EC Coronavirus: Gauging The Market Fall-Out

Risk aversion has hit asset markets as the world reacts to news of the Coronavirus. Uncertainty stands to demand a further risk premium of assets exposed to Chinese demand. That probably means interest rates stay lower for longer. China-intensive commodities stay under pressure and the re-rating story for commodity-linked currencies is postponed.

Wuhan Coronavirus (2019-nCoV) Global Cases (by Johns Hopkins CSSE) As of 28 January, 2020, 11pm

Parallels to SARS?

Ever since 7 January, when Chinese authorities confirmed that they had identified a new virus, global financial markets have increasingly taken notice of the Coronavirus. This follows the US-Iran conflict and further threatens to undermine what was expected to be a gradual rebound of the global economy in 2020. Of course, we do not know for sure, but any potential spreading of the virus across the globe – currently the virus has already been reported in 18 countries from Asia to North America – could last until March/April and mark a new downside risk to the global economy in the first half of 2020.

The fact that the World Health Organization has said that the Coronavirus comes from the same family of viruses as SARS and MERS have prompted comparisons with the SARS outbreak in 2003. At the time, the news of the SARS outbreak only hit financial headlines in March 2003 and then dominated the headlines for an eight-week period. We can only hope that containment measures prevent an acceleration in the number of cases identified and that the mortality rate does not rise above current reported levels of 4%.  

In economic terms, however, the global economy has become more integrated and intertwined since 2003. Global air traffic, for example, is currently more than twice as big as in 2003. Also, contrary to 2003, when Chinese tourism was mainly inbound-oriented, Chinese tourists have become a significant driver of global tourism. Consequently, the speed of the virus spreading could be faster than in 2003, while at the same time the negative impact on global growth could also be higher than in 2003.   

Fig. 1 - Coronavirus hits the headlines

What weaker Chinese growth means for trading partners

As Iris Pang notes, the largest impact on Chinese consumption will come through retail sales, travel, tourism and clearly the ability of Chinese residents to return to work. SARS is believed to have knocked 1.0%+ off Chinese GDP back in 2003, but the huge uncertainty around the spread of the coronavirus makes the macro impact very difficult to forecast. A study by Jong-Wha Lee and Warwick J. McKibbin from the Korea University and the Australian National University found that the full impact of SARS on the global economy came close to USD 40 bn in 2003, taking second-round effects between sectors into account.

SARS is believed to have knocked 1.0%+ off Chinese GDP back in 2003, but the huge uncertainty around the spread of the coronavirus makes the macro impact very difficult to forecast

Accurate forecasting of that impact will take time, but clearly slowing Chinese domestic demand will impact the global economy – just as it is trying to recover from the effects of the 2018/19 trade war. Just think of the fact that for some global hotel chains or companies of luxury goods China and Greater Asia accounts already for 10 to 20 percent of their annual sales.

The precise extent to which a weaker Chinese economy impacts its global trading partners will also be uncertain, but a 2016 IMF study may offer some insights here. Even though the study focused on the spill-over effects of China’s maturing economy, one of the simulations included a Chinese cyclical slowdown prompted by financial stress – that stress triggered by ‘a credit event, a re-assessment of growth prospects, or another shock.’

The impact of a 1% cyclical slowdown in China is largely felt in the APAC region where trade linkages are the highest and also in the commodity-producing countries. Notably, the fall-out on the US economy was seen as limited, possibly resurrecting the narrative of wider US-Rest of World growth differentials – a dollar bullish story.

Fig. 2 - Who would suffer the most from a Chinese slowdown

Source: IMF, ING

Commodities: China is the kingpin

China is the kingpin of the global commodities market. The longer factories remain closed, travel restricted and construction stalled, the larger the ramification for commodities demand. This asset class has seen a massive sell-off since the outbreak of coronavirus in China. At the time of writing, copper prices have fallen by 8.5% from their mid-January peak. Singapore iron ore has collapsed more than 6% and ICE Brent plunged by nearly 10%.

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The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument.  more

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