Coronavirus: Threats To Global Economy

Summary

• Death tolls have recently surpassed 1,000 in China alone, while 40,000 people are infected worldwide.
• Given China's central role within global supply chains, the coronavirus spread threatens to impact markets worldwide.
• OPEC+, which includes the traditional members of OPEC along with Russia, has been discussing possible supply reductions to offset further price drops.

Aside from the obvious humanitarian costs associated with the coronavirus outbreak, it will inflict a severe economic toll. Given the structure of international supply chains, a Chinese slowdown affects the rest of the world. But this may no longer be a Chinese problem, as the recent surge in cases in Italy threatens the Eurozone economy directly. Global growth may have to take a temporary backseat until the crisis is resolved.

China on hold

Reports of the coronavirus (Covid-19) outbreak have dominated headlines in the last few weeks. Death tolls have recently surpassed 1,000 in China alone, while 40,000 people are infected worldwide.

As a response, Chinese policymakers imposed travel restrictions and placed several cities under quarantine. In Wuhan, most cars are banned from the streets of the metropolis of 11 million. Cities in the region of Hubei, which ranked 8th in China in terms of GDP in 2015, have had several factories put on hold.

The impacts of the slow down are already showing. Though some sources suggest that employees are getting back to work, there has been notable damage; According to Deutsche Bank, China's GDP growth will slow to just 4.8 percent in the first quarter. In the fourth quarter of 2019, it was 6 percent.

China's position in global supply chains

Given China's central role within global supply chains, the coronavirus spread threatens to impact markets worldwide. In 2018, the world imported just over 30 percent of electrical and electronic goods from China. Countries such as India and Japan are particularly vulnerable. In 2017, 16 and 25 percent of products were imported from China, respectively.

On the demand side, China accounted for 11 percent of the world's imports of their goods in 2019. This number will almost certainly contract. Imposing restrictions on movement weakens consumer spending and factory production.

Energy markets have also taken a hit

Energy markets have also been affected. In 2018, China accounted for 24 percent of global energy consumption. But the policies intended to offset the intensification of the virus have triggered a decrease in demand and consumption.

In the LNG market, China has threatened to cancel imports given the lack of consumption. Two cargoes from both Qatar and Malaysia were refused entry. Oil prices have also taken a hit.

Since early January, the price for a barrel of oil has dropped from just above $64 to around $54 on February 27th. Prices rebounded temporarily but plummeted once again recently after several cases were reported in Europe, namely Italy.

Such a drastic reduction in prices has placed oil-dependent economies, such as Saudi Arabia, on high alert. To reach a fiscal break-even, Saudi needs prices closer to $80 a barrel.

OPEC+, which includes the traditional members of OPEC along with Russia, has been discussing possible supply reductions to offset further price drops. Moscow is hesitating. Energy Minister Alexander Novak wants more time to assess the situation. This shouldn't be surprising. To balance its state budget, Russia can survive price drops to around $42 a barrel, significantly lower than Saudi Arabia.

What about other parts of the world?

Even economies that are thousands of miles away will face effects similar to those that are close to China. For instance, Germany's over-reliance on trade with China will ensure that the whole regional economy experiences a temporary slump. Even before the outbreak, the IMF estimated that growth in the euro area would pick up from 1.2 percent to 1.3 percent in 2020. This is well-below Eurozone expectations. The outbreak of the virus won't help.

To make matters worse, the recent surge in Covid-19 cases in northern Italy will disrupt European supply chains. Italian policymakers have opted to implement the same containment measures as Beijing, restricting the movement of some 50,000 people. Germany is Italy's leading export destination, accounting for nearly 12 percent of exports as of 2017. This suggests that a European slowdown is almost guaranteed.

As for the US, according to UBS, the virus could lead to a decline in Chinese tourism and weaker demand for American exports. However, it is not as structurally vulnerable as more export-driven economies. It can also rely on a booming consumer economy.

What can we expect in 2020?

It was predicted to be a year of stable, albeit slow growth. But China's central role in global supply chains will ensure that the coronavirus hampers such expectations. At the same time, China's recent economic history should provide some optimism amidst all the gloom.

The Chinese economy grew by 6 percent in 2019. This remains the weakest growth rate since 1992 but is within the government's target of 6 to 6.5 percent. The past 20 years have demonstrated that China is committed to rapid economic growth. Chinese policymakers will do whatever it takes to get the country up and running again.

At the same time, this assumption rests on the ability of Chinese policymakers to contain the virus. If it continues to intensify, the recovery will almost certainly be delayed. Beijing might exacerbate the problem if it's focused primarily on restoring growth rather than fully resolving the crisis. Therefore, a purely economic outlook might hinder its recovery prospects. Ultimately, the extent of the economic damage rests on Beijing's ability to not only tackle the outbreak but to get workers back on the production lines.

But with countries like Italy experiencing a sudden surge in Covid-19 cases, this might no longer be just a Chinese problem. Indeed, it is still early days. There have been "only" three fatalities in Italy, all of which were above the age of 60. But the Italian case will place the rest of Europe - and the world - on high alert.

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Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.