Euro zone poised for five-year post-pandemic consumption boom

The euro zone economy is poised for up to five years of private consumption above pre-pandemic levels once Europe's households are able to spend freely again, European Central Bank (ECB) policymaker Pierre Wunsch forecast on Tuesday.

The Belgian central bank governor also told Reuters in an interview that the ECB could only aim to freeze borrowing costs for a few months and should bear in mind that its aggressive money-printing policy may one day become ineffective.

Households in large euro zone countries have been saving up to a quarter of their disposable incomes since the COVID-19 crisis began, partly as a precaution but also as expenses including holidays and eating out were off limits.

Wunsch said this "pent-up demand" would keep spending above pre-pandemic levels for years to come, potentially unleashing more economic growth than the ECB is forecasting.

"What has been saved in 2020 and in the beginning of 2021 would be enough to finance growth in private consumption above the level of 2019 for three, four or five years," Wunsch said.

"In our projections we don’t have a lot of pent-up demand, I would be more optimistic on that."

The ECB said in March it expected real GDP growth of 4.0% in 2021, 4.1% in 2022 and 2.1% in 2023, warning however that it saw "downside" risks to those estimates.

It also repeated a pledge to keep financing conditions "favourable" for governments, households and firms and said it would accelerate the pace of its Pandemic Emergency Purchase Programme (PEPP) to counter a rise in borrowing costs.

Wunsch said the ECB was happy with the current level of bond yields and a rise of 10-20 basis points would not pose a threat to governments as long as their cost of financing for 10 years on the market was below the expected rate of inflation.

"We’re fine with financing conditions as they are," he said.

"We’re going to use more volumes if we see tightening and less volume if we see that financing conditions stabilise without us buying that much."

But he cautioned the central bank should only aim to preserve market prices on ice for "so many months or a year" before letting economic fundamentals reassert themselves.

"At some point you're going back to the fundamentals and if the economy is strongly improving it will have to mean some tightening at some point and if the economy is clearly deteriorating doing less doesn't work," Wunsch said.

He added this would imply extending PEPP beyond its current end date of March 2022.

TOLERATING INFLATION

Despite inflation lagging the ECB's target of just below 2% for a decade, Wunsch expects an eventual rebound and said the ECB should make it clear it will tolerate an overshoot as part of an ongoing review of its strategy.

But he cautioned that too ambitious a commitment - such as the Federal Reserve's pledge to make up for low inflation in the past - would be hard to put into practice.
"We should express some tolerance to overshooting to make sure our symmetric objective is well understood," Wunsch said.

"But it’s difficult to strongly commit to that. So, I would be somewhat reluctant to go into extreme forms of commitment to a make-up strategy, that we will catch up to whatever inflation we could not reach in the past."

He said the ECB should even envisage a scenario in which its policy of ultra-low interest rates loses potency and the risks associated with it no longer justify the benefits.

He pointed to the fact that companies do not necessarily invest more just because already low interest rates fall farther if they cannot find good projects.
In such a situation the ECB should take its foot off the stimulus pedal.

"If you want to take into account some trade-offs, the marginal cost of your policies is fixed and the marginal benefit is lower, it means doing less at some point," he said.