Christine Lagarde, president of the European Central Bank, has implored eurozone governments to come up with a more powerful common fiscal response to the economic slump caused by coronavirus, warning of the dangers of divergence between the bloc’s members.
Addressing the State of the Union conference, organised by the European University Institute in Florence, on Friday, Ms Lagarde said a “common European fiscal response is highly desirable”, adding that it needed to be “swift, sizeable and symmetrical”. The ECB has already committed to buying more than €1tn of assets this year and to providing banks with about €3tn of ultra-cheap loans while also freeing up more than €120bn of capital for lenders to support the eurozone economy.
Ms Lagarde said European governments’ response to the pandemic would result in additional funding requirements equal to 10 per cent of eurozone gross domestic product. “This will lead to additional debt issuance in the range of €1tn to €1.5tn in 2020 alone,” she said. Warning of the risk of “divergence” between different countries, Ms Lagarde said: “Each country needs to be able to respond as necessary.”
The ECB president said much of the fiscal policy response to the pandemic had come in the form of loan guarantees for companies, which she said would soon start to be called in. “The cost of the crisis will continue to rise.” The European Commission is drawing up plans for an EU “recovery instrument” which could amount to hundreds of billions of euros to help economies bounce back from a deep decline.
But how the money is raised, how much is given out as grants rather than loans and what the funds should be used for remain big points of contention among European governments. Policymakers are increasingly concerned about the prospect of a growing economic divergence within the eurozone, and the distortion of the single market caused by different levels of state assistance afforded by national governments to businesses.
The eurozone’s northern members have more fiscal firepower to support workers and prop up companies than those in the south which have also been harder hit by the pandemic. “Too large [a] difference and not having a level playing field is very dangerous,” Paolo Gentiloni, European commissioner for economic and financial affairs, told the EUI conference.
Mr Gentiloni added that it was “absolutely critical” that the planned recovery fund was of “macroeconomic significance” to help narrow divergences between national economies — implying a large amount of the recovery fund should be in grants, so as not to strain countries already struggling with heavy public debt burdens.
“We are really at a crossroads — either we have a strong common response or the whole project is at stake,” Mr Gentiloni said. Citing an EU estimate that Europe could face an €800bn shortfall in private sector investment in the next couple of years, Mr Gentiloni said the onus would be on the governments to step in and fill this gap with extra public sector investment.
“The only actor that is actively correcting the divergence across the euro area is the ECB,” said Laurence Boone, chief economist at the OECD, told the EUI conference. “Now the burden is on the European Commission and on European governments, which is why this recovery fund is so important.”