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Congress passes $8.3 billion to fight COVID-19: Temporary Respite

The US House of Representatives yesterday took the next of what looks so far like a two pronged policy approach to addressing the coronavirus problem by passing an $8.3 billion spending bill aimed at addressing the pandemic (The Senate a few hours ago also passed the same bill, which is expected to be signed into law by the president). On some level this is a fiscal policy response that supports the monetary policy action taken by the Fed a couple days ago.

Fiscal policy generally refers to explicit action taken by the government to either change its level of spending, or change taxes in the economy (or some combination of both) in a bid to influence the level of economic activity. But this is no stimulus package per se but good old provision of financial incentives to drive activity in the direction of solutions to the problem in hand.

The idea here being that the government is waving the red meat to the relevant scarce economic resources employed in a wide variety of economic activities and saying, hey, over here, there is money available, direct your efforts towards this problem, provide the research, provide the experiments, and ultimately provide the solution to the problem on hand and be rewarded for that, to put it directly.

The initial response by markets to the passing of the bill in the House was good, stocks rebounded. Investors know that incentives matter. You want a solution to a problem? Then create the setting that gets people to think about solutions in a very practical way. If they will be rewarded for the solution then they will think real hard about it, and direct their efforts, time and resources towards that and forgo income that could be earned in employing the same elsewhere.

Markets thus figured this will mean a solution may come quicker than before, or that should the virus spread, there will be much better capabilities within the economy to curtail it and minimize the damage, so some of the uncertainty about the impact of the virus on the economy and market outcomes can be eliminated. However today stocks fell again somewhat precipitously, as the Dow Jones and the S&P 500 have fallen today by approximately 3.5% and 2% respectively as at the time of my typing this out.

Why this quick reversal in the ever so fickle stock market?

Well, the stock market is indeed ever so fickle. Probably reacting to the report on the first coronavirus related death in California and reading more into the declaration of a state of emergency in California, markets buckled and the downward trend continued.

Stopping the Slide

For starters policymakers have taken the right steps - The Fed has acted, Congress has also acted (as noted, earlier today the Senate also passed the same bill the House passed). Their actions while good, also highlight the limitations of what monetary and fiscal policy can do. At best they stimulate spending, and with the latter action, they also move resources towards a proactive search for solutions.

Further steps would be to try to calm markets by addressing the probabilities being assigned to outcomes by freaked out investors. While trivializing the problem is not the way to go, juxtaposing the numbers associated with the coronavirus with historical data for other similar disease incidents might be an important way to address the markets.

It is possible that what is going on is a variation of the law of small numbers along with an availability bias. Investors are acting out of small observed samples, and because the media thrives on sensational news and continues to harp on the daily death numbers from the coronavirus, investors lock in on these and become prone to making irrational choices.

Since markets tend to take policymakers very seriously, and while in an election year it is possible that statements from lawmakers and the President may need to be looked at through political lenses, statements from assumedly politically independent policymakers such as the Fed chair, should carry weight and the onus is on them to try to communicate these irrationalities in as simple and clear a manner as possible.

Here is one such reality. In a bad flu season in the US, the fatality is about 60,000 lives. The death toll here in the US currently from COVID-19 stands at 11. Findings based on outcomes in China and around the world demonstrate that by taking the proper steps and acting quickly (things which can be done in advanced high income economies like the US perhaps even better than was done in China) the fatality should only, in a worse case scenario, look like a really bad flu season in the US.

Investors may have locked in to the fact that there is yet no cure, that a viable cure, if any, may be several months away, and that the speed at which the virus could spread and the ease of infection are both very high. This seems to dominate in the minds of investors so that the incident of a death or an increase in the number of fatality being reported in ongoing fashion seems instead to suggest that everyone is at risk, about to die, and an economic contraction is on the horizon, and this is possibly inaccurate unless it results as a self-fulfilling prophesy because investors continue to react irrationally.

Still resorting to data, while this is a crude (possibly flawed) measure to estimate a fatality rate for an ongoing pandemic, the global number of deaths to date is about 3,200 out of about 95,000 reported infections, so about 3.4%, and this might actually be lower as there is perhaps a likelihood that there are more infections than have been officially reported.

The fatality rate suggested is admittedly higher than that of the seasonal flu even for a very bad flu season but that is probably because there are a lot more people infected by the flu in any given year. The Centers for Disease Control and Prevention (CDC) estimates that since 2010, there are about 9 - 45 million illnesses relating to the flu in any given year. If we however take the total number of deaths from the flu as a fraction of total number of hospitalizations, we get 7.5% for the 2017-2018 season.

Clearly communicating the relatively low odds of fatality from the coronavirus in a comparison manner should be an active part of trying to infuse confidence in investors and in the public more generally. Similarly, communicating the fact that the fatalities show a strong correlation with age (the older are more at risk) and those with preexisting health conditions is important, so that it is clear that not everyone is at high risk and while we all take steps to mitigate its spread, economic activity can be expected to continue as usual for the most part.

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