Can Government Intervention Help Economies Fight the COVID-19 Crisis? (Part 1)

Posted by: on Apr 6, 2020 | No Comments

Can Government Intervention Help Economies Fight the COVID-19 Crisis?

The coronavirus pandemic is a human tragedy, given its high death toll. But this deadly virus has infected more than human health. It threatens to send the global economy spiraling into a recession. Travel and trade are badly hurt, while many businesses have closed their shutters as people follow stay-home orders. In fact, COVID-19 could wipe out $5.5 trillion from the global economy over the next two years, says a report by JPMorgan Chase. That’s like cutting off a complete country, like Japan, from the global economy.

While the crisis looms large, governments around the world are resorting to economic stimulus and formulating policies for companies producing essential commodities and medical supplies. The governments seem to have painfully short memory spans! If history has taught us anything, it’s that economic stimulus doesn’t work and that companies will find a much more robust solution to any problem when left to their own devices.

Let’s have a look at both the proposed government solutions and whether (or how badly) they will fail.

The Stimulus Epidemic

Government stimulus programs are an age-old prescription to tackle financial crisis. Inject liquidity into the system, till people begin spending more and companies start increasing their production.

On March 27, US President Donald Trump signed the largest ever stimulus package of a whopping $2 trillion to rescue the coronavirus-battered economy. Massive injection of loans, tax breaks and direct payments to individuals and businesses are all part of this program. Other governments are also injecting funds, albeit not as mammoth as what America can afford. Other advanced economies and China have announced packages worth trillions of dollars to provide a lifeline to their economies.

Unprecedented responses to an unprecedented crisis? Sure, but for how long? Is $2 trillion enough to sustain the US economy, which reported 10 million job losses in March.

The Fallacy

Policymakers are hoping that by reducing taxes and putting cash into the hands of people, consumption can be increased, triggering an economic revival. This will not work as efficiently as governments hope. An economic slowdown changes consumer buying behavior and a thousand dollars cannot alter this. Given widespread anxiety, consumers are likely to either save the money or spend it on essentials, which are already selling faster than companies can deliver. The rows of empty shelves in the supermarket are proof of that.  

Tax rebates will have a similar effect, as people postpone buying non-essentials amid fears of a recession. The additional funds given by the government aren’t going to be put into a bank or in financial instruments. So, effectively, this money will remain out of circulation in the economy and the impact of the stimulus package on consumer spending is likely to be modest at best.

On the other hand, it’s important to consider where this stimulus money comes from. It is something that the government is borrowing. So, it will need to be paid back. And, how will the government pay it back? Well through higher taxes for individuals and businesses. A stimulus package is shortsighted and mostly in place to appease people, rather than achieving an economic objective.

An article written a long time back by independent media organization NPR said that using fiscal policy to revive an economy is like “taking a bucket of water from the deep end of a pool and dumping it into the shallow end.”

History has shown us that such stimulus and quantitative easing programs don’t work in the long term. The Bank of England cut interest rates to zero and embarked on a bond-buying program under its quantitative easing policy to aid the economy after the 2008 crisis. What resulted was a massive decline in living standards, paving the way for the Brexit vote.

If stimulus programs were so good, politicians wouldn’t reserve them for a crisis. They’d use them to accelerate economic growth even during good times. Rather than stimulus programs, governments need to give companies a free hand in their profit-making initiatives, if they want to see the economy rebound.

Let’s take a look at whether the policies formulated for companies to produce essential commodities and medical supplies will help. Read the second article of this series here.

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