Service sector

Consumption and demand in the service sector played a key role in the collapse of global COVID-19 trade

Consumption and demand in the service sector played a key role in the collapse of global COVID-19 trade

The global economy and global trade flows have been hit hard by the COVID-19 crisis (Baldwin 2020, Liu et al. 2021). The trade collapse in Q2 2020 was even more severe than during the trough of the global crisis in 2009. However, given the substantial decline in GDP in most countries during the COVID-19 crisis, the contraction relative trade seems moderate. in relation to the global crisis. During the global crisis, the combined volume of GDP of OECD countries contracted by around 5% and the combined volume of imports of goods and services by 17% from peak to trough (Figure 1). The corresponding figures for the COVID-19 crisis were -12% and -20% respectively. Trade has also recovered rapidly from the low in the second quarter of 2020. Pre-crisis levels had almost returned by the end of the year.

Figure 1 Annual change in GDP and quarterly imports in OECD countries (%)

Source: OECD.

To shed light on the potential factors that may explain this development, I examine the role of demand-side factors in the COVID-19 trade collapse and the global crisis (Simola 2021). COVID-19 has caused a trade shock on the supply and demand side (Baldwin 2020), but the importance of demand factors has been highlighted by, for example, Liu et al. (2021). In my analysis, demand factors include the elasticity of demand for imports, the pattern of spending changes, and the role of demand from the service sector. The analysis is based on a traditional import regression, in which the change in the volume of imports of goods and services is explained by a measure of demand and import prices adjusted for import intensity. The measure of demand adjusted for import intensity developed by Bussière et al. (2013) takes into account the variable share of imports in the different components of demand and thus follows the evolution of import demand more precisely than GDP.

The regression of imports is estimated for 40 advanced and emerging economies using quarterly data from the first quarter of 1995 to the fourth quarter of 2020. The results of the estimate are applied to examine and compare trade collapses and subsequent recoveries in 2009 and 2020, focusing on the role of spending changes in explaining the evolution of trade during crises. To take into account the role of service sector demand in the trade collapse, a new measure of demand adjusted for import intensity is constructed similarly for the demand of major production sectors (agriculture , industry other than manufacturing, manufacturing, construction and services). .

Demand factors played an important role in the COVID-19 trade collapse

A simple explanation for the relatively moderate collapse in trade could be a decline in the elasticity of global demand for trade after the global crisis. However, we cannot find support for this hypothesis for either advanced or emerging economies. This is in line with the results of several previous studies (e.g. Aslam et al. 2018, Auboin and Borino 2017) concluding that the elasticity of demand has not decreased over the past decades, although there are also contradictory results (Constatinescu et al. 2020). ).

Another factor behind the relatively more moderate collapse in trade may lie in the pattern of changes in demand. The literature suggests that compositional effects associated with changes in final spending explain most of the contraction in trade during the global crisis (Baldwin 2009, Bems et al. 2013). Our results imply that demand factors indeed played a key role also in the trade collapse induced by COVID-19. Demand adjusted for import intensity explained an even larger share of the import contraction than during the global crisis.

There are many variations between countries with regard to the importance of components contributing to the decline in imports induced by COVID-19. In most countries the decline was clearly due to consumption (e.g. Chile and UK), but in several countries it was also due to exports (e.g. Korea and Hungary). The contribution of components of domestic demand, especially consumption, is higher on average in emerging economies. As a result, the contribution of export demand is larger on average in advanced economies. This could reflect massive public sector support measures, especially in advanced economies, to stimulate domestic demand.

The relatively small sample size of 40 countries makes a more detailed statistical analysis on the collapse difficult, but we can make some indicative comparisons. The decline in imports appears to have been more strongly driven by consumption in countries that have imposed stricter restrictive measures to contain COVID-19. In addition, stronger government support measures could be associated with an investment-induced drop in imports.

Consumption and demand in the service sector made a historically significant contribution to the COVID-19 trade collapse

The compositional effect of changes in demand, however, was very different during the COVID-19 crisis and the global crisis. In most countries, the trade collapse in 2020 was caused by a drop in demand for imports for consumption, while in 2009 it was much more strongly associated with a drop in demand for imports. for investment (Chart 2). The breakdown of the total demand effect shows that in 2020 the average contribution of consumer demand to the import collapse was 38%, whereas it was only 6% in 2009. On the other hand, the contribution of investment demand was 25% in 2020 against 55% in 2009. Consumption is generally less intensive in imports than investment. Thus, the relatively more moderate contraction in imports during the COVID-19 crisis is consistent with the decline in demand once adjusted for import intensity.

Figure 2 Average contributions of demand components to declining imports in Q1 2009 and Q2 2020

To note: Shares represent (unweighted) averages calculated across sample countries and normalized to total up to 100.
Source: Simola (2021).

The picture of the COVID-19 trade collapse can be supplemented by an analysis of the effects of demand components resulting from the production structure of the economy. Final demand in the manufacturing and primary sectors is generally more strongly oriented towards imports than final demand in the services and construction sector. The current crisis has particularly affected the service sector with the strict restrictions imposed, for example, on the assembly and movement of people. This could also be reflected in the more moderate contraction in trade than in GDP, as demand from the service sector is less import intensive. To examine this question, we apply an import intensity-adjusted demand measure that takes into account the import intensity of the main production sectors (agriculture, industry other than manufacturing, manufacturing, construction and services).

The decomposition of the decline in imports during the crisis into sector contributions again shows interesting differences between the COVID-19 crisis and the global crisis. Although the manufacturing sector accounted for the majority (58%) of the decline in imports in 2020, the service sector also made a significant contribution of 34% (Figure 3). However, the contribution of the manufacturing sector was still significantly higher (85%) in the import collapse of 2009, while the role of the service sector was consequently much smaller, at 11%.

figure 3 Average contributions of aggregate demand in the production sector to declining imports in Q1 2009 and Q2 2020

To note: Shares represent (unweighted) averages calculated across sample countries and normalized to total up to 100.
Source: Simola (2021).

Conclusion

While the trade collapse during the COVID-19 crisis was staggering in magnitude, in relative terms it was milder than during the global crisis. The simplest explanation – a decrease in the elasticity of demand for trade – does not seem to be the most adequate. Instead, the composition effects of demand have also been a key factor in the COVID-19 crisis, as during the global crisis. The contribution of consumer and service sector demand to the trade collapse was significantly larger in 2020 than in 2009. Consumption and services are less import intensive than investment or manufacturing. . Thus, the relatively more moderate contraction in trade during the COVID-19 crisis than during the global crisis may reflect changes in the composition of demand. Global trade has also recovered much faster from the COVID-19 crisis than from the global crisis, supported by the massive fiscal and monetary policy measures that were quickly introduced around the world. The results indicate that these policy measures helped, for example, to prevent such a collapse in investment demand as seen during the global crisis.

The references

Aslam, A, E Boz, E Cerutti, M Poplawski-Ribeiro and P Topalova (2018), “The global trade slowdown: a symptom of a weak recovery? ” IMF Economic Review 66 (3): 440-479.

Auboin, M and F Borino (2017), “The Falling Elasticity of Global Trade to Economic Activity: Testing the Demand Channel”, WTO Working Paper ERSD-2017-09.

Baldwin, R. (2020), “The Greater Trade Collapse of 2020: Learning from the 2008-09 Great Trade Collapse”, VoxEU.org, April 7, 2020.

Baldwin, R, ed. (2009), The Great Trade Collapse: Causes, Consequences and Prospects, A VoxEU eBook, November 27.

Bems, R, RC Johnson and KM Yi (2011), “Vertical Links and the Collapse of World Trade”, American Economic Review 101 (3): 308-312.

Bussiere, M, G Callegari, F Ghironi, G Sestieri and N Yamano (2013), “Estimating Trade Elasticities: Demand Composition and the Trade Collapse of 2008-2009”, American Economic Journal: Macroeconomics 5 (3): 118–51.

Constantinescu, C, A Mattoo and M Ruta (2020), “The Global Trade Slowdown: Cyclical or Structural? ” World Bank Economic Review 34 (1): 121–142.

Liu, X, E Ornelas and H Shi (2021), “The 2020 Trade Impact of the Covid-19 Pandemic”, VoxEU.org, June 9.

Simola, H. (2021), “Trade Collapse during the COVID-19 Crisis and the Role of Demand Composition”, BOFIT Discussion Paper 12/2021.