QE mechanism: central banks and their expansionary policy

How Central Banks Use QE to Revitalize the Economy

Quantitative easing (QE) is one of the most discussed monetary tools of modern times. When conventional monetary policies fail and the economy is in crisis, central banks resort to this mechanism. Unlike traditional interest rate cuts, QE directly intervenes in the financial system by purchasing long-term assets such as government bonds or mortgage-backed securities. How exactly does this process work and what are its consequences?

Mechanism of Quantitative Easing – From Theory to Practice

The central bank (, such as the Federal Reserve System or the European Central Bank ), gradually purchases financial assets directly from banks and financial institutions. These transactions are not ordinary trades – the bank sells an asset and receives money that the central bank creates specifically for this purpose. The result is a dramatic increase in the money supply in the economy.

When banks find themselves in a position with greater liquidity, they respond by lowering interest rates on loans. Companies and households can then borrow money more easily and cheaply. This increased availability of capital should stimulate investments, real estate purchases, and consumption – which in theory puts the economy back on a growth track.

Why will central banks take this step?

QE is not used on a daily basis. This tool is taken by central banks from the last resort when the economy fails and standard measures are insufficient. Imagine the economy as an engine in distress – regular adjustments no longer help, so a more radical intervention is needed. An increased money supply is intended to motivate entities in the economy to engage in greater activity and reduce their financing costs.

The Consequences of QE: Between Benefits and Threats

Although QE may seem like a solution to all problems, it carries a number of risks. The most significant is the potential for inflation – when too much money enters the economy without a proportional increase in the production of goods and services, prices simply rise. Consumers then lose the purchasing power of their savings.

Another concern of economists is asset bubbles. When interest rates are historically low and money is abundant, investors often concentrate capital on risky assets like stocks or real estate, artificially driving their prices to extreme heights. When sentiment changes, a sharp decline may occur.

There is also a risk of inefficiency - QE may not always work as expected. In situations of deep distrust or structural problems in the economy, banks may hold newly acquired funds as reserves instead of lending them out.

QE and its impact on financial markets

Financial markets react very sensitively to announcements or the introduction of QE. When central banks start massively purchasing bonds, this demand raises their prices and lowers their yields. Lower bond yields make stocks and alternative investments relatively more attractive, gradually pushing stock prices higher.

Increased liquidity in the system also weakens the domestic currency. When there is more domestic money in circulation, its relative value decreases. This can have a positive impact on exports (goods become cheaper for foreign buyers), but at the same time makes imports more expensive and raises inflationary pressures.

Exchange rates, asset prices, borrowing costs – all these variables are influenced by central bank decisions on QE. Markets thus lose a certain degree of autonomy and become dependent on the monetary policy of large institutions.

QE and Cryptocurrency Markets – Inconsistent View

The relationship between QE and cryptocurrencies remains one of the most discussed topics. Proponents of the view see a direct connection: when central banks devalue traditional currencies through expansionary policy, Bitcoin and other digital assets become more attractive as a safe haven and a means of storing value. They argue that it is precisely during periods of massive QE that cryptocurrencies reach historical highs.

Skeptics, however, point out that cryptocurrencies have their own cycles and are not necessarily directly tied to monetary policy. Their prices are influenced by technological innovations, regulatory decisions, and speculative waves much more than traditional macroeconomic factors.

The reality is probably somewhere in the middle – QE creates an environment that is more favorable for risky and alternative assets, but it is not the only determinant of their price.

Historical Lesson: QE during the COVID-19 Pandemic

The year 2020 brought an unprecedented economic crisis. The closure of businesses, massive unemployment, and a crippled economy triggered panic among political makers. The Federal Reserve responded with the largest QE program in history – announcing purchases with no upper limit, signaling an absolute commitment to stabilize markets and support liquidity.

Other central banks followed. The European Central Bank, the Bank of England, and several other institutions introduced or expanded their QE programs. The goal was simply: to prevent the collapse of the financial system and to maintain business activity and employment.

This massive influx of money truly prevented an even deeper fall. However, it also unleashed a wave of inflation that persisted for years afterward. Ultimately, it forced central banks to take the opposite course – raising rates and withdrawing money from the economy.

How to take QE from here?

Quantitative easing is a powerful tool in the hands of central banks, but it is not magical. QE can alleviate acute crises, increase liquidity, and temporarily stimulate economic activity. However, it creates distortions in the markets, increases the risk of inflation, and can shape bubbles in asset prices.

For investors and traders, it is important to understand that QE is not a permanent state. It is an extraordinary measure that has a beginning and an end. A proper understanding of the QE cycle – its introduction, duration, and subsequent withdrawal – can be the key to better decision-making in the markets, including cryptocurrency markets.