ECB mulls small 'Twist' to keep borrowing costs low: Sources
Frankfurt: The European Central Bank is considering buying more long-dated bonds from next year to keep euro zone borrowing costs in check even after it stops pumping fresh money into the economy, sources told Reuters.
The move would be reminiscent of the U.S. Federal Reserve’s Operation Twist of 1961 and 2011, which saw it replace short-dated paper with longer-term debt to lower market interest rates and boost an ailing economy.
In the ECB’s case, however, it would be aimed at limiting the natural ageing of its 2.6 trillion euro bond portfolio and keeping a lid on long-term bond yields, a key determinant of borrowing costs for governments, companies and households.
As the euro zone returns to better economic health, the ECB is due to stop adding to its pile of bonds at the end of the year. But it will continue to reinvest the money it gets from maturing paper for a long time, to ensure cash in the euro zone remains abundant.
Conversations with five central bank sources show policymakers are wary of seeing long-term yields creep back up as the ECB’s stock of bonds ages, or “loses duration” in market parlance.
To avoid this, the ECB is considering buying more longer-dated bonds, generally seen as maturing in 10 years or more, with the cash it gets from maturing paper, the sources said.
It may also smooth out its reinvestments by occasionally deviating from its “capital key” rule, which dictates that bond purchases reflect the size of each member country’s economy, when needed, they added.
This was seen as a more palatable option than increasing purchases of corporate debt, which have attracted criticism for being too risky after one of the companies the ECB had invested in found itself embroiled in an accounting scandal.
“The idea is to keep the duration of the portfolio as much as possible,” one of the sources said. “So it wouldn’t be the end of the world if we deviated from the capital key.”
The sources said that any such deviation should be minor and that the main rule behind the contemplated changes is to give the bank more flexibility, not fundamentally alter how cash from expiring bonds is reinvested.
So far, details are scant. The issue was not discussed at the ECB’s June 14 policy meeting, when rate-setters merely tasked ECB committees to come up with proposals, the sources said, adding that a decision is expected in July or September.
Reinvestments were also seen as an increasingly minor plank in the ECB’s stimulus effort, the sources said, suggesting that the policy focus will continue to shift towards interest rates from asset purchases to guide borrowing costs.
The ECB declined to comment.
In its most recent Operation Twist, Ben Bernanke’s Federal Reserve sold $667 billion of short-term debt to buy longer-term securities.
The ECB is due to roll over some 180 billion euros next year, of which around 50 billion euros is German debt alone, and analysts expect reinvestments to continue until at least 2021.
Cumulatively, about 15 percent of the stock of government bonds the ECB holds will need to be rolled over by 2019 and around 40 percent over the next five years, according to Goldman Sachs estimates.
For bond markets, those flows will become a key driver, taking the sting out of the end of massive stimulus that has pinned down government borrowing costs for years.
The euro zone’s 10-year benchmark interest rate currently stands at 0.34 percent compared to 1.27 percent four years ago, before the ECB started its massive purchases of government bonds.
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