The People’s Guide to Quantitative Easing


Quantitative easing. Heard of it? It’s where governments or central banks print money. Well, it’s actually where a central bank buys a set amount of government bonds or other financial assets with money it has printed in order to add money directly into the economy. Basically, this distinction means that the central bank is not just holding the money for itself nor is it giving it away for nothing.

Why not hold the money for itself? Well if they did that then what’s the point of the money even existing?

Why not give the money away since it seems to be free money? First, to make the central bank solvent (printing money costs money and those costs need to be recouped, also because it is a way for the money the central bank printed to show up on how much it is worth even if the money has been added into the economy) and second to make it possible to “unwind” the quantitative easing later on by selling the assets they bought with the printed money and then withdrawing the money they make from that from circulation – more on this point later.

The cases of quantitative easing that you’ve heard of are probably where it’s gone wrong, so let’s examine them first – specifically, Hungary. After the First World War, the Austro-Hungarian empire was broken up into Austria and, well, you can guess what the other country was. This new Hungary, as a new country, didn’t have the money or infrastructure to do anything, so they printed money to get more money to buy more infrastructure to do more things. This went surprisingly well, and by the 1930s Hungary’s economy was doing comparatively well and looked out upon a world severely affected by the Great Depression.

So anyway, the upshot of that was defeat in World War Two and occupation by Communists. The occupying Red Army faced a difficult task in setting up a reasonable post-war economy, and ensured it was a balance between Capitalism and Communism, rather than the scary Communism they were used to back home in the Soviet Union. The plan was to print money to lend to banks at a very low interest rate so that they could lend the money to businesses at a very low interest rate too.

So did Hungary’s quantitative easing work? Well the answer is “no”. In late 1945 everything seemed to be going well (or about as well as it can be when you’re occupied by the USSR) as unemployment fell dramatically as government and industry started employing more people. Then things started to go wrong because the government was printing more and more money to loan to banks to loan to businesses to keep them afloat just to try to sustain this increase in employment. Then things went very wrong and at speed in 1946. As prices rose because the government was printing money, the government responded by printing more money to make sure there was still enough money. But this was what was causing

prices to rise, so this positive feedback cycle very quickly created exponential growth in prices. So by the middle of 1946, Hungary faced an absolutely unthinkable rate of inflation of 150,000% per day. To put that into perspective, suppose you wanted a loaf of bread, and you get to the loaf of bread on the shelf and the price on it reads 2 billion billion pengő, which was the actual going rate for a loaf of bread in Hungary in July 1946. And it takes you three minutes to walk to the till with your loaf of bread. By the time you have walked to the till, the price of the loaf of bread in your hand has increased by 31 million billion pengő.

Nobody is sure how much money was actually in Hungary by the end of the hyperinflation, but one source says that all of the money in Hungary by August 1946 was worth just one tenth of a US cent.

Life under hyperinflation was not great. Wages rose but only at 20% the rate of inflation, pushing even well paid workers into poverty. People referred to notes by their colour because it was easier for the cashier to ask for “two blues, a lilac and a red” rather than “two hundred and ten million and one hundred thousand bilpengő” when you were paying for your shopping. There were stories (potentially apocryphal) about people taking wheelbarrows of money to grocery stores just to be able to afford food, and people largely got by on other currencies or by bartering for goods and services.

The hyperinflation ended when the pengő was replaced by the florint on 1st August 1946. The florint was stable and remains the currency Hungary uses to this day. Under the florint, workers’ wages recovered most of the value that they had lost in the next year and by 1949, Hungary had one of the strongest economies in Eastern Europe. However, in 1949 the Communists properly took power and declared the People’s Republic of Hungary, which made everything much worse than the hyperinflation was until the collapse of the republic in 1989.

So with the situation in Hungary being bad, you would be forgiven for thinking that quantitative easing never works. But, in fact, many countries have been able to succeed when they quantitively eased. After the 2008 financial crisis, many countries performed quantitative easing and these projects were largely successful because the crisis has made large numbers of people unemployed or on lower pay, thereby reducing the amount of disposible income people had to buy things. At the same time, the country’s capacity to provide goods and services did not decrease – there was no destruction of industry, no reduction in farming space and very little change in the number of properties which could be used commercially.

In the United Kingdom, the Bank of England did quantitative easing to the tune of £375billion in the years following the financial crisis. This helped put money back in circulation as well as stop deflation from occurring. However, some economists have argued the government were very lucky that oil prices cratered in the early 2010s, driving down the inflation rate that their large scale quantitative easing could easily have driven up. Even if global oil prices had remained high, we wouldn’t have seen hyperinflation in the UK, but we could have seen inflation rates much higher than the close to 1% that we did see. One long term effect of the quantitative easing is to create something of a debt crisis for the government to the Bank of England, as almost none of this quantitative easing was unwound, meaning that the government of the United Kingdom technically owes the Bank of England £375billion, which might become a problem if the national debt becomes a problem. How much of a problem is the national debt? I don’t even want to go there.

So that brings us to today. Hungary’s quantitative easing failed because their financial woes were caused by the destruction of 80% of their industrial capacity, meaning that there was far less to buy than there should have been – a supply side shock. Printing money doesn’t fix a supply side shock, it just gives people more money to buy the things they can’t buy because there isn’t enough of the things, which makes the already scarce things even more expensive. In the world we see today, a large amount of workers that usually bring goods and services to us are furloughed, meaning that there is far less available to the consumer than there was in February. Indeed, the extent of the supply side shock is obvious given that you only have to look on the baking aisle of a supermarket to see the shortage of goods, and nearly every non-essential service has been made unavailable. This is a supply side shock of epic proportions. And yet, governments around the world are doing quantitative easing.

Now, I know what you’re thinking; you’re thinking: “so the economic conditions now are similar to Hungary, and when they quantitively eased in Hungary they got hyperinflation, which means, if I have my facts correct, that oh no oh no I’m going to need £400million for a chocolate bar and we’ll have to switch to using Wii remotes as currency and WE’RE ALL GOING TO DIE!”

While I can guarantee to the reader that we are all going to die, I would be very surprised if it is because of imminent hyperinflation caused by economic responses to the coronavirus. Suffice to say, we are not likely to face hyperinflation, because even though one element of our current economic crisis is a supply side shock, a larger element is the huge amounts of unemployment and furloughing, all of which conspire to dramatically decrease the amount of money in circulation. Hence, putting more money in circulation to address that new imbalance might be a good thing.

Moreover, the situation in Hungary wasn’t quantitative easing in any sense that we know it in the modern world – an extremely important aspect of quantitative easing is this mechanism by which it can be unwound, and that was of course not present in the Hungarian system in which billions of pengő were dumped into circulation with little further thought. In fact – I have lied to you – most economists would not even call what happened in Hungary quantitative easing at all. But don’t get too alarmed because there are obvious parallels between modern quantitative easing and the actions taken in Hungary in 1946, so my analogy still works.

All that said, it is still important to be cautious about the conclusion that quantitative easing will not cause worrying economic upset – economists aren’t wizards, they might be wrong, and not every economist recommends quantitative easing. But I am far more inclined to trust economists than I am Geoff from the pub who became an armchair economist on Facebook when he learned that his tax money was spent on other people. But are we not all armchair economists and epidemiologists in these strange and troubling times?


Click to access bls_0899_1947.pdf

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Jack Harrison is a Liberal Base columnist and student at the University of Cambridge. He was the author of the blog Minority 2017 from 2017 to 2019. He can be found on Twitter @JackH1010.