What is Fed Tapering and Quantitative Easing?

What is quantitative easing?

Quantitative easing is a form of monetary policy that is implemented by the central bank in an attempt to increase the domestic supply of money and motivate economic activities. To achieve this, the central bank, purchases long term government bonds, mortgage back securities and other similar assets so as to add new money into the economy and increase liquidity. As we all know, the central bank is responsible for the printing and processing of the national currency.

What is fed tapering?

Fed tapering, is not as complicated as it sounds. As a matter of fact, it is the reversal of quantitative easing policies that had been implemented to stimulate economic growth through low-interest rates and increased purchase of government bonds and other assets by the central bank. Fed tapering is a necessary measure to prevent inflation and stagflation in the economy, both of which eventually devalue the currency of the country.

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Difference between fed tapering and quantitative easing

The central bank is the topmost financial institution in the country and it, among other functions, acts as the government lender, regulates commercial banks and is a policymaker. The role of the Central bank extends as well, to cushion the country’s economy during hard times and crises. The coronavirus pandemic is one such crisis that led to the implementation of health guidelines, on a global scale that saw to the decline of economic activities as countries closed their borders to their neighbors and lockdown were implemented which affected most businesses. However, at such times, two very important concepts are implemented by the central bank to salvage the situation, but in a controlled manner so as not to cause more harm than good. This introduces us t the concepts of Fed tapering and quantitative easing.

Implications of Quantitative Easing

The central bank is a national institution and that has the best interest of the economy in mind which is why it goes the extra mile to stimulate economic growth, however, there is only so much it can do and the rest is left to the bank and the citizens as well. Now that the liquidity ratio had risen, then banks are in a better position to lend at lower rates, which is aimed at motivating people to borrow more, at a lower rate so as to encourage investments.

Quantitative easing policies are designed so that they have a ripple effect on the economy, however, it may trigger a negative ripple effect as well. In the event that monetary policies are not sufficient, fiscal policies are introduced to supplement the monetary policies.

Necessity of Fed Tapering

So as to achieve a reverse on quantitative easing policies, a predetermined reduction on the purchasing of and accumulation of the central banks’ assets is implemented. Under the monetary and fiscal stimulated program, tampering is the first step towards withdrawing as the central bank manages its already expanded balance sheet. However, this change is not always welcome with open arms and a situation of ‘taper tantrum’ where the financial market experiences a downturn due to their high dependence on the stimulus provided by quantitative easing policies.

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