- Ben Bernanke via AP
What is quantitative easing?
In order to buy the bonds, the Fed simply creates the money. NPR's Planet Money explains how it works.
"A big bank — Bank of America, say — has $50 billion in government bonds. They'd sell those bonds if anyone would pay enough for them, but nobody is willing to pay that much. So the bank just holds on to them.
With quantitative easing, the Fed comes along and says, 'Hey, Bank of America, we'll buy those bonds for a little more than anyone else is willing to pay.' Bank of America says, 'OK, great, send us the money.'
This is where the Fed gets to use central-bank magic. They pay for that $50 billion purchase in new money. They just invent it. That's what the Fed — but nobody else — gets to do.
So now Bank of America has $50 billion they need to do something with. The Fed is hoping that Bank of America will decide to lend that $50 billion to companies and people to invest or spend. That stimulates the whole economy."
This is the third time the Fed has done this since the 2008 crisis, so people in the financial world are calling it QE3.
Past actions by the Fed
- The Fed first tried quantitative easing in November 2008, eventually buying $2.1 trillion worth of bonds, according to The Washington Post. The central bank bought another $600 billion worth in August 2010.
In addition, the Fed has kept interest rates at historic lows for years, and Thursday it announced plans to keep them that low into 2015.
Did earlier quantitative easing help?
- Essentially, the answer depends on who you ask. The Post's Ezra Klein explains it this way:
"Academics have been churning out plenty of research on this question. The first round of quantitative easing appeared to be effective in preventing the economy from sinking into a giant depression. Economists say this was because everyone realized the Fed would do whatever it takes to avoid deflation. It was essentially a giant confidence boost. The economy stopped sliding and inflation slowly rose. But the effects seemed to dwindle as the years went by. Experts are much more divided on how much QE2 has helped."