Bond yields have been driven by ECB flows in 2015 and it seems evident that fundamentals have had a limited effect in market developments so far.
However, with an expected sharp rise in inflation in Q4 and very low potential GDP growth in the euro area, focus could soon turn to whether the ECB could start tightening its monetary policy sooner rather than later.
In this series of research papers we consider the fundamental drivers of the euro area economy aimed at giving our view on the ECB's future monetary policy.
We show that potential GDP growth is crucial for where long-term interest rates should be, when the ECB will start normalising its monetary policy and thus when bond yields should be driven by fundamentals rather than flows.
We expect potential growth to increase very slowly due to the very muted productivity growth, headwind from employment growth and modest investment outlook.
In our upcoming papers, we discuss whether the ECB will end its QE programme before September 2016, whether it will hike policy rates immediately after the end of the QE programme and what the outlook for long-term interest rates is.
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