A Framework for a European Economic Recovery After COVID-19

Forum DOI: 10.1007/s10272-020-0904-2 End of previous Forum article Julia Anderson, Simone Tagliapietra and Guntram B. Wolff A Framework for a European Economic Recovery After COVID-19 To slow the spread of COVID-19, European governments have adopted stringent containment measures. These have led to a severe recession, and policymakers in European Union countries are providing ample support to help companies cope with the immediate consequences. The basic approach has been to provide generous and indiscriminate emergency support to help cash-strapped firms meet their immediate liquidity needs. But even as economies tentatively reopen, countries face deep recessions and a more comprehensive strategy for the future needs to be designed. © The Author(s) 2020. Open Access: This article is distributed under the terms of the Creative Commons Attribution 4.0 International License (https://creativecommons.org/licenses/by/4.0/). Open Access funding provided by ZBW – Leibniz Information Centre for Economics. Julia Anderson, Bruegel, Brussels, Belgium. The success of support measures as COVID-19 lockdowns are relaxed depends on the type of recovery the EU wants to achieve. At the same time, decisions taken today will have long-term implications for the single market and government debt. How should further fiscal support provided to companies be structured? What implications will different approaches have for the single market, government budgets and the EU’s climate strategy? Difficult trade-offs lie ahead: a speedier recovery could run counter to green ambitions; national rescues could hurt neighbouring markets. Hard choices in the coming phases should follow a set of four principles and the recovery effort should be structured around equity and recovery funds with borrowing at the EU level. Three phases of economic response to COVID-19 COVID-19 lockdown measures have led to sharp contractions in economic output, household spending, corporate investment and international trade. EU countries have seen an estimated average decline in annual GDP growth of up to three percentage points per month of lockdown.1 Simone Tagliapietra, Bruegel, Brussels, Belgium. Guntram B. Wolff, Bruegel, Brussels, Belgium. ZBW – Leibniz Information Centre for Economics 1 Each month of lockdown is expected to cause a decline in annual GDP growth of 2.4 percentage points in Germany and of three percentage points in France and Italy. 209 Forum The EU economy is predicted to contract by a record 7.4% in 2020 (European Commission, 2020a). The impact of COVID-19 on the European economy might ultimately turn out to be even greater than currently estimated. The health and economic impact of the pandemic and the containment measures on sectors and countries have varied significantly. For example, tourism slowdowns have hit airlines and Mediterranean countries particularly hard. The construction sector is more heavily affected in some countries than in others (with construction production growth rates ranging from -61% in France to 0.7 in the Netherlands).2 In the fiscal economic policy response to the pandemic, three phases can be broadly distinguished. Phase 1 measures are meant to temporarily freeze economies at the point they were at before the crisis in order to shield healthy businesses from bankruptcy and to protect European firms from hostile takeovers by foreign statebacked enterprises. Phase 1 support has been crude and indiscriminate, and rightfully so. The motto is speed over perfection. The national economic measures taken in phase 1 are characterised by indiscriminate, national liquidity support to firms and workers. These measures are meant to keep firms afloat in the face of near-universal cash shortfalls, to prevent unnecessary layoffs and to deter hostile takeovers (especially from non-EU statefinanced enterprises). As early as 19 March 2020, the European Commission amended the EU state aid rules with a so-called Temporary Framework to allow governments to undertake such measures. However, the size of fiscal responses in different EU countries has varied widely. For instance, immediate fiscal stimuli have ranged from 3% of GDP in Italy and 2% in Spain to 12% of GDP in Germany (Anderson et al., 2020). Phase 2 is about solvency support. After months of lockdown, firms must take on increasing amounts of debt and draw on equity reserves to meet their working capital and investment needs. The European Commission estimates that by the end of 2020, 25% to 35% of European companies will have exhausted their working capital and liquidity buffers, falling short of an estimated €350 billion to €500 billion in liquidity (European Commission, 2020b).3 At the same time, credit standards are tightening.4 For increasingly leveraged firms, bankruptcy looms. Solvency support through direct recapitalisation is needed. This phase is expected to last roughly until the end of any lockdown measures. Lockdowns may continue until full immunity or a vaccine is available, so possibly well into 2021. Phase 3 will then be about recovering from the severe contraction phase that the likely on-and-off switching of lockdown measures will leave in its wake. On 21 July 2020, the European Council agreed on an EU recovery fund, called Next Generation EU, targeting the sectors and geographical parts of the EU most affected by the crisis. However, only a very small share of the planned €750 billion will be spent in 2020.5 In the following, we discuss the key principles that should guide support measures in phases 2 and 3. One key consideration is that decisions taken in phase 2 – who gets bailed out, how and under what conditions – will determine who is left standing in the recovery phase. Conversely, predictions about the shape of the recovery and about policy measures enacted in phase 3 (such as demand support) could determine whether or not a company can be deemed solvent today. As countries move to the next phases, taking account of EU cross-border effects will become increasingly important. Phases 1 and 2 have so far largely involved national fiscal policy. However, differences in state-aid disbursements and other support during phase 2 could well leave lasting marks as countries make different and uncoordinated decisions, whether due to fiscal space or preferences. Decisions taken now will thus shape the single market of tomorrow. In phase 3, economic outcomes will be shaped by budget decisions related to the EU’s multiannual financial framework (MFF) and the EU recovery fund, alongside national recovery programmes. A comprehensive strategy for phases 2 and 3 is needed. Four guiding principles for managing phases 2 and 3 Moving from phase 1 to the next phases is not simply a matter of providing equity instead of debt. While phase 1 injections have been emergency measures, phase 2 4 5 2 3 210 Total construction, April in respect to February 2020. Eurostat data: https://ec.europa.eu/eurostat/statistics-explained/index.php?tit (...truncated)