COVID-19: Repercussions could worsen before they improve
History teaches that epidemics tend to have short-term effects on economies and markets, but great uncertainty remains about the coronavirus.
Fear of the fallout from the coronavirus has roiled markets, but while economies are likely to slow - dramatically in some regions - growth should rebound after the outbreak abates.
Still, at this stage there is great uncertainty. There remains the possibility of a sharper-than-expected contraction in China, and the potential for quarantines and other measures to directly disrupt economic activity outside of China. Indeed, disease experts widely predict the spread of the virus could get worse before it gets better.
China - where the first case of the coronavirus disease was reported in early December - is suffering the most.
Authorities have imposed quarantines across various provinces, including those along the east coast that contribute the lion's share of the country's GDP, manufacturing and trade activity. Despite reports that factories and businesses are reopening after the extended Chinese New Year holiday, high frequency data on traffic congestion and port shipments suggest activity remains severely depressed.
The longer quarantines depress Chinese economic activity, the more economic costs will rise. Weaker businesses that can't withstand cash flow disruptions will start to feel stress, which could spill over into financial markets, tighten financial conditions and exacerbate economic weakness.
Because China now accounts for an estimated 25% of global manufacturing activity, the ramifications will be felt worldwide.
It's both a supply and demand shock. For most countries, there will be a direct hit as exports to China slow. Already, falling Chinese demand for commodities has led to lower prices for industrial metals and oil.
On the supply side, a key concern is that reduced production of components made in China could lead to price hikes and force manufacturers outside China to find new sources of supply, or at worst, halt production. However, moving supply chains is a complex process that would likely take three to five years to play out - so near-term supply disruptions to economic activity could be significant.
In China, we estimate growth in first quarter real GDP could contract by 6% (at a quarterly annualized rate), which is a dip to 3% year-over-year growth. Last year, China averaged 6% growth.
The next-hardest-hit economies will likely be in Asia, especially Singapore, Malaysia and Vietnam in Southeast Asia, and Japan and South Korea in Northeast Asia. We expect economies in Europe and the U.S. will also be affected, with Europe likely hit harder than the U.S. given the region's higher exposure to exports to China and the greater openness of its economy to global trade.
The sectors most vulnerable to the shock include energy and autos, followed by gaming, cruise lines, hospitality and airlines.
Tiffany Wilding is a PIMCO economist focusing on the U.S. and Nicola Mai is a portfolio manager and leads sovereign credit research in Europe. Both are regular contributors to the PIMCO Blog
Important Information
This message contains confidential information and is intended only for the individual named. If you are not the named addressee, you should not disseminate, distribute, alter or copy this e-mail. Please notify the sender immediately by e-mail if you have received this e-mail by mistake and delete this e-mail from your system. E-mail transmissions cannot be guaranteed to be secure or without error as information could be intercepted, corrupted, lost, destroyed, arrive late or incomplete, or contain viruses. The sender, therefore, does not accept liability for any errors or omissions in the contents of this message which arise during or as a result of e-mail transmission. If verification is required, please request a hard-copy version. This message is provided for information purposes and should not be construed as a solicitation or offer to buy or sell any securities or related financial instruments in any jurisdiction. Please note to the extent that we collect any personal data we will use that personal data in accordance with our Privacy Policy https://europe.pimco.com/en-eu/general/legal-pages/privacy-policy#howweuseyourdata. PIMCO Europe Ltd is registered in England and Wales Company No. 2604517 and has its registered office at: 11 Baker Street, London, W1U 3AH.