This Black Swan event is going to have global economic consequences
Coronavirus has shut down more than two-thirds of the World’s second-largest economy
It was only a couple of weeks ago that I reviewed the global economic outlook by the IMF for 2020. The report showcased a cautiously optimistic approach for global growth noting that trade war risks, Brexit uncertainty, and underperformance in the emerging market economies could slow down the recovery. However, the one thing that no one can ever predict is the occurrence of Black Swan events.
While some of these events taper off earlier than the others, the recent outbreak of coronavirus, which has turned into a pandemic is already hurting the economic activity in China. The second-largest economy has literally been held hostage to this outbreak as it shows no signs of abating.
The new year had started off on an optimistic note with markets rebounding big time from the earlier summer lows. Phase 1 trade deal between the two the United States & China in January promised to bring normalcy to the markets & general investor sentiment. Then came the news of Coronavirus spreading out of the Chinese city of Wuhan (Hubei province). So far it 20,704 people have been infected, 427 have died while 727 have recovered.
Extraordinary measures have been taken by the Chinese government to control the situation — extending lunar year holidays, restricting travel to & from the affected areas & canceling all kinds of public events. This, however, has an adverse effect on economic activity as Provinces and Cities making up two-thirds of the Chinese economy will remain closed for business this week.
The Chinese financial markets opened this Monday with a steep decline of 7.7% rattling the global markets. To stabilize the financial system, the Chinese government took the following measures on Monday:
- PBOC injected another 500 billion yuan ($71.2B) of liquidity via reverse repo agreements into the financial system today, adding to the 1.2 trillion yuan ($174 billion) injection seen on Monday, while cutting rates on 7-day and 14-day reverse repo by 10 basis points.
- According to Reuters, China’s securities regulator urged some mutual fund managers not to sell shares unless they face investor redemptions.
- Brokerages like Citic Securities Co. and China International Capital Corp were barred by the country’s regulator to sell borrowed stocks.
- Bloomberg confirms that proprietary traders will not be allowed to be net sellers of equities this week.
- Evening futures trading has been suspended until further notice.
- Businesses can delay reporting financial results and new asset management rules have also been delayed.
All this was done to ease the investors’ nerves, improve market conditions & avoid panic. The results were encouraging today with the Chinese market rebounding about 1.5% while the Dow added more than 400 points. Today’s bounce was at the back of a Reuters report that said China’s central bank (PBoC) could cut its key lending rate as well as banks’ reserve requirement ratios (RRRs) further in the coming weeks to stabilize the economy & support economic growth.
It remains to be seen whether this proves to be a temporary reprieve based on technical grounds or something more meaningful. I doubt any significant recovery can be seen in the broader markets unless the health scare is warded off. For now, China is having a hard time dealing with it. Analysts are already crunching the numbers on how this black swan event is going to hit China, its neighbors in the APAC region & the world at large.
Chinese economy which grew at a healthy 6% despite the trade war will undoubtedly take the biggest hit. Tommy Wu at Oxford Economics estimates that the outbreak will deliver a 2% hit to China’s GDP this quarter, but by the end of the year, it will only contract by a total of 0.6% (Figure 1). Global contraction to the amount of -0.5% is still precarious considering the fragile recovery we had seen in Q4 2018.
Keep in mind though that this is all predicated on the virus being contained in the first quarter — if not, it could get a lot worse.