The recovery of the European Union’s economy may be delayed due to the threat of a new Covid-19 variant and a surge in new cases.
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The recovery of the European Union’s economy may be delayed due to the threat of a new Covid-19 variant and a surge in new cases. The hardest hit will be the service sector, which has traditionally dominated the EU economy. One rather surprising thing is that the EU’s manufacturing sector has begun to show signs of recovery.
However, as the contraction in the service sector is quite deep, the increase in manufacturing performance will be unable to compensate this. As a result, the economy will enter into a double-dip recession. The recovery curve will therefore be in the shape of a W, not in the shape of a V as previously thought.
In Indonesia, surges in Covid-19 infections often occur as the result of a long holiday. The difference is that Indonesia, due to its relatively high informal economy, needs a policy that can meet the expectations of both formal and informal sectors.
A problem can arise, however, if public expectations are different as in the Lucas island model that uses rational expectations (R. Lucas, 1972, 1973, 1975), which relies heavily on groups.
It is difficult to implement a policy if its targeted subjects have different expectations (the problem of pooling equilibrium). In this situation, the policy must consider the island corridors representing the people\'s expectations, and then take the median path.
The government’s micro-scale public activity restrictions (PPKM) policy is one example of a policy that is intended to accommodate the expectations of the upper- and lower-middle classes at the same time. The upper-middle class tends to be more concerned about public health, while the lower-middle class, especially those earning daily wages, are more concerned about jobs, especially in the case of layoffs.
If these two islands of expectation are independently distributed, it is difficult to unify them in a median policy. Fortunately, the expectations of these two economic classes intersect. The upper-middle class’s concerns about increasing Covid-19 cases make them more conservative in their spending, which in turn weakens economic growth. This reduces growth, which results in decreased jobs, so the lower-middle class will be eventually affected as well.
Impact on recovery
The January 2021 consumer confidence survey released by Bank Indonesia shows a significant decline in the consumer confidence index (CCI) from 96.5 in December 2020 to 84.9 in January 2021. The question is whether this was due to a dramatic increase in new Covid-19 cases since late October 2020, or the imposition of the micro PPKM. Ideally, there should be a reciprocal relationship as in Granger’s statistical concept of causality (1969). However, the time series is not of long enough duration, so the alternative is to look at the timing of the PPKM and the daily transmission curve of Covid-19.
On 2 Nov. 2020, the government recorded 2,618 new Covid-19 cases. Due to the long holiday weekend, the number of daily cases continued to increase in the following days to peak on 30 Jan. 2021 with 14,518 new cases. The micro PPKM was introduced on 9 Feb. 2021 in response to the surge in infections.
The CCI decline was due more to the increase in new cases. This is confirmed by gross domestic product (GDP) data for the fourth quarter of 2020 compared to the third quarter of 2020, when GDP growth showed a flat trend.
Worsening public perception of health was reflected in fourth-quarter economic growth in 2020. Household spending fell from 4.69 percent in Q3 2020 to nearly stagnate at 0.49 percent in Q4 2020.
Household spending accounts for 58 percent of GDP, while investment contributes 31.73 percent. According to the Granger causality theory, investment growth is determined more by public consumption. The implication is that since 2000, Indonesia\'s GDP growth has closely followed developments in consumption.
This means that the GDP recovery curve has flattened due to worsening public perception of health since Q4 2020. The effect was only detected in January 2021, when the CCI showed significant decline.
How these developments affect consumer confidence, public consumption and economic growth will be seen only in future data. However, it appears that the recovery curve will be influenced by surges in Covid-19 infection and the strictness of the government’s restrictive policies. The narrow corridor available for balancing pandemic handling and economic recovery presents a tough challenge for the government.
At the start of the pandemic, the whole world hoped for a V-shaped curve of recovery. The EU’s experience shows this will be difficult to achieve. Indonesia is likely to have a recovery curve that resembles stairs, like the step function in mathematics, changing from rapid quarterly growth to gentle, flat growth. This aligns with the policy of tightening and easing restrictions following Covid-19 surges and the rate of coronavirus mutations.
Given this, a tiered approach to economic recovery is likely to be more sustainable and of higher quality, because it allows time for policy introspection, consolidation, improvisation and innovation.
ARI KUNCORO, Rector, University of Indonesia
This article was translated by Hendarsyah Tarmizi.