The Covid-19 pandemic has caused the sharpest and deepest short-term economic contraction in modern economic history. Even as some countries succeed in controlling the outbreak, the case count continues to grow globally. The twin crises of health and economics are far from over.
The global Covid-19 pandemic and associated lockdowns has caused the sharpest and deepest economic contraction in modern economic history. Even as countries in Asia and Europe bring the number of cases under control in early July, the count continues to grow globally, fuelled by further outbreaks in emerging economies and parts of the United States. The twin crises of health and economics is far from over.
In fact, the main economic impact of the pandemic has not been directly caused by the virus itself but instead by a combination of necessary government-mandated lockdowns and voluntary social distancing by individuals. Our estimate of the maximum impact on national GDP of the pandemic shock ranges from 13% in Australia, 18% in the US, 20% in China and Germany, around 25% in the UK and as much as 30% in Italy.
Having seen double-digit negative quarterly growth rates in the US and Europe during the second quarter of 2020 (China's big pandemic hit was in the January-March quarter), strong recoveries are likely to occur in the third quarter. Indeed, as social distancing measures are gradually reversed, we expect economic activity to recover quite quickly, initially, as productive potential is brought back on stream. But thereafter we foresee a slower recovery in aggregate demand as consumers remain reticent about resuming activities requiring face to face contact.
In the language of comparing the recovery to letters of the alphabet, we see an initial V-shaped recovery followed by a more prolonged U.
For 2020 as a whole, we now foresee a contraction in global GDP of around 3%, the largest-ever recorded outside wartime. This is nearly five percentage points lower than our forecast for 2020 at the end of last year.
Annual GDP in the US, UK and euro area, more specifically, is expected to be between 8% and 12% lower than last year, with the economies of Japan and Australia doing better by coming in 4% lower. Only in China, out of the major economies, do we see positive growth (2%) for the full calendar year.
We do not expect GDP to recover to its more normal pre-virus trajectory until late next year. And even then we expect some 'scarring' as a result of permanent job losses, bankrupted businesses and the costs associated with the possible reallocation of resources.
Huge fiscal interventions have been very effective in keeping unemployment rates from rising sharply in Europe and Asia as furlough and short-term working schemes have insulated the labour market. For example, in the euro area and the UK the unemployment rate is only expected to rise by two to three percentage points in 2020. Without these schemes, the unemployment rate in both these regions would have likely soared to close to 30% at its worst point in April 2020. The major exception to this is in the United States, where furloughed workers count as unemployed; here the unemployed rate surged by 11 percentage points to 15% before dropping down again as these workers were called upon as lockdown restrictions eased.
In the longer term, we believe that the productive potential of Europe will likely be some 3% smaller in 2022 that would've been the case if the pandemic hadn't struck, slightly less in the United States, and relatively unaffected in China and Japan.
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