Quantitative easing: too much of a good thing

When the developed world’s central banks resorted to quantitative easing (QE) after the 2008 global financial crisis, most of us were shocked. While QE was not entirely new, the idea of central banks printing money at scale to buy government bonds seemed an extraordinarily radical, not to mention risky step. Today, it’s just another part of the toolbox. QE has been used in various forms across most developed nations in the decade since the banking crisis, so when it was deployed in vast quantities during the pandemic, no one batted an eyelid. But a new report from the House of Lords’ Economic Affairs Committee suggests that this widespread complacency is a problem. In short, QE has become “a dangerous addiction”, to quote the report’s title, with a particular focus on its use during the pandemic.

The big problems with QE

So why the concern? Mervyn King – who headed the Bank of England when QE was used in 2009 – sums up the report’s main findings for Bloomberg. First, central banks risk appearing too relaxed about inflation. They say that price rises are “transitory”, but it’s not clear why this is the case, or what they would do if inflation turns out not to be transitory (eg, raise rates, or drain the QE first?). Second, QE is too readily used – it “has become a universal remedy for almost any macroeconomic setback”. The 2020 pandemic was very different in nature to the banking crisis – yet central banks reached for the same solution.

Third, given the scale of recent QE and the simultaneous increase in government spending, central banks risk compromising their independence and credibility as they come under pressure from governments to keep funding national budget deficits. Finally, central banks have no clear strategy on how to unwind QE, or even if it can be unwound. Already the assets bought by the Bank of England under QE are worth 40% of UK GDP, so this question is hardly just theoretical. The report also nods to QE’s impact on wealth inequality. It “artificially” boosts asset prices, benefiting their owners “disproportionately”. It is also sceptical about the usefulness of extending central bank mandates to include climate change.

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It’s all pretty damning, implying that central banks don’t really know what they’re doing. It’s also clear that the committee feels that QE now risks fuelling inflation. But what does it mean for investors? Probably nothing. None of these points is new (we’ve been making them for years). It might put more political pressure on the Bank of England to make a show of attending more to inflation. But as the report itself rather proves, central banks (and governments) have become dependent on QE. In the absence of a palatable alternative, it’s hard to see them going cold turkey.