Coronavirus Outbreak: Comparing SARS Vs 2019-nCov And Forecasting Economic And Currency Impact – Exchange Rates UK

UPDATE 25/1: 56 Million people are now under lockdown as China increases restrictions to stop the 2019-nCov coronavirus spreading. One case now in Australia and third case in Japan, three in France, two in the US. Fourteen have tested so far in UK, all found to not the be the virus.

UPDATE: Analysts at Scotiabank commented “Risk appetite has steadied and the USD is trading mostly higher against its G-10 peers. China has extended its travel ban to encompass some 36mn people now in a bid to contain the spread of the Wuhan virus, reports indicate. Global stocks are trading broadly higher, with European markets gaining more than 1% on the day. “

UPDATE: Analysts at Lloyds commented “Risk sentiment was steadier in Asia, as investors appeared to latch on to the World Health Organisation’s decision not to declare the coronavirus outbreak in China as a public health emergency. The death toll is reported to have risen to 26, as China begins a week-long lunar new year holiday. The WHO meets again in ten days or sooner if needed.”

UPDATE 24/1: Four more cities are added to China’s transport ban, affecting 41 million people, according to the AFP news agency.

The coronavirus outbreak will disrupt the Chinese economy and have a global impact.

The dangers will be magnified by the fact that the global economy has already been undermined by US-China trade friction while global travel has increased sharply since the SARS crisis. The main short-term impacts will be weaker global equities and a decline in oil prices. In currency markets, the yen and Swiss franc will gain support while commodity currencies will lose ground.

There is no scope for complacency and fears are liable to increase further in the short term. The most likely outcome is that containment efforts will be robust enough to present a buying opportunity in risk assets within the next few weeks.

New virus outbreak in Wuhan

An outbreak of a new disease was reported in the Chinese city of Wuhan in late-December 2019. After initial uncertainty, the virus was identified as a new coronavirus which was likely to have crossed the species barrier into the human population. The virus is currently known as 2019-nCOV.

Coronaviruses cause a range of symptoms from mild in the common cold while others are more severe and likely to lead to pneumonia. Immediate coverage of this outbreak was limited, but attention has intensified dramatically this week.

The comparison with SARS

Another notorious coronavirus was Severe Acute Respiratory Syndrome (SARS). The SARS outbreak was first identified in November 2002. The source of the outbreak was eventually traced back to horseshoe bats in China’s Yunnan province.

Between November 2002 and July 2003 close to 8,100 cases reported with 774 deaths across 34 countries. The mortality rate for SARS was just under 10%. SARS had a negative impact on the global economy, although with no sustained impact.

This current coronavirus has a similar profile to SARS and also crossed the species barrier in China.

In both cases, the virus is spread through water-based droplets in the air. There is, therefore, potential human-to-human transmission without direct contact. This makes the contagion threat much more serious than Ebola, for example, which requires direct contact with an infected person.

How deadly is this virus?

The potential impact on the global economy will depend in part on how severe the infection is. A virus similar to relatively mild influenza would have limited implications. In contrast, a virus with a high mortality rate such as Spanish flu would be much more severe.

At this stage, 17 deaths from the virus have been reported from over 500 cases. Most of the deaths have been related to people with existing medical problems. Preliminary evidence suggests that the elderly are more vulnerable while children are more resilient than was the case for SARS. Fear will intensify if death rates increase.

China responds aggressively

China has responded forcefully in an attempt to quarantine Wuhan. The city of Huanggang is likely to follow suit today.

External transport links have been suspended with no flights in or out of the city while the train network has also been suspended. Citizens have been warned to stay at home and face masks must also be worn in an attempt to halt the spread of infection.

There is a 5-day incubation period for the virus which inevitably causes major containment problems. There is a very high probability that a substantial number of infected people have already travelled from Wuhan.

There has been a substantial increase in air travel since the SARS outbreak. The number of air passengers in China increased to over 600mn 2018 from 56mn in 2001 while the number of rail passengers has increased by over 50% despite a decline from historic peaks. This increase in volume will substantially heighten the risk of infection being transmitted across China.

New-year holidays complicate matters

During the lunar new-year period, a huge number of people travel within China as workers return to their home towns for the festive period. This mass transit will make it much harder to contain the virus.

Chinese authorities have been transparent in reporting the situation in an attempt to ease fear. Elements such as close to real-time reporting of the number of cases could have the paradoxical impact of increasing domestic concerns. International governments, however, are likely to be reassured by the Chinese response.

What has been the international response?

The increase in international air travel will also increase global risks. The World Health Organisation (WHO) has so far decided against declaring a global emergency, but will meet on a daily basis and declaration of a pandemic would further unsettle markets.

The number of cases reported internationally is still very low with less than 10 reported outside China at this stage. Inevitably, there will be an increase in cases over the next few days.

International governments have, so far, limited their response to monitoring passengers on flights from Wuhan, but will be watching the situation very closely.

What will be the economic impact?

The official response from Chinese authorities and imposition of travel restrictions will have an economic impact as activity is curtailed.

It is important to note that the Chinese New Year holidays will extend from January 24-30th and economic activity always declines sharply during this period.

If the Chinese authorities have success in containing infection during the holiday period, there will be an important element of relief when markets re-open.

In particular, a slowdown in the number of new cases reported would be a positive factor while an escalation in cases would intensify fears.

Even if the actual impact of the virus is limited, there will be a risk that fear will increase sharply within the population and cause a much bigger impact on both trade and growth dynamics.

People may decide against returning to the large cities after the New-Year break which would be important in undermining activity.

There will also be a risk that international travel into China will be curtailed as fear discourages business and leisure travel.

Risk appetite will be weaker

In the short term, there will be weaker global risk conditions, especially with a high degree of uncertainty over the impact. In this environment, there will tend to be increased demand for defensive assets.

There will be increased support for the Japanese yen and Swiss franc. The yen exchange rates have already gained defensive support with USD/JPY retreating from 8-month highs above 110.00 while EUR/CHF is at 32-month lows below 1.0750.

Currency investors will also be attracted by assets with high liquidity. In this context, US Treasuries will also gain significant support as they are the most liquid global asset and the dollar will gain some support.

Concerns over a lack of liquidity will tend to undermine emerging-market currencies. Asian currencies will be at risk if regional infections increase.

Oil prices decline

There will be an impact in undermining oil demand, especially if there is a significant impact in curbing air travel. Oil prices have already declined with WTI dipping to 7-week lows below $56.0 p/b.

According to a note from Goldman Sachs: “While an OPEC supply response could limit the fundamental impact from such a demand shock, the initial uncertainty on the potential scope of the epidemic could lead to a larger price sell-off than fundamentals suggest,” The note went on to say that oil prices could decline $3 per barrel.

Any further decline in energy prices would tend to undermine the Canadian dollar. Wider commodity prices could also come under sustained pressure which would damage the Australian dollar. Gold would tend to gain support, although with no evidence of this so far. Chinese investors could be drawn to cryptocurrencies, but bitcoin has lost ground this week.

Trade friction will magnify the impact

The economic impact is likely to be magnified by the on-going US-China trade frictions. Trade between the US and China has already been disrupted by trade wars and imposition on tariffs on US and Chinese exports. Although tensions have been eased by a signing of the phase-one trade deal, the underlying dispute has had an important impact in disrupting supply chains and underlying exports.

The bulk of existing tariffs are still in place and maintaining important stresses in the economy.

Chinese companies are already in a more vulnerable position which will make it more difficult to adjust and respond to a fresh crisis. The global economy overall is liable to be vulnerable.

An important element will be the duration of the crisis. The acute phase is liable to last for weeks with a prolonged, but lower risk profile thereafter.

According to TD Securities’ European head of currency strategy, Ned Rumpeltin; “Ultimately, the coronavirus is a slow-burning but important story for markets that is likely to last for months rather than just a few days. And the natural go-to currencies when there are headlines like these are the yen and the Swiss franc.”

Central banks will be on alert

Global central banks have been cutting interest rates over the past year in response to concerns over the trade and growth outlook, especially given the imposition of tariffs.

Central banks have started to feel slightly more optimistic over the outlook, but any sustained damage from the coronavirus would trigger fresh unease. Overall, the bias for monetary easing is likely to continue with an on-going bias to cut interest rates.

External risks could be mentioned in next week’s Federal Reserve policy statement.