Tapering refers to the gradual reduction of a central bank's asset purchases before a full stop. It is the transitional phase between QE (expansion) and QT (contraction) β the bridge from accommodation to tightening.
How It Works
Rather than abruptly stopping bond purchases, the central bank announces a schedule to reduce monthly purchases. For example, the Fed's 2021-2022 taper reduced monthly purchases from $120B by $15B per month initially, then accelerated to $30B per month reductions in January 2022.
The Original 'Taper Tantrum' (2013)
On May 22, 2013, Fed Chair Bernanke mentioned in congressional testimony that the Fed might begin tapering QE3. Markets panicked: the 10-year Treasury yield surged from 1.94% to 3.04% over the next 4 months, emerging market currencies and bonds sold off sharply, and the term 'Taper Tantrum' entered the financial lexicon. This episode taught central banks that communication about policy changes is as impactful as the policy itself.
2021 Taper β Lessons Learned
Chair Powell carefully telegraphed the 2021 taper over several months, preventing a repeat tantrum. The Nov 2021 announcement was well-priced in, and markets barely moved. However, the taper was seen as 'too slow' in hindsight given the inflation surge already underway.
Why Markets Care
Tapering is the first concrete step toward policy normalization. It removes a major buyer from the bond market, putting upward pressure on yields. The speed of tapering signals how urgently the central bank views inflation β a faster taper implies sooner rate hikes.