Why has ECB`s very accomodative Monetary Policy not yet triggered

Briefing
MONETARY DIALOGUE - June 2016
ECONOMIC AND MONETARY AFFAIRS
WHY HAS ECB’S VERY ACCOMMODATIVE MONETARY POLICY
NOT YET TRIGGERED A REBOUND OF INVESTMENT?
BACKGROUND
The European Central Bank (ECB) has adopted a series of
unconventional monetary policy measures to combat the
financial crisis and ward off the risks of a too prolonged
period of low inflation. The policy package has led to a
tangible improvement in borrowing conditions for both
households and firms. Sovereign bond rates have reached
record low levels even at relative long maturities in several
euro-area countries.
INSIDE
This leaflet provides a background and
abstracts of relevant studies prepared by
the European Parliament’s Policy
Department A on Economic and
Scientific Policy.
Contact us:
[email protected]
In theory lower financing costs should support consumption and investment via the increase in bank
lending and bond or stock issuance. In practice the main beneficiaries of ECB very accommodative
monetary policy seem to be for governments via lower interest payments, while the effects on private
spending and, in particular, capital formation have been limited, so far.
Directorate General for Internal Policies
Policy Department A: Economic and Scientific Policy, Authors: Dario PATERNOSTER and Denitza DESSIMIROVA
European Parliament, PE 578.998
EN
Policy Department A: Economic and Scientific Policy
BOX
Transmission mechanism of monetary policy
This is the process through which monetary policy decisions affect the economy and the price level.
The transmission mechanism is characterised by long, variable and uncertain time lags. Thus it is
difficult to predict the precise effect of monetary policy actions both on the economy and price level.
The chart below provides an illustration of the main transmission channels of monetary policy
decisions.
Source: The ECB.
Notwithstanding very attractive financing conditions, a mildly improving economy and a still large
investment gap compared to pre-crisis levels, albeit with considerable cross-country heterogeneity,
companies remain very reluctant to step up their investment plans. To explain the depth of the fall as
well as the delay in the rebound of investment, structural factors related to private balance sheet
adjustments from the debt overhang are likely to be at work. As one of the most dynamic components of
demand, the rebound of investment is key for a sustained recovery of the euro area and an increase in
inflation towards the ECB target.
Against this background, it is important to assess potential financial constraints behind the persistent
weakness of euro-area investment and discuss the reasons why ECB loose monetary stance has not
triggered, so far, a rebound of investment.
For its June 2016 session of the Monetary Dialogue, the Committee on Economic and Monetary Affairs
(ECON) of the European Parliament requested five assessments from key monetary experts to address
these issues. The papers have been prepared by the Policy Department A and are, together with the text of
the hearing between ECON and the ECB President, available in the relevant section (Monetary Dialogue) of
ECON internet website.
2
PE 578.998
Why has ECB’s very accomodative Monetary Policy not yet triggered a Rebound of Investment
PUBLICATIONS
In-Depth Analysis on 'Uncertainty Abounds: Why Accommodative Monetary Policy has not triggered a
Rebound of Investment in the Eurozone' by Christopher Hartwell, Center for Social and Economic Research
(CASE)
Investment by non-financial firms has continued to stagnate throughout the euro zone despite a sustained
and concerted effort by the ECB to keep credit flowing to the private sector. This paper argues that continued
firm and bank weakness in the euro area is a leading factor of these trends in investment. Additionally, the
ECB’s policy itself is creating deleterious effects, including increasing policy uncertainty. Investment will not
resume without a change of structural, rather than just monetary, factors.
In-Depth Analysis on ‘Business investment after the crisis and the impact of monetary policy' by Nils
Jannsen and Martin Plödt (Kiel Institute for the World Economy)
Monetary policy can stimulate business investment in various ways, most directly by improving financing
conditions. Despite the expansionary policy of the ECB, however, business investment in the euro area has not
yet rebounded, following the strong declines it experienced during the Global Financial Crisis and the
Sovereign Debt Crisis. We analyse the weakness in business investment in the euro area and the role of
monetary policy along three aspects. First, we investigate which factors have been the most important
impediments on business investment since the Global Financial Crisis. Second, we assess how business
investment has developed compared to the historical experience with other financial crises. Third, we analyse
how effective monetary policy is in stimulating business investment today.
In-Depth Analysis on 'Why the ECB’s Very Accommodative Monetary Policy Has Not Yet Triggered a
Rebound in Investment' by Jacob Funk Kirkegaard (Peterson Institute for International Economics)
The ECB’s very accommodating monetary policy stance has to date failed to spur a sustained recovery in euro
area private investment levels. This briefing paper argues that this is due to the fact that ECB monetary policy
directly affects only a minor component of the multifaceted causes of current low euro area private
investments, namely temporarily elevated bank borrowing costs in crisis countries. Meanwhile, the ECB does
not have the tools to materially affect the more important explanations for low investments. These include
lower post-crisis potential growth rates in the euro area and elsewhere causing businesses to need less
productive capacity in the future; an inadequate euro area fiscal policy response from 2011-14 that saw
general government investment levels collapse; and persistently weak corporate profit growth limiting euro
area businesses’ ability to self-finance new investments.
In-Depth Analysis on 'Monetary Policy and Business Investment in the Euro Area' by Karl Whelan
(University College Dublin)
Business investment has been weak in the euro area for a number of years and the share of GDP allocated to this
type of investment is now at a historically low level. This has undoubtedly been a disappointment for the ECB who
would have hoped cutting interest rates to zero would have produced a more positive investment response.
However, business investment decisions depend on more than just interest rates. Depreciation and other factors
influence the potential cost of capital investment and there are important factors restraining investment in the
euro area such as poor demographics, weak productivity growth and high levels of private sector debt in some
member states.
The banking sector has acted as a constraint on investment in recent years but now appears set to support positive
investment growth. The ECB has done much to boost investment but there is still room for a large and coordinated
public investment strategy to give the euro area economy a much-needed boost.
PE 578.998
3
Policy Department A: Economic and Scientific Policy
In-Depth Analysis on 'The impact of ECB policies on euro area investment ' by Christophe Blot, Jérôme
Creel, Paul Hubert and Fabien Labondance (OFCE)
We analyse the reasons for which the very accommodative policy led by the ECB has not triggered a rebound of
investment. After examining the evolutions of investment in the euro area, we observe a large heterogeneity both
across sectors and countries. Consequently, it is questionable that the ECB’s monetary policy can increase
investment in the whole area. Therefore, we study the extent to which monetary policy impacts investment. We
use a counterfactual analysis and compute the level of investment had the ECB’s decisions been different. We
observe the importance of the ECB in support to investment. Indeed, the investment in the euro area would have
sunk without accommodative – first conventional, then unconventional – monetary policy. Finally, we lay the
emphasis on the role of credit demand as one of the main determinants of investment since the 2008 crisis, which
has depended among others on the impact of deleveraging and fiscal consolidation.
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Contact: [email protected]
Manuscript completed in June 2016
© European Union
Internal Ref: ECON-2016-02
PE 578.998
CATALOGUE: QA-01-16-642-EN-C (paper)
CATALOGUE: QA-01-16-642-EN-N (pdf)
ISBN: 978-92-823-9434-2 (paper)
ISBN: 978-92-823-9433-5 (pdf)
doi:10.2861/128178 (paper)
doi:10.2861/795352 (pdf)