MacroScope

Germany’s zero bound

May 4, 2012

The ultra-low rates offered by two-year German bonds reflect just how worried investors have become about the euro zone debt crisis and the continent’s sluggish economy.

Two-year German debt is currently yielding only 0.09 percent. That is less than the 0.11 percent offered by equivalent bonds in Japan – whose central bank has been grappling with deflation for some two decades. It is also below the 0.26 percent offered by similar U.S. Treasuries after the Federal Reserve more than tripled the size of its balance sheet compared to pre-crisis levels.

Elwin de Groot, senior market economist at Rabobank, expects the euro zone’s sluggish economy and intractable debt crisis to continue to favour a safety bid as long as policymakers do not take steps towards a closer fiscal union. He sees the two-year German bond yield hitting zero in three to six months and ten-year benchmark yields falling to 1.40 percent over the same period from 1.59 percent currently.

Peter Allwright of investment management firm RWC Partners goes one step further. He can envision a scenario where the German Schatz trades at significantly negative yields as the crisis unfolds.

There is going to be a huge shortage of triple A collateral in euros and if people start to price in the euro break-up scenario, people are going to be pushed into that.

 

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