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A Franco-German concerted effort to alleviate EU economy

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In spells of economic downturns, policymakers, through both fiscal and monetary policy tools intervene.

As markets feared the possibility of another economic fallout, deepened by the fast-spreading Covid-19, pressure on policymakers to take preventive measures to stimulate the economy and thus cushion the ensuing economic hit mounted.

Policy makers on both a national and European front promptly reacted.

To try mitigate the significant impact on economic growth within the Euro area set to ensue, several European countries stepped in, digging deep into their pockets, at the expense of significantly increasing their debt to GDP ratios.

Notably, to soften the impact and thus ensure companies can weather the crisis, Merkel’s coalition, amongst other measures, pledged unlimited cash to businesses hit by the pandemic through a massive expansion of loans and allowed companies to defer billions of euros in tax payments. Similarly, amongst other measures, France announced a state-guaranteed loan scheme, guaranteeing 70 per cent of loans, aiding companies to strengthen their financial position while the Italian government, following a 25 billion-euro package introduced in March, announced a 55 billion-euro stimulus package aimed at helping Italy’s battered businesses and struggling families.

Meanwhile, to counter the serious economic risks posed by the outbreak and escalating diffusion of the coronavirus on a European front, the ECB’s Governing Council announced a

temporary asset purchase programme of both private and public sector securities; an envelope of 750 billion-euro, known as Pandemic Emergency Purchase Programme (PEPP).

Notwithstanding the concerted effort to try stimulate and thus mitigate the impact on the European economy, economic numbers, which in Europe were already subdued, deteriorated further, portraying no sign of recovery, at least in the short-term.

In a bid to further support European Union’s coronavirus-stricken economies recover from the ensuing economic disruptions, German Chancellor Angela Merkel and French President Emmanuel Macron, in a joint videoconference announced that they have joined forces to push a 500 billion-euro recovery fund, boosting the effort to create a coordinated European Fiscal response.

Rather than issuing loans to national governments, which in-turn would further increase sovereign’s indebtedness, funds that would be raised through EU-backed bonds and repaid from the EU budget, the majority of which are covered by Germany, will be used to help the hardest hit industries and regions.

On the announcement, troubled European sovereigns such as Italy’s jumped, with yields which move inversely to price, falling by nearly 20 basis points to the 1.60 per cent levels.

Given that EU’s largest economies shared opposing views over the issue of common debt issuance to pay for recovery efforts, the Franco-German proposal brought forward marks a potentially significant breakthrough. Albeit this, the plan is still only a foundation and will eventually require the backing of all 27 member states. If it goes through, the agreement may well relieve some of the pressure on the ECB, which to-date has taken the lead in the EU wide level response, by pledging to buy more than a trillion euros of debt to alleviate markets.

In spite of the meaningful breakthrough, the proposal which is already backed by the major contributor, may indeed face resistance, with a sizeable number of Northern EU member states already voicing their opinion.

Without undermining the benevolent act by Europe’s largest economy – deemed to be the largest contributor, the validity of such proposal, and the benefit it may yield, the proposal may indeed lead to a fragmented European Union.

Undoubtedly, at this juncture, any form of aid which may materialize and prove sufficient to mitigate the impact on the hardest hit will indeed be beneficial.

This article was issued by Christopher Cutajar, Credit Analyst at Calamatta Cuschieri. For more information visit, https://cc.com.mt/. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.

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