THE EFFECT OF COVID-19 PANDEMIC ON MACROECONOMIC STABILITY IN ETHIOPIA
Authors: Demiessie Habtamu 
Published: August 2020

<div>This study investigated the impact of COVID-19 pandemic uncertainty shock on the macroeconomic stability in Ethiopia in the short run period. The World Pandemic Uncertainty Index (WPUI) was used a proxy variable to measure COVID-19 Uncertainty shock effect. The pandemic effect on core macroeconomic variables like investment, employment, prices (both food & non food prices), import, export and fiscal policy indicators was estimated and forecasted using Dynamic Stochastic General Equilibrium (DSGE) Model. The role of fiscal policy in mitigating the shock effect of coronavirus pandemic on macroeconomic stability is also investigated. <br></div><div>The finding of the study reveals that the COVID-19 impact lasts at least three years to shake the economy of Ethiopia. Given that the Ethiopian economy heavily relies on import to supply the bulk of its consumption and investment goods, COVID-19 uncertainty effect starts as supply chain shock, whose effect transmitted into the domestic economy via international trade channel. The pandemic uncertainty shock effect is also expected to quickly transcend to destabilize the economy via aggregate demand, food & non food prices, investment, employment and export shocks.</div><div>The VAR estimate indicates that COVID-19 uncertainty shock results a massive rise in import in the six months following the outbreak of the pandemic. The finding in this regard is expected, as the pandemic triggers massive demand in food and pharmaceuticals, for which Ethiopia is import dependent on both items. In the next two years, however, the import bill of Ethiopia shows a decline. Reduction in aggregate demand (both consumption & investment expenditures) is one explanation for decline in import size in 2013 and 2014 E.C.</div><div>The price dynamics as forecasted in the upcoming three years in Ethiopia tells the direction of impacts of COVID-19 uncertainty shock to shake the macroeconomic order. The findings in this regard revealed the structural breakups of Ethiopian economy, characterized by its inability to withstand shocks. As signaled in forecasted price dynamics on both food and non food price indices, COVID-19 was a supply shock in its first time impact, but quickly transpasses to demand shock. And in the next few years the demand shock outweighs the supply shock. </div><div>The results of estimations indicate that food prices to sky rocketed at least until the end of 2014 E.C (2021/22 E.F.Y). On the other hand, except communication & hotel & restaurant prices, other components of non food price indices show a slump. The decline in non food price level is a clear showcase of under consumption characterizes the economic order in Ethiopia in the coming three years. </div><div>COVID-19 uncertainty shock puts huge loss in the investment sector in Ethiopia at least in the coming two years 2013 and 2014 E.C (2020/21-2021/22). In this regard, the pandemic effect transmitted to shake investment expenditure via the length of the pandemic period itself and export performances, both of which are exogenous shocks. </div><div>The study identified that general under consumption features the Ethiopian economy in the next couple of years. Therefore, the government is expected to enact incentives/policy directions which can boost business confidence. A managed expansionary fiscal policy is found to be key to promote investment, employment and to stabilize food & non-food prices. A particular role of fiscal policy was identified to stabilizing food, transport and communication prices. More importantly, price stabilization policies of the government can have spillover effects in boosting aggregate demand by spurring investments (and widening employment opportunities) in transport/logistics, hotel & restaurant, culture & tourism and export sectors in particular. </div><div><br></div>