Knock-On Effects of China’s Coronavirus May Be Worse Than Thought

As Chinese markets opened Monday, the effects of the mushrooming coronavirus outbreak hit with dramatic force. Within minutes, trading was suspended on multiple stocks as they hit the daily 10 percent limit that Chinese law allows—almost all downhill.

China’s heavily controlled stock market is a relatively unimportant cog in its economy, but the next few months are likely to prove painful to an economy still reeling from its slowest growth in three decades and a prolonged trade war with the United States as the effects of a virus that has now reached nearly 20,000 confirmed infections continue to make themselves known.

The knock-on effects of the virus and China’s dramatic response are daily making themselves felt, from disrupted air travel to rattled supply chains and plummeting commodity prices that are dampening growth prospects from Southeast Asia to South America and beyond.

Monday was nominally the country’s first day back at work after the Lunar New Year holiday, normally a week long but which was already extended for three days to avoid the travel rush that usually accompanies the start and end of the festival. Almost all of the country save Xinjiang, however, is still on an uneasy vacation until at least Feb. 9, and schools and universities are likely to stay suspended even longer. Many prominent chains, from Apple to the hotpot giant Haidilao, have closed their doors until further notice. Even in municipalities that are nominally back at work, such as Beijing, the streets and subways remain eerily empty.

Economists and analysts still caution that the full economic fallout depends on how well China can ultimately contain the outbreak and on whether the return to work—especially for migrant laborers, who make up a substantial part of China’s manufacturing workforce—can be managed smoothly. But most expect Chinese growth in the first quarter of the year to slide sharply, before rebounding later in the year to finish not much worse than the 6 percent increase in GDP China posted last year.

Within China, the outbreak and the government’s response—essentially firewalling off nearly 100 million people in central Hubei province, where the virus broke out—already have impacted a host of sectors, from hospitality and retail to airlines, insurance, and manufacturing. Numerous cities and towns have implemented their own quarantine measures. Among the most restrictive are those in Wenzhou, the city worst hit by the virus outside Hubei and a major cog in China’s maritime trade.

Migrant laborers have also been particularly badly hit, both due to widespread prejudice against them as perceived carriers of the virus and because the new year is usually when they seek new employment. For those who are able to look for work, however, wages are high.

“I’m paying out 150 percent of the usual salaries right now,” Li, a factory owner in the industrial city of Tangshan, far from the virus’s epicenter, explained over the phone. “Almost nobody is available.”

When trying to assess just how painful the outbreak will be for the world’s second-largest economy, most analysts reach back to the 2003 SARS outbreak, which knocked off an estimated 1 percent or more from China’s growth rate. But the consensus now is that the coronavirus will have an even bigger impact than SARS—for several reasons.

First, the Chinese economy is a lot, lot bigger than it was then. At the same time, the Chinese economy—which has since the financial crisis sought to shift away from energy-intensive manufacturing and exports and embrace more services and internal demand—is more vulnerable to disruption than before. It’s also less able to turn to a quick-fired manufacturing-led rebound to erase the effects of disease disruption, as it did in 2003 after SARS, or severe acute respiratory syndrome. Finally, China ended last year wheezing, with official growth rates at their lowest level since 1990—about a 6 percent increase in GDP—and with confidence rattled by a yearlong trade war with the United States that left lots of hefty tariffs on Chinese exports. China’s Purchasing Managers’ Index, a measure of factory activity, was already showing signs of manufacturing contraction before the full effects of the virus had been accounted for.

“In other words, the coronavirus is hitting a weaker economy than was the case with SARS,” noted Alicia García-Herrero, the chief economist for the Asia-Pacific at the French bank Natixis. “[W]e should be expecting a rapid deceleration in growth in the first quarter of 2020, and gradual stabilization for the rest of the year.”

The prolonged shutdown over the Lunar New Year holiday has already played havoc with internal travel, workplace staffing, and even operations for many small businesses, which can expect to feel the brunt of the pain. The uncertainty over the duration of the outbreak and the quarantine measures, in addition to the lack of many workers, makes billing and paying off loans problematic for firms that live out of cash flow. The government has issued regulations saying that workers must be paid throughout the extended holidays or if they are unable to return to work because of quarantine restrictions.

“Business interruption and closures are likely to be especially devastating for many small and medium-sized enterprises” with impacts that could last into the third quarter of the year, said Kaho Yu, a China expert at Verisk Maplecroft. “The entire production cycle across most industries in China will be delayed due to the virus breakout.”

Factory closures are playing havoc with international firms, even giants like Apple, which has temporarily shut offices and production; many other U.S. businesses reliant on Chinese suppliers are facing production and sourcing headaches of their own now, which may only accelerate the so-called decoupling between the U.S. and Chinese economies.

Numerous airlines have canceled flights to China, with some not planning a resumption until April. Asian tourism is also likely to be severely hit, especially as neighboring countries implement harsh travel bans on Chinese visitors. Thailand, in particular, is torn between public demand to close its borders to Chinese visitors and the needs of an tourist industry increasingly dependent on the Chinese middle class; the losses have been estimated at $1.5 billion.

And the virus’s ripple effects are being felt keenly in certain commodities markets, like crude oil and copper, both of which China normally gobbles up in huge quantities. Prices for oil in New York and London are both down about 15 percent since the outbreak first began a month ago, which is bad news for oil-dependent economies in Russia, the Middle East, and even the U.S. shale patch. Wood Mackenzie, the energy consultancy, expects that the virus and travel disruptions will hammer Chinese demand for oil early in the year, potentially forcing OPEC to yet again cut output to put a floor under the oil price. Saudi Arabia, the biggest producer inside OPEC, is reportedly mulling a big cut in the cartel’s output to keep the price of oil from collapsing.

Other critical materials, such as copper, are also in the doldrums, which will weigh on emerging markets like Chile, Peru, Brazil, and Indonesia, in a year in which developing economies were expected to rebound and drive global growth toward recovery.

And the knock-on effects might not be limited to emerging markets. Australia and Canada could feel the pinch from weaker demand for copper, at least. U.S. farmers and manufacturers who had hopes that the “phase one” trade deal just reached with China might juice exports to the country are still waiting for orders to materialize, and they may be kept waiting if China’s growth and demand for imports slows during the first half of the year.

That’s not the only way the virus, and its economic impacts, could disappoint Washington, despite Commerce Secretary Wilbur Ross’s cheering that the disease could mean more American jobs. This year China has pledged to a doubling of its GDP since 2000, which requires sustained growth. The outbreak and its impacts make that more challenging—and will almost certainly prompt a vigorous response from Chinese leaders when they meet in March.

Most economists expect even more stimulus, looser monetary policies to stimulate demand, more subsidies to bolster struggling firms, and a weaker renminbi to goose exports. A weaker Chinese currency in particular would be anathema to the Trump administration, which touted reheated Chinese promises not to manipulate the currency in its phase one deal. China, however, is showing no signs of playing nice with the United States; official propaganda has already switched to blaming America for the global reaction to the virus.

“The bigger the shock now, the larger the policy expansion will be needed to achieve the growth target,” said García-Herrero of Natixis.