BNP Paribas : What are the challenges of the end of Quantitative Easing ?

Considering the massive volumes of assets purchased by the ECB, pulling out of QE too quickly would destabilize the bond market and lead to a brutal spike in long-term interest rates. That could set the stage for a negative wealth effect among economic agents holding bond portfolios (notably insurance companies and banks). From the banks' perspective, extending low interest rates is not preferable because it would reduce the long-term yield of portfolios. And yet, a hasty interest rate hike risks driving up the cost of banking resources faster than the return on banking assets (as the former have a shorter duration due to the maturity transformation carried out by banks), notably amplified by client preference for products paying market rates of interest.

Shrinking bank margins caused by withdrawing from QE too rapidly and the tensions on interest rates could have negative effects on the financing of the real economy, which is an obvious pitfall to avoid. The central bank also has to take care not to destabilize markets.

In the United States, the Dow Jones fell by more than 4% in the three days following the Fed's announcement in May 2013 that it would taper off its asset purchases in the month of September. In September 2013, due to last economic developments, the Fed reported its tapering . As announced in December 2013, its tapering began in January 2014.

In light of this experience, the ECB will continue to tread softly in its actions and keep a communication strategy (forward guidance) which allows observers to steer expectations about future policy

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