Quantitative easing has long determined the monetary policy of the ECB. But there are growing signs that central bankers will back down. This is how quantitative easing becomes quantitative tightening.
If you believe the experts, the turnaround is imminent. The ECB should therefore begin to reduce its bloated balance sheet next year. The expansion of the balance sheet figures is due to the purchase of bonds which has been going on for years.
upcoming change of direction
ECB President Christine Lagarde has previously hinted that the European Central Bank will scale back its massive bond purchases. Then, there should not only be another hike in key interest rates (this time probably by 0.5%), but also a change of course in bond purchases. This is called quantitative tightening.
Since 2015, the ECB and EU national central banks have been buying government bonds and other bonds massively. This program should stimulate the weakness of the economy and fuel inflation. As if that were not enough, the ECB injected massive sums during the coronavirus crisis in countries whose economy needed support. As we now know, the ECB has overdone it and inflation continues to threaten to spin out of control.
5 trillion euros must be dismantled
Loans and bonds totaling €5 trillion migrated to the ECB’s balance sheet. The task is no longer just to reduce these programs, but to dismantle them. The objective is to increase the financing costs of companies again. This slows down lending and therefore also economic development.
What at first glance seems counterproductive, however, is the last resort to rein in soaring inflation. The ECB is thus increasing the pressure already exerted by the continued hikes in key rates. So far, this has had little effect, so each rate hike is followed by another. A quantitative tightening is now expected to demonstrate greater determination.
Sell or dispose?
But there still seem to be discussions within the ECB about what to do next. While some advocate actively selling bond holdings, others simply advocate reducing reinvestment. This would mean that maturing bonds would no longer be replaced and the reduction would be much slower.
This process would last for many years, after all, experts estimate that only 15-20 billion euros per month will be due. Given the 5 trillion euros that could appear on the ECB’s balance sheet, this form of reduction will take a long time.
Federal bond promises interest again
If this happens, the ECB will gradually lose its importance as a buyer in the bond market. The market has already adapted to it. While the German government bond was still showing negative interest a year ago, it is currently yielding 1.8% to investors.
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