ECB: Euro Area Financial Stability Conditions Have Worsened; Likelihood of Recession Up Markedly

16 November 2022

By David Barwick – FRANKFURT (Econostream) – The financial stability situation of the euro area has worsened again, the European Central Bank said on Wednesday.

In its latest Financial Stability Review, the ECB said, ‘Euro area financial stability conditions have deteriorated further, reflecting rising inflation, higher interest rates, weaker growth prospects and financial market repricing.’

‘The mix of high inflation outturns and rising interest rates has continued to weigh on economic growth in many advanced economies’, the ECB said. ‘Against this background, one-year ahead recession probabilities have increased markedly, in both the euro area and other major advanced economies.’

Russian military aggression continues to be ‘a significant risk to inflation and growth, especially if it leads to euro area households and firms facing rationed energy supplies’, the ECB said.

If interest rates rise more quickly than expected, if fiscal policy errs, if the pandemic resurges or if any of various other events causes risks to materialise, it could unleash or intensify pre-existing financial stability vulnerabilities, ‘possibly simultaneously, including pockets of debt sustainability concerns for corporates, households and sovereigns, or abrupt adjustments in both financial and tangible asset valuations’, the ECB said.

The ECB noted an increased risk of disorderly market developments, reduced fiscal room to manoeuvre for governments, and greater vulnerability of households and corporates amid deteriorated growth prospects, persistent inflation and tighter monetary policy.

Although banks can contemplate improved short-term profitability, given higher interest rates, in the medium term, they face a weaker economy and greater credit risk, the ECB said.