Last week the European Central Bank (ECB) presented its monetary policy and it’s analysis for the first quarter of the year. As expected, the economy within the region declined by 3.8%, the first quarterly reversal in growth in more than seven years.
Typically the ECB remains vigilant by taking into consideration various outcomes and scenarios for the real GDP. This is usually done in order to better calibrate its monetary policy and react as quickly as possible whenever called upon by changing market forces. The central bank’s calculations, revealed shortly after last Thursday’s monetary policy decision to keep rates unchanged, that a deep recession is envisaged even in a better than worse-case scenario.
Lagarde Warned of a Sharp Economic Contraction
Christine Lagarde, the ECB President, warned last week that the Euro area faces a sharp economic contraction in the months ahead. The worst-case scenario considered by the ECB suggests that the real GDP would fall by 12% in 2020 – a staggering number for Europe’s area of economic activity. Moreover, as the chart above shows, the real GDP remains below the 2019 level through to 2022.
It is important to remember that a central bank like the ECB considers all aspects that may influence the economic performance of the region – both internal and external ones. Oil prices, for instance, plunged following the coronavirus pandemic and have pushed down headline inflation.
The ECB reacted strongly in light of the economic growth expectations revealed by its models. It lowered the interest rate by an additional twenty-five basis points from June 2020 to June 2021. Moreover, the start of the lending assessment period was moved to March 2020 instead of April 2020. But what is amazing is how the ECB chose to deviate from its capital keys in March.
It provided full support to the countries hit the hardest by the coronavirus crisis. Greece, the Netherlands, and Germany are viewed as better-handling the pandemic, when compared with Italy, France, andSpain. As a consequence, the ECB deviated massively from its capital keys in April. It bought more Italian bonds, for instance (EUR 6.4 billion above capital keys), to the detriment of German bonds.
This shows the ability and willingness of the ECB to deviate from capital keys reflect its strong commitment to using all its available tools to fight this crisis.