The spread of the COVID-19 pandemic has significantly increased the risks to global financial stability. For most countries, this raises the prospect of a sharp fall in GDP in 2020, with deep uncertainty surrounding the timing and extent of the recovery. Financial asset prices have fallen sharply and their volatility has increased; market liquidity has diminished. Households' financial conditions and the balance sheets of firms and financial institutions have become more vulnerable.
The authorities in the main economic areas have introduced expansionary policies to counter the recessionary effects of the pandemic and to safeguard financial stability. In the euro area, the ECB Governing Council has adopted measures to preserve banks' liquidity and to encourage the flow of credit to the economy. A broad programme of public and private sector bond purchases has been launched to safeguard the effectiveness of the common monetary policy; collateral eligibility criteria have been loosened, also in order to smooth the procyclical effects of possible downgrades in issuers' credit ratings. The supervisory authorities have adopted measures to mitigate the effects of the crisis on the soundness of financial institutions and to counter possible squeezes on bank credit.
In Italy, the Government has ploughed very substantial funds into supporting household income and ensuring business continuity. Moratoriums and public guarantees on loans have been introduced to shore up liquidity in the economy.
The impact of the pandemic and of the measures required to deal with the emergency will inevitably entail an increase in the already high ratio of public debt to GDP. Given the temporary nature of the shock and of the expansionary fiscal measures to counter it, their gradual phasing out should see the conditions for the sustainability of the public finances remaining substantially unaltered in the medium and long term.
The reduction in disposable income and the sharp fall in economic activity are reflected in the worsening of households' and firms' financial conditions. In addition to economic policy measures, the resulting risks to financial stability are being mitigated by low household indebtedness and the financial strengthening carried out by firms in recent years.
The banking sector is also exposed to the repercussions of the pandemic. The decline in economic activity reduces demand for financial services and puts a strain on borrowers' ability to repay loans. Tensions on financial markets make wholesale funding and the raising of new capital more difficult and costly. Portfolio losses squeeze capital.
Italian banks are facing the new risks from a stronger position than at the start of the global financial crisis. Between 2007 and 2019, the ratio of the highest loss-absorbing capital to risk-weighted assets almost doubled, loans are now funded entirely by deposits, and there are no signs of a weakening of depositor confidence in banks. The ample opportunities for Eurosystem refinancing help to lessen funding pressures.
The increased volatility and the marked decline in financial asset prices have affected insurance companies' solvency positions, which nevertheless remain well above the regulatory minimum. The pandemic could also have significant effects on companies' liquidity and profitability.
Italian open-end investment funds have dealt smoothly with the large volume of redemption requests connected with sharp drops in prices on the financial markets. The liquidity risks for the sector are limited, including those that might arise as a result of the increase in the margins required to guarantee derivative operations.
