Market Players Wonder: Is China’s Coronavirus the Next Black Swan?

Traders remain jittery as experts hint at a global epidemic that could last into the summer.

A police officer wearing a protective mask in Beijing
A police officer wearing a protective mask stands guard in front of the portrait of Mao Zedong in Beijing, amid an outbreak of deadly coronavirus that has sickened more than 4,000 people and killed over 100, on Jan. 28. Noel Celis/AFP/Getty Images

Global stock markets that swooned on Monday over worries about the spread of China’s deadly coronavirus nearly all rebounded on Tuesday, underscoring how investors are still trying to figure out just how much impact the outbreak will actually have on the global economy.

Before the outbreak of the virus, investors were feeling pretty bullish. With a mini U.S.-China trade deal in hand, a new North American Free Trade Agreement through Congress, and the worst of trade tensions seemingly in the rearview mirror, markets were happy to shrug off concerns about a worldwide manufacturing and investment downturn, record-high corporate debt, and growing doubts about the future of trade deals between the European Union and the United States, on one hand, and the United Kingdom, on the other.

But do this week’s market jitters hint that the still-spreading outbreak in China could be the black swan that brings the hoped-for global economic recovery to a screeching halt? Prior outbreaks of disease, whether SARS in 2003, Middle East respiratory syndrome in 2012 and 2015, or Ebola, all gut-punched equity markets for a short time, before fading away as a cause of economic uncertainty. But there are a few reasons why this year’s outbreak in China could be different.

First, it’s not clear how much worse the outbreak will yet become and how long it will last; many experts are now talking about an epidemic lasting into summer. A very short-term disruption during the Lunar New Year holiday is one thing; half a year of interrupted trade and canceled travel in at least swathes of the world’s second-biggest economy is potentially much more damaging.

The Chinese domestic economy has already suffered serious harm; Lunar New Year is the equivalent of the United States’ Thanksgiving or Christmas in China, but restaurants, entertainment facilities, and movie theaters have been closed or are doing minimal business thanks to the virus. New movie releases—usually a billion-dollar trade at the New Year—have been canceled or indefinitely postponed. The Lunar New Year holiday, set originally to end on Jan. 30, has been extended nationwide until Feb. 2, but many institutions and cities have already announced it will last until Feb. 9. With the speed with which the virus is spreading still uncertain, even that may be an optimistic date.

Even with many people avoiding Lunar New Year travel out of fear of the virus, tens of millions of people are out of place, facing what may be an impossible journey home if even more travel restrictions are imposed. Some factories that produce critically needed supplies such as masks have already reopened, but they are facing severe staff shortages and are now offering three or four times the usual wages. The government, meanwhile, has announced that firms must keep paying employees through any extended holiday period, even if they can’t work.

And China itself is a much more crucial player in the global economy than it was at the time of SARS, or severe acute respiratory syndrome, in 2003. It occupies a central place in many supply chains used by other manufacturing countries—including pharmaceuticals, with China home to 13 percent of facilities that make ingredients for U.S. drugs—and is a voracious buyer of raw materials and other commodities, including oil, natural gas, and soybeans. That means that any economic hiccups for China this year—coming on the heels of its worst economic performance in 30 years—will have a bigger impact on the rest of the world than during past crises.

That is particularly true given the epicenter of the outbreak: Wuhan, which is now under effective quarantine, is a riverine and rail transportation hub that is a key node in shipping bulky commodities between China’s coast and its interior.

While slower Chinese growth this year is already baked into global growth outlooks, “even a modestly-sized epidemic has the potential to exert enough additional downside pressure to show up in the numbers,” said James Lockhart Smith, the head of financial sector risk at Verisk Maplecroft, a U.K.-based risk consultancy. He said the current outbreak could lead to a bit less economic impact than SARS had on China, which shaved 1 percentage point off GDP growth.

Among the first countries to feel the pain are China’s neighbors, most of whom have limited travel and tourism; Thailand, for example, stands to lose more than $1 billion from interrupted travel, but Hong Kong, South Korea, Japan, and others have also pulled up the drawbridge. (Tokyo’s stock market was the only major one in red numbers Tuesday.) Lockhart Smith noted the double-barreled impact for other Asian economies: Chinese outbound tourism could well suffer, while Chinese demand for imports could fall off, affecting countries like Australia.

Also in the crosshairs thanks to the virus outbreak is China’s compliance with the just-released terms of the U.S.-China phase one trade deal. According to that agreement, China agreed to massively ramp up purchases this year and next of U.S. agricultural and manufactured goods, as well as more crude oil and natural gas, plus more services—an extra $200 billion worth of purchases over the next two years.

To the extent that the virus outbreak affects China’s economic growth and domestic appetite this year, it could call into question those already ambitious targets. Any economic slowdown, for instance, would likely dent China’s world-beating thirst for oil, which might make it harder to meet targets for purchases of U.S. crude. Likewise, as with the swine fever outbreak that decimated China’s pig herd, and thus the export market for U.S. soybeans used as pig feed, the latest virus could put a damper on Chinese demand for U.S. agricultural and manufactured products. (The phase one deal includes a clause calling for bilateral consultations in the event of “a natural disaster or other unforeseeable event” that could imperil the purchase targets.)

On the other hand, past scandals, such as the melamine milk disaster of 2008, permanently increased Chinese demand for manufactured food products from abroad. If the origins of the coronavirus are blamed on a lack of domestic safety standards, the Chinese middle class’s appetite for foreign products could rise again.

Though stock markets seemed to recover their stride on Tuesday, the risks of a serious market correction remain—with potentially bigger implications than dented investment portfolios. That’s because global stock markets, especially in the United States, are at historically high valuations, suggesting they are ripe for a downward move.

And there are plenty of other things for markets to worry about besides the coronavirus: geopolitical threats in the Middle East stemming from the U.S. showdown with Iran and the demise of the 2015 nuclear deal; lingering trade tensions, such as U.S. President Donald Trump’s renewed push this week for yet more tariffs to undo the harms his first tranche of tariffs did to domestic firms; threats of a brewing trade war between the United States and Europe; and the specter of a sharp deterioration in U.S.-British relations in the wake of London’s decision to buck Washington and allow China’s Huawei to install part of its 5G telephone network.

“Fears over the virus are pushing at an open door” when it comes to jittery markets, Lockhart Smith said.

A big market correction would severely impact global growth this year, the International Monetary Fund and ratings agencies have warned. The hit to U.S. consumers alone would likely dampen spending and could halve GDP growth, bringing U.S. growth to levels last seen during the financial crisis a decade ago. And companies already burdened with a record level of high-yield debt would be even more exposed after a market downturn, creating the possibility of a wave of defaults that could further undermine confidence.

Keith Johnson is a senior staff writer at Foreign Policy. Twitter: @KFJ_FP

James Palmer is a deputy editor at Foreign Policy. Twitter: @BeijingPalmer

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