Pandemic has changed global economy

What next for economics and politics in a world of high debt and low growth?

The coronavirus (Covid-19) pandemic has had a devastating impact on the global economy. To tackle the outbreak, developed countries have unleashed record-high amounts of fiscal stimulus, pushing public-debt ratios to unprecedented levels. Meanwhile, long-term growth prospects are grim, raising questions about the sustainability of such high debt levels and the implications of the current situation for economies around the world.

What next for firms, industrial policy and labour markets?

• Governments have offered unprecedented levels of support to otherwise non-viable, unproductive firms. Withdrawing these mechanisms would be politically problematic.

→ Consequently, most governments will prefer a scenario of low productivity growth, high debt overhang and underinvestment.

• A revival of industrial policy has been another feature of the economic responses to the pandemic in developed countries.

→ In most cases, industrial policies have taken the form of “mission-oriented” investment for the green recovery, but also protection of national champions.

• The risk of a large section of the population being subject to prolonged unemployment will pressure governments to reform labour markets.

→ Governments will likely bring forward measures to enhance social welfare and job security for permanent employees and temporary contract workers. What next for taxes and fiscal sustainability?

• The pandemic has increased fiscal deficits to record-high levels, raising questions about how current taxation systems may have to change.

→ To replenish their coffers, governments are likely to adopt capital gains tax or property taxes, which could also address the growing issue of inequality.

→ Taxing polluting industries is another option; this could help governments to reach their goal of reducing carbon emissions and boost their political-approval ratings.

Tackling the public-debt pile-ups post-pandemic will be a daunting task across the developed world.

→ In developed economies, the debate around debt sustainability will increasingly focus on servicing costs, rather than debt stocks. What next for monetary policy?

• For many developed countries, a “new mediocre” of low growth and low inflation will probably become the norm.

Unconventional monetary policies, including quantitative easing (QE), will remain a feature of advanced economies for several years, at least.

• Central banks are shifting focus from independent inflation-targeting strategies to implicit, and sometimes explicit, support for fiscal policy.

→ This new interpretation of central bank mandates will lead to greater scrutiny of central banks and, potentially, provoke a political backlash. What next for long-term growth and key risks?

• If monetary stimulus is unwound early, for instance in response to a spike in inflation, and interest rates were to rise, then worrying public-debt pile ups would result.

• In coming decades, rich countries will witness a decline in their populations and, consequently, in GDP; they will consequently focus on maintaining high GDP per head.

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