Goldman Sachs: Recovery Fund shield against rising borrowing costs in peripheral countries

Her Eleftherias Kourtali

The main objective of the Recovery Fund is to improve the European economic outlook by contributing to growth through two channels: supporting the full recovery of the economy and expanding its medium-term potential. Thus, as Goldman Sachs points out in today’s report, the Recovery Fund offers the opportunity to stabilize macroeconomic and debt prospects, especially in the periphery. beyond the recovery after Covid. In addition, the Fund also provides member countries with cheaper financing through loans, and therefore its support is reciprocal.

Recovery support is intended to focus on a set of material infrastructures and structural reforms that also aim at long-term transformations of economies beyond the lifetime of the Recovery Fund. Each government has assessed the impact on potential growth from the measures included in their national recovery plans. Given the ambition behind these estimates, it is useful to compare them to the historical performance of the last decade in three related dimensions: capital accumulation, employment expansion and productivity growth, Goldman notes.

The countries of the South are the main recipients of the program, with Spain and Italy accounting for almost half of the current funding. The national recovery plans of Italy and Spain have proposed ambitious strategies to support the recovery and increase potential growth after 2026. While aiming to deepen the capital stock and support productivity growth, GS assesses the prospects for debt the profile of growth in different time periods. Finds that, on average, a 0.5% increase in long-term growth reduces the debt-to-GDP ratio by about 7% by 2030.

As government bond yields increase as the ECB moves towards policy normalization, the Recovery Fund will also provide additional support to member countries through the provision of cheap long-term lending. Only Italy and Greece have maximized the total available lending capacity through the program (6.8% of gross national income). Italy, in particular, could benefit from € 120 billion in loans for which it will pay a significantly reduced lending rate (above μ 130 at present), helping to keep debt dynamics under control. EU loans – ie EU debt – will represent more than 5% of Italy’s GDP by 2030 according to the full implementation scenario.

To capture the debt trajectory and benefits of the Recovery Fund for the countries of the region, Goldman is conducting an exercise with the example of Italy to assess the risk of the Italian debt moving at an accelerating pace after its peak due to pandemic, essentially studying the impact of EU borrowing on debt accumulation.

The general concern about rising government bond yields is that they increase the likelihood that the debt of peripheral countries will move sharply upwards. by 2030, could (1) reduce the increase in the real borrowing rate paid by the Italian government by more than 10%, (2) reduce the increase in debt to GDP, on average, by about 0.5 %, and (3) reduce the risk of debt acceleration by 2027. These improvements would be significantly enhanced if Italy could benefit from the EU ‘s forward lending.

As Goldman Sachs concludes, its analysis highlights the impact of the Recovery Fund in general, and the loan component in particular, on the debt outlook in the European periphery. Focusing on the Italian case, the risk assessment analysis examines the prospects of debt through an unfavorable scenario where government yields return to 2018 levels, well beyond the current market valuation. Its conclusion, however, is quite constructive, with the risk of debt remaining subdued.

In addition, he points out that in the event of increased debt risk, the timing of support is likely to play a relatively more important role than its size.