Is Quantitative Easing Beneficial Is Quantitative Easing Beneficial To Global Economy ? To Global Economy ?

PRESENTED BY:

VEENA MOHANDAS

(Test Engineer -- BNP PARIBAS)

What is Quantitative Easing ?What is Quantitative Easing ?Unconventional monetary policy used by some central banks to stimulate their economy. The central bank creates money which it uses to buy government bonds and other financial assets, in order to increase the money supply and the excess reserves of the banking system

How does QE work?How does QE work?

The term quantitative easing (QE) describes a form of monetary policy used by central banks to increase the supply of money in an economy when the central bank interest either at, or close to, zero.

Fed supplies money to banks

Banks supplies specified bond instruments

In QE US Fed would buy the designated bonds from the US banks in exchange for cash US Dollars

Fed supplies money to banks

Banks supplies designated bond instruments

Banks lend the funds to consumers and business

QE is intended to improve the flow of credit in the economy by flushing the banking system with funds

Effect on US DollarEffect on US Dollar

Excessive $ in the economy

Flight of $ in the emerging market

Devaluation of $

Purchase of Treasury Bonds

Leads to Inflation

For better returns Interest rate hike in India to check inflation, it becomes favourite spot for hot money

$ is devaluated against Other Currencies

With a higher interest rate leading to overall flat liquidity in the market

Impact on Trade DeficitImpact on Trade Deficit

2007-2010 (US Crisis)2007-2010 (US Crisis)The financial position of US was set to weakenMacro economic indicators were still weakDollar index reached the lowest point in Q4 2010Diversification out of the DollarThreat from the Chinese Economy

(Cont....)(Cont....)Rush to dump the US Dollar and to accumulate

gold and other more stable currenciesChina had started BILATERAL TRADE in

Yuan with a number of Asian and African Countries

OPEC shifted to more stable currencies

Effect On CommoditiesEffect On Commodities Commodities are $ denominated thus along with the $ the commodity prices

are likely to become cheaper in currencies that revalue them

This is likely to make countries like CHINA hoard metal like copper to boost future growth thus increasing its demand. This would lead to SPECULATIVE BUYING OF COMMODITIES

Furthermore, with LOW INTEREST RATES and high inflation people like to hedge with commodities. This would lead to HIGHER COMMODITIES PRICES

Low interest rates make bank deposits useless specially if the inflation is higher than the rate

Effect on GoldEffect on GoldGold is a HEDGE

AGAINST INFLATION and uncertainty

With Low Interest Rates; slow and uncertain recovery of the global economy of US, the GOLD PRICES ARE LIKELY TO HOLD STRONG.

Uncertainty of USD has prompted countries to SHIFT RESERVES TO GOLD

All major economies are shifting to Gold

(Cont...)(Cont...)All major economies are shifting to GoldCountries are diversifying the forex reservesUS holds highest volume of Gold in the worldChina gold holdings also surged to a great level

and now is the fifth largest Gold holder in the world

Effect on Oil prices and its impact on Effect on Oil prices and its impact on both emerging and developed marketsboth emerging and developed markets

Uncertainty of USD will raise the Oil PricesRise in crude prices has an INFLATIONARY

EFFECTTherefore, it will slow down growth in the emerging

markets

Impact on emerging market Impact on emerging market currencies and on its economycurrencies and on its economy Flight of USD to emerging markets has led to the appreciation of

the Local currency. This has ramifications on the exports of the country and overall BOP

Countries are artificially devaluing their currency to pep up exports. US has lately asked to China to revalue to its currency as they were in a disadvantageous position and threatened to retaliate

Understanding International DebtUnderstanding International DebtDue to quantitative easing, USD and other major

currencies are devalued

As a result repayment of debt becomes expensive

Effect On BondsEffect On BondsExcessive DemandDemand of Treasury

Bills likely to go upGo long as prices are

expected to increase

QE Impact on QE Impact on European UnionEuropean Union

QE will induce excess USD into the US economy

This will lead to the Devaluation of USD against other currencies

This is not favourable for exports by EU to US, thus will have a negative effect on EU

Impact On Chinese EconomyImpact On Chinese EconomyChina artificially

maintains a devalued Yuan

There is a limit to the amount of USD which a central bank can hoard

Excessive Yuan in the market will lead to inflation

Thus, it is inevitable that China revalues

Reserves Of ChinaReserves Of China Due to artificial revaluation large assets have been built up in China It is estimated that about 70% of China’s foreign exchange reserves

are invested in dollar assets A stronger Yuan would attract “Cross-Border Arbitrage “ funds

because of the country’s relatively higher interest rates

(Cont..)(Cont..)Proceeds from exports

would also rise as global recovery generated demand for Chinese goods

With FDI expected to increase steadily, China will be facing greater pressures from the rising amount of foreign exchange inflows.

Any sudden revaluation will prompt rapid sale and may cause a Bubble effect

(Cont..)(Cont..)Gold purchases could help China reduce the risk of

holding large volumes of US dollar assets as a major part of its foreign exchange reserves

Purchases could push up gold prices sharply. Also, the average long-term returns on investment in gold are low.

If China purchases gold on the international market price will surge which would in turn affect Domestic Individual Consumers