Not what the economy’s doctor ordered

April 28, 2009

James Saft Great Debate — James Saft is a Reuters columnist. The opinions expressed are his own —

Besides being a human tragedy, a deadly pandemic is, quite literally, the last thing a global economy suffering a huge drop off in trade and activity needs.

To be very clear, we’ve no idea how severe or widespread the evolving outbreak of a new form of swine flu will be and indications that it seems to be becoming milder as it travels from Mexico are reassuring.

You only need to look at photos of deserted streets, shops and theatres in Mexico City to get a sense of the hit to consumer demand, but the potential for damage to production and distribution is profound too.

One guide for the impact of a dire pandemic is the experience during the Spanish Flu, which spread rapidly across much of the world during 1918 and 1919. About a quarter of the global population was infected and somewhere between 50 and 100 million people lost their lives, according to estimates.

Economic data from the time is woefully thin, but the period of the outbreak in the U.S. corresponds almost exactly with a period the National Bureau of Economic Research deems a contraction.

Businesses of all sorts were badly affected, from life insurers, many of which had to suspend dividends to deal with higher claims, to a telephone company in Tennessee which had so many operators out sick that it had to issue a plea for fewer “unnecessary calls”.

Wages were probably pushed upward by the pandemic, according to a survey of studies of the flu by Thomas Garrett published by the St. Louis Federal Reserve. Click here for PDF.

This is similar to what happened to England following the Black Death, when agricultural labourers were able to make huge strides in pay.

Ironically, Spanish Flu was so called because wartime censorship was less in Spain, leaving people with the false impression that it originated or was more prevalent there because there was more coverage of the illness.

The lack of censorship today and current communications capability probably argue that the economic impact will be both greater proportionally and front loaded. If the flu spreads and is deadly, people will know and their reaction will be to hunker down. We could therefore have a magnified economic effect compared to the actual medical danger.

And just as information spreads more quickly now, the global economy is more tightly knit and the supply lines and chains of most businesses are far more efficient, and as a result more fragile than 90 years ago.


Estimates of the economic toll of a pandemic vary widely. The Congressional Budget Office has estimated that another Spanish flu would knock five percent off of U.S. gross domestic product.

The World Bank in 2005 put the global cost at $800 billion for a global pandemic, while the U.S. Centers for Disease Control and Protection in 1999 put the domestic cost at about 1.5 percent of GDP.

So, if there is a pandemic, we can expect it to pull any green shoots of recovery up by the roots and send economic activity and confidence tumbling yet again.

It would also represent yet another claim, really an imperative, on already strained government resources. If a country weakened by the economic crisis were to be particularly badly hit, it could damage that government’s ability to sell debt or drive its currency lower.

The impact on the financial system, however, might not be so bad, according to a study of the Spanish Flu by the Philadelphia Federal Reserve.

The payments system continued to function throughout the crisis and, at least as measured by the number of bank failures, the period of the pandemic was not a bad one. That said, the banking system in 1918 was almost certainly in nothing approaching the perilous state it is today.

Bond and stock markets also continued to function, with volumes in stocks actually increasing. Almost unbelievably the Dow Jones Industrial Average ended 1918 with a gain of 10.5 percent, setting the stage for a 30 percent post-war rally in the early part of 1919.

That could be because government censorship left investors in the dark, but after all a horrific European war was ending and the seeds of the 1920s boom were being sowed.

All of what will happen now however, is fundamentally unknowable and the best we can do is to hope that, unlike subprime, this crisis is contained.

– At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund-

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