Quantitative easing
Quantitative easing (QE) is a monetary policy action where a central bank purchases predetermined amounts of government bonds or other financial assets in order to stimulate economic activity.[1] Quantitative easing is a novel form of monetary policy that came into wide application after the financial crisis of 2007–2008.[2][3] It is used to mitigate an economic recession when inflation is very low or negative, making standard monetary policy ineffective. Quantitative tightening (QT) does the opposite, where for monetary policy reasons, a central bank sells off some portion of its holdings of government bonds or other financial assets.
Similar to conventional open-market operations used to implement monetary policy, a central bank implements quantitative easing by buying financial assets from commercial banks and other financial institutions, thus raising the prices of those financial assets and lowering their yield, while simultaneously increasing the money supply. However, in contrast to normal policy, quantitative easing usually involves the purchase of riskier or longer-term assets (rather than short-term government bonds) of predetermined amounts at a large scale, over a pre-committed period of time.[4][5]
Central banks usually resort to quantitative easing when interest rates approach zero. Very low interest rates induce a liquidity trap, a situation where people prefer to hold cash or very liquid assets, given the low returns on other financial assets. This makes it difficult for interest rates to go below zero; monetary authorities may then use quantitative easing to stimulate the economy rather than trying to lower the interest rate.
Quantitative easing can help bring the economy out of recession[6] and help ensure that inflation does not fall below the central bank's inflation target.[7] However QE programmes are also criticized for their side-effects and risks, which include the policy being more effective than intended in acting against deflation (leading to higher inflation in the longer term), or not being effective enough if banks remain reluctant to lend and potential borrowers are unwilling to borrow. Quantitative easing has also been criticized for raising financial asset prices, contributing to inequality.[8] Quantitative easing was undertaken by some major central banks worldwide following the global financial crisis of 2007–2008, and again in response to the COVID-19 pandemic.[9]
Standard central bank monetary policies are usually enacted by buying or selling government bonds on the open market to reach a desired target for the interbank interest rate. However, if a recession or depression continues even when a central bank has lowered interest rates targets to nearly zero, the central bank can no longer lower interest rates — a situation known as the liquidity trap. The central bank may then attempt to stimulate the economy by implementing quantitative easing, that is, by buying financial assets without reference to interest rates. This policy is sometimes described as a last resort to stimulate the economy.[10][11]
A central bank enacts quantitative easing by purchasing, regardless of interest rates, a predetermined quantity of bonds or other financial assets on financial markets from private financial institutions.[12][13] This action increases the excess reserves that banks hold. The goal of this policy is to ease financial conditions, increase market liquidity, and encourage private bank lending.
Quantitative easing affects the economy through several channels:[14]
Effectiveness of QE[edit]
The effectiveness of quantitative easing is the subject of an intense dispute among researchers as it is difficult to separate the effect of quantitative easing from other contemporaneous economic and policy measures, such as negative rates.
Former Federal Reserve Chairman Alan Greenspan calculated that as of July 2012, there was "very little impact on the economy".[92] Bank deposits in the Fed increased by nearly $4 trillion during QE1-3, closely tracking Fed bond purchases. A different assessment has been offered by Federal Reserve Governor Jeremy Stein, who has said that measures of quantitative easing such as large-scale asset purchases "have played a significant role in supporting economic activity".[93]
While the literature on the topic has grown over time, it has also been shown that central banks' own research on the effectiveness of quantitative easing tends to be optimistic in comparison to research by independent researchers,[94] which could indicate a conflict of interest or cognitive bias in central bank research.
Several studies published in the aftermath of the crisis found that quantitative easing in the US has effectively contributed to lower long term interest rates on a variety of securities as well as lower credit risk. This boosted GDP growth and modestly increased inflation.[95][96][97][98][99][100] A predictable but unintended consequence of the lower interest rates was to drive investment capital into equities, thereby inflating the value of equities relative to the value of goods and services, and increasing the wealth gap between the wealthy and working class.
In the Eurozone, studies have shown that QE successfully averted deflationary spirals in 2013–2014, and prevented the widening of bond yield spreads between member states.[101] QE also helped reduce bank lending cost.[102] However, the real effect of QE on GDP and inflation remained modest[103][104] and very heterogeneous depending on methodologies used in research studies, which find on GDP comprised between 0.2% and 1.5% and between 0.1 and 1.4% on inflation. Model-based studies tend to find a higher impact than empirical ones.
In Japan, focusing on equity purchases, studies have shown that QE successfully boosted stock prices,[105][91] but appear to have not been successful in stimulating corporate investment.[91]