Quora answers on Quantitative Easing

A couple of Quora answers here.

How is QE different from MMT

My answer:

These are not comparable as they are entirely different – one is a policy evaluation framework and the other is a specific policy tool.

Modern Monetary Theory (MMT) is a macroeconomic paradigm that can be used as a policy science framework to evaluate the context specific economics of any policy.

Quantitative Easing (QE) is an “unconventional” monetary policy.

MMT can be used to evaluate the claimed benefits and deficits of a monetary policy such as QE.

So what is Quantitative Easing anyway? My answer   to the question Where can I find a theoretical framework for quantitative easing?:

The German Professor of Economics at the University of Southampton, UK, Richard Werner, invented the term, developed in advising the Japan government on fiscal and monetary policy in the 1990s. How QE is actually applied now is different but you should start with some of his arguments such as Quantitative Easing and the Quantity Theory of Credit. This starts:

“‘Quantitative easing’ (QE), has received much publicity in the past five years. However, its effectiveness remains disputed. Moreover, there are different views about what constitutes QE. It is the purpose of this contribution to review the origins and varying applications of QE, using and thereby explaining the macroeconomic model that gave rise to the concept. Called the ‘Quantity Theory of Credit’, this is arguably the simplest empirically-grounded model that incorporates the key macroeconomic role of the banking sector — a task belatedly recognised as crucial by researchers in the aftermath of the 2008 crisis.

The Quantity Theory of Credit after 20 years (QTC)
“The central argument is a dichotomous equation of exchange distinguishing between money used for GDP-transactions (determining nominal GDP) and money used for non-GDP transactions (determining the value of asset transactions). Money is not defined as bank deposits or other aggregates of private sector savings. Banks are recognised as not being financial intermediaries that lend existing money, but creators of new money through the process of lending. Growth requires increased transactions that are part of GDP, which in turn requires a larger amount of money to be used for such transactions. The amount of money used for transactions can only rise if banks create more credit. Banks newly invent the money that they lend by pretending that the borrowers have deposited it and thus crediting their accounts without transferring any money from elsewhere. This expands the money supply and it suggests that the accurate way to measure this money is by bank credit.It can be disaggregated into credit for GDP transactions (CR) and credit for non-GDP (i.e. asset) transactions (CF). ”

The Origins of Quantitative Easing

“The QTC suggests that neither interest rate reductions nor fiscal expansion, nor reserve expansion, nor structural reforms would be able to stimulate nominal GDP growth. Based on this model I proposed in 1994 and 1995 that a new type of monetary policy be implemented in Japan, which aimed not at lowering the price of money, or expanding monetary aggregates, but at the expansion of credit creation for GDP transactions. Since the expression ‘credit creation’ was considered difficult to understand in Japanese, I prefaced the standard Japanese expression for monetary stimulation (‘monetary easing’ or ‘easing’) with the word ‘quantitative’ to declare that ‘Quantitative Easing’, defined as credit creation for GDP transactions, would create a recovery”

“ I suggested in numerous publications that the central bank purchase non-performing assets from the banks to clean up their balance sheets, that the successful system of ‘guidance’ of bank credit should be re-introduced, that capital adequacy rules should be loosened not tightened, and that the government could kick-start bank credit creation and thus trigger a rapid recovery by stopping the issuance of bonds and instead entering into loan contracts with the commercial banks ”[My emphasis]

Abuse of the term Quantitative Easing

“While my recommendations were not heeded, the label I used caught on. Critics from both the Keynesian and monetarist camps began to redefine QE as an expansion in bank reserves — despite the fact that I had been arguing that such a policy would not work. A new name for an old policy was only likely to cause confusion.”

Leading MMT economist, Australian Bill Mitchell, Professor of Economics at the University of NewcastleNew South Wales, Australia analyses what is actually QE – an expansion in bank reserves – arguing a) that that is just an asset swap of primarily Treasury Securities for Central bank Reserves, neither adding nor subtracting to private sector assets, only changing their composition and the interest rate channel and b) that, since banks do not lend out deposits and that, instead, loans create deposits, therefore they are not reserve constrained and, therefore reserve expansion has no direct affect on banks willingness to create new bank credit “loans” – which was the purported goal of QE.

For more see Quantitative easing 101

Note that some QE, such as part of QE1 in the USA did buy “bad” loans from the banking sector, such as some Mortgage Backed Securities and this is closer to the original design of Werner’s QE but, on the whole, QE is reserve expansion.

It is important to note that Werner and Mitchell both disagree on the model of bank credit – particularly on the second emphasis point above in the Werner quote, that is, banks loans to the government – although they are more closely aligned than, by contrast, the Monetarists and “Keynesians” (actually New Keynesianism) that Werner discusses.