Corona and world economy - Linkfest II

1. Mario Draghi is spot on with his assessment of the challenge,

The coronavirus pandemic is a human tragedy of potentially biblical proportions... A deep recession is inevitable. The challenge we face is how to act with sufficient strength and speed to prevent the recession from morphing into a prolonged depression, made deeper by a plethora of defaults leaving irreversible damage. It is already clear that the answer must involve a significant increase in public debt. The loss of income incurred by the private sector — and any debt raised to fill the gap — must eventually be absorbed, wholly or in part, on to government balance sheets. Much higher public debt levels will become a permanent feature of our economies and will be accompanied by private debt cancellation. It is the proper role of the state to deploy its balance sheet to protect citizens and the economy against shocks that the private sector is not responsible for and cannot absorb. States have always done so in the face of national emergencies.

And the prescriptions,

The priority must not only be providing basic income for those who lose their jobs. We must protect people from losing their jobs in the first place. If we do not, we will emerge from this crisis with permanently lower employment and capacity, as families and companies struggle to repair their balance sheets and rebuild net assets. Employment and unemployment subsidies and the postponement of taxes are important steps that have already been introduced by many governments. But protecting employment and productive capacity at a time of dramatic income loss requires immediate liquidity support. This is essential for all businesses to cover their operating expenses during the crisis, be they large corporations or even more so small and medium-sized enterprises and self-employed entrepreneurs... Banks in particular extend across the entire economy and can create money instantly by allowing overdrafts or opening credit facilities. Banks must rapidly lend funds at zero cost to companies prepared to save jobs. Since in this way they are becoming a vehicle for public policy, the capital they need to perform this task must be provided by the government in the form of state guarantees on all additional overdrafts or loans. Neither regulation nor collateral rules should stand in the way of creating all the space needed in bank balance sheets for this purpose. Furthermore, the cost of these guarantees should not be based on the credit risk of the company that receives them, but should be zero regardless of the cost of funding of the government that issues them...

And, were the virus outbreak and associated lockdowns to last, they could realistically remain in business only if the debt raised to keep people employed during that time were eventually cancelled. Either governments compensate borrowers for their expenses, or those borrowers will fail and the guarantee will be made good by the government. If moral hazard can be contained, the former is better for the economy... Public debt levels will have increased. But the alternative — a permanent destruction of productive capacity and therefore of the fiscal base — would be much more damaging to the economy and eventually to government credit.

2. The US Senate passed the $2.2 trillion stimulus plan. Hidden inside the plan is a provision to provide assistance to gig economy workers. 

The ride hailing and sharing economy companies had lobbied hard for some benefits for their "contractors". But it is also an implicit acknowledgement of their role,

But, by successfully lobbying for gig workers to receive the same protections as other unemployed people during the coronavirus crisis, the companies risk unravelling their own arguments for not providing any kind of safety net themselves.

3. As the US Fed moves ahead with its stimulus plan, it has nominated the $ 7 trillion asset manager BlackRock's consulting wing, Financial Market Advisory (FMA), to run its three vehicles to buy corporate debt from primary and secondary markets and also commercial mortgage-backed securities.   But this, in turn, creates potential conflicts of interest, 

What is more notable is that BlackRock received this mandate without a contest. Moreover, his asset management firm has such a humungous footprint that it will inevitably collide with those Fed vehicles. Take the $140bn world of investment grade US corporate bond exchange traded funds. On Monday the Fed pledged to invest in some ETFs to support corporate funding flows. However, as it happens a BlackRock-run ETF, called LQD, is the biggest of this type. The price of LQD, like other ETFs, has already rallied since the announcement. If the Fed does a broad ETF programme, LQD will probably be part of that mix. This leaves some BlackRock rivals muttering about conflicts of interest — and non-American regulators caustically pointing out that since 2008 Mr Fink has been adept in persuading US regulators to refrain from sweeping regulatory reforms on asset managers, such as his.

A scandal waiting to happen?

4.  Paul Romer and Alan Garber argue in favour of targeted testing and protective gears to restore normalcy. They write,

To protect our way of life, we need to shift within a couple of months to a targeted approach that limits the spread of the virus but still lets most people go back to work and resume their daily activities. This approach uses two complementary strategies. The first relies on tests to target social distancing more precisely. The second relies on protective equipment that prevents the transmission of the virus. Adopting these strategies will require a massive increase in our capacity for coronavirus testing and a surge in the production of personal protective equipment... we should set an ambitious goal — within two months, a return with protective equipment for 25 percent of all workers, and within four months, 75 percent of the work force. A conventional fiscal response on the scale we need to avoid a depression will require trillions of dollars of government spending. Investment in protective equipment and tests would be a far less expensive, better way to stimulate the economy than giveaways and transfers.

This raises the possibility of the developed economies spending their way to controlling the epidemic.

5. The economic packages of the Government of India and the RBI are explained here and here respectively. More on supporting small and larger businesses as well as financial institutions is only days away. This is a compelling criticism. 

The $2 trillion US Stimulus is explained here and here.

The German stimulus is explained here and here. Germany's latest stimulus commits to offer limitless credit to small businesses,

The government will guarantee 100% of loans for companies with between 11 and 250 employees... Loans of up to 800,000 euros ($862,000) will be made available quickly to help firms pay rent and cover other costs due to disruptions to supply and demand... The program is a follow-up to an earlier plan to help companies secure liquidity amid the fallout from lockdown measures. That program only covers 80% to 90% of the credit risk, and banks have been reluctant to offer some companies loans as the economy falters... The loans will initially carry a 3% interest rate, but companies can swap them for better conditions if they qualify.

This is a good primer of the Kurzarbeit or short-time work plan. See also this.

The UK Government has added another £60 bn in economic rescue measures, the third announcement on the Pandemic.

On Friday, the chancellor added another element to the coronavirus job retention scheme, confirming that the government would pay employers the national insurance contributions and statutory pension contributions of furloughed workers in the scheme up to a salary cap of £2,500 a month. The pledge added another £300 cost to the government for each worker with a salary that qualified for the top payment, meaning the job retention scheme will probably cost closer to £12bn over three months if 3m people are furloughed — more if the measure is extended. That comes on top of the £9bn for the chancellor’s self-employment package announced on Thursday; £12bn in the original package of support announced in the formal Budget; £20bn on business rate relief and grants in some sectors and a £7bn package to improve social security. In total, the £60bn of support announced so far will amount to a little under 3 per cent of gross domestic product.

Bruegel has this summary of the fiscal policy responses of western economies.

6. Abrupt and prolonged lockdowns can impose large human suffering. This is a great example of a case study for a public administration class.

7. South Africa loses its investment grade rating after Moody's downgraded the country's bonds to junk status, forcing the rand to weaken by 2 per cent against the dollar.

8. Agustin Carstens of BIS has this diagnosis of the current financial market problem,

The strains this time are showing up in funding markets such as commercial paper, and the corporate bond market. Businesses large and small need working capital, especially when they are part of a supply chain. A company’s short-term assets, such as receivables — the money owed by other businesses in the production chain — constitute a substantial part of total assets. These receivables are matched by accounts payable on the liabilities side of the balance sheet. The interlocking chain of receivables and payables is the glue that holds businesses together in an economy, not to mention global supply chains. And businesses have increasingly turned to market-based funding for working capital, and in US dollars for global value chains. Current supervisory tools were designed to restrain banks from overextending themselves. Right now, we have the opposite problem: banks are not filling the void left by the retreat of market-based finance. To give viable businesses a lifeline to tide them over the economic sudden stop wrought by Covid-19, a solution is needed to complete the last mile from potential lenders to those firms at the edge of the precipice.

As to solutions, he writes,

Banks should be part of the solution, not part of the problem. Now is the time to draw on the accumulated balance sheet buffers that were built while the sun was shining. To boost lending capacity further, we need a global freeze on bank dividends and share buybacks. However, this first step may not be enough, as lenders pull in their horns and retreat from risk-taking. That’s why there needs to be a second step of enlisting the banks to lend, using central bank funding for lending schemes. Risk sharing by governments through guarantee schemes is needed to ensure that economic risks are not pushed to banks or the central bank. One way to do it would be to provide each small and midsized company with a government-guaranteed loan equal to the amount of taxes it paid last year. These “tax deferral loans” could be provided by banks upon simple evidence of taxes having been paid last year and then be refinanced, in a securitised form, through a central bank facility. Losses would have to be incurred by the government — treasuries have to step in... We also need to prevent the glue that binds global supply chains from coming unstuck. This means taking these principles global. The dollar swap lines central banks have announced are essential. But, as in the domestic context, each central bank needs to channel its dollar liquidity towards preventing global supply chains from unravelling. Concretely, government-guaranteed loans by banks to finance receivables could also be securitised and financed by a central bank facility.