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Corona Virus - a wakeup call for the global economy

March 11, 2020 | posted in Social Services ,News | posted by : Manappuram Finance
By V.P. Nandakumar

It was from Wuhan, the sprawling capital of Central China's Hubei province, that the WHO Country Office in China got its first report that pneumonia of an unknown cause had been detected. Later, on January 30, the WHO declared the outbreak a Public Health Emergency of international concern. The coronavirus disease (COVID-19) caused by severe acute respiratory syndrome coronavirus 2 (SARS-CoV-2) and has affected over 90,000 people the world over to become a global emergency.

The epicentre of the outbreak is in China with the province of Hubei and eastern China the worst affected. The Chinese government imposed a lockdown in Wuhan and other cities in Hubei province to quarantine the epicentre of the outbreak of coronavirus disease. Economic activity and movement of people in these parts have come to a grinding halt.

There were 80,000 confirmed cases of COVID-19 in China itself, resulting in the death of nearly 3,000. More than 10,000 cases have been reported in other countries, and over 150 people have died till date. The situation is grim, and it demands a quick and coordinated effort across the world to contain its further spread.

The economic damage

Beyond the public health aspect, another crisis is looming, and that is about its broader impact on the global economy and markets. Even if the virus turns out to be less deadly than feared, the fear itself, and all the emergency control and containment measures required will be a setback for the global economy.  It is now sure that the epidemic will hurt the world economy by the disruption of global supply chains.

After all, China is the world's second-largest economy and a significant trade partner for many countries. China is also a leading trade partner of India. Total trade between India and China stood at $92.68 billion in the calendar year 2019, and India was a net importer from China (including Hong Kong) of $56.7 billion. Essential commodities imported into India from China include electronics, consumer durables, auto components, pharma bulk drugs intermediaries etc.

The Chinese economy looks set for a contraction in the March quarter as activity in the manufacturing sector was reported at a record low in February. The Indian economy is already going through challenging times as the recent Q3 GDP data suggests the growth slowdown continues with a turnaround still elusive. The picture for the global economy is also bleak with talk of a recession in the US economy gaining ground.

It is essential to understand that in comparison to the 2003 SARS outbreak, the Chinese economy is not just bigger; it is also much more integrated into the world economy. China's GDP is four times larger now, and its share of global trade has grown ten times. Businesses across the world depend a lot more on made-in-China products most of which cannot be sourced elsewhere, at least not at the same prices, and certainly not in such a short time. And the "just in time" supply-chain management means the most producers don't have surplus inventory on hand. Even as the inventory depletes, the re-stocking won't happen any time soon because Chinese factories and ports are operating at much-reduced capacities.

The spread of COVID-19 to countries outside China (South Korea, Iran, Italy, etc.) is especially worrisome. South Korea, like China, is a significant exporter, and much of its shipments are inputs into the global production process. The potential for disruption of global supply chains is significant. The non-availability of just one critical component can shut down an entire factory. In such a situation, we may be just weeks away from some crucial producers running out of input materials. It may only be a question of time before the kind of industrial paralysis seen in China spreads to companies in India, US, EU, and elsewhere.

Central banks step in

Amid all the fear and uncertainty, there is once again the demand of a coordinated monetary easing by central banks around the world to stimulate flagging growth, in the way it was done during the global financial crisis of 2008-09. Central bankers making their ritual pledges to "stand ready" with support may be seen as nothing but an attempt to shore up morale. The US Federal Reserve has announced a 50 bps rate cut to 1 percent as an emergency response to the economic impact of the virus. In India, the RBI said it stands ready to act and is keeping an eye on the situation. But the fact is, rate cuts are not vaccines, and beyond rate cuts, central banks have little to offer.

Nonetheless, markets are increasingly convinced the central banks will respond with more rate cuts. If it happens, the central banks will once again move into the stimulus mode, similar to what happened in 2008–09 in response to the global financial crisis. However, the chances of a monetary stimulus working to the same effect are unlikely. A rate cut won't bring Chinese factories back online any quicker. Nor will a rate cut get people to travel again unless the virus is contained and the fears fade for good. The evidence indicates that monetary policy tools are not designed to solve problems of this kind. After all, monetary policy can only stimulate demand, and under the current containment measures, any additional demand will be even harder to fulfil, thereby stoking inflation. A fiscal stimulus may help, but that would inflate the budgetary deficit at a time when governments around the world are living way beyond their means.
It may seem counterintuitive, but in a certain sense, COVID-19 is a timely wakeup call to the world. While we have all been counting the blessings of globalisation and celebrating its success in improving livings standards and pushing down poverty in the emerging economies, we were unaware of, and unprepared for, the potential downsides. Therefore, policymakers around the world should start thinking about preparing for the next big disruption, say, a more severe outbreak of a newer virus strain.

Governments need to think about the supply chain vulnerability of critical necessities like medicines and medical supplies, produced mostly in China. Do we need multiple raw material sources? Are some items so essential that we should produce them in many places within countries? Concentration risk is material not only to banks and lending institutions but also to the broader economy. The pursuit of economies of scale has led to the concentration of manufacturing in specific geographies (like China) and we now know the risks it entails.

It is safe to say that supply chains will look radically different within a few years. Technology is already bringing manufacturing closer to the consumers (e.g. the promise of 3D printing), and the trend is likely to accelerate. That would mean the significant capital investment is on the cards after COVID-19 is contained, which would be an excellent economic stimulus as well.

Published in Unique Times Magazine, March 2020
(VP Nandakumar is MD & CEO of Manappuram Finance Ltd. Views are personal)

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