ECB ANALYSIS: De Guindos’ Benign View May Make More ECB Action Yet Less Likely

27 July 2020

By David Barwick – FRANKFURT (EconoStream) – European Central Bank Vice President Luis de Guindos’ pronouncement on Sunday that the Eurozone economy is emerging structurally unscathed from the pandemic may imply that the ECB is more firmly on hold than observers already assumed.

‘The economy wasn’t prepared for the lockdown, but in our view it has not suffered any structural damage’, he was quoted as saying in an ECB-provided text of an interview. ‘A rebound will be possible, but our calculations show that it will take us two years to return to pre-COVID-19 levels of output.’

De Guindos had been asked by Spanish daily El Independiente whether the ECB’s policy reaction to the crisis would prove sufficient - a forward-looking question - and chose to frame his answer around an apparently sanguine assessment of the pandemic’s long-term economic consequences.

It is no secret that the ECB’s baseline scenario, to which he also referred, sees economic output closing in on the level from before the crisis only at the end of 2022. This was made clear in the June update of staff projections and has been referenced by policymakers repeatedly. To that extent, de Guindos was merely covering well-trodden ground.

In contrast, the rest of de Guindos’ message is significantly less consistent with recent public pronouncements emanating from the Eurotower.

Speaking on June 10, for example, ECB Executive Board member Isabel Schnabel warned that ‘[b]y how much the crisis will permanently shift economic structures, both within and across countries, remains highly uncertain at the current juncture. But the nature and severity of the shock make it likely that these shifts will be significant.’

Two weeks later, Schnabel made her concerns more concrete: ‘Global value chains are already being put to the test, productivity in many service sectors may be permanently affected, and certain industries will probably never return to their pre-crisis levels.’

Board member Yves Mersch, in a speech on June 25, also sounded worried about the structural impact of the crisis, which he called ‘much less certain’ than the short-term economic impact. Reform efforts, he said, ‘will be crucial to smooth the sectoral reallocation which could result from the damage that even mild distancing measures inflict on labour-intensive service sectors.’

In a speech on July 1, Board member Fabio Panetta said that ‘[w]e lack clarity … about how the structure of the economy itself will evolve in response to the shock’, but that ‘COVID-19 will inevitably lead to structural changes.’

It is improbable that de Guindos’ declaration is based on confidence that all the reforms needed to mitigate the sectoral reallocation referred to by his colleagues will be duly implemented - in reform-resistant Europe, no less. Rather, he seems simply not to envision such a need.

That is surprising not least in light of his own, more cautionary tone in an interview on June 14, when he said, ‘We are currently experiencing an exceptional situation but we must not let it become structural.’

Whether Sunday’s remark on the subject was made off the cuff – de Guindos did not back it up with any details - is unknown. What is clear is that he intended in any case to dampen market expectations of further monetary policy activism. Such an objective would be consistent with various comments made recently by other ECB Executive Board members, up to and including ECB President Christine Lagarde.

‘It's going to take a while before we have a solid response from the economic terrain, if you will, to really assess the effectiveness of what we do, as well as the prospects of what will happen’, Lagarde said in an interview aired July 8. ‘But we have done so much that we have quite a bit of time to assess that carefully.’

For another example, in an interview published on July 21, Schnabel, asked whether the ECB had done enough, said that ‘we have certainly seen an improvement in the financial data’ and that markets ‘have calmed down quite a bit’ even if ‘conditions are still somewhat tighter’ than pre-pandemic.

Effectively asking financial markets yet more explicitly to sit tight for the moment, she observed that the full effect of ECB policy action ‘does not happen overnight’ and that fiscal policy has its own important contribution to make.

Seen in that context, de Guindos was at a minimum just adding his voice to the chorus of those Governing Council members who do not anticipate a reason between now and the end of the year - at the soonest - to make any major adjustment to the ECB’s policy stance.

But if his remark can be taken at face value and the ECB  is indeed confident at this relatively early juncture of avoiding what Chief Economist Philip Lane on July 1 called ‘long-term scarring effects’, then expectations of more policy action may need to be lowered even further than the comments of Lagarde and others already warranted.