Mar 26th 2020

Coronavirus and the global economy: yes, there really is cause for optimism

by Arturo Bris

 

Arturo Bris is Professor of Finance at  the International Institute for Management Development (IMD)

 

 

Stock markets are rebounding on the back of the newly agreed US$2 trillion American fiscal stimulus plan. It comes after a week that was the worst in history for the Dow and many others around the world. My impression is that the unfolding global recession has now been fully priced into stocks by investors.

That recession looks all but guaranteed, of course: Chinese GDP is estimated to have dropped 12% in the first two months of the year – a harbinger of what is coming everywhere. One useful guide is the market for corporate default swaps, which are financial instruments that investors use to hedge against companies running into trouble. The Markit iTraxx Europe Crossover index, which tracks European corporate swaps, is implying a 38% probability in European companies defaulting on their debts in months to come.

Yet let’s put things in perspective. The coronavirus is certainly causing a tragic loss of human lives, but the mortality rate appears to be lower than some early predictions indicated.

So what will be the economic impact of the lockdown measures required to keep the mortality rate down? A large part of the fallout to date – particularly on stock markets – has actually been from negative sentiment rather than real effects. The Baltic Exchange Dry Index, which measures the average price of moving raw materials by sea, is the best indicator of global trade in real time. It bottomed out in February and has since improved as the China crisis has receded – per the chart below.

Arturo Bris

It’s also interesting to compare the 2008 and 2020 market crashes. I have calculated the number of days to the lowest market level in 2008 and 2020, relative to the last previous day when stock markets were at the same level. For example the US stock market bottom of March 9 2009 was the lowest point since September 12 1996 – 13 years or 4,561 days earlier. The low this time, assuming it is not exceeded, was last seen on July 7 2016 – less than four years ago. The chart below confirms that this pattern has been seen in most markets around the world.

Arturo Bris

Assessing 2020

My late colleague Professor Stewart Hamilton was IMD’s specialist in financial crises. He used to quote the famous economist John Kenneth Galbraith, who said: “There can be few fields of human endeavour in which history counts for so little as in the world of finance.”

This certainly applies to 2020. Whereas 2008 was about a collapse in demand, the coronavirus is causing collapses in both supply and demand. It is not a banking crisis, at least not for the time being, so many corporations will hopefully be able to rely on bank credit, over and above government rescue packages. The economic impact is also apparently different across countries.

Interestingly, the stock market impact has been more severe on value stocks, meaning mature companies that attract investors by paying dividends, not because they are seen as having great potential for growth. Compared to the so-called growth stocks, such companies typically have lower ratios between their stock market prices and earnings (PE ratio).

The chart below shows different sectors along the x axis and shows their average PE ratios in the blue bars. The sectors towards the left, like airlines and finance, are value stocks. Those on the right, such as technology and healthcare, are growth stocks. The red bars show what has happened to their average share prices – in other words, how far they have fallen.

Arturo Bris

What it shows is that the growth sectors’ shares have declined the least. This is strange because in a financial crisis, investors tend to rely on stocks that provide value today. As finance economists say, “in winter we burn fat”. To me, this indicates light at the end of the tunnel; that companies who you would expect to generate growth, will still generate growth.

Seven recommendations

I know I am playing the optimist here, and the coming days may take me back to a different reality. But let us at least assume that we have seen the worst and it is now time to think about the after-crisis. What can be done?

  1. Governments and central banks have been quicker to respond than in 2008, but some sectors need more support than others. States need to encourage banks to lend and be flexible, taking advantage of ultra-low interest rates.

  2. Many are calling the crisis a black swan event, meaning a cataclysm that has caused great economic hardship and could not have been foreseen. But such a pandemic was expected in 2017. Policymakers can therefore use the data from this crisis to plan for future crises. Companies should learn from what has worked best and permanently make it part of their values: making employee safety their top priority, for example.

  3. The world will become less globalised now. Companies must adapt their supply chains and markets to protect themselves in the event of a repeat. That means refocusing on their home markets as much as possible now, and striking a new, safer balance between local and global after the crisis is over.

  4. The 2008 crisis had a massive impact on corporate investment from which we have not yet recovered, since the banking crisis meant that banks were unable to lend. Since 2020 is not about a banking crisis, companies will emerge strongest if they avoid under-investing.

  5. Government policies will determine how well companies can come through. So more than ever, the private sector must cooperate. It is not the time to complain about government, but to collaborate.

  6. Planning for different possible outcomes from this crisis is useless. It was the same in 2008. It is better to be resilient and reactive, and to focus on what is happening now.

  7. Finally, the best acquisitions are made in bad times. So for those companies that have the means, it is a good time to think about mergers and acquisitions because deals will be cheap.

Arturo Bris, Professor of Finance, International Institute for Management Development (IMD)

This article is republished from The Conversation under a Creative Commons license. Read the original article.

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Sep 16th 2020
EXTRACT: "Seventy-five years ago, the prestige of the United States and the United Kingdom could not have been higher. They had defeated imperial Japan and Nazi Germany, and they did so in the name of freedom and democracy. True, their ally, Stalin’s Soviet Union, had different ideas about these fine ideals, and did most of the fighting against Hitler’s Wehrmacht. Still, the English-speaking victors shaped the post-war order in large parts of the world. The basic principles of this order had been laid down in the Atlantic Charter, drawn up in 1941 by Winston Churchill and President Franklin D. Roosevelt on a battleship off the coast of Newfoundland."
Sep 14th 2020
EXTRACT: "After Trump’s inauguration in January of 2017, millions demonstrated their disapproval. We can expect the same, no matter how this election turns out. With both sides framing this election in “end of the world” terms; with the president calling into question the legitimacy of the vote, even before it happens; and with the president warning his supporters that they may have to take up arms to defend him – we have a recipe for disaster that may occur in the days that follow this election. This may very well be the Armageddon election of our lifetime."
Sep 8th 2020
EXTRACT: "The Huawei case is a harbinger of a world in which national security, privacy, and economics will interact in complicated ways. Global governance and multilateralism will often fail, for both good and bad reasons. The best we can expect is a regulatory patchwork, based on clear ground rules that help empower countries to pursue their core national interests without exporting their problems to others. Either we design this patchwork ourselves, or we will end up, willy-nilly, with a messy, less efficient, and more dangerous version."
Sep 7th 2020
EXTRACT: "China’s footprint in global foreign direct investment (FDI) has increased notably since the launch of the Belt and Road Initiative (BRI) in 2013. That served to bring Chinese overseas FDI closer to a level that one would expect, based on the country’s weight in the global economy. China accounted for about 12% of global cross-border mergers and acquisitions and 9% of announced greenfield FDI projects between 2013 and 2018. Chinese overseas FDI rose from $10 billion in 2005 (0.5% of Chinese GDP) to nearly $180 billion in 2017 (1.5% of GDP). Likewise, annual construction contracts awarded to Chinese companies increased from $10 billion in 2005 to more than $100 billion in 2017."
Sep 2nd 2020
EXTRACT: "Emergence and spread of the coronavirus COVID-19 have created and still creating health issues, economic challenges, political crises and social conflicts around the world. These challenges and conflicts lead the international community to re-evaluate global governance and international structures, which is based on the second world-war and post-cold war. The pandemic will emerge a new era of international society that will not be similar to the pre-Corona world."
Aug 28th 2020
EXTRACT: "Russia has changed, and has been changing, since its beginnings in ancient Muscovy to its current condition as Putin’s realm. Some general features appear in much of Russian history. Most of its rulers have been authoritarian—but so, too, were most of England’s, France’s, and Germany’s. Many of its political and intellectual elites have considered Russia a special civilization deserving a place in the sun—but just as many have not, wanting to transform Russia into a Western state with Western values. Many Russians have been enamored of their country, but even more have probably damned it for destroying them and their children. What, then, is Russia? It is, and has always been, many, oftentimes contradictory, things—sometimes coexisting, sometimes getting the upper hand, always shifting, always eluding simplistic analysis. But, and this needs to be emphasized, the same holds true for every other country in the world."
Aug 26th 2020
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Aug 26th 2020
EXTRACTS: "There is no question that the re-election of President Donald Trump would endanger both the US and the world. Moreover, there is ample reason to fear that a close election could drive the US into a deep, prolonged constitutional crisis, and perhaps into civil violence.........One can only hope that the election will produce a decisive winner both in the Electoral College and in the popular vote. Yet, even then, tallying the final result may take time, owing to the massive increase in mail-in voting that is expected. Every ballot that has a postmark of November 2 or 3 (depending on the state) will be considered valid, which means that the final result will not be known until after Election Day. During that window of uncertainty, either or both campaigns may try to claim victory based on the current vote count. In any case, there is no chance that Trump will wait graciously in the Oval Office for days or weeks to receive the final tally. In interviews, he has already issued vague statements suggesting that he will not leave the White House if he loses; indeed, he seems to be actively preparing for such a scenario. If he follows through, the world’s leading superpower will find itself facing a protracted – and perhaps intractable – constitutional crisis.
Aug 26th 2020
EXTRACT: "the European Union is a community of values as much as an economic and trade bloc. But the behavior of member states such as Poland and Hungary has called into question their commitment to liberal democracy. Above all, in the US, President Donald Trump is widely criticized, even by lifelong Republicans, for not respecting or understanding the US constitution and the separation of the executive, legislative, and judicial branches. Does Trump even believe in democracy? Does he want all Americans to vote in November, regardless of race or party affiliation, or only those who will support him? And will he accept the election result if it goes against him? "
Aug 25th 2020
EXTRACT: "The fundamental difference in values between the West and China will remain indefinitely, and it is here that the West must draw the line. Any concession that entails a sacrifice of fundamental principles, for example in cultural matters, must be rejected. If this values-based approach results in economic disadvantages, so be it. By the same token, the West should abandon the conceit that it can push, force, or cajole China to become a democracy wrought in its own image. "
Aug 16th 2020
EXTRACT: "China is light years ahead of most of the rest of the world in deploying digital payment technology. Alipay or WeChat Pay apps are all that is necessary to accomplish almost anything that requires a payment in China; the country is largely already making paper money obsolete. "
Aug 15th 2020
EXTRACT: "Seven hundred fifty billion euros is less than 5% of the stock of US government debt held by the public. It’s a drop in the bucket, in other words. And a drop does not a liquid market in safe assets make. Even if this really is Europe’s “Hamiltonian moment,” ramping up EU issuance by a factor of 20 will take decades. "
Aug 14th 2020
EXTRACT: "But the race is not over. In the 2016 election, prices moved the most in the two months just before the election. Trump trailed Hillary Clinton in prediction markets throughout the campaign and was seen as favourite only on election day – showing that the underdog can recover. So despite Trump’s poor position now, he might still regain some ground."
Aug 11th 2020
EXTRACT: "Last year, in the midst of the country-wide protests against corruption, I was honored by a Lebanese humanitarian organization. I began my remarks paraphrasing Kahlil Gibran’s poem “You have your Lebanon, I have my Lebanon.” Like Gibran, I love the Lebanese people, their poetry, art, song, and love of life. I love their generous and welcoming spirit. I also love what Lebanon has given to the world – especially its gifted people. And I love the sheer beauty of the country – its majestic snow-capped mountains and its pristine seascapes. And, like Gibran, I do not love Lebanon’s petty bickering politicians who lead because of an accident of birth. Nor can I embrace the country’s system of sectarian privilege and the corruption that is endemic to the political-economic regime that has squeezed Lebanon dry to the benefit of their chosen ones. And I reject the armed militias, whether they be Christian, Muslim, or secular that in the past and in the present continue to torment those who challenge their dominance. I told the audience that the Lebanon I loved was in the streets making their voices heard demanding fundamental reform – an end to sectarianism, corrupt feudal elites, and rule by force of arms."
Aug 8th 2020
EXTRACT: "It is time for the world’s governments and companies to wake up. Beijing’s reach is wide and deep. It is taking advantage of the West’s openness – and gaps and inconsistencies in our data protection protocols - to acquire information on all of us. The hacks on Anthem, Equifax, Marriott, and the US government are good examples of how they have already done so. American and Western companies need to take a hard look at the costs and benefits associated with operating in China and continuing to have Chinese partners. Those partners must comply with these Laws. American and Western companies that continue to operate with them may unwittingly well be aiding and abetting the Chinese government."
Aug 5th 2020
EXTRACT: "James Murdoch is not the most obvious candidate for editorial heroism. His route to resigning from the News Corp board because of “disagreements over certain editorial content” has been circuitous and colourful."
Aug 4th 2020
EXTRACT: "Say what you will about the slippery slope the US government has been on since Trump came to power, America has a rich history of promoting creative thought, running head-first into particularly uncomfortable subjects, and encouraging robust debate internally and among its allies and partners. Once Trump leaves the scene, America is sure to be perceived as having briefly lost its senses and will come charging back into the mainstream of global thought, debate, and engagement. China has entered the global arena crippled by its own ideology. Ultimately, the US is better equipped to lead the world. It knows that, and so does most of the rest of the world. Someone had better tell Beijing."
Jul 29th 2020
EXTRACT: "The Chinese government has for years argued that its ‘nine-dash line’ of sovereignty over the entire Sea is based on centuries of maritime history, and that China’s claim is air tight. The Chinese Foreign Ministry has even asserted that ample historical documents and literature demonstrate that China was “the first country to discover, name, develop and exercise continuous, effective jurisdiction over the South China Sea islands”. "
Jul 23rd 2020
EXTRACTS: "Like many, I have long been critical of Europe’s Economic and Monetary Union as a dysfunctional currency area. Notwithstanding a strong political commitment to European unification as the antidote to a century of war and devastating bloodshed, there was always a critical leg missing from the EMU stool: fiscal union. Not anymore. The historic agreement reached on July 21 on a €750 billion ($868 billion) European Union recovery fund, dubbed Next Generation EU, changes that.................Unlike the United States, which appears to be squandering the opportunities presented by the epic COVID-19 crisis, Europe has risen to the occasion – and not for the first time."