Shutting Down an Economy

The New Zealand government has put the people of the nation under a lock-down. People cannot leave home, except for exercise, going to a pharmacy or supermarket and essential work. All non-essential businesses have been shut down. We are now nearly a week into a four-week shutdown. However, there is no guarantee that the shutdown will end when the four weeks are complete.

Although unavoidable, I suspect that the harm done by the economic shutdown could be more serious than the health crisis brought about by coronavirus.

Many small businesses are already struggling due to the collapse of the markets into which they were selling. Some are only just keeping ahead of their expenses on a week by week base. The worst-hit are tourism and hospitality-related businesses. These businesses are operating in a very competitive sector with very little to come and go on.

While businesses are closed and earning no income, they will still incur costs. They will have to pay the rent on their buildings and the costs of many of the services that they buy regularly, such as electricity, communication and IT services. Hire purchase payments for vehicles will have to be made. Interest on any debt will have to be paid. Some of these expenses might be deferred, but they will have to be paid eventually out of future earnings that could be significantly reduced.

Like governments all around the world, the New Zealand government will try to keep things going with additional support payments and the central bank will make credit available to banks so that they can lend to businesses. Unfortunately, additional credit will not be enough to keep some businesses to keep going. Most will already have significant debt, so providing them with an additional loan is not really a solution. More debt will just add to the burden that will make it difficult for them to get going again. What they need is more paying customers, but that will not happen in the short-term.

The wage subsidies will help some businesses, but others will struggle to make up the difference between the subsidy and the normal wages, if they are unable to operate. Unless the virus is stamped out quickly, the shutdown might have to go on much longer than expected.

The economic decline could drag on for much longer than many people expect. Many businesses that have had to shut down will not be restarted. Some small business owners will not have the emotional energy to take on more financial commitments to get started again in an uncertain economy. They will choose to get out before their situation gets worst.

Many big businesses also have very tight cashflows. Those who do will struggle, because many of their outgoings and expenses will continue, while no money is coming in. Those operating on very tight margins may find it is too hard to keep going, especially if the shutdown goes longer than initially expected. Many will try to shorten their supply chains, but this will make their inputs more expensive, as specialisation declines, which could reduce their profitability.

Government Support

Governments and central banks think that the current economic problems can be resolved by making money available to businesses and people. Unfortunately, money is usually the symptom of a problem. not the underlying cause.
You cannot eat money.

Money is a means of exchange. It is useful, because it allows people to buy things that they need. But to get money, people have to sell things, or work in paid employment. Money only has value if there are things being produced that people want to buy.

Businesses and economists often assume that economic activity is demand-driven, so giving people extra money to spend will keep the economy going. Economies actually work the other way around. Supply creates demand. When people supply labour or produce something they can sell because they do not need it for themselves, they get income that enables them to buy things produced by others. If nothing is produced, people with money cannot buy anything, even if they have some spare money. Therefore, giving people extra money as a grant or loan does not help the economy, if nothing extra is produced.

When all businesses are expanding, it is easy for each business to expand. When many businesses are decline, most business will get caught in the downturn.

In the long term, a nation can keep only buying things, if it keeps on producing things that other people and nations want to buy.

New Zealand is a small nation that needs imports of good from overseas to support our daily lives. Although we are a food-producing nation, much of the processed food that we eat each day is imported.

This dependence on imports means that we need to be exporting goods and services overseas to pay for the imports. Fortunately, most of our export industries the export season is well through, so we will receive most of the overseas income for goods that were exported. For example, the dairy season is well through. This is important, because dairy products are a major part of our exports. Likewise, the tourism season was well through when the restrictions on travel were put in place. The concern is kiwifruit and other horticultural exports, for which the export season is only just beginning.

Governments will spend like crazy in a desperate attempt to keep their economy going, as if it had not stopped. They will keep some businesses from going under, but at a serious cost. Every dollar that the government spends on supporting business will have to be borrowed. Government debt, which is already high everywhere will blow out to unprecedented levels. Fortunately, the New Zealand government is not starting with high levels of debt, but if the crisis goes on too long, the build-up in debt could be massive.

Expanded Government debt will be a deadweight on economic recovery. This will make it much more difficult to deal with any economic crisis that occurs in the next few years.

Rather than focussing on when they will be able to restart their church services, pastors should be thinking about how they can organise their churches to support and care for people who fall through the cracks of government support. The government will not do it all.

Restarting an Economy

Shutting down the economy for a few months will have serious consequences. The production that is lost is gone forever. It will never be recovered. Of course, shutting down activities that have no benefit, such as casinos and creating financial derivatives, does not matter. But the production that has value will be lost for good.

There is no obvious way that the current economic crisis will end. If the virus is still active when the current four-week lockdown introduced by the New Zealand government is finished, it will have to be extended, or the cost of the initial shutdown will be wasted.

The problem is that political leaders are driving blind. They do not have a set of criteria for determining when the shutdown can be safely ended and when borders can be reopened. If the restrictions are ended too soon, greater reinfection and fear will ensue.

People are hoping that an effective vaccine will be developed quickly. This is not as easy as if often assume. A vaccine that works in the laboratory is not always easy to get into the field. The flu vaccine is happy being carried in egg yoke, but other vaccines might not be so easy to deliver. We should not assume that a vaccine can be developed, as there are many viruses for which no vaccine has possible. For example, there is no effective vaccine for the common cold.

Even when the virus is defeated here in New Zealand, it will still be active in other parts of the world. The spread will continue much longer in Africa and the refugee camps and war zones created by the US wars in the Middle East. This means that the government will have to be very careful about reopening the borders. There may be very strict controls over international travel for quite a long time.

Some businesses will gear up again quickly. After the shutdown finishes half the country will feel like they need a haircut, so hairdressers and others providing personal services will be busy. People will desperate to go shopping, so malls should open quickly, even if some shops are gone (if malls do not give rent holidays). The uncertainty will make many people nervous about spending, some demand for appliances might be quite slow for some time.

Manufacturing might be more difficult. Some manufacturers will find their customers are shut down and do not want to buy more stock. Others will find that suppliers cannot provide the inputs they need.

Companies providing business service might find they are discretionary until their clients get back onto a stronger footing.

The future of the construction industry will depend on how the demand for houses is affected by the shutdown. The uncertainty caused by the virus and the shutdown might make people and businesses reluctant to commit to big contracts until the economic recovery is more certain. By then some construction businesses might be gone.

The hospitality sector will struggle. People will be reluctant to travel and eat out until it is clear that all risk is gone. They will be keen to get out for a meal again, but will continue to be fearful for a while, and tourists will be gone, so the hospitality sector could struggle for a while. Some that have closed will probably find it too difficult to get started again if customers are scarce. If there are regions that are still shutdown because there are clusters in which the virus is still spreading, people will be very careful about travelling for many months and perhaps years.

Savings will likely increase. People who are getting up toward retirement age will have seen their value of their superannuation funds decline sharply. When they start saving seriously, they will have less spare money to spend on goods and services. Many other people will be saving hard to deal with the uncertainty that they are facing.

Strict limitations on international travel will have to be kept in place for quite some time. International visitors might need to be quarantined to reduce the risks. This means that it will be many years where the tourism business gets back to the level it was at before the virus. The government might decide that tourism is too risky for it to be a significant industry in our nation.

If the world shuts down for a couple months, it will not recover quickly and return to normal. Businesses will not restart in an orderly, logical way. Instead, the start-up will be discordant. Some business who restart will find that their supplies have not started. Others will find that the businesses that they supply have not restarted. Many businesses will find gaps in their supply chain because businesses have shut down and cannot afford to reopen.

The greatest problem is that the coronavirus shutdowns come at a time when the world economy was already weak. The economic vulnerabilities listed in Weak Economy will be a drag on the restoration of the economy.

New Zealand is a trading nation. Exporters could find that demand for their goods and services is weaker while the world economy is slack.

In a modern economy everything is linked. Some other linked directly, by buying an selling, but others will be affected indirectly. If one part of the economy suffers, all parts suffer to a greater or lesser degree. For example, homeowners who are using Air BNB to supplement their income will find that with tourism gone will find they have less money to spend. The businesses that supply their coffee will suffer. Although some of these effects are small, some businesses will face many of these small negative effects which together become a big effect. Many small cuts can quickly become a large wound.