What is quantitative easing?

What is quantitative easing?

The European Central Bank’s president, Mario Draghi, announced a quantitative easing (QE) programme on 22nd January. -'The combined monthly...

The European Central Bank’s president, Mario Draghi, announced a quantitative easing (QE) programme on 22nd January. "The combined monthly purchases of public and private sector securities will amount to €60bn euros,” said Mr Draghi at a press conference following a meeting of the ECB’s governing council.

“They are intended to be carried out until end-September 2016 and will in any case be conducted until we see a sustained adjustment in the path of inflation," he added, meaning the package will amount to at least €1.1 trillion. But, Bank of England Governor Mark Carney gave a strong backing to the European Central Bank’s radical stimulus but warned it could disrupt the financial markets.

The European Union financial sector does not need to be eased, there is a plenty of liquidity in the banks. Quantitative easing, as practised by the Bank of England and the US Federal Reserve, merely flooded the financial sector with money to the benefit of bondholders. In this context, let us understand what is QE?

Quantitative easing (QE) is a massive expansion of the open market operations of a central bank. The bank buys securities from its member banks to add liquidity. The purpose of this expansionary monetary policy is to lower interest rates and spur economic growth. and spur economic growth. Where does the money come from to purchase these assets? This unique ability is a function of all central banks. It has the same effect as printing money.

When a central bank adds credit, the banks have more than they need in reserves. They now have more to lend to other banks. As banks try to unload their extra reserves, they drop the interest rate they charge. This is known as the funds rate. This rate is the basis for all other interest rates.

QE increases the money supply because lower interest rates allow banks to make more loans. Bank loans stimulate demand by giving businesses more money to expand, and shoppers more credit to buy things with. By increasing the money supply, it keeps the value of the currency low. This makes the country’s stocks seem like a relatively good investment to foreign investors, and makes exports relatively cheaper. In 2012, after the first two rounds of QE in the U.S., then-Fed Chairman Ben S. Bernanke said the initiative created 2 million private sector jobs.

Growth in the economies of many countries in the eurozone - referring to the 19 countries that use the euro - has slowed down in recent months, while some are in recession. Further, Europe is facing the spectre of deflation - when prices fall, rather than rise - after the inflation rate fell below zero in December. Deflation alarms economists because it can quickly become a downward spiral that is difficult to stop.

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