Faced with an unprecedented $13 trillion-plus in assets on the largest central banks' balance sheets accumulated after the financial crisis, investors are trying to gauge the impact of a gradual unwind, S&P Global economists said.
Currently, there is divergence among the most important central banks, with the European Central Bank still buying assets and Japan doing so at full strength, said Paul Sheard, S&P Global Chief Economist, at a presentation in New York on Oct. 18.
The Federal Reserve, on the other hand, is hoping to "tiptoe to the exit," he said, noting the well-publicized process by which assets will be allowed to mature up to monthly caps that will be gradually raised. That process began this month.
Europe also has a plan, but because its bond-buying program started in 2015, much later than in the U.S. or the U.K., the expectation is that it will end later, said Jean-Michel Six, S&P Global Chief Economist for Europe, the Middle East and Africa.
"We would expect [the balance sheet] to start being reduced through 2018 since growth is accelerating," he said.
The eurozone also has low inflation – September was flat at 1.5% – and high unemployment, Six said, giving the ECB less incentive to tighten.
The big question, however, is what impact the balance unwind will have on interest rates, especially in conjunction with rate hikes. Fed officials are projecting four more increases to the benchmark federal funds rate through 2018.
Sheard offered this approach: Figure out the impact on interest rates when quantitative easing, or QE, was underway.
"One reasonable estimate is that the whole cumulative effect [of QE] pushed rates down by 100 basis points," Sheard explained. "Ten-year Treasuries are currently 2.3%, so if you magically got rid of QE, it might imply that they're at 3.3%."
The Fed, however, does not want any quick moves of that magnitude, he said. Hence, the very slow process that has been outlined.
Across the pond, the ECB is facing different issues in considering its QE program – a looming scarcity of assets to buy, because of restrictions on the program mostly imposed by treaty provisions.
Though the ECB has modified the original rules, it may still reach its limit for German bunds by April of next year, Six noted.
Nevertheless, ECB President Mario Draghi has demonstrated "time and again that he's a skilled and clever central banker," he said.