BSTDB: Covid-19 pandemic will cause the largest economic contraction after the Great Depression of 1929

Aurel Constantin 23/03/2020 | 12:12

Black Sea Trade & Development send Business Review the position it has reagrding the effects of the pandemic on international cooperation and economic prospects in the region. BSTDB is an international financial institution established by 11 states from the Black Sea area: Romania, Albania, Armenia, Azerbaijan, Bulgaria, Georgia, Greece, Moldova, Russia, Turkey and Ukraine. Based in Thessaloniki (Greece), the bank supports economic development and regional cooperation by providing loans, lines of credit, capital and project guarantees and through commercial financing in the public and private sectors of the member countries.

The opinion is stated bu Dmitry Pankin, president of the BSTDB, in an  interview. He believes that the Covid-19 pandemic will cause an economic contraction (probably the largest after the Great Depression – 1929) and that the recovery will be decided by the duration of this deadlock.

Question: The Covid-19 pandemic is changing the international cooperation. Protectionism is gaining ground across the globe. How you as head of IFI (International Finance Institutions) access this moving away from globalization?

The pandemic by itself is not changing the nature or the scope of international cooperation. It affects temporarily and negatively international economic relations and trade and investment flows, but enhances cooperation and coordination on health and safety issues. It is a global problem that necessitates a combination of regional, national and international measures taken in coordination. In a certain way a pandemic crisis isolates us and in a different way brings us all closer together.

I would not call it protectionism. There are safeguarding measures necessary to contain the spread of the disease. We also witness a breakdown in the supply chains due to limited economic activity in the countries severely affected by the coronavirus.

Production declines both as a consequence of government imposed restrictions to enforce “social distancing” and also as a result of a collapse in demand, for consumer durables, for industrial goods, for investment and also for non-essential services.

Protectionism, and here we have a lot of pro and contra arguments, is a characteristic of the most recent past years, and there may be another discussion on how things may go on from here, but we must distinguish between measures of a political nature and measures of a health or medical nature.

The response to pandemic crisis, and one so severe like the new coronavirus, with its very high rate of contagion and high mortality rates, should not be regarded in connection with a debate on protectionism vs. globalization. All countries take protective measures to first protect the health and ultimately lives of their citizens. In such a situation economic considerations take a back seat.

IFIs, if their  mandate permits and to the extent of their own capability attempt to first continue to serve their clients and second to adopt exceptionally measures aimed at supporting SMEs, health authorities, manufacturers of medical equipment and of medicine, utility companies, and the like, with a view to support governments’ efforts to protect the most vulnerable. But we need to acknowledge that such a sudden and intense shock affects everybody, including IFIs whom also have to put first the health and safety of their own staff, safeguard the interests of shareholders, and under globally stressed financial conditions to ensure business continuity. We are not from another planet, immune and full of resources that may easily save the world. This is a crisis that affects us all.

Question: Hopefully, the spread of the virus outbreak would be taken under control soon.  But the pandemic has already weakened the global economy and Q1 is lost. Do you believe it might be the beginning of the global recession? What kind of crisis shall we expect?

I would like to believe that the coronavirus will be taken under control pretty soon. To be honest I think that nobody really knows when and how this pandemic crisis will end. We all hope that the very severe containment measures adopted on such a broad scale will be effective to stop the spread of the virus. Whether or not this will make it disappear before a vaccine is found and made available on a global scale is something I would prefer not to speculate about. What we all hope is that the number of infections will be kept within the capacity of national health systems to treat those who are infected and to isolate them from the population at large, until either a vaccine is used effectively or the coronavirus disappears.

We are at the beginning of a global recession. It is clear that a decline in economic activity, closure of shops and factories, the almost complete shut-down of tourism, hospitality, transportation services will have a strong impact on economic activity, and will deteriorate both public finances and corporate financial condition. Finally, we may have to deal in the second half of this year or next year with a financial crisis. Economic activity is easier to stop than to reboot and restart. It will take time.

In the US Deutsche Bank expects in Q2 a decline of GDP of about 13% and the Treasury Secretary, Mr. Mnuchin, is looking at a potential jump in unemployment to 20%. In the EU it is even steeper the contraction with Fiat and Volkswagen already announcing closure of factories that affect thousands of suppliers. These closures add to an already closed service economy.

This is likely to be the sharpest economic contraction in history since the Great Depression. Recovery depends upon how long the lock-down will last and what damages will be made to supply chains and public finances, and whether consumer demand will have short or long term effects. If the pandemic recedes by end of June, there are good chances to see a rapid and steep recovery with economic and financial activity returning to normal within the following 12 months.

Question: All major Central Banks have already brought the basic rates to the floor. So, very few instruments are left at their disposal to tackle the crisis. How dangerous is this situation with the low rates globally? What are the key challenges we face?

Rates are low for a long time. Yield curves have inverted several times. The rush for yield has depressed the spread between risk free and risky instruments in favour of riskier instruments and with the expected return likely below the risk assumed when investing in such instruments. This is a dangerous situation in itself.

If the coronavirus health pandemic is resolved quickly with minimum of human suffering, the positive of it is that all excess liquidity has been destroyed and all bubbles have burst. So we may talk about a fresh beginning without the burden of imbalances that threatened the financial sector. This may be the start of a new and virtual cycle of reconstruction, growth and development.

Key risks, first and foremost are that:

  • current measures of social distancing may not prove effective to contain the spread of the disease.
  • the virus maintains its virulence over the warmer period.
  • medical authorities will be overwhelmed and capacity stretched to breaking point.
  • a new effective vaccine may not be discovered, tested and made available on a global scale within the next 6 to 9 months.
  • governments will run out of money to support a fiscal expansion that keeps afloat SMEs, subsidizes most affected industries, and provide vital support to households
  • the financial sector collapses under the weight of non-performing loans and lack of liquidity

But let’s not consider the worst, let’s hope that:

  • the measures taken by governments across the globe are effective,
  • the medical community and state mechanisms function with good results, and
  • a vaccine is found and delivered before the worst happens,

Let’s hope that before the recession transforms into depression, as I already mentioned, each country and the world economy return to normalcy, engaging into this new cycle of reconstruction, growth and development, leaving the pandemic induced damage behind.

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