QE for Dummies

A PeakProsperity.com reader recently lamented:

I have been trying to get my head around the mechanism of QE. Not being an economist or experienced investor I don't really understand a lot of the jargon. The usual simple definition of QE as "thin air money printing" does not satisfy my need for understanding either. Have hunted for a description of QE for dummies that leaves me feeling like I get it, but with no luck. My difficulty is in understanding how thin air money gets into circulation.

So I'm going to do my best to answer this plea in as intuitive and straightforward a manner as I can. I, too, share the need to understand the mechanism of a process in order to feel like I have a grasp of it.  And I think it's critically important to understand QE (also known by its full name, "quantitative easing") and what it really represents. Because it is, without a doubt, one of the largest market-shaping forces of our times. 

Further, it presents extraordinary risks and may well turn out to be a decisive shaping process for the future, as well. And not in a good way.

Despite its sophisticated-sounding name, QE is nothing more complicated than the Fed buying "assets" from commercial banks and other private financial institutions.  I put assets in quotes because the Fed does not buy things like land, Stradivarius violins, diamonds, gold, or silver from these institutions, but rather various forms of debt.

The main forms of debt purchased are Treasury bills/notes/bonds and Mortgage Backed Security (MBS) paper. 

There could well be other forms, too, but we currently have no visibility into the composition of the sizable portion of the Fed's balance sheet that comprises the "other assets" line.  I'll get into that in more detail in a minute.

QE Explained

First, here's the an explanation of QE:

Quantitative easing (QE) is an unconventional monetary policy used by central banks to stimulate the national economy when conventional monetary policy has become ineffective. 

A central bank implements quantitative easing by buying financial assets from commercial banks and other private institutions, thus creating money and injecting a pre-determined quantity of money into the economy.

Quantitative easing increases the excess reserves of the banks, and raises the prices of the financial assets bought, which lowers their yield.

(Source - Wikipedia)

The reason that QE differs from normal monetary policy is that, in the normal case, the purchase of various bond types by the Fed does two things: It lowers interest rates, and it increases the amount of money in the system.

QE, on the other hand, cannot lower interbank interest rates any further than they already are, because they are at 0%.  So a different name is used for the process in which the only thing being eased is the quantity of money.  Hence Quantitative Easing (QE).

This is just a fancy way of saying that the central bank, via prior errors and miscalculations, has found itself stuck in a trap where it has lost one of its most potent tools: the price of money.  And now it can only fiddle with the quantity of money.

Here's a simple picture that I drew to illustrate just how simple this fancy-sounding process really is:

When the Fed performs this trick, what happens is that the assets end up on its balance sheet as well, assets of course.  Luckily the Fed provides reasonable clarity in a timely manner on the expansion of its balance sheet.  So we can see pretty well what's going on here as it happens.

In graph form, we can see that the Fed's asset balance had been holding steady at around $2.75 trillion for a bit over a year.  But then the latest round of QE (QE4) began, which has swelled the Fed balance sheet above than $3 trillion and it's way to (at least) $4 trillion by year end (2013).

Here's a nice short description of the process of QE:

A central bank [performs QE]  by first crediting its own account with money it has created ex nihilo ("out of nothing"). It then purchases financial assets, including government bonds and corporate bonds, from banks and other financial institutions in a process referred to as open market operations.

The purchases, by way of account deposits, give banks the excess reserves required for them to create new money by the process of deposit multiplication from increased lending in the fractional reserve banking system.

The increase in the money supply thus stimulates the economy. Risks include the policy being more effective than intended, spurring hyperinflation, or the risk of not being effective enough, if banks opt simply to pocket the additional cash in order to increase their capital reserves in a climate of increasing defaults in their present loan portfolio.

(Source - Business Insider)

The Price of Thin Air Money

At this point you might be thinking, where did the Fed get the money to buy these assets?  The answer to that is simple:  It was created out of thin air.  Or ex nihilo, if you want to use Latin to make it sound more official. 

In these modern times, no actual paper money was created and exchanged, of course; just a few clicks on a computer keyboard.  And voila! billions and billions of dollars are created.

There are several critical risks to flooding the world with invented money.  Once we understand them, it becomes clearer how the Fed's decision to pursue QE has put it in a box, where its available options are becoming fewer and fewer.  And it explains why the Fed is continuing and will continue until it simply can't with its aggressive money printing. 

In Part II: Why You Really, Really Need to Care about the Implications of QE, we lay out these risks and identify the markers you can follow to track them. We then detail how the QE process is destined to devolve and the implications this will have for your wealth and well-being.

To make our situation clear, we are living through the largest and most outlandish monetary experiment ever conducted by humans upon themselves.  These are extraordinary times, and no matter how many times the mainstream press tries to convince you that a rising stock market or a rebounding housing market implies that we are returning to healthy economic balance, don't fall for it.

The Fed is in uncharted territory, having created a monster it can no longer control.  In the process, it is blowing new asset bubbles that are benefitting those with first access to the newly-printed money (banks and corporations) at the expense of savers, pensioners, and anyone exercising fiscal prudence.  This, of course, is creating a vast and growing inequality between the top 1% and everyone else.

When this misadventure in monetary policy ends, as both math and history says it must, it will be messy, uncontrolled, and very painful for holders of just about every sort of finanical instrument out there (stocks, bonds, derivatives, etc).  That's why understanding the root causes and risks of QE is so important, in order to identify the best shelters for protecting the purchasing power of your wealth through this transition.

Click here to read Part II of this report (free executive summary; enrollment required for full access).

This is a companion discussion topic for the original entry at https://peakprosperity.com/qe-for-dummies/

One of the things I so admire about you is how you engage and interact with us, you listen to us, and then you do what you say you are going to do. The integrity and class you display is wonderful, as is the absence of ego. Thank you so much Chris, for taking the time to write this article, as well as part II, for we novices. A few more light bulbs have been illuminated smiley

An excellent and clear description of what QE is. But I'm afraid I have to add to the bad news on this: the Fed is now committed to QE, not to rescue the economy, but to finance the government and keep the banks afloat. Ironically, the last thing the Fed needs now is sustained economic recovery, for the reason Chris implies: there is no way QE can be unwound. Rising interest rates will break the banks, the government and undermine the dollar. Here in the UK we have the same problem, and both Japan and the eurozone have different versions of the same problem.
Alasdair Macleod

…then the Fed needs to step aside and let the natural cycle clear the air of all this garbage, yes? Would this then destroy all the illusionary fiat paper? If so then perhaps it must happen and we do as we have always done and rebuild from the ashes. Honestly, damned if you do and damned if you don't. I understand Depression, and have no idea about Hyperinflation except with PMs. With PMs I know it won't go to zero.Respectfully Given

The plumber is clearly smarter than the Ben Bernank!

Can you clarify the other side of the equation?

When the QE is given to the banks in exchang for Assets, does this have any effect on the national debt?

How do these banks have the quantity of treasury bill needed to soak up the QE?  I assume this is where the national debt comes into play.

If we slowed out defecit spending greatly, what would the fed have left to purhase?

What happens when the Fed has soaked up all the assets that the banks have.  It sounds like a good deal for the banks to lose all ogf that crappy MBS paper.

Can the fed simply default on the bad paper it is holding, eliminating that bad debt from the system?  and would this be a good thing?



The Fed will never back away and allow the natural cycle to take place.  That's not what they're around for.This is all a scam based on the Hegelian Dialectic:  Problem - Reaction - Solution
The Central Banks have created the Problem themselves.  They will create huge amounts of money out of thin air world wide (as is happening NOW).  When it all comes tumbling down, they'll blame the individual countries for spending too much and creating too much debt (National Debt).  The masses, Congresses, Parlaiments, etc…will React, and scream for a Solution.  
But before a Solution is brought forth, the Central Banks will create as much pain as possible on the Citizens/Congresses/Parlaiments.  They will be screaming so loud for a Solution, the Central Banks of the world (specifically the Bank of International Settlement (BIS) will then roll out their One World Currency.  What that will look like, is anyone's guess.
How many can't see this shaping up, is frustrating.  But, we've been conditioned so long to trust the Central Banks, I can understand a bit of why people fight the truth on this situation.  But it's all there, and has happened over and over again.  Maybe not in regards to a One World Currency, but in other ways (Patriot Act).
Study the Hegelian Dialectic.  It will tell you all you need to know about how the elite families rule.

I do understand exactly what you are saying, and can only image your frustration with me or anyone else who doesn't see things as you do. I say this with all due respect. HOWEVER, I am not yet in the court of print until this all ends in some crazy, unrecognizable mess, and until that happens I will follow along with enthusiasm as I just WILL NOT accept the assumption being made by you or others. For me, as delusional as you believe I am is how I see this world. So, bottom line, I will let History be written as we go along, and let things develop just a bit longer. Believe as you may, no problem. I remain unconvinced with your outcome. Honestly, I see no reason for you to be so concerned with me or others who don't believe the doomsday scenario you are so certain will happen.I respect your opinions very much but only from an informational point of view that is stored, and will be used to recognize when or if your thesis reveals itself. Only then will I be convinced. Sorry Brother, I just can't go there just yet.
Hegelian Dialectic: I have read twice, and all I could think about was this was before they banned all the hallucinogenic drugs were my thought. Anyways, I found the whole thing to be so subjective and way above my pay grade (this isn't to suggest you are a user but if you get this, and are able to discern a certain future from this material then God love you Brother).
"quotes Marx and Engels:"
"As the most comprehensive and profound doctrine of development, and the richest in content, Hegelian dialectics was considered by Marx and Engels the greatest achievement of classical German philosophy… “The great basic thought”, Engels writes, “that the world is not to be comprehended as a complex of ready-made things, but as a complex of processes, in which the things, apparently stable no less than their mind images in our heads, the concepts, go through an uninterrupted change of coming into being and passing away… this great fundamental thought has, especially since the time of Hegel, so thoroughly permeated ordinary consciousness that, in its generality, it is now scarcely ever contradicted. But, to acknowledge this fundamental thought in words, and to apply it in reality in detail to each domain of investigation, are two different things… For dialectical philosophy nothing is final, absolute, sacred. It reveals the transitory character of everything and in everything; nothing can endure before it, except the uninterrupted process of becoming and of passing away, of endless ascendancy from the lower to the higher. And dialectical philosophy, itself, is nothing more than the mere reflection of this process in the thinking brain.” Thus, according to Marx, dialectics is “the science of the general laws of motion both of the external world and of human thought”
Within this Paragraph it is written:
"For dialectical philosophy nothing is final, absolute. sacred."
Then subjective are my thoughts LogansRun. We see what we want and I want to see what is there. Just a different time line I suppose to Nirvana?
Respectfully Given
Note: I have no idea why this printed three times and if the moderator would could you please remove two of them. I have tried deleting or erasing those extra paragraphs to no avail. Thank you. BOB - Admin - Done.

Just explaining what's going on.  
Believe as you'd like.  

Unfortunately, history shows exactly what's to take place, and it ain't pretty.  The group that's in power are going to make life extremely painful for us "Serfs", but will make it look like it's anyone's fault but theirs. Then will roll out the Solution that benefits them and only them.  It's all in writing, or verbilized by them.  You just have to take the blinders off and realize, it's not CT anymore, it's now reality (which it's been for many, many years).

Good luck to you and your family.


Hi, new to this site…
So instead of just creating new money and injecting it into the federal reserve system (because banks aren't lending the money they have, so why would they borrow more from the fed, even at 0% interest), the government is purchasing the very securities that caused the crash to begin with?  In fact, I have some background in fixed income investments and almost worked at a software company that modeled MBSs and CMBSs (commercial and residential mortgage backed securities).  The risk involved in these financial instruments can be quantified by aggregating the risk of early pay off of principal and default.  These are techniques that are known within the financial world.  So is the government using these techniques to determine which secruties to buy?  What about the underlying loans and properties?  Have they been valued?  Shouldn't the financial profile for all this information be made public or at least available through a FOIA request?

Also, this seems to be nearly the same thing as the auto bailout.  The U.S. Government is purchasing securities that represent real things.  If the real estate market tanks again, can the government call in these investments and essentially just take real property? 

Why didn't the government just do what it did in the 80's by creating the Resolution Trust Corporation, a quasi government entity, that would buy the properties who's loans were wrapped up in the MBSs and CMBSs?  This way, they would have a value, and private value seekers could be purchasing these properties at a discount, resulting in a more stable market later?  By proping up the value of the securities we are setting ourselves up for a huge fall again, only this time, the Fed is holding the bag.

I wonder if you could clear up for me the numerous references to dialectics, as I am not sure I follow the concern. A layman’s definition of Hegelian dialectics is simply the association <Thesis>, <Antithesis>, and <Synthesis>.
This three value logical system is most often used as a key element in deductive reasoning, a critical component of the Scientific Method. Not sure how this appears to be such a threat?
If you are somehow referring to Marxism when you use the term dialectics, Marx used this concept in a very different manner. Most will tell you that Marx’s use of dialectics is radically different from Hegelian dialectic, as it is almost 180 degrees opposite. A layman’s definition of Marxian dialectic would describe the ability to look at many different factors that can influence a particular situation, each independent, influencing, and at the same time operating independently of each other.
An simple example might be given regarding the relationship of banking with the advent of ATM machines. There is multi-party behavior associated with banking before ATM’s- for example if you wanted to withdraw money you went to a physical branch, went inside and stood in line to make a withdrawal from a physical teller. The bank had a process, you had a process, and indirectly, any people that received money from you as result of these cash withdrawals also had a process.
With the advent of ATM machines all of that changed. The banking system changed, the way the consumer handled money changed, and the way that cash influenced the economy changed- and changed profoundly. Note that this happened exclusively by a change the banks alone instigated, they are the ones that added the machines, however, this affected many unrelated things in the general economy, and these impacts were behavioral and permanent.
Marxian dialectics can be used to examine the large scale, multi-variable impact on many stakeholders, as they evolve dynamically, and how this evolution impacts other stakeholders. In mathematics we would call this a complex non-linear relationship, (like predicting the weather) but in the 19th century no such mathematics existed, or more accurately, insufficient compute power existed to solve these types of differential calculus. So people used philosophy to help them understand complex non-linear dynamics.
Beyond this, the concept was extended to include dialectical materialism, which is something altogether different.
I’d like to understand how the elites are using this process of Hegelian dialectic to “rule”, can you elaborate?

…I do see but what are we ever going to do about any and all prophecy or right from the horses mouth outcomes. Truthfully, what are we going to do? I will just go about my business until I am confronted with a new reality and then decide how I wish to proceed.A quick story: I went to my accountants this morning with my son. Anyways, taking I-94 West towards Port Huron and I didn't know this but they did some road work some time ago and the lane I normal travel and gets me off the freeway now takes me to the off ramp, to a bridge that crosses into Canada. OK, no problem until I remembered my son and I were planning on shooting at the gun range when we were finished with the accountant. Here I am with weapons sticking out the window and enough shells to carry on an assault, shot gun and shells, 45 and shells, 9mm and shells!!! Going over a Bridge to Canada!!! Freaked out and I was certain this was going to be a long ass day, maybe confinement in some fenced in yard somewhere where they could hold my son and I indefinitely. Anyways, thankfully I got a free pass to do a turn around and still had to be stopped, ID checked, and thankfully no one checked the back seat of my truck.
So Yes, I was well aware of how the world had changed and I was quite worried, and what can I do about it? Not a damn thing except to watch out where I was going. This is going to sound a little silly too but one of the first things I thought was, "yes, I had clean underwear on". See, that was huge back when I was a kid and if Mom asked me/us once then a thousand times. Crazy stuff.
LogansRun, I don't doubt for a second that you could be 100% correct. I just don't want to deal with that just yet I guess. I have read everything, and read what you left here for me to read. I just will wait it out until things get just a bit clearer. All I want out of this life now is to get to Yellowstone with my Lady, put up a chair, drink a nice Crown and Sprite, maybe fire up a little somethin, somethin, and chill for 30days.
Be Good Brother

That would have been ugly… Several people have been jacked by that construction.  Me, I probably would have stopped in the middle of the bridge and thrown everything into the river… certainly would have cost less to replace it then paying for an attorney

…I was truly lucky.BOB

Hi basildave,Welcome to the site - your first post asks some very good questions.
I am no expert but I think part of the answer to what you are suggesting would be that this would bring more transparency to the game, which is not wanted by TPTB (the powers that be). A lack of transparency helps shield their shennanigans from the sheeple, who don't really pay attention anyway, but why take any chances? I see a financial system full of financial instruments that are so complex that  no one, banksters included, really have a handle on what is in some of these paper products, making everything 50 shades of opaque - anything but transparent - just the way they like it!
I watched a documentary awhile back on how people are using debt to cope with life stuff - both needs and wants. Many people were either re-mortgaging their houses or using their credit cards to pay large medical expenses, utility bills, renos, vacations etc etc. The end result is large personal debt with no underlying asset to support it. This debt was then sold off to the banksters who, with their math whizzes and fancy shmancy algos, collated it all into a basket of commercial paper and sold as securitized (not!) investments like MBS, to God only knows who all over the world.
In trying to understand this concept I created a picture in my mind: Imagine one of those old clear barrels used for contests where all the names go into the barrel, it is spun and spun around and then a name picked to declare the winner. The names in this instance represent commercial and mortgage backed paper. The "winner" is now the proud owner of one of these opaque securitized investments, which really means they are now the proud owner of "A's cancer treatment pyments, B's overdue hyrdo bill, C's house reno, D's big trip around the world, E's college tuition, and maybe, if they are lucky, a house that is now worth less than half of what the mortgage is.
There was so much of this crap issued that at this stage no one knows with any certainty who or what institutions own what. Therefore there is no certainty at all around the value of any assets being shown on balance sheets. This caused the credit crunch - banks became scared to lend as they could not accurately discern what the value of the collateral was.
The kicker, and the ultimate insult to we the peons, is that regardless of true asset value, the banksters now get the wonderful happy solution of getting rid of their toxic assets of unknown value, by selling them at 100% face value to the fed. How good is that? In the process the fed may very well end up holding title to half of american real estate. The rest of us, well, we are getting royally shafted as the fed does not care about us, or helping people by doing things like easing mortgage payment requirements to make it easier for people to keep thier homes. TPTB are most happy to see the 99% weakened even further by leaving us holding the bag, while the 1% continue to skim the cream off of the top. This is how it has always been - keep the serfs in a poor and weakened state to prevent them from gaining any power.
Like others have said, there is no way this is going to end well. People are awakening, and will only take so many hits before they start swinging back. TPTB know this too and are preparing accordingly. Thus we need to prepare ourselves for whatever might unfold, whenever it might happen.

What happens when the Fed has soaked up all the assets that the banks have.  It sounds like a good deal for the banks to lose all ogf that crappy MBS paper.
Can the fed simply default on the bad paper it is holding, eliminating that bad debt from the system?  and would this be a good thing?
Good questions. I was wondering the same thing. Sounds like once the debt has disappeared the Fed is in effect just handing over free, risk-free, unsecured money. Oh wait…

…the bad paper would just stay on the books at the Fed until (with inflation) they get back the value they paid for the paper. If paper cost $50 bucks then they sell at $50 bucks. Then zero balance sheet at Fed. However, they paid way to much to keep the banks whole but they have their fingers crossed or legs, and will wait I suppose before selling. It's just an entry by the Fed I suppose, and they could wait forever. Their the Fed.Regards

Those asking how long the Fed can keep these bad assets on its balance sheet should revisit this piece from Chris from back in 2009: The Sound of One Hand Clapping
Excerpts below:

If we treat the credit doubling that occurred between 2000 and 2008 (from $26 to $52 trillion) as a normal bubble that will follow the same pattern of decline as numerous historical bubbles, then we might reasonably predict that some $26 trillion of debt will somehow "go away" over the next 6 years.  This is indeed a massive black hole.

Yet everything just keeps perking along.  What gives?

The answer, I believe, requires us to ask a Zen-like question along the lines of, "What is the sound of one hand clapping?"  That question is, "If nobody recognizes a defaulted debt on their balance sheet, does it exist?"


This is the world in which we currently live.  Trillions in probable and provable losses quietly exist, out of sight, on the balance sheets of the Federal Reserve and other financial institutions.  If they ever come out of hiding and onto the books, I think the deflationists will be proven correct beyond all doubt.

But let me ask this:  What prevents the authorities from simply storing them out of sight forever?  Or at least long enough to allow the wave of liquidity to work its inevitable magic?  So far, much to my great surprise, they've managed to do exactly that, with hardly a squeak from the mainstream press (although the blogosphere is on the job, as usual).  I am now wondering if they cannot keep this up indefinitely.



In order to answer the main question of this article, we regretfully have to turn to Dadaism* to develop an appropriately absurd non-sequitur:

"What is the sound of one hand clapping?   Insanely high stock and bond prices."

The full article can be read here.

[quote=LogansRun]Just explaining what's going on.  
Believe as you'd like.  
Unfortunately, history shows exactly what's to take place, and it ain't pretty.  The group that's in power are going to make life extremely painful for us "Serfs", but will make it look like it's anyone's fault but theirs. Then will roll out the Solution that benefits them and only them.  It's all in writing, or verbilized by them.  You just have to take the blinders off and realize, it's not CT anymore, it's now reality (which it's been for many, many years).
Good luck to you and your family.
Just a reminder (although I know you know this) of the 5 stages, not of death and dying, nor of the 3Es, but of realization of the debt and death paradigm.  One passed through the anger stage a while back (and if you want proof, I'm show you the PM) … now in the bargaining stage.  Certain statements are warning of feelings indicating oncoming depression stage (with denial of depression being a probable indicator of early signs of developing depression).  It takes time to take this all in when one's paradigm is being systemically disassembled.  BTDT.
For those who doubt, think about Damon Vrabel (strabes) being driven off of his plans to educate the masses by death threats. 
Chris Duane just pulled down two videos and underwent hacker attack.  Former Marines don't frighten easily.
Sgtreport was just shut down by a hacker attack.
It's interesting how those who are speaking out most vociferously against the elite are being attacked the most viciously.  Obama cyber warriors are becoming increasing active.
With articles like this, I would expect Mike Adams and Natural Health News to be one of the next sites attacked.
And yes, there are things that one can do to oppose this.  It's one of the reasons why I chose to do paperwork and listen to music rather than go to a Super Bowl party.  Why support elite-theme dominated half time shows and trashy commercials, among other things.

ao Dec 30 2012 - 8:51pmDelete
ao message to me that he has referenced here so lets show it. I found it to be condensending as I have always seen this person so…
"Bob, really … do you kiss your mother with that mouth?  Be nice.  I know it's tough when you're confronted with the truth and have to face your true self but the time to work on addressing deficiencies is now, before the real pressure is on.  It's all about emotional stability and balance.  False bravado and a hot temper won't do it at crunch time.  If I see you at the car show, I might say hello but with your attitude, I wouldn't be inclined to go out of my way to meet you.  Not until you grow up a little.  Here're a few things that might help to get yourself under control.
You're just angry because you got beat up … virtually.
Here're a couple of other things to chew on.  First, think about some of the things Chris talked about in the Collum podcast.  He would have banned them to the basement 3 years ago.  Now he's talking about them.  Second, think about what this country was like in 2000 and compare it to now.  Did you ever dream you'd see such changes occur?  And the changes are accelerating.  That doesn't mean eternal doom and gloom nor imminent (not immanent) Armageddon nor any of the other silly things you seem to project that it does.  There are dark days ahead, to be sure, and I know the thought of that frightens you, not necessarily for yourself but for your way of life and your family and children and their children.  That's why you react so strongly and oppose considering possibilities involving an epic change in the status quo.  But there's also a light at the end of the tunnel.  Unfortunately, with your attitude, I think explaining it to you at this stage, before you're ready to expand your mind to other possibilities, would be just a waste of my time.  But if you're interested, read some books like Evidence of the Afterlife and My Descent into Death and read about Edgar Cayce, Ralph Moody, Brian Weiss, and others.  It might give you a different perspective on things.  The funny thing is, I think I'm the positive one and you're the negative one, lol.  You think I'm afraid but I have no fear of events to come but I think you do.  Otherwise, you wouldn't react as you."
ao, I don't care what stage of grief you think I'm in or not. Like I said originally to you in the previous PM (personal message, it still stands.