15- Fed Financial Crisis & Covid -19

a form of unconventional monetary policy where the central bank purchases longer term securities from the open market (expansionary policy) in order to:
1) increase the money supply (buying securities adds new money to economy, lowers interest rates by bidding up fixed-income securities)
2) encourage lending and investment
- consequence is that it expands the central banks balance sheet, exposing it to greater risk

during a crisis where open market operations have failed
- the idea is to boost economic activitiy by introducing money into the system, lowering the yield, and ease out specific markets by reducing the risk spread

- open market operating no longer effective
- quantitative easing is used veacuse the central banks have fewer tools to influence economic growth

by purchasing assets with newly created bank reserves to provide banks with more liquidity

- central bank increases money supply by buying government bonds and other securities
- increasing the supply of money lowers the cost of money
- lower cost of money = lower interest rates so banks can lend with easier terms

if quantitative easing looses effectiveness, fiscal policy can be used to expand money supply

1. inflation and stagflation
2. currency devaluation
3. potentially ineffective

if the central banks increase money supply
- the worse possible scenario is QE may cause inflation without intended economic growth

qe can devalue the domestic currency, which can help manufacture because goods are cheaper in the global market (which may stimulate growth) a falling currency value makes imports more expensive
- can increase cost of production and consumer price levels

central banks can not force banks in their country to increase lending activities or force borrowers to seek loans and invest
- the money supply created needs to make its way through the banks into the economy or qe is not effective

Banks were taking excessive risks and the housing bubble in the US burst so values of securities linked to US real estate fell and damanged FI globally
- the housing bubble caused subprime mortgage crisis due to high default rate and resulted in foreclosures of mortgage loans

it ran a quantitative easing program by increasing money supply
- increased asset side of federal reserves balance sheet by buying bonds, mortgages and other assets (so liabilities also grew, mostly in US banks)
- goal was for banks to lend and invest to stimaulate the economy

banks held onto the money as excess reserves
- unexpected result of quantitative easing