European Central Bank — Economic Bulletin (Europe, 2021)

Economic Bulletin Issue 5 / 2021 Contents Update on economic, financial and monetary developments Summary 1 2 3 4 5 External environment Financial developments Economic activity Prices and costs Money and credit Boxes 1 2 3 4 5 6 7 8 The implications of savings accumulated during the pandemic for the global economic outlook Cross-sectoral dispersion in firms  earnings expectations during the COVID-19 crisis The heterogeneous economic impact of the pandemic across euro area countries COVID-19 and the increase in household savings: an update Main findings from the ECB s recent contacts with non-financial companies The role of sectoral developments for wage growth in the euro area since the start of the pandemic Recent developments in pipeline pressures for non-energy industrial goods inflation in the euro area The structural impact of the shift from defined benefits to defined contributions Articles 1 2 3 An overview of the ECB s monetary policy strategy Using machine learning and big data to analyse the business cycle The role of government for the non-financial corporate sector during the COVID-19 crisis Statistics ECB Economic Bulletin, Issue 5 / 2021   Contents 2 2 6 10 13 18 24 29 29 37 42 48 55 58 63 67 75 75 90 109 S1 1 Update on economic, financial and monetary developments Summary Economic activity At the global level, the recovery momentum remains solid amid continued supply constraints. The Purchasing Managers  Index data for June show historically high levels for the second quarter of 2021 as a whole. At the same time, the growth momentum slowed somewhat in June because activity normalised to some extent in several key economies. Trade in goods remains robust despite increasing headwinds from supply bottlenecks. With respect to global inflation developments, price pressures increased further, driven largely by transitory factors such as base effects and pandemic-related supply constraints. Looking ahead, pandemic developments continue to be a source of uncertainty for the global economic recovery and may lead to an increasingly uneven growth path across countries. The euro area economy rebounded in the second quarter of the year and, as restrictions are eased, is on track for strong growth in the third quarter. More and more people are getting vaccinated, and lockdown restrictions have been eased in most euro area countries. Manufacturing is expected to perform strongly, even though supply bottlenecks are holding back production in the near term. The reopening of large parts of the economy is supporting a vigorous bounce-back in the services sector. But the Delta variant of the coronavirus (COVID-19) could dampen this recovery in services, especially in tourism and hospitality. As people return to shops and restaurants and resume travelling, consumer spending is rising. Better job prospects, increasing confidence and continued government support are reinforcing spending. The ongoing recovery in domestic and global demand is boosting optimism among businesses, which supports investment. For the first time since the start of the pandemic, the euro area bank lending survey indicates that funding of fixed investment is an important factor driving the demand for loans to firms. Economic activity is expected to return to its pre-crisis level in the first quarter of next year. But there is still a long way to go before the damage to the economy caused by the pandemic is offset. The number of people in job retention schemes has been declining but remains high. Overall, there are still 3.3 million fewer people employed than before the pandemic, especially among the younger and lower skilled. Significant policy support remains essential. An ambitious and coordinated fiscal policy should continue to complement monetary policy in underpinning confidence and supporting spending. The Next Generation EU programme is also playing a key role, as it should contribute to a stronger and more uniform recovery across the euro area. ECB Economic Bulletin, Issue 5 / 2021   Update on economic, financial and monetary developments Summary 2 Inflation Euro area inflation was 1.9% in June. Inflation is expected to increase further over the coming months and to decline again next year. The current increase is largely being driven by higher energy prices and by base effects from the sharp fall in oil prices at the start of the pandemic and the impact of the temporary VAT reduction in Germany last year. By early 2022, the impact of these factors should fade out as they fall out of the year-on-year inflation calculation. In the near term, the significant slack in the economy is holding back underlying inflationary pressures. Stronger demand and temporary cost pressures in the supply chain will put some upward pressure on prices. But weak wage growth and the past appreciation of the euro mean that price pressures will likely remain subdued for some time. There is still some way to go before the fallout from the pandemic on inflation is eliminated. As the economy recovers, supported by the Governing Council s monetary policy measures, inflation is expected to rise over the medium term, although remaining below the ECB s target. While measures of longer-term inflation expectations have increased, they remain some distance from the ECB s 2% target. Risk assessment The Governing Council sees the risks to the economic outlook as broadly balanced. Economic activity could outperform the ECB s expectations if consumers spend more than currently expected and draw more rapidly on the savings they have built up during the pandemic. A faster improvement in the pandemic situation could also lead to a stronger expansion than currently envisaged. But growth could underperform expectations if the pandemic intensifies or if supply shortages turn out to be more persistent and hold back production. Financial and monetary conditions The recovery of growth and inflation still depends on favourable financing conditions. Market interest rates have declined since the last monetary policy meeting in June. Financing conditions for most firms and households remain at favourable levels. Money creation in the euro area continued to normalise in May 2021, standing at 8.4% in annual growth terms, reflecting a moderation of monetary and credit flows amid an improving situation regarding the coronavirus pandemic. While the pace of deposit accumulation by households and firms normalised, Eurosystem asset purchases remained the dominant source of money creation. Growth in loans to the private sector returned to pre pandemic levels, at 2.7% annually, driven by a moderation in lending to firms. Moreover, according to the euro area bank lending survey, credit standards on loans to firms and households were broadly unchanged in the second quarter of 2021, - while demand for loans by firms and households increased. ECB Economic Bulletin, Issue 5 / 2021   Update on economic, financial and monetary developments Summary 3 Bank lending rates for firms and households remain historically low. In May 2021 the composite bank lending rate for loans to non-financial corporations decreased to 1.46%, while it was broadly unchanged for loans to households at 1.32%. Firms are still well funded as a result of their borrowing in the first wave of the pandemic, which in part explains why lending to firms has slowed. By contrast, lending to households is holding up. The most recent euro area bank lending survey shows that credit conditions for both firms and households have stabilised. Liquidity remains abundant. At the same time, the cost for firms of issuing equity is still high. Many firms and households have taken on more debt to weather the pandemic. Any worsening of the economy could therefore threaten their financial health, which could trickle through to the quality of banks  balance sheets. It remains essential to prevent balance sheet strains and tightening financing conditions from reinforcing each other. Monetary policy statement Against this background, at its monetary policy meeting in July, the Governing Council focused on two main topics: first, the implications of its strategy review for its forward guidance on the key ECB interest rates; and, second, its assessment of the economy and its pandemic measures. In the ECB s recent strategy review, the Governing Council agreed a symmetric inflation target of 2% over the medium term. The ECB s policy rates have been close to their lower bound for some time and the medium-term outlook for inflation is still well below the ECB s target. In these conditions, the Governing Council has revised its forward guidance on interest rates. It did so to underline its commitment to maintain a persistently accommodative monetary policy stance to meet its inflation target. In support of the Governing Council s symmetric 2% inflation target and in line with its monetary policy strategy, the Governing Council expects the key ECB interest rates to remain at their present or lower levels until it sees inflation reaching 2% well ahead of the end of the projection horizon and durably for the rest of the projection horizon, and it judges that realised progress in underlying inflation is sufficiently advanced to be consistent with inflation stabilising at 2% over the medium term. This may also imply a transitory period in which inflation is moderately above target. The Governing Council viewed the recovery in the euro area economy as being on track but the pandemic continues to cast a shadow, especially as the Delta variant constitutes a growing source of uncertainty. Inflation has picked up, although this increase is expected