So long as we are in the eye of the Covid-19 storm, the ECB will not face serious obstacles to implement its purchase programme. Yet, even once the crisis is over, budget deficits will continue to loom large, and the ECB will not be necessarily able to keep buying government bonds. For instance, if inflation were to rise above 2% for some time, it would be difficult to justify such purchases for strict monetary purposes. Developing mutualisation tools would also be a way to bring monetary policy back to its original function, rebalancing the policy mix away from it without automatically resorting to fiscal transfers across the Member States. If de facto monetary financing is a good solution for the short to medium term only, over the long run some form of mutualisation, combined with centralised fiscal capacity and a safe asset as macroeconomic stabilisation tools, would be required.
A three-pronged approach
As European leaders prepare for the all-important decisions of the next summit, it is important to spell out what they should respond to and how the different tools could be helpful. The approach should be a three-pronged strategy to 1/ avoid a financial crisis, 2/ limit the economic damage, 3/ support the recovery of the economy after the shock.
Primum vivere deinde philosophari, i.e. first the Eurozone and individual countries need to survive, and then we can discuss future strategies. This is to say that first and foremost, Eurozone policymakers need to avoid a repeat of the 2010-2011 government debt crisis. Some countries have entered the crisis with high debt levels and some others not, but it is in the interest of everyone to avoid financial distress. For that, Italy and other peripheral countries would have to ask an Enhanced Conditions Credit Line (ECCL) by the ESM, which currently has €410bn of resources that could be used to support countries. There is an understandable reluctance by Italy and others to go for conditionality when the nature of the shock is beyond the control of any government.
Therefore, the stigma should be dwarfed by multiple requests to these lines of credit and by a watered-down conditionality, mostly linked to proper temporary spending related to the COVID-19 crisis. The credit lines may not even be used, but they would pave the way for the ECB to independently decide to activate the OMT. While current firing power is massive, it is for now limited to year-end and the amount to €1.1Tn.