Macroeconomic Implications of COVID-19: Can Negative Supply Shocks Cause Demand Shortages?

There is a new NBER paper by Veronica GuerrieriGuido LorenzoniLudwig StraubIván Werning:

We present a theory of Keynesian supply shocks: supply shocks that trigger changes in aggregate demand larger than the shocks themselves. We argue that the economic shocks associated to the COVID-19 epidemic—shutdowns, layoffs, and firm exits—may have this feature. In one-sector economies supply shocks are never Keynesian. We show that this is a general result that extend to economies with incomplete markets and liquidity constrained consumers. In economies with multiple sectors Keynesian supply shocks are possible, under some conditions. A 50% shock that hits all sectors is not the same as a 100% shock that hits half the economy. Incomplete markets make the conditions for Keynesian supply shocks more likely to be met. Firm exit and job destruction can amplify the initial effect, aggravating the recession. We discuss the effects of various policies. Standard fiscal stimulus can be less effective than usual because the fact that some sectors are shut down mutes the Keynesian multiplier feedback. Monetary policy, as long as it is unimpeded by the zero lower bound, can have magnified effects, by preventing firm exits. Turning to optimal policy, closing down contact-intensive sectors and providing full insurance payments to affected workers can achieve the first-best allocation, despite the lower per-dollar potency of fiscal policy.

All NBER papers on Covid-19 are open access, by the way.


I think this theory applies today:
Grocery Workers Are Beginning To Die Of Coronavirus


Grocery workers were hit with mobs buying cheap toilet paper, had a supply shock. Now the clerks are dying.

Now Walmart is limiting crowds inside the store and creating a huge jam of them in the parking lot, a demand shock as they get the virus and die or stay home or go to hospital.

Pray to your priors god that Walmart immediately start price gauging and limit those crowds.

s long as it is unimpeded by the zero lower bound
As long as the Fed can apply an unlimited seigniorage tax on government bond markets. Nos we can see this assumption will not hold, the banking sector rolls up under the tax cost. A big supply shock for the finance system, they have lost market share.

Yes the headlines write themselves.

“After jacking up prices on goods during the COVID pandemic, Walmart announced today that all executives have been given additional bonuses and a new round of stock buybacks will commence immediately. The families of former team members that died due to the virus were unavailable for comment.”

Followed closely by

“Republicans are shocked that they were swept by Democrats in yesterday’s elections. During his swearing in, Joe Biden thanked Walmart for all they did for him.”

Mr. Priors responds.

Mr. Priors will defend the priors regardless of how many Walmart shoppers get the virus. This is what the so called stimulus is up against, all the priors piling on with a whole bunch of philosophy having nothing to do with stopping the virus.

We are getting the stimulus piling on from most of the economists, especially the Milton Keynes variety.

Mathematicians carefully avoid swallowing prior pills, that is why we are so accurate.

"Monetary policy, as long as it is unimpeded by the zero lower bound, can have magnified effects, by preventing firm exits."

How, exactly, can the Fed prevent Peabody coal from exiting in bankruptcy as a result of Obama both removing oil from the market, and promoting land based innovation in drilling by eliminating big oil deep water 80s era drilling in Federal leases? Obama policies unleashed smaller nimble drillers/developers who made natural gas "too cheap to meter" so it is just flared, killing king coal, helped by cheap Fed money.

The Fed buys an unlimited number of bonds backed by rapidly growing piles of coal on vacant land that have been mined by Peabody?

The Fed buys Sears shares and Sears junk bonds to Prop up the original Amazon that abandoned its founding engine of growth the Everything Store by mail order to prevent its final liquidation?

(Who will buy the many Sears trademarks? Walmart, Target, Amazon? Amazon could return "Sears" to glory. Replacing the Amazon brands, eg Basics, etc with Sears brands, and also build Sears services from appliance and vehicle service, and installing/assembling Sears homes.)

All demand comes from supply in the long run doesn’t it? If you can’t supply things people want you won’t have the purchasing power to demand anything either.

The contribution of this paper, similar to papers about the Great Recession of 2008 that said the banking sector was more important than other sectors, is found in this sentence: " A 50% shock that hits all sectors is not the same as a 100% shock that hits half the economy. ". Some sectors are 'more equal than others'. It's not that radical a paper.

Why not make all NBER papers open access?

Are you some kind of communist information wants to be free radical?

Communist are never in favor of free information. Indeed, they go to extreme lengths to suppress dissenting opinions.

Both monetary stimulus and fiscal stimulus are redistributive, the difference being that monetary stimulus is redistributive upward and fiscal stimulus is redistributive downward, which helps explain why the debate as to which is more effective is so fierce.

I long for the days when Ray Lopez treated monetary policy as little more than a religion, monetarists little more than a cult, Scott Sumner being the cult leader. We miss that Ray Lopez. Now, Ray Lopez has joined the cult. It must have something to do with the loss he recently suffered in his portfolio. Losses often have that effect on people.

Fiscal stimulus is "stimulus" only if monetary policy accommodates it. Yes, bailing out those airlines is downward redistribution.

Airlines are banks too: airlines generate more revenues selling miles to banks (credit card issuers) than they do selling tickets to passengers. Bailing out the airlines/banks is monetary stimulus by another name.

I wonder why the authors took the zero lower bound as potentially impeding monetary policy, as "whatever it takes" QE can produce any amount of inflation. Also missing the role of expectations.

Well, it certainly will depend on where the supply shock is experienced but I don't find this all that surprising (almost to the point of why a paper would be needed).

One would expect a multiplier to be present.

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