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In the midst of the market turbulence of recent years, policy rates have reached the zero lower bound, with central banks aggressively deploying their balance sheet with an array of ‘unconventional’ monetary policies to ensure the transmission of monetary policy impulses in disrupted financial markets and ultimately to set the conditions for economic recovery.
Since March 9th, the European Central Bank (ECB) has also joined the club of central banks deploying the most feared monetary policy tool in its armoury. Unsterilised outright asset purchases (so-called ‘quantitative easing’ or QE) aim at re-establishing control over the transmission of monetary policy impulse via policy rates by ultimately improving conditions for unsecured interbank market activity.
Quantitative easing à la ECB has produced so far an impact on long-term nominal rates through ex ante channels: signalling channels, term duration channels, and risk premia channels. The term duration channel will also lead to a lengthening of the average maturity of government debts, with possible implications for fiscal policy.
The ECB’s determination to buy government bonds in a fragmented market with a low net supply may also produce an ex post impact, during the actual asset purchases, but less on nominal rates and more on financial plumbing, as recent volatility suggests. As the effects of scarce supply in collateral markets are felt, repo rates remain well below zero. Lower supply and limited re-usability of high quality collateral, capped by regulatory requirements, is a constraint on market liquidity and compresses dealers’ balance sheets. By keeping a depressed yield curve and asset prices high, QE may also accelerate the consolidation of both traditional and capital-market based (dealer) bank business models. What is less clear is how these changing business models will interact with the sharp rise of the asset management industry in the aftermath of the crisis, which raises questions about the implications for global collateral flows and deposit-like funding channels.