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Friday, June 3, 2011

Quantitative Easing and Implications

Quantitative Easing is the monetary policy tool exercised by central banks in which central banks increase the money supply in the economy with a vision of boosting up of the economy.
Central banks buy government securities to release the money in the system. Central banks first credits its own account with money created ‘ex nihilo’ (out of nothing) and the same is used for purchasing government securities, corporate bonds and other similar products from financial institutions under Open Market Operations and this results in more capital with financial institutions to lend. This process results in the increased money supply in the economy and thus provides the stimulus to the economy.

Quantitative Easing may not be effective if financial institutions just garner the capital but don’t lend it fearing defaults. Quantitative Easing is used during zero or close to zero interest rate (bank rates, inter-bank rates, and discount or repo rates) situations.
Quantitative Easing is also colloquially known as Printing Money but no physical currency is printed and money is printed by making an electronic entry in the account only.
Japan had used the Quantitative Easing during early 2000s followed by USA and UK during the recession of 2008-09.
With the done away of gold standard and gold exchange standard, governments can print as much money as they wish provided legislative approval.
Quantitative Easing often brings inflation in the economy due to increased money supply chasing almost same goods and services.
If not controlled properly, Quantitative Easing could drive the economy to the Hyper Inflation Zone by diluting the value of the local currency.

Quantitative Easing comes heavily on senior citizens, it not only erodes the value of their saving but lower interest rates diminishes the return on their savings which being the only source of income for most of them.
In international perspective, Quantitative Easing devalues the currency of the nation resulting in downgrading of its credit ratings followed by lowering of foreign investments
Zimbabwe is the extreme example where Quantitative Easing resulted in nearly worthless currency and citizens had to take piles of money to buy even grocery.


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