As
the health constraints caused by the pandemic continue to weigh on the economy
in 2021, the challenge is to get GDP and employment quickly back to their
pre-crisis levels. However, companies’ uncertainty about their levels of
activity and profits in the coming years could slow the recovery. In order to
cope with the possible long-term negative effects of the crisis, and weakened
by their losses in 2020, companies may seek to restore or even increase their
margins, which could result in numerous restructurings and job losses. Economic
recovery could take place faster if business has real visibility beyond 2021. While
it is difficult for the current government to make strong commitments, on the
other hand mechanisms that in the long term are not very costly for the public purse
could make it possible to take action.
The
strong globalization of economies has increased interest in the importance of markups
for companies with an international orientation. A markup is defined as the
difference between the marginal cost of production and the selling price.
Empirical evidence is accumulating to show that these markups have increased
significantly in recent years (Autor, Dorn, Katz, Patterson, and Reenen, 2017;
Loecker, Eeckhout, and Unger, 2020) and that large corporations account for a
growing share of the aggregate fluctuations (Gabaix, 2011). Moreover, the
dispersion of markups is considered in the literature as a potential source of a
misallocation of resources – capital and labour – in both economies considered to
be closed to international trade (see Restuccia and Rogerson, 2008, or Baqaee
and Farhi, 2020) and economies considered to be open to trade (Holmes, Hsu and
Lee, 2014, or Edmond, Midrigan and Xu, 2015). Finally, it has recently been
shown by Gaubert and Itskhoki (2020) that these markups are a key determinant
of the granular origin – i.e. linked to the activity of big exporters – of
comparative advantages, or in other words, they may be a determinant of trade competitiveness.
Between 1999 and 2019, the eve of the Covid-19
pandemic, the public debts of the 11 oldest euro zone members had risen by
an average of 20 percentage points of GDP. This increase in public debt is
commonly attributed to structural budget deficits, particularly those in the
pre-crisis period and in the “South”. But how much of the stock of public debt
in 2019 can be attributed to structural deficits, and how much to GDP growth,
interest payments or cyclical deficits? In this post, we use the December 2020
edition of the OECD’s Economic
Outlook to break down the changes in public debt into its main factors:
structural and cyclical primary balances, the interest burden, nominal GDP
growth and stock-flow adjustments. This shows that the structural deficits
generally contributed less than is commonly assumed, and that the increase in
public debt over the period was largely the result of the direct and indirect
consequences of the double-dip recession in the euro zone.
In a recent Monetary
Dialogue Paper for the European Parliament, we review
and assess the different policy measures introduced by the ECB since the
inception of the COVID-19 crisis in Europe, mainly the extension of Asset
Purchase Programme (APP) measures and the development of Pandemic Emergency
Purchase Programme (PEPP) measures.
APP and PEPP have had distinct
objectives in comparison with former policies. APP has
been oriented towards price stability while PEPP has been oriented towards the
mitigation of financial fragmentation.
To this end, we start by analysing the effects of APP announcements
(including asset purchase flows) on inflation expectations via an event-study
approach. We show that they have helped steer expectations upward.
Then, we analyse the impact of PEPP on sovereign spreads and show that
PEPP has had heterogeneous effects that have alleviated fragmentation risk:
PEPP has had an impact on the sovereign spreads of the most fragile economies
during the pandemic (e.g. Italy) and no impact on the least fragile (e.g. the
Netherlands). However, sovereign spreads have not completely vanished, making
monetary policy transmission not fully homogeneous across countries.
On a broader perspective, we also show that overall macroeconomic
effects have been in line with expected outcomes since the mid-2000s: ECB
monetary policy measures have had real effects on euro area unemployment rates,
nominal effects on inflation rates and financial effects on banking stability. These
results are in line with recent estimates at Banque de France (Lhuissier
and Nguyen, 2021).
As a conclusion, an increase in the size of the PEPP program, as
recently decided by the ECB, will be useful if financial risks re-emerge.
Meanwhile, we argue that an ECB decision to cap the sovereign spreads during
the COVID-19 crisis would alleviate the crisis burden on the most fragile
economies in the euro area, where sovereign spreads remain the highest.
Spain has been hit hard in 2020 by the Covid-19 health
crisis, which the authorities are struggling to control, accompanied by an
economic recession that is one of the most violent in the world (GDP fell by
11% over the year according to the INE)[1]. The country’s unemployment rate reached 16.1% at
the end of last year, a rise of 2.3 points over the year despite the
implementation of short-time work measures. The public deficit could exceed 10%
of GDP in 2020, and the public debt could approach 120% according to the Bank
of Spain’s January 2021 forecasts. Europe has enacted large-scale support programmes
for affected countries, and as one of these Spain will be the country receiving
the most EU-level aid. It will benefit from at least 140 billion euros, with 80 billion
of that (i.e. 6.4% of 2019 GDP) taking the form of direct transfers through the
NextGenerationEU programme.
In response to the health and economic crisis,
governments have implemented numerous emergency measures that have pushed public
debt up steeply. They have nevertheless not experienced any real difficulty in
financing these massive new issues: despite record levels of public debt, the
cost has fallen sharply (see Plus ou moins de
dette publique en France ?, by Xavier
Ragot). This trend is the result of
structural factors related to an abundance of savings globally and to strong
demand for secure liquid assets, characteristics that are generally met by
government securities. The trend is also related to the securities purchasing programmes
of the central banks, which have been stepped up since the outbreak of the
pandemic. For the year 2020 as a whole, the European Central Bank acquired
nearly 800 billion euros worth of securities issued by the governments of the
euro zone countries. In these circumstances, the central banks are holding an
increasingly high fraction of the debt stock, leading to a de facto
coordination of monetary and fiscal policies.
As with the economic performance of all the industrialized
countries, economic activity fell off sharply in the second quarter of 2020
across the Atlantic before rebounding just as sharply the following quarter. The
management of the crisis in the US is largely in the hands of the different States,
and the election of Joe Biden should not change this framework since he
declared on November 19 that he would not order a national lockdown. However,
the health situation is continuing to deteriorate, with more than 200,000 new Covid-19
cases per day on average since the beginning of December. As a result, many
States are adopting more restrictive prophylactic measures, although without returning
to a lockdown like the one in the Spring. This situation could dampen economic prospects
for the end of the year and also for the start of the mandate of the new
President elected in November. Above all, it makes it even more necessary to
implement a new recovery plan, which was delayed by the election.
As in the euro zone, recovery in the US kicked off as
soon as the lockdown was lifted. GDP grew by 7.4% in the third quarter after
falling by 9% in the previous quarter. Compared with the level of activity at
the end of 2019, the economic downturn amounted to 3.5 points, versus 4.4
points in the euro zone. The labour market situation also improved rapidly,
with the unemployment rate falling by 8 points, according to data from the Bureau
of Labor Statistics for November, from its April peak of 14.7%. These results
are the logical consequence of the lifting of restrictions but also of the large-scale
stimulus plans approved in March and April, which have massively absorbed the
loss of income for households and to a lesser extent for US companies (see here).
However, the upturn in consumption is still being dampened by some ongoing restrictions,
particularly in sectors with strong social interactions, where spending is
still nearly 25% lower than it was in the fourth quarter of 2019 (Figure 1).
As for the consumption of goods, it has been much less
affected by the crisis and is down only 12% from its pre-crisis level for
durable goods and 4.4% for non-durable goods. Nevertheless, most of these
support measures have come to an end, and as of this writing the discussions
that began in late summer in Congress have not yet led to an agreement between
Republicans and Democrats. Despite the rebound, the health impact of the pandemic
and the economic consequences of the lockdown on the labour market require a discretionary
policy in a country where the automatic stabilizers are generally considered to
be weaker[1]. New support measures will be all the more
necessary as a further tightening of restrictions is looming and the recovery
seem to be running out of steam. The initial consumption figures for the month
of October point to a fall in the consumption of services, and employment also
stabilized in November, remaining well below its level at the end of 2019.
However, after the setback of the discussions in
Congress, it will now be necessary to wait until the first quarter of 2021 for
a new support plan to be approved and for a possible reorientation of US fiscal
policy after Joe Biden’s victory. In the Autumn, the Democrats proposed a 2
trillion dollar (9.5 GDP points) package, almost as much as the 2.4 trillion dollar
(10.6 GDP points) package adopted in March-April 2020[2]. The aid would, among other things, support the
purchasing power of the unemployed through an additional federal payment.
Although unemployment is much lower than in the second quarter, it remains
above its pre-crisis level and is now characterized by an increase in long-term
unemployment for which there is generally no compensation. In November, the
share of those who had been unemployed for at least 27 weeks was 37 per cent
(or 3.9 million people, Figure 2), and the median duration of unemployment
had risen from 9 weeks at the end of 2019 to almost 19 weeks in November 2020.
In addition, States whose tax revenues have decreased with the crisis could
benefit from a federal transfer, thereby avoiding spending cuts[3].
However, despite the end of the suspense over the
outcome of the presidential elections, the political and economic uncertainty
has not been completely resolved. Indeed, it will not be known until early
January whether the Democrats will also have a majority in Congress. They have
certainly kept the House of Representatives, but it will be necessary to wait
until the beginning of January for the Senate, with a ballot planned in Georgia
that will determine the political colour of the last two seats [4]. Both seats are now held by Republican senators.
However, Joe Biden won Georgia by 0.2 points against Donald Trump, the first
victory in the State for a Democratic candidate since 1992. With both State-wide
senatorial elections to be contested directly, the results are likely to be
close. If one of the Democratic
candidates is defeated, Joe Biden will be forced to contend with the
opposition. But, as Paul Krugman
points out, the Republicans are generally more inclined, once in opposition, to
promote austerity. This is reflected in the uncertainty indicators of Bloom,
Baker and Davies, whose economic policy uncertainty rose in November (Figure 3).
This uncertainty is certainly lower than in the Spring but remains higher than
that observed between 2016 and 2019. During this period, growth could weaken,
and then a strong recovery is likely to be followed by more subdued growth,
which will have repercussions on the labour market. Regardless of the outcome,
a plan will likely be approved in the first quarter of 2021, but its adoption
could take longer if it is conditional on an agreement between Republicans and
Democrats in Congress. However, this could be lengthy given the urgency of the
health and social crisis, and could plunge a significant proportion of the most
vulnerable into poverty.
[1] See for example Dolls, M., Fuest, C. &
Peichl, A., 2012, “Automatic stabilizers and economic crisis: US vs. Europe”, Journal of Public Economics,
96(3-4), pp. 279-294.
[2] By comparison, the
European programmes are weaker, ranging from 2.6 GDP points for France to 7.2
points for the UK.
[3] Note that the States generally have fiscal
rules limiting their capacity to run a deficit.
The sharp fall in activity and its brutal social consequences have led governments and central banks to enact ambitious support measures to cushion the shock, which resulted in an unprecedented global recession in the first half of 2020, as discussed in Policy Brief 78 . Faced with a health crisis that is unprecedented in contemporary history, requiring forced shutdowns to curb the spread of the virus, governments have taken urgent measures to prevent the onset of an uncontrolled crisis that could permanently alter the economic trajectory. Three main types of measures have been taken: some aim to maintain consumer purchasing power in the face of the shutdowns; others seek to preserve the production system by targeting business; and some are specific to the health sector. The quarterly national accounts, available at the end of the first half of the year, provide an update on the extent to which the disposable income of private agents has been preserved by fiscal policy at this stage of the Covid-19 crisis [2].
The return of new lockdown measures in numerous countries
is expected to slow the pace of economic recovery and even lead to another
downturn in activity towards the end of the year. To address this risk,
governments are announcing new support measures that in some cases supplement
the stimulus plans enacted in the autumn. No additional monetary policy
measures have yet been announced. But with rates close to or at 0% and with a
massive bond purchase policy, one wonders whether the central banks still have any
manoeuvring room. In practice, they could continue QE programmes and increase
the volume of asset purchases. But other options are also conceivable, such as
monetizing the public debt.
On 27 May, the European Commission proposed the
creation of a new financial instrument, Next Generation EU,
endowed with 750 billion euros. The plan rests on several pillars, and will notably
be accompanied by a new scheme to promote the revival of activity in the
countries hit hardest by the coronavirus crisis. It comes on top of the
Pandemic Crisis Support adopted by the European Council in April 2020. A new
programme called the Recovery and Resilience Facility will have firepower of 560
billion euros, roughly the same amount as the Pandemic Crisis Support. The
Recovery and Resilience Facility stands out, however, for two reasons: first,
by the fact that part of its budget will go to grants rather than loans; and
second, by its much longer time horizon.
