A recession is near-guaranteed—so how do global policymakers minimise the damage?

Flatten the curve of the economic shock

March 16, 2020
US Federal Reserve Chairman Jerome Powell. Photo: Xinhua News Agency/PA Images
US Federal Reserve Chairman Jerome Powell. Photo: Xinhua News Agency/PA Images

The global supply, demand and financial shocks that have stemmed from the spread of the novel coronavirus are very likely to spark a global recession. The hard data are still too lagged and backwards-looking to show the impact of the coronavirus on global growth, but we definitely know the direction: down. Whether a recession occurs, and how deep and long it lasts, depends on two things: epidemiology and policy.

Social distancing has been employed from Asia to the United States—though the UK has employed a different tactic, aiming to build up a herd immunity so more people are immune to the disease and rates of transmission are reduced—to try to “flatten the curve,” or slow the spread of the virus over a longer period of time to avoid a spike of cases that overwhelms health services. But there is a second curve that can be flattened as well: the inevitable dip in economic activity. The only way to flatten this second curve and make it shallower—and the recovery quicker—is to employ aggressive fiscal and monetary policy. So far, policymakers have left a lot to be desired.

Global central banks have stepped in aggressively with policy easing, led by the Federal Reserve in the United States. The Fed cut interest rates by 50 basis points in early March and an additional 100 basis points on 15th March. Fed Chair Jerome Powell also announced liquidity operations, swap lines with other central banks, $700bn in new asset purchases and a 150 basis point cut in the discount rate. The message was loud and clear: the Fed will do whatever it takes to restore funding liquidity in the markets and support banks. The Fed was not alone in acting; the European Central Bank also scaled up its quantitative easing programme and created a new targeted long-term refinancing operation (TLTRO) with subsidised rates for banks to lend to small- and medium-sized enterprises (SMEs). The Bank of England cut rates and provided a targeted lending scheme for SMEs as well.

These moves have been helpful, but monetary policy is not well-positioned to address the simultaneous demand- and supply-side shock that we are facing. Central banks can support their domestic banking systems and provide liquidity, but cutting rates will not get people to go out and spend money.

The best way to get cash to where it’s most needed in the economy is via fiscal policy. The first priority should be to make money available to support health responders on the frontlines of this crisis. In many countries, that’s embedded in their national health systems. In the US, pending legislation will make testing free and provide additional funding for providers, states and cities. International financial institutions such as the World Bank should also ensure less-developed nations have access to the health care cash they will need to fight the disease.

The next priority is to provide help for those struggling the most: individuals paid by the hour for service jobs—like waiters and waitresses—who may have no one to serve, and those who cannot work because they are quarantined or asked to stay home. While all European Union countries have paid sick leave, coverage varies. Meanwhile, the US and South Korea are the only countries in the Organisation for Economic Cooperation and Development where paid sick leave is not guaranteed. While pending US legislation would provide up to two weeks paid sick leave for those affected by coronavirus, it does not apply to the largest and smallest employers, which together account for about 80 per cent of the work force. That needs to be fixed.

That will help put a floor under an economy facing a full stop. But what helps a country climb back up? It is crucial to quickly get money in people’s hands—the sooner people resume spending, the smaller the dip in activity and the quicker the recovery. One fast and simple way to do so is to mail out checks, as Hong Kong did last month. Not everyone will need the cash, but some people will spend it immediately on rent, food and bills, and others may spend it as the economy begins to recover.

Next on the list for help are small- and medium-sized firms (SMEs), which have had their cash flow interrupted and need a bridge loan for a quarter or two to get back on their feet. Germany, the last country anyone expected to embrace fiscal stimulus, announced an unlimited business credit programme via its state bank, KfW. Tax deferrals such as those announced in Germany or tax holidays such as those announced in the UK could also lighten the burden for SMEs temporarily until the virus is contained and activity resumes. Governments should also provide loss guarantees for loans to SMEs provided by central banks as the UK has done.

Given the unique nature of this crisis, many governments have been slow to anticipate the economic consequences. And policymakers haven’t been able to simply dust off their old playbooks from the global financial crisis. The policy response so far has been too timid, particularly on the fiscal side, and without further legislation we can expect to go into a global recession. It has also been too disjointed, with only the UK standing out among large countries for having coordination between the central bank and fiscal authority. But additional legislation can be expected, and the faster it is passed, the more shallow the downturn and sooner we recover.