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E.g. the Bank of Japan buying Japanese government bonds.

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  • $\begingroup$ They need to buy something in order to create money (having a counterposition on their balancesheet) since they just can't give away new money for free $\endgroup$ – Fitzroy Hogsflesh Nov 19 '16 at 6:57
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Because this is how the "government issues new money" in the era of (quasi) independent central banks: instead of directly issuing new money, the government in the narrow sense borrows from the central bank (which has been awarded the "printing privilege") so this new money is recorded as debt burdening the government (plus interest), which then is accountable for this debt burden and how it affects the balance of public finances.

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This is referred to as Quantitative Easing in the field. The theory behind this is that when nominal interest rates have been cut to zero, asset purchases from the private sector at market prices will swap cash for assets on private balance sheets. These assets are most often sovereign and quasi-sovereign debt but can also be corporate bonds or stocks (as in the case of the Bank of Japan (BOJ) and the European Central Bank (ECB)). These Large Scale Asset Purchases or LSAPs exert downward pressure on yields. In the case of the US Federal Reserve, purchases of Fannie Mae and Freddie Mac MBS reduced mortgage rates and led to a large refinancing wave, putting more income in the pockets of US homeowners with mortgages.

The drop in private interest income should then induce private sector investors to seek out riskier, higher yielding debt issued by the private sector to finance projects that would have otherwise not been viable at higher interest rates.

The first answer is incorrect in that it conflates deficit financing through the direct issue of government bonds by bypassing markets. LSAPs are always conducted through market operations through designated agents (typically large money managers) who act on behalf of the central bank and purchase assets at current market prices.

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