Individuals internalize only one quarter of the social cost of COVID-19 because the infected impose significant externalities on others.

Should we let individuals decide how much social distancing to engage in, or are there good reasons why governments should infringe upon civil liberties and order citizens to stay at home? The authors show that infectious diseases such as COVID-19 lead to significant externalities, i.e. adverse effects that individuals do not internalize when they engage in their personal cost-benefit analysis. These externalities therefore call for mandatory public health interventions.

The authors develop an epidemiological model that captures the main features of COVID-19 in the US economy. They show that individuals perceive the cost of an additional infection to be around $80k, whereas the social cost including infection externalities is more than three times higher, around $286k. This misvaluation has stark implications for how the pandemic evolves: in the absence of public health interventions, individuals act cautiously to “flatten the curve” of infections, but the disease still spreads quickly which induces a sharp recession and a slow recovery over several years. By contrast, the optimal public health intervention will contain the disease, producing a short-lived and much milder recession. This holds even if the infected and susceptible cannot be targeted independently, although the economic cost is greater.

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