As far as federal agencies are concerned, none of them have a bigger clout than the Federal Reserve. It is said when the Feds sneeze, the world economy gets hiccups. Their policies affect everything from the milk we buy at the grocery store to the interest rates of a 30-year mortgage.
It is no wonder that Quantitative Easing 2 or QE2 is one of the hotly debated topics these days? So what in the world in QE2? Simply put, it is an attempt by the Feds to jump-start the sluggish economy by pumping billions of dollars into the financial markets.
Under normal circumstances, if the central bank wants to stimulate economic growth, it simply lowers interest rates, which in turn increases the money supply and infuses cash into the real economy. The domino effect occurs when people borrow this increased amount of available cash and banks lend it, which eventually sputters the economy back to normal growth patterns. However, this only happens in normal market conditions. But the market situation in the U.S. is far from normal these days.
Back in 2008 the feds lowered the short-term interest rate target to near 0%, but the economy continued to be sluggish and has not gained any traction since. So, when the central bank exhausts all its options to influence interest rate movements, it engages in a process known as quantitative easing. The goal of quantitative easing is to increase the money supply by purchasing Treasury securities. This increase in money supply is meant to ease the financial burden on banks. As pressure is alleviated from banks, they will be encouraged to lend money to people seeking small business loans, mortgages, auto loans, etc.
Between November 2010 and Junes 2011, the central bank will invest $600 billion in long-term bonds. The bond/treasury purchases are aimed at stimulating the economy. By buying Treasuries, the Fed intends to soak up supply and push their prices up. Because interest rates move inversely to bond prices, interest rates move down. Mortgage rates, corporate bond rates and other interest rates will go down, or at least be lower than they otherwise would be.
But now that the central bank's bond-buying spree is drawing to a close, even some of the Fed's toughest critics are nervous. QE2 was designed to keep bond prices high and interest rates low. It is credited with propping up the economy a bit and, in turn, boosting the stock market. Technically, the Fed is in the midst of its second round of bond buying—hence the 2 in QE2 —since the financial crisis struck in 2008. When the first round ended in spring 2010, both stocks and bonds tumbled.
Now that QE2 is scheduled to cease at the end of June, financial analysts are predicting that the demand for bonds and mortgage-backed securities will fall, which could result in higher rates. This is because there won’t be any bulk buyers of bonds after the Feds stop buying them. Others are speculating that if the prices of oil, gasoline and food continue to remain high, the economy may slow down even further, which may cause the mortgage rates to decline even further. While there are no clear answers, the best thing to do is stay tuned.
It is no wonder that Quantitative Easing 2 or QE2 is one of the hotly debated topics these days? So what in the world in QE2? Simply put, it is an attempt by the Feds to jump-start the sluggish economy by pumping billions of dollars into the financial markets.
Under normal circumstances, if the central bank wants to stimulate economic growth, it simply lowers interest rates, which in turn increases the money supply and infuses cash into the real economy. The domino effect occurs when people borrow this increased amount of available cash and banks lend it, which eventually sputters the economy back to normal growth patterns. However, this only happens in normal market conditions. But the market situation in the U.S. is far from normal these days.
Back in 2008 the feds lowered the short-term interest rate target to near 0%, but the economy continued to be sluggish and has not gained any traction since. So, when the central bank exhausts all its options to influence interest rate movements, it engages in a process known as quantitative easing. The goal of quantitative easing is to increase the money supply by purchasing Treasury securities. This increase in money supply is meant to ease the financial burden on banks. As pressure is alleviated from banks, they will be encouraged to lend money to people seeking small business loans, mortgages, auto loans, etc.
Between November 2010 and Junes 2011, the central bank will invest $600 billion in long-term bonds. The bond/treasury purchases are aimed at stimulating the economy. By buying Treasuries, the Fed intends to soak up supply and push their prices up. Because interest rates move inversely to bond prices, interest rates move down. Mortgage rates, corporate bond rates and other interest rates will go down, or at least be lower than they otherwise would be.
But now that the central bank's bond-buying spree is drawing to a close, even some of the Fed's toughest critics are nervous. QE2 was designed to keep bond prices high and interest rates low. It is credited with propping up the economy a bit and, in turn, boosting the stock market. Technically, the Fed is in the midst of its second round of bond buying—hence the 2 in QE2 —since the financial crisis struck in 2008. When the first round ended in spring 2010, both stocks and bonds tumbled.
Now that QE2 is scheduled to cease at the end of June, financial analysts are predicting that the demand for bonds and mortgage-backed securities will fall, which could result in higher rates. This is because there won’t be any bulk buyers of bonds after the Feds stop buying them. Others are speculating that if the prices of oil, gasoline and food continue to remain high, the economy may slow down even further, which may cause the mortgage rates to decline even further. While there are no clear answers, the best thing to do is stay tuned.
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