Yields on German government bonds have fallen so far this year that unless the ECB waives its own limits on the amount of each euro zone bond it can buy under its quantitative easing (QE) programme, it will struggle to complete it.

The ECB set limits to ensure it would not interfere in any potential bondholder decision to restructure debt. It also set rules that stop it buying bonds yielding less than its deposit rate, currently -0.2 percent, and with maturities below two years or above 30 years.

The problem is that the former limits how much it can buy of any one bond and the latter what it can buy.

Minutes from the ECB's March meeting show policymakers have already discussed the possibility of adjusting the cap on individual bond purchases.

Some in financial markets say such a move would be premature, would harm the ECB's credibility and create market distortions. But others argue that it may be a small price to pay for hitting the ECB's goal of raising inflation to its target of just below 2 percent.

"The ECB is clearly holding on to the option to do more, and if it really came down to a choice between achieving their mandate or not, they would change the modalities," said Richard Barwell, an economist at RBS.

The ECB set a 25 percent cap on individual bond purchases to take account of legal provisions inserted into some euro zone sovereign bonds from the beginning of 2013 which make it easier for investors to agree to a restructuring in a crisis.

These collective action clauses (CACs) allow holders of 75 percent of the bonds to force a dissenting minority to participate in a restructuring, or failing that if two thirds sign a written resolution.

With the limit, the ECB would remain neutral in such a process. Data from Tradeweb, however, shows that even in the euro zone's biggest bond market, Germany, only a quarter of the debt eligible for purchase have CACs.

So raising the cap would not necessarily undermine the ECB's thrust to remain neutral.

YIELD PINCH

Analysis from ING shows the pressure to raise the 25 percent limit will increase if yields on German bonds with maturities out to 2020 fall below the deposit rate.

A further fall of around 10 basis points would shrink the available pool to the extent that they would have to take action as some bonds maturing in 2018 are already yielding less than -0.2 percent.

Taking into account the ECB's limits, currently 250 million of German debt is eligible versus expected purchases of 214 billion euros until QE's end-date in September 2016.

ING strategist Martin van Vliet said new German debt sales during the QE programme should give the ECB a little more wriggle room but it will hinge on how bond yields evolve.

Other strategists argue that the ECB will wait before taking such a decision, hoping that a rise in inflation or a U.S. interest rate hike will push up yields, making more bonds eligible.

The market's focus has been on the problems the ECB may face in buying enough bonds, even though ECB President Mario Draghi said at April's policy meeting he saw no evidence of difficulty.

Indeed, expectations the ECB may tweak its terms have hardened since Draghi at the same meeting ruled out cuts to the deposit rate.

Analysts say one way for the ECB to ease the problem is to raise the cap for bonds that don't have CACs, though some say this could cause market distortions.

"It would create a two-tier bond market," said Rabobank strategist Lyn Graham-Taylor. Investors would expect a yield premium for the bonds still under constraint.

Another way would be for the ECB to widen the net - such as extending purchases to corporate bonds, other public sector agencies or even bank loans - but that this may only be a stop-gap if Bund yields keep falling.

(Editing by Nigel Stephenson/Jeremy Gaunt)

By John Geddie