Quantitative Easing

I've been thoroughly confused over the last week or so - ever since the newspapers got hold of the story that Alistair Darling had "ruled out" printing money.  For example, The Telegraph:

"We are looking at a range of measures to support the economy, to support business and to help people. But nobody is talking about printing money."

Either the entire public debate is wrong, or I misunderstand monetary policy.

This has been the first time I've heard of "quantitative easing" (QE), which has been defined thus:

Under quantitative easing, the [Central Bank] conducts open market operations [OMO] aimed at increasing the money supply and reducing long-term interest rates.

So all this talk (across every media platform and indeed coming straight from the mouths of senior politicians on all sides) implies that either (i) QE is different to OMO; or (ii) OMO have not been used so far. But this is incorrect.
As Chris Dillow helpfully tells me - the main difference between OMO and QE are the types of assets that the Central Bank buys (see also The Telegraph). According to Ben Bernanke, the Central Bank has ability to conduct OMO over the liability side of the balance sheet, but politicians have the power to intervene to conduct QE on the asset side (Willem Buiter seems to disagree). But the bottom line is that QE isn't a different policy tool, it's an alternative way of using current policy. Whereas OMO means targeting a particular interest rate (and altering the money supply to hit it) QE means targeting a particular quantity of money (and ignoring the interest rate).

But the bottom line is that the Central Bank has already been printing money. That's what they do. Again, thanks to Chris Dillow for pointing out Willem Buiter in the FT:

The UK Chancellor, Alistair Darling, has been busy repudiating the notion that the British government was planning to ‘print money’ to prevent deflation and stimulate the economy.  He was reported in the  Financial Times (January 9th, 2009) as saying :“Nobody is talking about printing money. There’s a debate to be had about what you do to support the economy as interest rates approach zero, as they are in the US.  But for us that is an entirely hypothetical debate”.

This statement of the Chancellor either represents a major manifestation of profound ignorance about what central banks do and how monetary policy is conducted, or a deliberate denial of an obvious fact, perhaps because the words “printing money” have unfortunate Weimar or Zimbabwe connotations.  Yet ‘printing money’  - that is, creating base money, either through the issuance of currency or by increasing the stock of commercial bank reserves held with the central bank -  is what central banks do in a fiat money world. They do this not just in Zimbabwe, but also in the US, in the Eurozone and in the UK.

The growth rate of the notes and coins in circulation has been rising at above 5% over the last few years, almost hitting 12% in December. The printing press is switched on:

Buiter, again:

Any central banker who argues, as some do, that “we set the overnight rate on reserves and we simply accommodate the demand for reserves at that (official policy) rate; therefore, until the official policy rate hits the zero floor there is no quantitative easing as a separate policy instrument” is delirious.  This is because the demand for reserves depends not just on the official policy rate, but also on other interest rates and spreads (on public and private assets of different maturitities), some of which can be influenced by the central bank even when the official policy rate is kept constant.  This is especially true during times when financial markets are illiquid and disorderly.

There seems to be a chasm between how monetary policy is conducted and the way it is reported.

Comments

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