SARS: Impact on China’s Economy

This essay is an assignment to the Business Economics of MCOM. It consists of five parts: introduction, channels through which SARS impacts, the limited impact of SARS, measures to reduce the adverse impact, and conclusion. In this essay, the author tries to utilize the principles of economics to analyse the impact of SARS on China's economy.

SARS (Severe Acute Respiratory Syndrome) originated from Guangdong province in Southern China and spread more than 30 countries through travel. It has influenced the affected countries and regions substantially.SARS impacts economy through the channels - the aggregate demand, the aggregate supply and the financial market. SARS mainly influences economic growth by reducing the aggregate demand.

Of all the components of aggregate demand that SARS has affected, consumption expenditure has been the major part of the impact. Private investment declines by reduced overall demand, enhanced uncertainties, and increased risks. More of government expenditure has to be reallocated to combat SARS and hence the multiplier will decrease. The outbreak of SARS may reduce the labor productivity. The slowdown of the pace of FDI affects both on the demand side and the supply side.

SARS has a negative impact on China's economy but the impact will be narrow. The spread of SARS can be contained in a limited space and period. The decline in consumption is temporary and limited. Consumers' long-term purchase plans will not be converted. The heavily hit service trade only has a small share in China's GDP.

The influence on the exports manufacturing bases is relatively restricted. Because of the advantages of the low labor cost and the huge market volume, foreign investors will delay but not change their investment plans in China. The impact of the decrease in FDI is slight because the growth of China's economy more depends on the government investment in fixed assets rather than on FDI in recent years.There are market failures related to SARS, so government intervention is reasonable and unavoidable.

To reduce the economic cost and recover consumers and investors' confidence, governments should adopt a transparent information policy. The accurate and timely information on SARS facilitates rational thinking and actions. Severe health measures must be taken to contain the disease. The expansionary fiscal and monetary policy will persist to mitigate the impact of SARS and promote the growth of China's economy. The preferential tax polices for sectors heavily hit by SARS should be adopted. It is suggested that consumption-stimulating measures also be taken to spur the domestic demand.

Briefly, SARS has a limited negative impact on China's economy through aggregate demand side and aggregate supply side. And governments' polices are essential to contain the disease and to maintain the growth of economy.IntroductionAs of 15 May 2003, Severe Acute Respiratory Syndrome (SARS) has spread to over 30 countries and regions, infecting more than 7,600 people and causing approximately 590 deaths worldwide. China mainland; Hong Kong, China; and Singapore have been worst hit. Governments in the affected regions have taken countermeasures to prevent the spread of the disease, including travel restrictions, quarantines and etc.

The impact of the SARS outbreak on economy has to be closely analysed. SARS may be one of the most serious health threats since AIDS, as it spreads through close person-to-person contact. The spread of the epidemic causes a great panic in the people and a negative impact on economy.This essay analyses the channels through which SARS impacts the China's economy, and then assesses the economic impact of SARS, and finally suggests some measures to cushion the negative impact.Channels through which SARS impactsThere are a number of channels through which SARS can affect the economy. These channels involve: the aggregate demand, the aggregate supply and the financial market.

Firstly, SARS primarily affects economic growth through the aggregate demand side. Aggregate demand refers to the total quantity of goods and services, including consumption expenditure, investment expenditure, government expenditure, and net exports.The tourist industry and tourism-related service sectors, including airlines, hotels, catering, entertainment, and retailing sector are to be particularly hard hit. Fewer people go to stores, supermarkets, restaurants and entertainment venues for fear of possible infection, leading to a decline in private consumption spending. A survey by the China Economic Monitoring Center shows the occupancy of 20 four and five star hotels in Beijing has fallen by 30 per cent since April compared to the same period last year [1].The revenue from the seven-day Labor Day holiday usually accounts for 40 per cent of the year's total.

However, the central government shortened the holiday to 5 days and called for no travel. Therefore, the travel agencies will suffer huge losses this year. It is estimated that the decision to shorten the Labor Day cost the tourist industry 20 billion yuan (US$2.4 billion) [2]. Although the service trade contributes a tiny proportion to the GDP of China, the chain function on other related sectors, especially the negative impact on the manufacturing industry, could not be ignored.Exports are also suffering.

Although the Chinese Export Commodities Fair, or Canton Fair, was held as scheduled in Guangzhou from April 15, the number of contracts that were signed plummeted because many foreign buyers cancelled their trips to China. Personal flow is the basis of international trade and investment. The travel restriction owing to SARS certainly decreases the growth of exports. As China has become a part of the supply chain for many multinational corporations, and a halt in flow of goods due to the epidemic would incur losses. In an effort to avoid such risks, multinational corporations may have no choices but to shift a part of production to other countries. Hence, the growth of China's export this year is likely to decline because business travels are canceled and demand for goods made in China falls.

Furthermore, tourism-related service exports have been heavily hit.The outbreak of SARS has a negative impact on investment. Investment will decline because of reduced overall demand, enhanced uncertainties, and increased risks. A decline in China's foreign business activity means that the inflow of foreign investment will also be delayed or reduced.

It is pointed out that "the SARS crisis may prompt foreign investors not to put all their eggs in one basket, possibly resulting in business changing their plans to invest in China" [3]. If the outbreak persists, investors' confidence could be further reduced, causing weaker domestic investment and foreign direct investment (FDI).Government expenditure has to be reallocated to combat the outburst of SARS and hence affects the multiplier effect. Multiplier effect can be defined as equilibrium expenditure increases by more than the increase in autonomous expenditure. Central government and provincial governments have to increase expenditures for improvement of medical facilities, enforcement of quarantines and other health measures, financial assistance to SARS victims among the poor and vulnerable groups, and funds for medical research.

The emergency packages such as preferential tax plan to alleviate the economic fallout of the outbreak will reduce the government revenue. The diversion of some government expenditures away from investment in public services such as infrastructural projects, which have higher multiplier effects, to SARS-related expenditures will reduce the equilibrium expenditure and then the GDP.Of all the components of aggregate demand that SARS has affected, consumption expenditure has been the major part of the impact.The second channel that SARS affects economy is through the aggregate supply side.

Aggregate supply is the sum of all goods and services that all firms in the economy plan to produce. There are three main factors influence both long-run and short-run aggregate supply. They are: the labor force, the capital stock, and technology. The outbreak reduces labor productivity because of illness or precautionary measures. Therefore the outputs of both the services sectors and manufacturing industry will decrease. The possible decrease of FDI has affects the China's economic growth not only on the demand side but also on the supply side.

Finally, SARS affects economy through financial markets. Shares in Shanghai fell and yuan forward contracts are of little chance of any currency appreciation [4]. If the outbreak cannot be contain in a short time, fear of the disease may continue to grow, weakening market confidence and depressing stock prices. The contracting wealth effect certainly reduces the consumption expenditure.Through these channels, the outbreak of SARS imposes a negative impact on China's economy.

The degree of the negative impact will be analyzed in the following part.The limited impact of SARSAlthough the outbreak of SARS has a negative impact on China's economy, the impact will be limited and in a short run. The impact depends on the seriousness and duration of SARS, the structure of China's economy, particularly the proportion of service sectors in GDP.The serious impact of SARS will last for the second quarter and then diminish in the third quarter of this year because of the severe enforcement of effective containment measures taken by governments. SARS seems to spread more slowly than the influenza pandemic.

The incidence of the disease has decreased quickly in recent days. Fortunately, the epidemic condition is very slight in rural areas and is mainly restricted in urban cities. Thus the outbreak of SARS is serious, but the spread of SARS can be contained in a limited space and period.The decline in consumption is temporary and small.

A recent survey of several furniture malls in Beijing shows that customers are purchasing durable consumer goods in accordance with their purchase plans rather than at random [5]. The SARS disease won't influence consumers' long-term purchase plans such as buying automobiles, apartments and luxurious furniture. The elasticity of demand of foods and daily necessities is relatively inelastic. The outbreak causes the drastic rise in the consumption of drugs and disinfectants and other SARS-related goods. The demand for telecom and online services increases due to the outbreak. As a whole, consumption expenditure will decrease, but the decline is relatively small.

The service sectors such as the tourism, catering, transportation, recreations and exposition industries, have been the most hit by the disease, but they only contribute a small proportion of China's GDP.In terms of exports, the epidemic situation in most of China's major manufacturing bases, such as the Yangtze River Delta, Shandong province, and Zhejiang province, is relatively slight. Even in Guangdong province, where SARS was first detected last November, the disease has not affected production. However, the new export orders have decreased since the outbreak. There will be a small decrease in the export this year.The impact on foreign direct investment is relatively limited.

China's fast economic growth, low labor cost and huge consumption market are extremely attractive for foreign investors. Chinese economy is at a climbing stage of the economic cycle, and the economic growth is continuing in spite of some exiting deep-rooted problems. SARS may delay or cancel foreign investors visits' to China. However, the influx of foreign investment would not be significantly changed, for SARS is not one of the determinants for investment. The determinants are the huge Chinese market volume and the low labor cost. Moreover, a slight fall in foreign direct investment (US$52.

7 billion in 2002) will cause a very slight fall in China's economic growth since China's fixed asset investment exceed US$400 billion a year [3].Viewing from at the overall situation, SARS' impact on China's economy will be quite limited. The World Bank is predicting that China's economy will still experience growth of about 7.3 percent in 2003 [6].

Measures to reduce the adverse impactThere two reasons justify government intervention to combat SARS. The first is that dissemination of information on SARS has the characteristics of a public good. The second is that there are negative externalities because the disease affects the third parties whose interests are not reflected in market transactions. There are market failures when there are public goods and externalities. Hence the measures taken by government become necessary to allocate resources efficiently.

Transparent information on SARS is essential to reduce the public fear, and to recover the public confidence in government, thus decreasing the economic cost of SARS. There is a lesson at the beginning of the outbreak in Guangdong that the lack of transparency in providing information caused greater panic and accelerated the spread of the disease. Therefore governments need to disseminate accurate and timely information so as to ensure rational behaviors and to restore the confidence of consumers and investors.It is of paramount importance that governments persist the efforts in containing the SARS outbreak. Stringent public health measures, including quarantines and travel restrictions, should be effectively enforced to control further spread of the disease.

Some fiscal and monetary measures should be taken by governments to contain the economic fallout of the disease. The expansionary fiscal and monetary policy should continue to expand the aggregate demand. An expansionary fiscal policy, that is, an increase in government expenditure on goods and services or an increase in transfer payments, or a decrease in taxes, affects aggregate demand by increasing autonomous expenditure. It is reported that "Taxes and administrative fees levied by the Chinese Government on some industries affected by the outbreak of SARS will be waived or reduced" [7].

The preferential tax polices for civil aviation, tourism, catering, commerce and other sectors heavily hit by SARS will be adopted. A group of scholars from the Peking University suggest that the government take certain consumption-stimulating measures, such as providing more housing and automobile loans to spur the domestic demand [8].The essential health measures and a transparent information policy adopted by governments are crucial to contain the disease and decrease the economic cost. The expansionary fiscal and monetary policy will bring substantial benefits to the economy and sustain the growth.

ConclusionSARS impacts economy through the channels such as the aggregate demand, the aggregate supply and the financial market. SARS will not possibly have a major impact on China's economy and the disease is likely to ail China's economy for the short term.Given the externalities related to SARS, governments should take a transparent information policy and severe health measures to contain the disease. The expansionary fiscal and monetary policy will persist to cushion the impact of outbreak and maintain the growth of China's economy.