Chair News

Household Finances in the Pandemic

By Michael Haliassos

English Translation of article published in Kathimerini 6-7 June 2020

The covid-19 crisis hit Greece as it was about to spread its wings. Although significant government efforts had not yet been translated into higher shares of investment in GDP, they had achieved a significant improvement in the confidence of both companies and consumers, creating conditions for a rise in consumption and investment. The pandemic and the subsequent social distancing affected the employment status and mode of work of most households, their income and wealth, their expectations and ultimately their consumption, saving and borrowing behavior. If we do not understand this sequence of effects of the current crisis, we will not be able to properly target the measures that the new European Commission proposals, the ECB's measures, and the country's fiscal capabilities allow.

This crisis is different from the recent financial crisis in our country and the financial crisis that has hit other countries. The first, mostly unpublished, international studies on households in the pandemic are already here to help us understand who is most affected, how consumer expectations and behavior are affected, and what measures governments can take.

The effects of the pandemic on the economic conditions of households

The factor that most decisively influences whether one loses one's job in this crisis is the percentage of work one can do from home. This varies between professions, fields of activity and countries. An international study shows that the percentage of work that can be done from home differs greatly between professions, with managers at 77%, employees at 50%, salespeople at 21% and craftsmen at just 4%. The most restricted areas of activity in advanced countries, such as Germany, were car sales, clothing and footwear, retail in general, restaurants and hotels, and the arts. The countries, of course, differ in the relative importance of professions and sectors. A recent study shows that in Italy and Spain homework is possible for about 25% of jobs, in France and Germany for 28%, while in Sweden and the United Kingdom for 31%. But the most striking result is that one's ability to perform one's work from home significantly affects their chances of losing their job, even when comparing people in the same country, the same profession and the same field of employment.

A comparative survey in March and April 2020 in three countries highlighted the importance of a flexible system in adjusting working hours depending on conditions. It is typical to compare Germany, where the Kurzarbeit system has absolute flexibility, and the United States and the United Kingdom, where a furlough resets or freezes working hours. The study found that in the United States and the United Kingdom, 15-18% of households lost their jobs, compared with only 5% in Germany. Graduates tend to be more likely to retain their jobs than non-graduates in the US and UK, but this is statistically fully explained by the nature of their professions and their greater ability to work from home. Women are more likely to lose their jobs, regardless of occupation or job opportunities, especially because they tend to spend more time with their children during this time while working from home. But none of this is true in Germany: neither education nor gender condemns the worker to a higher probability of unemployment, despite the greater involvement of women and children. 

The contribution of lockdowns to reducing employment is very important. A survey comparing January to April 2020 in the United States and exploiting the fact that US states closed at different times, found that the closure itself increased the chances of someone being unemployed by 2.4 percentage points (pp) and reduced the chance of participating in the labor market by 1.9 pp.

The pandemic directly affected the distribution of income and wealth and has the potential to affect it even more. 42% of the US workforce is estimated to have experienced an income reduction, by an average of $5,000. Those with significant financial wealth lost an average of $ 33,000 of that wealth. However, those who report bigger drops in the rate of growth of employment income tend to be younger and with lower incomes and wealth, which suggests effects on inequality. IMF research finds that previous major 21st century epidemics have increased income inequality (as measured by the Gini coefficient) even after taxes and allowances, which governments used in part as a means for redistribution. At the same time, they disproportionately affected the employment of the less educated: compared to the total population, the employment of graduates was hardly affected at all, while the employment of those with basic education decreased by 5% at the end of five years from the beginning of each previous epidemic.

The effects on household economic behavior

Deterioration in employment, income and wealth has a measurable impact on household consumption, saving and borrowing, but also on the servicing of debt and the tendency to meet financial obligations. In the US, there is an average decrease in household spending by $ 1000 per month and a total of 31% between January and April. Not all spending categories were equally affected. By April, households in the United States had significantly reduced transportation, travel, entertainment, clothing, and home-related spending. The reduction in spending on durable consumer goods (eg furniture, home appliances) reached $1,000 on average.

Amid general increased uncertainty, households have reduced their demand for new loans, in contrast to the companies that have significantly increased it. According to recent ECB data, the annual growth rate of loans to households in the Eurozone has reversed its slightly upward trend around February, while that of businesses has more than doubled. A recent study of US household data shows that the lockdown has led households to divert their money to deposits and reduce holdings of stocks and of other risky securities. In addition to these precautionary measures, however, by April US households had significantly reduced current loan repayments, raising concerns about future non-performing loans.

The impact of the lockdown on household expectations and intentions

Lockdowns and the economic crisis have created great pessimism among households, except for one magnitude, inflation. In April, the percentage of people who declared that they expected to lose their jobs by August 2020 was 37% in the US, 32% in the UK and 25% in Germany, despite the much better performance of the latter. Pessimism about individual prospects extends to the overall economy, both in the short and medium term. In the United States, residents of areas under lockdown expect an average increase in the unemployment rate of 13 pp over the next twelve months and of 2.4 pp over a 3-5 year period. An expected rise in unemployment of such magnitude and duration can reasonably encourage households to reduce their demand for consumer goods, as well as discourage those with fewer means from paying their bills and servicing loans, in an effort to achieve liquidity.

A survey in the US asked households to compare the current situation with a hypothetical one, without the virus. Consumers attributed all the recent decline in their income, their spending and their confidence to the pandemic. The pandemic negatively affects everyone's expectations, regardless of gender, age, income, and level of education. It compresses the planned change in consumption by 1.6 pp on average, and only slightly less for non-graduates and lower incomes. The corresponding negative effect on the expected rate of change of income is 1.8 pp, but those with more limited financial literacy tend to be even more pessimistic than others. Being in lockdown reduces the reported possibility of making a big purchase in the next twelve months by 3.5 pp. 

Negative income and wealth shocks have led households in the United States to expect higher debts by the end of 2020 and to plan for more working hours as well as postponement of retirement, while also worrying about whether they will be able to pay current bills and meet other financial obligations. According to a comparative study, the share of households giving such responses is close to half of the population in the United States, more than a third in the UK and slightly under one third in Germany. 

Economists cannot be sure of the impact that the pandemic will ultimately have on inflation, as it affects both supply and demand for goods and services. Household expectations, however, appear to be in a particular direction, albeit with greater uncertainty due to the pandemic. Those living in lockdown states of the United States have 0.5 pp lower inflation expectations for the next twelve months and increased uncertainty about inflation. The tendency of households to expect lower inflation is also confirmed by the markets. The long-term expectations of the private sector for the ability of central banks to achieve their inflation targets, as reflected in financial products, fluctuated considerably in the first months of the crisis, but now converge to completely different levels depending on the region: just under 2% in the US, around 0.8% in the Eurozone, and to slightly negative levels in Japan. It is worth noting that all three central banks seek to achieve the same inflation rate, about 2%. 

We must also not ignore the wider psychological effects of the economic crisis created by covid-19. It is well known that the recent fiscal crisis has led to an increase in suicides in Greece, leading many to speculate that "deaths of despair" are on the rise in an economic crisis. A recent book by Nobel Laureate Angus Deaton with Christina Paxson, however, leads us to much less pessimistic conclusions. Their data show that, in a recession, the overall death rate decreases. Although there are more suicides, they account for only 2% of all deaths, while car accidents, alcohol consumption, air pollution affecting infant mortality, and contact between people who might transmit other diseases or end up in criminal acts is significantly reduced. Also, the increase in deaths due to the coronavirus does not necessarily reflect deaths that would not occur in the next two years in its absence, if there are underlying causes or very old age. Every death is a very sad event, but the economic crisis caused by the pandemic does not contribute to a further overall increase in deaths in the country.

Implications for appropriate measures

The new research results, combined with what was known before, lead to a number of suggestions about public measures to deal with the crisis. A novel goal for individuals, companies and governments should be to develop and promote remote work opportunities in as many fields of activity as possible. These will not only tend to reduce unemployment and the negative impact on income and consumption, but will also prepare countries for developments in the global economy after the end of the pandemic. The ability to work remotely will be a bridge to address the emerging growing trends of countries towards introversion and isolation, given the new realization that international supply chains can be fragile.

In combination with this, a flexible system like Kurzarbeit seems highly effective, mainly for companies that are expected to have a healthy future in the new globalization conditions after the end of the pandemic. On the other hand, for new graduates and workers in areas that will not thrive after the crisis and will have to go through unemployment, unemployment benefits with longer duration will help in job search but also in people’s planning, in line with their now revised expectations of unemployment. Even if higher unemployment does not last as long as households expect, the increased confidence created by the existence of a protective net encourages current consumption and the tendency of households to meet their current debt and other financial obligations. The additional research finding that pessimism is greater in those with more limited financial knowledge deserves to be considered in targeting advice and information around any programs.

The financial resources that will eventually be provided by the European Commission or other sources should be allocated with a view to the new research findings regarding this crisis. In the recent financial crisis, the proceeds from public transfers have been used by households mainly to spend on durable goods, such as furniture and appliances. A new study of the effects of household payments through the CARES program in the US, which uses detailed bank account and credit card data, shows that benefits now tend to be spent mainly on food, but also on non-durable goods, rents and bill payments. Also, this study shows that the level of liquidity of households (their deposits and cash) is crucial for the impact of benefits on consumption. Higher rates of increase in spending are observed among households with lower incomes, higher income losses due to the pandemic, and lower liquidity, while there is no tendency for expenditures to increase among people with significant bank deposits. This provides useful information for targeting such benefits, but also suggests that in countries such as Greece, which are emerging from financial and other crises with their households having reduced liquidity, the positive effects on consumption are expected to be greater than for others.

Also, based on the non-performing loans in Greece, the finding that the benefits in this crisis significantly encourage the payment of loan instalments, rents and bills suggests improved prospects for avoiding future worsening of such problems that affect households and the banking sector.

The tendency of households to reduce their exposure to loans and risky financial securities and to accumulate deposits and cash, documented in this crisis, is a well-known and understandable phenomenon in the study of household behavior. It has to do with the inability of households to control and insure the risk imposed on them by exogenous factors, such as the pandemic. This suggests, however, that measures to guarantee liquidity for households in time of need, which reduce the level of uncertainty, could have a significant impact.

Finally, understanding the negative effects of the pandemic on the distribution of income and wealth is very important and with huge political implications. Historian Walter Scheidel writes that, since antiquity, only four factors have achieved a sustained reduction in inequality: war, revolution, state bankruptcy, and pandemic. The great challenge for a government today, after overcoming epidemiological phenomena, is to deal with the unequal economic impact of the pandemic in a way that inspires confidence in its intentions and capabilities. It is a multi-faceted challenge, as it involves helping those affected, restoring normal economic behavior, avoiding increasing economic pressure on the weakest households and the consequent financial hardship and inability to pay bills and debts, but also creating conditions that discourage the spread of populism, xenophobia and isolationism.