The Effects of Quantitative Easing: Explaining Inflation and Its Global Impact

Dr.. Mohammed Al-Sayyad*

In the 1920s, the Weimer Government Republic, Germany (from 1919-1933), printed 500 billion marks. In three years of hyperinflation, the value of one US dollar has become equivalent to 4.2 trillion paper marks. In Venezuela, the unilateral US sanctions imposed on it forced the government to print 4 trillion bolivars, which led to a rise in inflation in April 2020, to 4,200% (it fell to 3,500% in June 2020).

In the United States, in 2020 alone, 3 trillion dollars were printed. And all this was done in just 3 and a half months. However, contrary to the working nature of economic fundamentals, inflation in America has only increased by 9%. How is that? Here comes the so-called quantitative easing, which can explain this reason. The US Federal Reserve is forced to resort to quantitative easing when the US economy reaches the inability of consumers to buy, and the inability of business units to sell their products. This happens when the Fed’s traditional financing model fails to stimulate the growth cycle of the economy, according to which it lends to banks in return for a certain interest, which in turn lends this money to consumers in exchange for an interest that provides banks with a profit margin between the two rates. And when inflation rises, the Federal Reserve is forced to raise the interest rate (say by 0.25%) on the loans it disburses to banks, so the latter raises the interest by the same percentage to maintain its profitability margin. What happens is that the consumer can no longer bear the burden of servicing his debt. He cannot borrow, and therefore the bank does not find customers for its loans due to the high costs of production (due to inflation); The purchasing power of mortgage holders decreases as a result of the bank’s high premium. The same applies to the rest of the consumers, who will have to reduce the budget for their family expenses, as demand will decline and the business sector will decline. A situation arises in which the seller is not able to dispose of his goods, nor is the buyer able to purchase them. It is as though the cash froze in the course of the economy.

Here the Federal Reserve intervenes with its magic plan called quantitative easing, as it cuts the interest rate and pumps dollars into the market to restart it. Instead of what he used to do in the traditional practice, by lending to banks, he prints money (100 billion dollars, for example), and buys its value from banks in bonds for a nominal interest that does not exceed (0.1%). This allows banks to lend to the public at a low interest rate that does not exceed – for example – 4%, after it was 8 and 9%. This is precisely what enabled the Fed to maintain the interest rate low and stable at a range between 1.58% and 2.50% throughout the period between 2018 and 2020. Until the Corona pandemic broke out, which paralyzed the economy, so the Federal Reserve returned to printing money again and lending it to major banks at an interest rate not exceeding 0.05%. This has affected the American and global economies. The Americans, thanks to the reduction in the interest rate, and the supply of dollars resulting from the printing of new money (the “new quantitative easing”), saved in paying their debts, including mortgage holders. The purchasing power of Americans increased, which raised the demand for commodities in America and, consequently, the rise in their prices. Thus, the inflation index in America began to rise. But how did this inflation infiltrate the rest of the world? Collateral damage. Commodity prices rise in America due to the high demand for them, while the prices of the same commodities in Europe and Asia remain lower. This motivates producers to export their commodities to the American market and reduce their supply in their countries, which leads to an increase in their prices in the local market, similar to their prices in America. Thus, printing money in America leads to transferring the effect of rising prices from America to the rest of the world markets. This naturally happens to all goods and services, which means that inflation occurs not only in America, but also in other countries through the international trade channel. In one year, 2020, America printed 35% of the total dollars it printed throughout its history.

In this sense, the US quantitative easing leads to an increase in the purchasing power of the Americans (as a result of lowering the interest rate), and to an increase in the prices of goods sold in the US market as a result of the high demand for them, and to an increase in the demand for the euro, the yen and other countries’ currencies to be used to meet the US demand for goods imported from As a result, the euro and other currencies will rise against the dollar, and the economic equation for the whole world will be complicated.

Bahraini writer