Written by: Anthony Rowley | SCMP
Covid-19 has hit financial markets hard because their health was in a parlous state to begin with. As central banks and governments rush to launch economic stimulus, they should stop propping up stock markets, and focus on rebuilding a more sustainable economy.
There is something grimly appropriate about the coronavirus pandemic forcing people and countries into quarantine and isolation. It reinforces the trend towards economic autarky and trade protectionism already being promoted by populist politicians.
This is something to keep firmly in mind as people blame the mayhem in financial markets on the “coronavirus crisis” when that is only the trigger, not the cause. Just as the coronavirus strikes hardest at the sick, it is threatening to savage an ailing economy.
Diagnosing accurately the pre-existing condition in global financial markets that made them vulnerable to a devastatingly, sudden and profound collapse is essential to rebuilding the system on a more sustainable basis once the bottom is reached. And there will be more pain before any cure takes effect.Couple the damage done by trade wars and financial trauma to production, investment and consumption in advanced economies with record outflows of capital from emerging economies, and you have the makings of a perfect storm that could force the world to close its doors to commerce and investment.
A situation that requires the closing of national borders, the locking down of major cities and even a kind of mass “house arrest” of populations (along with official promotion of social distancing, teleworking and online shopping) could become the final nail in the coffin of globalisation.
Apocalyptic scenarios abound as stock prices plunge into a seeming abyss and sovereign bonds slide, as investors hoard cash rather than put money into anything other than short-term securities. There are even suggestions that financial markets could be shut down altogether to avoid implosion.
Ironically, as Jesper Koll, senior adviser at investment group Wisdom Tree, Japan, said, the rush by central banks and governments in advanced economies to prove they are ahead of the game by rolling out emergency financing may have helped to provoke investor panic.
That they are competing furiously to pump unprecedented amounts of monetary and fiscal stimulus (including “helicopter money” in the case of the US administration) into their respective economies suggests that they recognise their guilt in conniving at past excess.
They used unconventional monetary policy, in the form of slashed interest rates and direct injections of funds into the financial system, to bail out major financial institutions and avoid a worldwide economic crash in the 2008 global financial crisis, and then became addicted to the remedy.
No matter that stock prices climbed over the following decade to clearly unsustainable levels (ditto real estate values) while household, corporate and government borrowing in advanced and emerging economies alike assumed mountainous dimensions, and interest rates stayed on the floor.
It all served to keep economic growth going, even if that growth was based in many cases on debt-fuelled personal consumption at the expense of investment in things such as basic infrastructure or (as the coronavirus is proving) essentials such as health services and social welfare.
It is revealing that, of the collective trillions of dollars being thrown in now by panicky governments and central banks, a substantial part is going into propping up stock prices, not least by the Bank of Japan in doubling down on its purchases of exchange traded funds.
Stock markets, as observed before in this column, have grown into gigantic money creation dynamos (primary generators and not just auxiliary suppliers) through the “wealth effect” of rising stock prices. This, in turn, has served to collateralise borrowing and supercharge consumption.
Throwing fiscal stimulus, which could be better employed elsewhere, at stock markets in an almost certainly vain effort to restart these wealth creation machines does not seem a wise thing to do. Too many trillions have been wiped off stock values by the crash to allow the tactic to work.
Worryingly, such is the inflated value of assets at risk and the level of outstanding government corporate and household debt, that key financial institutions (already hobbled in their market-making ability to regulate changes) may be unable to cope with the sudden collapse in asset prices.
A parallel rescue operation to supply liquidity to keep these market-critical institutions from failing (as they threatened to do in the 2008 crisis) should prevent a seizing up, but it will not restore buoyant financial activity.
For a corporate sector facing slumping domestic and external demand (due largely to Donald Trump’s trade wars and supply chain interruptions, and not to the coronavirus), central banks’ buying up of short commercial paper is no substitute for shrinking order books.
Central bank financing of government debt will help get spending going again in traditional areas of Keynesian stimulus (such as infrastructure or health). The benefits will take time to appear and will not help stock market darlings. But that is not a bad thing if we want more sustainable growth in the future.
Anthony Rowley is a veteran journalist specialising in Asian economic and financial affairs.