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Covid's accelerating change for the world economy

COVID-19 has had a significant impact on the world economy, accelerating changes that were already underway while also triggering new ones. Here are some of the key ways that the pandemic has accelerated change:

Digital transformation:

The pandemic has forced many businesses to embrace digital technologies in order to continue operating during lockdowns and social distancing measures. This has accelerated the shift towards e-commerce, remote work, and online communication.

Supply chain disruption:

The pandemic has exposed the fragility of global supply chains, with many companies experiencing delays and shortages due to border closures and lockdowns. This has led to a rethinking of supply chain strategies, with some companies considering bringing production closer to home.

Remote work:

The pandemic has forced many companies to adopt remote work as a way of maintaining productivity while keeping employees safe. This has accelerated the trend towards flexible work arrangements, with many workers now expecting to have the option to work from home even after the pandemic.

Resource: “The U.S. Economy and the Global Pandemic.”

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So what will the future of the economy look like?

“While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses,” Jerome Powell said. “These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.” The speech outlined the Fed's strategy in the U.S. for 2023, which will focus on raising interest rates to reduce inflationary pressures.

This means raising the benchmark interest rate on the currency, rather than providing “relief in the form of less aggressive rate hikes” (Lee and Buchwald). The U.S. continues to raise the benchmark interest rate to control inflation, even as the core CPI (consumer price index: a measure of inflation) “soared to over 8%,” leading to rising consumer prices. This increase has also put pressure on living standards and reduced consumption, as higher prices lead to less spending ("Consumer prices").

This situation will also squeeze industrial output, causing a decline in industrial production. Thus, suppressing inflation is a priority for countries worldwide, with the ultimate goal of lowering prices for industrial and consumer goods and addressing the supply chain issues that have contributed to rising prices for many products ("Tracking the COVID-19 Economy's"). Raising interest rates can help solve the tangible issues related to commodities, but it also has a negative impact on the financial dimension. While raising interest rates lowers the prices of everyday commodities, it increases financial prices. Only after prices fall can consumption and production become more active, but this is expected to be a long process. According to the G20 Economic Summit, the recovery cycle is estimated to take three to five years.

To suppress commodity prices, the U.S. could opt to raise financial prices, which can negatively impact the already fragile debt chain, making it even more vulnerable. This has led many countries to lose faith in the dollar's ability to maintain its current value and choose to sell U.S. Treasuries or reduce the percentage of trade using the dollar. For instance, China and Japan, the two largest debtors of the United States, "have sold more than 300 billion dollars of U.S. Treasuries" (Daye). However, due to the U.S.'s prominent position in the global economy, most countries hold significant amounts of dollars and U.S. debt as foreign exchange reserves. As a result, even though U.S. Treasuries have been affected by interest rate hikes, they remain at a manageable level.

The past two years mark the beginning of the global recession. First, the Covid-19 pandemic wreaked havoc on the global economy, followed by the U.S. relaxing its monetary policy before tightening it again. This created global economic ripples, and as the inflation problem begins to be addressed, the recession will truly begin. Today, gradually raising interest rates are penalty significant capital pressure on domestic companies, banks, and trade. Maintaining such high capital costs in the U.S. will result in extremely high maintenance costs ("How Pandemic Affects Inflation"). If companies and governments cannot pay their debts, they will be reluctant to borrow money for production and consumption, leading to the collapse of weak links in the chain.

The bankruptcy of SVB during this period exemplifies the collapse of the U.S. financial chain, indicating that the U.S. financial system is already struggling under the constant interest rate increases by the Federal Reserve. Although the government took strong measures, guaranteeing all depositors that they could withdraw their deposits (only $250,000 would be returned if the bank went bankrupt without insurance), this undermined the bank's credibility and raised public concerns about its safety. For now, the bankruptcy of Silicon Valley Bank will not affect the Fed's Federal Open Market Committee (FOMC) decision in March in the short term, but if it turns into a systemic financial risk, “possibly prompting it to slow down the pace of interest rate hikes” (Randall and Barbuscia). For now, it remains to be seen whether the Fed will enter the interest rate cut channel early to observe the subsequent economic situation and social reaction.

The recent bankruptcy of Silicon Valley Bank in the U.S. is a great example of the increased stress in the financial markets. On March 10, EST, Silicon Valley Bank (SVB Financial Group), the 16th largest bank in the U.S., announced its bankruptcy, making it the second-largest bank failure in U.S. history since the collapse of Washington Mutual Bank in 2008.