Coronavirus: How the massive pandemic debt bill has 'reshaped the global economy for good'

The coronavirus pandemic has seen unprecedented stimulus measures, driving up public debt to record levels.
PHOTO: Reuters

Governments will prop up economies for years to come following the coronavirus pandemic, inflating fiscal deficits to record-high levels without a “return to normal in the economic, political and social spheres”.

That is the conclusion of a new report by the Economist Intelligence Unit (EIU), which says the pandemic has “reshaped the global economic landscape for good”, with low growth, high public debt and declining populations in rich countries becoming the norm.

The Organisation for Economic Cooperation and Development on Thursday (May 20) said provisional estimates showed gross domestic product (GDP) growth among the bloc’s 37 countries had slowed to 0.3 per cent in the first quarter of the year, down from one per cent in the previous quarter due new lockdowns and restrictions.

The stimulus-driven post-pandemic world will see governments go beyond normal Keynesian economics, where government intervention via fiscal spending is used to stabilise economies , and might require more drastic reforms to promote productivity, especially among inefficient firms, said the report titled “How the pandemic changed the global economy”.

“Ultra-low interest rates allow this cycle to continue virtually indefinitely, creating further incentives for looser monetary policy to prop up so-called zombie firms, which would not survive without government support,” EIU Asia analyst Waqas Adenwala said.

“Such highly indebted zombie companies drag down aggregate productivity through distortion in the market, disinvestment and crowding-out effects; there is no easy policy fix for this issue.”

Governments may find themselves in a sticky spot as the withdrawal of lifelines provided to unproductive firms could lead to collapses that will be “politically problematic”, said the EIU report released on Wednesday.

Capital Economics’ chief economist Neil Shearing said ending emergency support for inefficient firms would be painful.

“This does not mean that the policy itself is wrong. For every insolvent firm that is propped up, several viable firms are likely to have been saved,” Shearing said in a recent note. “But it does mean that we could see a rise in corporate defaults as support is scaled back.”

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Though these policies mean more debt to be paid by taxpayers, it was the right course of action by governments, he said.

“There are growing concerns in some corners of the market about the size and scope of government and central bank support packages,” he said.

“But this pre-Keynesian approach to economics belies the fact that without huge policy support the scale of the economic downturn would have been even greater. Faced with the prospect of huge collapse in demand, the response of governments and central banks has been the right one.”

But the question that comes next is how will the public debt be paid back, the EIU said.

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“To replenish their coffers, governments are likely to adopt capital gains tax or property taxes, which could also address the growing issue of inequality,” the report said.

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Governments could also choose to tax polluting industries to fund their deficits, a move that would be politically popular, according to the report.

At the same time, global leaders will have to contend with new challenges such as changes to labour markets.

Governments might be forced to boost social welfare and job security for workers in danger of being “replaced” by machines in certain industries due to the rise in automation and digitalisation during the pandemic.

“Jobs that mainly involve routine tasks that can be standardised – those at the low-to-medium skill level in the manufacturing, hospitality and catering and retail sectors – are particularly at risk of being filled by robots and artificial intelligence,” the EIU report said.

The scale of government support could lead to potential bankruptcies, with a number of emerging-market nations already defaulting, Adenwala said. Developed countries should fare better given their preparedness and low interest rates, which allowed them to service their debts comfortably.

But there is a risk central banks could increase interest rates to curb a potential spike in inflation caused by government fiscal stimulus, thereby complicating debt servicing, Adenwala added.

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In China, the prices of commodities and key industrial raw materials such as iron ore, steel, nickel and copper are already galloping as a result of the Chinese government’s spending to aid a pandemic recovery.

On Friday, Fitch Ratings said in a new analysis that government debts would continue rising to reach a global total of US$95 trillion (S$126 trillion) next year.

So far, the increase in debt has not alarmed most governments, except in some low-income nations, due to the cost advantages of low interest rates. But history has shown some level of economic growth would be needed to run down debts eventually, Fitch said.

As to how long governments would continue to keep economies afloat, Adenwala said forms of “government support will remain a feature for years to come” and when they stop would depend on the outcome of the pandemic.

“Any premature tightening would do more economic damage, as several countries continue to suffer from the pandemic,” he said.

“A lot depends on when each economy can return to its pre-pandemic level. But even countries with a relatively stellar pandemic-response intend to keep fiscal policy accommodative.”

This article was first published in South China Morning Post.