Working Paper: CEPR ID: DP15977
Authors: Andrés Velasco; Roberto Chang; Humberto Martinez
Abstract: The advent of a pandemic is an exogenous shock, but the dynamics of contagion are very much endogenous and depend on choices individuals make in response to incentives. In such an episode, economic policy can make a difference not just by alleviating economic losses but also by providing incentives that affect the trajectory of the pandemic itself. We develop this idea in a dynamic equilibrium model of an economy subject to a pandemic. Just as in conventional SIR models, infection rates depend on how much time people spend at home versus working outsidethe home. But in our model, whether to go out to work is a decision made by individuals who trade off higher pay from working outside the home today versus a higher risk of infection and expected future economic and health-related losses. As a result, pandemic dynamics depend onfactors that have no relevance in conventional models. In particular, expectations and forward-looking behavior are crucial and can result in multiplicity of equilibria with different levels of economic activity, infection, and deaths. The analysis yields novel policy lessons. For example,incentives embedded in a scal package resembling the U.S. CARES Act can result in two waves of infection.
Keywords: pandemic; contagion; dynamics; incentives; economic policy
JEL Codes: I18; H12; D91
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| economic policy (E60) | infection rates (I14) |
| unemployment benefits increase (J65) | individuals stay home (J26) |
| individuals staying home (D13) | reduction in infection rates (I14) |
| expiration of unemployment benefits (J65) | individuals return to work (J22) |
| individuals returning to work (J22) | second wave of infections (F44) |
| risk aversion increases (D81) | individuals spend more time at home (D13) |
| individuals spending more time at home (D13) | reduction in infection rates (I14) |