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Chapter 2
Gross fixed capital formation
Investment in the European Union fell precipitously at the onset of the coronavirus outbreak. This decline followed a slowdown in investment that had gradually set in during 2019 and was exacerbated by government restrictions on movement and business activity, especially in the second quarter of 2020.
Uncertainty and a sharply deteriorating economy, however, are the main reasons for the extraordinary decline in investment. While activity partially recovered in the third quarter, uncertainty is likely to continue to dampen investment in the near term, especially as new restrictions are introduced to contain the second coronavirus wave in the fourth quarter of 2020.
Elevated uncertainty, along with deteriorating firm finances, are likely to further impede corporate investment. The cash flows of non-financial corporates have retreated well into negative territory, causing these firms to draw down their cash balances, which might eventually eat into their net worth. This weakened position damages firms’ ability to finance investment, internally and externally. Investment weakness is likely to persist even as economic conditions gradually improve.
The coronavirus outbreak is likely to prompt increased digitalisation and, in the medium term, to cause shifts in supply chains and product portfolios. Many of the companies bearing the brunt of the ongoing crisis see a permanent reduction in employment as another longer-term consequence. Policymakers should take action to ease the reallocation of labour to avoid large increases in structural unemployment.
Government investment in 2020 may be another victim of the pandemic. Even though policy support has been strong, there are signs that government investment levels might decrease across EU Member States. The decline in government investment must be halted and reversed from 2021 onwards. Redirecting investment from current to capital expenditure seems to be the sustainable option. It can be further supported by debt issuance for countries with sound fiscal positions.
Introduction
The initial impact of the coronavirus pandemic on investment in the European Union has surpassed the effects of the global financial crisis. In just two quarters, investment declined to the same extent as in the first year of the recession in 2008-2009. While there is no financial crisis to worry about