The European Central Bank let it be known that tapering of monetary policy would be gradual, the Euro came off its highs, bond yields fell and European stocks clawed back all the ground they had lost.

In fact, it would be very difficult for the European Central Bank to withdraw monetary stimulus quickly, as the German financial daily Handelsblatt explained in a feature yesterday. Tapering is inevitable because the ECB will soon hit the 33% limit on holdings of one country’s outstanding debt (in the case of Germany), but redemptions of bonds now held in portfolio will cause the ECB to maintain a substantial pace of purchases, so that tapering will be very gradual.

1) On the inevitability of tapering, Handelsblatt wrote:

“‘Even a lax interpretation of the capital key cannot eliminate the issuer limit. The ECB must therefore tap into 2018,’ says Michael Leister, analyst at Commerzbank. Investors therefore expect Draghi to announce the beginning of the exit from bond purchases at the ECB meeting in September.”

2) Redemptions will slow the ECB’s exit:

“By the end of 2018 the buy-outs are likely to end. However, the ECB will not withdraw from the market. The reason: bonds that are due are replacing the central bankers by new bonds of the same country. The first bonds of the purchase program launched more than two years ago are already running out. This year, state bonds are worth a total of € 20 billion from the stock of the central banks, the DZ Bank estimates. In 2018, it would already be 109 billion euros, the next year about 170 and a year later 180 billion euros.

‘The reduction in bond purchases will not be as fast as hoped,’ says Hendrik Lodde from the DZ Bank. In some countries, the ECB is likely to buy more bonds than before tapering as it reinvests the principal from maturing bonds.

The repurchases could also lead to distortions. According to the DZ Bank, the bank will buy significantly more Portuguese bonds in June 2018 and 2019 than before tapering because of the maturities. This is likely to be the case in Finland in autumn 2018 and summer 2019. The reinvestment is therefore likely to cause a partial ‘shock-like’ demand, says Lodde.”