As Covid-19 Vaccines Lag, Europe Keeps Cheap Money Flowing
The European Central Bank will keep its aggressive monetary stimulus in place and lag behind the Federal Reserve in phasing it out, ECB President Christine Lagarde said, as the eurozone wrestles with a fresh wave of Covid-19 infections that likely tipped the bloc back into recession early this year.
A resurgence of the pandemic in Europe and a sluggish rollout of vaccines have kept businesses shut across swaths of the Continent, driving a divergence with the U.S. economy, which is benefiting from a hefty dose of government spending and speedier Covid-19 vaccinations.
At a news conference, Ms. Lagarde said the eurozone economy wouldn’t return to its pre-pandemic size until the second half of next year. That would be more than a year after the Congressional Budget Office expects the U.S. economy to have regained its precrisis size.
Divergence between the ECB and Federal Reserve, arguably the world’s two most influential central banks, has sweeping implications for the prices of bonds and other financial assets.
“If you look at where the Fed is, and where we are, if you look at expectations in the United States and the euro area, we are not on the same page,” Ms. Lagarde said.
Federal Reserve policy makers will meet on April 27-28 to consider their next move. The Fed recently signaled that, unlike the ECB, it wouldn’t try to check a recent rise in Treasury yields, prompting them to rise further. But Fed officials in recent weeks have pushed back on the notion that signs of a strong economic recovery had boosted the prospects of a rate increase this year.
The ECB said on Thursday that it would keep its key interest rate at minus 0.5% and continue to buy eurozone debt under an emergency €1.85 trillion bond-buying program, equivalent to $2.2 trillion, through at least March 2022. It said it would buy those bonds at a “significantly higher pace” during the first months of this year, repeating a pledge made last month.
The ECB’s recent actions have helped to slow a rise in sovereign-bond yields across Europe this year. Higher bond yields partly reflect brighter economic prospects, but also a spillover from the robust recovery in the U.S. They put pressure on European governments, which are increasing spending to support workers and firms hurt by virus-related shutdowns.
The eurozone economy is likely to grow at an annualized rate of 6% in the second quarter of 2021, after contracting 1% in the first three months of the year, according to JPMorgan. The U.S. economy will likely grow at an annualized rate of almost 10% in the second quarter after around 5% in the first quarter, JPMorgan said.
Ms. Lagarde signaled that the ECB isn’t yet ready to discuss winding down its giant bond-buying program, a step already announced by Canada’s central bank on Wednesday. High debt levels in some European countries—particularly in the south, where the debt of Italy and Greece, for example, is more than 150% of gross domestic product—leave the eurozone especially vulnerable to rising borrowing costs.
While Europe’s manufacturing sector is recovering, supported by solid global demand, consumers remain cautious.
Bank lending data published by the ECB this week suggested tightening credit standards for businesses and lower demand for borrowing, an ominous signal for the recovery. Europe is also preparing for major elections in France and Germany over the next 12 months, which could upend government spending plans.
ECB officials are expected to reconsider the pace of their bond-buying program at a policy meeting on June 10, when they will also publish fresh forecasts for growth and inflation. Any move to adjust the pace of bond purchases will be tricky without fueling market volatility, said Marco Valli, head of Macro Research at UniCredit Bank in Milan.
“We wouldn’t be surprised to see [the ECB’s emergency bond] purchases continue throughout 2022, and interest rates remain at current levels until the middle of the decade,” said Jack Allen-Reynolds, an economist with Capital Economics in London.
Still, vaccination rates across Europe have picked up as supply bottlenecks eased, approaching U.S. speeds in places, and recent economic surveys suggest business confidence is trending upward.
Governments in Germany and Italy have signaled they are willing to run large deficits this year as they spend more money to support their economies, noted Andreas Billmeier, European economist at Western Asset Management.
“This gives you medium-term confidence that we’re not going to repeat the error of 10 years ago,” when European governments sought to reduce spending too quickly, hurting the economic recovery, Mr. Billmeier said.