Central bank

ECB to resist rising yields

12 March 2021 • 3 mins read
  • Overnight, the European Central Bank said it would step up the pace of its quantitative easing by increasing its bond buying over the next quarter to counter rising yields.
  • The ECB thus joins the Reserve Bank of Australia in acting directly against this year’s surge in government bond yields.
  • By aiming to calm bond markets, the ECB’s move will benefit European equities by preserving ‘favourable financial conditions’.
  • The ECB, however, said it was not trying ‘yield curve control’ to fully cap yields nor did it raise the overall size of its quantitative easing. We thus continue to be long term bulls on the EUR.

Overnight, the European Central Bank announced it would step up the pace of its quantitative easing to counter rising bond yields.

Equities & Bonds, Eurozone

Source: Bank of Singapore, Bloomberg

Currently, the ECB is printing money to support the Eurozone under its EUR1.85 trillion Pandemic
Emergency Purchase Programme (PEPP).

To resist this year’s surge in bond yields, the ECB said its ‘governing council expects purchases under the PEPP over the next quarter to be conducted at a significantly higher pace than during the first months of this year.’

The ECB thus becomes the second major central bank - after the Reserve Bank of Australia (RBA) - to act directly against rising yields this year by increasing the pace of its bond buying.

ECB Deposit Rate

Source: Bank of Singapore, Bloomberg

ECB President Lagarde said: ‘increases in these market interest rates, when left unchecked, could translate into a premature tightening of financing conditions for all sectors of the economy. This is undesirable.’

By aiming to calm bond markets, the ECB’s move will benefit European equities. Lagarde noted here: ‘preserving favourable financial conditions over the pandemic period remains essential.’ The Euro Stoxx 50 share rose to 3,845 and is close to 13-year highs now as the first chart shows.

The ECB also issued new forecasts, upgrading its GDP projections to 4.0% growth for 2021 - we expect a stronger rebound of 5.5% - and upping its inflation estimate to 1.5%. But as the second chart shows, the central bank will still undershoot its 2% inflation target. We thus expect the ECB to keep buying bonds until its PEPP programme of quantitative easing ends in March 2022.

Significantly, the ECB said its faster pace of asset purchases over the next quarter would not cause it to explicitly cap the level of bond yields - as the Bank of Japan and the RBA do under ‘Yield Curve Control’ - nor increase the overall size of its EUR1.85 trillion PEPP facility. Either measure would have drawn a sharper contrast with the Federal Reserve to the detriment of the EUR. We thus continue to see the single currency rising to 1.30 over the next 12 months as Eurozone exports benefit from stronger global growth, Europe’s vaccinations speed up this year and rallying risk assets reduce demand for the safe-haven USD.

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Author:
Mansoor Mohi-uddin
Chief Economist
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