Since the Covid-19 outbreak became a pandemic, global risk aversion has spiked, driving the king safe asset, US Treasuries, to their lowest yield on record, while equity markets have tanked globally and high-yield credit spreads have widened, reminding us all of the global financial crisis of only 12 years ago. The difference is that this time the shock was not created by financial imbalances in a particular country, the US, but rather is exogenous and by now fully global.
It now seems clear that both negative demand and supply shocks will drag down the global economy toward an unprecedented recession unless immediate – and effective – policy action is taken.
The handbook response drawn up during the global financial crisis was expansionary monetary and fiscal policy, the combination of which depends on the available room for each government to conduct one or the other. In fact, for the last two weeks, governments and central banks have scrambled to come up with monetary actions and fiscal packages that would restore confidence and alleviate the key sectors affected by the coronavirus outbreak.
Central Asian central banks and governments reacted first by cutting interest rates and launching stimulus packages without even an attempt to launch a coordinated message, let alone action. In the West, after a 50-basis-point cut by the US Federal Reserve, the Bank of England followed suit, and was in turn followed by different quantitative measures, including from the European Central Bank.
On the fiscal side, the United Kingdom has been the fastest to react while the administration of US President Donald Trump is flirting with the idea of a big bazooka.
As usual, more hesitation exists in Germany, but at least the intention to act has been announced, if not executed.
The key issue, though, is that all of these actions are domestic policies and, thus, clearly insufficient to deal with a global shock, since their impact may not necessarily reach where it is most needed.
The need for international cooperation was a lesson painfully learned in 2008. In fact, the massive dollar crunch that the Lehman crash created beyond US borders was not only tackled by the Fed’s monetary easing but also by policy cooperation. In fact, both the Group of Seven and the Group of Twenty, together with international organizations, played an important role during that period, which ended up with the Fed making dollar liquidity available cross-border by setting up swap lines with major central banks.
This cooperation is lacking today, and it could not be otherwise. President Trump’s continuous attacks on the trans-Atlantic alliance, let alone on China through the trade war he initiated two years ago, have reduced the United States’ leeway – and probably interest – to lead a coordinated action.
As for China, the baton has not been passed to Beijing to lead such efforts, which would anyway be very difficult given existing and growing differences in economic models and, therefore, policy actions. In fact, no matter how much Beijing tries to lead by example, it is still far from offering a playbook of comprehensive policy actions, as China itself is trying to re-float its economy after such a major shock.
Furthermore, financial markets are short of dollars, not renminbi, so only the US administration holds the key to limit the global economic impact of the Covid-19 outbreak. Given how badly the outbreak in the US is affecting Trump’s chances to be re-elected, let’s hope he comes to its senses and sees the advantages of leading a coordinated effort to save the global economy.
For once, he may see the positive angle of global cooperation and multilateralism, of course, for his own sake.
Alicia Garcia Herrero is chief economist for Asia-Pacific at Natixis and senior research fellow at Bruegel.