World Bank IMF and Dev Agencies | |
World Bank IMF and Dev Agencies | |
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Wednesday, April 01, 2020 / 05:28
PM / By Giovanni Dell'Ariccia, Paolo Mauro, Antonio Spilimbergo and
Jeromin Zettelmeyer, IMFBlog / Header Image Credit:
The COVID-19 pandemic is a crisis like no other. It feels like a war, and in many ways it is. People are dying. Medical professionals are on the front lines. Those in essential services, food distribution, delivery, and public utilities work overtime to support the effort. And then there are the hidden soldiers: those who fight the epidemic confined in their homes, unable to fully contribute to production.
Related Link: Policy Responses to COVID-19
In a war, massive spending on armaments stimulates economic activity and
special provisions ensure essential services. In this crisis, things are more
complicated, but a common feature is an increased role for the public sector.
At the risk of oversimplifying, policy needs to distinguish two phases:
Phase 1: the war. The epidemic is in full swing. To save people's lives,
mitigation measures are severely curtailing economic activity. This may be
expected to last at least one or two quarters.
Phase 2: the post-war recovery. The epidemic will be under control with
vaccines/drugs, partial herd immunity, and continued but less disruptive
containment measures. As restrictions are lifted, the economy returns-perhaps
haltingly-to normal functioning.
The success of the pace of recovery will depend crucially on policies
undertaken during the crisis. If policies ensure that workers do not lose their
jobs, renters and homeowners are not evicted, companies avoid bankruptcy, and
business and trade networks are preserved, the recovery will occur sooner and
more smoothly.
This is a major challenge for advanced economies whose governments can
easily finance an extraordinary increase in expenditures even as their revenues
are dropping. The challenge is even greater for low-income and emerging
economies that face capital flight; they will require grants and financing from
the global community (a focus for a
subsequent blog).
Wartime policy measures
Unlike other economic downturns, the fall of output in this crisis is
not driven by demand: it is an unavoidable consequence of measures to limit the
spread of the disease. The role of economic policy is hence not to stimulate
aggregate demand, at least not right away. Rather, policy has three objectives:
Greater intervention by the public sector is justified by the emergency
for as long as exceptional circumstances persist, but must be provided in a
transparent manner and with clear sunset clauses.
Policies in support of households, businesses, and the financial sector
will involve a mix of liquidity measures (provision of credit, postponement of
financial obligations) and solvency measures (transfers of real resources; see
table).
Several tradeoffs will need to be managed. If transfers or subsidized
loans are given to a large corporation, they should be conditional on
preserving jobs and limiting CEO compensation, dividends, and stock
repurchases. Bankruptcy would ensure that equity holders share some of the
costs, but would also cause significant economic dislocation. An intermediate
option is for the government to take an equity stake in the firm. When
liquidity is the problem, credit by the central bank (through asset purchase
programs) or other government controlled financial intermediaries (through
loans and guarantees) has proven effective in previous crises. Many practical
questions arise also in identifying and supporting hard-hit small- and
medium-sized enterprises or self-employed individuals. For these, direct
transfers based on past tax payments should be considered.
These domestic policies need to be supported by maintaining
international trade and cooperation, which are essential to defeating the
pandemic and maximizing the chances of a quick recovery. Limiting the movement
of people is necessary for containment. But countries must resist the instinct
of shutting down trade, especially for health-care items and the free exchange
of scientific information.
From shelter-in-place to
recovery
Promoting the recovery will have its own challenges, including higher
levels of public debt and possibly new swaths of the economy under government
control. But relative success in Phase 1 will ensure that economic policy can
go back to its normal operation. Fiscal measures to boost demand will become
increasingly effective as more people are allowed to leave their homes and go
back to work.
Interest rates and inflation were projected to be low-for-long prior to
the pandemic in most advanced economies. Preventing major disruptions in supply
chains should avoid inflation during the emergency and recovery phases. If the
measures to contain the spread of the virus are successful, the necessary
increase in the public debt ratio will have been sizable, but interest rates
and aggregate demand are likely to remain low in the recovery phase. Under
those circumstances, fiscal stimulus will be appropriate and highly effective
in most advanced economies. And this will facilitate exit from the exceptional
measures introduced during the crisis.
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