ECB’s de Guindos: Early Removal of Policy Support Riskier Than Leaving Support in Place

14 April 2021

By David Barwick – Frankfurt (Econostream) – European Central Bank Vice President Luis de Guindos on Wednesday spoke in favour of erring on the side of leaving policy support in place for longer than strictly needed.

In presenting the ECB Annual Report to the Committee on Economic and Monetary Affairs of the European Parliament, de Guindos said that ‘[a]lthough policy support has been successful in containing immediate financial stability risks, medium-term vulnerabilities remain high.’

Banks continue to expect weak profitability, while the removal of policy support would lead to higher default rates among companies and thus create another challenge for banks, he said.

Although authorities’ response to the crisis has mitigated the pandemic’s impact and ‘created a virtuous circle between sovereigns, banks and corporates’, their measures ‘could lead to the emergence of a negative feedback loop between existing vulnerabilities’, he said.

‘Authorities therefore face a delicate balancing act’, he said, where the possible toll taken by an early removal of support must be appraised in tandem with the possibility that leaving support in place ‘for too long may result in unviable corporates being kept alive to the detriment of banks’ viability, economic productivity and, by extension, economic growth.’

‘At the moment, risks from the early withdrawal of policies are higher than the risks associated with keeping support measures in place’, he said. ‘We need to preserve the virtuous circle we have created. However, any negative longer-term effects from keeping support measures in place need to be carefully and continuously monitored.’

The increase earlier this year in risk-free interest rates and sovereign bond yields would have led to tighter financing conditions too soon for the fragile economy and not in line with restoring inflation to the pre-pandemic projected path.

The ECB remains ready to adjust its policy instruments as warranted with an eye toward price stability, he said.

Underlying price pressures are subdued because of feeble demand and slack labour and product markets, he said, with the medium-term inflation outlook thus below the ECB’s objective.

Ongoing pandemic containment measures negatively impacted the short-term outlook, but that ‘private investment now appears to be rather resilient and business confidence points towards growth in manufacturing activity.’

The second half would see the economy recover ‘strongly’, even if the recovery is fragile, he said. ‘A successful vaccination campaign in the entire euro area appears to be crucial in order to prevent downside risks from materialising’, he said.