What are Quantitative Easing and Quantitative Tightening?


I’ve been hearing these terms but don’t really understand what they mean, when and why are they used by the government and how exactly they affect prices and general standard of living.

In: 45

The value of a dollar today is set primarily by inflation rates and interest rates. Basically with high interest rates and/or inflation rates money is worth less today than it would be tomorrow. If you think of “quantitative” as “access to money”, then easing means it becomes easier to get loans and tightening means it’s harder.

When interest rates are high, people and businesses want to save money because they get a good return, when they’re low you want to spend money because you can borrow from someone else very cheaply. “Easing” is when the government (who controls all currency) drops interest rates so that borrowing money is really cheap, usually done to stimulate spending (aka the economy). Tightening is the opposite and is used to fight inflation by encouraging people to save money.

Some of why inflation is high today is due to 1) a 10 years period of having easy access to money combined with 2) rampant speculation in markets that led to corporations and individuals taking their cheap money then “investing” it vs spending it. That increases the on-paper supply of money which drives up prices of those actually selling goods. Remember, just because Tesla at one point was worth more than Microsoft on paper, doesn’t mean that Tesla today produces more value in goods and services than them.

Quantative easing:

The govt sell bonds. You can imagine them like a savings account at the bank of england. Someone gives pounds to the UK govt on the agreement that after a set period of time the govt will give the money back plus interest.

I say “someone” – its sometimes a person. Most often its pension funds, insurance companies, banks etc.

With quantatitive easing, the govt buys back the bonds early in order to change savings into liquid assets. Basically the govt (BoE) transfer money from a savings account to a current account.

The joke on all of us is the bit where the govt tell us they bailed out the banks by giving them back their own assets.

Basically QE is a con.

Pretty simple. In QE the Fed buys bonds (and mortgage backed securities) from the market. This increased demand for bonds increases the price of bonds thereby decreasing their yields. This makes bonds less attractive to investors so they put money in stocks increasing stock prices. Increased stock prices cause people to be more likely to spend money. QT is just the exact opposite.

The usual way of controlling the money supply by the central bank is through interest rates. Sometimes that is not a good idea, so one of the way they do it is quantitative easing. This injects new money directly into the economy by having the central bank buy bonds and other assets with newly created money. This prevents deflation.

The Fed controls interest rates and inflation normally though open market operations. This is just buying and selling of short-term Treasuries. When the Fed buys Treasuries, it’s injecting new money into the system into the banks that sold those Treasuries. Those banks now have more money to lend to others, reducing interest rates with an intent to increase inflation. When the Fed sells Treasuries, it absorbs money from the banks it sold Treasuries to and takes it out of circulation. The banks have less money to lend, interest rates goes up, with the intent to reduce inflation.

Quantitative easing is a more expanded version of the Fed’s open market operations. However, instead of only buying short-term Treasuries to influence interest rates and increase the money supply, the Fed buys long-term Treasuries, mortgage-backed securities, corporate bonds, and sometimes (in the case of Japan) equities.

This is why you ask questions on r/AskEconomics instead of subs like this. You get simple answers here, but they’re only about 75% right.

To increase economic activity and fight a recession, the Fed usually lowers interest rates (lower interest rates mean it’s cheaper to borrow money that you can then spend, increasing economic activity). The 2008 financial crisis was so bad that the Fed lowered its rate [all the way to zero for the first time](https://fred.stlouisfed.org/series/FEDFUNDS). You technically can go lower than zero by having a [negative interest rate](https://www.ecb.europa.eu/ecb/educational/explainers/tell-me-more/html/why-negative-interest-rate.en.html), but the Fed didn’t do that. Instead, it used quantitative easing (QE).

In ELI5 terms, QE is the Fed buying assets like bonds to push interest rates down more. Buying bonds increases their price, which lowers their yield (interest rate). Quantitative tightening (QT) is the opposite. The Fed isn’t buying new bonds and is letting the ones it owns mature, decreasing bond prices and raising yields.

Like I said, lowering rates (and by extension QE) is meant to increase economic activity. Raising rates (and by extension QT) is trying to do the opposite: slow down economic activity to combat inflation.

A few misconceptions from the other comments that need correcting. QE isn’t about “increasing stock prices.” That is a side effect, QE is about increasing borrowing. And the Federal Reserve’s Board of Governors **is** “[an agency of the federal government that reports to and is directly accountable to Congress](https://www.federalreserve.gov/aboutthefed/files/the-fed-explained.pdf#page=10),” they’re appointed by the President, etc. The individual Reserve Banks themselves (e.g. the Atlanta Fed) aren’t part of the government, but they’re overseen by the Board of Governors (which, again, is a federal agency).

I don’t think 5 year olds should be anywhere near fiscal policy, but quantitative easing and tightening are a result of 5 year old thinking.

So here goes:

The whole economy doesn’t work like your personal bank account does. People, businesses and governments actually buy and sell many times more than they actually have in their bank accounts or under their matresses.

They do this by selling and buying promises for money or something that can be turned into money at some point in the future.

How much someone should pay for a promise of $100 a year from now really depends on how difficult we collectively think it’s going to be to find/earn $100 in the next year. It might be worth $105 today to be guaranteed $100 next year.

Some of these promises are bought with actual cash money, but most of them are bought by trading other promises. So it’s possible to play a game of hot potato buying and selling promises, but whoever gets stuck with the promise for $100 on the day it’s due has to actually cough up $100 to whoever happens to be holding that piece of paper on that day.

How much we collectively think a promise of cash in the future is worth depends on how easy or hard we think it is to find that cash some other way. The way that banks and governments see that is by looking at how many of all the government promises out there (Treasury bills) get paid with cash vs. other promises. The government is always selling more promises for cash in the future than it receives cash from taxes. (You can’t pay your taxes with promises, the IRS only accepts US dollars).

This is where quantitative easing and tightening comes in. If the government increases the amount of promises it sells, then it’s easier to borrow money, and we collectively do more of that and use it to buy stuff, but the actual value of that money is less. This is called quantitative easing. The government is basically creating more money out of thin air by selling promises, and that makes people buy

The $100 that you borrowed buys a whole cart of groceries today, but when you pay it back it only buys 98% of what it did, even though it’s still $100.

If the Fed starts buying back promises that the government made (Treasury bills), then they won’t have to pay out that money when they come due and there are fewer of them around for other people to buy. This is called quantitative tightening. The government is reducing how much money will be around in the future, and this makes it more expensive to buy promises, which means that people borrow less and buy less. It also makes prices go up because if you are borrowing money to buy inventory before selling it, the cost of borrowing gets reflected in prices.

The government issues currency. The government regulates the banking system. The government loans money at a set rate called the deposit rate. This is the most important type of quantitative whatever. They try to spread debt across time, kind of like a car payment, but for the whole economy. Of course, if you stimulate too much demand, by making tons of low interest loans, then the price of everything goes up (i.e. inflation now). The government uses buying and selling in addition to loans to create demand and affect prices in the economy, to make recessions easier to handle.