Working Paper: CEPR ID: DP14607
Authors: Dirk Krueger; Harald Uhlig; Taojun Xie
Abstract: In this paper, we argue that endogenous shifts in private consumption behavior across sectors of the economy can act as a potent mitigation mechanism during an epidemic or when the economy is re-opened after a temporary lockdown. We introduce a SIR epidemiological model into a neoclassical production economy in which goods are distinguished by the degree to which they can be consumed at home rather than in a social, possibly contagious context. We demonstrate within the model, that the “Swedish solution” of letting the epidemic play out without much government intervention and allowing agents to reduce their overall consumption as well as shift their consumption behaviortowards relatively safe sectors can lead to substantial mitigation of the economic and human costs of the COVID-19 crisis. We argue that significant seasonal variation in the infection risk is needed to account for the two-wave nature of the pandemic. We estimate the model on Swedish health data and show that it predicts the dynamics of weekly deaths, aggregate as well as sectoral consumption, that accord well with the empirical record and the two-waves for Sweden for 2020 and early 2021. We also characterize the allocation a social planner would choose and how it would dictate sectoral consumption patterns. In so doing, we demonstrate that the laissez-faire outcome with sectoral reallocation mitigates the economic and health crisis but possibly at the expense of unnecessary deaths and too massive a decline in economic activity.
Keywords: epidemic; coronavirus; macroeconomics; sectoral substitution
JEL Codes: E52; E30
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| endogenous shifts in private consumption behavior (D12) | mitigation of economic and human costs of the COVID-19 crisis (H12) |
| awareness of infection risks (I14) | increase in consumption of safer goods (D18) |
| increase in consumption of safer goods (D18) | reduction in overall consumption in high-risk sectors (E21) |
| self-preservation motivation (F52) | reallocation of consumption towards less contagious economic activities (E20) |
| reallocation of consumption towards less contagious economic activities (E20) | reduction in the spread of the virus (I14) |
| laissez-faire approach (P10) | mitigation of economic downturns (E69) |
| absence of coordinated government intervention (P11) | unnecessary deaths (I12) |
| seasonal variation in infection risk (F44) | explanation of two-wave pattern of the pandemic (E32) |
| absence of sectoral reallocation (F16) | collapse of consumption by about 23% (E20) |
| sectoral reallocation (J69) | decline in aggregate consumption by approximately 10% during the pandemic (E20) |