Long-Run Belief-Scarring Effects of COVID-19 in a Global Economy

Abstract

While COVID-19 lockdown measures disrupt production worldwide, they also shock workers' perceptions and beliefs about the economy and may hence have long-lasting effects after the pandemic. We study a belief-scarring mechanism in the context of labor markets and embed this mechanism into a multi-country, multi-sector Ricardian trade model with input-output linkages. Our quantitative analysis indicates that pandemic shocks leave persistent and substantial belief-driven negative impacts on the post-COVID economy. We find that international trade (without sectoral input-output linkages) worsens the post-COVID economic losses due to a labor-misallocation effect when workers misconceive comparative advantages, whereas input-output linkages dampen such losses. When allowing both trade and input-output linkages, a third and negative effect emerges because the presence of the global supply chain amplifies the stake of efficient allocation according to true comparative advantages and hence makes information friction even more costly. Thus, trade, with input-output linkages, exacerbates the post-COVID losses for the globe as a whole.

Keywords: pandemic, COVID-19, Bayesian learning, belief-scarring effect, International trade, sectoral input-output linkages, labor misallocation