Conference sponsored by:

Center for Biosecurity of UPMC

Deutsche Bank

The Contingency Planning Exchange

The Economic Consequences of Epidemics
Robert Shapiro, Former U.S. Under Secretary of Commerce for Economic Affairs

Speaker biography  |  Video

Now, let's start by clarifying the economic nature of a pandemic. Pandemics are not economic phenomena in themselves, [rather, they are] genuine exogenous, natural events. The fact that pandemics do not arise from within the economy means that we can't start with standard economic logic. Instead, we should look at other exogenous shocks and, to my mind, the closest analogous event to a pandemic is a terrorist attack, especially a bioterrorist one.

The analogy is not only close but particularly useful, because terrorists have inflicted enough damage in enough places, over a long enough period of time, for economists to evaluate how this particular kind of shock actually affects economies.

Without going into more detail than we need today, all the research has shown that when terrorism is occasional and localized, its economic impact is very modest. To have real economic effects on growth or development, terrorism has to be both pervasive across a society and protracted in time.

In a large country and diverse economy like ours, that's difficult to achieve. Even a huge, single terrorist strike is just a blip. It's clear, for example, that the 9/11 attacks did not move the overall U.S. economy. Actually, both consumer spending and investment accelerated in the quarter immediately following the attack -- October, November, and December of 2001 -- producing the strongest quarter for growth for nearly two years in either direction.

Other exogenous shocks also can provide some perspective. For example, bouts of bad weather and natural disasters have produced much greater losses, especially in human terms, than any terrorist attack seen thus far, without derailing large, modern economies. An example might be the 1988 U.S. heat wave, which took the lives of more than 5,000 Americans, or the 1999 earthquake in Izmit, Turkey that killed 17,000 people. Nor will Hurricane Katrina change the basic course of the current economy.

In a few places, terrorism has been both genuinely pervasive and protracted -- principally in Columbia, Northern Ireland, the Basque region of Spain, and Israel. Those are the cases in which economists have found significant economic effects, especially regarding investment. Studies have shown, for example, that investment in the Basque region was about 10% lower than it would have been, had there not been terrorism sustained by Basque separatists.

Foreign direct investment is particularly sensitive to long struggles with terrorists. So, protracted terrorism is thought to have reduced FDI in the 1980's by more than 13% in Spain and by 12% in Greece, where the November 17th terrorist movement was active at the time.

Evidence shows that pervasive and protracted terrorism -- that is, pervasive and protracted exogenous shocks -- also stunted the development of Northern Ireland, distorted the path of development in Columbia, and shifted the course of development in Israel.

All of these examples are small countries in which no place seemed safe from attack, and small economies depended on foreign capital.

By contrast, the economic effects of terrorist acts in much larger economies, without exception, have been highly localized and distributional -- shifting investment from industries in places thought to be particularly vulnerable to safer sectors in safer places, with little net effect on overall economic activity. The 9-11 World Trade Center attacks dealt a blow to the economy of Lower Manhattan, but not to Boston and Chicago -- and even in Manhattan the impact was concentrated downtown.

Similarly, 9/11 set back a handful of industries, principally airlines, hotels, and insurance. But investment and demand shifted to other industries, especially interest-sensitive sectors following the Fed's easing to calm the first 9/11 markets, and that's why we saw an acceleration in consumer spending and investment in the quarter following the attacks.

These general patterns are what economists should expect in the event of a pandemic. Large advanced economies shrug off exogenous shocks, provided they don't have pervasive and protracted effects. This is because such economies are big and because their markets reallocate capital and jobs to where they can be used relatively more safely and therefore productively.

What can derail an economy like ours are shocks that strike all our markets and don't go away -- as when OPEC tripled energy prices. By contrast, small countries in the forefront of a new pandemic, especially those dependent on foreign capital, will prove very vulnerable economically.

Let's apply this perspective to what we know about an avian flu pandemic. We should begin by acknowledging that we don't know enough to be truly certain about almost anything in this area, even as we accept the judgment of almost all scientists that the current avian virus will almost certainly mutate to a form that's communicable among humans.

No one can say yet just how communicable that mutation will be, so we don't know precisely how fast it will spread, or how much of the population might get it. Moreover, no one can say how lethal the mutation will be. The current virus, as we've heard, is very lethal but it's also non-communicable from human-to-human, so we don't know what a strain that is highly communicable will look like. The evidence, however, certainly suggests that it may be very lethal. These uncertainties are the principal reasons why recent estimates of the death toll from a global avian flu pandemic range from one million to 50 million.

We can get some additional perspective on those estimates by looking at how deadly other infectious diseases are already. For example, 39 million people worldwide are infected with HIV, and nearly 3 million die of them every year. Another 8.8 million are infected with TB, which kills 2 million people a year. Five million more have malaria, killing about 1 million a year. Perhaps most to the point, influenza infects tens of millions of people every year and kills some 1 to 1.5 million annually.

In all of these cases, we see significant economic effects from these illnesses and deaths only in small, poor countries, especially in sub-Saharan Africa.

One frightening scenario for an avian flu epidemic assumes that it will be as infectious and lethal -- more lethal actually -- than the Spanish influenza epidemic of 1918-1919, despite advances in public health, medicine, and nutrition in the intervening 90 years. The 1918-1919 pandemic infected about one in four Americans and killed about 2.5% of those infected. The result was 675,000 American deaths in a population of 105 million.

If the same numbers occurred in an avian flu pandemic today, it would kill nearly 2 million Americans. Most estimates of American deaths from such a pandemic, however, range from 50,000 to 500,000. At the lower end, that would raise the current U.S. death rate from 8.25 per 1,000 to 8.42 per 1,000; at the upper end, it would rise from 8.25 to 9.92. The point here is that only in a replay of the 1918-1919 pandemic, with 2 million dead, does the avian flu substantially change the U.S. death rate. In the event of a less serious pandemic, the change is modest from an economic perspective.

What these data suggest is that, in all but the worst case scenario, avian flu would not by itself cause pervasive and protracted effects on the U.S. macro-economy. Businesses will not stop investing, and most people won't stop spending, although the composition of both would likely change. That is, in most scenarios for avian flu, we are likely to see what we have already seen in cases of terrorism -- distributional rather than macroeconomic effects, reflecting both the size of our economy and its advanced markets.

Countries that don't have those advantages will be more seriously affected. Looking around the world, the economic impact of a serious pandemic would depend on the economy's size (the bigger the better); its market structure (the less regulation of capital and labor markets, the better); and finally, the extent of the disease's spread.

Most experts predict that a communicable strain of avian flu will begin in Asia, because that's where pigs and poultry are raised in both great quantity and close proximity, as we heard from Dr. Webster.

The first significant economic effect could well be a serious blow to Asian poultry and pig sectors that would set back the economies in Viet Nam and Thailand, and possibly Korea and Taiwan. Back home, that would be bad news for American banks and funds invested in those markets. The United States, Brazil, and the EU are the world's largest poultry exporters, and the spread of an avain flu strain from chickens to humans would put significant dents in their businesses, too, if only by driving down prices.

But even if everyone shuns chicken and pork, everyone still has to eat. So such a pandemic could also boost the fishing and beef industries, a clear example of the kind of distributional effects you typically see arising from large, exogenous shocks.

We can also imagine some of the secondary effects. If a serious epidemic flu breaks out in smaller Asian countries and stalls out their economies, it could certainly affect commodity prices. Any significant impact on global commodity prices, however, would probably require a pandemic crisis in China as well -- and one much more widespread than SARS, since China still grew 9.1% in the four quarters immediately following that outbreak.

In themselves, falling commodity prices would probably be a plus for the American economy, although the slowdown in Asia required to produce them would also depress U.S. exports. Here again, the overall economic impact is largely distributional, with gains going to sectors that use the depressed commodities, against the hit to the export industries.

A significant slowdown in China's growth rate also could reduce their capacity to continue buying U.S. treasuries, putting some upward pressure on U.S. interest rates -- but a flight to quality in global capital markets and the inevitable Fed action would likely offset this effect by reducing U.S. interest rates. In fact, that's just what happened during the Asian financial crisis.

The greatest adverse effects in the United States could well arise from the political responses to a new flu pandemic. We got a glimpse of this in a recent war game exercise, called Atlantic Storm, that posited the simultaneous release of smallpox in multiple places in both America and Europe.

The United States and most other major countries have actually stockpiled smallpox vaccine, so the greatest economic damage in that scenario arose not from the smallpox itself, but from political authorities at state, local, and national levels responding by closing their borders and grounding aircraft.

Here, too, shutting down the transport of people and goods in affected areas and everywhere else could produce a more systematic effect -- as if the flu were pervasive, whether or not it actually was yet. If this response were short-lived, the macroeconomic effects would be manageable, probably shifting consumption and investment a few months down the line. But if the shutdown persisted -- for example, if the pandemic came in waves, as it did with the 1918-1919 flu, and with no effective treatments -- then you could have the combination of effects that produces large, economic consequences. The exogenous shock would become both pervasive and protracted.

There's another cost that could be quite considerable, even though it's very hard to measure or estimate. Research has shown that when it comes to assessing the risks associated with terrorism, people tend to predict worst-case scenarios while neglecting their low probability. The same may hold true for a pandemic. Certainly any serious outbreak of a communicable form of avian flu would produce enormous public anxiety, which could induce a lot of people to flee the affected areas or stay inside their homes.

At a minimum, avian flu outbreaks will convince many people to avoid public places where people congregate -- a blow for movie theaters, restaurants, hotels, and tourism generally, with airlines taking their inevitable hit. Past evidence suggests strongly, however, that most people will still go to work -- unless and until a deadly strain rages through the area. Should that happen, it could certainly freeze the labor force.

By definition, a pandemic is in some sense pervasive. Precisely how pervasive, in the sense we've been using it here, will depend on the mutated strain's communicability and lethality. And whether or not an avian flu pandemic follows most exogenous shocks and has relatively modest overall effects on the American and global economies will also depend on how protracted it is.

We cannot control the emergence of a killer strain of avian flu. We may well be able to affect how protracted the resulting pandemic is. The National Institutes of Health have modeled virus responses to an avian flu outbreak and believe that 3 million doses of an antiviral such as Tamiflu could stop a global pandemic under three specific conditions: if the outbreak is caught very quickly; if treatments are quickly targeted to everyone initially infected or in their vicinity; and if schools and workplaces are closed in the areas where the flu first emerges.

The WHO will have 1 million doses by this December and 3 million by early summer of next year. It has also asked its members for $250 million to expand its monitoring and rapid response capacities. Here in the United States, the administration has announced plans to buy 20 million doses of antivirals, although following its recent spectacular failures, that plan doesn't inspire much confidence. I think those failures have to be taken seriously.

I was distressed to hear today, for example, that the U.S. government's plans for a quarantine and other rapid responses to avian flu will be released in a few weeks. Where has the administration been for the past 3 years? Why don't those plans already exist? Why aren't they in place? The administration would be well advised to quickly fund the WHO proposal.

These are opportunities that are not available in the case of bioterrorism. In bioterrorism, advanced planning can only be generic. In this case, the advanced planning can be very specific and very targeted -- especially for the worst case scenarios. Such scenarios may be unlikely to come about; but they do sometimes happen when a number of special conditions come together.

In this case, the likelihood of a worst-case scenario is certainly real. The steps required to move that likelihood out another decimal point would involve planning very modest public investments for a country like the United States and other advanced nations. We should insist upon those investments.

Much of what I've said today about how exogenous shocks affect the economy assumes that we behave rationally. Here, it assumes that we take that steps which are available to us, which the scientists have determined are prudent, and for which we have a large public infrastructure to carry them out. If we don't and the United States suffers a pervasive and protracted shock, it could shift the course of our economy.

So, if a highly lethal and highly communicable avian flu pandemic comes, and if it's not caught quickly, and it's not treated quickly, the lessons of other exogenous shocks will apply. First, the smaller the economy, the more it depends on foreign investment, and the more regulated its markets are, the greater its economic impact.

And second, in large, advanced economies like ours -- and especially ours -- the economic effects should be largely distributional. But if we do not take the steps which we know we can and know we should, the effects, in time, will also be macroeconomic.

Thank you.

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