I've been trying to get a clear understanding of exactly what economists mean by Quantitative Easing (QE). It seems to me that different people mean different things by it. I find simplistic analogies such as "it's like printing money" unhelpful.

My best guess from what I've read is that QE applies to the action of a national government that has a fiat currency selling one of its own bonds to its central bank, thereby increasing the government's reserve account balance with that bank.Since most governments hold few, if any, of their own bonds, the bond sold to the central bank would generally be newly issued specifically for this purpose. Importantly, under this meaning, QE is purely a way of the government raising funds, via an increase in its central bank account balance, and says nothing about how those funds might be spent.

I further guess that, when a govt does QE, it generally uses the increased account balance to make payments to the private sector, which may be to individuals or companies, and may be gifts (as in a cash handout to individuals) or purchase of goods or services (as in where a govt undertakes a new infrastructure project, and uses the cash to pay workers and for materials).

This makes perfect sense to me, and seems to align with the 'printing money' analogy. But there are a number of difficulties:

  1. Some sites describe 'helicopter cash' as an alternative to QE. That conflicts with the above understanding of QE as a way of raising funds, not of spending them. Under my understanding, one might do QE in order to finance a helicopter cash strategy.

  2. Some sites say the aim of QE is to lower interest rates, while other sites (and sometimes even the same sites!) say that QE is used when lowering interest rates has ceased to have any effect on economic activity. One of these must be incorrect. Under my understanding, the first is incorrect.

  3. Some sites include as QE the process of the central bank buying bonds from the private sector, which may be government bonds or private sector bonds. That is inconsistent with the above understanding. It does not increase the government's account balance and hence provides no funding for the government to increase spending. Also, it does not differ from what the central bank does as part of business as usual (BAU), which is buying and selling bonds, outright or via repo, in order to manage the cash supply and influence interest rates. The Reserve Bank of Australia calls this activity 'Open Market Operations', and it is a core component of its BAU. So if this is counted as QE it then seems to provide no new information to say that a government has commenced QE.

  4. Some accounts of Modern Monetary Theory (MMT) say that it involves a government creating money without taxing or issuing debt. That would rule out the above notion of QE, which involves the government issuing a bond (debt) to the central bank. Does that mean that QE could not be regarded as a MMT-oriented activity? Also I struggle to work out how such a transaction would be accounted, because it would involve the central bank increasing its liabilities (the government's account balance) but not its assets. Hence it would break the fundamental principle of double-entry book-keeping.

  5. QE as outlined above differs from ordinary deficit spending only by the party to whom the government sells the new bond. In QE it is sold privately to the central bank. In deficit spending it sold to investors, typically through a public auction. In Australia those auctions are conducted by AOFM - the Australian Office of Financial Management. Since the difference is only in who is the first owner of the new bond, I do not see why QE is regarded as radically different from what government's normally do.

I am hoping someone can help me resolve these apparent conflicts and clarify the mechanics of quantitative easing and its relationship, if any, to Modern Monetary Theory.


What is QE:

QE is simply an asset purchase by central bank. As explained by Fed St. Louis QE is defined as:

large-scale asset purchases—in the hundreds of billions of dollars range—of, for example, mortgage-backed securities and Treasury securities.

Furthermore, under QE this is done with newly created reserves. Generally these assets are actually not government assets (i.e. bonds) but rather the assets of banks (although they can be government assets as well).

The idea of QE is to basically make an asset swap - a swap of central bank's reserves for some assets of banks which make them reluctant to borrow more (for example the first QE Fed did focused heavily on mortgage based securities - which were at the heart of Great Recession - as it was argued that banks were reluctant to borrow more while holding them). Later QE's also included treasury bonds and other more safe long term debt. This is not printing money, but to the extent it encourages new borrowing it increases the money supply so the money printing analogy has some measure of merit in it.

Answer 1

Some sites describe 'helicopter cash' as an alternative to QE. That conflicts with the above understanding of QE as a way of raising funds, not of spending them. Under my understanding, one might do QE in order to finance a helicopter cash strategy.

Yes 'helicopter cash', or more correctly helicopter money is an alternative to QE. QE is an asset purchase program. Helicopter money just literary means giving away cash/deposits to people. The term originated from Milton Friedman's quip that in this case central bank might as well be literary dropping money out of helicopter. Helicopter money does not require any asset purchase from central bank. Central bank can as well just send every household a check or directly deposit the money into their account.

Answer 2

Some sites say the aim of QE is to lower interest rates, while other sites (and sometimes even the same sites!) say that QE is used when lowering interest rates has ceased to have any effect on economic activity. One of these must be incorrect. Under my understanding, the first is incorrect.

No both are correct and you are misunderstanding what they are saying. There are multiple interest rates in the economy. QE is used when Federal Reserve cannot bring down further its federal funds rate - when it hits zero lower bound. However, as explained in the same Fed St. Louis document I linked at the beginning, the aim of QE is to bring down interest rates on long term treasury securities and other financial instruments. Those are completely different interest rates than the one which makes QE necessary. Even if federal funds rate is 0 long term treasury rate or corporate bond rate might be positive.

Answer 3

No, open market operations and QE are different although the difference is subtle. Investopedia has an excellent article on the difference between the two, here is short summary (but I recommend reading the full Investopedia article):

Open market operations are a tool the Fed can use to influence rate changes in the debt market across specified securities and maturities. Quantitative easing is a holistic strategy that seeks to ease, or lower, borrowing rates to help stimulate growth in an economy. Open market operations can be an important tool used in seeking to obtain the goals and objectives of quantitative easing.

Basically, open market operations is much narrower term, while QE is wider term and when central banks execute QE it might be partially done through open market operations.

Answer 4

QE is an asset purchase program, hence it will always involve a debt. However, central banks are part of the government. All profits including the profits from interest on government bonds are sent back to government (after cost of running the central bank is deducted see this previous Q and A about Fed profits - other central bank might have different institutional arrangement but the profits end up at the government).

Also it is technically possible for central bank to just 'scrap' the bonds after purchase, saying government never has to pay it back and giving up any claims to gov. revenue those bonds give central bank. Nonetheless, doing so would represent permanent increase in money supply and most central banks would probably think twice before going this route.

Does that mean that QE could not be regarded as a MMT-oriented activity?

I dont think this can be answered. There is no single formal modern monetary theory (MMT). MMT lives, for most part, in blogosphere not in actual research papers and with every new book on MMT new/different things are claimed about it so there is too much inconsistency to say what is consistent and what isnt with it. As far as I understand from what I have read about MMT central bank purchasing bonds from government would be in view of MMT just an accounting trick and equivalent to directly funding government spending as long as central bank commits not to cash those bonds, but keep all the caveats mentioned in preceding sentences in mind.

Edit in Response to Brian's answer

For example, this blog on MMT says:

It should be noted that QE is conceptually different from MMT, although both involve central bank purchases of government bonds. Under QE, the expectation is that the central bank will sell the government bonds it buys before they mature, so that the government will need to raise money (ultimately through taxes) to pay its debt to private holders of that debt. Effectively, central bank assessments of a temporary need for money-creation to address short-run economic circumstances have driven QE.

Hence the blog claims if assets are purchased without intention of them to be sold later then QE is consistent with MMT as I mentioned above in my answer.

However, an important caveat to the reader here is that does not automatically means that Brian's answer is incorrect (apart from the part arguing this answer made incorrect assertions) - MMT has no definitive agreed upon version of a theory as mentioned before. However, saying that this answer misrepresented view of MMT is itself not correct as this answer both cautioned that people dont even agree on what MMT is and as the quote above shows clearly under some MMT views QE is consistent with MMT as long as central bank does not intend to reverse the bond purchase.

Answer 5

QE and any other monetary policy differs from mere deficit spending (i.e. fiscal policy) tremendously. From macroeconomic perspective the goal of monetary policy is to stimulate economy through changes in the money supply, which in turn affect interest rates and prices in economy. Fiscal policy tries to stimulate economy directly through government spending.

Furthermore, fiscal policy might be conducted even when central bank does nothing and vice versa monetary policy can be conducted even when government does not makes any changes in its fiscal policy or even if government does not have any net debt. In general monetary policy and fiscal policy are macroeconomically different on fundamental level (but this answer is already way too long to go into any further details on these differences but you can consult any standard macro textbook - if you are layman Blanchard et al. Macroeconomics: an European Perspective is excellent source targeted at undergraduates so you wont get yourself lost. If you want something more involved and nuanced then Romer's Advanced Macroeconomics is the book to learn intermediate macro from).

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    $\begingroup$ @BrianRomanchuk furthermore your analogy is simply incorrect. Neoclassical economics is whole plethora of theories. MMT can be compared to something like rational choice theory. Furthermore, I never even said I am asking for a single version of MMT some theories can have multiple versions for example strong/weak efficient market hypothesis but is now just honestly saying caveat that there are many versions of it to be considered bad? That’s just a reality- and if you read my answer you will see that the context in which I said it was that the answer whether QE is consistent with MMT must $\endgroup$ – 1muflon1 Jul 19 at 16:41
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    $\begingroup$ "It covers the entire breadth of macroeconomics, as well as microeconomics" - this is first time I ever hear anyone claiming that MMT covers entire breath of macro as well as micro. Even wikipedia states its macro theory and not micro one. Thats certainly not what many of the MMT scholars claim. Also, precisely its part of Post-Keynesian economics - that would be a proper counterpart for Neoclasical economics not MMT. Yes not every economist has to agree but with MMT many proponents do not even agree what MMT is. That fine, most theories dont come fully fleshed out into world but its how it is $\endgroup$ – 1muflon1 Jul 19 at 18:47
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    $\begingroup$ The part where you define QE as an “asset swap” that is specifically taking “bad assets” off bank balance sheets is in direct contradiction to the fact that QE is conducted against high-quality assets, either government debt or near substitutes, with the explicit goal of lowering the yield on those nearly risk-free securities. $\endgroup$ – dismalscience Jul 19 at 23:59
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    $\begingroup$ @dismalscience that’s true especially of the later QE’s but the first rounds focused on taking on some bad loans - especially the first QE Fed did focused on MBS that arguably had some bad asset in them - but I agree I did not explained that with all due diligence I will edit the answer trying to address that $\endgroup$ – 1muflon1 Jul 20 at 0:07
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    $\begingroup$ @1muflon1 The earlier actions (you’re likely thinking of TALF, PDCF, TAF, TSLF, CPFF, etc.) were crisis actions that provided liquidity support to troubled markets. They weren’t intended as broader monetary policy, but rather as narrow 13(F) actions, and to be clear, the Fed never took on credit risk that wasn’t otherwise backstopped by the Treasury (they never bought “bad debt” outright). None of those were a part of the broader, long-term enterprise that was QE. $\endgroup$ – dismalscience Jul 20 at 0:28

I just want to discuss this from the MMT perspective, since that was a sub-part of the question.

  • “Helicopter money“ is the alleged distribution of money by central banks to the public. This is outside the legal mandate of most central banks. Generally, economists refer to “money-financed fiscal stimulus,” which is normally thought of as the central bank buying government bonds in the primary market (at “auction”).
  • QE is the central bank buying anything - normally bonds - in the secondary market. This is designed to grow the balance sheet.
  • There are a variety of MMT proposals, but they have a common element of suspending bond issuance. The simplest suggestion is for the fiscal arm of the government to run an overdraft at the central bank. This is almost functionally equivalent to “money-financing.” The difference is that if the central bank buys bonds, it can sell them in the secondary market, while an overdraft balance is not a transferrable asset.

This paper by L. Randall Wray discusses central bank independence, and notes that using an overdraft is equivalent to purchasing in the primary market: Link Note that having the fiscal arm of government run an overdraft at the central bank used to be standard procedure in some countries (e.g., Canada), but it was Largely discontinued due to fears about “money printing.”

With respect to the sub-questions in the MMT section.

  • Running an overdraft at the central bank is like running an overdraft at a private bank; it creates assets/liabilities equally.
  • Buying bonds in the secondary market is largely a waste of time from the perspective of MMT. The key difference is that secondary market purchases leave open the possibility of auction failures.
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  • $\begingroup$ Thank you for the response. A point that particularly perplexed me in accounts of MMT was the statement that MMT proposes the govt not borrow to finance its spending. I couldn't understand how that could be done without breaking accounting rules. From your comment about overdrafts, I glean that the principle is more subtle. Under a MMT-based fiscal expansion the govt borrows, but only from the central bank, and via a non-transferrable debt - an overdraft. It is the non-transferrability of the debt that distinguishes a MMT fiscal expansion from a traditional one. Is that correct? $\endgroup$ – Andrew Kirk Jul 22 at 22:16
  • $\begingroup$ There’s different MMTers, and they don’t have to agree. There’s a number of ways of getting the same economic outcome. Overdrafts - which were used - is the simplest solution, and eliminates the need for any bond issuance (and transferability). If the central bank is buying bonds in the primary market (auction) or secondary market, different technical issues can pop up, but they are arguably not too important. The difference between MMT and conventional views lies in terminology used. Whether that matters depends upon the person. $\endgroup$ – Brian Romanchuk Jul 23 at 1:48

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