Macrocast

Policy hurdles, political dilemmas

Key points

  • From a policy angle a new fiscal push in the US is needed but political calculations are narrowing the options.
  • We look at the “banking channel” in Europe. There may be some policy space left there.
  • The European council meeting on 15 October will be busy, between Brexit and dealing with a last-minute hurdle on the Recovery and Resilience Fund.
  • The UK’s part-time unemployment scheme focuses on labour re-allocation while raising risks of demand shock.

After some U-turns from the US President and although discussions are continuing, no deal has been found on a new fiscal stimulus package. The Fed has been very explicit on the necessity of a timely and comprehensive additional budgetary push to sustain the recovery. It is unlikely though that another layer of monetary support is imminent to offset the lack of response from the federal government and deal with the softer economy. We may need to wait for the political dust to settle in the US – which may not be come on November 3rd already – to get more visibility on the overall policy mix.

We look at options for central banks though. While we are convinced that quantitative easing, in the current configuration, is the “main game in town”, it may not be the only one. For all the ECB’s accommodation, lending rates to businesses and households have not fallen in this crisis. In several countries, bank margins have rebounded, as non-financial agents have shifted their cash towards non-interest rate bearing sight deposits. Now, margins may not have improved enough to compensate for banks’ higher risk taking in a difficult environment. Making the Targeted Longer-Term Refinancing Operations even more generous, thus reducing banks’ average cost of liabilities, would make sense, in our view, reviving the “banking channel”.

The European Council meeting on October 15th is important. We do not necessarily think that an absence of deal with the UK this week would signal the end of the negotiations – we think the pressure on London continues to build, as the rising probability of a Biden victory would leave a no-deal UK quite isolated internationally. The council may well be focused on internal affairs. The Recovery and Resilience Fund is faced with a last-minute hurdle, as the EU’s multiannual financial framework is conditional on the resolution of a conflict on a new system to enforce rule of law principles in member states. We think a compromise will be found, but a delay is possible.

Finally, we look at part-time unemployment schemes across countries and their likely impact on job retention. The UK system is consistent with a swift reallocation of labour away from “doomed” industries, while raising the risk of an adverse demand shock.

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