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"Be very bullish. The huge elephant in the room is ready to roar again," RBS advises clients

'Net [Bunds] supply in Germany is zero since they are in budget surplus this year and next, and they have written a balanced-budget amendment into their constitution' Photo: Alamy

German bond yields are to fall below Japanese levels and plumb depths never seen before in history as Europe becomes the epicentre of global deflationary forces, according to new forecast from the Royal Bank of Scotland.

“We are seeing `Japanification’ setting in across Europe,” said Andrew Roberts, the bank’s credit strategist. “We expect 10-year Bund yields to cross the 10-year Japanese government bond and we are amply positioned for such an outcome.”

Mr Roberts said it is a “weighty win-win” situation for investors. If the European Central Bank launches full-blown quantitative easing, it will almost certainly have to buy large amounts of German Bunds, and these are becoming scarce.

“Net supply in Germany is zero since they are in budget surplus this year and next, and they have written a balanced-budget amendment into their constitution. There are simply fewer and fewer Bunds to buy, and everybody wants them,” he said.

It is assumed that if the ECB buys sovereign bonds, it will have to buy them evenly in accordance with its capital “key”. This implies that 28pc would have to be German debt.

Yet if the ECB fails to deliver on hints that it will expand its balance sheet by €1 trillion, the damage would be so enormous that Europe would be sucked into a depressionary vortex, according to the bank. Bund yields would fall for different reasons, as debt markets began to reflect a Japanese-style deflation trap.

The bank’s credit team is betting that the ECB will act more quickly and on a greater scale than widely assumed, launching purchases of corporate bonds as soon as early December and full sovereign QE in February once the European Court has ruled on a previous debt rescue plan (OMT). “We think Germany will be dragged to the table, kicking and screaming all the time,” said Mr Roberts.

Japanese yields are just 0.45pc, which is steeply negative in real terms now that ‘Abenomics’ is driving up Japan's inflation rate. This is a deliberate strategy to whittle away a public debt that has reached 245pc of GDP.

German yields are 0.78pc. RBS expects the two bonds to cross as Japanese yields rise while German yields fall. This would be a radical change in the structure of the global financial system.

Mr Roberts said ECB chief Mario Draghi is a “super-dove” who has to disguise his views but is in reality leading the North's hawkish bloc by the nose. “He has to tread a bit more delicately given sensitivities in a couple of Teutonic countries. This year, for all the talk of QE being a step too far, they have actually already been easing aggressively. They are not sitting on their hands,” he said.

The bank expects €500bn of asset purchases in the first round. This comes on top of easing by Japan and China, and will feed a euphoric rise in asset prices across the board. “Be very bullish The huge elephant in the room is ready to roar again, and we want to be onside,” it said, with the hallmark use of mixed metaphors that characterize City argot.

“It is a good time to be an equity, and credit, and periphery and bond bull, All ‘risk on’ wins.”