Time to containment a global recession
Macroeconomic prospective analysis third quarter 2020
Any analysis of the macroeconomic environment needs to take into account the effects of one of the biggest health crises to date on the world’s economy. These repercussions are mainly due to restrictions on production activities and free movement in order to contain the spread of Covid-19. Of course, these limitations have had a strong impact on all economies worldwide, including the euro area. The latter showed a contraction of 3.8% in GDP in the first quarter of 2020. The figure is much worse for the second quarter where European GDP fell by 13%, and it is still extremely difficult to speculate on the future development of the pandemic and the consequent impact on both social and economic life.
It is necessary to hypothesize what may be the most likely evolutionary scenarios of the pandemic; this will be based on the ECB's analysis. Initial containment measures have been relaxed worldwide even though the evolution of the virus does not appear to be fully under control, especially in the United States and a number of South American countries. The short-term scenario is consistent with a gradual recovery of infections and, consequently, the maintenance of some restrictive measures, although of a more limited scope than those initially implemented to stop the virus from spreading. As a result, the economic repercussions will be less impactful and the economic growth trend is expected to gradually recover. This period of further uncertainty will last until medical research can give a definitive answer to the covid-19 expansion that could result in the roll out of a vaccine by the first half of 2021. There is still speculation that partial containment measures will continue to be adopted in the entertainment, hotel, leisure and arts sectors.
These prospects not only relate to Europe but also extend to the rest of the world, where demand outside the eurozone is expected to decline sharply this year.
The world economy has in fact suffered an unpredictable halt due to Covid-19. The need to contain the pandemic has forced governments in countries around the world to take such drastic measures as to halt or slow down economic activity in the short term. By the end of January, China initiated the first restrictions and all countries have replicated this process, subsequently reducing containment measures since May. This global phenomenon has caused a backlash to business in all countries, including emerging economies, which have suffered from lower commodity prices and capital outflows at an unexpected time as the global economy was showing clear signs of stabilization at the start of the year compared to 2019. For example, in the run-up to the spread of the virus, there had been a significant recovery in manufacturing and trade in emerging countries, and the trade agreement signed between the US and China had led to an easing of the trade conflict between the two countries, followed by an improvement in global financial conditions.
To date, the economic consequences of containment measures appear to be heavy and far-reaching. Forecasts are confirmed by data from economic surveys. Restrictions have caused a dramatic fall in production. This shock has had a major impact on the services sector, even more so than in manufacturing, and the sudden significant drop in global demand and supply caused by measures to stop the spread of the virus has had greater economic repercussions than the great financial crisis of 2008. However, one should not forget that that the recovery taking place is only partial, as it leaves on the side-lines all those activities based on social interactions. Uncertainty is holding back investment, and as a result neither short-term demand nor production capacity is taking off.
Further monetary and fiscal policy measures – supporting income aimed at containing inevitable job losses and bankruptcies – are likely to have an impact on the real economy and the financial sector. Since March of this year, the ECB has implemented ultra-expanding monetary policies and the current scenario suggests that fiscal measures amount to 3.5% of GDP. These measures, in particular, consist of support schemes in favour of reducing working hours, wage subsidies and support in the labour income, all this to prevent a contraction in employment from the interruption of activities In addition, special subsidies are provided for companies through capital transfers and loans. However, these types of interventions are planned as emergency measures and will not continue beyond 2020; loans, guarantees and capital transfers support liquidity and amount to around 20% of GDP.
Figure 1 Real GDP of the euro area : percentage changes on the previous quarter, seasonally adjusted and quarterly data for the number of working days (http://www.ecb.europa.eu/pub/projections/html/ index.en.html)
It is clear that the first consequence of the pandemic and of containment measures is a global recession. The deep economic losses, both at the expense of advanced and emerging economies, have been quantified by evaluating sectoral value-added data. The results suggest that gobal GDP, excluding the euro area, will fall by 4.0% in real terms, indicating a pace of contraction even faster and deeper than during the global financial crisis. In the first two quarters of 2020 there was an inevitable decline that will not recover before the third quarter. The initial recovery with the recent easing of containment measures will also move gradually and is expected to pick up slowly in the last quarter of the year, peaking in 2021 with a 6.0% increase in global GDP to then settle at 3.9% in 2022, with minor growth forecasted in the medium term. This trend depends on the very strong impact that international trade will have as a result of contagion protection provisions and the negative effects of border closures on logistics. Global transactions generally tend to vary even more during economic slowdowns. Looking ahead, it is expected that external demand in the euro area will fall by 15.1% in 2020, then increase by 7.8% the following year and 4.2% in 2022.
1) Calculated as a weighted average of imports.
2) Calculated as a weighted average of imports from euro area trading partners.
Table 1 - Annual percentage changes in world GDP, world trade and external demand in the euro area ( http://www.ecb.europa.eu/pub/projections/html/index.en.html)
Looking at global trade, imports will fall by 12.9% in 2020 and then increase by 8.0% and 4.3% respectively over the next two years; demand is also expected to drop by 15.1% and then improve by 7.8% in 2021 and 4.2% in 2022, returning to the levels that had settled in the fourth quarter of 2019 only at the end of the projection horizon.
Table 2 - Technical assumptions regarding interest rates, exchange rates and commodity prices (http://www.ecb.europa.eu/pub/projections/html/index.en.html)
As regards the forward-looking statements of certain variables such as interest rates and commodity prices, it is clear that on the basis of the ECB's projections, the three-month Euribor from futures is expected to remain at a level of -0.4% until 2022. Nominal yields on eurozone 10-year government bonds will tend to rise from an average of 0.3% in 2020, 0.4% in 2021 and 0.6% in 2022.
The implied price trend in futures up to mid-May is the empirical basis on which the estimate of Brent prices is concerned, which will see a contraction from the price of 64.0 dollars per barrel in 2019 to 36.0 in 2020 and then rise to 40.7 in 2022. In addition, non-energy raw materials will also see a fall in prices in 2020, expressed in dollars, and then reverse the trend in the following periods.
Finally, the dollar/euro exchange rate will average 1.08 in 2021-2022.