Marek Kapička: Interest Rate Cuts Will Not Help, Targeted Fiscal Aid to Affected Sectors Would Be Better

18 March, 2020

Interest rate cuts during the coronavirus epidemic will not have much effect, says Marek Kapička, economist and faculty member from CERGE-EI. Targeted fiscal assistance to sectors affected by sales and service constraints would be a better solution to the current situation. 

Unexpectedly closed shops, hotels and restaurants, and restrictions on other services mean a negative supply-side shock to the economy. According to Kapička, this is precisely why the interest rate cut, which the Czech National Bank has taken, is unlikely to solve it.

"Monetary policy is relatively ineffective when it comes to supply shock. There is no need to support higher demand, as the problem is not the willingness to spend, but the fact that there is nothing we can spend money on. So reducing interest rates will not have much effect," Kapička said.

"The decline in economic activity is due to the fact that stores are closed and holidays canceled, not because households do not want to spend," explained Kapička. "When the coronavirus epidemic subsides and the restraint is over, economic activity can be expected to return relatively quickly to its original level. Although it is clear already that there will be a significant decline in economic activity and a recession, there is hope that the recession will be relatively short-lived," he added.

In the current situation, it would be more effective to help those who have the greatest losses due to constraints. "A better answer would be targeted fiscal assistance to the sectors most affected and where it will not be possible to catch up later on," said Kapička. "All those unrealized skiing days in Italy are irretrievably lost, while the buying of clothes that does not take place now can simply catch up when the restrictions are over," he added.

The comparison of the current situation with, for example, the 2008 financial crisis, according to Kapička, is not appropriate because of the way these problems were caused. "The financial crisis at that time differed in one important aspect, because its causes were on the demand side, while at present it is primarily a negative supply shock," said Kapička. He added that it would be dangerous if the supply-side shock turned into a debt crisis. "It could deepen and stretch the problems," said Kapička.