IMA Analysis

Thursday February 27, 2020

Coronavirus February 2020

Speaker:  Adit Jain,Editorial Director, IMA India

The spread of a virus

On Monday the 24th February, investors dumped stocks in favour of safer assets, including government bonds and gold, echoing rising concerns that the Coronavirus will unsettle the global economy. The Dow fell 1,000 points whilst the yield on US treasuries crumbled to record lows, as gold prices soared. This is a reflection of rising worries that the virus has begun to spread rapidly, with a large number of reported cases outside China. Italy, Iran and South Korea have declared health emergencies. More people are getting sick as the virus spreads. With China in a near shutdown, manufacturing exports are affecting world output. China’s return to normalcy will eventually depend on the response of migrant workers, who keep the economy churning. Most of them have refused to return to work after the lunar New Year holidays. Facing the consequences of a 14-day quarantine, they have preferred to sit it out in their hometowns. The virus has affected about 80,000 people with over 3,000 deaths.

The inter-linkages within the global supply chain are such that the problems in one country spread like a contagion elsewhere. The troubles are worsened when China, the epicentre of manufacturing to which the rest of the world is tethered, cannot produce, and even where some factories are functioning they cannot shift goods to ports. Manufacturing worldwide relies on Chinese factories to provide intermediate and finished goods. The US automobile industry for instance is reliant on Chinese parts and Indian garment manufacturers need fabric from China. Major electronic producers are struggling in the absence of a supply of parts. Economists complain that the cost to global output could be as high as USD 1 trillion and its impact on the US economy at 0.8% to annualised GDP growth.

The US sell off followed sharp declines elsewhere. Germany’s DAX fell 4% and the Korea Composite, 3.9%. Crude oil futures have continued to decline and it seems quite likely that the US Federal Reserve will lower interest rates again, in the coming quarter. If the virus is not contained, the markets fear that Europe will be in the same state in two months where China is today. Possibly, the fear of the virus spreading is much worse than the virus itself. There are now rising demands for border controls. If the virus infected a billion people, as swine flu did in 2009, demand for goods other than necessities would freeze and the resulting recession would be deep. Rate cuts by central banks would hardly help, as the supply of goods may remain limited.

Daegu, South Korea’s epicentre of the outbreak, reported a 25-fold rise in the number of cases in under a week. Severe restrictions have been imposed with the region now resembling a ghost town. The United States has restricted travel to South Korea and Israel has blocked the entry of South Korean tourists. In northern Italy, authorities have shut schools, public institutions and museums, and banned public gatherings such as football games and cultural events. Even churches have suspended masses. With open borders across Europe there are now fears of the virus spreading there. Austria has suspended trains from Italy.

Many Indian manufacturers are in a muddle, as supplies from China remain disrupted. Pharmaceuticals, electronics, textiles and chemicals are the worst off. India imports USD 30 billion of intermediate goods and businesses need to examine risk mitigation strategies. On the other hand, those that benefit from the China lockdown can cash in and presumably for a while, as the virus is not going away in a hurry. In any event businessmen need to factor in an impact, possibly a downgrade in their forecasts.