The Federal Reserve is concluding its policy known as quantitative easing by gradually reducing its bond purchases and the accumulation of unused bank reserves. This has aided in bank lending. The likelihood of additional progressive normalization of Fed policy should boost economic appreciation higher than the current sluggish GDP growth and lack of jobs that have been a challenge since 2008. Those pursuing ACCA certification would be greatly interested in this topic.
The Fed had one clear objective with QE, which was to bring down long-term interest rates and not to heighten credit or bank lending. Ever since the 2008 economic downturn, the intention was to lower bank risks and prevent the increase in comprehensive credit. This move comes amidst Fed’s facilitated increased credit to improve the bond.
Jan 1 is the date when Fed officially launched plans to scrap Quantitative Easing program leading to an upsurge in commercial and industrial lending. This category of bank lending is essential and a typical origin of credit for SME’s and new businesses. In 2009-2013, there was no substantial growth but as soon as the taper was initiated, the 16% yearly rate became a reality in the first quarter. This is a typical economic evaluation topic that can be useful to CIMA students to evaluate Fed’s decision to make changes to its monetary policy.
It is anticipated that when Fed ceases acquiring bonds, the IOUs (bank reserves); the Fed payments made to banks in return for purchased bonds will hit an estimate of $3 trillion in late 2014. Previously, bank reserves were regarded to be instruments for regulating the monetary base and therefore variations had an impact on bank lending. Banks were expected to have in their possession substantial reserves to support their depositors. High bank reserves would have lowered the bank’s system aptness to take in further deposits or create more loans.
U.S. regulators in recent times have switched to direct banks regulation as opposed to supervising bank leading using bank reserves. In an Apr. 3 media briefing, Mario Draghi, the President of European Central Bank disassociated monetary policy from bank reserves and stressed the importance of gauging monetary policy using the euro exchange rate. This news can be found on the ACCA online and CIMA online for those who would be interested to read further.
Apart from buying bonds, the Fed has anticipated some motivation because of the near-zero interest rates. Borrowers have been inspired when interest rates are reduced. The Fed has been insisting on near-zero rates. However, such a level only makes sense in case of a financial crisis because it is way lower than the standard rate used on the market. This sounds more of a price restriction on credit as opposed to a stimulus policy. According to CIMA online study, one of the strongest principles of economics is that price controls destabilize markets and lower supply, a move unfair to new entrants. On the other hand, eliminating price controls fixes the harm.
Subsequent steps in recovery of policy will become a reality if genuine GDP growth for two-quarters remains past 3.5% as expected. This, in turn, should compel Fed to backtrack on its near-zero rate policy. This will not be good news for Wall Street. However, marginal growths in interest rates will facilitate interbank markets to reconstitute and small and middle-class businesses benefitting thanks to slow reassertion of market-driven credit allocation. This is a typical example of an ACCA online study of how governments have used monetary policies to control lending.