The coronavirus is hitting the Chinese economy at the worst time
China is one of the few remaining major sources of demand in a global economy that's still struggling to keep its head above water
The coronavirus outbreak in China hit a grim milestone on Monday: killing over 100 people in a single 24-hour period. More than 1,000 people have now died from the virus, and at least 42,638 people have been infected — surpassing the 774 deaths and 8,098 infections from China's SARS outbreak in 2003. And there's a real chance things could get worse before they get better.
At the human level, that's over 1,000 individual tragedies. But the aggregate economic consequences need to be confronted too. And for both China's national economy and the global economy, the coronavirus' timing is especially bad.
Basically, the Chinese economy is in the midst of a difficult and delicate transition, and the virus is weakening key forces — most especially consumer spending — that need to be as strong as possible for the change to go smoothly. Meanwhile, China is one of the few remaining major sources of demand in a global economy that's still struggling to keep its head above water.
Let's start with China's domestic challenges. The country has hit a classic transition phase, where living standards rise enough that the economy stops depending primarily on manufacturing — and, by extension, exports — and starts depending more on services and related industries. Historically, this has been accompanied by a slowdown in economic growth rates. And sure enough, China's is ticking down: The country grew 6.1 percent in 2019, its slowest annual rate in almost three decades. The fear among observers is that if China can't manage that transition smoothly, its growth could tank a lot more than it has to.
Now, the bias in most business media is that market-based economies are best at figuring that transition out. China's economy, by contrast, still involves a lot of central planning — particularly in the banking system, where the government can direct credit even to the two-thirds of companies that aren't state-owned. But so far, China's economic performance hasn’t been unusually bad. A more likely problem for China is one it actually shares with the market-friendly United States: too much inequality. For a high-tech service economy to run as well as possible, you need a steady and robust flow of bottom-up spending from domestic consumers. For both countries, the fact that so much income and wealth gets siphoned off to a rarified elite constricts growth and undermines investment opportunities. Indeed, China's reluctance to fix its inequality problem is a big part of why its economic development has relied so much on exports — essentially using the rest of the world to do its consuming for it.
This gets us back to the coronavirus. At least 160 million people haven't been able to go to work in China due to quarantine efforts and general worries about infection, along with the government's extension of a national holiday. Major employers like Apple and Foxconn have shut down large swaths of their operations, other industries like auto-manufacturing are closing factories, and lots of workers have to stay home regardless to take care of kids because the school systems have closed. Even employers that are open are straining under a deluge of new health precautions. Checkpoints and quarantines are preventing workers from getting to their jobs and slowing down shipments for weeks, and highways are eerily empty. Over 80 cities are on lockdown, with public transit and travel highly restricted. The Chinese government is certainly worried about suffocating the country's economy, and those workers should be (hopefully) returning in the next week or two. But the government also had to tell the country's provinces that lifting restrictions is up to their discretion, depending on how the infection evolves.
"One state media outlet and some economists have said that China's growth rate could drop two percentage points this quarter because of the outbreak" CNN reported. "A decline on that scale could mean $62 billion in lost growth."
Everything depends, of course, on what happens next. "Economists say the current level of disruption is manageable," CNN added, and if the virus slows down, China will suffer a temporary hit to its first quarter growth but then recover. If the outbreak keeps spreading at its current pace, however, all bets are off. For a country trying to take a population that's one billion strong, move it rapidly through the manufacturing phase, and into consumer-driven services — and where inequality has already created a major bottleneck for that consumer spending — an extended period where a large chunk of its population simply can't go to work and get incomes is a massive problem.
And not just for China, but for the world as well.
Global growth rates are doing much worse than China's, stuck at about 2.5 percent. And again the problem is largely a lack of bottom-up spending. Europe is still in the doldrums, and a lot of the developing world is dealing with the fallout from some major financial crises. That's left America as one of the few remaining bright spots, supplying a lot of the spending that buys the rest of the world's exports and keeps everything going.
Thus far, the other big source of demand has been China itself: A lot of the reporting on the coronavirus has focused on how dependent global supply chains have become on Chinese manufacturing — which is certainly a big part of how the outbreak's effects could ripple out across the world. But equally important is China's raw spending. The country accounts for 16 percent of global economic production these days, and despite its big trade surplus, China is so large that it can't help but bring in massive amounts of imports from the rest of the globe as well. If China's economy grinds to a crawl, the rest of the world will slow down with it.
This is one of the great fragilities of the modern economy: The focus on totally free movement of capital around the world, plus investor-friendly balanced budgets and tight money, essentially leaves the global economy perpetually short on demand. And countries wind up trying to "out compete" each other for a bigger slice of that inadequate supply of spending. This is a policy choice, but what's so economically dangerous about a major disease outbreak is that it cuts off economic activity at the root — of people's ability to physically function and cooperate. No amount of fiscal or monetary stimulus from the Chinese government can compensate.
Stimulus from other countries could help, though. Economically speaking, there's not that much America can do for China. But assuming the outbreak remains contained to that country, the U.S. could help protect the rest of the global economy from a Chinese downturn. Global markets are already fleeing to the safety of U.S. Treasuries, which is effectively a cry for the U.S. government to do a lot more deficit spending. And deficit spending, in turn, is how America can pump a lot more demand back into its own economy — and, by extension, the global economy as well.
Of course, that's something the U.S. should be doing anyway. But let's hope the coronavirus doesn't compound the consequences of our failure.