Allianz chief economic advisor Mohamed El-Erian recently spoke with Bloomberg Markets about the increasingly worrying economic impacts of the Coronavirus outbreak. Mr. El-Erian notes that the outbreak is causing companies to reconsider the prudence of highly streamlined single-source supply chains centered in China, exacerbating a de-globalization trend that has already been gaining momentum for a raft of reasons. He also predicts that a “massive” coordinated wave of fiscal and monetary stimulus is coming in Asia and perhaps the entire world as the longer term supply and demand disruptions of Coronavirus come into focus.
Some excerpts from Mohamed El-Erian:
“The market has treated this as a containable, temporary, and recoverable shock, just like the US attack on an Iranian general, just like the attack on Saudi oil production. That’s how the market sees it and it’s supported in that view by nice comments about fiscal and monetary expansion. However, when you look at it on the ground…, it’s completely different. You are getting sudden stops to various parts of the economy… I worry that the economic effects are not going to be a ‘V.’ The hope is that they’re a ‘U,’ but it’s possible it worse than that… The (Chinese) government is going to have to step in and save some of the more highly indebted companies… It’s not as if… the global economy was in a great place to begin with… For the economy it has been a bigger deal than it has been for markets…”
“If you are a company, you’ve realized what most of us know: you’re strength can become your weakness. Global supply chains are wonderful. Just-in-time, cheapest production, etc…, but when they get disrupted, they are really really problematic. I think increasingly companies are going to realize that efficiency versus predictability and that trade off, in the past, has gone way to far in terms of efficiency. So, I think you are going to see a revisiting of this whole globalization narrative…”
“…I have no doubt that we are going to see one of the biggest correlated… fiscal expansion in Asia that we have ever seen. Put on top of that monetary stimulus. So, we are going to have massive fiscal and monetary stimulus. But if you and I don’t want to be in the same room together; if I can’t source my products from you, it’s not clear whether that’s going to help…”
Indeed, the question of whether the Coronavirus will remain an enduring public health issue seems obvious: it will be. Yet despite the public health implications of nearly 80,000 confirmed cases over the past two months, US markets were pushing to new all-time highs until just a few days ago. Presumably, they were seeing through the ‘temporary’ economic impacts of the outbreak and anticipating the massive monetary and fiscal stimulus that Mr. El-Erian is mentioning. In other words, yet again, bad news is good news for risk assets.
While confidence in that cynical calculation is apparently wavering and market are now tumbling more meaningfully (as they should have been the whole time), don’t forget: this expansion has seen virtually no statistical correlation between economic growth and equity market valuations. Markets are more likely concerned that the pace of monetary and fiscal response will be inadequate than they are concerned about the actual economic fallout.