German entry into select bond club would bode ill

By Swaha and Pattanaik

By Swaha and Pattanaik LONDON, Aug 8 (Reuters Breakingviews) - (The author is a Reuters Breakingviews columnist. The opinions expressed are her own.) The German government looks poised to join a club it may not want to enter. Like Japan and Switzerland, the German state is on the verge of being able to borrow money for 10 years for less than 1 percent. Unfortunately, membership of this select circle tends to come with high economic costs. The yield on 10-year German paper has halved in less than a year to hit a record low of 1.02 percent on Aug. 8. The decline helps other euro zone countries reduce their debt servicing costs, since German debt is a regional anchor. However, the necessary (though not sufficient) conditions which seem a prerequisite for entry into this very exclusive "sub-1 percent" club are far from welcome. First, weak economic activity. While Germany’s economy is still doing well for Europe, this hardly sets the bar high. Second, weak inflation. Germany's 0.8 percent rate is a little further from deflation than the euro zone's 0.4 percent, but that, once again, is not much of an accomplishment. This is all too reminiscent of Switzerland, which has been a member of the club for much of the past three years, or Japan, whose 10-year bond yields first fell below 1 percent in 2002. Membership brings few rewards. It doesn’t really help revive growth or push up prices. And while it might reduce borrowing costs, this isn’t enough to reduce debt loads on its own, as Japan’s example shows. It also usually goes hand in hand with experiments in extraordinary monetary policy, since such low bond yields are a symptom of official interest rates which are too low to be effective as policy tools. The Swiss central bank in September 2011 imposed a cap on the franc’s value against the euro to stave off recession and deflation. Japan went for quantitative easing, first in the early 2000s, and most aggressively since 2013. Falling bond yields usually give politicians and central bankers bragging rights but past a certain point, they are more a cause for serious concern. However, it is a lot easier to join the “sub-1 percent” club than to leave. (Editing by Edward Hadas and Sarah Bailey)