Quantitative Easing for the Bank of England (Research Paper Sample)

Intermediate Macroeconomics
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Question one
Quantitative easing is an unconventional monetary policy adopted by a nation’s Central bank such as the Bank of England to increase the money supply in the financial system by purchasing existing financial assets held by businesses and commercial banks such as government bonds (Urbschat and Watzka, 2020). The Bank of England adopted quantitative easing as a last resort in an effort to increase spending. Although quantitative easing is mostly misconstrued as printing money, it mostly focuses on stimulating spending in the economy rather than funding the public debt. In essence, the bank of England adopted quantitative easing as a response to the shrinking consumer spending and the impending liquidity trap due to the Covid pandemic (Urbschat and Watzka, 2020). To understand the impact of the quantitative easing using the IS-LM model, it is important to explore the model first.
Figure 1: Graphical representation of the IS-LM model (Uribe and Schmitt-Grohé, 2017).
IS-LM graphical representation depict the equilibrium in the good market and the money market. The good market is represented by the IS curve while the money market is represented by the LM curve. IS curve is a function of consumption, investment, government expenditure and net export in an open economy. Consumption is essentially the difference between disposable income and tax. On the other hand, the LM curve equate money supply (M/P) with the demand of the money (L {y, i}). As earlier noted, quantitative easing is a monetary policy which increases money supply by lowering the interest rate. However, in 2020 during the covid 19 pandemic, the UK interest rates was at its all-time low (Joyce, Lasaosa, Stevens and Tong, 2020).
The Bank of England’s Monetary Policy Committee unanimously voted to maintain the bank rate at 0.1% (Urbschat and Watzka, 2020). although the interest rates were significantly low, UK banks could still generate income by purchasing long-term financial assets such as treasury bonds with minimal risk. Due to the low interest rate, most banks would be less willing to lend money to the public due to the risk of bad loans considering the financial impact of the pandemic (Joyce, Lasaosa, Stevens and Tong, 2020). Most businesses depend on bank loans for investment and the reluctance of commercial banks to provide loans slowed the economic growth. This prompted the Bank of England to increase its quantitative easing program by another £150 billion (Urbschat and Watzka, 2020).
Through quantitative easing, the Bank of England injected money into the financial system by purchasing financial assets and securities from the commercial banks (Joyce, Lasaosa, Stevens and Tong, 2020). The Bank of England also bought treasury bonds, and this increased their demand. The prices of the treasury bonds increased which in turn led to lower yields. Due to the low yields, commercial banks no longer had the incentive to hold treasury bonds and in turn were forced to unlock their lending and inject credit into the UK economy (Joyce, Lasaosa, Stevens and Tong, 2020). In short, quantitative easing allowed the Bank of England to buy securities held by the banks in order