Central bankers continue to battle over rising bond yields

Rising bond yields may not be generating much worry from market participants, but central banks have taken notice and are asserting that action must be taken.

Driving the news: European Central Bank governing council member and Bank of France governor François Villeroy de Galhau said the ECB should start by using its pandemic emergency bond-buying program to drive down yields.

• He noted that the ECB continues to "stand ready to adjust all of our instruments, as appropriate, including possibly a lowering of the deposit rate if needed.”

Why it matters: Those were the strongest comments yet from an ECB official and they put the Federal Reserve on an island among major central banks in their response to rising yields.

• As I wrote yesterday, an increasing number of central bankers, including Bank of Japan governor Haruhiko Kuroda, have recently either taken action to increase their bond-buying programs or announced their intention to do so if yields continue to rise.
• The Fed has said it plans to maintain its current program and downplayed the threat of inflation.
• More bond buying by central banks means more liquidity in global asset markets, but also could signal desperation on the part of central bankers to keep yields artificially low.

Be smart: ”Villeroy’s statement voices the sentiment of most analysts after last week’s events: with the euro-zone growth outlook being weighed down by slow vaccine distribution, the ECB must avoid undue policy tightening,” Simon Harvey, senior analyst at Monex Europe, told Bloomberg.

• “However, talk is cheap and the market will need proof of action by the ECB.”

Yes, but: "Upward pressure on real yields in these countries may persist unless the Fed, which has been more reluctant to act so far, makes clear that it is not happy with the recent rise in US real yields," Franziska Palmas, a markets economist at Capital Economics, said in a note.

• "Given that safe government bonds are effectively substitutes for investors, change in US yields tends to pull others in the same direction. In other words, if the Fed continues with its current approach, it will make life more difficult for other DM central banks."