These constraints probably have served to limit the spread of the disease as well as lessen the impact on health systems.

If we take the case of Australia, we are relatively exposed to the economic fallout of the virus given our close trading links with China. With the proportion of our exports going to our largest trading partner at three times our second largest trading partner, Japan, the economic shocks have come early.

With China as our largest source of international tourists and the largest source of international students, this impact was inevitable. The combination of travel bans, restrictions on group tours leaving China and large numbers of Chinese international students in their home country to celebrate the Lunar New Year when the virus struck has meant the negative effects on tourism-related activity and higher education in Australia have been sizeable and immediate.

Some parts of primary industry — the live lobster market, for instance — also have been hit quickly. Clearly, airlines serving Asian routes also have been affected, with flow-on consequences for airports. Unsurprisingly, the price of oil has fallen significantly.

There also have been cancellations of several large-scale events, including Berlin’s tourism fair and the Geneva International Motor Show. The National People’s Congress in China also has been postponed.

France has temporarily banned all gatherings of more than 5000 people The fate of the Tokyo Olympics is unclear at this stage. Many large companies have cancelled all non-essential travel by staff members.

COVID-19 also is causing major disruption to supply chain linkages as many of the factories in China that supply inputs to companies elsewhere as well as completed products remain closed or are operating at less than full capacity.

Companies such as Apple and Hyundai have already been affected and there is more to come. It turns out that a very high proportion of the active ingredients used to produce pharmaceutical products in the US, for instance, is sourced only from China. It may well turn out that these supply chain issues are as important as the more obvious falls in demand for certain goods and services arising from the spread — and the fear of the spread — of COVID-19.

As far as the financial impacts of the virus are concerned, initially the equity markets seemed relatively impervious. There was a widespread view that the virus could be contained and that a vaccine would offer a permanent solution within a reasonable timeframe.

With news that the virus has spread to South Korea — the figures for this country are believable — Iran and Italy, this confidence wavered at the beginning of last week, leading to free fall in equity markets Of course, bond markets had already been showing signs of wariness, with bond yields sinking to historically low levels, pointing to difficult economic times ahead. The substantial fall in the value of the Australian dollar reflects the economic pressures hitting the local economy.

Just last week, it seemed that the corporate debt market was beginning to seize up, particularly for companies with ratings close to junk status. There is a possibility that this problem could extend to companies with superior ratings, not unlike what occurred during the global financial crisis.

The key issue is what governments should do in response to the worsening crisis. Clearly, the most important consideration is the promotion of public health to the greatest extent possible. Economic considerations are important but are secondary. Central banks will also be ready to act, although their capacity to do so is limited by dint of today’s very low interest rates.

At the end of last year, things were looking up for the global economy. A truce of sorts had been concluded in respect of US-China trade and the uncertainty surrounding Brexit had been lifted. Economic conditions had been soft in many countries, including Australia, but there were some grounds for optimism.

The sudden and unexpected emergence of COVID-19 has killed this off, with predictions of world growth being scaled back significantly. The most adversely affected country, at least initially, will be China.

Given that the Chinese economy makes up about one-fifth of all global economic activity and has been responsible for one-third of all growth since the GFC, negative economic spillovers for the rest of the world are inevitable.