Will the ECB taper soon? – Wells Fargo

Research Team at Wells Fargo Securities, notes that the bond yields in Europe backed up last week due to rumors that the European Central Bank (ECB) would soon start to “taper” its purchases of government bonds that are the backbone of its quantitative easing (QE) program.

Key Quotes

“Before the release of the U.S. labor market report on Friday morning, the yield on the German 10-year government bond had risen more than 10 bps on the week. Yields in other bond markets, including the U.S. market, also experienced upward pressure.

The ECB is currently buying bonds at a pace of €80 billion per month, up from the initial €60 billion per month pace when the program started in March 2015. The ECB’s balance sheet has expanded significantly over the past two years, and there is little doubt that the QE program has contributed to the decline in bond yields in Europe.

The objective of the ECB’s QE program is to stimulate economic activity via lower interest rates thereby pulling the CPI inflation rate back toward 2 percent, the ECB’s ultimate objective. However, the overall rate of CPI inflation is barely above zero percent at present. Although some of the decline in the inflation rate over the past year or so reflects the collapse in energy prices, the depressed rate of core CPI inflation, which excludes food and energy prices, shows that there are very little price pressures in the Eurozone at present.

We have no doubt that there are discussions going on within the ECB about an eventual exit from the QE program. However, with inflation so far below target at present, we think that exit is not imminent. The ECB Governing Council has committed to keeping its current QE program in place through the end of March 2017, and it has reserved the right to extend the program beyond next March.

Ultimately, the outlook for CPI inflation in the Eurozone will dictate the ECB’s decision. Our forecast looks for CPI inflation to average about 1 percent in 2017 and only 1.5 percent in 2018. Although the bar may be a bit higher than previously, we still believe the ECB will extend its QE program beyond March 2017.”