How Will COVID-19 Shake the Global Economy?

There will be changes, but some of the old ways have value too. Being in exotic places with interesting people physically, rather than virtually, will still carry value.

Almost surely, manufacturing will be the first to come back because there you can have adequate distancing. High-value-added services—education, maybe even telemedicine—are things that can be done virtually. Those will come back.

It’s the high-contact services that are probably going to be last. This includes tourism, and things that involve a lot of traveling. Also, closed spaces—crowded bars, discos. Those will take time, and probably we’ll need either a cure, which tells people the cost of getting the virus is not that high; a vaccine, which tells them they’re protected against it; or a sufficient, fast, and cheap test so that they can feel confident that they and others around them do not have the virus.

Weitzman: What effect will this have on global growth? Also, you have expressed the hope that this could bring countries together in the search for a global solution to a global problem, but there are also signs of movement toward more economic nationalism. Which of those forces do you think is likely to prevail?

Rajan: As far as the global economy, we’ve seen that no part of the world is immune from this. It started with China, spread to some parts of East Asia, to Europe, the US, and North America. Now it’s spreading to South America and to South Asia, as well as to Africa. So everywhere in the world is going to be affected. There was some hope that heat and humidity would slow down the spread of the virus. We’ve yet to see that.

Any hope that global growth would be positive this year has likely dissipated. In the industrial West, we’re looking at between five and 10 percentage points negative GDP growth, which is a fall from earlier estimates of about 2–2.5 percent positive growth. Despite the rebound that is still expected in the second half of the year, we will have negative growth in industrial countries. A number of emerging markets will go the same way. Even China, which has had spectacular rates of growth in the past, will probably go negative this year, given how badly the virus has affected it in the first quarter and given how slow the rebound is so far.

Bottom line, global growth will not be great this year, but hopefully will improve next year. We will see a rebound. The reason there’s so much government and central-bank effort going on is to attempt to keep the economy in a kind of coma, in suspended animation so it can be woken up as soon as the pandemic is behind us. And, of course, the economy will get hurt over this process—a number of businesses will close, never to open again—but the idea is to minimize that damage.

It’s not going to be neat and clean. This was the hope of the V-shaped recovery. It’s probably going to be much slower. Much of the recovery will be next year, but hopefully we should see some later this year.

In terms of global cooperation, it seems to me there are two possibilities. One is that the nationalism that was already strong before the virus gets accentuated. China points the finger at the US and says this was a US intelligence plot, and the US points the finger at China and says this was concocted in China. We see in India some allegations that this was a Muslim plot. That kind of behavior can explode and make it much harder for communities to get together within countries and for countries to get together across the world.

The more we reelect nationalist leaders, the likelier it is we will have a breakdown in the international order. That would mean bringing supply chains wholly inside countries, not being dependent on anywhere else in the world, which will be a tremendous blow to global growth. But such a move will create a reaction which may slow it down. If developing countries have to go on their own, that will mean slower growth and people will want to migrate. That would create new problems for industrial countries—walls cannot keep the determined out unless we create police states.

The other possibility—and this is where I hold out more hope—is that we see a change in tempo across the world. People see the fact that we are an integrated world. Unless you wipe out the virus everywhere, you haven’t wiped out the virus anywhere. And if we are to have international flights, tourism—all the benefits of globalization and growth—we have to be an open world, which means we have to focus much more on the problems that divide us. Hopefully, a change in the tenor of leadership across the world enables coming together. What are the new rules of the game that we need in order to make sure that we reduce the bad behavior that we’ve indulged in over the past few years?

Weitzman: A lot of what we’ve heard suggests that some of the worst effects of the crisis in the US so far have fallen on the most marginalized: on African American communities, on the undocumented, on prison populations. Economic recessions and depressions inevitably increase the wealth gap between rich and poor, but will the aftermath of COVID-19 affect the wealth gap due to lost jobs or the impending economic recession? What are your thoughts on how this will affect the diverging gap between the haves and have-nots?

Rajan: Almost surely it’s accentuating that gap. Take India, where one of the devastating scenes was of migrants who, once the lockdown started, had no sense that they would have food on the table to eat. They put their bags on their backs and started walking home to the village because the trains had been stopped. You see this playing out in country after country. 

One of the pieces of data we’ve seen in Chicago is that the most affected community is the African American community. This must be a source of concern because it’s accentuating the fault lines that were already present in the world, a world where the haves benefited much more from access to education and health care than the have-nots. And it was a world where technology rewarded those who could benefit from these differences while it automated jobs away from those who could not.

I would take a more optimistic view of this. Now that we’ve come face-to-face with how unprotected some segments of society are, we need to think about how we remedy this. We thought these kinds of crises happened once in a lifetime. We threw everything at the global financial crisis because we thought that was the worst we would get. Well, 10 years later, here we are. There are so many other challenges that could hit us down the line, so we need to think about what kind of society is best positioned to deal with these kinds of problems.

That doesn’t mean throwing capitalism out. We have to recognize that capitalism has been an important factor in getting us the kind of wealth that we have in industrial countries, but we need to think whether what surrounds it—what surrounds the markets, the nature of government, the nature of the community—is sufficient for the kinds of risks and challenges that we face going forward. I hope there will be a healthy debate, unlike after the global financial crisis, where it seemed as if the policy makers determined that we just needed to stimulate. 

We need to fundamentally rethink the kind of society we live in and deal with the problems, because this has exposed the fault lines.

Weizman: What about the effect on the treasuries around the world? We’ve had unprecedented levels of government spending and we’ve received a lot of questions from viewers asking about the effects of that policy. I’m going to read you two: “I’m really worried about the level of national debt, especially the increased debt the US is now taking on. How much is too much?” And: “How are the governments paying for their responses to the pandemic? Will deficit spending have serious consequences—inflation, a currency-market collapse?” 

Your colleague [Chicago Booth’s] Chang-Tai Hsieh this week was writing about the possibility of sovereign-debt defaults and the need to pay attention to that. What are your thoughts about sovereign debt, and how much is too much?

Rajan: It’s huge. Respected professors such as [Peterson Institute for International Economics’] Olivier Blanchard made the sound point that with low interest rates for the foreseeable future, perhaps the level of debt that was sustainable was higher than the level of debt that countries had even after the global financial crisis. We’ve just lost all that room because we’ve added another 20 percentage points. Remember, it’s both the numerator that’s going up, the debt that is being issued to spend on all that government spending, and the denominator, GDP, that’s going down. So, debt-to-GDP becomes higher.

There are several issues here. Nobody is saying that we should let the economy collapse, but we have to be careful that we don’t treat this as an endless source of wealth. Somebody has to pay for it down the line. If we don’t pay for it, it’s left to the next generation or the generation after that. Not only do they have to pay for the debt that we took on, but they also have to pay for our retirement and our health care. The intergenerational strife that is possible if this is the legacy we leave them is certainly something to worry about. Clearly, they would prefer having debt than having no economy, but is that stark choice the only one we have? Are we sometimes spending their money too easily?

Hopefully, we begin to move away from seeing massive stimulus as the way to resolve these problems and instead look to the structural reforms we need in each country to get the sustainable rate of growth up while reducing risk. Arguably, one of the reasons there is so much fragility—why the Fed is buying “fallen angels” and triple-B bonds that have slipped below investment grade—is partly because the easy monetary regime before this crisis encouraged leverage. Corporate leverage built up during the 10–12 years after the global financial crisis, and this left little margin for companies, which is why so many are looking to the government for assistance.

The argument that they need bailouts because this is unprecedented and not their fault is bogus. The only rationale to help them is because we want to keep an economy alive. We don’t want the capital that’s embedded in these companies to collapse. But that said, if you’re a company, it is well worth asking how to reduce fragility in your capital structure and operations so that you’re not looking to the government when this happens again. Why is it that you’ve taken on so much leverage? Are we encouraging leveraging with the kind of monetary and fiscal policies that we follow? This would not be a question if this were a once-in-a-lifetime event. “Forget moral hazard, forget bad behavior. We’re not worried about that because this will never happen again.” That’s what we said after the global financial crisis, and we’re back here again.

Weitzman: A question we’ve received is: “How do we ensure better corporate and personal fiscal responsibility? What’s the point of having the greatest economy if businesses and people don’t even have a couple of months of buffer?” And so that relates to what you were just talking about. Do we allow companies to go bankrupt rather than bailing them out? Whom should we bail out? How should we think about that? 

Rajan: Some companies are struggling. They don’t make much money. They’re in competitive markets, and I don’t think we should chastise them for having thin buffers. But there are other companies that made plenty of money, were in monopoly situations, and didn’t create enough of a buffer. They loaded up on debt and now are faced with a much more difficult situation. For those companies, it’s legitimate to point out that their shareholders benefited in good times but now the company is looking for a government bailout. Ideally, what we would do is run those companies through bankruptcy and wipe out the shareholders and some of the bondholders, and the valuable part of the company would survive.

The problem sometimes is: when this happens on a mass scale, bankruptcy courts will be overwhelmed, and it is possible that widespread costs of financial distress could hold back the economy. That’s the argument for bailing out the most viable ones. 

Now, that’s different—and I want to emphasize this—than giving a helping hand to some of the poorest people, which is valuable. Those are the people, in times of calamity, that you need to help survive. There are many who don’t have adequate savings, who don’t have the money it would take for an emergency operation. It is a legitimate function of a society to protect its weakest, especially in times of great difficulty. 

But you want to help the corporations where there is the most value that will be lost if they do not survive and cannot handle bankruptcy. This doesn’t necessarily mean helping every firm, because some aren’t viable and should probably close. That kind of analysis can’t be done in a hurry in the midst of a crisis, which is why we bail out everybody for a little while. But even there, we should be asking this question all the time: Who is it that we really need to help in order to keep the economy going?

Weitzman: The support that was in the stimulus bill, the CARES [Coronavirus Aid, Relief, and Economic Security] Act, has gone to small businesses, and even more money is coming. Is that the right thing to do?

Rajan: Saving viable small businesses makes economic sense because these are businesses that are working on thin margins but provide employment and are profitable. If they go bust, they may not start up again. But, again, this sort of argument has to be made carefully and might differ across a variety of small businesses. For example, a franchise shop could close down and reopen in the same location three or four months later without any loss in value because the value is in the franchise. You may even get the same people back. So, is there a need to keep it alive over the next three or four months? On the other hand, in a specialized craft shop, it may be hard to get some of those people back.

You have to go deeper if you want to do a sensible economic analysis. But Congress simply doesn’t have time, and if it starts picking and choosing, it’ll be a political mess. Therefore, we take a blanket approach. We bail out all small and midsize businesses with this cash, and maybe that’s the only thing to do at this time. At this point, you just spend.

Now, if this lasts much longer, you have to make more careful decisions. Who really needs to be revived? Who is it better to allow to move on to new industries, new businesses, where they can do much more good for the economy? That kind of hard-hearted decision will have to be made if we’re talking quarters rather than months.

Weitzman: You talked earlier about the effect that the crisis might have on what we think of as capitalism, particularly in the US, and we have received two questions related to that: “How do you view the impact on capitalism?” And, “The current crisis has shown the importance of a social net. How likely are things to move in this direction in the US and in India?” We’ve seen the Financial Timestalking about everything being on the table, including universal basic income. Talk about what effect this might have on social policy in the future.

Rajan: Let’s start with capitalism. Unlike the global financial crisis, where you could argue that it was directly created by risk-taking in financial markets, this pandemic and its consequences are less easy to blame on “greedy business.” However, we’ve already talked about the fact that businesses may be more fragile because of the leveraging that took place after the global financial crisis, and certainly, there will be some discussion about whether too many big companies paid out large dividends and bought back stock while leaving themselves undercapitalized for an event of this kind. Nobody would have foreseen this kind of calamity.

That said, it won’t be so much about whether markets work as about the kind of role that governments and communities will have in buffering the effects that we see with this pandemic. The correct approach is getting jobs back in the right place. The European approach is to hold jobs in suspended animation and pay workers, even if they don’t come to work. That protects the business, but if there are massive changes required as a result of what happens during the pandemic, it doesn’t allow for easy reallocation to the new industries that are going to emerge and the old industries that need to fade away.

The US system is harder. Despite the CARES Act, a lot of people will lose their jobs. But hopefully it is more dynamic, so many will get reemployed as the economy comes back. This would prompt a renewed dynamism in growth. But we don’t know. There’ll be a lot of debate on that.

We will almost surely see more debate about the safety net, about health care for all, about universal basic income. But then we will also have an accompanying debate about who’s going to pay for it, because the debt level we start out with will be much higher, and there will be the question of where to get the resources for any of this. I personally believe that we’re a long way from universal basic income, but certainly universal health care will be very much on the table during the next American presidential election. We have to see where that goes.

Weitzman: Your latest book, The Third Pillar, is all about communities and how they’ve been ignored as parts of the social contract, compared with the state and the economy. Has your thinking changed at all on communities and their role because of this crisis? Has it strengthened your view, perhaps, on the importance of their role?

Rajan: It has strengthened my sense that communities are an important building block for the new world. One of my big concerns in writing that book was the growing centralization induced by government and markets, driven by the integration of markets around the world. We want uniformity, and we want uniformity in governance. So, increasingly, governance was being done not just at the national level, but at the international level. 

To some extent, I saw nationalist movements, populist nationalist movements, as a cry against that kind of centralization—the echo from the Brexit campaign being, “Let’s take power back.” I thought that was a very strong voice, but what was important was to listen to it some while preserving the benefits of global trade, of global investment.

So, how do we get the benefits of trade and investment, which we absolutely need, given that we are an integrated world and we can’t wall ourselves off from poorer parts of the world? We need global trade to give those places a helping hand in getting richer, but also to preserve our own wealth and make sure that we stay rich. We need global trade and global investment. But how do we reconcile that with the strong sense that we’re losing identity, we’re losing a sense of agency? Many communities don’t have a sense that they control anything, and so much of that book was a plea for reempowering communities so that they can address some of the gaps that are left behind by globalized markets and globalized government that we see today.

With this virus, we have to distance ourselves and can’t actually engage with each other, but you see a lot of communities trying to take care of the elderly. There are touching stories of those who are less susceptible to the virus doing shopping for their elderly neighbors. You can see these acts even when we’re distancing ourselves. As we interact with each other virtually, we recognize how much we’re missing of the true community, of being in proximity with a human being, and we realize that virtual interaction can be an add-on to a real community, but it’s not a substitute. I’m hopeful this accentuates the need to build those relationships, which hold us in good stead when all else fails—when the markets fail us, when government fails us.

Weitzman: You’ve thought a lot about what this crisis means for India, and you’ve written for Chicago Booth Reviewabout the challenges faced by policy makers. We’ve had a huge number of questions about India. Here’s just one: “Please explain, for India and emerging markets in general, their ability to potentially recover from this pandemic.”

Rajan: The good news in emerging markets and developing countries is the pandemic hasn’t progressed as much as it has in industrial countries so far. We don’t know whether some of that is because of undermeasurement, undercounting, or undertesting, but thus far, apart from China, none of the large, emerging markets have been hit in a big way. It may be coming. Certainly in India, we see the growth rate of cases following the same exponential path, and this is true of other emerging markets such as Russia. The worst is probably yet to come, and we have to see how bad it gets, because many of these developing countries in Africa and South Asia have limited medical resources. Even if they have the financial resources to order medical equipment, there aren’t masks or ventilators to be had around the world. They’re all being driven toward the industrial countries, whose need is higher at this point.

I am hopeful that the industrial countries will get satiated as they bend the curve on the number of cases and can redirect resources into some of the poorer areas, where they will be desperately needed. If the world comes together on it, the sequencing of the crisis across geographical areas may be a boon because it will allow the transference of resources. The world needs to come together, because the effects we’ve seen in Italy and the US will look mild compared with what could happen in poorer countries that don’t have the same resources to fight the virus.

Weitzman: You talked about economic nationalism and the barriers that might come up as a consequence of this crisis. There’s a question here regarding industrial organization. “Would you care to speculate on the logistical prospects for 3D printing or automation and robotics resulting from the current situation?”

Rajan: I don’t know how these specific technologies will affect industrial organization. Two issues today seem clear. Every company is going to look at its global supply chain and try to figure out where it has sacrificed resilience too much for efficiency. In other words, where has it tried to reduce costs significantly but become overly exposed to a single supplier or a single region of supply? We will see global supply chains diversifying far more, even if that comes at some cost, in order to build resilience. Many will try to bring more of their supply chains within a common political or geographical area because right now they are exposed to the fragility of the weakest link. When you’re all in one area, you’re not exposed to risk everywhere else in the world. There will be some incentive to onshore when your markets are industrial countries, but on the other hand, offshore when your market is in China so that you’re not exposed to the China-US trade conflict or any other disruption that might occur. 

The other issue is we will see a lot of smaller companies give up the ghost during this crisis because they have far fewer reserves, far less buffers. That will mean more concentration of industry, which we were already complaining about before the pandemic. Big is going to get slightly bigger. Watch for the big banks to get still bigger.

Weitzman: A viewer, a doctor from New York, asks: “Are the economic and social costs of the lockdown worth the lives saved? For example, the social impact on poor, marginalized communities seems like it may take more of a toll than the virus itself, which is more life-threatening to the very elderly.” First, thank you, viewer, for the work that you do. Raghu, what are your thoughts on the trade-offs that hospitals and policy makers have to make here?

Rajan: First, I join you in thanking all the doctors and nurses and medical personnel who are putting their lives on the line, but also, all those people who are still making the economy work—the workers in the stores, the Lyft and Uber drivers, and the people still working the planes to make sure that at least there’s some connectivity between parts of the country. There’s an enormous number of people who are effectively putting their lives on the line. 

There are two parts to this question. Let me start first with: “How many lives are we going to trade off for economic activity?” And if you put it so bluntly, politicians would know what the answer is. You can try to find out the NPV [net present value] of a life and work out the calculus, but that’s not how politics works. 

Suppose you didn’t do any of the social distancing—you did only mild social distancing and then you had the spread of the virus. That would massively overload the medical systems, and doctors would have to make constant choices about which patients to try to save and which patients to let die. That would be traumatizing. As that was ramping up, it would be too late, but politicians would succumb to the pressure to impose more distancing. We’d have all the costs of distancing, but we’d also incur all the pain in terms of overloading the medical systems and dealing with so many deaths.

The case for the distancing and the lockdowns is to bend the curve, to push it down to a level that is manageable, and then try to root out new outbreaks. That’s the management we talked about earlier—prevent a second or a third recurrence. But hopefully, in time, we get more equipment and we get closer to a solution, whether it’s a cure or a vaccine.

This is why buying time makes sense. But what are we going to do if the curve doesn’t bend and we’ve got to keep people shut up for quarters, not months? That’s when politicians will have to make difficult decisions. Do we actually let the economy collapse? Because the longer this lasts, the more financial fragility starts kicking in, and what was just an economic downturn becomes a financial meltdown. That’s what could happen if we’re locked down for six months, and that’s much bigger to deal with. The best case one could hope for is to suppress the virus, suppress the cases to a low number as China seems to have done, and then deal with any localized outbreaks. 

Weitzman: Regional leaders in the US, such as Governor [Andrew] Cuomo in New York and Governor [J.B.] Pritzker here in Illinois, have complained about having to go on the open market to buy medical equipment and compete with each other and with federal agencies. What are the pros and cons of the US having a coordinated federal response, or not having much of a federal response and having each state develop its own plan?

Rajan: In the midst of a calamity, letting the market work is sometimes a little hopeful. One could argue that somebody who needs a spade just to dig their garden would be outbid by somebody who needs a spade to dig a dog out from under a pile of rubble. But at times like this, when the virus must be dealt with everywhere, it’s not for the best to have states trying to outbid each other, with some states having excess resources while others have too little. 

At this point, you take off your market hat for a little while and say, yes, there are places where the market could be made to work in this kind of situation, but some kind of overall coordination also makes sense, especially because purchasing power differs so widely across states—and also across countries. Allocation done simply by dollars may not reflect true need and true value to the global system, as well as to the national system.

Weitzman: Speculation is something that economists never really want to engage in, but let me ask you to give us your thoughts on where we’ll be one year from now, and where we’ll be two years from now.

Rajan: Hopefully, one year from now, we will see unemployment rates coming down rapidly. Hopefully, we will have compressed the time for a vaccine, and sometime later this year, we’ll start rolling out better testing, a vaccine, or a cure, and we’ll see a recovery well under way a year from now. That’s on the recovery side. 

Hopefully, two years from now, we’re in much better shape, and this is a nightmare of the past. We probably won’t be back to the healthy level of unemployment —3.5 percent—we had before this pandemic, but we will have brought it down to something that is more like the historic norms. Also, hopefully, we’ll be talking about all the fault lines that have been exposed, and how we fix the global and national systems. How do we make sure that this is a sustainable economy going forward and not an economy that is so dependent on drips of stimulus and so fragile to blows?

Weitzman: You talked about some of the positive things that have happened recently. Do you think some of that positivity might last, and what are the positive things that we might be left with?

Rajan: I’m hopeful. This collective experience we’re having is akin to surviving a world war. Hopefully, having been through this experience, we feel goodwill toward those who helped us through, certainly the medical professionals, but also the low-paid workers who have helped us.

We should also recognize that we are one planet, and there are so many challenges that are better faced together rather than faced individually as countries. Obviously, climate change has been knocking on our door, and too many people have been quick to dismiss the risk that it may cause. Hopefully, we see this and realize how serious the consequences are of a pandemic such as this, and we may take these problems—the issues of inequality, climate change—and try and use the power of markets, the power of technology, the power of human ingenuity, to solve them. Let’s find a way to deal with these.

I’m hopeful that solidarity within a country, and perhaps across countries, may be rediscovered as we go through this horrendous experience. Maybe that’s wishful thinking, because we’ve seen partisanship and nationalism demonstrate themselves, but hopefully, the good people on this Earth can overcome the not-so-good.