Monthly Archives: November 2010

Turn on your computer or television to any financial source these days and you see or hear talk of QE2.  Yet the chatter is not of a luxury liner poised to cross the Atlantic.  Rather, QE2 refers to the Fed’s second round of “quantitative easing”.

“Quantitative Easing” refers to a monetary policy implemented by the Federal Reserve.  The goal is to stimulate economic growth through additional lending by banks.  The economy is still growing at a sluggish pace.  People are still worried about their futures; new jobs are still scarce.  Enter Uncle Sam.

When the government wants the economy to grow faster, it has several options.  It can pay people to do things like build roads.  We’ve already done that last year with a big stimulus policy.  In an election year, it’s unlikely we’ll try going down that “road” again (no pun intended).

The Federal Reserve can also lower interest rates. That makes it cheaper to borrow money, so hopefully people go out and borrow more so they can spend more.  We’ve already done that, too.  The Fed can’t lower rates below zero, and people are not as excited as they used to be about borrowing money these days.  Even when they want to, increased pressure from regulators on banks has made it much harder for banks to lend.  (See the irony here?)

In ordinary times, those are the two methods our government uses to get the economy moving.  But these are not normal times, so bring in “quantitative easing”.  The Fed starts by “creating” or “printing” money – a trick that the rest of us don’t have when times are hard.  The Fed then uses that new currency to purchase securities like corporate bonds, government bonds and mortgaged-backed securities from banks, insurance companies and other financial institutions.  The additional liquidity provided to banks from the security purchases raises their reserves and, hopefully, encourages more lending – thus getting the economy back on track.

Quantitative easing is considered a last ditch effort to stimulate the economy and is used during periods of low inflation or deflation and when interest rates are already as low as they can practically go. Japan tried this a decade or so ago, and we borrowed the idea in 2008.  Though highly controversial, the Fed is considering a second round of easing which most investors and economists expect after their next meeting on November 2 and 3, thus the talk of “QE2”.

We do expect the Fed to restart security purchases between November of this year and January of next.  We do not expect the Fed to raise interest rates in 2011, and continue to see a period of low inflation this year.   –Stacey Wall
Photo Credit: Seabamirum