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COVID-19 economic update – May 7, 2020


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Our Economics department keeps track of all the important developments in the financial markets in both advanced economies and emerging markets. We will be publishing weekly briefings with analytical assessments of the current macroeconomic and financial market situation. Find out more about the EIB Group's response to the crisis


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Zooming in on sectors, the Flash Purchasing Manager's Indexes (PMIs) for April confirmed not only the freefall started in March, but also that services are taking the heaviest blow. The PMI dropped to 13.5 from 29.7 in March in the euro area, the largest monthly decline on record (Figure 2). Manufacturing also showed the impact of supply chains disruptions and shortages of inputs. In Germany, the ifo business climate survey is pointing further down and moved to 74.3 in April from 85.9 in March and 96.0 in February, alongside deteriorating expectations. In France, economic activity is currently about 35% below normal conditions, according to a report by INSEE, the French statistical agency. In particular, activity in the business sector and consumer spending are 41% and 33% below normal conditions, respectively.


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Expectations over the next three months - across all subcomponents of the Economic Sentiment Indicator - deteriorated drastically, signalling that a very severe downturn in the second quarter of 2020 is to be expected. It should be noted that, compared to previous months, the response rate was lower, thereby limiting the comparability of the index and possibly signalling even sharper actual declines. Focusing on the more forward-looking components of the report, the graph below shows the worsening of expectations in terms of production for manufacturing (Figure 4) and demand for services in the European Union (Figure 5), disaggregated by sector. The ranking is relatively unchanged from the previous month, with the sectors directly affected by the lockdowns (hotels, restaurants, travels and leisure) suffering the most; but worsening expectations are mounting in other sectors as well, showing that a sgeneralised recession is ongoing.


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Despite government support, employment prospects are grim amid sharp contraction of economic activity. More than 30 million workers from the five largest economies applied to have their wages paid or subsidised by the state: about 10 million in France, more than 7 million in Italy, about 5 million in Germany and 4 million in Spain and UK. This represents about 20% of the total employment combined in these countries. Measures to prevent job shedding are among the most expensive introduced by European governments, as they are expected to cost more than EUR 100 billion in total in these five countries as reported by the Financial Times on 28 April. In Japan, the unemployment rate increased to 2.5% in March, while the ratio of open jobs to applicant fell sharply to 1.39, the lowest since mid-2016.


1. See Weekly of April 8 for methodological descriptions of the indicator.


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Banking sector

Euro area banks report higher demand for credit from enterprises and lower demand for housing loans, according to the latest ECB euro area bank lending survey (BLS). The results show an increase of loan demand by enterprises in the first quarter of 2020 and an expected increase in the second quarter, largely driven by emergency liquidity needs (Figure 7). Demand for housing loans shows the opposite trend, with a deceleration in the first quarter and a sharp fall expected in the second quarter of 2020 (a net percentage of 6.7% of banks expect a decline, similar to what was registered in the second half of 2008). This aggregate picture masks significant differences across countries. While net demand for loans to enterprises increased considerably in Germany and France in the first quarter of 2020, it declined in Spain and remained unchanged in Italy (Figure 8). Demand for housing loans also showed some divergence, increasing in Germany and France and decreasing in Spain and Italy.


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Banks report tighter credit standards on loans to enterprises in the first quarter but expect a substantial easing in the second quarter of 2020 (Figure 8). Still, the tighter credit conditions reported by euro area banks are relatively contained when compared to the tightening of bank credit standards during the global financial crisis and the sovereign debt crisis. According to the ECB, this more muted reaction is related to the size and timeliness of policy measures and the greater resilience of euro area banks. In the second quarter, banks expect credit standards to ease considerably for firms due to the support measures introduced by governments (guarantee schemes) and the ECB. Credit standards on loans to enterprises tightened in the first quarter of 2020, especially in Germany, followed by Italy and Spain, while they remained unchanged in France. For housing loans, credit standards tightened in Germany and particularly in France (partly due to macroprudential recommendations), but remained unchanged in Spain and Italy.


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Corporate sector

In Europe, after extreme rapid gains during the first half of March, non-financial corporate bond yields have since been on a declining trend, from around 160 bps to 130 bps for BBB-rated corporates and from about 120 bps to 80 bps for A-rated corporates (Figure 9). Overall, one-quarter of the rise recorded since the onset of the crisis has been reversed. As for the rise, the decline in corporate bond yields has been relatively similar across the rating spectrum. However, many corporates have faced downgrades and therefore issue at yields associated with higher risks. Overall, it is difficult to assess the evolution of the cost of debt finance: it is reduced by the lower price of risk but increased by the higher risk. In late April, 70% of the outstanding amount of debt issued by non-financial corporates is rated below investment grade (Figure 10).


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Stock prices of non-financial corporates have also continued their rally from their low of late March. Since then, one-third of the losses has been recovered, from a low of -30% compared to December 2019, to -20% in the last week of April. Conversely, since late March, bank stock prices have continued to decline and currently stand between 40% to 45% below their levels of December 2019.

Economic sectors have been affected unevenly by the crisis. Stock markets have priced in – since the beginning of 2020 – a steeper decline for industrial goods and automobiles than for any other sectors. On the opposite end of the spectrum are pharmaceutical and health care services, which have not only rebounded from the overall late March low but are currently above December 2019 levels (Figure 11). 

Similarly, small corporates without access to market finance have also been affected differently across sectors. As shown in Figure 12, the median cash to sale ratio of corporates varies substantially from a low of 25% in pharmaceuticals to a high of 85% in real estate. For a given cost structure, firms with higher cash buffers can withstand a longer period of sales freeze. In contrast, firms with weaker cash positions may have to tap overdrafts, an extremely expensive funding source, sooner. However, cash positions also reflect features of the business model specific to each firm and sector. Therefore, without considering characteristics of the cost structure, it is difficult to gauge the impact of the differences in cash position on liquidity risk. To reduce the likelihood that European corporates fall into bankruptcy owing to liquidity shortfall, policymakers in the European Union have designed various programmes to alleviate cash outflows and maintain the flow of short-term credits.


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Emerging markets

Market sentiment towards emerging markets remains weak, albeit with slight improvements compared to the past couple of weeks. Some early signs of stabilisation were mainly driven by the generally positive news about the evolution of the COVID-19 pandemic in major advanced economies along with announcements of gradual unwinding of containment measures and additional policy interventions. This is also reflected in an improvement in market volatility - VIX (Figure 13) – and the stabilisation of capital outflows from the emerging economies, which plateaued at around USD 90 bn (cumulative since end-2019) in the second half of the month. That said, divergences among emerging markets are growing larger, with Latin America, sovereign spreads, currencies and stock market falling behind emerging market average, driven by Mexico and Brazil (Figure 14).


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Notwithstanding the recent, relatively more benign mood in the financial markets, economic costs for emerging market economies appear to be on the rise, reflecting the implementation of more stringent measures to halt the spread of the disease. To support economic activity, emerging market governments undertook a range of monetary and fiscal policy actions in the last two weeks. On the monetary side, Turkey cut borrowing costs by twice as much as predicted by investors; Mexico slashed its key rate in an emergency meeting; the Ukrainian central bank lowered rates below 10% and the Russian central bank cut its benchmark lending rate by 50 basis points to 5.5%, their respective lowest levels in six years. As for fiscal measures, the most striking example comes from South Africa, which announced an additional package of USD26bn (10% of GDP). However, markets reacted negatively to the majority of these announcements, a potent reminder that economic authorities in emerging economies are relatively more constrained in sutilising economy policy tools to mitigate the effects of the crisis.

Emerging and frontier market sovereigns and banking systems continued to suffer from rating downgrades or outlook changes. In the last two weeks, Moody's changed the banking system outlooks of South Africa, Nigeria, Morocco, Brazil, Colombia, Paraguay, Panama and Uruguay from stable to negative, quoting an expected rise in non-performing loans and a protracted decline in banks' profitability. On a positive note, Moody's assessed the liquidity positions of those banking systems (in both domestic and foreign currency) as resilient, given the support provided by the respective Central Banks. Nigeria is the only noted exception.


2. For more details and exact wording see https://www.ecb.europa.eu/press/pr/date/2020/html/ecb.pr200422_1~95e0f62a2b.en.html