Question

Using your knowledge from all the topics we have covered:

a. Discuss the potential short-term and long-term economic implications of the COVID-19 pandemic in Australia.

b. Outline the responses of monetary and fiscal policies to the pandemic, and express your views regarding their effects. If you were the policymaker, how would YOU design and implement these policies? (most importantly, would you have done anything differently?)

Answer 1

A)At the start of 2020, the

world watched on as the

Chinese city of Wuhan

(11 million residents), and

then the province of

Hubei (60 million

residents), went into lock

down.

The hope was that the

newly emergent

coronavirus – later

renamed formally as the

novel coronavirus

(COVID-19) – would be

contained.

Despite unprecedented steps to stop the spread of the virus, we

began to see disruption to the Chinese economy, and subsequent

contagion to other economies as:

• the movement of people became restricted

• supply chains became disrupted.

In Australia the impacts were first felt by:

• domestic businesses (e.g. student and not-student tourism) which

rely on the movement of people from China to Australia)

• just-in time discretionary expenditure businesses exporting into

China (e.g. lobsters).1

As inventories began to run low, manufacturing international supply

chains increasingly became affected.

In parallel we saw movements in:

• Commodity prices: Prices rose as some hypothesised that the

Chinese Government would seek to stimulate the economy with a

new wave of infrastructure spending, and then fall with the

slowdown of the broader Chinese economy

• The Australian Dollar: The Australian Dollar (AUD) is a proxy for the

Chinese Yuan (RMB). As the number of confirmed coronavirus

cases increased and China’s economy slowed, the Australian Dollar

depreciated against the United States Dollar to levels not seen

since the global financial crisis (GFC) (see figure overleaf).

Application of this model allows us to test how we believe industries

and households will respond when subjected to a ‘shock’ to the normal

order of activities – such as the coronavirus.

Application of this model

We need to be cognisant, however, of the limitations of this approach

(which are evident in other methods as well). For example, our

simulations are not unconditional predictions but rather are better

considered as ‘thought experiments’ about what the world may be like.

Our modelling is predicated on a number of assumptions about the

coronavirus’ spread and how it will affect the population and industry.

These assumptions could be refined over time as more complete

evidence emerges.

Specifically, we have assumed impacts over the next 12 months

addressing:

• Labour input: We have assumed a general reduction in labour input

associated with the virus as the sick are unable to work. We have

assumed that 50% of the global population contract the disease,3

and that 61% of those are in the workforce and they are absent from

work for 5% of the year (about two and a half weeks off). This

approximates about a 1.525% reduction in the global labour supply

• There is a permanent reduction in the workforce of a smaller

number due to coronavirus-triggered deaths. We have

conservatively assumed that deaths amongst working age people

are lower than the estimated 1% overall.4 Assuming a 0.5% death

rate, this is a further 0.1525% reduction in labour supply.

Capital productivity: We have assumed a reduction in economy-wide

productivity of capital of -0.57% (a third of the reduction in labour)

representing idle capacity in the economy due to the breakdown in

global supply chains

• Government spending: There is an increase in government spending on

health and public order of 1% of total government spending

• Technological shocks: There are increased costs of international trade.

Industries specifically affected are those:

- where supply chains are integrated across borders (electronics) —

a 1% increase in costs

- that move goods and people (trade, air transport), tourism, education

and recreation — a 5% increase in costs

• Private consumption is reduced leading to a 0.5% increase in savings.

This reflects that over time consumers are likely to be more cautious

about going out and spending money

Government impacts

The impact on the Commonwealth Government’s

Budget position would be substantial.

We project that the 2020-21 tax revenue would fall

by A$25.8 billion (using the December 2019 MYEFO

projections).

Assuming an additional 1% increase in expenditure,

which may be conservative, the Budget’s underlying

cash balance would fall from a projected

A$6.1 billion surplus to a deficit of A$24.8 billion;

a A$30.1 billion swing.

For comparison, at the time of the GFC the cash

balance was a deficit of A$27 billion (2008-09) and

A$54.5 billion (2009-10).

The community impact

While our analysis focuses on the narrow economic

cost of a potential coronavirus pandemic, the

broader social cost of such a loss of life should not

be overlooked.

The coronavirus is disrupting people’s lives, even

before its impact is directly felt on a community;

fear; stockpiling of food and medical products, and Outline the responses of monetary and fiscal policies to the pandemic, and express your views regarding their effects. If you were the policymaker, how would YOU design and implement these policies? (most importantly, would you have done anything differently?)

so on.

B)Most developed countries have made massive economic responses to the COVID-19 pandemic, ramping up spending and using monetary policy to cushion the blow of lockdowns and other measures that have shut down businesses and left huge numbers unemployed. But for developing countries, which are now starting to respond to the crisis more aggressively, such options may be more limited. Here I discuss some ideas for how they address the economic fallout, and how international organizations can help.

When the Covid-19 crisis hit the world, monetary authorities of the main countries were planning wide ranging reviews of their strategies [1]. The exceptional measures they had adopted to cope with the Great Financial Crisis (GFC) of 2007-8 and its appendixes, including the euro area crisis of 2010-12, needed a careful evaluation, a deeper understanding of their limits and undesired side effects. The idea was to gradually define and implement a “new normal” strategy learning from a decade of unconventional policies.
The Covid shock has precipitated again the world in exceptional times requiring the postponement of efforts towards any “normality” and the adoption of new extraordinary measures. Moreover, while the health aspects of the shock will probably be relatively short lived, its economic consequences are bound to last much longer, requiring monetary authorities to devise a true medium-long term anti-Covid strategy, going beyond one-off special decisions. The virus pushed their policy design from one decade of exceptionality to a new period of necessarily abnormal strategic attitudes.
However, some of the lessons from the past decade can help in shaping the new strategic posture, avoiding past mistakes, minimizing risks of financial instability and facilitating the gradual design of a new normality that hopefully will follow the fixing of the Covid damages. The challenge is therefore to single out a few main points that should inspire the coming monetary policy strategies, taking into account both the experience of the GFC management and the specific needs of coping with the new tremendous shock. Conceptual points must then be translated into practicable proposals that the G20 can help to implement.

A combination of fiscal and monetary policies can be used to restore an economy to full employment

Fiscal and monetary policies are frequently used together to restore an economy to full employment output. For example, suppose an economy is experiencing a severe recession. One possible solution would be to engage in expansionary fiscal policy to increase aggregate demand. The central bank can also do its part by engaging in expansionary monetary policy.