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From what I understand, Quantitative Easing (QE) is the buying, by the Central Bank, of bonds and other financial assets with high-powered money (or money created by the CB for this purpose).

If I remember correctly this ad-hoc creation of money was the main ingredient for hyperinflation.

So, why hasn't there been a surge in inflation?

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High-powered money is another term for the monetary base or MB. MB represents all money created by the government. However, that is not all the only source of money. Banks are allowed to create money too. Which is why higher aggregates like M2 and M3 are greater than MB.

Because bank money is greater than government money, it (and not MB) is more of a primary determinant to monetary inflation. Pretend there is an economy of blue dollars and yellow dollars. The blue are created by the government and the yellow by banks. There are many more yellow dollars than blue dollars. So when the supply of blue dollars goes up it doesn't matter as much because of the number of yellow dollars.

Bank money was being destroyed in the crisis which was actually creating deflationary pressures. The collapse in higher monetary aggregates was offset somewhat by the surge in the monetary base.

Now typically base money is used to create and leverage higher aggregates, but this was not the case during the crisis. Because of liquidity concerns, banks curtailed monetary creation so this is why inflation did not happen.

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  • $\begingroup$ Thanks for your answer. Could you please elaborate on how banks are able to create money? What type? are there limits to it? etc. Thanks ;) $\endgroup$ – An old man in the sea. Feb 10 '16 at 7:49
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    $\begingroup$ @Anoldmaninthesea. bankofengland.co.uk/publications/Documents/quarterlybulletin/… $\endgroup$ – Anton Tarasenko Feb 10 '16 at 12:24
  • $\begingroup$ @AntonTarasenko Impressive resource. Thanks ;) $\endgroup$ – An old man in the sea. Feb 10 '16 at 13:44
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    $\begingroup$ Banks are able to create money by promising more in deposits then they have on hand. They can do this, because most depositors don't verify that banks actually have their money on hand and trusts them. It started when gold smiths would issue claim slips on gold, which were easier to trade than actual gold. The gold smiths noticed that on average the receipts weren't redeemed so issued more than they had. Banking is the same thing. If you google "fractional banking gold", you will see some good links. FRB is problematic though as it can cause inflation and bank runs (& bailouts). $\endgroup$ – user2662680 Feb 10 '16 at 18:30
  • $\begingroup$ User2662680, I think if you added this last comment to your answer, it would make your answer much more complete. ;) $\endgroup$ – An old man in the sea. Feb 11 '16 at 8:11

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