Isabel Schnabel: The ECB’s response to the COVID-19 pandemic

SPEECH

The ECB’s response to the COVID-19 pandemic

Remarks by Isabel Schnabel, Member of the Executive Board of the ECB, at a 24-Hour Global Webinar co-organised by the SAFE Policy Center on “The COVID-19 Crisis and Its Aftermath: Corporate Governance Implications and Policy Challenges”

• Frankfurt am Main, 16 April 2020 The COVID-19 pandemic is a shock of unprecedented intensity and severity.
• The challenges facing all parts of the economy in dealing with the economic, humanitarian and social consequences of this crisis are historic.
• Central banks are no exception.

Addressing risks of adverse macro-financial feedback loops

• In a matter of days, the pandemic reversed the previous easing in financial conditions that was consistent with a return of inflation to our medium-term aim.
• This threatened to unleash a perilous macro-financial feedback loop that, if left unaddressed, would have put at risk the ECBs price stability mandate and endangered financial stability more broadly.
• First, to restore the orderly functioning of euro area financial markets, which suffered from an extraordinary degree of volatility, fast de-risking and thin liquidity conditions.
• In achieving these objectives, and in calibrating our response, we had one invaluable asset: our large and tested toolkit.
• Previously tested instruments also meant that our decisions could be put in place much more swiftly, accelerating our response time.
• And the third component relates to our traditional role as a lender of last resort to solvent banks.

Safeguarding the monetary policy stance

• Given the importance of sovereign yields in financial markets, a simple measure of our effective monetary policy stance is the GDP-weighted euro area government bond yield curve (slide 2, left chart).
• In the wake of the Corona outbreak, this curve dislocated perceptibly, leading to an effective tightening of the monetary policy stance.
• We observed a measurable upward movement at all tenors as well as a steepening of the curve.
• Even German Bund yields had risen by around 20 basis points over that same period.
• The announcement of the PEPP helped break this dynamic and partly reversed the steepening of the curve.
• Everywhere in the euro area, spreads relative to German Bunds fell measurably upon the PEPP announcement.
• Persistent heterogeneity in the euro area has been a long-standing concern for our single monetary policy.
• It severely complicates the conduct of our policy.
• The PEPP interrupted and reversed this dynamic, thereby safeguarding the financial conditions that are consistent with our primary mandate.

Measures in support of firms and banks

• Similar considerations guided our decisions for mitigating the impact of the crisis on the funding conditions of firms and banks, over and above the effects on the sovereign yield curve.
• [1] But since the euro area is traditionally a bank-based economy, measures supporting the liquidity in financial markets were unlikely to prove sufficient.
• They needed to be accompanied by measures that ensured that financing conditions for small and medium-sized firms would remain equally attractive.
• Together with the first component they provide a reliable backstop for firms and households during these challenging times.
• Our measures in support of bank lending, together with the loan guarantee schemes provided by governments, attempt to mitigate this friction.
• In Italy, for example, bank lending conditions for firms remained remarkably resilient in recent years despite significant swings in market-based funding conditions of the sovereign, banks and firms.
• Again, our measures can provide a valuable bridge to the future and help keep aggregate external funding costs of firms stable until the economy recovers and uncertainty diminishes further.

Macroeconomic implications of the pandemic

• ECB staff is currently assessing the extent to which the current crisis will affect the likely future inflation and growth trajectories.
• In the short run, headline inflation can be expected to drop measurably on the back of the decline in energy prices.
• The March HICP release was a harbinger of what can be expected in coming months.
• First, uncertainty around these estimates is considerable, with forecasts for next years inflation ranging from -0.4% to 2.5%.
• Any mid-point forecast therefore needs to be taken with a grain of salt.
• Second, private sector forecasts appear considerably more optimistic than the latest projections by the IMF, which sees euro area GDP contracting by 7.5% this year and predicts a markedly weaker rebound of only 4.7% in 2021.

Conclusion

• Let me conclude.
• What shape the recovery will ultimately take remains highly uncertain at the current juncture, even as authorities gradually start to ease lockdown measures in some economies.
• The ECB has responded forcefully to this historic crisis by adopting a wide-ranging set of carefully calibrated measures that collectively help mitigate the economic and financial fallout from the pandemic.
• Our measures contribute to easing financing conditions of firms and households and supporting banks in their effort to maintain viable liquidity conditions in the economy at large.