Introduction
The whole world, and Spain in particular, is experiencing some of perhaps the hardest and most tragic moments of the last century. It would seem that we were immersed in a simulation, or that we had entered a film set in the middle of Hollywood, participants in one of those blockbusters about global epidemics that we have seen so many times on screen. But no. Sadly, the current situation is not a movie, and if it were, critics would classify it in the horror category. Covid-19 is very serious, a global health emergency in which we cannot waste a minute on anything other than trying to prevent its spread. But, in turn, we must emphasise that solutions that are not driven by hysteria, which will only manage to cause reckless crowds in supermarkets and pharmacies, and an unnecessary hoarding of medical or food products. It is more reckless to face the current crisis from skepticism, which leads to belief that the measures adopted by competent authorities are abusive and, consequently, bypassing of the restrictions of movement imposed by the Government; or, worse still, encouraging other people to commit the same foolish acts.
That being said, it should be noted that the best way to approach the current situation is from reasoning and caution, studying the data that is presented day by day, as well as the consequences that this pandemic will have on the social framework of Spain, Europe and the world. It is undeniable that the Covid-19 crisis is going to leave marked sequels behind it in many areas, such as the political, the social and, of course, the economic. All these must be treated with the same rationality, analysis of available information, and continuous monitoring of the predictions made by experts in various subjects. Alarmism, prejudice and unfounded predictions will not aid at all in overcoming this crisis, nor prevent or lessen some of the problems that it will bring once the storm has subsided.
For this reason, it is important to explain the evolutionary and expansive process of Covid-19, along with its differences with respect to other more common and recurrent viral diseases in our societies. Likewise, it is equally essential to deny some related hoaxes, such as a shortage in supermarkets, which is entirely false, and which will not occur in Spain under the current circumstances. We will proceed to detail some estimates by experts of international rapport on the macroeconomic effect of Covid-19, as well as some economic measures that could serve to reduce its recessive impact in Europe.
What is essential for us to know about the coronavirus?
According to prestigious epidemiologists, in the case of the coronavirus, we should not focus solely on the mortality rate, but rather on the reproductive number, also called R. For this virus, and depending on the country and the moment, each infected person will infect, on average, between 1.6 and 2.5 more people, while a common flu has an R between 1.2 and 1.4. That the Covid-19 has an R close to 2, or even 2.5 in some cases, means that the affected curve will grow exponentially. With social isolation and the restriction of free movement, it is possible to reduce the number of infections and, therefore, contract R to figures close to 1, at which the virus and its spread become generally manageable. This will avoid a collapse in the health system. The objective is to convert the total infected curve from an exponential function to a sigmoid function, what is colloquially known as “flattening the curve.” This will only be achieved if, as the spread of the virus increases, the rate of infection is contained and slowed, which largely depends on our individual will and awareness as a society.
Graph 1.
What is essential for us to know about the coronavirus?
According to prestigious epidemiologists, in the case of the coronavirus, we should not focus solely on the mortality rate, but rather on the reproductive number, also called R. For this virus, and depending on the country and moment, each infected person will infect, on average, between 1.6 and 2.5 more people, while a common flu has an R between 1.2 and 1.4. That the Covid-19 has an R close to 2, or even 2.5 in some cases, means that the affected curve will grow exponentially. With social isolation and the restriction of free movement, it is possible to reduce the number of infections and, therefore, contract R to figures close to 1, at which the virus and its spread become generally manageable. This will avoid a collapse in the health system. The objective is to convert the total infected curve from an exponential function to a sigmoid function, what is colloquially known as «flattening the curve». This will only be achieved if, as the spread of the virus increases, the rate of infection is contained and slowed, which largely depends on our individual will and awareness as a society.
We must prevent our elders from taking to the streets under any circumstances, since the death rate shoots up with age: it is four times higher than the average for those over 70, and seven times higher among those over 80. Meanwhile, for those under 40, the average mortality rate would be close to 2 per 1,000 infected, which, in percentage terms, translates to 0.2%. In Spain, according to official sources, the number of infected persons doubles every three days, which shows the great importance of implementation and strict compliance with control measures in order to prevent the collapse of the national health system (public and private).
It is true that the number of people affected may be underestimated by the low number of tests being carried out (mainly due to lack of resources and system capacity). In some countries such as South Korea, where tests were provided throughout the population, including asymptomatic people — since they can also carry the virus — the rapid detection of infected people and the possibility of discerning the severity of the different cases has made it possible to strikingly reduce contagion and mortality rate. These tests are very important, since the incubation period for the virus is around 5 or 6 days, and it can be spread earlier, even if asymptomatic after the incubation period in a respectable number of people, especially children, adolescents and young people without previous pathologies.
Graph 2.
The mortality rate is calculated by dividing the total number of deaths by the virus by the number of confirmed cases. The data is based on an analysis of the first studies of the COVID-19 shot in China, in the period until February 11, 2020.
How to be rational in the midst of a pandemic and not be carried away by primal instincts
In the face of a pandemic like the Covid-19, we should not act skeptically and carelessly at all, but neither should we indulge in hysteria and primal instincts. The reason, intelligence and analytical capacity of human beings must be used more than ever in situations like today. Behavioral economics, plays a large role in this area; it is worth reviewing some points made by experts in this branch of Economic science over the years, as they can help control our behavior in these situations.
Our tendency to be carried away by fear or insecurity is not convenient. Uncertainty about the evolution of the epidemic, its effects or risks, generates very heterogeneous individual behaviors, which in many instances limit our cognitive capacity. In other words, there will be people who take maximum precautions, while others believe that the measures are exaggerated and will try to avoid mobility restrictions by any means. On the other hand, the high time preference of a large part of the population, that is, that greater value is given to present goods than to future ones, makes it very difficult to encourage preventive behaviors: many people do not really think about harm that running on public roads or walking the dog in gross could mean for them and their environment, to give some practical examples.
In many situations, we only count the benefit that our actions could have on ourselves, without taking into account the externalities (both positive and negative) that they entail on third parties. That is, many people extract that the only thing end to confinement is not to get sick themselves, but they do not introduce into their mental calculations that the final objective is not only to prevent individual infection, but to interrupt the virus’ spread. Thus, some reckless actions, such as meetings or grouping together on public roads, present enormous negative externalities (social cost) on third parties. Those third parties run the risk of contagion — remember that quite a few affected are asymptomatic — they could infect us, and we, in turn, others, thus rapidly spreading the disease. In the absence of individual incentives that promote an internalization of the costs and benefits of our behaviors, which motivates to reduce the former and increase the latter, state intervention is necessary (with a similar, but expanded, justification to that applicable to Pigouvian taxation), through measures such as forced confinement or isolation, or many others decisions in the legal framework that accompany a state of alarm.
Continuous monitoring of the data and periodic analysis of these will make us avoid both availability bias (talking too much about a topic without having enough information, leading to an under- or over-estimation of its relevance and drawing erroneous conclusions) as well as over-representation bias (giving greater importance to certain factors related to the coronavirus, and excessively little to some others, when applying a personal bias wrongly due to the lack of information or an insufficient or incorrect analysis of it). This will make us act much more rationally in the face of an unknown and uncertain situation such as the pandemic that, unfortunately, we are experiencing.
At the most practical level, one of the greatest demonstrations of irrationality and little or erroneous analysis of the available evidence lies in the thought that there may be a food shortage in Spain in these circumstances.
Why will there be NO food shortage in Spain?
In recent days, we have not stopped seeing images of people crowded at the doors of supermarkets, waiting for them to open who, once inside, fill the carts with large volumes of all kinds of goods. But why do people hoard? In principle, many have decided to monopolise hygienic and food products for fear of a future shortage; that is, that, when it comes to buying, they suddenly find themselves faced with insufficient supplies of these products. An irrational fear, unfounded and without any real basis. In war periods, countries can in many cases experience this contingency, but not in a pandemic. Let’s see why.
The dysfunctions and distortions that occur in the productive structure in one case and in the other are very different. In the first (the case of a war), the food distribution sector – like so many others – loses much productive potential. In other words, even when producing to the maximum of the available means, the supply will not cover constant demand. Why this decrease? Very simple: as a result, for example, of the bombardment of factories, farms, supermarkets, municipal markets … the ability to generate goods is lost, which leads to a constant decrease in supply and over time leads to shortages.
Why will this not happen in Spain during the Covid-19 pandemic? Images of people piled up in supermarkets show nothing more than temporary spikes in demand. That is to say, a volume of demand that usually extends over time (consumers shopping, normally, is distributed throughout the days of the week or month) is now concentrated in a short period of time (a greater number of consumers attend the same day, and, in addition, purchase a greater quantity of products). But these peaks will not cause a shortage, since this depends on the levels of supply, and the supply of hygiene and food products has not only been maintained, but has even increased to meet the needs of customers. On the other hand, although the demand per time period is condensed, these peaks are not usually prolonged. Thus, a family that goes for 10 kilos of meat will not buy meat again until these reserves have decreased, thus distributing the high points of demand.
In addition, in all supermarkets, products are replenished once every day, and in situations like the current one, we are observing even twice. In Spain, on average, there is one of these establishments for every 840 inhabitants. This is a very high ratio, in addition to the existence of 400 very fast distribution logistics platforms which are fully active, and which allow warehouses and shelves to be stocked in full in less than 24 hours, as reported in a Mercamadrid statement.
The economic effects of the coronavirus and possible macroeconomic policies to combat them
It is expected that the coronavirus health crisis will precede an economic recession, which may be short-lived or long, depending on the type of policies applied and other factors that are currently unknown. The economic impact will grow the faster the contagion curve does, which has already contributed to paralyse the national economy. Uncertainty is key in the economic field, and the numbers do not bode well. If we look at the VIX index, which shows the volatility of the markets, we see that it reaches maximums that have not been recorded since nearly 2008. Some measures have already been taken in this regard, such as restricting short positions in 69 shares of the Spanish stock index, but it appears to have had little effect on levels of uncertainty and volatility. Likewise, there are still no reliable estimates of the aggregate economic impact of this health crisis, which will depend on numerous factors such as the rate of infection, mortality, the behavior of the virus during spring temperatures, or protectionist policies adopted by the main countries of the world.
The coronavirus will generate — as it is already doing — both a supply and demand shock, not only due to the implications of the pandemic and the measures to combat it, but also due to the reaction of economic agents to these situations. The supply shock would be produced mainly by the closure of factories, offices and work centres. Regarding manufacturing, the closure of China in the last month-and-a-half has caused strong disruptions in international value chains, due to a severe shortage of intermediate goods. Logically, this has affected to a greater extent the countries most exposed to China or the nations of Southeast Asia, such as the Germans. But it has has notable repercussions noticed in Spain, especially in the automobile sector, which had already criticised the shortage of inputs several weeks before the state of alarm was declared. In the services sector, the supply shock comes from the workers’ side. In other words, the standstill in the activity of many companies — or at least significant reduction — due to the containment measures imposed will result in total dependence on telework in the quarantine period. As this is impossible to apply in some sectors such as hospitality, these will seriously decrease their income.
On the demand shock side, both uncertainty and risk aversion, together with the containment measures implemented at the state level, have contributed to curbing dry consumption. In these situations, many families, especially those located in the lower and middle deciles of the income distribution, demonstrate a severe reduction in their consumption rate, compared to a significant increase in their savings rate.
Spain will suffer a lot with this health crisis, since some of the most affected sectors — and more in time — are commerce, tourism, hospitality and transport, which together add up to no more and no less than 25% of our economy.
Both shocks (supply and demand) could lead to a financial shock in the future, since market dysfunction will cause solvent companies to shut down if they continue to face fixed costs and taxation in the face of a decrease in the majority of income. In other words, a temporary lack of liquidity for some businesses can become a serious solvency problem, affecting mainly SME’s with little cash accumulation.
Faced with this crisis, it has not been possible to adopt macro-efficient policies, since it is a clear «black swan,” as described by Nassim Nicholas Taleb. In other words, an enormously disruptive and unpredictable event that has serious consequences for our order of life. Even so, it is absolutely reckless to have to face it with public debt levels of 98% of GDP, with a fiscal deficit of more than 2%, and with rates previously located at 0% by the ECB. The ammunition that could be used to combat this crisis would be much greater if, during the period of economic expansion in recent years, it had been used to balance public accounts, reduce the deficit-debt binomial, and execute a stable monetary policy.
It is as if in peacetime we had used projectiles to shoot a fictitious target, and now we were trying to go to war with just a handgun and two or three bullets in the magazine.
What policies can be adopted at the economic level?
It must be clear that, in the face of this crisis, fiscal policy should take precedence over monetary policy, which, over the last few years, has greatly diminished in capacity. With the rates at 0, and even negative, the Treasury can finance itself to introduce greater spending policies and deferral, reduction or elimination of many taxes, thus helping the self-employed and small businesses. The sectors related to commerce, tourism, hospitality or transport must be a priority when receiving such tax relief, not only because they represent a quarter of our economy, but also because they are suffering more from the effects of the current pandemic.
While this lasts, aid policies must be studied in order to try to maintain a minimum income for companies, one that works toward conserving workers’ incomes and employment in the near future. Likewise, they might favor reductions in working hours — even for those companies that work electronically — to prevent mass layoffs after the epidemic, and accompany them with a supplement to complete the payrolls of the most vulnerable employees. This will minimise the contraction of aggregate demand.
The Government of Spain, through the ICO, could open liquidity lines temporarily for SMEs that are severely suffering the effects of Covid-19, which in turn will contribute to debt restructuring. I will also prevent a liquidity shortage which could lead to the insolvency and bankruptcy of many companies.
Finally, monetary policy also plays its role, although smaller and less effective. As we have already commented, the capacity of action of the central banks — especially the ECB — is extremely limited, because, since 2008, it has been applying all its resources towards the maximum without truce (this includes TLTRO, QE and its prolongation, negative interest rates…).
Last week, Christine Lagarde’s commentary on this topic was not too positive, nor did it sit well with the markets, which blame the lack of fiscal policy and the excesses of monetary policy over the last years with the intention of prolongating them. On the one hand, the ECB intends to inject more liquidity into companies, focusing above all on SMEs, as indicated last Thursday, through TLTRO III. On the other hand, they intend to continue and expand the acquisition of financial assets (mainly sovereign and corporate bonds) through the long-standing QE, trying to make it easier for companies to finance themselves through the markets. What Lagarde did refuse was for the ECB to do the work that corresponds to the States, relative to limiting the risk premiums that have been skyrocketing during these days.
In conclusion, several more crises emerge from the Covid-19 health crisis — economically, socially and politically. Confronted by them, we cannot act with skepticism, and much less with hysteria. In these difficult moments it is time to be and act together. When the storm passes, we will have to fight to prevent the economy and society of the old continent from sinking. Because if both sink, the European project will follow suit. And we cannot and should not allow that.
