THE MEANING OF QUANTITATIVE EASING (QE) AND HOW TO TRADE IT IN FOREX MARKET.

Introduction:

Quantitative easing is one of the methods used for stabilizing and also stimulating the economic growth in a country. Quantitative easing was used during the 2008 financial crisis, and since then, it has become one of the best methods of managing economic challenges.

The main aim of employing quantitative easing is to increase money supply and lending of money for investment. This process can be achieved when the central bank purchases some government assets on a large scale.

So in this article, I will be giving a detailed explanation of what quantitative easing is all about and how it is applicable in forex trading, the global financial market, and the global economy at large.

HOW DOES QUANTITATIVE EASING WORK?

  1. First, the central bank identifies economic challenges; this can be in the form of stagnation or deflation that can not be solved by increasing or decreasing the interest rate. The central bank needs to find a way to inject money into the economy in order to increase the inflow of liquidity in the financial system.
  2. To inject this liquidity into the financial system. The central bank needs to create money electronically without any physical printing. This electronic money will be used to purchase financial assets from the government.
  3. These financial assets bought by the central bank can be in the form of government bonds or government securities. This act will lead to an inflow of money into the financial system, making money available for investors with an accommodating interest rate.

WHAT ARE THE OBJECTIVES OF QUANTITATIVE EASING?

  1. One of the objectives of quantitative easing is to stimulate economic growth. This can be achieved when the central bank purchases government financial assets, making money available for banks and other financial institutions; this will help in giving out loans for investors and consumers for investing and spending, respectively.
  2. Quantitative easing can also be used to combat deflation and support inflation by increasing the money supply. When excessive money is released, it causes inflation, and when this inflation is well controlled, it helps stabilize the country’s economy.
  3. Implementing quantitative easing can lead to an increase in demand for financial assets, thereby reducing the interest rate of long-term loans. When this interest rate is reduced, businesses, companies, and individuals can take loans for their various investments, consumption, and expansion plans.
  4. During the time of financial and economic stress, quantitative easing has been implemented to ensure that enough money is circulating in the system. This will help to reduce the risks of market collapsing and boost the confidence of investors to keep investing.
  5. Quantitative easing can also cause the country’s currency to weaken; this is because of excessive injection of money into the system; this in turn makes the goods, products, or services rendered by the country cheaper and more competitive with other countries that also export the same product. This can help in the economic growth of the country.

WHAT ARE THE POSITIVE EFFECTS OF QUANTITATIVE EASING ON THE ECONOMY?

  1. Quantitative easing policy is used to stimulate economic growth when the country is noticing deflation by increasing the inflow of liquidity into the economy.
  2. The inflow of liquidity into the economy makes investors and companies borrow money with a low interest rate. This creates more job opportunities and reduces the interest rate.
  3. Quantitative easing increases the rate at which consumers spend their money. This is because of an increase in the inflow of money and loans with lower interest rates.
  4. Quantitative easing can also be used to fight deflation. Deflation, which is the general reduction in the price of goods and services, can cripple the economy. This is why the central bank will release money into the economy, which will lead to an increase in the level of inflation. This will make consumers release money instead of hoarding it.
  5. If the federal bank buys these assets in large quantities, it will create a scarcity of these assets, making the price of those who are holding theirs increase. The holders will make more profits any time they wish to sell it. Also, it will increase the way they spend or invest after selling the assets. This can be called the “wealth effect.”.
  6. Excessive supply of money can lead to the depreciation of the country’s currency. This weakening of their currency will lead to an increase in the rate of export against other competitive countries. More money will move into their system, thereby increasing the rate of investment, employment, and the overall country’s growth.

WHAT ARE THE NEGATIVE EFFECTS OF QUANTITATIVE EASING ON THE ECONOMY?

  1. When money is injected into the economy, interest rates will drop, and investors will always tend to invest in riskier assets like stocks, real estate, etc.; this can inflate the price of these assets beyond their value, thereby creating asset bubbles. These asset bubbles can burst, and it will lead to economic shambles and instability.
  2. Quantitative easing can lead to the depreciation of the country’s currency due to excessive inflow of money. Weaker currency can make export easier in a competitive market, but the bad side is that it will make importation more expensive.
  3. Quantitative easing prevents deflation and encourages moderate inflation. But if the central bank injects excess money into the economy, inflation will occur, making the cost of living high for consumers, which will gradually kill their purchasing power.
  4. Quantitative easing has some effect in reducing interest rates. This can make the government borrow more money to run the country’s budget. Over time, the debt level of the country will increase, creating a long-term economic risk for the country.

HOW CAN A FOREX TRADER TRADE QUANTITATIVE EASING (QE) PROFITABLY?

  1. Monitor the central bank announcement closely, like the Federal Reserve (FED), European Central Bank (ECB), Bank of Japan (BoJ), and Bank of England (BoE). Any central bank that announces the implementation of quantitative easing in their country will likely experience depreciation of their local currency against the stronger currency like the US dollar.
  2. Currency implementing Quantitative easing is likely to face inflation, followed by devaluation. This will lead to prolonged downtrends. Traders can use tools like trendlines or indicators like moving averages or RSI to catch an entry or an exit.
  3. A trader should check out the fundamental data analysis of the country implementing quantitative easing. Data like interest rate, inflation report, employment rate, etc., can help traders to make a good decision.
  4. Day traders who execute trades within the day should avoid entering trades too early or too late while trading the quantitative easing fundamentals.
  5. Traders should always apply proper risk management as the Forex market can be volatile and risky within that period.

CONCLUSION:

Quantitative easing is one of the monetary policy tools you can use to stabilize the economy by releasing more liquidity into the economy. This is done by the central bank, which involves buying government assets in large quantities without using physical cash.Quantitative easing is good policy to stabilize the economy if well implemented; if not well managed, it can lead to inflation and economic stagnation.Understanding its benefits and risks can help individuals, Forex traders, businesses, and governments to make prior decisions in the financial landscape.