>Economic effects of Swine Flu (WACHOVIA)

Economic Effects of Swine Flu: Mexico and Beyond

The swine flu epidemic has become front page news this week. Mexico is the epicenter of the outbreak and thousands of cases have been reported in that country. However, scores of cases have been confirmed in the United States, and countries as far afield as Israel and New Zealand have hospitalized people with symptoms that resemble swine flu. Not only have the Mexican stock market and currency been hammered over the past few days, but financial markets in most other countries have been adversely affected as well.

The financial and economic costs of the epidemic will ultimately depend on its severity. The outbreak of Severe Acute Respiratory Syndrome (SARS) that swept through Asia in the spring of 2003 is instructive. The SARS epidemic was deadly—nearly 800 people in 7 countries died—but it was not catastrophic. The economic effects of that epidemic were significant but temporary. However, if the current outbreak were to morph into something like the influenza pandemic of 1918, which killed 50 million people worldwide, the economic and financial fallout would obviously be much more devastating.

In this brief note, we attempt to outline how the economies of Mexico and other countries could be affected by the current outbreak of swine flu. In that regard, we draw on the experience of the 2003 SARS epidemic to inform our economic prognosis and we reference some analytical work that has modeled the economic effects of severe pandemics. We acknowledge, however, that it is ultimately impossible to forecast precisely the economic and financial effects of the current outbreak due to the unpredictable nature of the epidemic.

Significant, But Temporary, Economic Effects Likely in Mexico
Because Mexico is the epicenter of the swine flu outbreak let’s begin our discussion with the Mexican economy, which could be adversely affected in a number of ways. First, Mexico’s trade with the rest of the world could be disrupted. Indeed, many nations have already announced import restrictions on Mexican pork products. We do not have data on Mexican pork exports, but they surely represent a small proportion of the $7.9 billion worth of agricultural goods that Mexico exported last year. Moreover, the direct effects of an import embargo by foreign countries on Mexican pork products would be rather miniscule in terms of the $1 trillion Mexican economy.

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>Intersection of Economy & Credit (WACHOVIA)

I. “What is the current state of the global economy?” Global economic growth averaged nearly five percent per annum from 2004 to 2007, the strongest four-year period of growth in decades (Figure

1). However, real GDP growth rates slowed in most countries in the first half of 2008, and it appears that many major economies have now slipped into recession due in part to the effects of the global credit crunch. Industrial production in the OECD has dropped off sharply (Figure 2). Economic growth in the developing world has also slowed this year.

Recession continues to be the theme for the U.S. economy as well. Coincident indicators such as employment and industrial production have fallen steeply since last autumn, and the unemployment rate has moved up over eight percent. The deteriorating job market, considerable losses of equity and housing wealth, and tight lending conditions have weighed down consumer sentiment and spending. In addition, businesses have cut back capital outlays in response to the softening outlook for sales as well as the difficulty of obtaining credit.

Moreover, foreign demand for U.S. goods and services has slumped over the last six months as our major trading partners have fallen into recession, and our estimates of global growth have turned negative for the first time since records began (Figure 1 – forecast in green).1 In all, U.S. real gross domestic product declined slightly in the third quarter of 2008, and that decline steepened considerably in the fourth quarter. The sharp contraction in economic activity appears to have continued into the first part of this year. As for inflation, the substantial declines in the prices of energy and other commodities last year and the growing margin of economic slack have contributed to a substantial lessening of inflation pressures around the world. Indeed, overall consumer price inflation compared to a year ago is flat. Core inflation, which excludes the direct effects of food and energy prices, also has declined significantly. In our view, the economic slowdown was driven by the collapse of the global credit boom and the ensuing financial crisis, which has affected asset values, credit conditions and consumer & business confidence around the world. The immediate trigger of the crisis was the end of housing boom in the United States and other countries and the associated problems in mortgage markets, notably the collapse of the U.S. subprime mortgage market. Conditions in housing and mortgage markets have proved to be a serious drag on the broader economy both directly, through their impact on residential construction and related industries and on household wealth, and indirectly, through the effects of rising mortgage delinquencies on the health of financial institutions.

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