Wednesday, 6 May 2015

Quantitative Easing – Getting less from more

The European Central Bank has been late to try quantitative easing and may find that additional euros cannot buy much relief

We all have the tendency to rely on the tried and true tricks we have found helpful in the past even when their usefulness has faded.  This also seems true of central banks who have come to rely on quantitative easing even though its effects show signs of fading.  Even the initial boost provided by the first attempts at quantitative easing was limited and the situation has deteriorated amid its continued application.  As the last major central bank to give it a go, the European Central Bank will not get much return from any extra cash. 

Why more is not always more

Economist should know that repeating the same policies does not always work considering a well-used idea in economic theory known as diminishing returns.  This concept refers to the way in which more of the same often comes with fewer additional benefits.  Economists use this to describe why the second plate of ice cream does not taste as good as the first or why one more cook in a crowded kitchen doesn’t necessarily improve the food. 

Printing more money, which is the basis for quantitative easing, sounds like a sure-fire way to generate economic growth but any economy can only handle so much money.  The world is already awash with cash even before central banks started with quantitative easing.  This means that every additional dollar, euro, or pound printed as part of quantitative easing is being added to an already substantial pile of cash.  With money already being hoarded by many companies and governments not wanting to spend more cash, there is not much use for any more.

No need for more

With the meagre effects of quantitative easing on the wane, it was the earlier versions that would have generated the most bang for each additional buck.  It was the Federal Reserve and the Bank of England that tried out the first rounds of quantitative easing – the goal was to push investors away from government bonds to more risky investments such as corporate bonds or stocks.  The hope was that this would help provide companies with easier access to cash and to perk up investors by boosting share prices. 

Not all of the extra dollars and pounds would have stayed local but also headed overseas to find places to earn more money.  This meant that the effects of quantitative easing would have been felt far beyond the countries where the cash was originally coming from.  It has been helpful in places such as Portugal and Spain with overseas investors buying bonds issued by the Portuguese and Spanish governments as worries about Europe eased.

With the effects of quantitative easing having already spilled across international borders, there is not much more to be gained from even more cash.  As such, the additional euros coming out of the European Central Bank following the recent launch of quantitative easing in Europe may not amount to much.  Any further action may also be limited as the saga over whether or not to implement quantitative easing has highlighted how the European Central Bank only has limited room for manoeuvre when running in opposition to Germany.  Now, more than ever, it is time to try something new.


  1. By dropping the interest rates to zero and below, these policies are screwing up vast swathes of the economy that require an income from funds. Pension schemes and insurance companies are the main ones.

    QE, really a short term measure to allow fiscal policies to be made and implemented, has become the crook that the ineffective political leaders are leaning on.

    Money is now flowing from the wage earners and productive sector to the rentiers.

    All those leeches extracting profit from the real wealth generators.

    At some point there has to be a major change.

    I wonder where it will come frm?

    1. Thanks again for your comments.

      It is true that quantitative easing and low interest rates are not helping much and are lowering the incomes of many people who have large amounts of savings.

      Wage earners are also having a hard time but this is something that was happening before the global financial crisis. I think that the forces of technology and globalization have give companies more power over workers so that workers are not seeing much improvement from any gains in productivity.

      Change is necessary, as you point out, but it is not clear from where it will come. Workers who are also voters could demand the governments push for higher wages but this does not seem likely. Neither will companies willingly pay workers more if they do not need to. Much might depend on China along with other emerging markets and the rate at which wages increase. Higher wages in emerging markets will help push up wages elsewhere as well as increasing consumption in places such as China which will boost imports from richer countries. Whatever happens, it does seem as if things will not improve anytime soon.