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At its meeting on 4 December, the Governing Council of the European Central Bank (ECB) postponed any decision on large-scale bond purchases until 2015. The disinflationary trend is becoming more and more of a challenge for the ECB, which recently made downwards revisions to its growth and inflation forecasts. It is now expecting inflation of 0.7% for 2015, down by 0.4% compared to its September forecast. In addition, these estimates do not take account of the recent oil price fall following the OPEC's unexpected decision on 27 November not to reduce its oil production.
In this context large-scale quantitative easing is clearly an option which has to be evaluated. Practically speaking, the ECB could decide to start buying sovereign bonds. It could also extend the range of the private-sector securities it purchases (limited for now to asset-backed securities and covered bonds). Doing so would allow it to more rapidly achieve its stated goal of increasing the size of its balance sheet to levels last seen in 2012.
To what extent could such bond purchases help the ECB reach its medium-term objective of an inflation rate close to 2%? There are several possible channels. First of all, a number of studies suggest that quantitative easing programmes in the United States have significantly reduced the country's long-term interest rates. A drop in long rates should encourage lending and make long-term investments more attractive.
Also, a fall in long rates in one bond category (say, government bonds) can reduce the rates for a number of other asset classes (for example, corporate bonds), including asset classes not purchased by the ECB, through a substitution effect on the part of investors.
Quantitative easing may also boost the value of other asset classes (for example, stocks and real estate), creating a wealth effect that could stimulate consumption and investment. Moreover, experience in other countries has shown that quantitative easing programmes are often accompanied by currency depreciations, which help export industries.
More broadly, a quantitative easing programme can send a signal to the market that the central bank is determined to reach its inflation target in an environment in which it has no more room for manoeuvre on short-term policy rates. It is difficult to quantify the probable impact of these different transmission channels for the euro zone. In particular, the experience in countries such as the USA and the UK cannot be transposed directly to the European economy since the latter relies much more on bank lending and less on capital markets.
BGL BNP Paribas
Published on paperjam.lu (in French) on 18 December 2014.