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COVID-19 economic impact

The coronavirus pandemic will likely reduce real world GDP by three per cent by the end of 2021 below pre-crisis predictions, says new paper co-authored by Dr Kamiar Mohaddes of Cambridge Judge.

Coronavirus market crash and financial crisis.
Kamiar Mohaddes.
Kamiar Mohaddes

The coronavirus pandemic will likely reduce real world GDP by three per cent by the end of 2021 below pre-crisis predictions, with “deeper and longer-lasting” effects likely in the US and UK compared to China and other emerging Asian economies, says a new study co-authored by Dr Kamiar Mohaddes of Cambridge Judge Business School.

The paper says the pandemic “will lead to a significant fall in world output that is most likely long-lasting”, with no country being able to shield itself from the adverse economic effects of COVID-19 by following less stringent lockdowns. Long-term interest rates could fall significantly below their recent lows (by about 100 basis points or one per cent below their pre-COVID-19 lows) in core advanced economies, owing to precautionary savings and dampened investment demand.

“The impact of COVID-19 on the US, UK, and several other advanced economies could be particularly severe, while China and other emerging Asian economies are estimated to fare better,” says the study published in the working paper series of the National Bureau of Economic Research in the US and the Centre for Economic Policy Research in the UK.

The multi-country study is based on comparing the International Monetary Fund’s Gross Domestic Product (GDP) forecasts for the four quarters of 2020 formed at the end of 2019 (before the pandemic’s spread) with the same forecasts prepared in April 2020.

“Key challenges for policymakers and any empirical economic analysis of COVID-19 are how to identify this unprecedented shock, how to account for its non-linear effects, how to consider its cross-country spillovers, and how to quantify the uncertainty surrounding forecasts, given its unprecedented nature.” says co-author Dr Kamiar Mohaddes, University Senior Lecturer in Economics & Policy at Cambridge Judge Business School. “Our study contributes to the literature by addressing these issues in a coherent multi-country framework. Our approach is termed ‘counterfactual’ in that it compares the effects of the COVID-19 shock on economic activity with that of a model-generated forecast of global GDP in the absence of COVID-19.”

In a summary of the study published in a VoxEU column by the Centre for Economic Policy Research, the authors say: “The COVID-19 pandemic is a global shock ‘like no other’, involving simultaneous disruptions to both supply and demand in an interconnected world economy.”

While there has been a growing body of studies on the economic impact of COVID-19, these have mostly been based around single-country analysis. Techniques developed in this new paper are therefore “intended to capture the effects of rare events such as COVID-19, and account for spillovers and interconnections of countries and markets.” In so doing, the paper estimates a multi-country model based on 33 economies (covering 90 per cent of the world economy) that is augmented with global volatility threshold variables, to capture the effects of rare events, using quarterly data over a 40-year period from January 1979 through December 2019.

This new compact model of the global economy “takes into account both the temporal and cross-sectional dimensions of the data, real and financial drivers of economic activity, and common factors such as oil prices and global volatility,” the authors say. “Country-specific models include output growth, the real exchange rate, as well as real equity prices and long-term interest rates when available.”

The summary says: “The US and the UK are quite likely to experience deeper and longer-lasting effects, while China’s outcome has more than a 50 per cent chance of being much better. The odds for the euro area are skewed negatively, but there is some probability mass that it recovers faster than the US by the end of 2021.”

“Pulled by China, the rest of ‘Emerging Asia’ has a higher chance of performing better than the global average. Non-Asian emerging markets stand out for their vulnerability. They will likely suffer from a significant output collapse in the first and second quarter of 2020 and have a less than 20-30 per cent percent chance of not experiencing an output loss by the end of 2021. Turkey, South Africa, and Saudi Arabia (grouped together as “Other Emerging Markets”) will almost certainly see at least eight quarters of severely depressed economic activity.”

The paper – entitled “A counterfactual economic analysis of COVID-19 using a threshold augmented multi-country model” – is co-authored by Dr Alexander Chudik of the Federal Reserve Bank of Dallas; Dr Kamiar Mohaddes of Cambridge Judge Business School and King’s College, Cambridge; Profesor M. Hashem Pesaran of the University of Southern California and Trinity College, Cambridge; Dr Mehdi Raissi of the International Monetary Fund; and Dr Alessandro Rebucci of Johns Hopkins University.

Kamiar recently discussed the paper as a panelist at the World Council of Credit Unions’ Global Financial Symposium on The Economic Impacts of Covid-19 on Credit Unions.