ECB Holds Policy Steady Sending German 10 Year Bund Yield Back Into Positive Territory

By John Gallagher, International Business Editor

The European Central Bank met this week to set monetary policy.  Investors were expecting and hoping for additional stimulus from Mario Draghi and the Central Bank, but were disappointed. The ECB currently has a $1.9 trillion monetary stimulus package in place purchase bonds and increase the money supply, with the goal of lowering bond yields and spurring inflation.

Inflation has been stubbornly low in the Eurozone and has consistently fallen short of the central bank’s 2 percent target, despite massive amounts of monetary stimulus.

The ECB has been purchasing €80 billion of sovereign and corporate bonds every month to keep bond yields low, enticing corporations to borrow money to invest, with the goal of stimulating economic growth.

Earlier in the year, Draghi was quoted as saying that the ECB will do “whatever it takes” to stimulate the economy.  With growth and inflation still low, investors were expecting additional stimulus from the central bank.

After announcing no changes to current policy, the Euro Stoxx 50 index fell almost 2 percent.  Draghi cited concerns over limits to monetary stimulus’s powers to boost economic growth and stabilize markets.

In addition to massive bond purchases, the ECB also has a negative interest rate policy.

To discourage banks from holding cash at the central bank, they charge them to do so rather than paying them interest on the deposits.  Draghi defended this policy, pointing to improving conditions in the credit markets as a result of negative rates.

Yield on the benchmark 10 year German Bund had been in negative territory since the Brexit vote on June 23rd, but moved into positive territory after both the policy decision and hawkish remarks by other central bankers.  Eric Rosengren, President of the Federal Reserve Bank of Boston and a long-time proponent of keeping interest rates lower for longer in the U.S., gave a speech on Friday citing concerns of easy money for prolonged periods of time.

The combination of hawkish remarks by central bankers last week led to bond and stock prices falling in the U.S. and Europe.

Currently, the major macroeconomic factor moving markets is central bank policy.  Asset prices rise when central banks indicate a path of further easing and lower interest rates, and fall when they indicate that it might be time to raise interest rates.  As a prime example, Rosengren’s remarks on Friday caused the Dow Jones Industrial Average to sell off almost 400 points in its biggest one day move since the aftermath of Brexit.

With seven years of easing underway in the aftermath of the financial crisis, economies are still slowly recovering, and experts continue to watch the Federal Reserve, the European Central Bank, and The Bank of Japan for signs of changing interest policies and the possible impact of such changes on global equity and credit markets.   

A version of this article appeared in the Tuesday, September 13th print edition.

Contact John at

john.gallagher1@student.shu.edu

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