ECB: Still a Risk of Long-Term Output Scarring from the Pandemic

10 November 2021

By David Barwick – FRANKFURT (Econostream) – The duration of the pandemic’s negative impact on potential output remains uncertain and long-term scarring is still possible, the European Central Bank said on Wednesday.

In a pre-release from the seventh economic bulletin of the year, the ECB said that although policy responses to the pandemic-related recession ‘cushioned the overall economic impact of the COVID-19 pandemic, there is still a risk of long-term output scarring.’

The extent to which this risk materialises hinges on ‘the adjustment to the post-pandemic economic landscape and, importantly, on the phasing-out of policy support measures’, the report claimed. Just as substantial policy support maintained employment and suppressed corporate insolvencies, ‘a premature withdrawal of policy support could be costly and hamper the economy’s potential output’, it said.

One source of scarring could be the unemployment and associated loss of skills on the part of some workers, effects likely to be particularly felt in sectors most affected by the pandemic, the report said. These effects could be mitigated by ‘strategic investment’ and the creation of new opportunities in other areas of the economy, it said.

‘To the extent that the increase in long-term unemployment translates into a higher rate of structural unemployment and participation rates do not fully recover, lower labour input is likely to remain a long-term drag on potential output going forward’, the report cautioned.

The pandemic also had a negative impact on total factor productivity, the report said. Though hard to quantify precisely, ‘the balance of economic arguments suggests that the pandemic impaired the global efficiency of combining factors of production.’

Factors could include fewer new business starts, policy support that also kept inefficient firms going, supply chain disruptions and adjustments to remote working, the report said. On the other hand, it added, ‘progress with automation and digitalisation could improve efficiency, but such effects are likely to take longer to materialise fully.’