EU confident of recovery in 2021 if effective assistance is given to business employment

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In its COVID-dominated Spring forecast, the European Commission forecasts the 27-member-group’s economy to contract by 7.5% this year, far deeper than the haemorrhage experienced during the global financial crisis in 2009. Next year’s rebound isn’t expected to exceed 6%. This outlook would leave the EU, at the end of 2021, at around 3% lower than pre-pandemic expectations.

The EU’s report finds that by the end of next year, the number of employed people in the EU would be, on average, about 1% below what was recorded in 2019. Lower employment and investment reduce potential output, whereas the record-high uncertainty about jobs, incomes and sales, are set to hold back demand for some time.

The report notes that given the severity of this unprecedented worldwide shock, it is now quite clear that the EU has entered the deepest economic recession in its history. It adds that the current shock has reverberated across global financial markets as the spread of the virus outside China led to a sudden repricing of risks in March while safe haven sovereign yields declined.

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In Europe, riskier market segments such as equities and high-yield corporate bonds took a hit once it became clear that COVID-19 was also strongly affecting the continent. This resulted in the fastest market sell-off since the Global Financial crisis of 2008-2009, reflecting the rapid and sharp deterioration of the economic outlook and profitability prospects, but also by the severe liquidity dry-up that non-financial corporations were confronted with.

The report notes that the monetary and fiscal policy response to the crisis, both globally and in the EU, has been swift and strong with unprecedented measures taken to contain the macroeconomic fallout and alleviate liquidity pressures. In the EU, policy announcements contributed to the stabilisation of financial markets with spreads narrowing for corporates and sovereigns and equity markets recovering part of their losses in April, although markets also benefited from reports suggesting that the pandemic might have peaked in some countries. In the euro area, the ECB began in mid-March to take a broad range of monetary and credit policy measures. In response to these liquidity constraints, EU Member States have also implemented a number of liquidity support measures, such as partial or total guarantees on bank loans. These liquidity measures amount to 22% of EU GDP and were complemented by existing EU budget instruments offering support of up to about 4½% of EU GDP.

Impact on jobs

The euro area unemployment rate is expected to increase from 7.5% last year, its lowest level in more than a decade, to about 9.5% this year and to decrease next year while remaining well above its pre-pandemic level in 2021. Unemployment rates are expected to rise very differently across the Union, not only because of the size and effectiveness of policy measures, but because of pre-existing vulnerabilities (e.g. high share of temporary contracts) and different sector specialisations (e.g. tourism).

Fiscal impact

The aggregate general government deficit is expected to surge from 0.6% of GDP in 2019 to 8.5% of GDP in both the euro area and the EU this year. This sharp increase largely reflects the work of automatic stabilisers and sizeable discretionary fiscal measures. In 2021, the headline deficit is forecast to decrease to 35% of GDP in both areas due to the expected rebound in economic activity and the unwinding of most of the temporary measures adopted in response to the COVID-19 crisis. After having been on a declining trend since its peak in 2014, the euro area’s aggregate debt-to-GDP ratio is projected to reach a new peak of close to 103% in 2020 before decreasing by about 4 percentage points in 2021 based on a no-policy-change assumption.

Future scenarios

As some of the Member States hit hardest by the virus are also those with the least policy space to respond, the EU said that divergences across countries could become entrenched if national policy responses are not sufficiently coordinated or if there is no strong common response at the EU level. This could distort the internal market and ultimately threaten the stability of the euro area. Globally, the pandemic period could also trigger more drastic and permanent changes in attitudes towards global value chains and international cooperation that would particularly hit open economies such as the EU.

However, on the positive side, the EU notes that provided that the policy measures taken to support incomes, jobs, liquidity and investment are effective, economic activity should rebound once the confinement is gradually relaxed. Even so, demand is set to remain subdued for longer as workers concerned about their employment prospects will tend to save a higher share of their income, and firms faced with uncertainty about future sales will delay or cancel investment.

The EU also presented separate assessment on each of the 27 Member States. An analysis of the EU’s take on Malta by CDE News is available here.

CDE News

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