World
Misdirected QE is mere sleight of hand
By Henry C K Liu
In early April, 2013, the Bank of Japan, a central bank, under its new chairman Haruhiko Kuroda, announced that it would implement both quantitative and qualitative easing (QE) to stimulate the stalled Japanese economy.
QE is a monetary measure that a central bank in desperation can undertake as a last resort to stimulate a stalled economy when the short-term benchmark inter-bank interest rate target is set at or near zero and cannot be lowered through central bank open
Misdirected QE is mere sleight of hand
By Henry C K Liu
(The following is an extract from the first of a new series of articles discussing quantitative easing, initially published on the web site of Asia Times Online regular contributor Henry C K Liu.)
In early April, 2013, the Bank of Japan, a central bank, under its new chairman Haruhiko Kuroda, announced that it would implement both quantitative and qualitative easing (QE) to stimulate the stalled Japanese economy. (See my April 17, 2013, article, Bank of Japan Bashing.)
QE is a monetary measure that a central bank in desperation can undertake as a last resort to stimulate a stalled economy when the short-term benchmark inter-bank interest rate target is set at or near zero and cannot be lowered through central bank open market operations, in which the central bank buys or sells short-term government bonds in the open market such as the repo market to keep the inter-bank interest rate near its set target.
Such a situation is known as a "liquidity trap", a term introduced by John Maynard Keynes (1883-1946) in 1936 to describe a market situation in which injection of cash by the central bank into the banking system to lower the short-term interest rate fails to stimulate growth. Such a liquidity trap is caused by market participants hoarding cash on expectation of adverse market developments such as deflation caused by insufficient aggregate demand due to high employment.
QE by a central bank increases the money supply through buying sovereign or other top-rated securities from big banks and other systemically significant financial institutions at face value without reference to market value or interest rate. QE floods stressed money-issuing/transmitting financial institutions with additional reserves in an effort to provide more liquidity in the market and to boost bank lending into the stalled economy. In the current debt crisis that began in mid-2007, most over-leveraged institutions have been using QE money to de-leverage to lower required reserve rather than to raise existing reserve to boost lending.
QE measures generally expand the balance sheets of the buying central banks, transferring troubled assets of eclipsed market value from the private sector to the central bank at full face value, saving endangered systemically significant (too-big-to-fail) institutions from pending insolvency.
In an over-leveraged debt market economy, QE can run the risk of reducing private sector incentive to try with determination to create new wealth to retire outstanding liabilities with newly earned money in a difficult market. This decline in incentive is due to the easy availability of unearned QE money issued by the central bank to relieve stressed institutions from pending insolvency.