• Subscribe
  • Log In
  • Home
  • Daily Diary
  • Asset Class
    • U.S. Equity
    • Fixed Income
    • Global Equity
    • Commodities
    • Currencies
  • Sector
    • Basic Materials
    • Consumer Discretionary
    • Consumer Staples
    • Energy
    • Financial Services
    • Healthcare
    • Industrials
    • Real Estate
    • Technology
    • Telecom Services
    • Transportation
    • Utilities
  • Latest
    • Articles
    • Video
    • Columnist Conversations
    • Best Ideas
    • Stock of the Day
  • Street Notes
  • Authors
    • Bruce Kamich
    • Doug Kass
    • Jim "Rev Shark" DePorre
    • Helene Meisler
    • Jonathan Heller
    • - See All -
  • Options
  • RMPIA
  • Switch Product
    • Action Alerts PLUS
    • Quant Ratings
    • Real Money
    • Real Money Pro
    • Retirement
    • Stocks Under $10
    • TheStreet
    • Top Stocks
    • Trifecta Stocks
  1. Home
  2. / Investing
  3. / Financial Services

ECB Tapering: The Beginning of The Beginning of The End for Quantitative Easing

ECB President Mario Draghi will likely only signal small steps Thursday in the Bank's long path toward policy normalization.
By MARTIN BACCARDAX
Oct 25, 2017 | 05:00 PM EDT

The European Central Bank is expected to detail the first steps toward unwinding its $4.5 trillion balance sheet Thursday, nearly three years after it signaled the start of its controversial program of quantitative easing.

Officially known as the Public Sector Purchase Program, the ECB's version of QE has hoovered up more than €2 trillion ($2.36 trillion) eurozone government, agency and corporate bonds since March 2015, as part of the Bank's effort to stoke inflation in the region's then-moribund economy. The eurozone economy had been hammered by the after-effects of an almost existential debt crisis triggered by mounting deficits in Greece and Italy and bank collapses in Ireland, Cyprus and Spain.

It hasn't, however, had an enormous impact on currency area inflation -- the ECB's exclusive mandate -- and consumer prices remain puzzlingly subdued. In fact, despite a robust economy, falling unemployment, record high-German business confidence and the fastest rate of factory output prices in nearly seven years, eurozone inflation isn't expected to reach the ECB's "just below 2%" target until 2020 and currently sits at 1.5%.

That's put a great deal of pressure on ECB President Mario Draghi and his colleagues on the Bank's Governing Council, a group comprised of finance ministers from the 19 countries using the single currency as well as six appointed members known as the Executive Board. Below-target inflation should, given the Bank's mandate, demand a continuation of the E60 billion in monthly asset purchases that beats down risk-free yields and entices investment into the real economy. But with the equivalent of nearly 40% of eurozone GDP already monetized -- a figure that's nearly twice the equivalent of the Federal Reserve's purchases -- there's not a great deal of bonds left to buy. And, as the Federal Reserve's own research has shown, QE's "bang for the buck" diminishes over time.

Furthermore, with the Fed starting its long balance sheet unwind and the Bank of England teasing rates higher in order to combat Brexit-induced inflation, the ECB can't really afford to wait much longer amid a global shift in central bank policy.

But that also means Draghi & Co. need to be delicate. Cutting the pace of purchases too quickly could cause a quick spike in bond yields that upends regional equity markets and pressures government borrowing costs around the currency area periphery just as the long-awaited recovery is beginning to find traction. Cutting too slowly risks inflating asset bubbles -- particularly in housing and stocks -- and risks further accusations by critics of monetary financing of member state budgets, which is expressly prohibited under European law.

That's essentially led analysts to their "lower for longer" conclusion for Thursday's meeting, meaning the ECB will likely slash the pace of its monthly purchases in half, to €30 billion, but extend the timeframe past the "soft" December deadline into the middle of next year.

However, in a nod to the so-called "taper tantrum" of May 2013, and the need to maintain order in the grumpier segments of the bond market, ECB Chief Economist Peter Praet hinted earlier this month that the Bank will likely communicate plans to reinvest a portion of its maturing debt into new asset purchases, thus smoothing the effects of market disruption.

Not that there's a great deal of evidence that this is an issue: benchmark 10-year German bund yields, a proxy for risk-free government borrowing costs, have traded within a 30-basis point range for much of the second half of this year and are, in fact, some 10 basis points south of their July peak of 0.60%. The same is true for Italy, the world's third largest debtor, where benchmark 10-year yields are lower -- at 2.03% -- than they were in mid-June.

Placid government bond markets and a compelling economic recovery should provide more than enough cover for the ECB to cautiously reduce the amount of bonds it's taking from the market each month until it sees what Draghi has consistently referred to as a "sustainable" move toward the "just below 2%" inflation target. If and when that's achieved -- and it's certainly taking a lot longer than anyone anticipated -- the Bank can then accelerate the unwinding and move on to phase two of its normalization process: increasing interest rates.

That phase, however, is a long way off, particularly given the fact that the Bank is tied in to various programs designed to entice private bank lending in the real economy until the later part of next year -- programs that were designed to underscore its commitment to near-zero interest rates.

Thursday's signals are important, for sure, but they're only likely to be one in a series of slow and methodical steps the Bank will take on its path toward policy normalization and, ultimately, Draghi's own personal exit from Frankfurt when his eight-year term expires in November 2019.

Get an email alert each time I write an article for Real Money. Click the "+Follow" next to my byline to this article.

Employees of TheStreet are restricted from trading individual securities.

TAGS: Fixed income | Investing | Financial Services | Markets | Economy | FOREX

More from Financial Services

Here's How to Wrangle JPMorgan, the '800-Pound Gorilla' of Banking

Brad Ginesin
May 27, 2022 1:27 PM EDT

The financial services giant just held its first investor day in three years -- let's open the vault and see what's inside.

Insiders Are Stepping Up and Buying Shares in These 2 Companies

Bret Jensen
May 25, 2022 11:30 AM EDT

A provider of technology for managing smart homes and a financial services concern are finding interests from directors and officers.

Crafting a Technical Strategy for Insurer MetLife

Bruce Kamich
May 24, 2022 8:31 AM EDT

Let's go MET? Here's how traders can play the stock now.

Berkshire and Buffett Rightly Put Their Value Stamp of Approval on Citigroup

Brad Ginesin
May 17, 2022 10:01 AM EDT

The nod from the Oracle of Omaha's company could signal that it's finally the right time to buy the banking giant.

SoFi Technologies Is Primed for a Rebound

Bruce Kamich
May 16, 2022 8:50 AM EDT

Here's where the shares may be headed next.

Real Money's message boards are strictly for the open exchange of investment ideas among registered users. Any discussions or subjects off that topic or that do not promote this goal will be removed at the discretion of the site's moderators. Abusive, insensitive or threatening comments will not be tolerated and will be deleted. Thank you for your cooperation. If you have questions, please contact us here.

Email

CANCEL
SUBMIT

Email sent

Thank you, your email to has been sent successfully.

DONE

Oops!

We're sorry. There was a problem trying to send your email to .
Please contact customer support to let us know.

DONE

Please Join or Log In to Email Our Authors.

Email Real Money's Wall Street Pros for further analysis and insight

Already a Subscriber? Login

Columnist Conversation

  • 10:58 AM EDT JAMES "REV SHARK" DEPORRE

    This Weekend on Real Money

    "The Tremendous Power of the Sell Button"
  • 02:46 PM EDT STEPHEN GUILFOYLE

    We're Shedding Some of This Holding on Strength

    Check out the Stocks Under $10 portfolio here!
  • 11:33 AM EDT PETER TCHIR

    Thoughts Ahead of the Fed Minutes

    Recent economic and earnings issues are convincing...
  • See More

COLUMNIST TWEETS

  • A Twitter List by realmoney
About Privacy Terms of Use

© 1996-2022 TheStreet, Inc., 225 Liberty Street, 27th Floor, New York, NY 10281

Need Help? Contact Customer Service

Except as otherwise indicated, quotes are delayed. Quotes delayed at least 20 minutes for all exchanges. Market Data & Company fundamental data provided by FactSet. Earnings and ratings provided by Zacks. Mutual fund data provided by Valueline. ETF data provided by Lipper. Powered and implemented by FactSet Digital Solutions Group.

TheStreet Ratings updates stock ratings daily. However, if no rating change occurs, the data on this page does not update. The data does update after 90 days if no rating change occurs within that time period.

FactSet calculates the Market Cap for the basic symbol to include common shares only. Year-to-date mutual fund returns are calculated on a monthly basis by Value Line and posted mid-month.

Compare Brokers

Please Join or Log In to manage and receive alerts.

Follow Real Money's Wall Street Pros to receive real-time investing alerts

Already a Subscriber? Login