NAIROBI (CoinChapter.com)— For the first time, the world’s major central banks are jointly embarking on quantitative tightening (QT), marking a pivotal moment in global monetary policy.
The Federal Reserve (Fed), European Central Bank (ECB), Bank of England (BOE), and Bank of Japan (BOJ) are all engaged in reducing their balance sheets, reversing the massive liquidity injections they provided during the pandemic.
This synchronized effort to contract balance sheets introduces new challenges as global markets brace for potential disruptions.
Why Quantitative Tightening Matters Now
The Bank of Japan (BOJ) recently announced plans to reduce its bond holdings, aligning with the Federal Reserve (Fed), European Central Bank (ECB), and Bank of England (BOE) in a global effort to shrink balance sheets. This coordinated quantitative tightening (QT) aims to reverse the bond-buying programs that expanded balance sheets during the pandemic.
However, this synchronized QT introduces risks. As central banks withdraw liquidity, the potential for market disruptions increases. Steven Barrow, a strategist at Standard Bank, warned that while the Fed may have learned from past QT efforts, other central banks face uncharted territory.
The chart above shows the Fed’s 10-year Treasury holdings, which have continued to grow despite QT efforts. The Fed’s strategy of slowing bond purchases rather than selling raises concerns about genuine price discovery in the market.
@Economica, a Twitter-based analyst, pointed out that this approach reflects a reluctance to fully embrace free markets, a stance shared by other central banks like the BOJ and ECB.
Is Global QT About to Trigger Market Chaos?
The BOJ’s recent move to reduce its bond holdings signals alignment with other central banks in this unprecedented initiative. Quantitative tightening involves retracting the excess liquidity infused into economies through large-scale bond purchases.
However, this coordinated QT effort could introduce risks, as the Fed’s 2019 experience with unexpected funding shortages demonstrated. Steven Barrow, head of G10 strategy at Standard Bank, cautioned that while the Fed may have learned from past mistakes, other central banks face untested waters, raising concerns about the potential for market chaos.
Potential Market Fallout from Global QT
Recent signs indicate that the Fed’s QT program might end soon as the U.S. economy slows. In June, the Fed reduced the pace of its bond portfolio reduction, highlighting concerns over money market conditions noted in recent policy meeting minutes.
As stress in funding markets increases, many expect the Fed’s QT to conclude sooner. The odds of a 50 basis points interest rate cut at the September meeting have risen to 36.5%, reflecting growing expectations that the Fed may shift to a more accommodative stance if economic conditions worsen.
The BOE adopts a more aggressive stance, actively selling bonds rather than reducing reinvestments, driving market volatility. In Japan, the BOJ plans to cut bond holdings by 7% to 8% over the next two years, which further strains global liquidity. Citigroup Inc. estimates a ¥10 trillion ($69 billion) reduction by March 2025.
As public debt levels rise, concerns grow that governments may pressure central banks to ease QT to support bond markets. Stephen Jen, CEO of Eurizon SLJ Capital, warned that carrying out QT amid large debt issuances could heighten market volatility.
This could make it harder for central banks to follow through on their plans without causing further disruptions.
