How Quantitative Easing Works, Explained Simply
When cutting interest rates isn't enough, central banks turn to buying bonds at scale. Here's what that actually does to the economy.
Marcus Oyelaran
Economics Editor
Quantitative easing, or QE, is a tool central banks use when conventional interest rate cuts have reached their limit — typically when short-term rates are already close to zero and the economy still needs more support. Rather than cutting rates further, the central bank creates new bank reserves electronically and uses them to buy financial assets, mainly government bonds, directly from the market.
The mechanism works through prices and yields. Bond prices and yields move inversely, so when a central bank buys large quantities of government bonds, it pushes their prices up and their yields down. Because many other borrowing costs — mortgages, corporate bonds, business loans — are priced relative to government bond yields, this pushes down longer-term borrowing costs across the economy, not just the short-term rate the central bank directly controls.
Lower borrowing costs are meant to encourage businesses to invest and households to borrow and spend, supporting growth and helping push inflation back toward target during periods of weak demand. QE also tends to push investors into other assets, like stocks and corporate bonds, in search of better returns than the now-lower yields on government debt — a channel often called the 'portfolio rebalancing effect'.
QE first became widely used during the 2008 financial crisis and was deployed again, on a much larger scale, during the COVID-19 pandemic. In both cases, central banks argued it helped stabilise markets and support the recovery when interest rate cuts alone weren't sufficient.
The policy has real critics, however. Because QE tends to inflate the price of financial assets like stocks, bonds and property, and those assets are disproportionately held by wealthier households, critics argue it can widen wealth inequality even as it supports the broader economy. There are also open questions about how much of the growth benefit actually reaches businesses and workers versus simply boosting asset valuations.
The reverse process, known as quantitative tightening, involves the central bank allowing its bond holdings to run off or actively selling them, withdrawing the reserves it created and putting gentle upward pressure back on longer-term yields.