Quantitative Easing (QE): A Comprehensive Explanation

During normal financial times, the primary function of a country’s central bank is to keep the economy growing at a steady rate by setting interest rates at a low enough level so that money is cheap enough for everyone to borrow. So if an economy is stagnant, the central bank will attempt to get money flowing through the works by dropping interest rates. But what options remain if interest rates are dropped to zero but the economy still fails to show any signs of life? QE happens. Like the Walkman and the lesser-known but arguably just as brilliant umbrella tie, QE is a Japanese invention, one that actually did a fairly effective job of reinvigorating the moribund Japanese economy when the Bank of Japan undertook it in 2001. When the US faced an equally dire situation during the global financial crisis, the Federal Reserve embarked on a similar QE policy beginning in 2009. The UK soon followed suit.

How’s QE work? If you’re a QE superfan who tailgates at every Fed meeting, or even the chair of your country’s central bank, you’ll probably want to dig a bit deeper into QE mechanics, but basically, a central bank will flood commercial banks with cash by buying bonds or financial instruments like mortgage backed securities using money that it creates with the stroke of a pen. With all that new cash, the central banks hope that those commercial banks will in turn provide loans to various cogs in the economy, from mortgage seekers all the way up to huge corporations hoping to expand their operations. Though economists might bicker about how much QE benefited various economies, the fact that the global economy roared back to life in recent years suggests that it will become a regular weapon in central banks’ arsenals to combat the worst financial crises.