The world economy since COVID-19 outbreak
The dramatic spread of COVID-19 has disrupted lives, livelihoods, communities and businesses worldwide. Organizations around the world, including the Forum and its partners, are coming together and finding innovative ways to minimize the impact on public health and to limit disruptions to economies and supply chains.
The coronavirus outbreak is first and foremost a human tragedy, affecting hundreds of thousands of people. It is also having a growing impact on the global economy. This article is intended to provide business leaders with a perspective on the evolving situation and implications for their companies. The pandemic has had far-reaching consequences beyond the spread of the disease and efforts to quarantine it. As the pandemic has spread around the globe, concerns have shifted from supply-side manufacturing issues to decreased business in the services sector.
Since COVID-19 reared its head in December 2019, it has become increasingly clear that pandemics pose one of the biggest threats to the global economy. While the world only became aware of COVID-19 on December 31, 2019, the first person known to have contracted the disease fell ill about a month earlier. Much is still unknown about patient zero and how they came to be infected, but a study by Chinese researchers suggested the individual had no connection to the wet market in Wuhan, China, that was initially identified as the source of the outbreak. One thing is certain: for a month, the novel coronavirus was allowed to spread unhindered, seeping into China’s towns and cities and laying the foundations for a global public health emergency. “If some do not do everything that is needed, this can still become out of control, with dramatic consequences in global health and the global economy,” UN Secretary-General António Guterres told reporters during a visit to the World Health Organization’s (WHO’s) Centre for managing emergencies on February 24.
As a result of the outbreak, the OECD warned on March 1 that global growth could halve this year compared to its previous forecast. Meanwhile, Oxford Economics, a global forecasting and quantitative analysis company, estimated that the virus could cost the global economy $1.1trn in lost income in 2020. COVID-19 has made it painfully clear that pandemics not only pose a huge risk to human life, but to the economy, too.
For the global economy to recover quickly from the ravages caused by COVID-19, ways and means must be found to prevent a massive collapse in demand. Such a risk is rising because many businesses are directly impacted by the very measures imposed to contain the spread of the virus. Cities are locked down and people are told to stay home and avoid crowds. Concerts, ball games and meetings have been cancelled, while restaurants and other venues where people gather to amuse themselves are mostly vacant. And as countries closed down their borders, international travel has been drastically curtailed. Airlines are grounded and hotels are largely empty. Consumer spending has crashed because people are either too fearful or unable to go out and spend. As a consequence, all businesses in industries that entail close contact with the public are now in jeopardy. Their revenues are drying up faster than they can cut costs, and many will go bankrupt if the situation worsens. Under these conditions, a dangerous outcome is mass business closures leading to rising unemployment, creating a self-reinforcing feedback loop that locks revenue-starved companies and salary-starved households into a downward spiral.
Most developing countries rely for foreign income on a combination of commodity exports, tourism, and remittances: all are expected to collapse, leaving economies short of dollars and governments short of tax revenues. At the same time, access to international financial markets has been cut off as investors rush to the safety of US and other rich-country government-issued assets. In other words, just when developing countries need to manage the pandemic, most have seen their fiscal space evaporate and face large funding gaps. The standard prescription for revenue collapses and external financing problems is a combination of austerity (to bring spending in line with income), devaluation (to make scarce foreign exchange dearer), and international financial assistance to smooth the adjustment. But this would leave countries with no resources to fight the virus and no means to protect the economy from the damaging effects of lockdown measures. Moreover, the standard prescription is more inefficient if all countries try it at once, owing to negative spillovers on their neighbors. Under these conditions, even if developing countries want to flatten the curve, they will lack the capacity to do so. If people must choose between a 10% chance of dying if they go to work and assured starvation if they stay at home, they are bound to choose work.
What sectors and economies are most vulnerable?
The COVID-19 outbreak has generated both demand and supply shocks reverberating across the global economy. Among major economies outside of China, the OECD forecasts the largest downward growth revisions in countries deeply interconnected to China, especially South Korea, Australia, and Japan. Major European economies will experience dislocations as the virus spreads and countries adopt restrictive responses that curb manufacturing activity at regional hubs, including in Northern Italy. As a result of depressed activity, the United Nations projects that foreign direct investment flows could fall between 5 and 15 percent to their lowest levels since the 2008-2009 global financial crisis.
At the sectoral level, tourism and travel-related industries will be among the hardest hit as authorities encourage “social distancing” and consumers stay indoors. The International Air Transport Association warns that COVID-19 could cost global air carriers between $63 billion and $113 billion in revenue in 2020, and the international film market could lose over $5 billion in lower box office sales. Similarly, shares of major hotel companies have plummeted in the last few weeks, and entertainment giants like Disney expect a significant blow to revenues. Restaurants, sporting events, and other services will also face significant disruption. Industries less reliant on high social interaction, such as agriculture, will be comparatively less vulnerable but will still face challenges as demand wavers.
1. Banking, Financial Services, and Insurance
The impact of the pandemic on financial services is easy to see, as public stock markets sink into bear market territory, and individual investors bemoan the effect on their savings and retirement plans. Stocks in the U.S. plunged in early March 2020, fueled by COVID-19 fears. Lower interest rates are likely to follow, and lending volumes will reduce revenues. Credit losses will rise as a result of weakening economic activity.
In addition, revenue from trading activities could be negatively impacted from the declining value of financial assets such as corporate bonds, and credit and interest derivatives. This will lower profitability. The pandemic has led banks and major institutions to cut their forecasts for the global economy. For instance, the Organization for Economic Cooperation and Development (OECD) has downgraded its 2020 growth forecasts for almost all economies. It has warned that an escalation of the outbreak could cut global GDP growth to 1.5%, half the current projected increase of 2.9%, and send some economies into recession. Banks are adjusting. Some banks are offering work-from-home options for their employees. Others are separating employees into different groups to help contain the spread of the virus. Bank of America, Goldman Sachs, and Morgan Stanley are crafting split-operation strategies in which workers take turns being in the office. Banks will likely have to reduce their workforces and leverage more technology and automation-enabled platforms to run their middle and back-office processes. Regarding consumers, as their desire for digital banking services increases, many traditional financial institutions will be forced to fast-track digital innovation efforts. In the wake of COVID-19, mobile and touchless payment options will gain more traction. This increases the need for operational flexibility as banks and financial institutions deal with the double whammy of a weakened economic climate and heightened customer activity.
As markets rebound, once the pandemic crisis is diminished, these organizations will need the operational muscle to ramp operations back to full throttle. In the insurance realm, event-cancellation insurance policy providers are preparing for a flood of claims from promoters. Banks and insurers will increasingly deploy digital virtual agents and chatbots to manage customer interactions without direct personal contact. The impact on this sector could be moderate or severe, depending on the size of the decline in stock markets and other factors. For now, based on the impact ratings in each dimension, we judge the overall impact on the banking, financial services, and insurance sector as moderate.
2. Healthcare and Life Sciences
The impact of the pandemic on this sector will be mixed. Along with challenges in some areas, there will obviously be an increased need for health products and services. However, with so many raw materials coming from Asia, shortages of medicines are expected in the market in the next few months due to raw material shortage and factory closures in China.
As that is going on, major pharma firms are under pressure to create a vaccine. Multiple companies are advancing vaccines toward human trials, but it could be many months or over a year until a vaccine is ready. And makers of coronavirus test kits are scrambling to make enough kits.
On the other hand, the outbreak is no doubt increasing the need for hospitals, or the requisitioning of existing buildings (motels, or even convention centers, for instance) if COVID-19 spreads. Remarkably, two hospitals were built in Wuhan, China, since the start of the outbreak. Any similar efforts in other regions will increase demand in the real estate construction industry.
Based on the impact ratings in each dimension, we judge the overall impact on the healthcare and life sciences sector as major, but with a mix of potentially positive and negative economic effects. At the same time, China’s steel inventories have swelled because of reduced construction following the virus outbreak. This could reduce demand for steel feedstocks such as iron ore, steel hardening alloy manganese, and coking coal. If stainless steel and aluminum inventories grow, inputs such as nickel, alumina, and bauxite will be affected.
3. High-Tech and Telecommunications
This sector will feel a wide range of effects from the pandemic. Workers will be hurt with all the travel restrictions, but certain software companies could see revenue increases. Software vendors and their products that provide the ability to work remotely and collaborate, such as Zoom, Slack, GoToMyPC, Zoho Remotely, Microsoft Office365, Atlassian, and others are already seeing increased demand as companies increase their remote-working capabilities.
In the online realm, Internet publishers and broadcasters will see increased demand due to fears of the spread of the virus and millions of people staying home and going online. Across the world, companies will need to allocate more resources to those working from home as a result of the virus. The manufacture of computers, smartphones, and components will be greatly impacted with the closure of factories in China and the quarantining of workers. Major players including Apple and Microsoft have issued warnings of potentially lower-than-expected earnings due to globalized supply chain issues and lower consumer demand in China. At the same time, we are also seeing reports of major companies placing large orders for laptops to support their employees now working from home. We judge the overall impact of the pandemic on this sector as mixed. Based on the impact ratings in each dimension, we judge the overall impact on the high-tech and telecommunications sector as major.
4. Public Sector
Governments and other public entities are struggling to cope with the pandemic and the ensuing panic. And, at the same time, they are often being called upon to increase their services to others affected. Many thousands of schools have closed worldwide, affecting millions of students, teachers, administrators, parents, and businesses that support schools. Online education platforms will gain more attraction going forward.
The higher education sector is aggressively dealing with the pandemic, the effects of which could have implications for years to come.
Beyond International University of East Africa efforts to limit the spread of infection on campuses. For instance, universities such as Stanford, Georgetown, Notre Dame, and UCLA have cancelled classroom lessons for a month or the rest of the semester and will offer exams from home. Harvard has banned all university-related international air travel at least until the end of April 2020.
The pandemic has boosted online teaching platforms. For instance, Duke University has been using Coursera, an online learning platform, to enable classes to continue for students at their Duke Kunshan campus in China. Long term, universities are preparing for substantial economic fallout, both from less revenue from student tuition and the risk that there will be fewer international and higher fee-paying students in their next intake.
Australia could be hard hit. The country has been heavily exposed because of its high level of Chinese students 200,000 attend universities across the country forcing many institutions to adapt to managing remote learning and pastoral care for those stranded abroad or who have recently returned and are in quarantine. The International Education Association of Australia warned in March 2020 of an AU$6 billion to AU$8 billion hit if Chinese students cannot attend the first term. This sector could be hard hit by COVID-19, and much depends on how long the effects last and if it compromises the fall term. Based on the impact ratings in each dimension, we judge the overall impact on the universities sector as major.
6. Travel and Transportation
This sector is one of the hardest hits, and the bad news keeps coming. As panic spreads, governments are taking unprecedented measures. Thousands of planes have been grounded worldwide more so now that the U.S. government has partially banned travel to and from the Schengen countries, excluding cargo, with some limitations depending on each country.
Avasant Partner Carlos Hernandez said the disruption is creating severe consequences for the global economy and extreme financial and operational pressures for the airlines, which employ some 2.7 million people and are facing more than $113 billion of lost revenue globally as they continue to cut capacity and take emergency measures to reduce costs. Several airline executives have taken pay cuts due to the dramatic drop in air travel. Hiring has been frozen, and layoffs could be next.
Along with all the postponed conferences, tens of thousands of business trips and vacations have been canceled. Many cruise ships have been quarantined in ports, and the U.S. State Department advised citizens to avoid cruises during the pandemic, particularly those individuals with underlying health condition. China has closed some transportation systems, and cities such as New York are contemplating curtailing or temporarily closing the subway system. Based on the impact ratings in each dimension, we judge the overall impact on the travel and transportation sector as severe.
How does the economic slowdown impact financial markets?
Fears of a broader outbreak and its economic impact spread to financial markets last month, and most international indices are nearing bear market territory (declining at least 20 percent from the 52-week high) as investors process the lower corporate earnings that will result from the virus. The S&P 500 fell 7 percent to open the March 9 session, triggering a “circuit breaker” that briefly suspended trading for the first time since 1997. Overall, the index is down about 17 percent from its record high on February 19. Amid the equity rout, investors have fled to safe haven assets such as U.S. Treasury bonds, leading to record low yields. Low yields translate into low borrowing costs for the U.S. government, but low interest rates may not benefit private companies or individuals (or even all sovereigns) who may find financial markets too risk adverse to extend credit in light of such uncertainty. The longer the virus spreads, the more economic and company performance will be impacted, raising concerns about debt sustainability, especially for highly indebted countries and companies, absent official support.
BY: Edison Kagona |International University of East Africa