David Wille is a principal analyst with the Verisk Maplecroft research team investigating the interaction between economics and political, ESG, and climate risks for multinational organizations and financial institutions. He also manages the portfolio of economics and business risk indices for the company’s global risk analytics dataset.
Doug Topken: I'm Doug Topken, host of a new Verisk podcast series on business issues related to the COVID-19 pandemic. In today's podcast, we'll be discussing the economics of the current COVID-19 crisis, which in addition to being a public health crisis is a multi stage economic crisis. With me today is David Willie principal analyst and lead economist at Verisk Maplecroft. Thanks for joining us today, David. With the economies of so many countries affected by COVID-19, there's been a lot of concern about the future of the global economy, and what that may look like. In terms of keeping your economies afloat, w here are we now in that first round of fiscal and monetary stimulus. Could you talk us through what you're seeing in these key economies.
David Wille: Sure thing, Doug. Thanks for having me. Beginning in March of this year we've seen the global economy, really come to a standstill, as the world's governments have opposed all of these travel restrictions and social distancing measures to varying levels of severity. And as a result, we're expecting to see the global economy contract by the largest amount in recent memory. So the IMF forecasts global GDP is going to shrink, 3% in 2020. That's even more than after the financial crisis in '07, '08. And as a result, we've seen governments and monetary authorities, bring to bear a really extraordinary amount of fiscal and monetary aid to try to keep businesses running, providing individuals with the necessities to weather these stay at home orders. I'll start on the monetary side where we saw towards the end of February, swift action from central banks like the Federal Reserve the ECB Bank of Japan Bank of England, they all cut interest rates to near or below zero, in response to really extreme financial market volatility. And that speed created space for central banks in many emerging markets to cut rates as well. You saw rate cuts of 50 to 150 basis points in Indonesia, India, Russia, Mexico and Brazil, even larger cuts in South Africa and Turkey, since the start of last year. But the upshot of that that rapid response was that in most cases, central bank ammunition was expended at the very beginning of the crisis. And while we're seeing central banks still playing a role in terms of injecting liquidity into financial markets supporting lending, restarting or expanding quantitative easing in developed markets, the onus has, has really shifted now to those legislators and executives to provide immediate fiscal relief. And what you're seeing in developed markets are government's, bringing significant fiscal firepower to bear with a combination of things like tax cuts lending to impacted businesses and direct payments to individuals The largest stimulus package in relative terms is in Japan, which is worth over 20% of GDP, really staggering figure, followed by United States, Germany, France, Australia, they all have aid packages which are roughly in the 10 to 15% of GDP range. But when you look at emerging markets, the response is much more mixed, and while most governments have pledged some form of economic relief, many key markets, you know, they simply don't have the fiscal space to provide support on the same scale as, as the developed markets. So when you look at the major developing economies I just mentioned, places like South Africa and Mexico. They've only pledged aid packages of less than 1% of GDP. India, Turkey and Russia they've announced packages, one to 2% of GDP, and then somewhat larger, larger aid packages for places like Indonesia and Brazil. But it's their lack of fiscal flexibility I have really serious doubts about these government's ability to sustain their economic shutdowns if the economic crisis goes on, much further.
Doug: Is there a risk of some countries may be pressured to come out of lockdown for their economic survival earlier than optimal from a public health perspective?
David: Yeah, so I want to answer that question with the caveat that we at Verisk Maplecroft we're not epidemiologists, we're not in a position to dictate what an optimal pandemic response should be, there's many other good organizations that do that, including other various companies like AIR, that said, when you look at the research that we've done at which governments are the most fiscally constrained going into the coronavirus pandemic it does suggest that some countries will struggle to sustain these long term economic lockdowns that have been in place in order to limit the spread of the virus. So for example, India has imposed some of the strictest lockdown measures on its major cities, until the middle of May, but then they've also been forced to loosen those restrictions on areas not badly hit by the virus in order to allow some of their, their low wage workers to return to work. South Africa is another example it's also been under a severe lockdown for six weeks, but they're struggling with the potential of up to 40%, unemployment. And you've also seen these constraints in developed markets as well, places like Italy in Spain, which has been two of the hardest hit countries in Europe in terms of the the toll that coronavirus has taken. Both have some of the lowest fiscal space of any major market in our data set. And we've seen them pledge coronavirus aid packages totaling under 6% of GDP, which is which is somewhat lower than their peers in Northern Europe been able to muster, but even similarly you know in the United States, I think you're starting to see some policymakers becoming wary about the costs of the economic shutdown and the mounting pile of debt, you're beginning to see these concerns, getting aired, with regard to the latest coronavirus aid package that's making its way through Congress, and at the same time you're seeing more and more popular pressure building on Governor's as they begin to ease up on these lock downs and try to relieve some of the economic pain, but potentially earlier than would be optimal for maintaining the coronavirus and preventing you know renewed shutdowns if breakouts occur after that.
Doug: How much structural damage to the economy, do you expect these business shutdowns to cause, if any?
David: Well we're in a unique situation. It's a recession that was self imposed and that's different than the economic shutdown that followed the financial crisis 10 years ago or, or after some natural disaster or war. So, to a large extent our stocks of physical and human capital they remain intact, you know they're just idled by the fact that many people just can't go to work because of these shutdown measures, and what that suggests to me is that the productive capacity of the economy, it hasn't meaningfully changed, and that the main constraint is now how quickly governments are able to you know rein in the pandemic and allow people to return to work in a safe manner. That said, I do see at least three types of risks becoming more acute the longer that the shutdown goes on so one is disruption on the supply side, you know something like a wave of bankruptcies for for normally solving businesses which in turn could prevent workers from being rehired quickly and then seeing a quick drop in unemployment. Another is on the demand side if consumers proven willing to return to normal commercial and social activities, if they substitute savings assumption, as you're seeing right now, you could see a persistently below capacity level of output. And then in the financial sector, governments are going to face permanently higher debt levels and higher borrowing costs, which will have to be addressed at some point, through some combination of higher taxes or spending cuts down the road.
Doug: David, Argentina's financial troubles, have been widely reported lately. Should we expect a wave of defaults from countries in emerging and frontier markets, unable to repay sovereign debts?
David: Yeah, so the case of Argentina you know this was a debt crisis that was going on before the coronavirus pandemic. But one of the knock on effects of the outbreak has been a general mass exodus of global capital from emerging market portfolio. So, as a result, emerging market bond spreads have widened significantly, which is generally an indicator that investors are wary of emerging market debt distress caused by, you know, a global recession. We've recently published a piece on emerging market debt and what we found is that, in this situation investor confidence in a government's debt doesn't always match with a realistic assessment of the country's fundamentals on factors like external debt load their access to adequate foreign exchange reserves or their exposure to commodity price volatility. Instead what investors appear to be doing is they're assessing country repayments risk based on what region, that country is located. So governments with debt in Central and Eastern Europe, received generally more favorable treatment despite having larger debt loads and less foreign reserve cover, on average, and that contrasts with governments in Asia and Latin America which have seen their bond spreads rise dramatically, even though they tend to carry less external debt at better reserve cover. But again, emerging market issuers their ability to service their external debt is ultimately going to be dictated by how quickly governments can allow their, their economies to reopen, and they can begin to see some of that foreign exchange inflow from sources like investment tourism remittances exports, seeing that return to normal levels, and that's going to depend in part on how effective their pandemic control measures have been in preventing subsequent outbreaks and preventing them from forcing them to reach out or their economies, again.
Doug: How will investor confidence play a role the sustainability of these economies?
David: So I do think that there is a clear danger of, you know, the lack of investor confidence becoming a kind of self fulfilling prophecy in some of these emerging and frontier economies were those investors, there to a certain extent pulling their capital indiscriminately from these markets in an effort to either you know hold cash or just move it to other safe assets. That could lead to you know currency devaluation we're seeing this now across the emerging world, which has the follow on effects of having higher debt servicing costs, which leads to rapid depletion of reserves. And that may prove unsustainable for some governments, which then in turn you know further erodes investor confidence, and so on, it becomes a kind of like I said a self fulfilling prophecy.
Doug: So David, tell me what does your future look like in terms of the magnitude of a major recession in the shape of a recovery?
David: Yeah, so that is the, the key question and again it's going to be dictated by how effective governments have been at containing the coronavirus outbreak, and whether they will experience, additional outbreaks. After opening that may force them to return to these shutdowns and that in turn you know prolongs the economic crisis. So, the IMF forecasts of world output shrinking by 3% in 2020 I mentioned that before, before rebounding in 2021. Those forecasts are based on some fairly optimistic assumptions about governments ability to contain the pandemic. But there is reason to believe that the depth of the recession, may be deeper and the recovery slower than that. There's also a clear difference between how developed and emerging markets fare in the IMF projections so advanced economies are forecasted to shrink by more than 6% this year, compared with 1% for emerging and frontier economies, and that has to do with the fact that these larger globally connected economies, they're just more exposed to travel restrictions, social distancing measures, than other smaller, less connected economies. But that said, there are some major emerging markets that are projected to see severe economic declines, places we've already talked about like Brazil, Mexico, South Africa, Thailand, Russia, Turkey, these are all economies that the IMF forecasts to shrink by 5%, or more this year. That's a really devastating setback for these countries. Some of them, they're already seeing declining living standards even before the coronavirus outbreak, and that raises the prospect of other non financial risk factors things like civil unrest becoming more acute, which could then stagnate the economies further, and even threaten their political stability. I know that's an ominous point to end on but we're constantly monitoring developments in these key markets and we've made much of our coronavirus coverage publicly available, which you can find on Verisk.com.
Doug: Well thanks David for sharing your insights and putting things into perspective for us. We appreciate you taking the time to speak with us today. To learn more on this and other COVID-19 related topics, be sure to follow us and visit Verisk.com. We hope you enjoyed this podcast and invite you to join us again. Until next time, stay healthy everyone.