Why German bond yields could move further into negative territory

WHY GERMAN YIELDS COULD FALL FURTHER

In 2011 the euro underperformed the US dollar by 3.2%. Given everything that's occurred in Europe, many people have been surprised that the euro has not been weaker, and numerous commentators continue to call for a much weaker euro in this calendar year.

As usual with FX rates, most of the euro's behaviour versus the US dollar can be explained by changes in expectations of short term interest rates, as seen by the relative differences between the regions' short dated government bond yields. The euro's strength against the US dollar in the first half of last year was due to the contrasting approach of the Fed and the ECB. The Fed continued to state that it would maintain an exceptionally low Fed Funds rate for an extended period (and then in August went a step further by stating that "economic conditions....