European Central Bank’s Cipollone says balance sheet runoff is offsetting policy rate cuts and could tighten credit

In a webcast speech, European Central Bank Executive Board member Piero Cipollone reviewed how the Eurosystem’s balance sheet policies interact with interest rate decisions and argued that ongoing balance sheet reduction needs to be factored into the calibration of rate cuts as the ECB makes monetary policy less restrictive. He noted the ECB’s balance sheet has fallen by more than a quarter from its peak, with much of the decline to date driven by targeted longer-term refinancing operation repayments, and that further reductions are set to come from the non-reinvestment of maturing securities in asset purchase portfolios. Cipollone highlighted that policy rate cuts and quantitative tightening now work in opposing directions, contributing to a steepening of the yield curve and potentially constraining bank credit supply as central bank liquidity declines. He cited ECB analysis suggesting that the estimated impact of asset holdings on ten-year sovereign yields has fallen from about 175 basis points at its peak to around 75 basis points, and that an expected EUR 1 trillion reduction in bond holdings may raise long-term risk-free rates by about 35 basis points. He also referenced research linking a projected EUR 500 billion drop in non-borrowed reserves in 2025 to an associated EUR 75 billion decline in credit supply, equivalent to around 0.6 percentage points of downward pressure on loans to the non-financial private sector, and argued for a gradual and predictable balance sheet path alongside close monitoring of the transition to less ample excess liquidity.