Abstract: First, the central bank should relax monetary policy moderately, including increasing liquidity injection and guiding LPR downward. Second, various policy support should be provided for new channels to increase online consumption. Third, the government should offer tax reduction and other benefits to SMEs to help them pull through. Fourth, the government should help those who lost their jobs due to the epidemic, especially migrant workers with inadequate social security. Eventually, there should be a targeted increase of public infrastructures, including hospitals, schools and urban transportation.
Macroeconomic policy is a cyclical adjustment tool that addresses demand. If used properly, it could reduce economic fluctuations and improve welfare. However, since it is a cyclical tool, it should neither be overused nor be relied on for too long. Sustainable economic growth requires structural reforms on the supply side. Nevertheless, structural reform is often easy to understand while difficult to implement, which admits of no exception around the world. The economy will also suffer from over-dependence on stimulus policy, just like taking too much antibiotics will definitely affect people's health. Of course, when the economy faces significant downward pressure, the government should increase counter-cyclical measures to stabilize the economy. Right now, China's economy is in such situation.
Novel coronavirus pneumonia from Wuhan has now spread rapidly across the country, and caused a public health crisis. An increasing number of cases have also been confirmed in many overseas countries.
According to existing medical knowledge, compared with SARS in 2003, this strand of coronavirus has a lower fatality rate but higher infectivity. How will the epidemic evolve and how soon can it be brought under control? It may depend on the following factors: first, the speed and breadth of virus transmission; second, when scientists can identify the pathogen and lay down an effective treatment plan; third, the efficiency of the public health sector. In any case, it now appears that there is a high probability that the incident will continue into the second quarter.
It is still early to analyze how much the novel pneumonia will impact the economy. However, referring to our analysis of SARS in 2003, we can roughly identify the channels through which the disease affects the economy. The most important mechanism is the proactive or passive restriction of population mobility to avoid the spread of the virus. This may result in: first, reduced demand for services; second, disruptions in production, investment, and exports; third, increased unemployment; and fourth, worsening fiscal and financial environment.
The longer the epidemic drags on, the greater the economic impact is. Rating agency Standard & Poor's launched a "preliminary assessment" that stated the novel pneumonia could reduce China's GDP by 1.2 percentage points. For comparison, during the SARS outbreak in 2003, several leading international investment banks reduced their forecast of China's GDP growth for the year by an average of 0.5 percentage points. Of course, it turned out that GDP growth in 2003 was actually greater than in 2002. But it did not change the fact that SARS did disrupt the economy.
The most direct impact of the novel coronavirus pneumonia is minimized activities. Lots of places have implemented quarantine measures. Many severely-affected cities have even locked themselves down entirely. There are reports of some villages digging up roads to block traffic. People not going out will hit consumption, especially the consumption of services, such as tourism, transportation, entertainment, retail, catering, etc. Given that it is now the Spring Festival, the impact will be even greater. According to the Travel Consumption Forecast Report for 2020 Spring Festival issued by Meituan and other institutions, during the Spring Festival, hotel bookings across the country increased significantly than usual with remote customers rising by 16%, while ticket sales for cultural and museum institutions grew by 50% year-on-year. These may have all gone up in smoke now. Many firms have stocked in advance for the holiday, hence suffered a double blow. With people unable to go out, production and investment will be affected. Some cities have postponed school opening. It is also very likely that factories and firms would postpone the resumption of business (editor's note: the General Office of the State Council has published a notice on extending the 2020 Spring Festival holiday a few days ago). Not to mention that most of the over 200 million migrant workers across the country, who went back to their hometowns to celebrate the Spring Festival, may fail to return to the cities where they were employed as planned. Hong Kong has declared a suspension of all high-speed trains and flights to and from Wuhan until the end of February. The number of foreign visitors to China likely will also decrease sharply, including business travelers, which will affect exports and direct investment. The disruption to business operations will definitely affect employment. In 2018, the employment figure of the service sector was 360 million nationwide. Even if only 5% of them lost their jobs, that means nearly 20 million people. Declining consumption, suspended economic activities, higher unemployment and decelerated GDP growth will lead to worsening macroeconomic situation. On the one hand, with the grim economic situation, fiscal revenue is bound to decrease, meanwhile, the demand for fiscal subsidies will increase, leading to increasing fiscal deficits and weakening fiscal capacity of the state. On the other hand, the non-performing assets of financial institutions may grow dramatically as the economy slows down, the leverage ratio will further increase, adding to the financial risks at the macro and micro levels. Unfortunately, these all happened at a sensitive time. The economic growth in 2019 slumped, from 6.4% in the first quarter to 6.0% in the third quarter, and likely below 6.0% in the fourth quarter as widely expected, triggering the debate on whether "keeping the GDP growth over 6%" is needed or not. Fortunately, the economy stabilized in the fourth quarter, and the quarter-on-quarter growth of consumption, investment and production even slightly rebounded. However, the epidemic might increase the downward pressure on economic growth in the first quarter of 2020, which will inevitably affect people's lives and investors' confidence. Therefore, the government should consider adopting policies besides making efforts to contain the epidemic. In comparison, the highlight of macro policy should be fiscal policy. Three things must be figured out. First, the OECD has drawn two lines for fiscal health. One is that the fiscal deficit shall not exceed 3% of GDP, the other is that public debt should be kept under 60% of GDP. The key to these two lines is the government's overall balance sheet. It may not be necessary to keep the deficit rate below 3%. Second, the central and local governments need to look at the big picture. In the past few years, the central government expanded its fiscal deficit, nevertheless the local governments shrank their financing platforms. In general, total government expenditure has been decreasing instead of expanding. Third, fiscal expansion should no longer focus on transport infrastructures such as railroads, highways and airports. When dealing with the epidemic, more emphasis should be placed on people's livelihood and social stability. Referring to the US experience in dealing with the global crisis, with authorization by the National People's Congress, the State Council may establish a special "emergency rescue fund". Specific measures can be considered in the following five areas. First, the central bank should moderately relax monetary policy, including increasing liquidity and guiding LPR downward. The relatively loose monetary policy can help alleviate firms' financial pressure, expand financing scale and reduce capital costs. The fiscal and regulatory authorities should also support financial institutions to expedite the disposal of non-performing assets and replenish capital, so that financial institutions can better serve the real economy. It is worth noting that the government should not force financial institutions to increase lending to troubled small-and-medium-sized enterprises (SMEs), or issue administrative orders to lower the loan rate to those firms. If necessary, the fiscal authorities may consider providing temporary interest subsidies to struggling companies. Second, various policy support should be provided to help increase online consumption. Compared to 2003 when SARS broke out, e-commerce has become an important part of people's life. Online shopping has accounted for more than 20% of the total retail sales, offering a buffer space to mitigate the impact of the epidemic. People unable to go out can order takeaways, shop online at JD.com and Taobao, or even watch the new movies on the Internet. But all these services, including processing and delivery, still require the involvement of people. If the government can supply people engaged in these services with protection and disinfection equipment or even subsidies, they can help reduce the impact of the epidemic on consumption. Third, the government should offer tax reduction and other benefits to SMEs to help them pull through. Many SMEs are already hanging by a thread. The epidemic may create more obstacles for those in the catering, transportation, tourism, retail, and manufacturing industries. Even certain large firms may encounter great financial problems. But these difficulties are likely to be temporary. The government should consider implementing measures such as large-scale tax reduction, or even one-time subsidies for some of the firms, to help them weather the crisis. Fourth, the government should help those who lost their jobs due to the epidemic, especially migrant workers who lack adequate social security coverage. In the past, rural areas were the base camp for migrant workers, who go to urban areas to work in favorable economic situations, and return temporarily when the economic situation turns bad. However, this has changed. Whether it is older migrant workers who have been employed in cities for many years, or the younger generations, they can no longer stay in their hometown for long. Government could provide assistance in a variety of forms, including helping arrange homecomings and connecting them with local re-employment opportunities, or even providing temporary living allowance. Eventually, the government should increase public services, including hospitals, schools and urban transportation. The epidemic has revealed the inadequacy of medical facilities in most cities in central China, including Wuhan. To solve this problem, the government must first improve the management capacity, and lose no time in building more hospitals. Recently, the whole country has begun to promote the reform of the household registration (hukou) system, especially in prefecture-level cities. In the future, the massive influx of rural population may pose challenges to the cities' capacity in providing medical care, education, transportation and housing. The government should plan ahead and reduce the possibility of future public health risks. Since there is considerable uncertainty in the future development of the epidemic, the government could adopt a progress-oriented, step-by-step approach when formulating and implementing policy measures. If the epidemic can be properly controlled within two weeks, only short-term subsidies and tax reductions are needed. If the epidemic continues for a long time or even worsens, then large-scale and vigorous stimulus measures may be adopted.
