Home / Markets / Mark To Market /  What history tells us about pandemics and interest rates

A recent study by professors of economics Òscar Jordà, Sanjay R. Singh, and Alan M. Taylor published by the International Monetary Fund (IMF), analyses the long economic hangover of pandemics. In this analysis, the authors take a global view of the macroeconomic consequences of pandemics across a number of European economies.

Findings show that while the rapid collapse of production, trade, and employment may be reversed as the pandemic eases, the long-term economic consequences could persist for a generation or more.

According to the study, pandemics are followed by sustained periods—over multiple decades—with depressed real interest rates. “Following a pandemic, the response of the natural rate of interest is tilted down by nearly 1.5 percentage points about 20 years later. “We also find that it takes an additional 20 years for the natural rate to return to its original level," said the article.

The natural rate of interest or neutral rate of interest, is the interest rate that supports the economy at full employment/maximum output while keeping inflation constant. The real interest rate is the rate of interest an investor, saver or lender receives after adjusting for inflation.

In a bid to revive the derailed global economy, central banks across the world have been on an aggressive monetary easing spree. With fears of a second wave of Covid19 infections rising, a widely held view is that central banks will continue to be accommodative in their stance. Of course, a worry arising from this stance is piling global debt and stretched balance sheets of central banks, but the priority now is reviving growth.

As for real wages, the study shows that it rises gradually so that, 40 years out, the real wage is about 10% higher. Real wages are wages adjusted for inflation.

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