845 quantitative easing
Post on 23-Feb-2018
237 Views
Preview:
TRANSCRIPT
-
7/24/2019 845 Quantitative Easing
1/12
Quarterly Bulletin 2009 Q2
Quantitative easing
By James Ben ford, Stuart Berry, Kalin Niko lov and Chris Young of the Bank's Mo neta ry Analysis D ivision and
Mark Robson ofthe Bank's Notes Division.
The Monetary Policy Committee's recent decision to expand the money supply through large-sca
asset purchases (or 'quantitative easing') shifted the focus of monetary policy towards the quant
of m oney as we ll
as
the price of m oney. W ith Bank Rate close to zero, asset purchases should
provide an additional stimulus to nom inal spending and so help meet the inflation target. This
should come about through their impact on asset prices, expectations and the availability of cred
However, there is considerable uncertainty about the strength and pace with which these effects
w ill feed through. That wi ll depend in part on wha t sellers do w ith the money the y receive in
exchange for the assets they sell to the Bank of England and the response of banks to the addition
liquidity they ob tain. The MPC w ill be monitoring
a
range of indicators in order to assess the im
of its asset purchases and therefore judge the appropriate stance of m onetary policy.
Introduction
On 5 March, the M onetary Policy Com mittee (MPC) decided
to reduce Bank Rate to 0.5 and to und ertake wh at is
sometimes called 'quantitative easing'. This meant that it
began purchasing public and private sector assets using
central bank nnoney. In this way, the C om mitte e is injecting
money into the economy to provide an additional stimulus to
nominal spending in order to meet the inflation target. This
article sets out in more detail how asset purchases are
expected to w ork, bui lding on the informa tion provided in the
MPC m inutes, the
Inflation R eport
and a range of speeches by
MPC members.
The conventional way for the MPC to conduct monetary policy
is by setting Bank Rate. The introduction of asset purchases
has shifted the focus of m oneta ry p olicy, but the objectives
have no t changed. The MPC's rem it is stil l to ma intain price
stability
defined as an inflation rate of 2 on the CPI
measure and,subject to that, to support the Government's
econom ic policy, including its objectives for gro wth and
em ploym ent. Asset purchases provide an add itional too l to
help the Committee meet those objectives. The MPC
continues to decide on the app ropriate level of Bank Rate each
mo nth and is independent of the Covernme nt in form ulating
effectiveness. The article then b riefly considers the fram ew
through which policymakers will decide to expand and unw
asset purchases before concluding. The article does not ass
the impact of asset purchases so far. This is covered in poli
docum ents such as the
Inflation Report
and the m inutes o
MPC meetings, although the 'Markets and operations' artic
in this
Qua rterly Bulletin
provides some comm entary on r
market developments.
W hy is the MPC und ertaking asset purchase
The inflation target is symme tric. If inflation looks set to r
above target, then the MPC tightens monetary policy to slo
spending and reduce inflatio n. Similarly, if inflation looks s
to fa l l below2 ,the Bank loosens monetary policy to bo
spending and infla tion. Indeed, the MPC reduced Bank Rat
rapidly in response to the sharp tighten ing in credit con diti
and a globa l slump in confidence follo win g the collapse of
Lehman Brothers in September 20 08 . By March 200 9, Ban
Rate was at 0.5 .
Despite the substantial stimulus already in the pipeline fro
mon etary policy and other factors, such as fiscal policy and
sharp depreciation of sterling , the
MPC
judged at its Marc
me eting tha t a furthe r mo netary loosening was required. I
-
7/24/2019 845 Quantitative Easing
2/12
Research and analysis Quantitative easing
91
Nominal GDP(^
Percentage change on a year e arl ier
I98S 88 91 94 97
min al interest rates cannot generally be negative. If they
there w ould be an incentive to hold cash, which delivers
ero return, rather than deposit m oney.ni So w ith Bank Rate
e to zero, a further stimulus co uld no longer be provided
gh a redu ction in the policy rate.(^) Instead, it required
t King (2009 ) describes as 'unconve ntional m easures'.
Banks hold cen tral bank mone y in the fo rm of reserve
reserves at Bank Rate. Banks the n face the choice of
ves or lending the m o ut in the marke t, and so
interest rates are influenced by the level of Bank Rate.
s then feeds throu gh to a who le range of interest rates
ds and companies w hich in turn affects their
operations. In norm al
to the dem and from banks at the preva iling level of
te.(3) W hen con du cting asset purchases, the Bank is
ditiona l reserves,H) This does no t mean thou gh
t the Bank no longer has influence over ma rket interest
s. Market interest rates w ill continue to be affected both
the level of Bank Rate and, in ad dition, by the am oun t of
scussed further in the section on econ omic channels below ).
there are a num ber of ways of increasing the supply
oney in the econo my, and a wider range of
how comp anies and households obtain finance. The next
section looks at how q uan titative easing is expected to w ork in
the United Kingdom.
Ho w do asset purchases w ork?
Injecting money into the economy
The aim of qua ntitative easing is to inject money into th e
econom y in order to revive n omina l spending. The Bank is
doing tha t by purchasing financial assets fro m th e private
sector. Wh en it pays for those assets with new cen tral bank
money, in addition to boosting the am ount of central bank
mon ey held by banks, it is also likely to boost the am oun t of
deposits held by firms and households. This addition al mo ney
then works throu gh a number of channels, discussed later, to
increase spending .
The Bank of England is the sole supplier of central bank money
in sterling. As we ll as banknotes, central bank money takes the
form of reserve balances held by banks at the Bank of England.
These balances are used to make paym ents b etween differen t
banks. The Bank can create new money electronically by
increasing the balance on a reserve accou nt. So whe n the Bank
purchases an asset from a bank, for example, it simply credits
tha t bank's reserve account wit h the add itional funds. This
generates an expansion in the supply of c entral bank m oney.
Commercial banks hold deposits for their customers, which
can be used by households and companies to buy goods and
services or assets. These deposits form the bulk of what is
know n as 'broad m oney'. ) If the Bank of England purchases
an asset from a non-bank compan y, it pays for th e asset via the
seller's bank. It credits the reserve accoun t of the se ller's bank
w ith th e funds, and the bank credits the accoun t of the seller
w ith a deposit, A stylised illustration of this flow of funds is
shown in
Figure
1
This means that wh ile asset purchases from
banks increase the mo netary base (or 'narrow mo ney'),
purchases from non-banks increase the m oneta ry base and
broad money a t the same tim e. The expansion of broad
money is a key part of the transm ission mechanism for
qua ntitative easing. It should ultima tely lead to an increase in
asset prices and spending and therefore bring inflatio n back to
target.
(1) Yates (ZOOZ) notes that if the storage costs of holdin g cash were significant, tha t
could reduce the return below zero and so in principle interest rates could be slightly
negative.
(2) In the minutes of i ts March meetin g, the Com mittee highl ighted i ts concerns about
further reductions in Bank Rate: there might be adverse effects on bank and building
society profits and hence their future le nding capacity; and, a sustained period of very
low interest rates could imp air th e functionin g of money markets, creating di ff icul t ies
in the future, when interest rates needed to rise.
(3) For more details see heframework for the Bank of England s operations
-
7/24/2019 845 Quantitative Easing
3/12
Quarterly Bulletin 2 9 Q2
Asset purchases in othe r coun tries
The global nature of the economic slowdown has led
to
monetary policy being loosened around the world. Policy
rates are at very low levels and a num ber
of
cen tral banks have
moved towards asset purchases. A range of approaches has
been taken to easing monetary policy and improving
conditions in credit markets, in part reflecting the structure of
financial markets in different countries.
In the Un ited States, asset purchases have covered a range of
different types
of
assets, such as com m ercia l paper and
asset-backed securities. These purchases have either been
undertaken directly by the Federal Reserve or by providing
financing to financial companies to fa cilitate their purchase of
private sector assets. The Federal Reserve has also expanded
its purchases
of
USTreasuries, and begun to purchase debt
issued by hou sing-related go vernm ent sponsored enterprises.
Much of th e focus has been on interven ing in specific markets
to improve their functioning. However, the depth of capital
markets in the United States has meant that these operations
have resulted in a sizable expan sion
of
the monetary base,
Wh ile the European Central Bank s enhanced credit suppo
measures have mainly focused on providing support to ban
through its refinancing operations
it
has also announced t
wi ll begin purchases of covered bonds in the near future .
Since the start of this year, the Bank of
Japan
has introduce
outright purchases
of
private sector instrum ents such as
commercial paper and corporate bonds.
In March, the Swiss Na tiona l Bank announced th at
it
woul
purchase private sector assets and foreign currency to incr
liquidity and prevent a furthe r app reciation of the Swiss fra
against the euro.
The Bank of Canada published a repor t in April that set ou
how
it
m ight provide a further monetary stimulus
if
requir
with the policy rate at an effective lower bound. This inclu
purchasesofboth public and private sector assets, althoug
these tools have n ot been used so far.
Figure Flovi/ of funds for Bank of England asset
purchase from a non-bank company
Credit sel ler s bank s
reserve accountat
the BankolEngland
Bankot E n g l a n d
accQ.nt (deposi t )
Seller non-bank)
Assets purchased
In order to inject a large quan tity
of
money over a short period,
there needs to be a ready supply
of
assets to purchase.
The
bulk of the Bank s purchases to date have been in the gilt
marke t, where there is a large am oun t of assets w ith similar
characteristics, allowing large quantities to be purchased
quickly. How ever, the Bank is also purchasing private sector
assets such as com me rcial paper and c orporate bonds, albeit
in
smaller amo unts. The aim of these purchases is to improve
conditions in corporate credit markets by being a ready buyer
for such instrum ents. This should make
it
easier and cheaper
for com panies to access credit. The focus of these operations
number of different channels through whichitcan bo ost
spending. The box on pages 94- 95 sets out m ore details o
the operational framework for conducting purchases
of
the
different assets. As the box notes, the Bank had begun
to
purchase private sector assets before the MPC decided
to
undertake quantitative easing. This was to improve condit
in corpora te debt ma rkets. However, those purchases wer
funded by the issuance of Treasury bills, rather th an centra
bank money, and so did n ot increase the m oney supply.
Purchases
of
commercial paper and corporate bonds do no
need to be financed by central bank money to influence
conditions in those m arkets, but since quantitative easing
began they have been financed by centra l bank reserves an
contributed to the injection
of
money.
Economic channels
Injecting money into the economy, in return for other asse
increases the liquidity of private sector balance sheets. Th
the fundam ental mechanism through which such a monet
expansion influences spending and hence inflat ion. Money
highly liquid because
it
can easily be used to buy goods an
services or other assets. The increase in private sector liqu
wi ll depend on the liq uidity of the assets tha t are being
exchanged for m oney. There are a number o f channels
through which greater liquidity can have an impact. Three
channels are set out below. The transmission m echanism
-
7/24/2019 845 Quantitative Easing
4/12
Research and analysis Qu ant itativ e easing
Styl ised transmiss ion mechanism for asset purchases
Money in
the economy
t
B inli
lending
yields, reducing the cost of bo rrowing for households and
companies leading to higher consumption and investment
spending. Cheaper and easier access to w ork ing ca pital for
companies should also help them to maintain o utpu t,
improving the prospects for employment and hence
consumer spending. Furthermore, higher asset prices
increase the we alth of asset holders, which should boost
their spen ding. The Bank s asset purchases influence asset
prices in a number of ways.
Wh en a financial comp any sells an asset to th e Bank, its
money holdings increase (ie it has additional deposits). If
the company does not regard this extra money to be a
perfect su bstitute for the assets it has
sold,
this would imply
tha t it is now h olding excess money balances. In order t o
rebalance the po rtfolio back to its desired comp osition, the
company may use the money t o purchase other assets.
However, that just shifts the excess balances to the seller of
those assets so that they look to purchase other assets as
well.
This process should bid up asset prices, in princip le to
the point where , in aggregate, the value of the o verall asset
po rtfolio has risen sufficiently to bring the share of money
relative to all assets to its desired level. This is sometimes
known as the portfolio balance effect.
More g enera lly, as prices rise for the assets purchased by the
Bank, their yield w ill fall relative to those on o ther assets.
Households and companies may be encouraged to switch
into othe r types of asset in search of a higher return . That
would push up on other asset prices as well. Moreove r, by
injecting more money into the economy, the Bank is making
liquidity cheaper and easier to ob tain. That should m ake
households and companies more will ing to hold other
illiquid assets on their balance sheets.
The Bank s purchases of com me rcial paper and corporate
price.
That has made it difficult or costly for some
companies to raise finance in the c apital m arkets, as
investors demand an additional return (or liquidity
prem ium) to compensate them for tha t risk. By offering to
be a ready buyer for commercial paper and corporate
bonds, the Bank should make investors more confiden t t ha t
they can sell such assets if required, and hence lower the
yield required to hold the asset back to more normal
levels. More investors sho uld also be encourage d to
participate in the market, increasing the amount of financing
available.
Bank lending and quantity effects
As noted earlier, banks
end up with higher reserve balances held at the Bank of
England as the result of asset purchases. These injections of
reserves may make it easier for banks to finance a higher
level of liqu id assets. Banks gain b oth new reserves anda
corresponding new cu stome r deposit wh en assets are
purchased from non-banks. A higher level of liquid assets
could encourage them to extend more new loans than they
wo uld othe rwise have done. Banks need to keep a stock of
liquid assets in order to be able to meet paym ent demands
arising from custom ers or financial transactions. As tha t
stock increases, banks should also be mo re w ill ing t o hold a
higher stock of il l iquid assets in the form of loans as they
have the funds to cope with the potentially higher level of
payments activity, unless they are constrained by other
factors (see below). More bank lending to householdsand
connpanies should help to sup port higher consum ption and
investme nt. And , even if banks do n ot choose to expand
their lending to households and corporates, the extra
reserves may contrib ute t o a decline in the interest rate th at
banks pay to borrow from each other.(i)
-
7/24/2019 845 Quantitative Easing
5/12
Quarterly Bulletin 2009 Q2
Im plem enta tion o f asset purchases
Injections of money are implemented through the Asset
Purchase Facility (APF), The facility w as announ ced in January
(Table 1) and details were set out in a subsequent exchange of
letters between the G overnor of the Bank of England and the
Chancellor of the ExchequerH) TheAPFinitially began
purchases of private sector assets funded by the issuance of
Treasury bills. Its purpose at tha t tim e was focused solely on
improving the availability of credit to companies, by improving
the liqu idity in certain capital markets. However, once the
MPC decided tha t it wished to purchase assets financed by th e
creation o f c entra l bank reserves, the APF was then used for
mon etary policy purposes, and purchases of gilts were also
introduced.
Table Time line for asset purchases
Date Event
19 January Anno unce men t of Asset Purchase fac ility (APF) by Chancelior.
29 January Exchange of letters on details of APF.
13 February Launch of comm ercial paper facility
5 March MPC decision to use APF for mon etary policy purposes.
11 March FirstAPFpurchasesof gi l ts .
19 March Market notice for corpora te bond and Credit Guarantee Scheme facilit ies.
25 March First APF purchases of corpora te bonds.
The overall level of purchases is decided by the Monetary
Policy C om mittee , wit h the choice of assets to purchase
delegated to the Bank executive. The Bank is curre ntly
purchasing three d ifferent types of h igh-qu ality assets
through the APF: investment-grade commercial paper;
investment-grade corporate bonds; and UK government
bonds (g ilts). Oth er assets, such as paper issued under th e
Credit Guarantee Scheme, syndicated loans and certain types
of asset-backed securities are also included on the list of assets
that are eligible for purchase by the APF, and could be
considered in due course. Furth erm ore, the Bank can ask for
the C hancellor s app roval to add othe r assets to the eligible list
if it deems that appropriate.
Asset purchases are being con ducted t hro ugh a separate
wh olly-o wn ed subsidiary of the Bank of England, wi th an
indem nity provided by H M Treasury to cover any tosses tha t
migh t be incurred. The MPC is independent of the
Govern men t in ma king its decisions on the level of purchases.
Details of th e transactions are published throu gh the Bank s
statistical publications, operational announcements and a
quarterly report on the APF. The mechanisms through which
the purchases are currently being made are described below.(^)
previously acquired fro m issuers. A fixed spread to risk-fre
interest rates is charged, depend ing on the cred it ra ting of
paper. Marke t participan ts selling previou sly acquired pap
must pay an additiona l fee. To be eligible, com me rcial pap
should be of up to three mo nths m aturity, subject to minim
credit ratings (equ ivalent to inve stmen t grade) and issued
sterling by non-bank companies that make a material
contribu tion to economic activi ty in the United Kingdom.
The aim of this facility is to improve the liquid ity In the
com me rcial paper market by being a ready buyer of such
assets, making issuers and investors mo re con fident tha t th
can raise funds if necessary. This should encourage a retur
more normal market conditions and lower interest rates b
charged to hold such paper. The sterling non-bank comme
paper market is relatively sm all in the U nited Kingdom , at
around 6- 8 b i l l ion. As of2 May, theAPFheld around
Zy4 bill ion of commercial paper, about a third of the eligi
stock.
Co rpo rate bo nd fa cilit y. Reverse auctions are undertaken
three times a week to buy a wide range of sterling bonds fr
financial institution s tha t act as market makers for such bo
Participants subm it bids for the price (spread) at w hich the
are will in g to sell particular bonds, wi th th e cheapest bids
being accepted by the Bank up to a maxim um amo unt. Th
Bank privately sets a min imu m spread (equivalent t o a
ma ximu m price) at which it is prepared to purchase a bond
and so not a ll bonds w ill be boug ht at each auction, even i
bids are received for each bon d. Each auction is for a rela t
small amoun t of each bond (up to 5 m il l ion), but the
frequency of the auctions should make participants more
confide nt th at the y can sell bonds if necessary. T hat In tur
should reduce the interest rate they charge for holding the
The auctions also provide a regular source of info rma tion o
the pricing of individual bonds, helping to reduce uncertai
over their market value. The focus of these purchases is to
facilitate ma rket-m aking by banks and dealers and so remo
obstacles to corpora te access to ca pital m arkets.
The eligibility criteria for corp orate bonds are very similar
those for comm ercial paper. Bonds must be of inves tment
grade and issued in sterling by non-bank companies tha t m
a material contribution to econom ic activi ty in the
United Kingdom, The portfolio of corporate bonds held un
th e
APF
is likely to g row over time as more auctions are
he
As of
2
May, the
APF
held around 0.6 bill ion of corporate
bonds.
Gilt purchases. Conventional gilts in the maturity range o
-
7/24/2019 845 Quantitative Easing
6/12
Research and analysis Qu anti tat ive easing
9
their custom ers. And the auctions also allow
agree to sell their gilts at the
age successful price in the com petitive auction ,
aim of the g ilt purchase program me is to allow the MPC to
e scale. The nomin al value of the stock of
the m atu rity range covered by the auctions is curren tly
270 b ill ion. The purchases are not aimed at particular
in that range. As of2 May, the APF had
to th e Bank s other op erations. Before quantitative
began,
the Bank im plem ented the MPC s decisions on
k Rate throug h a system of volun tary reserves targets.
ks wo uld choose what level of reserves they w ished to hold
ir accounts at the Bank of England on average each
money in aggregate to m eet those targ ets. Each bank s
reserves were remune rated a t Bank Rate provided the y were
close to their target. The terms on which central bank m oney
was provided helped to ensure that short-term market interest
rates were in line w ith Bank Rate. But once the focus switched
to the quan tity of money supplied, with the MPC deciding to
inject additional money into the economy, those reserves
targets became redund ant and were suspended. Banks simply
earn Interest at Bank Rate on any reserves they hold. The
Bank s othe r open market o perations that supply and withd raw
central bank money have continued, so that the injection of
add itional reserves is broadly equal to th e a mo unt of assets
purchased under th e APF.
(1) These are available on the Bank s website a t
www. bankofengland.co.uk/monetarypol icy/asselpurchases.htm.
(2} Full details are set out in the Market Notices Issued by the Bank. These are available
at www.bankofengland.co.uk/markets/apf / index.htm. A box on pages
7O 7^
o f t h e
Markets and operat ions art ic le in this Quartery Bulletin also discusses the Bank s
purchases of private sector assets. The Credit Guarantee Scheme facility has not been
act ivated,
but the Bank stands ready to do so if market condit ions deteriorate. A
consultation paper was published on 3 June containing proposals for possible
extensions to the APF to cover a broader range of instruments that are used to f inance
working capital .
The add itional deposits created by bank lending wil l be
passed on to other households and companies as they are
spent.0) In an analogous way to the po rtfolio effect
discussed earlier, if their money balances are pushed above
the desired level, they may respond by bu ying more goods
and services. This will furthe r b oost n om inal spending and
should u ltima tely bid up the prices of goods and services
leading to higher inflation. Higher money balances may also
provide working ca pital for companies, making it easier for
them to maintain employment levels.
Expe ctations. Asset purchases could have an impo rtan t
impact on expectations. By dem onstra ting tha t the MPC
ill do whatever it takes to meet the inflation target,
xpectations of future inflation shouid remain anchored to
the target when there was a risk that they might otherwise
have fallen. Even w ith nom inal interest rates fixed at very
low levels, this wou ld imply th at real interest rates are kept
at a lower level, which should encourage greater spending.
Higher Inflation expectations could also influence
price-setting behaviour by firms, leading to a more direct
impact on infla tion. More generally, a perceived
improvement in the economic outlook is likely to boost
onfidence and make people more will ing to spend. The
rticle on public attitudes to inflation and interest rates in
his edit ion ofthe
Quarterly Bulletin
provides a discussion of
ecent developments in household inflation expectations.
effects of asset purchases. We then discuss a number of key
drivers of the strength of the economic channels set out above:
first, the response by sellers of assets to the add itional mone y
they receive (most relevant to the effect of purchases on asset
prices); second, the response of capita l ma rkets to purchases
of corporate debt;
third,
the response by banks to the
add itional reserve balances they hold (relevant t o the bank
lending and qua ntity effects); and finally the wider response of
households and companies.
Empirical evidence
Increases in money should eventually lead to a rise in prices.
There is a well-established long-run em pirical relationship
between broad money growth and inflation across a variety
of countries and m onetary regimes (see for example
Benati (2005) and King (200 2)). However, there is
considerable uncertainty about the pace with which injections
of money will feed through to prices.
Qu antita tive easing has been used on few occasions in the
past, so there is little em pirical evidence on which to draw.
One obvious intern ationa l example is the experience of japan
earlier this decade. Bernanke
et al
(2004) found some
evidence of an impact on long-term interest rates from
quantitative easing. However, Babaetal (2005) concluded
tha t the Bank of japan s com mit m en t to keep policy rates low
was more important for reducing long-term interest rates than
its use of quantitative easing. Asset purchases have also been
-
7/24/2019 845 Quantitative Easing
7/12
Quarterly Bulletin 2009 Q2
United States in the past. Bernanke (2002) highlighted th at
the Federal Reserve was successful in maintaining a ceiling on
long -term Treasury bond yields in the 1940s. However, studies
suggest tha t an attem pt in the Un ited States in the 1960sto
raise sho rt-term interest rates while lov^/ering lon g-term
interest rates, the so-called 'Op era tion T wist', v fas less
successful (thoug h this may have been due to the sma ll size of
the operation).
Recent announcements of asset purchases by central banks
provide further evidence that such purchases can influence
asset prices. Kohn (2009) highlighted th at the Federal
Reserve's announcementsofpurchasesofmortgage-backed
securities and Treasury bonds reduced mortgage and oth er
long -term rates in the Un ited States appreciably by some
estimates by as muc h as a percentage po int. And the Bank
of
England's announcem ent o n 5 March that the Bank wo uld be
purchasing 75 bill ion
of
assets finance d by cen tral bank
money also appearedtohave an impact on UK governm ent
bond yields. Gilt yields in theS to 25 year maturity range
eligible for purchase fell around 4 0 -9 0 basis points by the end
of the day fol lowing the announcement.
Evidence on th e impactofmoney injections on output and
infla tion is sparser. For the Japanese episode, Kimura e ta /
(2003) found the effect to be small but highly uncertain. It is
diff icult to know how importa nt qu anti tative easing was in the
case of apanwithout knowing how much worse the recession
wo uld have been with ou tit.
The remainder of this section looks at the factors that w ill
influence the strength of the econom ic channels set out above.
Response by se l le rsofassets
In order for the p ortf olio rebalancing effect to w ork, sellers of
assets needtopurchase other assets with th e m oney they
receive, there by bidd ing up asset prices. As gilts have m ade up
the bulk
of
purchases, an imp orta nt consideration is who
typically own gilts and what they are likely to do with the
money. Looking at the final seller of the gilts purchased by the
Bank could be misleading. For example, some financ ial
institutions may have bought gilts in anticipation
of
selling
them to the Bank. In that case,
it
is the origina l seller tha t
ends up w ith extra money as a result of th e asset purchase
programme. The distribution of gilt holdings before the
announcement of the Bank's asset purchases may therefore be
more informative. At the endoflast year, the bulk of gilt
holdings we re accounted for by UK insurance com panies and
pension funds, other UK non-bank finan cial institution s and
overseas investors (Chart 2).
Chart 2 Distribution of to ta l gilt holdings as at the
endof2008W
oth er Ul i
-
7/24/2019 845 Quantitative Easing
8/12
Research and analysis Quanti tat ive easing
asset returns. This is illustrate d in Figure 3. Money provides
rtunity cost because the return on holding money is
tower than on other assets. So the demand for
ey should rise as the yields on other assets fall (shown by
DQ ).
An increase in the
ty of money (from S to 5-i) witt only be wittingty hetd if
V i to Y Q .
ure 3 Changes in m oney demand and money supply
on assets r r
Money holdings
Asset purchases
i l l also be affected by other factors, such as
in the economy (given the need for money t o cond uct
). As asset prices rise, nom inal spending should
D Qto D i). That wi ll reduce the change in asset prices
g
to Y * .
ds (the slope of the demand curve) and the elasticity wit h
urve). One risk is tha t at low levels of yields the
high,
sellers are prepared to accept a higher p ropo rtion of
negate it altogether.l ) If tha t is the case, the injection
finance in corporate debt markets. However, their impact w ill
depend in part on wh at has driven the increase in the spread
between yields on corporate and government bonds over the
past tw o
years.
An illustrative decompo sition of the spread on
investment grade corporate bonds in the February 2009
Inflation Reportsuggested that the pickup had been driven by
both increased compensation for illiquidity and increased
com pensa tion for de fault losses. The Bank s facility is targeted
at reducing illiquidity premia, although credit risk premia may
be influenced indirectly through the general increase in
collateral values and nominal spending that arises through
money-financed asset purchases.
The impact on the availability of credit to companies wil l also
depend on the willingness of investors to expand the finance
they provide in corporate debt markets. D ue to the financial
risk invo lved, the Bank s purchases are focused on high -qua lity
debt, but they could still make it easier for companies with
lower-quality debt to raise finance if greater use of the
capital markets by investment-grade companies leaves banks
with more capacity to lend to non-investment grade
companies.
The Bank s commercial paper and corporate bond facilities
need not require large quantities of assets to be purchased by
the Bank In order to be effective, and so their success should
not be measured by the quantity of purchases. The aim is to
be a ready buyer if needed, so even if actu al purchases are
relatively small, the knowledge the Bank stands ready to
purchase assets should give confidence to investors to hod
such assets.
Response by banks to additional reserves
The impact of the additional reserves on banks overall
liquidity positions will depend on how the other com ponents
of banks balance sheets change. If banks holdings of gilts fall
(as wou ld be the case if gilts are purchased fro m the banks)
then banks overall holdings of liquid assets will be relatively
tittle changed, but if gilts are bought from non-banks, the
stock of liquid assets held by banks should increase relatively
more.The extent to which any improvement in the liquidity of
banks balance sheets wil l encourage them to increase their
lending will be driven by a number of considerations, including
whether they have sufficient capital to support such an
expansion of their balance sheet, whether they have access to
funding for the loans, and whether there is demand for the
loans in the first place.
Given the financ ial stresses tha t banks are curren tly facing, this
channel may be impaired, at least in the near term. However,
-
7/24/2019 845 Quantitative Easing
9/12
Quarterly Bulletin 2009 Q2
lending.
These have included capital injections, guarantees on
debt issued by banks to o btain fund ing, and insurance against
losses on some assets held by banks. As the impa ct of the se
measures feed through, they should interact with the
additional liquidity provided by the Bank of England's asset
purchases to make the effect of higher reserves on lending (the
bank lending channel) more powerful.
One nneasure th at is som etime s used to analyse the c reatio n
of broad money through lending by commercial banks is the
'money multipl ier'the ratio of broad money to central bank
money. Given tha t the level of broad money is many times
larger than that of central bank money, this might suggest that
a small injection of reserves could have a substantial impac t on
broad money. However, this is not a direct causal relationship.
The level of broad m oney reflects all the factors discussed
above. In current con ditions, the m arginal impact on broad
money of
change in reserves is likely to be much smaller than
implied by the current ratio. And indeed, the mone y m ultiplier
has fallen sharply since the onset of the financial crisis in the
middle of 2007.
Even if banks do not increase lending at a ll, broad m oney w ill
still rise to the extent that the Bank's asset purchases create
deposits by buying from non-banks. The asset purchases
should therefore boost broad m oney regardless of the
response of the banks, but th e im pact could be mu ch larger if
banks increase lending as
well .
ide r response of households and companies
The overall impa ct o f asset purchases on spending will also
depend on how households and companies respond to
changes in their money holdings and asset prices. The impact
of higher money holdings will depend, for example, on the
extent to which households and companies choose to pay
dow n deb t or increase spending.
Companies facing a lower cost of borrowing,
as
yields
fall,
are
likely to spend more on investment projects, for example, but
the impact will also depend on the expected demand for their
products. The extent to which the policy stimulus contributes
to an improve me nt in confidence is therefore likely to be
important.
The impact on ho usehold spending of an increase in asset
prices wilt depend in part on whether it is perceived to be
persisten t. If househo lds expect asset prices to rem ain higher,
the im pact on spending is likely to be stronger. Alterna tively,
additional wealth may be used to provide a precautionary
buffer against futu re income shocks, and so have a more
limited impact on current spending. Some wealth will be tied
Asset purchases and the m one tary policy
process
At its March me eting, the MPC decided to purchase 75 b
of assets over the following three months. At its May mee
the Committee decided to purchase an additional 50 bill
of assets. This will leave the level of reserves held by banks
the Bank of England more than four times higher than it w
prior to th e asset purchases. The injection of central bank
money wil l be equivalent to around 8 of broad money (o
83/4
of annual GDP).(1)
As discussed in the minu tes of th e MPC's M arch m eeting, t
full impact of this stimulus is likely to take some time to c
through. There is also a considerable lag between Bank Ra
changes and their fina l effect on nom inal spending.
Ultimately, asset purchases will have been successful if the
have helped the Committee return inflation back to target
the m edium term . In practice, thoug h, i t w i l l be diff icult t o
assess the marginal impact of those purchases given the w
range of other policy measures and economic developmen
tha t w ill be affecting the econonny. Nevertheless, a range
indicators are likely to be useful in assessing the effects of
Bank's asset purchases at differ en t stages. Early ind icator s
include developme nts in financ ial markets and assets price
The 'Markets and operations' article in this
Quarterly Bulle
provides some comm entary on recent market developmen
Over time, the impact on bank lending and broad money
should become clearer, with the effects finally feeding thro
to nominal spending and inflation. MP judgements on th
impact of asset purchases and the outlook for the econom
wil l continue to be set out in the m inutes of i ts mo nthly
meetings and in quarterly/n//at/on Reports.
Exit strategy
As the economy recovers, the m edium -term outlook for
inflation wil l improve. As in normal t imes, the Com mittee
be guided by the me dium-te rm o utlook for inflation relati
the inflation target. Given that the Inflation target is
sym me tric, if inflatio n looks set to rise above the 2 targe
then the Committee wil l want to t ighten monetary pol icy
stow spending and reduce inflatio n.
Mo netary policy could be tighten ed in a number of ways.
could involve some combination of increases in Bank Rate
sales of assets in order to reduce the supply of money in th
economy. Alternatively, the supply of reserves could be
reduced with ou t asset sales, thro ugh t he issuance of
-
7/24/2019 845 Quantitative Easing
10/12
Research and analysis Qu ant itativ e easing
appropriate way to w ithdraw the policy stimulus based
circumstances prevailing at the tim e.
k m oney, or quan titative easing , shifted the focus towards
ntity of money as we ll as the price of money. Injecting
into the economy should boost spending, helping
to target in the m edium term .
households and companies use the new money to buy goods
and services or other assets, the more i t wi ll raise spending. If
banks use the a dditio nal reserves to expand the ir lending, the
impact could be even stronger,
It is too soon to say how powerful the stimulus will ultimately
be.
There is considerable uncertainty about the strength and
tim ing of the effects. Standard economic models are of
limited use in these unusual circumstances, and the empirical
evidence is extremely lim ited. However, the monetary policy
framework wi ll ensure that the appropriate measures are taken
over time so that the inflation target is met in the m edium
term.
-
7/24/2019 845 Quantitative Easing
11/12
100
Quarterly Bulletin 2009 Q2
References
Baba, N, Nishioka, S, Oda, N, Shirakawa, M, Ueda,K and Ugai,H
2005) , Japan s deflation, problems in the financial system and
monetary policy , IS Working Paperno. 188.
Benati,
L
2005) , lon g-r un evidence on money growthand inflation ,
Bank ofEnglandQuarterly Bulletin, Autumr: pages 34 9-5 5.
Bernanke,
S
2002) , Deflatio n: making sure it doesn t happen
here ,
remarks deiivered at the National Economists Club,
DC,
November.
Bernanke,
S, Reinhart, V
R
and Sack,
P 2004 ) , Monetary pol icy
alternative s at the zero boun d: an emp irical assessment ,Brookings
Paperson Economic Activity Issue 2, pages 1-78.
Kimura,
T
Kobayashi, H, Muran aga,
J
and Ugai, H 200 3), The
effect of the increase in the mon etary base on Japan s econom y a t
zero interest rates: an empiric al analysis , in IS Papersno. 19
Monetary policy in a changing env ironment .
King,
M A 2002) , No m oney, no inflation the role of money i
the econom y .
Bank of England Quarterly Bulletin.
Summer,
pages 162-77.
King,M A 2009),The Governor s speech to the CBI dinner,
Nottin gham , January.
Kohn,
D
L
2009 ) , Mone tary policy in the financial crisis , speech
delivered at the conference in honour of Dev^iey Daane, April.
Yates, A 20 02 ), Mone tary policy and the zero bound to interest
rates: a review .ECB Working Paperno. 190.
Yates, A 20 03 ), Monetary policy and the zero bound to nomina
interest rates ,Bank of England Quarterly Bulletin, Spring,
pages 27-37.
-
7/24/2019 845 Quantitative Easing
12/12
top related