Quantitative Easing (QE): central bank policy explained

By Ken Chigbo, Founder, KenMacro. Published 2026-05-13.

What is quantitative easing?

Quantitative easing is a balance sheet operation in which a central bank, such as the Federal Reserve, European Central Bank, Bank of England or Bank of Japan, creates new reserves to buy government bonds, mortgage-backed securities or other eligible assets from the banking system. The purchases expand the size of the central bank’s balance sheet and the supply of bank reserves. By bidding for duration, the central bank suppresses longer-dated yields, compresses term premia and pushes investors towards riskier assets. QE is typically deployed when the short-term policy rate is at or near its effective lower bound and additional easing is judged necessary.

How traders use quantitative easing

Retail and institutional desks treat QE announcements as regime signals rather than isolated events. When a central bank begins or expands purchases, the desk expects lower real yields, a softer domestic currency on the announcement, tighter credit spreads and a tailwind for equities and gold. The opposite reaction tends to follow when purchase pace is tapered or balance sheet runoff is announced. Macro traders track the published purchase schedules, the duration profile of holdings and weekly balance sheet data from each central bank to gauge actual liquidity flow. Cross-asset analysts also watch the relative pace of QE between jurisdictions, since divergence in balance sheet trajectories drives medium-term currency trends, particularly across EUR/USD, USD/JPY and GBP/USD over multi-month horizons.

Common misconceptions about quantitative easing

QE is often described as printing money, but the mechanics are narrower. The central bank creates reserves held inside the banking system, not physical currency in public circulation. Whether this translates into broad money growth depends on bank lending behaviour and credit demand, which is why large QE programmes have at times coincided with low inflation. A second misconception is that QE directly funds government spending. The bonds are purchased on the secondary market from existing holders, not issued directly to the central bank, though the desk recognises the line between monetary and fiscal policy becomes blurred at scale.

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Frequently asked

What is the difference between QE and lowering interest rates?

Lowering the policy rate adjusts the cost of overnight borrowing and influences short-term money market rates directly. QE instead targets longer-dated yields by purchasing duration from the market, compressing term premia further along the curve. Central banks typically turn to QE only after the policy rate has already reached its effective lower bound, where further conventional cuts are either impossible or judged counterproductive. The two tools can also operate together within a wider easing package.

Does quantitative easing cause inflation?

The relationship is not mechanical. QE creates bank reserves, but those reserves must be lent and spent through the real economy to generate broad money growth and price pressure. After the 2008 crisis, large QE programmes coincided with persistently below-target inflation across the United States, eurozone and Japan. The 2020 to 2022 episode produced a stronger inflation response, though fiscal transfers, supply chain disruption and energy shocks contributed significantly alongside the balance sheet expansion.

How does QE affect forex markets?

QE tends to weaken the announcing currency on impact, as lower real yields reduce its carry appeal and investors rotate towards higher-yielding alternatives. The desk watches relative balance sheet trajectories closely: when one central bank expands while another holds steady or tightens, the divergence typically drives a sustained trend in the affected pair. EUR/USD, USD/JPY and GBP/USD have historically shown strong sensitivity to expected differences in Federal Reserve, ECB, Bank of Japan and Bank of England balance sheet paths.

What is quantitative tightening?

Quantitative tightening, or QT, is the reverse of QE. The central bank shrinks its balance sheet either by allowing maturing bonds to roll off without reinvestment or, less commonly, by selling assets outright. QT drains reserves from the banking system and can lift longer-dated yields, tighten financial conditions and support the domestic currency. Markets typically scrutinise the announced pace, the asset composition being reduced and any caps on monthly runoff to gauge the policy impact.

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