Disease, debt and depression

March 5, 2020

As I write the coronavirus epidemic (not yet declared pandemic) continues to

spread. Now there are more new cases outside China than within, with a particular
acceleration in South Korea, Japan and Iran. Up to now more than 80,000 people
infected in China alone, where the outbreak originated. The number of people who
have been confirmed to have died as a result of the virus has now surpassed 3,200.

As I said in my first post on the outbreak, “this infection is characterized by

human-to-human transmission and an apparent two-week incubation period before the
sickness hits, so the infection will likely continue to spread across the globe.”
Even though more people die each year from complications after suffering influenza,
and for that matter from suicides or traffic accidents, what is scary about the
infection is that the death rate is much higher than for flu, perhaps 30 times
higher. So if it spreads across the world, it will eventually kill more people.

And as I said in that first post, “The coronavirus outbreak may fade like others
before it, but it is very likely that there will be more and possible even deadlier
pathogens ahead.” That’s because the most likely cause of the outbreak was the
transmission of the virus from animals, where it has probably been hosted for
thousands of years, to humans through use of intensive industrial farming and the
extension of exotic wildlife meat markets.

COVID-19 is more virulent and deadly than the annual influenza viruses that kill
many more vulnerable people each year. But if not contained, it will eventually
match that death rate and appear in a new form each year. However, if you just
take precautions (hand washing, not travelling or working etc) you should be okay,
especially if you are healthy, young and well-fed. But if you are old, have lots
of health issues and live in bad conditions, but you still must travel and go to
work, then you are at a much greater risk of serious illness or death. COVID-19 is
not an equal-opportunity killer.

But the illnesses and deaths that come from COVID-19 is not the worry of the
strategists of capital. They are only concerned with damage to stock markets,
profits and the capitalist economy. Indeed, I have heard it argued in the
executive suites of finance capital that if lots of old, unproductive people die
off, that could boost productivity because the young and productive will survive in
greater numbers!

That’s a classic early 19th century Malthusian solution to any crisis in

capitalism. Unfortunately, for the followers of the reactionary parson Malthus,
his theory that crises in capitalism are caused by overpopulation has been
demolished, given the experience of the last 200 years. Nature may be involved in
the virus epidemic, but the number of deaths depends on human action – the social
structure of an economy; the level of medical infrastructure and resources and the
policies of governments.

It is no accident that China, having been initially caught on the hop with this
outbreak, was able to mobilise massive resources and impose draconian shut-down
conditions on the population that has eventually brought the virus spread under
control. Things do not look so controlled in countries like Korea or Japan, or
probably the US, where resources are less planned and governments want people to
stay at work for capital, not avoid getting ill. And poor, rotten regimes like
Iran appear to have lost control completely.

No, the real worry for the strategists of capital is whether this epidemic could be
the trigger for a major recession or slump, the first since the Great Recession of
2008-9. That’s because the epidemic hit just at a time when the major capitalist
economies were already looking very weak. The world capitalist economy has already
slowed to a near ‘stall speed’ of about 2.5% a year. The US is growing at just 2%
a year, Europe and Japan at just 1%; and the major so-called emerging economies of
Brazil, Mexico, Turkey, Argentina, South Africa and Russia are basically static.
The huge economies of India and China have also slowed significantly in the last
year. And now the shutdown from COVID-19 has pushed the Chinese economy into a
ravine.

The OECD – which represents the planet’s 36 most advanced economies – is now
warning of the possibility that the impact of COVID-19 would halve global economic
growth this year from its previous forecast. The OECD lowered its central growth
forecast from 2.9 per cent to 2.4 per cent, but said a “longer lasting and more
intensive coronavirus outbreak” could slash growth to 1.5 per cent in 2020. Even
under its central forecast, the OECD warned that global growth could shrink in the
first quarter. Chinese growth is expected to fall below 5% this year, down from
6.1% last year – which was already the weakest growth rate in the world’s second
largest economy in almost 30 years. The effect of widespread factory and business
closures in China alone would cut 0.5 percentage points from global growth as it
reduced its main forecast to 2.4 per cent in the quarter to end-March.

Elsewhere, Italy endured its 17th consecutive monthly decline in manufacturing

activity in February. And the Italian government announced plans to inject €3.6bn
into the economy. IHS Markit’s purchasing managers’ index for Italian manufacturing
edged down by 0.2 points to 48.7 in February. A reading below 50 indicates that the
majority of companies surveyed are reporting a shrinking of activity. And the
survey was completed on February 21, before the coronavirus outbreak intensified in
Italy. There was a similar contraction of factory activity in France, where the
manufacturing PMI fell by 1.3 points to 49.8. However, manufacturing activity
increased for the eurozone as a whole in February, as the PMI for the bloc rose by
1.3 points to 49.2, but still under 50.

The US, so far, has avoided a serious downturn in consumer spending, partly because
the epidemic has not spread widely in America. Maybe the US economy can avoid a
slump from COVID-19. But the signs are still worrying. The latest activity index
for services in February showed that the sector showed a contraction for the first
time in six years and the overall indicator (graph below) also went into negative
territory.

Outside the OECD area, there was more bad news on growth. South Africa’s Absa
Manufacturing PMI fell to 44.3 in February of 2020 from 45.2 in the previous month.
The reading pointed to the seventh consecutive month of contraction in factory
activity and at the quickest pace since August 2009. And China’s capitalist sector
reported its lowest level of activity since records began. The Caixin China General
Manufacturing PMI plunged to 40.3 in February 2020, the lowest level since the
survey began in April 2004.

The IMF too has reduced its already low economic growth forecast for 2020.
“Experience suggests that about one-third of the economic losses from the disease
will be direct costs: from loss of life, workplace closures, and quarantines. The
remaining two-thirds will be indirect, reflecting a retrenchment in consumer
confidence and business behavior and a tightening in financial markets.” So “under
any scenario, global growth in 2020 will drop below last year’s level. How far it
will fall, and for how long, is difficult to predict, and would depend on the
epidemic, but also on the timeliness and effectiveness of our actions.”

One mainstream economic forecaster, Capital Economics, cut its growth forecast by
0.4 percentage points to 2.5 per cent for 2020, in what the IMF considers recession
territory. And Jennifer McKeown, head of economic research at Capital Economics,
cautioned that if the outbreak became a global pandemic, the effect “could be as
bad as 2009, when world GDP fell by 0.5 per cent.” And a global recession in the
first half of this year is “suddenly looking like a distinct possibility”, said
Erik Nielsen, chief economist at UniCredit.

In a study of a global flu pandemic, Oxford University professors estimated that a

four-week closure of schools — almost exactly what Japan has introduced — would
knock 0.6 per cent off output in one year as parents would have to stay off work to
look after children. In a 2006 paper, Warwick McKibbin and Alexandra Sidorenko of
the Australian National University estimated that a moderate to severe global flu
pandemic with a mortality rate up to 1.2 per cent would knock up to 6 per cent off
advanced economy GDP in the year of any outbreak.

The Institute of International Finance (IIF), the research agency funded by

international banks and financial institutions, announced that: “We’re downgrading
China growth this year from 5.9% to 3.7% & the US from 2.0% to 1.3%. Rest of the
world is shaky. Germany struggling to retool autos, Japan weighed down by 2019 tax
hike. EM has been weak for a while. Global growth could approach 1.0% in 2020,
weakest since 2009.”

What are the policy reactions of the official authorities to avoid a serious slump?
The US Federal Reserve stepped in to cut its policy interest rate at an emergency
meeting. Canada followed suit and others will follow. The IMF and World Bank is
making available about $50 billion through its rapid-disbursing emergency financing
facilities for low income and emerging market countries that could potentially seek
support. Of this, $10 billion is available at zero interest for the poorest members
through the Rapid Credit Facility.

This may have some effect, but cuts in interest rates and cheap credit are more
likely to end up being used to boost the stock market with yet more ‘fictitious
capital’ – and indeed stock markets have made a limited recovery after falling more
than 10% from peaks. The problem is that this recession is not caused by ‘a lack
of demand’, as Keynesian theory would have it, but by a ‘supply-side shock’ –
namely the loss of production, investment and trade. Keynesian/monetarist solutions
won’t work, because interest rates are already near zero and consumers have not
stopped spending – on the contrary. Jon Cunliffe, deputy governor of the Bank of
England, said that since coronavirus was “a pure supply shock there is not much we
can do about it”.

And as British Marxist economist Chris Dillow argues, the coronavirus epidemic is
really just an extra factor keeping the major capitalist economies dysfunctional
and stagnating. He lays the main cause of the stagnation on the long-term decline
in the profitability of capital. “basic theory (and common sense) tells us that
there should be a link between yields on financial assets and those on real ones,
so low yields on bonds should be a sign of low yields on physical capital. And they
are.” He identifies ‘three big facts’: the slowdown in productivity growth; the
vulnerability to crisis; and low-grade jobs. And as he says, “Of course, all these
trends have long been discussed by Marxists: a falling rate of profit; monopoly
leading to stagnation; proneness to crisis; and worse living conditions for many
people. And there is plenty of evidence for them.” Indeed, as any regular reader
of this blog will know.

And then there is debt. In this decade of record low interest rates (even
negative), companies have been on a borrowing binge. This is something that I have
banged on about in this blog ad nauseam. Huge debt, particularly in the corporate
sector, is a recipe for a serious crash if the profitability of capital were to
drop sharply.

Now John Plender in the Financial Times has taken up my argument. He pointed out,
according to the IIF, the ratio of global debt to gross domestic product hit an
all-time high of over 322 per cent in the third quarter of 2019, with total debt
reaching close to $253tn. “The implication, if the virus continues to spread, is
that any fragilities in the financial system have the potential to trigger a new
debt crisis.”

The huge rise in US non-financial corporate debt is particularly striking. This

has enabled the very large global tech companies to buy up their own shares and
issue huge dividends to shareholders while piling up cash abroad to avoid tax. But
it has also enabled the small and medium sized companies in the US, Europe and
Japan, which have not been making any profits worth speaking of for years to
survive in what has been called a ‘zombie state’; namely making just enough to pay
their workers, buy inputs and service their (rising) debt, but without having
anything left over for new investment and expansion.

Plender remarks that a recent OECD report says that, at the end of December 2019,
the global outstanding stock of non-financial corporate bonds reached an all-time
high of $13.5tn, double the level in real terms against December 2008. “The rise is
most striking in the US, where the Fed estimates that corporate debt has risen from
$3.3tn before the financial crisis to $6.5tn last year. Given that Google parent
Alphabet, Apple, Facebook and Microsoft alone held net cash at the end of last year
of $328bn, this suggests that much of the debt is concentrated in old economy
sectors where many companies are less cash generative than Big Tech. Debt servicing
is thus more burdensome.”

The IMF’s latest global financial stability report amplifies this point with a
simulation showing that a recession half as severe as 2009 would result in
companies with $19tn of outstanding debt having insufficient profits to service
that debt.

So if sales should collapse, supply chains be disrupted and profitability fall

further, these heavily indebted companies could keel over. That would hit credit
markets and the banks and trigger a financial collapse. As I have shown on several
occasions, the profitability of capital in the major economies has been on a
downward trend (see graph above from Penn World tables 9.1).

And the mass of global profits was also beginning to contract before COVID-19
exploded onto the scene (my graph below from corporate profits data of six main
economies, Q4 2019 partly estimated). So even if the virus does not trigger a
slump, the conditions for any significant recovery are just not there.

Eventually this virus is going to wane (although it might stay in human bodies
forever mutating into an annual upsurge in winter cases). The issue is whether the
‘supply shock’ is so great that, even though economies start to recover as people
get back to work, travel and trade resumes, the damage has been so deep and the
time taken so long to recover, that this won’t be a quick one-quarter, V-shaped
economic cycle, but a proper U-shaped slump of six to 12 months.