An analysis of a recent event that has substantial impacts on your industry/sector
COVID-19 has had clear supply effects: quarantines, closed factories, supply chain
disruptions and impaired mobility obviously affect production. The effects on demand
are more difficult to gauge but it is critical from an economic policy point of view to get
a sense of them because we have more confidence about how to deal with demand
(through monetary and fiscal tools) than with supply deficiencies.
Changes in real goods prices can indicate whether COVID-19 is causing major demand
effects. Specifically, if aggregate supply effects dominate demand effects, we should
see prices going up as activity goes down, in a kind of repeat of the stagflation of the
1970s. At that time, central banks were in a dilemma about whether to increase rates
to fight inflation or to reduce rates to support economic activity. If prices remain largely
unchanged, we can conclude that aggregate demand has also been substantially
negatively affected by the spread of the virus.
The COVID-19 crisis led to a large-scale fiscal expansion, which affected aggregate
savings. Excess savings were seen as an important factor in driving down the
equilibrium real interest rate in the past decades. The lockdown of economies created
conditions in which private sector demand may fall unboundedly.
Government support measures try to prevent this. If the increased supply of
government bonds persists, there will be an upward effect on the equilibrium interest
rate, to the extent that the bonds are safe and thereby provide a vehicle for the private
sector to hold its increased savings. However, the crisis also has a downward effect on
the equilibrium rate if potential growth falls and risk premia remain elevated due to
increased risk aversion.
The COVID-19 crisis started as a supply side shock that morphed into a demand shock.
High uncertainty and strict lockdown measures are increasingly weighing on the
economy, leading to a rise in private savings in the short run. The fall in aggregate
demand is, at least partly, compensated by higher government spending, as
governments announced substantial fiscal policy measures. While changes in public
savings can be seen as a mirror image of private savings in the short run, the effects of
the COVID-19 outbreak on aggregate savings are less clear going forward.
Assuming that the COVID-19 crisis is a temporary shock that does not affect savings
preferences in the long run, the pent-up demand will give rise to a higher interest rate
once the crisis has been solved (given that the equilibrium interest rate is the relative
price of future goods over today’s goods). Yet, given the budgetary restrictions in the
euro area, budgetary positions will need to be improved at some point, so that the
provided fiscal stimulus will be temporary. This reduces the room for a permanent
reduction in public savings.
If multiple waves of the COVID-19 virus would demand the lockdowns to continue for
longer, the recession might become more prolonged, as opposed to a V-shaped
recovery. In this case, the marginal propensity to consume may fall, as higher
unemployment risk may further increase preferences for precautionary savings. In this
context, Jordà et al. (2020) find suggestive evidence that a shift to precautionary
savings is a typical feature of pandemic periods. Such an increase in risk aversion –
similar to the one observed after the Global Crisis – will further depress the equilibrium
interest rate. As a result, the economy moves towards a new equilibrium (or balanced
growth path) with higher uncertainty and lower economic growth.
With the COVID-19 While aggregate supply is likely to fall, or at least to grow less quickly, what will
happen to the balance of aggregate demand and supply is less clear. A temporary rise in demand, as
people stock up, could see a surge in prices, unless supermarkets and other firms are keen to
demonstrate that they are not profiting from the disease. In the longer term, If, however, demand is
subdued, as uncertainty about their own economic situation leads people to cut back on spending,
inflation and even the price level may fall.
How quickly the global economy will ‘bounce back’ depends on how long the outbreak lasts and whether
it becomes a serious pandemic and on how much investment has been affected. At the current time, it is
impossible to predict with any accuracy the timing and scale of any such bounce back.
Dynamic changes of macroeconomic characteristics
Banking sector across the world faced negative rating momentum through 2020
as a result of the significant effects of the coronavirus pandemic.COVID-19
outbreak has generated both demand and supply shocks deepening across the
Australia.
Under this situation Australian government introduced measures to shore up aggregate
demand as economy suffer from unprecedented supply shock. People were not at work
because most of them are sick or quarantined. As a result of limitation of supply,
demand stimulus will merely boost inflation and weak or falling GDP growth due to
supply chain issues.
Keynes proposed to increase demand through increasing government expenditure to
increase employment. Even though the aggregate demand increased through increasing
the government expenditure, aggregate supply cannot increase as much as required
level to meet full employment level of equilibrium because the global economy has shut
down for a considerable period. Therefore it requires a solution beyond Keyne’s fiscal
remedies. As we know decreasing the interest rate has no power to manipulate the
money market and to settle-down the crisis. Hence monetary policy also will be
challenged under this situation.
Presently many governments provide funds to maintain the smooth functioning of the
basic necessities of the people. IMF and international organisations are going to inject
money by providing loans for the affected countries. These actions are more important
to push the demand in the short run but it will be affecting price increases and inflation.
Sri Lanka has introduced maximum pricing policy for the essential goods and it is
managed by the government. The uncertainties ahead swing between extremes. As the
shortages worsen before they get resolved, prices of many products could go up for
consumers even if laws exist against price- gouging. At the same time, constrained
supplies could cause declines in demand, which in turn may end up weakening prices.
“All those things will happen and have already happened. There’s no magic answer
here.”
. When certain safety rules are introduced to limit the development of the SARS-CoV-2 Coronavirus
pandemic that causes Covid-19
Dynamic changes of macroeconomic characteristics
