Thread by @ThomasPHI2

(1/N): Economic Responses to the #coronavirus

First, some nowcasting: where are we? This will be the steepest recession in recorded history: a double digit (10%, 20%?) decline in output in a quarter or two. It may or may not last beyond 6 months.

(2/N): Comparisons with "war economy" are a bit overblown. The equivalent of the army/defense sector is the health care system and it needs access to unlimited public funding. But that does entail the same reallocation of capital and labor as a war.

(3/N): Better comparison is natural disaster, but on scale we have not seen before. So the impact on public debt will be very large. Public debt can easily increase by 50% of GDP. Given low rate this need not create sustainability issues in large currency areas.

(4/N): For the eurozone, it requires full ECB backstop. I don't care how we do it, I don't want to have to discuss "Italian spreads". They must be gone. Plain and simple.

For emerging markets there is a critical role for the IMF and World Bank.

(5/N): what are the policy responses? Let's start with the obvious responses implemented in all countries:
a. extend unemployment benefits, avoid layoffs with short time working paid in part with public money
b. liquidity injections to avoid distress and bankruptcies

(6/N): But all safety nets have holes and all countries need to ensure unemployed people, independent workers, etc. do not fall though the cracks. The details of these measures vary by countries but the principle is commonly shared.

(7/N): Let's move to the more complex issues where there is less consensus.

First: how can we reach all firms? There are two options here: via the banks, or via the tax authority.

My view is we need to do both.

(8/N): tax authorities need to provide liquidity reliefs to small and medium sized firms to the extent that they can.

But in many counties they do not have the operational capacities to reach all firms.

Hence a critical role for banks and financial intermediaries

(9/N): we need a public program to incentivize banks and non-banks to extend working capital loans. The federal government needs to alleviate the risks by providing credit insurance.
Incentives is they key word here. Private incentives are misaligned in times of crisis.

(10/N): It will be simpler/rational for many firms to simply shut down, lay off, and hibernate. This, however, has negative externalities for the economy as a whole. Hence the need for public subsidies for firms to remain partially open.

(11/N): Last but not least, among the controversial topics: bailouts.

There will be massive insolvency issues. We have learned a lot about the design of bailouts to avoid political bias and inefficiencies.

(12/N): in exchange for capital injections, governments need to receive a mixture of preferred stock and options (warrants). This is the optimal way to avoid shareholder panics, incentivize firms to apply when needed, and preserve taxpayer money.

(13/13): Conclusion: this is not the worst health crisis in history. We can manage this. But we must be ready to take unprecedented policy actions to soften the economic crisis.