DOES QUANTITATIVE EASING WORK?

This paper aims at evaluating the effects of the Federal Reserve’s quantitative easing (QE) programs on economic activity and prices using VAR models. The analytical framework does not take into consideration any of the transmission channels –portfolio rebalancing, signaling, risk-taking or fiscal channel – frequently mentioned in the literature but explores new assumptions related to the transmission mechanism of QE. On the one hand, it is assumed after Menon and Hee Ng [1] and Herbst et al. [2] that the transmission mechanism of QE might be ineffective for the liquidity injected increases bank reserves instead of fueling credit to the economy. On the other hand, following Fisher [3], it is assumed that as QE drives down yields in an environment where the short-term policy rate is essentially equal to zero, it alters the risk perception/tolerance of investors and could in this respect fuel speculation without stimulating the real economy. The results reveal that QE has a positive and significant effect on economic activity while the effect on prices is weak and insignificant. Furthermore, it is found that the zero lower bound on policy rate does not alter the macroeconomic effects of QE. Finally, the paper finds evidence supporting the speculation trap but not the reserve trap.