Every now and then you’ll read a news report that states a particular country has decided to implement quantitative easing. This is a type of monetary policy that is only rarely used. There are good reasons for this – namely that it is not a particularly conventional policy.
The idea is that the central bank of a particular country will buy financial assets from various institutions. This usually includes banks and similar institutions. By doing so the prices of whatever they buy will rise and the yield will drop. Perhaps most importantly, the money supply will also increase.
Why is this done? The main reason is to get the economy moving at a time when everything else that has been tried has failed to get it going. There are times when inflation has been off-target, and when this is the case the central bank will consider QE to get things back on track.
Does quantitative easing mean new banknotes are printed?
No. Some people end up assuming that the market is flooded with lots of new banknotes that eventually make their way into circulation. But in fact this is not the case. Instead the money is created electronically by the central bank. In our case this would be the Bank of England.
The UK went through a period of quantitative easing back in 2009. Since then several other periods of QE have been undertaken in this country. However we are not the only ones to go through this procedure. The US has also tried this several times since the recession took place, while the Eurozone and Japan have also tried it. Needless to say it has to be done with great care, otherwise there could be significant problems if it backfires.
Any programme of quantitative easing is undertaken and monitored for a period of time while it is in force. This means there are times when it can be stopped or adjusted if need be, depending on the underlying economic situation.
As such, while it is indeed an unconventional way of focusing on boosting the economy, it can and does work. However it must always be done with great care. It can equally backfire if the process is not followed properly. The general outcome is usually that interest rates will be lowered if they are too high at the time.
While QE will still be somewhat confusing to many of it, it does still have an effect on our lives. Lower interest rates mean lower mortgage rates – and of course on the other side of the scale, lower savings rates as well. However, since we have no control over whether QE is used or not, we should just sit back and see whether it is put into action again.