Synopsis: The European Central Bank might start quantitative easing soon. But whether it would make any difference to the Eurozone economies is unclear

Date posted: Friday, August 29, 2014

In November 2008, the Federal Reserve started its first round of quantitative easing (QE) in response to the financial crisis. Five months later the Bank of England cut base rate to 0.5% and followed the Fed with its own brand of QE, which it labelled ‘Asset Purchase Facility’ (APF).

On both sides of the Atlantic, the aim was the same:

• To drive down medium and long term interest rates;

• To inject cash into the economy; and

• To encourage risk-taking investment by making borrowing cheaper and lowering the returns on ‘risk-free’ assets.

The Fed is now within a couple of months of ending the bond-buying part of its third round of QE. It has been phasing down bond purchases from a level of $85bn a month by $10bn since the turn of the year and is due to bring an end to the final $15bn in October. The latest data from the Fed shows that it now holds over $4trn ($4,000,000m) of securities on its balance sheet, including $1.63trn of mortgage-backed securities.

The Bank of England finished its third round of QE/APF in November 2012, by which time it had spent £375bn, almost entirely on conventional gilt purchases. These still all sit on the Bank’s balance sheet and the Bank is currently committed to reinvesting any maturity proceeds in further bond purchases to maintain the £375bn level. Interest on all those bonds has been snaffled by the Treasury since QE3 ended.

The European Central Bank (ECB) eschewed QE after the financial crisis hit, not least because of rules which say it must not directly finance member governments. However, the bank is now running out of tools to stimulate the Eurozone economy – interest rates are already negative for banks depositing overnight cash with the ECB. Second quarter Eurozone growth was zero, Italy is once again in recession and even Germany posted a 0.2% shrinkage in Q2. Eurozone inflation, which is meant to be ‘below, but close to 2%’ is just 0.4% and has not been above 1% this year.

The ECB’s President, Mario Draghi has been hinting that QE is moving up the bank’s agenda. Draghi is unlikely to act immediately because in mid-September an earlier measure from the ECB, targeted long term refinancing options is due to begin pushing out cheap loans and the bank will want to gauge the response to this. October should see the outcome of the ECB’s latest investigations into the financial strength of the Eurozone’s largest banks, which is another reason for delay.

Whether starting QE in the dying months of 2014 would make any difference is a moot point. The faint hints to date have already pushed yields on German government bonds down to under 1% – half the level of a year ago – and even Italy and Spain now have similarly halved ten year government bond yields below 2.5% (the UK and US equivalents are both about 2.4%).


Once the summer holidays are over, autumn promises to be an interesting time in the Eurozone. The knock-on effects of any ECB moves will probably be felt in the UK, if only because QE could lead to a weaker euro.

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