Friday 18 October 2019

Borrowing costs for Government falls to lowest ever rate

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Donal O'Donovan

Donal O'Donovan

Borrowing costs for the Irish Government have fallen to their lowest ever – at one stage falling to just 0.03pc a year for 10-year bonds.

Ireland is not alone; Germany’s benchmark 10-year government bond yield fell below the European Central Bank’s (ECB) deposit rate for the first time.

The plunge in debt costs for what are seen as the safest borrowers is a sign of bad news in the economy, generally. Investors are betting that inflation – and, by implication, growth – is going to be stuck at low levels into the future.

The shift is stark for the Government though. The 10-year yield on Irish government debt of 0.03pc means the cost of borrowing €10bn for additional spending would be just €3m a year. At the peak of the financial crisis, borrowing €10bn would have cost €1.4bn a year, according to Austin Hughes, chief economist at KBC Ireland.

The plunge in borrowing costs – in reality implied borrowing costs, because only new debt is affected –  is the strongest sign yet that financial markets are braced for interest rate cuts soon from the ECB.

 “It is quite astonishing,” said Tim Graf, chief macro strategist at State Street Global Advisors in London.

“It’s reflective of the fall in inflation expectations which has been persistent and the reaction of central banks, hinting at rate cuts and potentially a package of easing,” Graf said.

The last time 10-year bond yields in the eurozone’s biggest economy fell near ECB rates was during the global financial crisis. But back then Irish, Greek, Portuguese and Italian bond yields went in the opposite direction. 

These structural factors help explain why German 10-year yields have fallen below a key ECB interest rate but they didn’t during the global crisis - largely because back then, the eurozone central banks were not snapping up Bunds at the same pace.

Because only banks have access to the ECB’s deposit rate facility, the move in Bund yields below ECB depo rates is less significant, according to Lyn Graham-Taylor, fixed-income strategist at Rabobank.

“If we look back the deposit rate has been -40 basis points since March 2016 but other German bond yields have been miles lower,” he said. “You can argue all sorts of theories about why Bund yields should never trade below the deposit rate. However, there is a massive short fall of AAA assets.”

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