Viable vaccines have injected optimism into financial markets, shifting discussions among many economists from how to cope with a crisis to how to support the recovery. The European Central Bank’s decision to beef up its stimulus policies on Thursday provided a reminder that, while the worst possible economic outcomes may have become less likely, it will be a long road back to even the “new normal”.
Increasing monetary stimulus at this point is sensible. A second wave of coronavirus infections in the eurozone, already among the world’s worst-affected regions, has hit growth and employment. The reinstatement of lockdowns risks a double-dip recession in the currency bloc.
This is why the central bank announced a €500bn increase in the size of its main quantitative easing programme as well as extending the duration of its main crisis-fighting tools by nine months. It also announced a further three targeted long-term refinancing operations, as it calls its subsidies designed to encourage further bank lending. The central bank’s objective is to “preserve favourable financing conditions for all sectors”, said president Christine Lagarde in Thursday’s press conference.
The central bank sensibly laid the groundwork for more long-term support to the economy, too. The eventual rollout of vaccines will provide the most effective economic relief measures but until that point the currency bloc will continue to need monetary support; the ECB’s forecasts for growth in 2020 were increased, but those for 2021 were revised down.
Ms Lagarde justified the nine-month extension to the stimulus programmes by the expectation that “we will have reached sufficient herd immunity to hope that by the end of 2021 the economy will function under more normal circumstances”. Analysts, however, interpreted the additional stimulus as a commitment to more long-term support and an admission that extraordinary policy could be needed for years. The ECB forecasts that inflation in 2023 will still be below its 2 per cent target.
The ECB cannot shoulder the entire burden of supporting the eurozone recovery. Market moves have already lessened the effectiveness of existing schemes: the euro is trading at its highest level against the dollar for more than two years — a development the central bank said it was “very carefully” monitoring.
This appreciation makes the bloc’s exports less competitive and imports deflationary pressure. The latest figures show that prices are already falling in the eurozone: in November they were 0.3 per cent lower compared with the previous year. This was the fourth consecutive month of prices falling in the currency bloc.
Increasing asset purchases through its quantitative easing programme will have only a small impact on the real economy, given how low borrowing rates already are: Spain issued a 10-year bond with a negative interest rate for the first time ahead of the ECB’s policy announcement. This may be why the ECB has become far bolder in its use of targeted long-term refinancing operations that pay banks if they lend more to the real economy.
Ultimately fiscal policy and a compromise on the €1.82tn EU-wide pandemic recovery fund will be more helpful for supporting the eventual recovery than any further marginal changes to already low interest rates. Either way the politicians in Brussels, however, can be reassured that the ECB will continue to do its part.
Source: Economy - ft.com
