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The coming great depression

Extreme and unprecedented lockdown measures continue in many countries as the coronavirus spreads across the world. Widespread closures and stay-home orders have paralysed activity and caused economic conditions to change dramatically.

When the virus first began to spread rapidly in the US, Wall Street was thrown into turmoil. But after investors saw the scale of the Federal Reserve’s intervention, they became more optimistic that this would not be a financial crisis.

It wasn’t until after successive slumps that people realised things were turning ugly.

The US stock market fell by one-third and global liquidity tightened dramatically, while the US dollar exchange rate kept hitting new highs.

To curb the spread of Covid-19, tens of millions of American workers, students and consumers have been ordered to stay behind closed doors, resulting in a surge in unemployment claims by an astonishing 26 million in four weeks.

As more people apply for jobless benefits, a new problem arises. Whether individual states have enough funds to weather this unemployment wave until the crisis abates is very worrying.

Demand for aid could exceed the ability of state treasuries to pay.

Pennsylvania, for example, in January made the last payment on a multi-billion-dollar bond issued in 2012 to settle its unemployment fund debts from the last recession in 2008-09.

STIMULUS NOT ENOUGH

The economic stimulus package passed by US legislators amounts to nearly $2 trillion and includes a host of programmes to help businesses and individuals.

In an unprecedented expansion of unemployment insurance, the federal government will give jobless workers an extra $600 a week for four months on top of their state benefits, which generally range from $200 to $550 a week.

However, even efforts of this size may not be able to solve the problem. The last recession caused the unemployment funds of 35 states to go bankrupt. In order to support unemployed workers, these states took on more than $40 billion in debt.

Many states have increased taxes on employers in order to pay their debts, and some have reduced the amount and duration of benefits for unemployed people in the future.

In any case, economists agree the US has already entered its first recession since 2008. US GDP in the first quarter shrank by 4.8%.

While China and the US have different economic structures, industries, levels of wealth and living standards, the macro scale of the virus impact on the American economy can still be compared with that of China.

If the US needs trillions of dollars to put its economy on a sounder footing, China’s needs shouldn’t be much different.

If anything, perhaps the biggest difference is that the US can still “print the notes and let the world pay the bill”, while China alone has to pay all its own bills. This is because of the delayed internationalisation of the yuan and an imperfect bond market.

In fact, China was already facing huge economic and financial difficulties before the outbreak began.

China’s economy as a whole is still on a downward trajectory, with GDP growth having eased gradually from 7.7% in 2013 to 6.1% last year. Even under these new circumstances, the economy has continued to slide.

This is a sharp contrast to the resilience seen during the Sars outbreak in 2003.

Although the Chinese economy was greatly affected by the Sars outbreak, it was taking off at that time; investment, consumption and exports were all doing well. There was no big problem in the world market.

With the support of external demand and the continuous infusion of foreign funds, China was able to recover quickly, and the economic growth rate for 2003 still reached 10% in the end.

The central government in Beijing already had a budget deficit, and now it is worse. The finances of local governments are also very difficult. In 2019, Beijing had a fiscal deficit of 102 billion yuan ($14 billion) and Shanghai was 40.8 billion yuan in the red. Even in the golden period from 2007 to 2016, local budget balances were also negative.

Many of China’s economically strong provinces have fiscal deficits: Guangdong (342 billion yuan), Sichuan (535 billion), Jiangsu (237 billion), Shandong (302 billion), Zhejiang (191 billion), and Hubei, the centre of the original outbreak, has a deficit of 346 billion.

With tight budgets, many local governments are relying on a mixed-ownership approach to reform, essentially the purchase and sale of shares in state-owned enterprises.

Reliance on non-tax revenues means the local financial burden is already heavy to the point of despair.

BUSINESS UNDER STRAIN

The business and household sectors are also facing challenges. S&P Global Ratings put it kindly when it said Chinese companies have little room to grow their debt, but will be less profitable than in the past few years. In other words, the pressure facing the business sector is greater.

So far, the debt-to-GDP ratio of the Chinese government, enterprises and households as a whole has reached 303%.

China’s manufacturing purchasing managers’ index (PMI) plummeted to 35.7% in February due to the epidemic, down 14.3 percentage points from the previous month, according to the National Bureau of Statistics.

In fact, China’s economy is already teetering on the edge because of restrictions on land and real estate transactions, which represent a limited source of capital.

China made concessions in its trade war with the US to preserve its overseas markets and maintain its current economic growth, but with the virus outbreak, even without a trade war its overseas markets have fallen.

The scale of the outbreak in Europe and the US alone tells us it will be many months before world trade will return to anything approaching normal levels.

Facing epidemic conditions, and under tremendous pressure from public opinion, countries are taking extreme measures despite knowing that holding out until the end of the summer will be all but impossible. In these six months, some 1 billion people in developed markets will stay at home, 850 million students will be out of school, and the world economy will essentially be stalled.

Meanwhile, the leaders of the global medical community do not dare guarantee that this virus will not make a comeback at some point in the future. This alone means the entire world is in a deep crisis.

All these factors have exposed the fragility of the world economy, and it is difficult for any country to survive alone. Many people recall the Wall Street meltdown in 1987, the Asian financial crisis of 1997, and the subprime crisis in 2008. These moments of crisis cannot be compared with the global depression that is about to occur. This is the biggest one ever, and now is the time for us to pray.

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