Coronavirus Will Have a Lasting Impact on China

Jack Ablin Market Commentary

The coronavirus outbreak is entering its fourth week and the infection rate and death toll continue to climb. As of February 26, there have been more than 81,000 cases resulting in more than 2,700 deaths worldwide, according to the Worldometer website. Out of 33,128 “closed cases” (those in which there was an outcome) there were 30,358 recoveries and 2,770 deaths, equating to a 92 per cent survival rate. The virus has gotten much broader attention recently due to its global spread: to date it now affects 36 countries and territories. The spread has raised new worries that what was once considered a Chinese epidemic could mushroom into a worldwide pandemic with independent outbreaks around the globe. The US Centers for Disease Control is warning Americans to prepare for a coronavirus outbreak at home.

Economists are quickly adjusting their forecasts for the impact of the outbreak. What was originally considered an isolated Q1 event appears to be leaching into Q2, as China’s top legislative body has decided to postpone the annual meeting of parliament originally scheduled to start on March 5.  Moreover, given its size and growth rate, China’s economy is the largest influencer of global growth.  The International Monetary Fund (IMF) reduced its global growth forecast earlier this week, asserting China’s coronavirus epidemic will likely drag down growth in China’s economy to 5.6 per cent this year and cut 0.1 per cent from global economic growth. That’s a stark reversal from the IMF’s January view that global growth would accelerate from 2.9 per cent to 3.3 per cent in 2020. US economists have knocked down their domestic Q1 growth forecasts by 0.5 per cent. Between coronavirus and the Boeing production shutdown, Q1 growth will have difficulty clearing a 1 per cent hurdle.

The opportunity for valuation expansion in the equity markets is limited, given that large-cap equities expanded 30 per cent on 1 per cent earnings growth last year. That suggests that S&P price growth this year will be constrained by earnings growth. Currently, analysts anticipate S&P profits to expand 7.7 per cent in 2020 on 9.4 per cent revenue growth. A coronavirus pandemic could threaten profit growth.  Several companies, including Alibaba, Apple, Danish shipping giant Maersk and Proctor & Gamble, have publicly toned down their outlooks due to the impact of the virus. Apple no longer expects to meet its Q1 revenue guidance due to supply chain disruption and “impacted” demand.

Business decisionmakers and government policymakers are rethinking their relationship with the world’s second-largest economy. Trade tensions and tariffs first raised the issue, but problems related to the outbreak will trigger action. China’s wet markets – open-air marketplaces that sell both dead and live animals – reminds us that China, in many respects, is still a less-developed country. As the world’s largest producer of greenhouse gasses, China is also having the biggest adverse impact on climate change. The government’s initial denial of the significance of the coronavirus outbreak underscores their well-known opacity and secrecy. China’s participation in the 2020 Tokyo Olympics is hanging in the balance, as the International Olympic Committee decides whether to include China’s teams or even to completely cancel the Games. President Xi’s desire to consolidate power centrally, a conclusion he shared on a conference call with party officials over the weekend, is a concern. In the past month, Beijing has restricted the movement of tens of millions of citizens, expanded the use of high-tech surveillance and expelled three reporters from The Wall Street Journal over an editorial critical of President Xi.

Growing concern could trigger rerouting supply chains, trade relations and financial transactions, robbing China of its future growth. In a recent survey from the American Chamber of Commerce in Shanghai, nearly half of the 109 companies surveyed said their supply chains had been disrupted by the coronavirus. Manufacturers who don’t have alternative production sources are scrambling to find other options. China’s economic growth trajectory has already fallen to 6 per cent from 12 per cent a decade ago. Economists estimate that China’s Q1 growth could be negative. The world will eventually recover from today’s coronavirus. The ultimate impact of the epidemic on China, however, could extend far beyond short-term economic deceleration into the realms of government structure, political control and re-casting growth models.