As most of you know, the economy hasn’t been in the best shape over the past few years, even though it is finally starting to pick up and fix itself. And it’s just not the United States that has been having issues; it’s a worldwide thing. There are countries that are struggling and one of the methods that many central banks (including our own) have been using is called quantitative easing. Today, we’re going to talk a bit about the thoughts and practices behind quantitative easing.
What is quantitative easing?
Basically, it’s a form of economic stimulus that the central bank of a country utilizes so that banks are able to continue functioning. Central banks credit themselves by making more money and purchasing assets (bonds, stocks, etc) from financial institutions.
Why is it necessary?
One of the most important ways that banks make revenue is through interest rates. If they don’t collect interest on the loans that they provide, they don’t only lose revenue, but they are also able to generate more funds to distribute in the form of loans. If the interest rates on loans fall dangerously close to zero (or are at zero), these abilities (to generate revenue and to distribute loans) are eliminated, thus hurting the economy more and more until the market eventually crashes. Interest levels falling lower is supposed to generate more borrowing, but sometimes (especially in a bad economy where the issues are caused by consumers using too much credit, much like ours) that doesn’t happen. The stocks and bonds that were being purchased by the central bank now give the individual financial institutions some more leeway so that they are able to offer different interest rates. The interest rates can stay low, and encourage people to actually borrow.
What exactly is it supposed to do?
With quantitative easing, central banks “print money” (they really don’t, it’s just like a credit… they’re just crediting themselves. Yes, it adds to national debt) in order to buy stocks and bonds from financial institutions. This purchasing allows the banks to be able to loan out more money, generate more revenue and also help boost the economy by increasing spending and borrowing. It can be helpful if it’s trying to “jump start” the economy, but in other cases, it may end up causing more issues for everyone that is involved in the processes.
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