Monetary policy during the pandemic : fit for purpose?
Date: 2021-04-19
Institutions: Directorate-General for Internal Policies of the Union
Subjects: European Central Bank, coronavirus disease, economic recession, financial stability, interest, monetary policy

IN-DEPTH ANALYSIS 
Requested by the ECON committee 

That  

Monetary Dialogue Papers, March 2021 

Monetary Policy 
During the Pandemic: 
Fit for Purpose? 

Policy Department for Economic, Scientific and Quality of Life Policies  
Directorate-General for Internal Policies 
Authors: Christophe BLOT, Caroline BOZOU, Jérôme CREEL 
PE 658.226 - March 2021 

EN 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
  
 
Monetary Policy 
During the Pandemic: 
Fit for Purpose? 

Monetary Dialogue Papers  
March 2021 

Abstract 

This contribution reviews the ECB measures since the start of the 
COVID-19 crisis, i.e. the extension of APP and the introduction of 
PEPP.  We  show  that  APP  announcements  have  helped  steer 
inflation  expectations  upward.  We  also  show  that  PEPP  has 
alleviated fragmentation risk. Finally, we show that since the mid-
2000s,  ECB  measures  have  had  real  effects  on  euro  area 
unemployment  rates,  nominal  effects  on  inflation  rates  and 
financial effects on banking stability.  

This paper was provided by the Policy Department for Economic, 
Scientific  and  Quality  of  Life  Policies  at  the  request  of  the 
committee on Economic and Monetary Affairs (ECON) ahead of 
the Monetary Dialogue with the ECB President on 18 March 2021. 

 
 
 
 
 
 
 
 
 
 
 
 
This document  was  requested  by  the  European  Parliament's  committee on  Economic  and  Monetary 
Affairs (ECON). 

AUTHOR(S) 
Christophe BLOT, Sciences Po-OFCE and Université Paris Nanterre 
Caroline BOZOU, Sciences Po-OFCE 
Jérôme CREEL, Sciences Po-OFCE and ESCP Business School 

ADMINISTRATOR RESPONSIBLE  
Drazen RAKIC 

EDITORIAL ASSISTANT  
Janetta CUJKOVA 

LINGUISTIC VERSIONS 
Original: EN 

ABOUT THE EDITOR 
Policy  departments  provide  in-house  and  external  expertise  to  support  European  Parliament 
committees and other parliamentary bodies in shaping legislation and exercising democratic scrutiny 
over EU internal policies. 

To contact the Policy Department or to subscribe for email alert updates, please write to: 
Policy Department for Economic, Scientific and Quality of Life Policies 
European Parliament 
L-2929 - Luxembourg 
Email: Poldep-Economy-Science@ep.europa.eu  

Manuscript completed: February 2021 
Date of publication: March 2021 
© European Union, 2021 

This document was prepared as part of a series on “Recalibrated Monetary Policy Instruments to 
Address the Economic Fallout from COVID-19”, available on the internet at: 
https://www.europarl.europa.eu/committees/en/econ/econ-policies/monetary-dialogue  

DISCLAIMER AND COPYRIGHT 
The  opinions  expressed  in  this  document  are  the  sole  responsibility  of  the  authors  and  do  not 
necessarily represent the official position of the European Parliament.  

Reproduction  and  translation  for  non-commercial  purposes  are  authorised,  provided  the  source  is 
acknowledged and the European Parliament is given prior notice and sent a copy. 

For citation purposes, the publication should be referenced as: Blot, C., Bozou, C. and Creel, J., Monetary 
Policy During the Pandemic: Fit for Purpose?, Publication for the committee on Economic and Monetary 
Affairs, Policy Department for Economic, Scientific and Quality of Life Policies, European Parliament, 
Luxembourg, 2021. 

 
 
 
 
 
 
 
 
 
 
Monetary Policy During the Pandemic: Fit for Purpose? 

CONTENTS 

LIST OF FIGURES 

LIST OF TABLES 

LIST OF ABBREVIATIONS 

EXECUTIVE SUMMARY 

INTRODUCTION 

  A LARGE SET OF EXPANSIONARY MEASURES 

  ECB MONETARY POLICY EFFECTS: A MACROECONOMIC VIEW 

  ASSESSING THE EFFECT OF ASSET PURCHASES 

4.1.  Does the APP influence inflation expectations? 

Methodology 

Results 

4.2.  Does the PEPP influence sovereign spreads? 

  CONCLUSION 

REFERENCES 

ANNEX 

4 

4 

5 

6 

7 

9 

13 

16 

16 

17 

18 

19 

24 

26 

27 

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LIST OF FIGURES 

Figure 1: 

Total assets of the Eurosystem, EUR billion 

Figure 2:  Monetary stance measured by the shadow rate, in % 

Figure 3: 

Impulse response functions – VAR model 

Figure 4:  Market-based expected inflation, in % 

Figure 5: 

Sovereign spread in the euro area, in percentage points 

Figure 6: 

Reaction of sovereign spreads to PEPP, in basis points 

Figure 7:  Weekly purchases of public securities under PEPP, in EUR billion 

Figure 8: 

PEPP effect on spreads – one week after, in basis points 

Figure 9: 

PEPP effects on spread (alternative measure of sovereign stress), in basis points 

LIST OF TABLES 

Table 1: 

Table 2: 

Table 3: 

Table 4: 

Main policy decisions taken by the ECB during the pandemic 

Event study analysis on APP decisions (1 day window) 

Event study analysis on APP decisions (1 day window) 

Breakdown of public sector securities under the PEPP 

10 

12 

15 

17 

20 

23 

25 

27 

27 

11 

18 

19 

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Monetary Policy During the Pandemic: Fit for Purpose? 

LIST OF ABBREVIATIONS 

APP 

ECB 

Asset purchase programme 

European Central Bank 

EONIA 

Euro overnight index average 

EP 

EU 

GDP 

HICP 

LTRO 

OMT 

PEPP 

European Parliament 

European Union 

Gross domestic product 

Harmonised index of consumer prices 

Longer term refinancing operations 

Outright monetary transactions 

Pandemic emergency purchase programme 

PELTRO 

Pandemic emergency longer term refinancing operations 

PSPP 

QE 

SMP 

Public securities purchase programme 

Quantitative easing 

Securities market programme 

TLTRO 

Targeted longer-term refinancing operations 

VAR 

ZLB 

Vector autoregression 

Zero lower bound 

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EXECUTIVE SUMMARY 

•  This  contribution  reviews  the  different  policy  measures  introduced  by  the  ECB  since  the 
inception of the COVID-19 crisis in Europe, mainly the extension of APP measures and the 
development of PEPP measures.  

•  APP  and  PEPP  have  had  distinct  objectives  in  comparison  with  former  policies.  APP  has  been 
oriented towards inflation expectations while PEPP has been oriented towards the mitigation of 
financial fragmentation.  

•  We  analyse  the  effects  of  APP  announcements  (including  asset  purchase  flows)  on  inflation 

expectations and show that they help steer expectations upward.  

•  We  also  analyse  the  impact  of  PEPP  on  sovereign  spreads  and  show  that  PEPP  has  had 
heterogeneous  effects  that  have  alleviated  fragmentation  risk:  PEPP  has  had  an  impact  on  the 
sovereign spreads of the most fragile economies during the pandemic (e.g. Italy) and no impact on 
the least fragile (e.g. the Netherlands).  

•  However, sovereign spreads have not completely vanished, making monetary policy transmission 

not fully homogeneous across countries. 

•  We also show that overall macroeconomic effects have been in line with expected outcomes since 
the mid-2000s: ECB monetary policy measures have had real effects on euro area unemployment 
rates, nominal effects on inflation rates and financial effects on banking stability.  

•  We conclude that an increase in the size of the PEPP program may be useful only in case financial 
risks re-emerge. Meanwhile, we argue that an ECB decision to cap the sovereign spreads during the 
COVID-19 crisis would alleviate the crisis burden on the most fragile economies in the euro area, 
where sovereign spreads remained the highest. 

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Monetary Policy During the Pandemic: Fit for Purpose? 

INTRODUCTION 

The outbreak of the COVID-19 pandemic has led central banks to take several decisions to deal with 
the economic and financial consequences of the crisis. In the euro area, the ECB took its first decisions 
on 12 March 2020, when euro area countries started to take lockdown measures.1 As the policy rate 
was already at the zero lower bound (ZLB), the ECB resorted to non-standard measures. It has notably 
consisted  in  amplifying  existing  measures  such  as  asset  purchases  (under  the  asset  purchase 
programme [APP]) and liquidity provision (through the longer-term refinancing operations [LTRO] and 
the targeted longer-term refinancing operations [TLTRO]). These measures have been supplemented 
by new measures specifically dedicated to alleviate the consequences of the pandemic. Even if all those 
measures have contributed to increasing the accommodative stance of monetary policy, some of them 
have  also  had  distinct  objectives.  The  latter  needs  a  proper  assessment  as  regards  their  fit  towards 
those specific objectives.  

The aim of this paper is not only to illustrate the macroeconomic effect of the accommodative stance 
of monetary policy but also to document the respective effects of two specific measures: the APP and 
the PEPP. The first one – the APP – aims at ensuring a highly accommodative monetary policy stance in 
order to weigh on inflation expectations and reach the inflation target. The role of the PEPP is to avoid 
disruption in the transmission of monetary policy across euro area countries and to that end, it aims at 
limiting  the  sovereign  spreads.  It  is  therefore  important  to  assess  whether  those  measures  have 
attained their targets. 

The APP was announced in January 2015, when the euro area was struggling to get out the double-dip 
recession  and  the  inflation  rate  was  far  below  the  2%  target.2  Under  the  APP,  the  ECB  adopted 
quantitative easing (QE) measures as was done earlier by the Federal Reserve, the Bank of England and 
the Bank of Japan. The recovery led the ECB to progressively slow down and then stop net purchases 
as  of  January  2019.3  However,  in  September  2019,  the  Governing  Council  decided  to  reactivate  the 
programme from November 2019, as there were signs that economic activity slowed down and with 
the inflation rate still not sufficiently converged to the inflation target. In March 2020, the euro area 
faced a new negative shock, which required to amplify the accommodative stance of monetary policy, 
through asset purchases. 

Even  if  all  euro  area  countries  were  hit  by  the  pandemic,  its  diffusion  was  not  uniform,  with  some 
countries  hit harder  and more  rapidly  than  the other. The  first  consequences of  the  COVID-19  crisis 
were on the health systems. The implementation of lockdown measures was meant as the only way to 
slow  down  the  spread  of  the  virus.  The  higher  the  intensity  of  these  measures,  the  stronger  the 
expected  economic  impact  on  households  and  firms’  revenues,  hence  the  higher  required  fiscal 
support.  Lockdown  measures  have  therefore  led  to  large  increases  in  public  debts  and  to  the 
resurgence  of  sovereign  risk  in  some  fragile  countries.  As  the  shock  was  exogenous  to  euro  area 
countries and fiscal policy was necessarily the main policy tool to tackle the crisis, it was important for 
countries  to  keep  fiscal  leeway.  However,  the  possible  increase  in  sovereign  yields  would  have 
compromised  the  ability of  countries  to implement  the  required  policies.  Consequently, in  order  to 
dampen sovereign risk in the absence of fiscal federalism, the ECB has had to make sure that these 
sovereign spreads would remain contained. This is why the PEPP was announced on 18 March 2020 
and then further extended twice in 2020. 

1  

Local measures have been taken in Italy and Germany from the end of February but global lockdown measures have been first announced 
by Italy on 10 March 2020, followed closely by Spain (14 March) and France (17 March). 
In 2014, the annual inflation stood at 0.4% in the euro area. 

2  
3   Maintaining, still, reinvestments of the principal payments from maturing securities. 

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The  COVID-19  crisis  had  already  led  to  a  surge  of  theoretical  and  empirical  literature  on  its 
macroeconomic effects. Regarding the impact of central banks’ response to the crisis, Rebucci et al. 
(2020) assess the impact of QE decisions taken by a large set of advanced and emerging central banks 
in March and April 2020. Their results suggest that QE has not lost effectiveness and that it has been 
associated with reduction in sovereign bond yields and exchange rate depreciations. However, their 
analysis suggests that the announcement of the PEPP has not triggered a significant decrease in the 
sovereign yield in the euro area, which is also confirmed by Bernoth et al. (2020). It may yet be noticed 
that the principal aim of this programme was not to weigh on the benchmark euro area yield but to 
decrease sovereign spreads. Besides, the allocation of weekly purchases across country markets was 
the main channel through which the ECB expected to influence spreads. In that way, the PEPP differs 
from  the  OMT  (outright  monetary  transactions)  announcement,  as  the  effect  of  the  PEPP  was  not 
intended to result only from a pure signalling effect. Finally, Ortmans and Tripier (2020) do not show a 
direct effect of ECB decisions on spreads but rather suggest that they have mitigated the financial stress 
stemming from the diffusion of the pandemic. They show that the publication of daily figures on the 
number of COVID-19 cases increased the sovereign spread before the ECB decisions but that this effect 
has then progressively been muted after the ECB’s decisions. 

The rest of the paper is organised as follows. We first review the decisions taken by the ECB during the 
crisis and then provide a first macroeconomic assessment of their effectiveness. Finally, we specifically 
assess the impact of APP announcements with an event-study and the effect of the PEPP on sovereign 
spreads. All empirical assessments point to the consistency of outcomes with policy objectives. 

PE 658.226 

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Monetary Policy During the Pandemic: Fit for Purpose? 

  A LARGE SET OF EXPANSIONARY MEASURES 

The ECB has rapidly reacted to the outbreak of the pandemic and the upsurge of downside risks for 
economic activity and financial stability. As the monetary policy rate was already at the ZLB since March 
2016,4 the ECB resorted to balance sheet policies and reiterated forward guidance announcements.5 
The first measures were announced on 12 March 2020, followed by additional decisions on 18 March 
and 30 April. The ECB has extended its toolkit to deal with the ongoing crisis, which resulted in a sharp 
increase of the Eurosystem’s balance sheet. From February 2020 to the end of January 2021, total assets 
have  increased  by more  than  EUR  2.3  trillion  (Figure  1)  representing  19.4%  of  2019  GDP.  By way of 
comparison, the size of the Federal Reserve balance sheet has increased by USD 3.1 trillion (14.5% of 
2019 US GDP). 

Balance  sheet  policies  implemented  by  the  ECB  entail  asset  purchases  (labelled  securities  held  for 
monetary purposes in Figure 1) and liquidity operations (lending to euro area credit institutions related 
to monetary policy operations). The first decision was to add an additional envelope of EUR 120 billion 
to be used until end-2020 under the APP (Table 1).6 The PEPP was launched soon after, on 18 March 
2020. It was first calibrated to EUR 750 billion with a deadline fixed for the end of 2020. In June 2020 
and December 2020, the envelope was raised by EUR 600 billion and EUR 500 billion, respectively, to 
finally  reach  EUR  1.85  trillion.  The  horizon  was  also  extended  to  June  2021  and  March  2022, 
respectively.  By  end-January  2021,  EUR  810  billion  out  of  EUR  1.85  trillion  of  assets  have  been 
purchased. As explained in Blot et al. (2020), even if APP and PEPP consist in asset purchases – mainly 
public securities – they pursue different objectives. While the APP was implemented to provide the 
needed expansionary monetary policy to “ensure price stability”, the PEPP aimed to address the risk of 
fragmentation related to a surge of sovereign spreads in some countries. The first objective of the APP 
is therefore to provide additional stimulus and weigh on overall financing conditions in order to reach 
the inflation target. The rationale given to the PEPP suggests an implicit objective of spread targeting 
among euro area countries. 

4  

5  

6  

This is indeed the case for the interest rate on main refinancing operations. The interest on deposit facilities, which is the driving rate for 
the overnight interest rate in a context of excess liquidity, was set to zero in July 2012 and is even negative since June 2014. 
The following statement was announced for the first time on 12 September 2019 and systematically reaffirmed at each Governing Council 
meeting since then: “The Governing Council expects the key ECB interest rates to remain at their present or lower levels until it has seen 
the inflation outlook robustly converge to a level sufficiently close to, but below, 2% within its projection horizon, and such convergence 
has been consistently reflected in underlying inflation dynamics.”  
Looking at effective net purchases, the additional envelope was used in full until the end of 2020, with frontloading in the first months of 
the pandemic. The additional envelope came on top of the EUR 20 billion net purchases per month that started in November 2019.  

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Figure 1: 

Total assets of the Eurosystem, EUR billion 

Source: ECB. 

Regarding  liquidity  measures,  the  first  decisions  –  on  12  March  2020  –  consisted  in  easing  the 
conditions  applied  to  TLTRO  III  and  providing  liquidity  to  the  credit  institutions  through  additional 
LTROs.  The  conditions  applied  to  TLTRO  III  were  further  eased  in  April  and  December  2020. 
Furthermore,  on  30  April  2020,  seven  monthly  refinancing  operations  were  announced  under  the 
pandemic emergency long-term refinancing operations (PELTRO). These operations were settled from 
May  to  December  2020,  with  maturities  between  8  and  16  months.  In  December  2020,  it  was  also 
decided to offer four additional PELTRO operations between March and December 2021, with one-year 
maturities.  

On  7  April  2020,  the  ECB  adopted  a  package  of  temporary  collateral  easing  measures  that  include 
valuation haircuts of 20%, extensions of the additional credit claims framework, waiver to accept Greek 
bonds as collateral and other temporary measures. The duration of these measures was extended until 
June 2022. Furthermore, on 22 April 2020, the ECB decided to grandfather (until September 2021) the 
collateral  eligibility  of  marketable  assets  used  in  Eurosystem’s  credit  operations  that  fall  below 
minimum credit quality requirements.  

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Monetary Policy During the Pandemic: Fit for Purpose? 

Table 1: 

Main policy decisions taken by the ECB during the pandemic 

Asset purchases 

Liquidity operations 

APP 

PEPP 

TLTRO 

LTRO / PELTRO 

12 March 2020 

Additional EUR 
120 billion 
envelope until 
December 2020. 

18 March 2020 

30 April 2020 

4 June 2020 

10 December 
2020 

Source:   ECB. 

Reduction of 
interest rate 
applied to new 
operations (as 
low as -0.75%), 
recalibration of 
the terms. 

Reduction of 
interest rate 
applied to new 
operations (as 
low as -1%), 
recalibration of 
the terms. 

Additional LTROs. 

Creation of the 
PELTRO. 

Extension of the 
reduced interest 
rate period, 
recalibration of 
the terms and 
additional 
operations. 

Additional 
PELTRO 
operations. 

Creation of the 
PEPP with a total 
envelope of EUR 
750 billion until 
December 2020. 

Increase and 
extended 
deadline for the 
envelope: EUR 
600 billion until 
June 2021. 

Increase and 
extended 
deadline for the 
envelope: EUR 
500 billion until 
March 2022. 

Note:  

The table summarises the main policy decisions taken by the ECB during the crisis. It focuses on decisions related to 
asset purchases and liquidity operations. It overlooks decisions regarding the announcements on the reinvestment 
policy of principal payments from maturing securities purchased under the APP, forward guidance announcements, 
on collateral and provision of foreign exchange liquidity through swap line arrangements. 

Even if the aim of those measures are different and complementary, they all contribute to making the 
stance of monetary policy expansionary in the euro area. As the policy rate is stuck at the ZLB, it does 
not provide a reliable information on this stance. To account for non-standard measures, which mainly 
influence interest rates along the term structure of interest rates and above the overnight interest rate, 

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shadow  rates  have  been  computed.7  Based  on  the  yield  curve,  they  provide  an  assessment  of  the 
overnight interest rate, which is consistent with all measures: asset purchases, liquidity and forward 
guidance. Despite the uncertainty surrounding those measures, the shadow rate was close to -8% in 
December 2020 (Figure 2). Compared to the United States, the shadow rate is much lower for the ECB. 
However,  the  Federal  Reserve  had  started  to  phase  out  unconventional  measures  in  2015  and  the 
shadow rate estimated had returned to a positive territory. Measures taken by the Federal Reserve in 
2020 have also contributed to easing the monetary stance for the United States as highlighted by the 
1.9 percentage point decrease of the shadow, compared to a reduction of 1.3 percentage points in the 
euro area. 

Figure 2: 

Monetary stance measured by the shadow rate, in % 

Source: Wu and Xia (2016), retrieved from Eikon Datastream. 

7  

See Wu and Xia (2016). 

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Monetary Policy During the Pandemic: Fit for Purpose? 

  ECB MONETARY POLICY EFFECTS: A MACROECONOMIC VIEW 
There  have  been  only  a  few  attempts  at  estimating  the  macroeconomic  impact  of  unconventional 
monetary policy shocks since the global financial crisis.8 The first reason is that unconventional policy 
decisions mainly aim at banking and financial stability, via asset price transmission. The second one 
relates to the difficulty of identifying monetary policy shocks with time series (see Miranda-Aggripino 
and  Ricco,  forthcoming):  disentangling  the  unexpected  monetary  policy  shock  from  the  monetary 
policy decision requires to clearly identify the information that the policy decision has conveyed on the 
state of the economy. The third reason relates to the difficulty of identifying the monetary instrument 
when unconventional decisions are taken. In this situation, central bankers do not modify directly a 
policy rate. Rather, they modify the allocation and/or the size of their balance sheet to influence long-
run interest rates as well as bond and stock prices. 

Most  attempts  at  discussing  the  macroeconomic  impact  of  unconventional  monetary  policies  have 
used the central bank balance sheet as the main driver of policy decisions. However, a change in the 
balance  sheet  can  reflect  other  shifts  in  the  economy,  e.g.  outputs  or  uncertainty.  It  is  therefore 
important to isolate the exogenous part of the balance sheet so that one can then identify as a pure 
shock to the economy. While this latter statement is not specific to balance sheet shocks and it is shared 
with  all  other  kinds  of  shocks,  the  macroeconomic  literature  on  the  determinants  of  central  bank 
balance sheets is much less developed than that on the determinants of interest rates. In the latter case, 
the list of possible determinants is well circumscribed and some sign restrictions can unfold from well-
known theoretical frameworks. In contrast, the macroeconomics of central bank balance sheet remains 
an  open  research  field.  Last,  most  quantitative  easing  measures  decided  by central  banks  since  the 
global financial crisis have been publicly announced in advance: as for the ECB, it stated the amount of 
bonds  it  would  be  purchasing  every  month.  Consequently,  from  2015  onwards,  the  change  in  the 
balance sheet is mainly mechanical and results from the announced flow of assets purchase. Besides, 
from the end of 2008 to 2014, the size of the balance sheet was mainly driven by liquidity needs of 
credit institutions in the euro area and not necessarily related to the willingness of the ECB to expand 
monetary policy. Actually, these announcements do not correspond to unexpected shocks to the euro 
area economy. 

Boeckx et al. (2017) study a vector autoregression (VAR) model of the euro area and identify central 
bank  balance  sheet  shocks  by  introducing  some  zero  restrictions  on  the  instantaneous  impact  of 
unconventional  monetary  shock  on  output,  prices  and  the  policy  rate  (hence  separating 
unconventional  from  conventional  policy  decisions).  They  also  introduce  sign  restrictions  on  the 
instantaneous impact of the unconventional policy shock on interest rate spreads and on an indicator 
of financial instability (both with a negative sign). They finally assume a positive impact of the shock on 
the central bank balance sheet. They showed that between 2007 and 2014, unconventional monetary 
policy shocks produce higher output and inflation and may therefore help stabilise the macroeconomy. 

In contrast with Boeckx et al. (2017), Lhuissier and Nguyen (2021) dismiss zero and sign restrictions and 
prefer to proxy unexpected variations in ECB balance sheet by relying on surveys conducted by Reuters 
and  Bloomberg  ahead  of  Governing  Council  meetings.  Therefore,  they  highlight  the  difference 
between the expectations, not only on the size of the asset purchases but also on their pace, and the 
realisations.  Their  estimation  period  goes  from  2015  to  2019.  Results  point  to  a  weak  impact  of 
unconventional  policy  shocks on industrial  output and on inflation  (impulse response  functions  are 
weakly statistically significant) and contrast with those of Boeckx et al. (2017). 

8   We abstract from event study here for, by construction, they do not convey information on the macroeconomy beyond a few days. 

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In complement to these two studies, we estimate another model in which we use a shadow rate as the 
instrument of monetary policy. The shadow rate calculates the artificial policy rate that prevails under 
the  ZLB  after  the  term  structure  of  interest  rates  is  introduced  and  reflects  the  unconventional 
measures that have been undertaken by the central bank. While new unconventional decisions do not 
shift the actual policy rate (at the ZLB), they may decrease long-term interest rates. The decline in long-
term rates can be partly attributed to the short run policy decisions via the term structure and can be 
embedded in the shadow rate. 

We estimate a VAR model (without restrictions) including: the unemployment rate (to estimate the real 
effect of monetary policy), the consumer price index (in log), the composite index of systematic stress 
(CISS), the spread between ten-year public bonds and the EONIA (the latter two variables to estimate 
the impact of monetary policy on financial stability) and the shadow rate. Monetary policy shocks are 
identified as the residuals of the shadow rate. Data come from Datastream, except the CISS (ECB) and 
the shadow rate (Wu and Xia, 2016). Data are monthly and go from January 2007 to December 2020. 
Results (reported in Figure 3) confirm that a positive shock to the shadow rate produces a real effect 
(unemployment increases), a nominal effect (CPI decreases) and a financial stability effect (the CISS and 
the spread tend to increase). However, it takes time for these macroeconomic effects to unfold. The 
respective impacts of monetary policy on the unemployment (upper-left impulse response function) 
and the inflation (upper-right impulse response function) rates are significant after almost a year. On 
the financial side, monetary policy has a rapid impact on financial instability, modifying the indicator 
after  6  months  (middle-left  impulse  response  function),  whereas  the  impact  on  sovereign  spreads 
(middle-right response function) takes almost 2 years to spread out.  

All in all, these results point to the effectiveness of ECB policies since 2007 (shadow rates decline quite 
substantially, see Figure 2) to alleviate the crisis and boost inflation, while preserving financial stability. 
Monetary policy effectiveness does not mean that monetary policy has been powerful enough though. 
According  to  our  results,  a  1  percentage  point  unexpected  drop  in  the  shadow  rate  would  have 
decreased the unemployment rate and increased inflation in the euro area by 0.3 percentage points 
each.  

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Monetary Policy During the Pandemic: Fit for Purpose? 

Figure 3: 

Impulse response functions – VAR model 

Response to Cholesky One S.D. (d.f. adjusted) Innovations ± 2 S.E.

Response of UNR to WU_XIA_SHADOW_RATE

Response of L_CPI to WU_XIA_SHADOW_RATE

.15

.10

.05

.00

.02

.01

.00

-.01

.000

-.001

-.002

5

10

15

20

25

30

35

5

10

15

20

25

30

35

Response of CISS to WU_XIA_SHADOW_RATE

Response of SPREAD to WU_XIA_SHADOW_RATE

.12

.08

.04

.00

-.04

5

10

15

20

25

30

35

5

10

15

20

25

30

35

Response of WU_XIA_SHADOW_RATE to WU_XIA_SHADOW_RATE

.3

.2

.1

5

10

15

20

25

30

35

Sources: Eikon Datastream, ECB, Wu website, own computations. 

NB: These results show the impact of a restrictive monetary policy. The effects of an accommodative policy are symmetric. 

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IPOL | Policy Department for Economic, Scientific and Quality of Life Policies 

  ASSESSING THE EFFECT OF ASSET PURCHASES 

As mentioned in ECB communications, the measures taken aim at providing a highly accommodative 
monetary policy stance. Yet, the use of balance sheet policies enables to tackle several objectives as 
they provide a larger toolkit compared to the standard policy rate decisions. The TLTRO, for instance, 
aims  at  supporting  credit  to  households  and  firms.  Regarding  asset  purchases,  the  ECB  has  also 
intervened  on  several  markets:  public  securities,  covered  bond  markets,  asset-backed  markets  and 
corporate  securities.  However,  most  of  asset  purchases  are  concentrated  on  sovereign  markets, 
through two programmes: the public sector purchase programme (PSPP), which is part of the APP, and 
the  PEPP,  introduced  during  the  pandemic.  While  the  APP  aims  at  providing  favourable  financing 
conditions to promote price stability, the role of PEPP is mainly to ensure a homogeneous transmission 
of monetary policy across countries and implicitly to counter financial risk on sovereign yields and is 
then closer to the objectives of the securities market programme (SMP), implemented from 2010, and 
to  the  OMT,  announced  in  September  2012.  Implicitly,  it  is  therefore  geared  toward  a  reduction  of 
spreads. As those policies aim at different objectives, it is worth assessing whether APP and PEPP have 
effectively attained their objectives. 

4.1.  Does the APP influence inflation expectations? 
The role of APP is to provide a highly accommodative monetary policy stance in line with the primary 
objective of price stability in the euro area. As emphasized with the VAR model, it seems that those 
decisions have been effective at the macroeconomic level. We complement this analysis by focusing 
on  the  effect  of  APP  announcement  on  market-based  inflation  expectations.  Compared  to  the 
macroeconomic  analysis,  we  aim  to  provide  a  high-frequency  analysis  of  the  APP  decisions.  Do 
announcements related to APP influence market perception of the effect of monetary policy? To that 
end,  we  focus  on  the  5-year  on  5-year  inflation  rate,  which  is  an  indicator  of  long-term  inflation, 
scrutinised by the ECB to assess its ability to anchor inflation expectations. 

Inflation expectations play at least two important roles in central banking. First, as important inputs 
into price and wage setting, they provide a summary statistic of where inflation is likely to be headed. 
Second, if inflation expectations are well anchored, central banks can affect inflation through inflation 
expectations (Scharnagl and Stapf, 2015). The ability of a central bank to affect inflation expectations 
is therefore a direct measure of central bank credibility. 

The  central  bank  can  influence  inflation  through  the  traditional  channel  of  interest  rates  but  also 
through expectations about future inflation. With the interest rate reaching the ZLB, central banks are 
now resorting to unconventional monetary policy tools. Signalling and reputation effects have hence 
become indispensable tools for influencing inflation (Coibion et al., 2020). In turn, the increase in the 
ECB’s  balance  sheet  size  through  asset  purchase  may  also  affect  confidence  and  thus  inflation 
expectations  via  a  signalling  channel  (Borio  and  Disyatat,  2010)  and  van  den  End  and  Pattipeilohy, 
2017) 

In  this  context,  the  implementation  of  the  APP  is  designed  to  influence  inflation  expectations. 
Specifically, its expansions which were announced in January 2015 and in September 2019 were aimed 
at guiding inflation expectations toward a future path consistent with the ECB’s mandate of an inflation 
rate below, but close to, 2%. However, since the start of 2014, inflation expectations have fallen well 
below 2%, indicating that the ECB may have lost its ability to influence inflation expectations (Figure 
4). 

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Figure 4: 

Market-based expected inflation, in % 

Monetary Policy During the Pandemic: Fit for Purpose? 

Source: Eikon Datastream. 

Market-based measures of inflation may help to assess the effectiveness of ECB policy measures (such 
as the APP) through an event study. Compared to other studies, not only do we assess the impact of 
announcements,  but  we  also  consider  the  effect  of  changes  in  the  flow  of  purchases  which  are 
announced. 

Methodology  

Our event study analysis assesses the effect of ECB’s monetary policy announcements on anticipated 
inflation,  using  a  simple  ordinary  least  squares  estimation.  Specifically,  we  estimate  the  following 
equation with daily data over the period 1 January 2013 – 31 December 2020.  

𝑒𝑒
𝛥𝛥𝜋𝜋𝑡𝑡

 is our dependent variable of interest (i.e. inflation expectation proxied by 5-year on 5-year inflation 
= 𝛼𝛼 + 𝛽𝛽1. 𝑀𝑀𝑀𝑀𝑡𝑡 + 𝛽𝛽2. 𝛥𝛥𝑉𝑉𝑉𝑉𝑉𝑉𝑡𝑡 + 𝛽𝛽3. 𝛥𝛥𝑉𝑉𝐼𝐼𝑡𝑡 + 𝛽𝛽.3𝑁𝑁𝑁𝑁𝑀𝑀𝑁𝑁𝑡𝑡 + µ𝑡𝑡
rate in first difference). The VIX is the volatility index for the euro area and we employ it to control for 
𝑒𝑒
𝜋𝜋𝑡𝑡
periods  of  heightened  volatility  in  euro  area  financial  markets.  The  variable  IR  stands  for  interbank 
interest rate (EONIA). The variable ME is a specific event dummy associated with the announcement of 
the APP in a first step, and with the amount of purchases announced for each APP in a second step. The 
vector NSMP  contains  the  event  dummies  related with other  ECB  monetary policy  announcements, 
while 

 is a constant term.  

An event study assumes high frequency daily or intraday data. Regarding inflation expectations, we 
obtain daily data from DataStream. This methodology allows us to consider the time window of the 

𝛼𝛼

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IPOL | Policy Department for Economic, Scientific and Quality of Life Policies 

monetary event. It should be noted that this event window does not distinguish between the effect of 
the press release and the effect of the press conference, as both occur on the same day.9 

Results 

First, we analyse the effect of APP announcements on expected inflation (Table 2). In the first regression 
(column 1), we estimate the impact of APP announcements only, controlling for the first difference of 
the VIX index and the first difference of the EONIA rate. Our event study shows a positive and significant 
relationship in which an APP announcement is associated with an increase in the variation of expected 
inflation of 0.022 percentage points. If the expected rate of inflation before the APP announcement 
was 1.5%, it would increase to 1.52% after the announcement. This is not a major increase. Yet, it is 
positive and significant and it is therefore consistent with the APP objective. 

Second,  we  use  the  information  content  communicated  by  the  ECB  related  to  the  APP.  The 
implementation  of  APP  can  be  considered  as  a  flow-based  strategy  since  the  ECB  announces  a 
quantitative  target  for  the  monthly  purchases.  Those  decisions  provide  therefore  an  additional 
information  to  the  market  and  the  role  of  this  information  can  be  assessed  with  the  event  study 
identification strategy. In the second step, we study the effect of announcements of APP amounts on 
expected inflation. The results are displayed in (Table 3) where the first regression is the same as in 
(Table 2) except that we consider the announcement of the amount of purchases. We find a positive 
and significant relationship in which a monthly increase of EUR 10 billion of APP leads to an increase in 
the variation of expected inflation of 0.006 percentage points.  

Table 2: 

Event study analysis on APP decisions (1 day window) 

Variables 

Expected infl. 

Expected infl. 

Expected infl. 

Expected infl. 

Every day of observation 

ECB meeting days 

APP 

1.TLTRO 

1.PEPP 

D.vix 

D.eonia 

Constant 

0.0221** 
(0.0104) 

-0.00154*** 
(0.000324) 
0.0191** 
(0.00974) 
-0.000569 
(0.000375) 

0.0224** 
(0.0109) 
-0.00300 
(0.0141) 
-0.00263 
(0.0249) 
-0.00154*** 
(0.000324) 
0.0190* 
(0.00974) 
-0.000562 
(0.000373) 

0.0206* 
(0.0112) 

-0.00178*** 
(0.000668) 
0.473* 
(0.274) 
-0.000240 
(0.00260) 

0.0200* 
(0.0118) 
0.00377 
(0.0198) 
-0.00286 
(0.0265) 
-0.00176** 
(0.000673) 
0.493* 
(0.273) 
-0.000191 
(0.00235) 

Observations 
R-squared 

2,087 
0.032 

2,087 
0.032 

73 
0.158 

73 
0.160 

Source: Authors’ estimations. 

9  

The ECB announces the policy decision in a press release published at 13h45. It is then followed by a press conference that begins at 
14h30 where the ECB President reads a statement and conducts a Q&A session. The ECB press conference statement provides a rational 
for the policy decision and presents an outlook of the future course of monetary policy. See Altavilla et al. (2019) for a discussion on the 
importance of the communication timing of the ECB. 

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Monetary Policy During the Pandemic: Fit for Purpose? 

The robustness of these results is checked across different specifications in Tables 2 and 3. In columns 
2 and 4 we control for other ECB announcements of unconventional monetary policy measures such 
as TLTRO and PEPP on inflation expectations. In addition, in columns 3 and 4 we regress our expected 
inflation data on a sub-sample with only the days of monetary policy meetings. We find that the results 
are  significant  and  robust  to  these  different  specifications.  We  therefore  conclude  that  APP 
announcements have been effective at improving the anchoring of inflation expectations and that not 
only do market participants react to the decision to implement an asset purchase policy but they also 
react  to  the  information  related  to  the  flow  of  monthly  purchases.  This  result  is  found  for  all  APP 
decisions and does not only lean on the decisions taken during the pandemic, but it suggests that the 
decision taken on the 12 March 2020 to increase the monthly flow of purchases of public securities had 
a significant impact on market-based long-term inflation rates. 

Table 3: 

Event study analysis on APP decisions (1 day window) 

Every day of observation 

ECB meeting days 

Variables 

Expected infl. 

Expected infl. 

Expected infl. 

Expected infl. 

APP_flow 

1.TLTRO 

1.PEPP 

D.vix 

D.eonia 

Constant 

0.000590*** 
(0.000219) 

-0.00155*** 
(0.000323) 
0.0190* 
(0.00971) 
-0.000555 
(0.000375) 

0.000647*** 
(0.000231) 
-0.0128 
(0.0168) 
-0.00265 
(0.0249) 
-0.00156*** 
(0.000323) 
0.0187* 
(0.00969) 
-0.000542 
(0.000373) 

0.000553** 
(0.000214) 

-0.00188*** 
(0.000526) 
0.454* 
(0.255) 
9.48e-05 
(0.00256) 

0.000581** 
(0.000251) 
-0.00655 
(0.0214) 
-0.00330 
(0.0263) 
-0.00190*** 
(0.000540) 
0.420* 
(0.250) 
0.000350 
(0.00236) 

Observations 

2,087 

2,087 

73 

73 

R-squared 

0.034 

0.035 

0.191 

0.194 

Source: Authors’ estimations. 

4.2.  Does the PEPP influence sovereign spreads? 
It may first be noticed that the PEPP was not announced during a scheduled meeting of the Governing 
Council  but  a  few  days  later.  When  it  was  decided,  it  was  simply  announced  with  a  press  release 
indicating the total envelope of the program and stipulating that purchases would be conducted in a 
“flexible manner over time, across asset classes and among jurisdictions”. The message was therefore 
that deviations to the capital key would be tolerated.10 The aim was to avoid fragmentation risk, e.g. 
the  risk  that  monetary  easing  is  not  equally  transmitted  in  some  countries  because  of  a  rise  in  the 
sovereign spread. As claimed by Christine Lagarde on 30 April 2020 : “we will use any and all flexibility 
that  we  have  in  accordance  with  our  mandate  in  order  to  make  sure  that  our  monetary  policy  is 

10   Under the PSPP, the cross-country allocation of purchases are indeed expected to be realised according to the countries’ respective share 

of the ECB capital. 

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IPOL | Policy Department for Economic, Scientific and Quality of Life Policies 

properly transmitted to all jurisdictions”. After the 4 June 2020 meeting, she reaffirmed that “First of all, 
it [the PEPP] has a backstop function (…). It is intended and it has demonstrated its capacity to deal 
with short-term market stress. It has the capacity to address the risk of market fragmentation”. 

It seems that this objective was well understood by financial markets (Figure 5) as was the case in 2012 
when  Mario  Draghi  invoked  the  famous  “whatever  it  takes”  and  announced  the  OMT  a  few  weeks 
later.11 The outbreak of the pandemic and the expectation that it would bring governments to resort 
to  necessary  and  significant  fiscal measures  has  led  to  the  resurgence  of  sovereign  risk, notably  for 
countries with a high level of debt and those first hit by the pandemic. It was notably the case in Italy. 
From  mid-February  to  11  March  2020,  the  spread  on  the  Italian  sovereign  yield  had  risen  by  0.6 
percentage points, reaching 195 basis points. It jumped to a record level of 280 basis point after the 
declaration  of  Christine  Lagarde  on  12  March  2020  saying  “we  are  not  here  to  close  spreads”.  The 
announcement  of  the  PEPP  changed  the  market  sentiment  and  sent  the  signal  that  the  ECB  was 
actually preoccupied by the spreads. On 26 March 2020, the Italian spread had dropped to 1.6%. 

Figure 5: 

Sovereign spread in the euro area, in percentage points 

Source: Eikon Datastream. 

Contrary to the OMT, the PEPP does not boil down only to an announcement effect. By declaring that 
purchases would be conducted in a flexible manner, it clearly said that weekly operations would be 
adjusted in case of rising turmoil in sovereign markets. Thus, the effect of the PEPP may be distinct and 
stronger than the effect of the OMT. In that regard, the PEPP is closer to the SMP.12 The main difference 
stems from the announcement of a total envelope, which was adjusted during the year. 

11   See Altavilla et al. (2016) for an analysis of the effect of these decisions. 
12   See for instance Szczerbowicz (2015), Eser and Schwaab (2016) and Ghysels et al. (2017) for analyses on the effectiveness of the SMP. 

PE 658.226 

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Monetary Policy During the Pandemic: Fit for Purpose? 

The effective breakdown of purchases under the PEPP does show neither a strong departure from the 
capital key (Table 4) nor a high volatility. The share of Belgian securities ranged from 3.5% and 3.7% for 
instance. Regarding securities issued by Germany, it ranged from 25.1% to 27.1% while the German 
share in the ECB capital key is 26.4%. The main variance in those purchases concerns France and Italy. 
After the launch of the PEPP, it seems that the Eurosystem has purchased a higher proportion of Italian 
sovereign  securities.  The  share  accounted  for  21.6%  against  a  capital  key  of  17%.  It  has  then 
progressively converged to the capital key. The adjustment was mainly realised on French securities 
since the share of purchases was well below the French capital key. Besides, it may be noticed that 
those figures, provided for 2- or 3-month periods may hide a higher variance on a weekly basis.  

Table 4: 

Breakdown of public sector securities under the PEPP 

Mar-May 

Jun-Jul 

Aug-Sep 

Oct-Nov 

Dec-Jan 

Cumul. 

Mar-Jan 

Capital 
Key* 

Austria 

Belgium 

Cyprus 

Germany 

Estonia 

Spain 

Finland 

France 

Greece 

Ireland 

Italy 

Lithuania 

Luxembourg 

Latvia 

Malta 

Netherlands 

Portugal 

Slovenia 

Slovakia 

2.8 

3.7 

0.3 

27.1 

0.0 

13.0 

1.9 

13.7 

2.7 

1.7 

21.6 

0.6 

0.3 

0.2 

0.1 

6.0 

2.4 

0.5 

1.3 

2.8 

3.5 

0.2 

25.1 

0.1 

12.9 

1.8 

19.5 

2.9 

1.6 

19.6 

0.3 

0.2 

0.2 

0.0 

5.6 

2.5 

0.5 

0.8 

2.9 

3.7 

0.2 

26.5 

0.0 

12.3 

1.8 

20.5 

2.5 

1.7 

18.0 

0.3 

0.2 

0.0 

0.1 

5.9 

2.4 

0.5 

0.5 

3.0 

3.7 

0.2 

27.0 

0.0 

12.2 

1.9 

20.9 

2.5 

1.7 

17.4 

0.1 

0.2 

0.1 

0.0 

6.0 

2.4 

0.5 

0.3 

3.0 

3.7 

0.2 

26.9 

0.0 

12.2 

1.9 

20.8 

2.5 

1.7 

17.4 

0.1 

0.1 

0.0 

0.0 

6.0 

2.4 

0.5 

0.6 

2.9 

3.7 

0.2 

26.4 

0.0 

12.6 

1.8 

18.7 

2.7 

1.7 

19.1 

0.3 

0.2 

0.1 

0.0 

5.9 

2.4 

0.5 

0.8 

2.9 

3.6 

0.2 

26.4 

0.3 

12.0 

1.8 

20.4 

2.5 

1.7 

17.0 

0.6 

0.3 

0.4 

0.1 

5.8 

2.4 

0.5 

1.1 

Total 

100 

100 

100 

100 

100 

100 

100 

Source:   ECB. 

*: It must be noted that even countries which are not in the euro area have subscribed to the ECB capital. Capital keys are 
here adjusted to account only for countries in the Eurosystem. 

Detailed data on those weekly operations are not provided by the ECB. However, the total amount of 
purchases under the PEPP is known so that it is possible to test whether the PEPP has been effective at 
reducing spreads in the euro area. However, we need to account for potential endogeneity problems 

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since purchases may also depend on financial stress and on rising spreads. As PEPP aims at avoiding 
fragmentation, the ECB may decide to increase the weekly purchase of securities for which stress has 
resurfaced. Consequently, we cannot test directly the following equation: 

Where the spread is the difference at the end of week (t) between the sovereign yield in country (i) and 
𝑠𝑠𝑝𝑝𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑖𝑖,𝑡𝑡 = 𝛼𝛼𝑖𝑖 + 𝑝𝑝𝑟𝑟𝑝𝑝𝑝𝑝𝑡𝑡
the German sovereign yield: 

. 

𝑠𝑠𝑝𝑝𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑖𝑖,𝑡𝑡 =   𝑠𝑠𝑠𝑠𝑠𝑠_𝑦𝑦𝑦𝑦𝑟𝑟𝑦𝑦𝑟𝑟𝑖𝑖 − 𝑠𝑠𝑠𝑠𝑠𝑠_𝑦𝑦𝑦𝑦𝑟𝑟𝑦𝑦𝑟𝑟𝑑𝑑𝑒𝑒𝑑𝑑

We resort to a two-step approach where we first estimate the relationship between weekly purchases 
and an indicator of sovereign stress.13 The residual from this first-stage equation can then be used as a 
proxy of PEPP exogenous shocks, which is used in the second-stage equation to assess its impact on 
the sovereign spread of each country. As we have weekly data, we also consider that PEPP decisions in 
week (t) depend on sovereign stress in the previous week. The indicator of sovereign stress is simply 
the first component of a principal component analysis estimated over 10 sovereign yields.14 The first-
stage and second stage equations are: 

𝑝𝑝𝑟𝑟𝑝𝑝𝑝𝑝𝑡𝑡 = 𝜃𝜃 + 𝜌𝜌. 𝑝𝑝𝑟𝑟𝑝𝑝𝑝𝑝𝑡𝑡−1 + 𝛽𝛽1. 𝑝𝑝𝑝𝑝𝑟𝑟_𝑠𝑠𝑝𝑝𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑡𝑡−1 + 𝛽𝛽2. 𝑝𝑝𝑝𝑝𝑟𝑟_𝑠𝑠𝑝𝑝𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑡𝑡−2 + 𝛾𝛾. 𝑉𝑉𝑉𝑉𝑉𝑉𝑡𝑡 + 𝜖𝜖𝑡𝑡

𝑝𝑝𝑒𝑒𝑝𝑝𝑝𝑝

With  pepp  expressed  in  logarithm  and  X  a  vector  of  controls  including  two  lags  of  the  spread,  an 
+ 𝜃𝜃. 𝑉𝑉𝑡𝑡
indicator of financial stress (the VIX) and the lagged value of pepp. 

𝑠𝑠𝑝𝑝𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑟𝑖𝑖,𝑡𝑡 = 𝛼𝛼𝑖𝑖 + 𝛽𝛽𝑖𝑖𝜖𝜖𝑡𝑡

𝑝𝑝𝑒𝑒𝑝𝑝𝑝𝑝

The result of the second-stage equation for each sovereign yield are displayed by Figure 6 and shows 
a significant response, at the 5% percent level, of the Italian, Spanish, Belgian, Portuguese and Greek 
spreads at the end of the week to the PEPP. Other sovereign spreads do not react significantly to the 
decision to increase the weekly purchase of public securities under the PEPP. We show in the appendix 
that the reduction of spreads is also effective the week after and if we consider an alternative measure 
of the sovereign stress in the first-stage equation. 

13   See Blot et al. (2020b) for a similar approach. 
14   France, Italy, Spain, the Netherlands, Belgium, Portugal, Greece, Austria, Ireland and Finland. 

PE 658.226 

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Figure 6: 

Reaction of sovereign spreads to PEPP, in basis points 

Monetary Policy During the Pandemic: Fit for Purpose? 

Source: Authors’ estimation. 

These  results  show  that  PEPP  seems  to  be  an  effective  instrument  to  reduce  spreads,  notably  for 
countries that can be considered at risk, since it has no effect on the sovereign spread of France, the 
Netherlands and Austria for instance. But for those countries, the financial stress was limited.  

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  CONCLUSION 

This contribution has reviewed the different policy measures introduced by the ECB since the inception 
of the COVID-19 crisis in Europe, mainly the extension of APP and the introduction of PEPP. APP and 
PEPP have had distinct objectives in comparison with former policies. APP has been oriented towards 
inflation  expectations  while  PEPP  has  been  oriented  towards  sovereign  spreads.  Consequently,  we 
analyse the effects of APP announcements (including asset purchases flows) on inflation expectations 
and show that they help steer expectations upward. We also analyse the impact of PEPP on sovereign 
spreads and show that PEPP has had heterogeneous effects that have alleviated fragmentation risk: 
PEPP has had an impact on the sovereign spreads of the most fragile economies during the pandemic 
(e.g. Italy) and no impact on the least fragile (e.g. the Netherlands). Finally, the contribution has also 
shown that overall macroeconomic effects have been in line with expected outcomes since the mid-
2000s:  monetary  policy  measures  have  had  real  effects  on  euro  area  unemployment  rates,  nominal 
effects on inflation rates and financial effects on banking stability.  

In  the  absence  of  a  common  fiscal  policy  and  Eurobonds,  it  is  important  that  euro  area  members 
preserve  their  ability  to  use  their  fiscal  policy  to  deal  with  the  health,  social  and  economic 
consequences of the pandemic. In this respect, it is worth noticing that at the end of December 2020, 
central banks purchases were in line with the initial envelope: EUR 750 billion. An increase in the size 
of the program may be useful only in case financial risks re-emerge. Weekly purchases have been high 
at the beginning of the crisis and have decreased after (Figure 7). However, sovereign spreads have not 
completely vanished, making monetary policy transmission not fully homogeneous across countries. 
By the end of January 2021, the Italian sovereign yield was still more than 1 percentage point above 
the  German  sovereign  yield, increasing  the  relative fiscal  cost  of  emergency measures  taken  by  the 
Italian government to deal with the crisis.15 Italian yields may well be at record low levels, even below 
US  yields.  However,  in  comparison  with  German  bunds,  at  record  lower  levels,  it  may  not  be  fair  to 
penalise Italy in the context of this exogenous shock since it puts a drag on the ability to finance health 
expenditures or to provide help to agents hit by lockdown measures. Instead of announcing a total 
envelope, the ECB could cap domestic spreads for the time of the crisis to eliminate fragmentation risk 
and ensure financial stability. As claimed by Christine Lagarde on 19 March 2020: “fiscal policies must 
be  front  and  centre  in  this  response.  Monetary  policy  has  a  vital  role  to  play  in  tandem.”  Capping 
spreads would be a good way to reconcile actions with words. 

15   The total impact is reduced since the Bank of Italy holds more than 20% of Italian debt and therefore may redistribute the payments 

received on this debt to the government. 

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Figure 7: 

Weekly purchases of public securities under PEPP, in EUR billion 

Monetary Policy During the Pandemic: Fit for Purpose? 

Source: ECB. 

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IPOL | Policy Department for Economic, Scientific and Quality of Life Policies 

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PE 658.226 

26 

 
 
 
Monetary Policy During the Pandemic: Fit for Purpose? 

ANNEX 

Figure 8: 

PEPP effect on spreads – one week after, in basis points 

Source: Authors’ estimation. 

Figure 9: 

PEPP effects on spread (alternative measure of sovereign stress), in basis points 

Source: Authors’ estimation. 

27 

PE 658.226 

 
 
 
 
 
 
 
 
This contribution reviews the ECB measures since the start of the COVID-19 crisis, i.e. the extension 
of APP and the introduction of PEPP. We show that APP announcements have helped steer inflation 
expectations upward. We also show that PEPP has alleviated fragmentation risk. Finally, we show 
that since the mid-2000s, ECB measures have had real effects on euro area unemployment rates, 
nominal effects on inflation rates and financial effects on banking stability. 

This  paper  was  provided  by  the  Policy  Department  for  Economic,  Scientific  and  Quality  of  Life 
Policies at the request of the committee on Economic and Monetary Affairs (ECON) ahead of the 
Monetary Dialogue with the ECB President on 18 March 2021. 

PE 658.226 
IP/A/ECON/2021-12 

PDF 

ISBN 978-92-846-7873-0 | doi:10.2861/680376 | QA-09-21-026-EN-N