Press Release - 26 March 2020 - ECONOMIC BULLETIN - ECB publishes Economic Bulletin - Issue 2, 2020
Overview
At its monetary policy meeting on 12 March, the Governing Council decided on a comprehensive package of monetary policy measures. Together with the substantial monetary policy stimulus already in place, these measures will support liquidity and funding conditions for households, businesses and banks and will help to preserve the smooth provision of credit to the real economy.
Since the last Governing Council meeting in late January, the spread of the coronavirus (COVID-19) has been a major shock to the growth prospects of the global and euro area economies and has heightened market volatility. Even if ultimately temporary in nature, it will have a significant impact on economic activity. In particular, it will slow down production as a result of disrupted supply chains and reduce domestic and foreign demand, especially through the adverse impact of the necessary containment measures. In addition, the heightened uncertainty negatively affects expenditure plans and their financing. The risks surrounding the euro area growth outlook are clearly on the downside. In addition to the previously identified risks related to geopolitical factors, rising protectionism and vulnerabilities in emerging markets, the spread of the coronavirus adds a new and substantial source of downside risk to the growth outlook. Against this background, the ECB’s Governing Council took a number of policy decisions to preserve the monetary stance and to underpin the transmission of monetary policy to the real economy.
Economic and monetary assessment at the time of the Governing Council meeting of 12 March 2020
The unfolding COVID-19 epidemic is worsening the outlook for the global economy as embedded in the March 2020 ECB staff macroeconomic projections. Developments since the cut-off date for the projections suggest that the downside risk to global activity related to the COVID-19 outbreak has partly materialised, implying that global activity this year will be weaker than envisaged in the projections. The outbreak hit the global economy as signs of a stabilisation in activity and trade had started to emerge and the signing of the so-called Phase 1 trade agreement between the United States and China, accompanied by cuts in tariffs, had reduced uncertainty. Looking further ahead, the projected global recovery is expected to gain only modest traction. It will hinge on the recovery in a number of still vulnerable emerging market economies, while the projected cyclical slowdown in advanced economies and the structural transition to a slower growth trajectory in China will weigh on the medium-term outlook. The risks to global activity have changed, but their balance remains tilted to the downside. At the moment, the most acute downside risk relates to the potentially broader and longer impact of the COVID-19 outbreak as it continues to evolve. Global inflationary pressures remain contained.
Global risk sentiment deteriorated sharply and market volatility surged as the coronavirus spread around the world towards the end of the review period (12 December 2019 to 11 March 2020). Euro area long-term risk-free rates declined markedly to levels significantly lower than at the start of the period. The forward curve of the euro overnight index average (EONIA) shifted sharply downwards; its inversion at shorter to medium-term maturities signalled market pricing of further monetary policy accommodation. In line with the sharp rise in global risk aversion, euro area equity prices decreased strongly, while sovereign and corporate bond spreads widened. In volatile foreign exchange markets, the euro appreciated substantially against the currencies of 38 of the euro area’s most important trading partners.
Euro area real GDP growth remained subdued at 0.1%, quarter on quarter, in the fourth quarter of 2019, following growth of 0.3% in the previous quarter, driven by ongoing weakness in the manufacturing sector and slowing investment growth. Incoming economic data and survey information point to euro area growth dynamics at low levels, not yet fully reflecting developments related to the coronavirus, which started to spread across continental Europe at the end of February, adversely affecting economic activity. Looking beyond the disruptions stemming from the spreading of the coronavirus, euro area growth is expected to regain traction over the medium term, supported by favourable financing conditions, the euro area fiscal stance and the expected resumption in global activity.
According to the March 2020 ECB staff macroeconomic projections for the euro area, annual real GDP is expected to increase by 0.8% in 2020, 1.3% in 2021 and 1.4% in 2022. Compared with the December 2019 Eurosystem staff macroeconomic projections, the outlook for real GDP growth has been revised down by 0.3 percentage points for 2020 and by 0.1 percentage points for 2021, mainly on account of the coronavirus outbreak, although the recent rapid spread of the virus in the euro area is only partly reflected. The risks surrounding the euro area growth outlook are therefore clearly on the downside. The spread of the coronavirus adds a new and substantial source of downside risk to the growth outlook, in addition to risks related to geopolitical factors, rising protectionism and vulnerabilities in emerging markets.
According to Eurostat’s flash estimate, euro area annual HICP inflation decreased to 1.2% in February 2020, from 1.4% in January. On the basis of the sharp decline in current and futures prices for oil, headline inflation is likely to decline considerably over the coming months. This assessment is only partly reflected in the March 2020 ECB staff macroeconomic projections for the euro area, which foresee annual HICP inflation at 1.1% in 2020, 1.4% in 2021 and 1.6% in 2022, and are broadly unrevised compared to the December 2019 Eurosystem staff projections. Over the medium term, inflation will be supported by the ECB’s monetary policy measures. The implications of the coronavirus for inflation are surrounded by high uncertainty, given that downward pressures linked to weaker demand may be offset by upward pressures related to supply disruptions. The recent sharp decline in oil prices poses significant downside risks to the short-term inflation outlook.
Monetary dynamics have moderated from comfortable levels since late summer 2019. Credit to the private sector has continued to display divergent developments across loan categories. While lending to households has remained resilient, lending to firms has moderated. Favourable bank funding and lending conditions have continued to support lending and thereby economic growth. Euro area firms’ total net external financing has stabilised, supported by favourable debt financing costs. However, the recent increase in risk-off sentiment is likely to cause non-bank financing conditions for non-financial corporations to deteriorate.
The euro area general government budget balance is projected to decline in 2020 and 2021 and to stabilise in 2022. The decline can be largely attributed to lower primary surpluses. These developments are also reflected in the projections in an expansionary fiscal stance in both 2020 and 2021, followed by a broadly neutral stance in 2022. Despite the relatively expansionary fiscal stance, in the projections the euro area government debt-to-GDP ratio is expected to remain on a gradual downward path, owing to a favourable interest rate-growth differential and a somewhat positive primary balance for the entire period. Developments related to the spread of the coronavirus (COVID-19) after the projections were finalised point to a clear worsening of the outlook for the fiscal stance. In addition to previously announced fiscal policies, the Eurogroup’s commitment to joint and coordinated policy action should be strongly supported in the light of the spread of the virus.
The monetary policy package
On 12 March 2020 the Governing Council decided on a comprehensive package of monetary policy measures. The monetary policy response encompassed three key elements: first, safeguarding liquidity conditions in the banking system through a series of favourably-priced longer-term refinancing operations (LTROs); second, protecting the continued flow of credit to the real economy through a fundamental recalibration of targeted longer-term refinancing operations (TLTROs); and, third, preventing financing conditions for the economy tightening in a pro-cyclical way via an increase in the asset purchase programme (APP).[1]
- In times of heightened uncertainty, it is essential that liquidity is provided on generous terms to the financial system to prevent liquidity squeezes and pressure on the price of liquidity, including in times when the coronavirus may pose operational risk challenges for participants in the financial system. The Governing Council therefore decided to conduct, temporarily, additional LTROs to provide immediate liquidity support to the euro area financial system. Although the Governing Council does not see material signs of strains in money markets or liquidity shortages in the banking system, these operations will provide an effective backstop in case of need. The operations will be carried out through a fixed rate tender procedure with full allotment. They will be priced very attractively, with an interest rate that is equal to the average rate on the deposit facility. These new LTROs will provide liquidity on favourable terms to bridge the period until the TLTRO III operation in June 2020.
- With revenues and expenditure plans of households and firms being hit by the spread of the coronavirus, it is crucial to support bank lending to those that are affected most by the economic ramifications, in particular small and medium-sized enterprises. Hence, the Governing Council decided to apply considerably more favourable terms during the period from June 2020 to June 2021 to all TLTRO III operations outstanding during that time. Throughout this period, the interest rate on these TLTRO III operations will be 25 basis points below the average rate applied in the Eurosystem’s main refinancing operations. For counterparties that maintain their levels of credit provision, the rate applied in these operations will be lower, and, over the period ending in June 2021, can be as low as 25 basis points below the average interest rate on the deposit facility. Moreover, the maximum total amount that counterparties will henceforth be entitled to borrow in TLTRO III operations has been raised to 50% of their stock of eligible loans as at 28 February 2019. This raises the total possible borrowing volume under this programme by more than €1 trillion to almost €3 trillion in total. Overall, the new conditions for the TLTRO will help to significantly ease the funding conditions that determine the supply of credit provided by banks to firms and households. In this context, the Governing Council has mandated the Eurosystem committees to investigate collateral easing measures to ensure that counterparties continue to be able to make full use of the ECB’s funding support.
- It is essential to ensure a sufficiently accommodative monetary policy stance, especially in an environment of high uncertainty and elevated financial volatility. It is against this background that the Governing Council also decided to add a temporary envelope of additional net asset purchases of €120 billion until the end of the year, ensuring a strong contribution from the private sector purchase programmes. Net asset purchases continue to be expected to run for as long as necessary to reinforce the accommodative impact of the ECB’s policy rates, and to end shortly before the Governing Council starts raising the key ECB interest rates. In combination with the existing APP, this temporary envelope will support financial conditions more broadly and thereby also ease the interest rates that matter for the real economy. Moreover, the higher pace of purchases will ensure that the Eurosystem shows a more robust presence in the market during these times of heightened volatility, including the full use of the flexibility embedded in the APP to respond to market conditions. This could imply temporary fluctuations in the distribution of purchase flows both across asset classes and across countries in response to “flight to safety” shocks and liquidity shocks. Such deviations from the steady-state cross-country allocation are within the remit of the programme, provided the capital key continues to anchor the total stock of the Eurosystem’s holdings in the long run.
- In addition, the Governing Council decided to keep the key ECB interest rates unchanged. They are expected to remain at their present or lower levels until the inflation outlook robustly converges to a level sufficiently close to, but below, 2% within the projection horizon, and such convergence has been consistently reflected in underlying inflation dynamics.
- Finally, the Governing Council also intends to continue reinvesting, in full, the principal payments from maturing securities purchased under the APP for an extended period of time past the date when it starts raising the key ECB interest rates, and in any case for as long as necessary to maintain favourable liquidity conditions and an ample degree of monetary accommodation.
In view of current developments, the Governing Council will continue to monitor closely the implications of the spread of the coronavirus for the economy, for medium-term inflation and for the transmission of monetary policy. The Governing Council stands ready to adjust all of its instruments, as appropriate, to ensure that inflation moves towards its aim in a sustained manner, in line with its commitment to symmetry.
At the same time, an ambitious and coordinated fiscal stance is now needed in view of the weakened outlook and to safeguard against the further materialisation of downside risks. The Governing Council welcomes the measures already taken by several governments to ensure sufficient health sector resources and to provide support to affected companies and employees. In particular, measures such as providing credit guarantees are needed to complement and reinforce the monetary policy measures taken by the Governing Council.
Copyright - European Central BankDirectorate General Communications
Sonnemannstrasse 20, 60314 Frankfurt am Main, Germany
Tel.: +49 69 1344 7455, E-mail: media@ecb.europa.eu
Website: www.ecb.europa.eu
page source https://www.ecb.europa.eu/
