IGTA Journal - Winter 2020/2021

29/01/2021 The sovereign-bank-corporate nexus – virtuous or vicious? https://www.ecb.europa.eu/press/key/date/2021/html/ecb.sp210128~8f5dc86601.en.html 12/13 We therefore continue to call on governments to extend targeted government support for as long as needed and to use public funds responsibly, with a clear focus on raising productivity and long-term growth potential. What we can do, however, is preserve favourable financing conditions for as long as necessary to reinforce and amplify the fiscal support and to ensure that private investment is not crowded out. This is what the Governing Council reaffirmed at its meeting last week. On the one hand, this means insulating the bank lending channel from adverse developments, to the extent possible. At our Governing Council meeting in December we therefore decided to further recalibrate our targeted longer-term refinancing operations (TLTRO III) by extending the period of more favourable terms by 12 months and by raising the total amount that counterparties are entitled to borrow. Preserving favourable financing conditions also means protecting relevant borrowing rates in financial markets from a tightening that would be inconsistent with countering the downward impact of the pandemic on the projected path of inflation. We therefore decided to extend and expand our pandemic emergency purchase programme, PEPP. We will now conduct purchases under the PEPP until at least March 2022 and we will purchase flexibly according to market conditions. This means that if favourable financing conditions can be maintained with asset purchase flows that do not exhaust the envelope over the net purchase horizon of the PEPP, the envelope need not be used in full. Equally, the envelope can be recalibrated if required to maintain favourable financing conditions and help counter the negative pandemic shock to the path of inflation. The focus on duration and preservation combines two mutually reinforcing benefits. First, the longer duration of the PEPP itself has a stabilising impact on financial markets. It significantly mitigates the risks of a sudden repricing and of self-fulfilling price spirals that threatened to impair the transmission of our policy in March last year. Second, this calming effect has the potential to increase the efficiency of our purchases. It allows us to calibrate our purchases flexibly according to market conditions, consistent with our commitment to preserve favourable financing conditions. As President Lagarde highlighted last week, this requires the Eurosystem to maintain a strong presence in euro area bond markets. In summary, by focusing on duration and preservation, we are sending a clear signal to markets that the current broad-based policy mix will continue to provide the necessary support to bridge the time until the economy can stand on its own feet once again. Conclusion Let me conclude. The decisive policy response to the COVID-19 pandemic by fiscal, monetary and prudential authorities has successfully prevented a much deeper economic contraction and averted threats to financial stability. Government support measures, in combination with the ECB’s ample liquidity provision, have secured bank lending to firms throughout the crisis. Now it must be ensured that the current virtuous sovereign-bank-corporate nexus does not turn into a vicious circle in the future. This starts with minimising the risks of cliff effects associated with an abrupt and premature withdrawal of public support. It extends to the swift implementation of the Next Generation EU package and a commitment to use public funds in a way that raises potential growth and nurtures the trust needed to make progress with reforming and completing the euro area’s institutional architecture. IGTA eJournal | Winter 2020/21 | 17