What is QE3?

September 13, 2012, 11:46 AM ET

It’s not a big British cruise ship.

You’ve probably seen countless discussion of will or won’t the Federal Reserve launch QE3 Thursday. But what does that acronym mean?

Quantitative easing is a monetary policy under which a central bank tries to stimulate growth by lowering borrowing costs by buying up debt, thus pushing yields lower. It also puts a lot of money in the hands of people who otherwise had those securities it just bought, so they can go out and buy something else, which has included U.S. stocks.

In the U.S. this has been done through the Fed’s purchases of Treasury and mortgage-related debt (the latter specifically targeting housing finance, with the idea that lower borrowing costs would revive the battered and important housing sector.)

The first two rounds of quantitative easing — QE1 and QE2 — are a big part of what pushed mortgage rates and Treasury yields to record lows recently. So, in theory at least, QE3 would be good for bonds because you have a new, deep-pocketed buyer. (How it plays out in real life is more complicated because of lots of other influences, such as the European debt crisis.)

But it’s a fairly controversial policy, because having a central bank buy up a lot of securities is essentially the same as if it printed money.

That’s seen as potentially creating inflation, and devaluing a country’s currency because they’re making more of it available. Some central banks, such as Germany’s Bundesbank, are strongly against adding extra money to their financial system through special measures like bond buying; critics cite examples like the hyperinflation Germany faced between World War I and World War II as a reason QE is a bad idea.

In general, QE tends to be negative for the dollar, and positive for gold and other hard assets seen as an alternative and hedge against devaluation and inflation.  That’s been the case for gold since 2008. Advocates of QE says it’s a necessary risk to help the U.S. avoid a depression, which would be even worse for the dollar.

The Fed has completed two similar programs already since the Great Recession, so this is seen as the third round – hence called QE3. And Fed Chairman Ben Bernanke has made pretty clear he thinks the policy has been helpful to the economy.

So we’ll see Thursday whether Fed policy makers actually decide to try it again.

Follow Federal Reserve coverage live.

– Deborah Levine

Follow The Tell blog on Twitter @thetellblog

Follow Deborah on Twitter @dlevineMW

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