Download Quantitative Easing New York Times blog

Quantitative Easing
New York Times
blog - Sept. 13, 2012
Central banks usually strengthen the economy through a single, vastly powerful tool — lowering
interest rates. When the Federal Reserve makes it cheaper for banks to borrow money, that
stimulus generally flows through the entire economy, as the banks make loans that in turn
stimulate economic activity.
But when times are so dire that banks are reluctant to lend or borrowers to borrow whatever the
cost, interest rate cuts lose their punch. That happened in Japan after the bursting of its real-estate
bubble in 1991, and happened again in the wake of the credit crisis that upended Wall Street in
the fall of 2008. In those circumstances, central banks turn to what economists call “quantitative
easing’' — unorthodox methods of pumping money into an economy and working to lower the
long-term interest rates that central bankers do not usually control.
The most usual approach is large-scale purchases of debt. The effect is the same as printing
money in vast quantities, but without ever turning on the printing presses. The Fed buys
government or other bonds – what is called “expanding the balance sheet” – from banks and
other financial institutions. The banks then have money available for banks to lend, thereby
expanding the amount of money sloshing around the economy thereby, it hopes, reducing longterm interest rates.
And buying bonds drives down rates by increasing competition for the remaining bonds, forcing
investors to accept a lower rate of return or move their money into other, riskier assets.
The Fed has engaged in several rounds of quantitative easing. The first round of bond purchases,
known as QE1, aimed to arrest the financial crisis, in part by clearing room on bank balance
sheets [i.e. enabling them to sell their toxic mortgage-backed securities – Mr. B]. The second
round, called QE2, was started amid concerns that prices were increasing too slowly, raising the
specter of deflation. This round, by contrast, is aimed squarely at the huge and persistent
unemployment crisis.
Multiple Rounds
Between November 2008 and May 2010, the Fed bought $1.75 trillion in debt held by Fannie
Mae and Freddie Mac, mortgage-backed securities and Treasury notes between November 2008
and May 2010. A second round, dubbed QE2, involved an additional $600 billion in long-term
Treasury securities purchased between November 2010 and June 2011.
In September 2011, the Fed began a variant that was called “Operation Twist.’' Instead of
expanding its balance sheet by just buying more and more bonds, it sold $400 billion in shortterm securities and used the proceeds to buy longer-term ones. In June 2012 the bank announced
an extension worth $267 billion more.
In September 2012, the Fed announced a new round of bond purchases, QE3, but with an
important difference. For the first time, it pledged to act until the economy improved, rather than
creating another program with a fixed endpoint.
In announcing the new policy, the Fed sought to make clear that its decision reflected not only an
increased concern about the health of the economy, but an increased determination to respond –
in effect, an acknowledgment that its approach until now had been flawed.
The Fed said it would add mortgage bonds to its portfolio at a pace of $40 billion in purchases
each month until the outlook for the labor market improves “substantially,” as long as inflation
remains in check. The statement did not further explain either standard.
The Fed’s statement made clear, however, that it would continue to stimulate the economy even
as the recovery strengthened, suggesting that it was now willing to tolerate somewhat higher
inflation in the future to encourage growth in the present.
From Wiki: On 12 December 2012, the FOMC announced an increase in the amount of openended purchases from $40 billion to $85 billion per month.
From the Economist, January 14, 2014: AMERICA'S Federal Reserve surprised markets in
December by starting to "taper" (ie, gradually reduce) its programme of monthly purchases of
government and mortgage bonds—a process known as "quantitative easing", or QE—from $85
billion a month to $75 billion. Some worry that scaling back QE could endanger America's
recovery or create financial instability in emerging markets. Meanwhile, expectations are rising
that the European Central Bank may soon launch its own QE programme to boost the euro-area
economy, where high unemployment is contributing to deflation. . .
From Forbes, April 30, 2014: On Wednesday, the FOMC announced a fourth $10 billion
reduction to its quantitative easing program, reducing its monthly bond purchases to $45 billion.
The Fed will cut monthly purchases of mortgage-backed securities to $20 billion from $25
billion. Treasury purchases will drop to $25 billion a month from $30 billion.
Same Economist Article: . . . The jury is still out on QE, however. Studies suggest that it did raise
economic activity a bit. But some worry that the flood of cash has encouraged reckless financial
behaviour and directed a firehose of money to emerging economies that cannot manage the cash.
Others fear that when central banks sell the assets they have accumulated, interest rates will soar,
choking off the recovery. Last spring, when the Fed first mooted the idea of tapering, interest
rates around the world jumped and markets wobbled. Still others doubt that central banks have
the capacity to keep inflation in check if the money they have created begins circulating more
rapidly. Central bankers have been more cautious in using QE than they would have been in
cutting interest rates, which could partly explain some countries' slow recoveries. At least a few
central banks are now experimenting with stimulus alternatives, such as promises to keep
overnight interest-rates low for a very long time, the better to scale back their dependence on QE.