The COVID-19 pandemic’s effects cascade across linked economic sectors. Chicago Booth’s Veronica Guerrieri says the same is true for states, and perhaps especially for those in the European Union, where the impacts on one country could spill over to others.
Our paper emphasized the effect that locked-down sectors may have on others, on the demand in other sectors that are unaffected in the economy. Unfortunately, when you are at the peak of the health emergency like in Italy or like now in the US, our mechanism becomes less visible because the number of non-affected sectors is very small. But this is going to be even more important when we’re going to go to phase two and we’re going to try to slowly reopen the economy, to think exactly about these intersectoral linkages among different sectors.
Our paper emphasizes the linkages across sectors, but of course you can re-think about this framework in terms of linkages across states. And if you think about the European Union, this becomes particularly important because there is a high level of trade across different countries.
What our paper would imply—of course, it’s not explicitly on this, but one could learn some lesson—and that lesson would be that there is a need to consider the flows, and then the effect of demand, of shutdown of some countries on other countries. So there is a particular need for coordination among policies in different countries. Now this, of course, is imposing an extra stress on the European system, where the fiscal union is still far from being in place.
It’s hard to predict what’s going to happen, but my impression is that either this is going to push in the direction of finally getting a fiscal union in place, or it may actually lead to a further fragmentation of the European system.
In a situation like this, where some countries completely lock down and some others don’t, there is clearly scope for transfers, for fiscal transfers across countries. This is a classic example of insurance that may actually help economies that are hit harder to recover faster, and given the linkages across countries, may help the whole European economy to recover.
Clearly, we come from another stress the European system has been put through due to the sovereign debt crisis, where some countries were hit harder than others and asking for help from the other countries. The problem is, if the countries that are hit less hard are always the same, there may be concern. The fact that some countries, the countries that started with weaker economies, are going to be suffering more may be of concern and may be problematic for the resolution of the transfer scheme that has got to be in place.
The European Central Bank has been going in the right direction, has pushed expansionary policies that are going to help those economies that are hit harder by the crisis. But, of course, this is not going to be enough, and now we are going to see what’s going to happen in terms of more transfer among countries.
The break moment for Europe could come if some of the countries that have been hit harder by the pandemic have a hard time recovering and need to borrow more from the rest of Europe. More generally, one of the long-lasting effects of this crisis is going to be high deficits and high debt, not only in the European countries but everywhere else. And so the issue is going to be how we are going to deal with this higher level of debt, and in Europe that has proven particularly hard in the past. So hopefully we are not going to run into another sovereign debt crisis like we have done in the past.