Choking global stock markets: The Coronavirus effect

Investors had begun 2020 in an optimistic frame of mind. After all, last year was one of the best for global stocks since the financial crisis. The MSCI world index, which includes stocks of large and well-known companies from 23 developed markets, rose a staggering 24 percent. A survey from the Bank of America taken in the second week of February found that investors expected world economic expansion and corporate profits to continue strengthening this year; so much so that they were planning on raising their exposure to stocks to a 20-month high.

So the change in mood is even more astonishing. The week of February 28 was one of turmoil, which saw all major stock markets around the world plummet, leaving investors bruised and battered. The S&P 500, one of the most widely followed stock indices in the United States, slid by 11.5 percent, which included a 3.4 percent decline on February 24—the biggest one-day fall for two years. Euro Stoxx 50 plummeted by 12.4 percent, Japan's Topix index by 9.7 percent and London's FTSE 100 by 12.2 percent, if anyone is keeping count. This was the worst week for stocks worldwide since the 2008 financial crisis. With the United States in the middle of its longest economic expansion in history, why did prices plummet so drastically?

The answer is, coronavirus. A month ago, investors might have thought that the virus' main impact would be through international supply chains, stemming from closed factories in China. Maybe a reduction in trade with China at the very most. But in reality, that was just the tip of the iceberg. With the deadly virus spreading to South Korea, Italy, Iran, Japan and eventually every continent in the world except Antarctica, investor sentiment took a beating that induced mass sell-offs. On March 4, the US state of California declared a state of emergency after its first coronavirus-linked fatality.

Meanwhile, companies have shut factories, canceled conferences and reduced employee travel. Big multinational firms like Adidas, Microsoft and Apple have already warned that the virus will eat up their profits this year. To cap it off, the International Monetary Fund now predicts global growth will be slowest since the 2008-09 financial crisis. With major industries ranging from aviation, tourism and oil to commodities and consumer goods all taking a serious hit, some might even say a global recession is not unlikely. It is this collapse in confidence in global economic outlook, amid rising health risks, that led to this tumultuous week for stock markets all around the world.

Those of us observing financial markets and economic activity believe that maintaining confidence is key in preventing financial market volatility and recessions. In fact, we would argue that the only reason the World Health Organisation has not yet termed Covid-19 a pandemic is because the P-word induces panic and collapses confidence, which in turn can paralyse business expansion, trade and consumer spending: almost like a self-fulfilling prophecy.

In an attempt to raise confidence, the American central bank held an emergency meeting last week for the first time since the financial crisis, and cut interest rates by 50 basis points. And it won't be surprising if other major central banks follow suit. But, to be sure, global investors are well aware that the consequences of the coronavirus may not be so short-lived that simply pumping money into the economy will revive corporate profits. Monetary policy alone cannot fight an infectious disease. What the world needs is coordinated efforts to minimise further spread of the disease and the development of vaccines to prevent coronavirus. Then, and only then, will stock market volatility begin to abate.

So what does this all mean for Bangladesh's stock market and economic activity? We are all hoping to see foreign investment, both in stocks and capital machinery, shift into overdrive and carry our economy onto the next stage of development: eight-percent growth with greater shared prosperity. This looks unlikely if the world economy is about to slow down.

In our own neck of the woods, the story is not as grave but not looking too bright either. Investors were jittery even when there were no reported cases in Bangladesh, and now that there are confirmed cases of coronavirus within the country, the situation is likely to take a turn for the worse. Since the week beginning on February 24 (and ending on March 5), the general market index (DSEX) slid by 5.4 percent while the blue-chip index DS30 dropped by around 7 percent. A combination of fears over the spread of coronavirus worldwide, coupled with the potential impact of single-digit interest rates on the banking system, which is the largest sector in the Dhaka Stock Exchange, prompted recent selloffs.

Ironically, not having a large global investor base in the Dhaka Stock Exchange is proving to be a boon for once. Global investors everywhere are reducing their exposure to stocks, and fleeing to safer assets like bonds and gold. If there was a large foreign investor base in our market, the same would have happened here, which would have only intensified the ongoing slide.

That said, there are two other channels through which our economy could feel the corona effect. First, export demand from advanced economies could go down if global growth slows. Meanwhile, supply chain disruption due to closed factories or paralysed transportation networks could ramp up prices of the intermediate inputs that we import to produce our final products. The upshot is a bigger trade deficit and lower foreign exchange reserve accumulation. Second, we have migrant workers in countries hit hard by this deadly disease. South Korea, Japan, Italy and China are among the top 30 destinations from which we receive valuable remittance earnings. For instance, data from Bangladesh Bank shows that total inflow from these four countries was approximately USD 940 million in the fiscal year 2018-19 or 6 percent of overall remittance earnings, which is by no means a trivial share. Apart from a potential reduction in remittance growth, we also need to be mindful of how to properly hospitalise and treat such workers if they return home.

For now, stock market volatility is likely to continue while investors wait for all this uncertainty to be resolved. We can only hope that the damage to global health, financial markets and the world economy is not long-lasting.  

Sharjil Haque is an Economist, currently PhD candidate in Economics at the University of North Carolina at Chapel Hill, USA. He is a former Research Analyst, International Monetary Fund, Washington D.C.