From Containment to Recovery: Economic Update for East Asia and the Pacific, October 2020

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Summary of Key Recommendations

Policy choices to contain the disease and provide relief today would ideally be informed by how they will affect recovery and growth tomorrow. The crisis has shown that taking a dynamic view could help East Asia and Pacific (EAP) governments make choices today that soften trade-offs tomorrow in seven key areas:   

• Building capacity for smart containment
• Initiating fiscal reforms.
• Maintaining hard-won reputations for financial prudence 
• Widening social protection
• Devising strategies for smart schooling
• Supporting firms
• Deepening trade reform

Summary of Key Findings

The EAP region, where COVID-19 originated, has to date suffered less from the disease than other parts of the world. Those countries that have contained the spread of the disease to date used a combination of stringent mobility restrictions, extensive testing-based strategies, and information programs to encourage precautionary behavior.

However, the pandemic and efforts to contain its spread led to a significant curtailment of economic activity.

The region as a whole is expected to grow by only 0.9 percent in 2020, the lowest rate since 1967. Prospects for the region are brighter in 2021.

The employment and earning impacts of the pandemic have been large and widespread.

Left unremedied, these consequences of the pandemic could reduce regional growth over the next decade by 1 percentage point per year.

Key Recommendations

Policy choices to contain the disease and provide relief today would ideally be informed by how they will affect recovery and growth tomorrow. Governments face difficult trade-offs. Significant expenditure on relief or a consumption-supporting stimulus may leave an indebted government less-equipped to invest in infrastructure and hence growth. And how governments distribute the burden of the public debt across individuals and over time – through indirect taxes, income and profit taxes, inflation or financial repression – will matter for both growth and distribution.

The crisis has shown that taking a dynamic view could help EAP governments make choices today that soften trade-offs tomorrow in seven key areas:   

• Building capacity for smart containment – including to test, trace and isolate – would help contain disease surges with more targeted and less economically disruptive measures. At the same time, cooperating internationally to incentivize the development of a vaccine and preparing to distribute it efficiently and fairly would contribute to social stability and facilitate economic recovery. 
• Initiating fiscal reforms could allow greater spending on relief without sacrificing public investment. Large fiscal deficits in EAP are projected to increase government debt on average by 7 percentage points of GDP in 2020.  High and growing private debt constitutes an additional indirect risk for government finances.  Widening the tax base with more progressive taxation of income and profits and less wasteful spending on regressive energy subsidies, in some cases over 2 percent of GDP, could make recovery more inclusive and sustainable.
• EAP governments will need to maintain hard-won reputations for financial prudence in the face of increasing financing needs. Even though EAP governments are largely financing deficits through domestic borrowing, some are also inducing central banks to buy sovereign bonds.  Over-reliance on the banking system as a conduit for extending support could also pose risks. While these policies may be necessary today, credible commitments to transparency and to early restoration of financial discipline, could help mitigate the risk of instability.
• Social protection has a triple role: in mitigating the immediate impact of the crisis; in helping workers reintegrate as countries recover; and in preventing long-term harm to human capital. Widening social protection to cover all existing and new poor combined with investment in the infrastructure of delivery would ensure that help reaches people when they need it. 
• Devising strategies for smart schooling to protect students, staff, teachers and their families - sanitary protocols, social distance practices, student re-enrollment - could prevent long-term losses of human capital, especially among the poor. 
• Support for firms is needed to prevent bankruptcies and unemployment. Support must be based as far as possible on objective criteria related not just to past performance or current pain but the potential to thrive in the future. To avoid assistance being prolonged unduly, governments can commit to phasing it out by linking it to observable macroeconomic indicators of recovery.
• EAP countries need to deepen trade reform, especially of still-protected services sectors – such as finance, transport, and communications – to enhance firm productivity, avert pressures to protect other sectors, and equip people to take advantage of the digital opportunities whose emergence the pandemic is accelerating. 

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Key Findings

The COVID-19 pandemic has delivered a triple shock to the developing East Asia and Pacific region (EAP): the pandemic itself, the economic impact of containment measures, and reverberations from the global recession.

The EAP region, where COVID-19 originated, has to date suffered less from the disease than other parts of the world. Those countries that have contained the spread of the disease to date used a combination of stringent mobility restrictions, extensive testing-based strategies, and information programs to encourage precautionary behavior.

However, the pandemic and efforts to contain its spread led to a significant curtailment of economic activity. Country outcomes were generally related to how efficiently the disease was contained and how exposed countries were to external shocks. Output in China contracted by 1.8 percent in the first half of this year and by 4.0 percent on average in the rest of the region.

Containment of the disease in some countries is leading to a revival of domestic economic activity. But the region’s economy is heavily dependent on rest of the world. Trade is beginning to revive as global economic activity gradually resumes, but tourism will remain subdued. Though short-term capital has returned to the region, global uncertainty still inhibits domestic and foreign investment. The capacity of financially strained governments to stimulate the economies is also limited.

The region as a whole is expected to grow by only 0.9 percent in 2020, the lowest rate since 1967. While China is forecast to grow by 2.0 percent in 2020 – boosted by government spending, strong exports, and a low rate of new COVID-19 infections since March, but checked by slow domestic consumption – the rest of the EAP region is projected to contract by 3.5 percent.

Prospects for the region are brighter in 2021, with growth expected to be 7.9 percent in China and 5.1 percent in the rest of the region, based on the assumption of continued recovery and normalization of activity in major  economies, linked to the possible arrival of a vaccine. However, output is projected to remain well below pre-pandemic projections for the next two years. The outlook is particularly dire for some highly-exposed Pacific Island Countries where output is projected to remain about 10 percent below pre-crisis levels through 2021.

The COVID-19 shock is not only keeping people in poverty, but also creating a class of ‘new poor’.  The number of people living in poverty in the region is expected to increase by as many as 38 million in 2020 – including 33 million who would have otherwise escaped poverty, and another 5 million pushed back into poverty – using a poverty line of $5.50/day (2011 PPP).

The employment and earning impacts of the pandemic have been large and widespread. Firm sales in some EAP countries were 38 to 58 percent lower in April or May 2020, compared to the same month in the previous year. Larger firms seem to be recovering faster than small and medium-sized enterprises – with SMEs both more vulnerable to the crisis and less able to adapt by going digital. Both wage employees and those working in family businesses have experienced significant income declines.

EAP governments have on average committed nearly 5 percent of their GDP to improve health systems, help households to smooth consumption and help firms to avoid bankruptcy. However, several countries found it hard to scale up their narrow social protection programs, on which they previously spent less than 1 percent of GDP. Even with this increased spending, the report found that in some countries, assistance has so far reached less than one-quarter of households whose incomes fell and only 10-20 percent of firms reported receiving assistance since the pandemic began.

School closures due to COVID-19 could result in a loss of 0.7 learning-adjusted years of schooling in EAP countries, according to analysis in the report. As a result, the average student in the region could face a reduction of 4 percent in expected earnings every year of their working lives.

COVID-19 will have a lasting impact on inclusive longer-term growth by hurting investment, human capital, and productivity. Public and private indebtedness, along with worsening bank balance sheets and increased uncertainty, are likely to inhibit investment and pose a risk to economic stability. Sickness, unemployment and school closures could lead to the erosion of human capital and earning losses that last a lifetime. Firm closures and disruption in firm-worker relationships could hurt productivity by leading to a loss of valuable intangible assets. The disruption of trade and global value chains could hurt productivity by leading to a less efficient allocation of resources across sectors and firms and dampening the diffusion of technology.

Left unremedied, these consequences of the pandemic could reduce regional growth over the next decade by 1 percentage point per year. The poor will be disproportionately disempowered because of worse access to healthcare, education, jobs, and finance.

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