VoxEU Column COVID-19 Macroeconomic policy

The economics of wage compensation and corona loans: Why and how the state should bear most of the economic cost of the COVID lockdown

Due to COVID-19, large parts of the world economy are being put on hold by government fiat. We argue that – on efficiency as well as equity grounds – the state should generously support not only labour but also capital costs, the latter through ex ante partially reimbursable, rapidly disbursed ‘corona loans’. The exact criteria for reimbursement can be determined ex post – depending primarily on the sector-level severity of lockdown-induced income shortfalls. 

Around the world, our economic engine is being artificially throttled in the face of the rapidly spreading coronavirus. In order to save lives, we are temporarily giving up consumption and leisure activities, and many of us are condemned to economic inactivity for an uncertain period of time. 

This temporary state of economic coma causes enormous private economic costs. Sales have collapsed in many industries, and the most affected companies are running short of money to pay wages and other fixed costs. The challenge is to avoid that stopping the virus from spreading leads to an unnecessarily severe recession – bankruptcies can be infectious too!

There is broad agreement among economists that the looming payment shortfalls can and should be prevented. Take, for example, the analyses in the recent eBooks edited by Baldwin and Weder di Mauro (2020a, 2020b), as well as the Vox column by Fornaro and Wolf (2020). Almost daily, calls for action are published around the world requesting ever larger public relief packages.

What is sometimes forgotten in this debate, however, is the question of why and to what extent it is up to the state to intervene, and how to distribute the money most intelligently so that incentives and externalities are adequately taken into account. The speed and the strength of the post-crisis recovery will depend first and foremost on the effort and creativity of individuals and entrepreneurs, and it is thus critical to introduce policy schemes that will not only facilitate but also incentivise those efforts. We thus focus on first principles: how to internalise externalities and how to get incentives right when designing public help.

An important normative principle here is that no one is to blame for the outbreak of the epidemic and the economic burden should therefore be shared as widely as possible. The logic is similar to that of buildings insurance: compulsory premiums paid by all property owners insure against negative exogenous events which affect some more than others, through no fault of the victims. The usually paramount principle of personal responsibility is therefore, exceptionally, less relevant here. One cannot expect most companies to have insured themselves against such a once-in-a-century event. (This is only the third time that Olympic Games cannot be held, and the first time not because of a world war!)

Compensation of coronavirus costs through the public purse: Efficient and fair

Governments are now called on to cover COVID-induced income shortfalls of the companies that are forced to halt or severely reduce their activity and to push their workers into idleness. Governments around the world have done the right thing by responding to these calls, for efficiency as well as equity reasons. 

Public compensation of private-sector coronavirus costs is efficient for a number of reasons. In the current situation, state aid is largely free of the usual adverse incentive effects: the epidemic is spreading independently of economic policy. Moreover, a wave of bankruptcies risks slowing down the post-crisis economic recovery. There is thus a negative externality (strain on aggregate recovery and growth) of entrepreneurial decisions (individual bankruptcies) – a textbook example of a situation that calls for corrective public policy. Moreover, it is important to preserve not only productive capacity but also aggregate demand for after the lockdown. Consumers and firms burdened by debt are less likely to spend during the recovery. Finally, in many countries with moderate debt-to-GDP ratios, public borrowers enjoy better credit conditions on international capital markets than private borrowers. A debt burden pooled with the state is thus – at least in these cases – cheaper for a nation as a whole.

From an equity perspective, too, much speaks in favour of a strong commitment by the public purse. To the extent that companies and individuals are left to fend for themselves during the lockdown, those whose livelihoods depend on exposed sectors and who have little financial reserves and savings will be hit particularly hard. However, the industries mainly affected by the corona lockdown – hotels and restaurants, personal services, non-food retail, private media, etc. – are no more or less to blame for the crisis than the industries less affected, such as the public sector or agriculture. Why should the lockdown costs be borne by companies that are exposed through no fault of their own to an essentially uninsurable risk? Compensation by the state also has the advantage that it places the financial burden with society as a whole, via a cost allocation key called the tax system – transparent and shaped through the democratic decision-making process. If we are serious about broad burden-sharing, then the state is the obviously appropriate source of funding.

Why the public purse should not cover 100% of corona costs

While the state should bear the bulk of the coronavirus costs for workers and firms, we do not advocate 100% compensation. The main reason for this is that even in the current exceptional situation, certain moral hazard problems remain. For example, full wage replacement would eliminate the financial incentive to look for jobs in sectors that are expanding during the lockdown, for example in health care or logistics. Companies that could open up new areas of activity during the COVID crisis – think of restaurants that could offer home deliveries – would likewise have little incentive to do so. And, looking ahead to when the lockdown will be gradually eased, workers able and allowed to return to work should have an incentive to do so, while their quarantined peers should continue to receive financial support.

The loss of wages caused by the lockdown also means more (albeit constrained) leisure time and cost savings (e.g. for external childcare), which can justify a certain reduction in income. The short-time work schemes of some European countries including Germany, Austria and Switzerland permit a well targeted form of support: those who are prevented from working by the lockdown receive up to 80% of their normal wage in the form of unemployment compensation while remaining under contract with their employer. This implies that public funds are targeted at helping involuntarily idle workers through the crisis (and not those still receiving a salary), while leaving them in a position to pick up tools again as soon as the lockdown is lifted.

Financial aid for capital costs is still insufficient

Unlike actions taken by most countries to bridge wage outlays, policy responses with regard to capital costs (rent, maintenance costs, storage costs, depreciation, interest, etc.) are much more limited. Fixed non-wage outlays can account for significant shares of the costs of small and medium-sized companies.   So far, around the globe, only repayable loans have been made available for this purpose.  The implicit public compensation here is therefore very close to zero. This is neither efficient nor fair.

The inefficiency of a pure loan policy is due to the fact that a repayable loan equivalent to several weeks' or even months' turnover is likely to be a major burden for many firms. Companies with tight margins and thin capital cushions may well be forced to file for bankruptcy in the face of such a debt burden. This phenomenon would affect an increasing number of companies as the lockdown drags on. In view of the high external costs of a wave of bankruptcies, zero compensation of the cost of capital is therefore inefficient from a macroeconomic perspective.

Pure loan policies can also be questioned from an equity perspective: Why should the owners of affected companies have to bear the loss of income themselves? They are no more or less to blame for the crisis than owners of businesses that happen not to be affected by this uninsurable once-in-a-century event (e.g. food retailers or certain IT companies). The insurance logic outlined above therefore also applies not only to labour but also to capital.

Corona loans

What might a practicable solution look like? Again, efficiency considerations do not speak in favour of 100% public compensation of revenue shortfalls due to the crisis. Companies that still have a certain sales potential during the lockdown should not have an incentive to halt all activity and rely fully on state support. In addition, companies that are already ailing should not be kept afloat artificially.

An efficient and fair compensation of capital costs of affected companies should therefore be in the same percentage range as the wage replacement measures, i.e. up to 80%. The compensation rate could be set higher or lower depending on the duration of the lockdown and the severity of the turnover foregone. Such compensation could initially take the form loans issued by commercial banks, as is currently the case in many countries.  However, the particularity of ‘corona loans’ would arise from an announcement from the outset that they will be not only backed by a state guarantee but also accompanied with a promise that in the future a portion of the loan (up to 80%) would not have to be paid back, being covered by the public purse instead. The precise discount would be determined after the crisis, depending on the duration of the lockdown, on the severity of the impact on different sectors, and on individual companies’ cost structure. There would be sufficient time for such an examination after the crisis (as opposed to immediately, before granting any bridging loans).

An intermediate form between the fully repayable loans currently planned and ex post non-repayable grants would be loans that could only be repaid if business were to be profitable in the future – comparable to student loans that must be paid off by graduates in later life only if they earn sufficiently high incomes. 

Such conditionally repayable loans would likely reduce the risk of bankruptcy compared with the simple loans currently on offer. However, it could still appear unfair that companies in lockdown-affected industries would have to concede medium-term profit losses, from which unaffected companies would be completely spared. It would also be important that the repayments would not eat away firms’ entire profits, as otherwise incentives for innovation would be impaired. 

Future-profit-contingent conditionally repayable loans seem particularly appropriate for firms in sectors with relatively low intensity of competition and thus high profit margins. Despite all the theoretical arguments in favour of equal treatment, State aid to companies that pay out large profits and bonuses in subsequent years would be politically difficult to justify. 

The situation is similar for companies that operate in sectors where global risks are a recurrent threat and should therefore also be factored into their corporate strategies and profit margins. This applies, for example, to the aviation and travel industries, where events such as 9/11, the subprime crisis, Icelandic volcanoes, SARS, etc. implied temporary losses and should thus be to some extent priced in. However, as the scale and scope of the corona pandemic were hardly foreseeable, a certain amount of government support also seems justified for these sectors.

What could a workable rule for ‘corona loans’ look like? Non-repayable grants could be reserved for sectors that cannot, or only to a very limited extent, make up for lost revenue during the lockdown by deferred demand - think of the catering, personal services or florists. Other sectors, such as furniture stores or construction companies, have a greater potential to catch up on lost sales after the crisis, which means that profit-contingent or even fully repayable loans would be more appropriate. It would be important to develop and publish such sector-specific criteria as quickly as possible in order to keep the financial uncertainty of the borrowing companies to a minimum. Clear criteria for transforming loans into grants should be published in advance also in order to avoid arbitrariness in making the final rulings firm-by-firm once the crisis is over. For the scheme not to be open to manipulation by firms or bureaucracies, these criteria should depend on industry-wide measures of corona-affectedness and on firm-specific characteristics that pre-date the onset of the crisis (i.e. taken from 2019 tax filings).  The interest rate on such loans should be kept so low as to just cover banks’ additional administrative costs.

Whatever it takes

For reasons of both efficiency and fairness, we recommend generous public compensation for the shortfalls in sales resulting from the corona lockdown. How large should the total amount of such compensation payments be? In the famous words of Mario Draghi, “whatever it takes”. It is more efficient, more democratic and fairer to manage corona debt through the state budget than to have the virus randomly allocate the economic burden across private-sector workers and firms.


Baldwin, R, and B Weder di Mauro (eds), 2020a, Economics in the Time of Covid-19, a Vox eBook, CEPR.

Baldwin, R, and B Weder di Mauro (eds), 2020b, Mitigating the Covid-19 Economic Crisis: Act Fast and Do Whatever It Takes, a Vox eBook, CEPR.

Fornaro, L and M Wolf (2020), “Coronavirus and Macroeconomic Policy”,, 10 March.

Siegenthaler, M and T Stucki (2015), “Dividing the Pie: Firm-Level Determinants of the Labor Share”, ILR Review 68(5): 1157-1194.


1 For Switzerland, for example, an estimated 40% of average small and medium-sized firms’ value added is accounted for by capital inputs and 60% by labour inputs (Siegenthaler et al. 2015).

2 Some countries and regions (e.g. Ireland and Bavaria) have introduced emergency grant schemes for very small firms. Such schemes seem as yet to be too small to matter at the macro level.

3 Using the commercial banking system as an intermediary means that disbursements can happen very quickly. In Switzerland payments were effected less than 24 hours after the government decision was taken.