Why history shows the ‘staggering’ economic impact of pandemics can persist for decades

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The economic impact of the novel coronavirus could linger for a generation or more, according to a recent working paper from the Federal Reserve Bank of San Francisco.

In 15 previous pandemics, interest rates skidded lower and, in most cases, remained lower than expected for decades after the emergency was past, according to the new study.

The paper examines historical outbreaks beginning with the Black Death of 1347 and ranging up to more recent disasters, such as the Spanish flu of 1918, the Hong Kong flu of 1968 and H1N1 pandemic of 2009. The researchers relied on a study of interest rates compiled by historian Paul Schmelzing, which drew upon lending records dating back to 12th-century Venice.

In the wake of these pandemics, interest rates typically fell about 1.5 percentage points below where they otherwise would have been expected without the disruption. It required as much as 40 years for interest rates to return to trend.

“The results are staggering,” conclude the paper’s authors, Oscar Jorda of the Federal Reserve Bank of San Francisco, Sanjay Singh of the University of California at Davis and Alan Taylor of the University of California.

Economists already knew that major recessions caused by financial crises could depress interest rates for five to 10 years. Few, however, suspected pandemics might have such a deep and long-lasting influence.

If the pandemic effect is confirmed, it would add to signs that interest rates are likely to remain low for the foreseeable future. Governments have to hope so. Most are running up debt as they support their economies during sustained lockdowns. They would welcome a long period of low borrowing costs.

Investors may see things differently, however. Since the financial crisis of 2007-09, interest rates have sunk to levels that provide little, if any, real return on savings. Miserly returns on bank accounts and government bonds have forced people to reach for yield by taking on higher risk.

The hunt for a decent return is likely to intensify, according to the new study. It looks at historical episodes in which an outbreak of disease claimed at least 100,000 lives.

While some of these episodes, such as the Black Death and Spanish flu, are well known, the study also spans many outbreaks that have faded from memory, such as the cholera pandemic that killed 800,000 people from 1899 to 1923 and the Asian flu outbreak of 1957 that took two million lives.

As different as these pandemics were in medical terms, they were broadly similar in economic effects. They reduced populations, but didn’t touch land, equipment or other capital goods.

By taking their toll on flesh but not factories, past pandemics typically shifted the balance between capital and labour, according to the researchers. Wages tended to rise as workers became scarcer and took advantage of their newfound bargaining power.

But as wages went up, less profit was left for providers of capital. The prospect of lower returns pushed down the amount of interest that people were willing to pay on borrowed money, and so interest rates slid lower.

“Pandemics are followed by sustained periods – over multiple decades – with depressed investment opportunities, possibly due to excess capital per unit of surviving labour,” the researchers conclude. This trend may be amplified by people’s desire to save more and rebuild depleted wealth after the shock of a pandemic, they suggest.

To be sure, things have changed since those historical pandemics. Nearly all the pandemics cited in the paper took place in low-tech economies where human labour was probably a bigger constraint on productivity than it is now, and where few people survived to old age.

Could things be different this time round?

Maybe so. The researchers point to an aging population as the biggest single reason to think the economic consequences of the novel coronavirus could be different.

“Past pandemics occurred at times when virtually no members of society survived to old age,” they write. This time round, the elderly are likely to be the most afflicted group. As a result, the economic impact may be muted.

Still, the researchers find their results stand up even if they exclude the Black Death and the Spanish flu, two of the most lethal pandemics on the historical record.

This suggests the pandemic effect is robust and plays out even if the scale of the carnage is relatively contained. Consider it one more reason to think low interest rates will be with us for years to come.

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