The euro: will the single currency survive the coronavirus?

The EU has failed to convince anyone that it has either the will or the tools to keep the eurozone together in the face of the coronavirus epidemic.

“We are at war,” declared French president Emmanuel Macron this week as France became the latest European country to order a lockdown of its population to halt the Covid-19 epidemic. Italy and Spain have already brought in similar measures, meaning that 170 million Europeans are now confined to their homes. Most European countries have closed schools and restrictions are tightening on non-essential shops and entertainment venues. The European Union has also closed its external border.

A spending splurge

Faced with an economic maelstrom that could be “more painful than 2008”, European governments have started to roll out measures to mitigate the impact, says the Financial Times. Germany has announced €500bn in loans for companies hit by the pandemic, while Italy is contemplating a one-off €500 per person payment for the self-employed. Tax payment extensions have become common, with Sweden allowing businesses to defer payments for up to a year at a cost of €27.5bn, or 6% of GDP. President Macron has pledged that “no company, of any size, will be allowed to go bankrupt”.

The canary in the coalmine

Italy will be the “canary” in the economic coal mine, says Marchel Alexandrovich in The Guardian. Prime Minister Giuseppe Conte has spoken of his country facing its “darkest hour”. 

On a reasonable estimate Italian GDP declines for the first and second quarters could come in “twice as bad” as the lowest point of the great recession. JP Morgan forecasts a contraction of 7.5% in first quarter Italian GDP.

Italy has announced a €25bn stimulus plan, but markets have started to fret about whether the country’s public finances can bear the strain, says The Economist. With government debt already above 130% of GDP, yields on the country’s bonds have been ticking up even as the German government’s borrowing costs have fallen.

Lagarde’s gaffe

European Central Bank (ECB) president Christine Lagarde’s comment that it was not her job to “close spreads” between the bonds of various eurozone governments spooked markets last week. The implication that the ECB wouldn’t stand behind Italian bonds was an epic blunder that was quickly retracted, says Jon Sindreu in The Wall Street Journal.

Investors should look past the furore about spreads and think about what the ECB has actually announced, says Ferdinando Giugliano on Bloomberg. The central bank has added €120bn to its asset purchase programme, whereby it acquires government and corporate bonds with printed money in order to inject cash into the system. 

The ECB has also announced a significant expansion of its targeted longer-term refinancing operations (TLTRO) programme, which provides very cheap loans to banks. It also signalled its willingness to deviate temporarily from rules capping how many Italian and Spanish government bonds it can own. The announcements “should provide meaningful relief to banks, companies and governments”.

“Black Zero” no more

With interest rates below zero governments will need to step in with a large fiscal response to Covid-19. Yet early this week eurozone finance ministers had only agreed to cautious steps, such as easing budgetary rules and the activation of the €410bn European Stability Mechanism, the Union’s crisis fund. Lucas Guttenberg of the Jacques Delors Centre told the FT that the bloc has so far “failed to send a clear message that it has the political will and the tools ... to keep the eurozone together in the coming months”.

German caution has been the main obstacle to the massive coordinated fiscal response for which Macron, among others, is calling. Yet even Germany has started to loosen the purse strings, says Marcus Ashworth on Bloomberg. Angela Merkel’s government has long made a fetish of its “black zero” balanced budget policy. Yet Lagarde’s gaffe and the consequent bond-market ructions have shocked Berlin into action. With the euro’s viability again in question, finance minister Olaf Scholz pledged to loosen the budget rule to provide massive credit support to cash-strapped businesses. “Germany’s Black Zero rule [looks] dead.”

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