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Fiscal Policy in the Age of COVID-19: Does It “Get in All of the Cracks”?

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The COVID-19 pandemic caused an uncommon recession that required uniquely large and often novel fiscal responses. Government-imposed lockdowns created severe supply bottlenecks in some sectors of the economy, and physical distancing led to dramatic changes in patterns of consumer spending. Some sectors of the economy—such as online retail—benefited, while many others—such as restaurants and travel—struggled to deal with losses of customers and the constraints of lockdowns and remote work. In reaction to this, many governments quickly implemented large fiscal support packages for households and firms.

In this paper, we investigate whether fiscal policy was able to protect firms from failure and stimulate activity in sectors of the economy with slack. We apply two frameworks to the separate questions of (i) did fiscal policy appropriately support firms and (ii) did fiscal policy support economic activity globally? For our first framework, we use firm-level balance-sheet data and a structural model to estimate how firms’ cash flow evolved during the pandemic. In our second framework, we model the global production network using data on 65 countries and 35 sectors. We then investigate to what extent global fiscal stimulus helped countries and their neighbours stimulate economic activity in response to the pandemic.

We find that without any support, an additional 9% of firms would have failed in 2020, but government support to firms lowered that to 4.3%. In advanced economies, support was sufficiently large that failure rates were 0.47% below a typical year, whereas in emerging-market economies (EMEs), which implemented smaller fiscal packages, an additional 9.28% of firms failed even with fiscal support. At the macro level, we find that 70% of sectors in the global economy face supply bottlenecks created by the pandemic and as such, cannot be stimulated with fiscal policy. Nonetheless, fiscal policy was able to redirect spending to the remaining sectors of the economy and eliminated slack in 10% of the economy. We find that fiscal spillovers between countries are small, which suggests that continued fiscal support in advanced economies poses headwinds to EMEs as global rates and risk premiums rise.