Financial stability considerations arising from the interaction of coronavirus-related policy measures

Elena Rancoita, Maciej Grodzicki, Christoffer Kok, Julian Metzler, Algirdas Prapiestis and Hannah S. Hempell

Financial Stability Review, 2020, vol. 2

Abstract: Fiscal, prudential and monetary authorities have responded to the coronavirus (COVID-19) pandemic by providing unprecedented support to the real economy. Importantly, the combination of policy actions has done more to limit the materialisation of risks to households and firms than each policy individually. Exploiting complementarities and ensuring the most effective combination of policies will, however, be equally important when authorities start to phase out the various related relief measures. The fact that in particular the enacted fiscal and labour market measures, as well as their phase-out schedules, differ substantially across the largest euro area economies further complicates the challenge of obtaining the most effective policy combination. Along with the reduction in support to the real economy, the phasing-out of policy measures could adversely affect banks’ balance sheets and capitalisation. Resulting cliff effects in policy support are relevant for prudential authorities in the context of their future decisions on the replenishment of capital buffers. The results of the analysis suggest there are substantial risks associated with the early withdrawal of policy support, although the analysis does not account for the medium-term risks of protracted policy support. JEL Classification: C68, E52, E58, E62, E63, G21, H81

Keywords: cliff effects; complementarities; Covid-19 policy measures; phase-out; policy interactions (search for similar items in EconPapers)
Date: 2020-11
Note: 3455035
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