Euro area business confidence and Covid-19

Abstract

I study the effects of the Covid-19 pandemic on business confidence in 11 Euro area countries and its consequent impact on economic activity. To obtain causal effects, I instrument business confidence with domestic household confidence as well as average household confidence in neighboring countries. I find evidence suggesting that the confidence and expectations channel was an important component to the economic transmission of Covid-19. A one standard deviation drop in business confidence leads to between 5-6 and 9 percent fall in economic activity in the industrial and wholesale and retail trade sectors respectively. These results highlight the importance of managing confidence and expectations in crises episodes.