Question

The current COVID-19 pandemic has caused large price reactions, for most financial assets.

- 1 -Discuss how the price reactions can be understood in the context of equilibrium asset pricing.

- in light of your answer in 1), are the shocks likely to be permanent or transitory? Hint: Cash flows, discount rates, asset classes.

- Could we have a situation where prices are permanently negatively affected, but consumers are still better of (those that didn’t lose a lot as investors)?

Answer 1

In case of an equilibrium asset pricing, it is assumed that the demand will be equal to the supply in order to arrive at an equilibrium state, and due to the coronavirus crisis the demand has completely lowered and the supply has been lowered to meet the demands, and the equilibrium curve has shifted downward.

Prices reactions has been completely shocking because there has been a demand in the entire economy as the prices of money financial assets has crashed and the market has also crashed so there is a panic and fear among all the investors and there is a lack of disposable income on the part of the consumers so the demand has completely evaporated and in such cases there is a very rare scenario of shrinking of equilibrium curve downwards in order to reflect a match between twin factors of demand and supply .

I feel that these shocks are likely to be temporary nature and it will be taking time before the curve will be flattering, because there is a a long term effect of this pandemics which can lead to reduction of disposable income for a longer period of time, and it will lead to increase in the demand and there would be a need for stabilization of the economy in order to increase the disposable income to tget back to the normal scenario of equilibrium.