As people try to move out of cash deposits and into typically higher yielding assets, QE will reduce liquidity and term premia, push up a range of asset prices and bring down interest rates at a wide range of maturities. All of that will benefit borrowers, increase wealth and help to stimulate nominal demand. Injecting money is actually not so different from cutting its price (Bank Rate). There are some very important caveats however and I will focus on three. First, monetary stimulus works by giving an incentive to businesses and households to spend now rather than in the future. That creates only a temporary boost to growth. To carry on influencing growth, the stimulus needs to get ever larger. But we know that ultimately, the sustainable growth rate in the economy depends not on monetary conditions but on real factors. I shall return to this point later. Second, and relatedly, a monetary injection can create extra nominal demand for goods and services, but the precise split between real growth and price inflation is unfortunately out of our control. Taking these two points together, the creation of extra  5  I will leave aside the issuance of banknotes, the quantity of which passively reflects demand by the public.
Market participants – and indeed the general public – will learn about the authorities’ behaviour and shape their own  10  For more information, see “The Corporate Sector and the Bank of England’s Asset Purchases” available at: http://www.bankofengland.co.uk/publications/Pages/speeches/2010/423.aspx  BIS central bankers’ speeches  5  accordingly. Moral hazard is one aspect of this – that can lead to market participants taking more risky actions because of the perceived backstop provided by the central bank. More generally, communications strategies can be a positive part of the toolkit, in particular by giving out information about the central bank’s monetary policy “reaction function”. For the most part it is helpful for markets to be able to predict what the central bank will do. That way one can often hope to generate the desired responses with less severe policy actions than otherwise. Credibility matters. For example, if people believe that inflation will be 2% in the medium term, and act accordingly, it is much more likely that inflation will stay close to 2% in practice without big swings in monetary policy. Keeping inflation under control is much more costly for the economy if expectations become de-anchored from the official target. But how explicit do we need to be about our forward plans? This is a very live policy debate.