16 Bold policies needed to counter the coronavirus recession1
Christian Odendahl and John Springford Centre for European Reform
The 2008 financial crisis was a global economic catastrophe. Millions of people lost their jobs, their homes, their savings or their businesses as banks collapsed and credit dried up. It sparked the euro crisis, from which countries recovered slowly, with many experiencing a lost decade. Some fear that the COVID-19 pandemic will be just as bad. But while the economic disruption caused by the epidemic looks likely to be large, the long-term effects on the economy will be less severe than the financial crisis, as long as governments act quickly to contain the economic fallout. Financial crises are, in essence, collapses in trust in the financial system. Creditors fear that they are exposed to losses and seek safer assets, which in turn leads to shortages of liquidity. Riskier businesses have difficulty borrowing, rendering some insolvent. Tighter financial conditions also lead households and firms to cut spending. Thus the 2008 financial crisis became an economic one: demand cratered and international trade fell 15% from the peak to the trough as the collapse in credit rippled through the global economy. Governments and central banks intervened, but failed to support privatesector spending sufficiently, whether through fiscal and monetary stimulus or a rapid restructuring of the banking system. The economics of the coronavirus epidemic is different, but some of the fallout will follow a similar pattern. Fears of contagion and government action to contain the spread of the disease have led to a global supply shock, especially in manufacturing. Factories and offices are closing or reducing operations in order to protect workers. As the infected isolate themselves – and other people reduce social contact – they will spend less on flights, in bars and restaurants, and on other social activities. And businesses are facing falling supply capacity and falling revenues simultaneously, as workers and consumers stay at home. This will make many companies illiquid, which if left unaddressed by
1 This chapter was first published as a Centre for European Reform Insight.
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