Economic Policy and the Covid-19 Crisis

The Macroeconomic Response in the US, Europe and East Asia

Bernadette Andreosso-O'Callaghan, Woosik Moon, Wook Sohn, Bernadette Andreosso-O'Callaghan, Woosik Moon, Wook Sohn

• Publisher: Routledge
• Year: 2021
• ISBN:
  9781000461718
• Edition: 1
• Topic: Economics
• Subtopic: Monetary Policy
• Index: Economics

This book offers an assessment of the different monetary and fiscal policy responses that have been implemented by national governments in major European and Asian countries faced with the Covid-19 crisis since 2020; it also deals with the case of the US experience as a benchmarking example.

The book provides a comprehensive cross-country comparative study on health crisis management at the macroeconomic level. Its focus on monetary and fiscal policies across different countries in Asia, Europe and the USA makes it unique. Divided into three parts following a general introduction that sets the context of the study, the book deals with the case of the USA, EU and European countries as well as with that of key Asian countries. Of specific relevance is the European Union and euro-area contexts that serve as a framework to the different EU national monetary and fiscal policy responses. Each chapter deals with a specific country, including Italy and the UK in Europe and Singapore and South Korea in Asia, and covers the following topics: the extent of the outbreak of the public health crisis and its macroeconomic impact; the comparative examination of fiscal and monetary policy responses to both crises; and an overall assessment of the effectiveness of these policies along with the public health policy to mitigate the economic impact.

Given the unprecedented nature of the Covid-19 crisis, anyone eager to know more about its macroeconomic impact and ensuing policies in a comparative framework will be keen to read this book. It will be essential reading to any researcher, policy maker and/or analyst working in the area of public policy and is also a unique contribution to the field of European studies, Asian studies and Comparative Economic Studies.

Part I

The experience of the USA

1 Monetary and fiscal policies in the United States

Seohyun Lee¹

¹The views expressed in the chapter are those of the author and do not necessarily represent the views of the IMF, its Executive Board, IMF management, or the Bank of Korea.

DOI: 10.4324/9781003153603-1

1.1 Introduction

In the US, the COVID-19 pandemic has taken a toll not only on human lives but also on the economy. The nationwide lockdowns and social distancing measures to prevent the spreading of the virus have led to immediate financial distress and an unprecedented downturn in the real economy. In response to the COVID-19 crisis, the US authorities have acted swiftly to cushion the adverse effects of the pandemic. The Federal Reserve Bank (Fed) lowered policy rates to a range of 0 to 0.25 percent in March and promptly announced a plan for a large asset purchase program. To help provide credit to businesses, households, and community services organizations (e.g. schools, hospitals, etc.), the Fed introduced several liquidity and lending facilities in March 2020 under Section 13(3) of the Federal Reserve Act. The four rounds of government responses to COVID—the Coronavirus Preparedness and Response Supplement Appropriations Act, the Families First Coronavirus Response Act, the Coronavirus Aid Relief and Economic Security Act (CARES Act), and the Paycheck Protection Program Flexibility Act (PPPF Act)—were approved early on in the pandemic to provide much needed supports to individuals and businesses heavily hit by the sudden disruption in economic activity.

Compared with the policy response during the global financial crisis (GFC), both the monetary and fiscal measures implemented during the COVID-19 crisis have been larger in scope and size. The Fed’s asset purchase program was announced in a timely manner and the speed of asset purchases has been faster. Credit facilities have been extended to support non-bank corporations, states, municipal governments, and non-profit organizations. The fiscal stimulus during the COVID-19 crisis has been much larger—approximately 14 percent of GDP—than the 7 percent GDP stimulus packages during the GFC. Furthermore, funding for small firms suffering due to disruptions in face-to-face interactions has been a substantial component of the fiscal policy responses to the pandemic.

While it is too early to fully assess the effectiveness of the policy measures, the swift and bold actions by the Fed have played a vital role in stabilizing financial markets and providing credit for otherwise sound borrowers who face a temporary period of decreased income. The real economy, partly reflecting the effect of the policy measures, shows a mixed picture and the outlook is largely dependent on the path of the pandemic. Fiscal policies supporting small and medium sized firms and moratoria on evictions and foreclosures have helped housing sector activities and prevented or delayed bankruptcies.

The remainder of the chapter proceeds as follows. Section 2 illustrates the evolution of the COVID-19 pandemic, the containment measures the US government has taken, and presents the financial market and macroeconomic impacts of the COVID-19 crisis. Section 3 provides details on the Federal Reserve’s recent actions in response to the COVID-19 crisis, in comparison with those implemented during the GFC in 2008–09. Section 4 presents some details of the fiscal policy measures. Section 5 evaluates the overall effectiveness of the monetary and fiscal measures. Section 6 outlines the conclusions of this research.

1.2 Economic impacts of the COVID-19 crisis

1.2.1 Developments of the COVID-19 pandemic and containment measures

The COVID-19 pandemic in the US has created not only a public health crisis but also an economic crisis. The pandemic has taken lives and slowed down economic activities as the government had to impose stringent lockdown measures to prevent the rapid spread of the virus. Social distancing in response to a rapid increase in COVID-19 cases has also contributed to economic contractions (IMF, 2020b). As of December 4, there have been over 14.1 million confirmed cases of COVID-19 and more than 276,000 deaths in the US (Figure 1.1). Following a gradually expanding outbreak in March 2020, broad-based lockdown and stay-at-home restrictions were imposed, and the number of new cases declined thereafter. Nevertheless, a second wave of the coronavirus occurred during the summer as economic activity and traveling resumed. In response to a surge in cases, the government slowed the reopening of the economy and reinstated partial lockdowns. Although the infection curve temporarily flattened during September due to the stringent government response, the US once again confronted renewed steep upticks in infections as the winter season approached.

Figure 1.1 COVID-19 cases in the US

An important factor that contributes to the COVID-19 recession is the degree of lockdown measures. While effective in containing the spread of the virus, strict lockdown measures imposed by governments involve short-term economic costs. Due to the severity of the pandemic in the US, the reopening of the economy has stalled and the degree of stringency of government responses, as measured by the Stringency Index (Hale et al., 2020), has been substantially higher than the global average since May 2020 (Figure 1.2). ² Another substantial determinant of economic contraction is behavioral changes—e.g. voluntary reductions in social interactions to avoid contracting or spreading the virus (IMF, 2020c). If the recession were mostly driven by the adoption of lockdown measures, economic activities would recover quickly when such measures are lifted. However, as voluntary social distancing and associated behavioral changes may also play important roles in the recession, economic activity could remain subdued for an extended period even after the government measures are removed.

² The Stringency Index, provided by the University of Oxford’s COVID-19 Government Response Tracker, is an index that averages several sub-indicators including school closures, workplace closures, cancellations of public events, restrictions on gatherings, public transport closures, stay at home requirements, restrictions on internal movement, international travel controls, and the existence of public information campaigns on COVID-19.

Figure 1.2 Stringency Index

1.2.2 Financial market impacts of the COVID-19 crisis

The deterioration in economic activity due to the COVID-19 pandemic immediately affected financial markets (Figure 1.3). Financial market sentiment deteriorated from mid-February with the increase in uncertainty and the expectation of a sudden economic fallout from the disruptions in economic activities. As of March 23, the US equity market index (S&P 500) was down 31 percent from the start of 2020. Option-implied stock market volatility, as measured by the VIX Index, recorded a peak of 83 on March 16, reaching the same peak level as during the 2008–09 GFC. The yields on 10-year Treasury securities decreased below 1 percent in May and remained low with negative term premiums.

Figure 1.3 Financial market developments

The flight to safe assets and to liquidity raised borrowing costs and limited credit access, amplifyi...