A central bank can decide to introduce quantitative easing involving government bond purchases. The effect of this policy will initially depend on the ease with which it will find sellers of government bonds. There are reasons to think that in the case of the euro zone, there are spontaneously few sellers: • Central banks and sovereign funds use euro-zone government bonds as a component of their reserves; selling them would create an imbalance in their portfolios in favour of currencies other than the euro; • Euro-zone banks use government bonds as a liquidity reserve under the new banking regulations (LCR ratio); • Institutional investors are limited by their regulations (Solvency II) in their ability to replace bonds by foreign securities, corporate bonds or equities. If there are spontaneously few sellers of euro-zone government bonds, the ECB’s purchases will drive down interest rates further despite their already very low level. This reflects the problem with central banks putting risk-free assets in their balance sheet when they are useful for other investors
