The world after corona

What can we say about the impact of the pandemic on the global distribution of income? It is hard to say anything meaningful now because we have no idea how long the pandemic will last, how many countries will be affected, how many people will die, whether the social fabric of societies will be ripped apart or not.  We are totally in the dark. Most of what we say today may be proven wrong tomorrow. If someone is right, it may be not necessarily because they are smart, but because they are lucky. But in a crisis like this, luck counts for a lot…

How likely is the crisis to reduce global income? Figure below shows global real per capita growth rates from 1952 to 2018. The thick line gives the conventional (plutocratic) measure: it shows whether the average real GDP per capita of the world had expanded or shrunk. (All calculations are in dollars of equal purchasing power.) Global world per capita GDP had gone down only four times: in 1954, 1982, 1991, and most recently in 2009 as the consequence of the Global Financial Crisis. Each of the four global declines was driven by the outcome in the United States. This is quite understandable. US was until recently the largest economy in the world and when it slowed down, the world growth rate was affected.

A different measure of global growth is the so-called democratic or people’s real growth rate (thin line in the Figure below). It asks the following question: assuming that income distribution in each country remains the same, what was the average growth experience of the people in the world? To put it more simply: if GDPs per capita of India, China and other populous countries increase fast, more people will feel better off than if some rich, but small, countries’ GDPs per capita go up.  Or yet differently: think of the time in the 1960s, when the total GDP of (say) Benelux was similar to the total GDP of China. In a plutocratic calculation, increase of both will count the same. In a democratic calculation, the increase in China will count for much more because many more people would feel an improvement. This second measure therefore weighs growth rates of countries with their populations. There we notice that the world has never had a negative growth rate except in 1961 when the disaster of the (ironically termed) Great Leap Forward reduced Chinese per capita income by 26 percent, and moved the world into negative territory.

What can we say about the likely evolution of the two measures in 2020? The IMF which calculates only the first measure, recently estimated that the world GDP would be reduced by at least as much as during the Global Finacial Crisis. The second measure is unlikely to be negative as China is on the mend, and as we have seen, it is the populous countries that largely determine what happens to that measure. Yet we do not know how India will be affected by the crisis. If its growth rate becomes negative, it may—combined with almost certainly negative growth rates of most of Europe and North America—produce the second people’s recession since the 1950s.

 

ROG=rate of growth; e.g. 0.05=5%.

So the negative effects of the crisis on growth will be very strong. But it will not affect everybody the same. If the economic decline is the severest, as it appears now, in the United States and Europe, the gap between large Asian countries and the rich world would be reduced. This is the main force which has led to the reduction in global inequality since approximately 1990. Thus we can expect, akin to what has happened after 2008-09, an acceleration in the decline of global inequality. Like after 2008-09,  the reduction in global inequality will be achieved not through the “benign” forces of positive growth in both rich and emerging economies of Asia, but through “malignant” forces of negative growth in the rich countries.

This would have the following two effects. First, geopolitically, the shift of the center of gravity of economic activity will continue to move towards Asia. Whether one decides to “pivot” toward Asia or not will be increasingly irrelevant. If Asia continues to be the most dynamic part of the world economy, everybody will be naturally pushed in that direction. Second, the decline in real incomes of Western populations will come exactly at the time when Western economies were exiting the period of economic austerity and low growth, and one could expect that the lack of middle class growth that characterized these countries since the financial crisis would come to an end. 

In purely accounting (economic) terms we are thus likely to see to some extent a replay of the Global Financial Crisis: the deterioration in the relative income position of the West, increasing inequalities within rich countries (as low-wage and more vulnerable workers lose out), and stagnation  of middle class incomes. The shock of the coronavirus crisis thus might come as a second dramatic shock to the position of rich counties within the past 15 years.

We may expect, in some area, the reversal of globalization. This is most obvious, in the relatively short-term (one to two years) during which, even under the optimistic scenario on the handling of the pandemic, movement of people and possibly of goods will be much more controlled than before the crisis. Many of the impediments to the free movement of people and goods may come from the well-founded fear of the recurrence of the pandemic. But some of them will dovetail with economic interests of companies. Thus the removal of restrictions will be difficult and costly.  We have not removed expensive and cumbersome airplane security measures despite the absence of terrorist attacks for years. We are unlikely to remove them in this case too. There will be also a not unreasonable fear that depending entirely on the kindness of strangers in the conditions of national emergency is not necessarily  the best policy. This will undermine globalization as well.  

Yet, we should not overestimate these impediments to trade and movement of labor and capital. When our short-run self-interest is at stake, we are very quick to forget the lessons of history: so if several years pass without any major new turbulence, we are, I think, likely to go back to the forms of globalization that we lived through before the coronavirus crisis.

What however may not go back to where it was is the relative economic power of different countries, and the political attraction of liberal vs more authoritarian ways to manage societies. Sharp crises like this one tend to encourage centralization of power because this is often the only way that societies can survive. It then becomes difficult to divest of power those who have accumulated it during the crisis, and moreover can credibly claim that it was thanks to their ability or wisdom that the worst was avoided.  Thus politics will remain turbulent.

Four types of labor and the epidemic

I wrote in a recently published article in Foreign Affairs [foreignaffairs.com] that the attention of policy makers and indeed of the public is wrongly directed to the preservation of some fictitious parameters (like stock market quotes) or equally wrongly on the financial viability of companies. It is not that they are unimportant. But in conditions of severe disruption of economic activity, of a crisis which is akin to a war, focus on financial indicators is distractive. The focus should be (as indeed it has been in all wars, including in the US during the World War II) on physical quantities.

Consider today’s problem from the point of view of labor allocation. Assume that there are 4 types of labor: (A) doctors and medical personnel, (B) on-line retail workers, (C) people producing physical goods (factory workers), and (D) professionals (teachers, engineers, designers etc.). Their numbers stand at the beginning of the crisis in some relationship that has been established by economic demand, as well by the supply of these professions.

What a tremendous shock like that of the epidemic does is to totally unbalance the new demand for these four types of labor. Their current allocation becomes entirely out of the whack with the desired allocation under the new conditions. The shock increases exponentially demand for As, increases similarly to the demand for Bs as people move to on-line shopping and retailing, decreases the demand for Cs, and more or less leaves the demand for Ds unchanged. There is a further element, specific to epidemics. If activities of B, C and D continue as before, we are likely to have more infected people (assuming that most of infections take place as people interact at work) and more overburdened and overwhelmed As, so much so that the death rate will rise. To see that assume simply that B, C and D stop working and producing. New infection will surely decline as people are made to stay at home in enforced idleness. This is indeed what the quarantine is supposed to achieve.

The problem though is that if all work ceases, people will soon starve. Thus the trade-off between continued production and spread of the diseases cannot be pushed to its extreme point of 0 production. We have to find a position along the trade-off curve which would allow economic activity to continue at a modest pace until the epidemic is under some kind of control.

So, let’s go back to out nomenclature of laborers. The supply of As (which we would dearly like to increase) is more or less fixed in the short run (says, weeks or months with which we deal here). Thus, there is not much to do short of calling back to work all the retired nurses and doctors as New York City has just done. Bs should be fine in terms of their income as the demand for their services is on the rise. Note however that some of their additional work may produce additional cases of disease. However, there too we can do very little lest we want to stop all life.

The key category is Cs. Their incomes will be severely impacted by the epidemic. They are likely to lose their jobs, often be left without any resources. Do you want them to be impoverished and let loose to roam the streets in search of job? No, the policy-makers’ interest should be to preserve as much as possible their income while encouraging them not to work. In other words, these are the people who should be the main focus of policy-making: you do not want them to fall below some income threshold (for the reasons of both humanity and broader social interest), and you also do not want them to work in order to slow the rate of new infections.

The last category (Ds) are workers whose income may be relatively unaffected, in the short-run at least, because the demand for their services may neither decrease nor increase much and they can perform these services remotely. So from the point of view of the policy-maker they are not the key constituency to worry about.

In this way we can formulate, I think, a much more reasonable direction for economic policy during the epidemic: try to the extent possible to increase the supply of As, limit the work perfumed by all others (again to the extent that this is possible), and keep workers Cs economically afloat and unconditionally so during the duration of the crisis. And of course change the entire focus of policy from financial indicators to household incomes.