Question

How is the QE approach of the RBA different from that of other major central banks?

Answer 1

Quantitative easing (QE) is a type of monetary policy adopted by central banks in which longer-term securities are purchased by the central banks from the open market to increase the money supply and encourage lending and investments. An unconventional form of monetary policy is generally used by the central banks in case the inflation is negative or is very low and the conventional monetary policy has become ineffective.

A conventional form of monetary policy involves changing of a short-term interest rates (or their policy interest rates). While an unconventional form of monetary policy involves changing other tools instead of the policy interest rates.

QE approach of the Reserve Bank of Australia is different from that of other major central banks as RBA uses unconventional form of monetary policy as compared to conventional form of monetary policy used by other major central banks. RBA, in March 2020, started using unconventional form of monetary policy in response to the economic effects of COVID-19. Below are the approaches adopted by the RBA:

1) Policy interest rate setting: RBA reduced the cash rate target to 0.25 percentage points, which is a lowest ever rate.

2) Asset purchases: RBA stated a program of asset purchases to influence the yield curve in which it purchased government securities. This was focused on the yield of government securities with a three-year term. This was done keeping in mind that the yield of government securities are also an important interest rate in financial markets which influences other interest rates in the economy.

3) Forward guidance: The RBA issued forward guidance which were basically state-based guidance. As per the guidance, the cash rate target would remain at its lowest possible level until progress was made towards full employment. It also stated that the inflation will be sustainably within the 2–3 per cent range.

4) Extended liquidity operations: RBA increased the size of its regular open market operations. It also extended its liquidity operations to include a term funding facility for the banking system which allows banks to borrow from the Bank at low cost. Banks to provide incentives for these lenders for borrowing the additional funds, if they increase the credit supplied to businesses, in particular small and medium sized businesses.