"Recovering 20 million lives and avoiding a US 3 trillion dip in GDP": The high ROI of curbing the Covid-19 pandemics
March 4. In two recent articles, I tried to make the case that
a) The Covid-19 outbreak might be serious. The Covid-19 looks like it behaves as a global hitter, -- not a serial killer like the 1918 Spanish influenza pandemics that killed tens of millions of people, but likely a bug that is an order of magnitude, - more than ten times-, what we know from the traditional flu.
b) There is a plausible scenario for reducing its risk, but a way to curb it to level of a only severe flu will require a significant set of actions at scale, delivered as well with speed and agility, and with cooperation to population.
The typical question that arises now is what is the economic consequence of the action plan—and can the world afford it ? The answer to this question is: yes, it can,(and should), if one believes that Covid 19 will continue running the same curse as it has done so far.
The cost of not acting
At current, the stock markets give a first high level data point. They have been under large pressure, when they came to realize that contamination was not confined to Asia but was moving quickly into the Western world. They lost an estimate of US 6 to 7 trillions by end of February in the worst week since the 2008. This is equivalent to 8% decline of the equity value by end of 2019 worldwid, and about 11% from stock exchanges peak, achieved in late Jan 2020 (see https://www.cnbc.com/2019/12/24/global-stock-markets-gained-17-trillion-in-value-in-2019.html, for a Deutsche Bank estimate of the global equity markets).
The size of the drop is not exceptional, except that it happened much quicker than in case of other recent high profile outbreaks, at the time the fear emerged that those outbreaks may turn in large and lethal pandemics. Ebola outbreak by 2013 shaved around 13% of the S&P 500 in 21 trading days, (for the same cut but in three times more sessions for the Zika virus, from November 2015), while SRAS did decline the S&P by 7% in about 38 sessions, according to Citibank analysts (see https://www.cnbc.com/2020/01/28/market-reactions-to-major-virus-scares-show-stocks-have-more-to-lose.html).
The good news, said the past, is that markets quickly recovered when the outbreak was mastered, but will it be this time, and under what conditions? Also, financial markets may behave irrationally in short term and amplify the issue, how deos that look if we take a broader measure measure of GDP ?. Finally, the stock markets only report cash flows perspectives of publicly quoted companies, and do not necessarily include effects on possibly more fragile SMEs, as well as do not look at user surplus for citizens, and beyond GDP.
Reviewing multiple models and channels by which the virus may affect the macroeconomics and social systems, and doing my own ? high level ? back-the-enveloppe calibration, the early high level conclusion is that
a) (Even) a controlled outbreak is a negative headwind,
b) ..which may be turning into a recession, if Covid 19 maintains the same curse globally.
c) by our early estimates, the return on investment on acting is large enough to have economic agents incentivized to put a break on the pandemic, as it is for citizens to maintain welfare by limiting casualites.
In fact, there is already a large set of promising actions being taken by governments and through the support of the WHO - but from what we know, and from what is necessary, a coordinated, scalable and agile plan at each node of infection is not crucial, yet to be deployed seamlessly. Using quarantine and extensive social distancing is likely a dominant strategy that states and governments should fund at full for disruption, as payback to curb the pandemic is quick and large worldwide
A deeper look at the macroeconomic burden of pandemics
The impact on typical flu
There seems to have been 10 influenza pandemics since the 17th century, killing a large numbers of people, due to generally high attack rates ; and often pandemics arose as original center from China, Russia and Asia in most of the cases (see Shortridge and Stuart Smith, 1982, An influenza Epicenter ?, The Lancet).
A simple macroeconomic, labor supply-side, costing exercise would be to take the mortality rate, and the average age of those who fell victims to compute a recurring effect on GDP, dur to depletion of humian capital. It would add the days of unproductive works for each time of the outbreak.
Hence, consider that a strong flu would typically affect 1 to 2.0 billion people, kill 300,000 to 700,000 people out of 7,8 billion humans, with average age of 40 years old, thus creating an opportunity cost of half their work life (see my other article, https://www.dhirubhai.net/pulse/three-key-covid-19-indicators-curb-likely-20-million-human-bughin/ ).
As labor stands for 50 to 60% of total added value, and considering that human capital depreciates at 3-5% a year, while labor productivity growth is 1.5% a year, the yearly cumulative impact would be up to 0,1 % and 0,2% of GDP, including loss of productivity and consumption into the economies.
Now let us look at the days lost at work of the 1 to 2 billion people. Assume that one out of 60 contaminated people needs hospitalization and looses 10 days of work, while days lost for other affected people is one week out of 48, then the total effect is 0,2% to 0,4% of GDP, on each year of the pandemics.
If the flu comes back every year, the total value effect is 0,3 to 0,6% of long-term GDP path. Noting that the worldwide cost of equity of capital is 10%, that equity markets value free cash flows and not value added, and free cash flows are not fully variable to GDP, as they include semi-fixed costs of depreciation and debt services, amplifying the decline in percentage, the total depressive effect on equity markets, looks more like minus 0,5-1,0%, but quickly raises if pandemics morph from typical flu type to become broader and/or more deadly , in line of the initial reactions of stock markets when markets got to realize and to fear that SRAS or Ebola were quite deadly ( with fatality rate much larger than normal flu). If the outbreak is a one time event, the total effect is becomes more like 0,1 to 0,3% in the equity markets, bouncing back from an ealry fall at 0,5% to 1%, in the first year,—a typical ? V ? seen in the past.
Extending to more channels and assets
The above only accounts for the ? labor supply ? disruption, however, and concerns a normal flu. They are many more channels by which the disruption may happen, and the more so, when the virus attack rate is large and contamination are lethal.
Demand effects
For instance, there is likely a depressive demand effect, that is, the size of the risk makes inhabitants decide to reduce consumption, eg in retail, entertainement services, or travel, while the significant (fear of) a lower wealth may lead to additional reduction in spending (see McKibbin and Fernando, 2020, the global macroeconomic impacts of Covid-19 : seven scenarios, Brookings). Surveys made at the time of the SRAS outbreak in Asia led to a premium to pay to prevent risk of infection, demonstrating a risk aversion in the context of high fatality rate pandemics , with a 3% decline in demand during the quarter of acute phase. (see Bloom et al. 2004, potential impacts of the SARS outbreak on Taiwan economy, Asian economic papers ; see also Lee and McKibbin, 2003, globalisation and disease : the case of SARS, Asian economic papers).
A second demand effect is through export and import—according to the degree of country connectivity. Given the fact that about 20% of world GDP is related to both import and export globalisation, one talks about an additional 40% pressure effect inflating the private consumption effect (as private consumption is possibly 50% of GDP).
Extra supply effects
On the supply side, there are the costs of hospitalization and treatment, but we might assume that they boost local GDP as part of the health system and services. We leave them out here is public spending is valued at cost. Crucially, there might be global supply chain disruptions, and high profile cases have reached mainstream media, such as Apple risking breakdown in its supply on airpods and phones, if the Chinese shutdown due to the Covid 19 crisis lasts longer than the 4 to 6 weeks inventory buffer (see https://www.latimes.com/business/technology/story/2020-02-07/apple-supply-chain-threatened-by-coronavirus-quarantines).
Finally, large systemic uncertainty may boost the equity premium risk, at least for the countries at the epicenter, -- it has as estimated to be in the range of 100 to 150 basis points for large epidemies such as the Spanish flu (see McKibbin, 2006, Global macroeconomic consequences of pandemic influenza, Lowy Institute for International Policy).
Total effects
Adding those effects on top of ? labor supply ?, a total yearly demand shock of -0,2 % is plausible, plus an extra supply effect in the range of -0,3 % for a typical flu type. In total, we estimate that the total depressive effect is between minus 0,8 and 1,1% for GDP. If recurrent, the total effect is minus 1,6 to 2% depression on the equity markets, for a typical flu type. If those figures are only directional, and back of enveloppe estimate, they nevertheless are in line with more sophisticed academic reqsearch in the lastv twenty years, using tools such as worldwide general equilibrium models, see Table 1. There, a typical 1 to 2 million coronavirus like flu fatalities typically will have a depressive impact in the range of 0,5% to 1,5% GDP impact.
Table 1 : other study estimates of pandemic costs worldwide
Source year Global scope percent of GDP ( recalibrated)
ADB 2005 1 to 2 million fatalities 2.5% (Asiaonly)
World Bank 2013 Spanish flu ( 40 to 70 million fatalies) 5%
WHO 2018 Average flu type (1-2 million) 0,6%
Brooking 2020 Moderate flu (2 million) 1%
Brookings 2020 Spanish flu (40 million to 70 million) 6 to 10%
Note : most papers include demand and supply effects, but with differentv assumptions and valuation method
Calibrating to Covid 19 – back to last 2008 crisis ?
What may change for Covid 19?
Covid 19 possibly have slightly longer time of hospitalisation and recovery. Covid 19 has proven to have larger fatalities, and currently reproduction rate is high still, leading to possible attack rate at the high end of a typical flu. In our recent simulation, the modal scenario we have come with is more like Coivd 19 bringing 20 million casualties (more than 10 times the average flu), for about an attack rate twice the normal flu.
Factoring this as back of the envelope, the range looks more like up to a decline of 3% impact on wolrdwide GDP, or a 2.5 trillion US yearly GDP shortfall. If the pandemic lasts the 6 to 10 months average, and there is no cost for supply chain to rebound as well as for consumers to return to normal spent, we may talk more to 1.5 trillion USD in a year, or a 1.5 to 2% growth dip. This figure also implies three critical points ;
a. The first is that the pandemic effects on the world economy may lead to a "flattish" year vy 2020 : from roughly 3% benchmark to between 0% to 1%, by 2020.
b. The second is that this is serious-- this is half way what the world suffered during the crisis of 2008 to 2009.
c. The third is that, if this dip is fully recurrent, the effect on equity value may also climb to the range of minus 6 to 7% of the total equity markets worldwide; if economy fully recovers after the Covid 19 pandemic the effect on stock market path will be in the range of minus 1 to 2% at the mode, leading essentially towards a close ? V ? recovery by later in the year, still with a net 1 or 2 trillion USD value having vanished. If however, investment does only rebound at half rate, as are the broken supply chains and the momentum of final demand, the profile will look more like a long term valley, with minus 6 to 7% the first year, minus 4 % the second, minus 3% the third, to converge back long-term to original.- in this case the blip might cost 3.5% of total equity value of stock market, or roughly net 4 trillion USD Dollars, from an overshoot at 7 trillion value in the short term.
Note : One may of couse be surprised by such a large figure, indeed bigger than what has been anticipated by many bank economists or institutional players such as IMF in a few weeks back. In fact, the consensus bankers’ estimates seem to be an average dorp of 0,3% of GDP growth of 3, or a 10% effect on growth rate for 2020. IMF recent estimate is even lower . However, those institutions are likely considering cases when Covid 19 is controlled. In fact, Chinese economists had reckoned that in 2003, the SRAS epidemy had it lasted more than 6 months will have cut up to 0,5 % (or 8% of the base growth momentum at that time). For comparison, SARS affectd about 5300 Chineses people and killed 350 of them. Roday, there are aleeady fifteen times more contaminations and about 12 times more fatalities after less than 3 months of Covid 19 outbreak, than in SARS epidemy in China (see https://info.hktdc.com/alert/cba-e0306sp-4.htm).
Clearly, the insight from the simulation is that is Covid 19 is free to diffuse, and keep its reproduction/attack rate, not only the human costs will be high ( tens of million of deaths) but the economic effects will be large, implying in all logic, a possible recession.
The great return of controlling the Covid-19 diffusion
There costs are very high to let the covid 19 scenario to unfold. In a separate article, I mentioned a set of levers and actions, and the need for speed and agility to implement them at a global level. What is critical is both to identify and block superspreaders, to limit false négatives in the virus infection, and to stop any new node of the virus deployment, mostly by major social distancing, quarantines, and closure of social spaces for a few weeks/month(s-) at work, at school, etc.
If this works, and reduces the reproduction rate by 0,5 people, and if fatality rate is reduced by 50%, the ttal GDP effect may come down from 3% effect to 0,5 to 1%, or a gain of 2 trillion US dollars a year.
Leveraging now the cost estimate at the World Bank ( Jonas, 2013, Pandemic risk, World bank) as well as at communities studies led by Joel Kelso and colleagues (see Kelso et al. 2013, Economic analysis of pandemic influenza mitigation strategies for five pandemic severity categories. BMC Public Health and Milne et al, 2013 The cost effectiveness of pandemic influenza interventions: A pandemic severity based analysis.PLoS ONE), the fully loaded disruptive costs of avoiding affection will be roughly less than 1 trillion USD at purchasing power parity, leading to a return of investment (2 minus 1 on 1) or close to 100%.
We thus learn that a major programme of avoiding the infection has a strong ROI if it becomes more than an severe flu, and even more so if the economic recovery takes time, as we usally observe after recession or at least material dip in economies. Hence, we conclude that there is a convergence of health and economic incentives to go ahead and deliver fast. No time to wait/waste.
March 04, all errors are mine. Comments welcome