The pandemic threatened to spark another debt crisis in the euro area. Instead, it prompted a strong fiscal response that buffered the shock and underpinned a shift recovery.
The end of the ECB’s Pandemic Emergency Purchase Programme (PEPP)
amid increasing inflation has brought again to the fore fiscal concerns
in the euro area that remained dormant during the pandemic (Corsetti and
Codogno 2021). High debt and its sustainability are at the core of
those concerns and feed into the policy debate. On the fiscal side,
discipline and adjustment are rising in the European discussion. On the
monetary side, the ECB is navigating a narrow path, tightening monetary
policy and attempting to dispel fears of diverging financing costs and
fragmentation within the euro area (Reichlin et al. 2022). Against this
backdrop, understanding the impact of PEPP and – even so more at the
current juncture – of its termination on debt sustainability is a
central policy issue.
In this column, we analyse the effects of PEPP on the debt dynamics
of highly indebted eurozone countries. We apply the methodology
developed in Alberola et al. (2022) that embeds the estimation of the
spread compression induced by the asset purchases in a stochastic debt
sustainability analysis (DSA).
Euro area sovereign debt has reached new peaks after the pandemic.
The average debt-to-GDP ratio of the three large highly indebted
countries that we analyse – Italy, Spain, and Portugal – surged 25
points in 2020 to surpass 130% of GDP (Figure 1). In contrast to the
euro crisis of 2012, sovereign spreads only increased briefly at the
onset of the pandemic to decrease sharply afterwards. The unprecedented
interventions by the ECB, especially through the PEPP, were key to this
outcome; the programme also created the fiscal space to implement a
massive fiscal expansion to face the crisis at the national and EU-wide
level. As the programme expired, debt sustainability concerns have
resurfaced amid increasing spreads, inflation, and a tightening of
monetary policy.....
Figure 1 Announcements and implementation of ECB asset purchases have an impact on spreads.
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