Markets are too complacent about coronavirus despite sell-off
Investors are deluding themselves about how severe the coronavirus outbreak will be. Despite this week’s big sell-off in equity markets, the worst is yet to come.
Until this week, the market reaction to the virus had been mild — after a dip in late January, US and global equities rallied to new highs. This complacency was based on a number of flawed assumptions.
First, that the epidemic would be limited mostly to China, rather than becoming a global pandemic. Second, that it would be contained and peak before the end of the first quarter, thus limiting the economic damage to China and the global economy. Third, that the growth path would be V-shaped, with a strong rebound in the second quarter and beyond. Fourth, that policymakers — both monetary and fiscal — would take strong early actions to support economies and markets, if things were to weaken significantly.
It is becoming clear that this is a global pandemic rather than a China-focused epidemic. And we do not know yet how many other countries in Asia and other parts of the world will experience a severe outbreak — most likely many more.
The view that the economic impact will peak before the end of the first quarter now looks very shaky. The damage to China is severe, and global supply chains are being seriously disrupted, at a time when China accounts for about 20 per cent of global gross domestic product, not the tiny 4 per cent it had at the time of Sars in 2003. Add to that an economic shock to big economies like Japan, South Korea and Italy. When the disease spreads to other developed and emerging markets, this damage will increase.