Academic journal article Global Economic Observer

Is Quantitative Easing an Appropriate Way for the Success of Monetary Policy in a Post-Crisis Period?

Academic journal article Global Economic Observer

Is Quantitative Easing an Appropriate Way for the Success of Monetary Policy in a Post-Crisis Period?

Article excerpt

1. Introduction

Quantitative easing is an instrument of monetary policy used for stimulating the economy in a period of recovery or stagnation after a financial crisis. This instrument is used by the central banks not only for buying financial (toxic) assets from commercial banks and other financial institutions but also for increasing money supply. Due to liquidity trap, cutting or reducing short term interest rates close to zero is not able to stimulate the economy, hence monetary authorities usually buy assets (bonds and other assets) of longer maturity from banks increasing the availability of their funding. Quantitative easing is meant to prevent the deflation process but increasing the money supply may lead to higher inflation in the longer term, coming into collision with the objective of monetary policy of keeping inflation in check. Usually central banks use overnight interest-rates mechanism for controlling inflation and for stimulating economic growth. By cutting interest rate they encourage credit activity, preventing the economy from falling into recession and by raising interest rate they discourage a too large credit expansion and spending and try to prevent inflation rising. It was obvious that after the financial crisis central banks could no longer reduce the interest rates, under zero level. The only alternative or last resort measure was quantitative easing and they were forced to buy large quantities of bonds to support private bank lending. Quantitative easing involves a strict control of currency used in a country but in the case of the Euro Area central banks have no control which was lost in favor of European Central Bank.

QE is not about money creation because it is described as reserve creation as a central bank buys securities and pays for them with bank reserves (liabilities of the central bank and assets of commercial banks), thereby increasing the central bank's balance sheet and the reserves of its member banks. But there is an indirect linkage between QE and money supply as commercial banks may use or not these new reserves to create money. When they use them, the reserves are an active constraint on lending but they may be an inactive constraint when banks are not willing to lend or borrowers do not wish to borrow. QE does not increase the money supply and do not cause inflation when banks are looking for raising their capital and borrowers are paying their debts.

Quantitative easing started in Japan in March 2001, followed by USA in November 2008, United Kingdom in March 2009, Japan again in October 2010 and April 2013 and finally EU through ECB in March 2015.

2. Quantitative easing in Japan

For the first time QE started in Japan in 2001, a country affected by deflation and an economic stagnation after the banking crisis of 1997-1998 triggered not only by financial crises from Eastern and South-Eastern Asia but mainly by the asset price (real estate) bubble which led to non-performing loans and damaged balance sheets, crisis that was largely resolved by the early 2000s. Japan made strong efforts to restart economic growth and to get prices rising again, beginning with the year 2001 and lasting five years (Ashworth, 2015), but this monetary programme failed to revive the world's third largest economy of its long stagnation and deflation, and the failure of this non-orthodox monetary policy was remarked and repeatedly cited by QE's critics. So Japan is the birthplace of modern-day QE and has the longest experience with QE. In March 2001 Bank of Japan began purchasing Japanese government bonds and the process lasted until March 2006 when the Japanese economy showed the first signs of exiting deflation.

The second round of QE in Japan started after the global financial crisis hit its economy in 2008, and deflation and recession were again menaced this country. The Japanese central bank had to introduce comprehensive monetary easing in October 2010 in order to fight this old nightmare, stagnation associated with deflation. …

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