Eurozone: Monetary Easing Leaves More Scope for Fiscal Stimulus – Goldman Sachs
Research Team at Goldman Sachs, suggests that running an easier fiscal policy is more feasible now than at the peak of the Euro crisis.
“The economic Zeitgeist in Europe has changed: against the background of painful adjustment in many Euro area countries, political pressure from Brussels and Berlin for adherence to the EU’s fiscal rules has diminished (though not disappeared). More importantly, the ability of heavily indebted peripheral economies to ease fiscal policy has been transformed by the relaxation of government financing constraints stemming from the ECB’s adoption of sovereign asset purchases last January.
While the ECB is not permitted to engage in direct primary market purchases of sovereign debt, its asset purchases effectively finance higher government deficits. Moreover, they allow public debt overhangs to be refinanced at longer maturities and lower rates, reducing rollover risks, lowering term premia of government bond yields, and releasing a cash windfall from lower debt servicing costs. Most crucially, the backstop ECB asset purchases provide to sovereign markets has made government financing conditions largely immune to fiscal news, at least in the larger Euro area countries.
The creation of fiscal space on government balance sheets via these mechanisms is one of the most important—though unstated—channels of transmission for the ECB’s sovereign asset purchases to the real economy. Beyond the recently announced acceleration in the pace of asset purchases (to EUR 80bn/month), we expect further prolongation of the ECB’s sovereign purchases beyond its current March 2017 horizon. Fiscal support from the ECB will be long-lived.
Yet using ECB sovereign purchases to create fiscal space comes with risks. Unchecked fiscal easing facilitated by ECB asset purchases may threaten fiscal sustainability and/or further blur the lines between fiscal and monetary policy. As discussed elsewhere in this issue of Top of Mind, these risks place a premium on improving the governance of Euro area macroeconomic policies.”
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