Understanding Quantitative easing and its effects

Quantitative easing or Quantitative Easing is one of the unconventional central bank’s monetary policies to stimulate the economy and return inflation to its target. Quantitative easing increases the money supply by flooding financial institutions with capital in an effort to increase lending and liquidity.

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Understanding Quantitative easing and its effects

In quantitative easing, the central bank focuses the money supply by buying or selling government bonds. When the economy stalls and the central bank wants to boost economic growth, the central bank buys government bonds. This strategy seems to be losing effectiveness when interest rates close to zero, and banks have to implement other strategies to start the economy. The central bank targets the purchase of assets of commercial banks and the private sector which will then raise the asset prices and lower asset yields and simultaneously increase the money supply. It aims to spur economic growth by encouraging banks and the private sector to lend money or channel. Quantitative easing or Quantitative Easing is commonly referred to as QE.

Quantitative easing can help ensure that inflation is not below target. This policy risk becomes more effective against deflation (leading to higher inflation in the long run, due to increased money supply), or becomes ineffective if banks remain reluctant to lend and borrowers will not borrow.

Most businesses, whether small or large, need to borrow money to grow and expand. During the period of government-backed bond purchases, money became a very cheap asset. This low interest rate allows companies to borrow money at a low cost and expand their business.

To expand the scope of business, these companies need to recruit and add to their workforce (labor). With the opening of employment, expected to increase the level of consumer spending and able to play the economy. A returning normal economic cycle is expected to boost positive yields on GDP growth.

However, the policy of quantitative easing also has a negative side of them is that if the money supply exceeds the goods that can be bought then there can be uncontrolled inflation. Even the central bank could lose its controlling power and this is endangering the economy.

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