While it is too early to say how the disruptions caused by the COVID-19 pandemic will ultimately affect emerging market economies (EMs), experience with previous financial crises suggests they can lead to prolonged stagnation. The pandemic adds a layer of formidable challenges that will prolong the recovery further. EMs responded to the pandemic by allowing their currencies to depreciate and easing monetary policy, as they did during the Global Financial Crisis (GFC). Some EM central banks went further, starting new long-term asset purchase programs. Going forward, responding to COVID will require a very large and sustained fiscal expansion. While international coordination and cooperation coalesce to strengthen the international financial safety net permanently, EMs with well-anchored inflation expectations should continue to expand their policy toolkit by embracing the use of the unconventional monetary policies enacted in advanced economies since the GFC. EMs have been left to fend for themselves as capital flew from their markets, and the pandemic infected their economies. They should not fight this new crisis with only old tools.
Financial Markets Group Special Papers SP 258