Social distancing measures adopted to combat the COVID-19 pandemic have created severe disruptions to economic output. During lockdown firms are required to shut down or substantially reduce their economic activity if they cannot comply with social distancing rules and are located in non-essential industries. Another source of negative direct shocks arises from changed consumption behavior of individuals to avoid infectious exposure. The shocks to the economy are highly industry-specific and therefore affect firms in heterogeneous ways [1]. Since firms are embedded in production networks, these direct shocks will propagate upstream (due to reduced demand to suppliers) and downstream (due to reduced supply for customers) [2]. We show that standard IO models which allow for binding demand and supply constraints yield infeasible solutions when applied to empirical data from the United Kingdom. We then introduce a mathematical optimization procedure which is able to determine optimal and feasible market allocations, giving a lower bound on total shock propagation. We find that even in this best-case scenario network effects substantially amplify the initial shocks. To obtain more realistic model predictions, we study the propagation of shocks out of equilibrium by imposing different rationing rules on firms if they are not able to satisfy incoming demand. Our results show that overall economic impacts depend strongly on the emergence of input bottlenecks, making the rationing assumption a key variable in economic predictions.
