How Should European Policy Makers Respond to COVID-19?

The European economy is experiencing a severe contraction as a result of the coronavirus lockdowns in place across most countries. Chicago Booth’s Initiative on Global Markets (IGM) invited its European panel of economic experts to express their views on Europe’s economic policy response to the COVID-19 crisis: first, on whether the economic benefits from lockdowns are likely to outweigh their costs over the medium term; and second, on the desirability of a pan-eurozone fiscal policy response to supplement national measures, including the possibility of issuing new pooled debt instruments—known as “coronabonds”—to fund government spending.

In the short comments that they are able to make when they participate in the survey, some of the panelists provided links to relevant research evidence, including the web page set up by IGM to collect policy proposals for mitigating the economic fallout from COVID-19, and the many analyses of COVID economics published at VoxEU.

The impact of public health measures on the economy

Among the comments of the three quarters of the panelists who agreed or strongly agreed with the first statement, Xavier Freixas of Universitat Pompeu Fabra noted, “Hospital capacity is limited and the economic value of life in Europe is high.” Jean-Pierre Danthine of the Paris School of Economics said, “I agree wherever there is limited availability of infection tests and restriction in tracing the contagion (Europe today).”

Others commented on the need for testing. Karl Whelan of University College Dublin remarked, “Economic activity will return closer to normality when there is extensive testing and tracing. Lockdowns give time to develop this.” Christopher Pissarides of the London School of Economics added, “Lockdown should be able to get rid of the disease in the medium term. Less severe measures cannot unless they are accompanied by mass tests.”

Several experts pointed out the likely impact of less aggressive measures on the workforce. Costas Meghir of Yale warned: “Mass sickness will not only disable many workers but will also reduce confidence and increase uncertainty.” Peter Neary of Oxford emphasized: “The alternative to lockdowns is not a return to ‘normal’ but many people unwilling to work even though allowed to, and soaring death rates.” And Marco Pagano of Università di Napoli Federico II argued: “The faster you contain and eliminate contagion, the faster people can go back to work. If you do not, people will simply not go back to work.”

Christian Leuz of Chicago Booth noted, “Several studies suggesting that strict measures have economic benefits of lives saved that outweigh the value of projected losses of GDP.” He pointed to US evidence on the net benefits of social distancing; similar evidence for Italy’s Lombardy; a study of the likely economic impact of COVID-19 under different disease scenarios; and the widely discussed piece on “Coronavirus: The Hammer and the Dance.”

Of the experts who said that they were uncertain, two mentioned alternatives to severe lockdowns. Hélène Rey of London Business School noted, “It depends on the accompanying measures of a partial lockdown (testing and tracking, see Singapore)”; and Jan Eeckhout of University College London suggested: “Testing and tracing as in South Korea might be better than severe lockdown.” Charles Wyplosz of the Graduate Institute, Geneva, who agreed with the statement, also pointed to possible lessons from different approaches: “Ceteris paribus, but large-scale testing and selective isolation may be better. Watch out for the Swedish experiment too.”

Desirability of a joint euro area fiscal response

On the second statement, about the desirability of a pan-eurozone fiscal policy response to supplement national measures, there is a very broad consensus in agreement.

In comments, Jan Pieter Krahnen of Goethe University Frankfurt was concerned that: “Without a coordinated European answer, the crisis may spill into the banking sector, and also to sovereign risk—endangering the eurozone.” Costas Meghir added, “A common currency area can only be sustained in the long run if the absence of country-level monetary policy is replaced by mutual insurance.”

Patrick Honohan of Trinity College Dublin is one of three experts who asked, “If not now, when?,” adding: “Common shock, potentially divergent consequences including externalities.” Hélène Rey too noted the nature of the shock: “Massive symmetric shock, some countries constrained by lack of fiscal space.”

Christopher Pissarides commented, “As in dealing with other crises, coordinated fiscal policy is better for the group as a whole than independent policies.” Peter Neary took a similar view: “Common monetary policy combined with unlinked national fiscal policies has never made sense. In a crisis, its problems are even greater.”

Others, while agreeing with the statement, were more cautious about joint action. Olivier Blanchard of the Peterson Institute said, “Desirable yes, highly perhaps not: can go a long way with just domestic fiscal policies.” Charles Wyplosz stated, “A selective response. Need to allow all governments to run large temporary deficits. Coordination of targeted fiscal measures is illusory.”

Christian Leuz concluded, “Coordination of response very desirable; not clear more is needed right now, but solidarity is important and opportunity to show EU matters.” He linked to a warning of the coronavirus threat to the European Union, and a proposal for cooperation on a COVID credit line in the European Stability Mechanism (ESM)—both by IGM panelists.

Coronabonds

On the third statement, suggesting that there is no need for new pooled debt instruments to fund government spending given the willingness of the European Central Bank (ECB) to buy sovereign bonds without limits, opinion was somewhat more divided.

The lack of a strong consensus was reflected in the experts’ comments. Among the small majority who disagreed with the statement, some, like Agnès Bénassy-Quéré of the Paris School of Economics, pointed out that “Relying entirely on the ECB is dangerous.” She added, “The ECB would also have to roll over its holding over a long period, and face legal and political problems.” Karl Whelan said, “ECB secondary market purchases won't stop concerns about sovereign default. Questions also about the extent of credit losses ECB could take.”

Focusing specifically on Italy, Jean-Pierre Danthine worried that “a special treatment of Italy will create severe tensions if there cannot be ex-ante agreement on a mutualized solution.” And Marco Pagano noted that “despite the ECB bond purchases, servicing Italian public debt is more expensive than servicing eurobonds would be.”

Some of those who disagreed were particularly supportive of the idea of coronabonds. Hélène Rey, for example, said, “Coronabonds understood as long-term bonds (30 years plus) jointly issued would be the best response. Otherwise ECB under political pressure.” Karl Whelan added, “Avoids lots of competing debt issuance. Reduces market concerns about sovereign default on the bonds used to finance the crisis spending.” And Lubos Pastor of Chicago Booth responded, “Coronabonds issued temporarily and eligible for purchase by the ECB would help solve the fiscal challenge in Europe.”

Others who disagreed alluded to alternative policy measures to coronabonds: Rafael Repullo of the Centre for Monetary and Financial Studies in Madrid said, “A joint fiscal response would be highly desirable, but it need not be through coronabonds.”Charles Wyplosz commented, “ECB is lender in last resort. Coronabonds or, better, a changed corona-lending by ESM should be first resort.”And Beatrice Weder di Mauro of the Graduate Institute, Geneva argued that “Europe will need several fiscal instruments to tackle different issues of mitigating this crisis, rebooting and opening borders again.”

Of the experts who replied that they were uncertain on this statement, Jordi Galí of Universitat Pompeu Fabra said, “If the ECB response is sufficient to contain spreads, I agree. But this is uncertain at this point.”Jan Pieter Krahnen concurred: “The ECB can't do miracles. Rather, we must invent a better instrument than coronabonds—that avoids its traps and convinces its critics.”

Others who said that they were uncertain pointed to the risks. Peter Neary noted that “coronabonds would only be credible and equitable between countries if issued centrally, and that would require much greater integration.”And John Vickers of Oxford warned,“Need depends on whose perspective you take. Beware political dangers of using this crisis to create eurobonds without federal institutions.”

Finally, of those who agreed with the statement, Patrick Honohan said, “Not now needed to stabilize national financial markets, but desirable for dealing collectively with what is a common shock.”Xavier Freixas commented, “Coronabonds would allow for irresponsible long government spending, while ECB buying bonds would be a good discipline.” And Olivier Blanchard concluded, “Too strong: can do without bonds but with ECB commitment; more peace of mind with coronabonds.”

All comments made by the experts are in the full survey results.

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