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The Wealth and Health of Nations

The COVID-19 outbreak's implications for the global economy are highly uncertain but potentially disastrous. To understand the risks, one should remember Adam Smith's insight about the true engine of wealth creation, the division of labor, which itself is dependent on the size and extent of markets.

NEW YORK – COVID-19’s implications for the global economy are highly uncertain but potentially disastrous. As of March 5, the World Health Organization had identified 85 countries and territories with active COVID-19 cases – an increase from 50 countries the previous week. More than 100,000 cases and 3,800 deaths have been reported worldwide, and these figures almost certainly understate the scale and scope of the outbreak.

To understand how the epidemic could cause a global recession (or worse), one need only Adam Smith’s Wealth of Nations, Book I, Chapter Three: “That the Division of Labour is Limited by the Extent of the Market.” It is already clear that the pandemic could cause a negative supply shock if the amount of available labor were to decline rapidly because working-age people have fallen ill (or died) from the disease. Worse, unchecked fear of the contagion could lead to the suspension of critical supply chains. The media are already paying plenty of attention to cross-border supply chains involving China, South Korea, and other frontline countries; but, with links to firms all over the world, these hubs represent just the tip of the iceberg.

Moreover, domestic supply chains are just as vulnerable. As the coronavirus spreads, a larger number of links between buyers and sellers – intermediate and final – will be disrupted. More to the point, “the extent of markets” will shrink, and the gains from the division of labor – one of the main drivers of the “wealth of nations” – will steadily be curtailed, because more resources will be needed to produce domestically what was previously imported more cheaply from elsewhere. A return to subsistence production or autarky, even if it is only temporary, would be immensely damaging economically.

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