The coronavirus crisis slows the world economy and knocks the stock markets


Historic falls for the stock market due to the coronavirus crisis. The health crisis has been joined by an economic crisis. Governments have to decide which one they prefer to focus on. And they are hardly going to stop both at the same time.

Let's focus first on the thermometers of the global economy. The S&P 500, which accounts for almost a third of the world's stock market capitalization, this week had its fifth biggest drop in the stock market (-11.5%) since World War II. The MSCI World was also down -11.12%. This in economic terms represents a loss of almost 10 trillion dollars in investors' accounts, that is, the sum of the GDP of Germany, the United Kingdom, France and Spain. Not bad for a single week.

The previous week the Chinese stock market had suffered considerable falls, however, its effect had barely been noticeable in the western stock markets. It was the previous weekend when the alarms went off, after learning that the coronavirus had spread intensely through northern Italy, with more than 100 infected. In South Korea the figure was close to a thousand infected, confirming the ease of growth of this virus.

The opening of the markets on Monday saw declines of more than 4% in world indices. Then the falls piling up day after day throughout the week.

This illness does not seem particularly serious, but behaves very similar to the common flu: most cases are mild symptoms that do not require hospitalization.

And then why do the bags fall?

Stock markets are a leading indicator of the economy, trying to predict the behavior of economic activity. We are currently facing two crises, one in health and the other in the economy. And nobody knows very well how the two will develop. This produces what the stock market likes least: uncertainty. In other words, falls are caused by fear of the unknown.

The coronavirus crisis is a double crisis. The first, the health crisis has led to an economic crisis. Being a variation of the flu, the world tried to avoid what already seems inevitable; for the coronavirus to become a pandemic. Its high contagion capacity is what is putting governments on edge. To prevent its spread, numerous events have been quarantined and restricted. Much of China's population has been working at half gas for two weeks.

This has caused the Chinese economy to come to a sharp standstill. Without going any further, yesterday the data for manufacturing production in China came out at 35.7, being the lowest figure in history. This reflects the enormous paralysis of the main engine of world economic growth.

Unlike the previous health crisis in China, produced by SARS. Currently China has an economic importance in the world 4 times greater. By way of comparison we see that 25 years ago the GDP of the eurozone was 10 times larger than the Chinese, and last year, China surpassed the eurozone in production size.

Source: Bloomberg

The paralysis of the Chinese economy, on the one hand, has infected the world economy due to its high relevance in the world, and because of its character as the world's leading exporter. Many intermediate products made in China to produce other products in Europe and America have stopped arriving. On the other hand, the health crisis is beginning to affect Europe and is reaching America.

As the pandemic inevitably spreads around the world, with more than 1,000 cases in Italy and 3,000 cases in South Korea, in China, there are cases of people who had recovered and have been re-infected. Which adds more uncertainty to the health crisis.

The spread of the virus is prompting more measures to try to stop its spread. Flight cancellations, air traffic restrictions and cancellation of important events. In France, for example, all events attended by more than 5,000 people have been canceled. In Switzerland, events attended by more than 1,000 people.

So many restrictions are holding back Europe's economy, which already had France, Germany and Italy on the brink of recession. There is even talk that the United States could enter a recession or at least have a quarter of negative growth as a result of the global slowdown and the paralysis of the economy. This is one of the stock market's biggest fears. Let the American giant go into recession.

Central banks and governments come to the rescue of the economy

Several central banks, led by the Fed, have already hinted at stimulus measures. The market already discounts 3 interest rate cuts this year in the United States. For its part, the Hong Kong government has carried out what is known as a money helicopter, that is, sending an envelope with money directly to each Hong Kong family.

In Italy, an urgent stimulus package has been taken focused on the northern regions, those most affected by the coronavirus.

What we do not know is whether these measures will have the desired effect on the economy. The economic crisis is a crisis of supply reduction, that is, it is ceasing to occur because fewer people are going to work as a preventive measure against the coronavirus. Measures to stimulate spending do not have much to do with the lack of supply. Furthermore, if supply is reduced and spending is stimulated, the most direct consequence is simply an increase in the price level. This is not to say that it does not make sense to apply these stimuli, it may serve to alleviate economic tension. But of course it is not going to stop the economic crisis.

The stock market, on the other hand, does tend to like stimulus measures because they mean injections of liquidity in the market. The liquidity in the stock market pushes the markets higher, as we have seen in the last 10 years. For that reason, many analysts believe that the recovery of the stock market will be in a V shape. Once the health crisis subsides, or becomes a pandemic that we have already accepted, the economic stimuli will continue to boost the economy.

Several scientists have stated that, if this expansion rate continues, the coronavirus could affect 70% of the world's population. Governments are faced with the position of stopping the economic crisis or stopping the health crisis. For that they have to evaluate the dangerousness of this variation of the flu.

Undoubtedly the health crisis is a priority over the economic crisis due to the lack of knowledge of how this flu really works and because there is still no vaccine for it. If governments have to sacrifice economic activity in order to stop it, they will, of course, do so. It is for this reason that the FED and the rest of the central banks will be able to do little to stop the economic crisis if they continue the restrictions on activity throughout the world. They may be able to keep the stock market standing with injections of liquidity, but what they certainly will not be able to do is stop the health crisis.

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