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IG-10yearsofthecrisis-1710-p4-06

Inflation

Inflation

One of the consequences of the dual crises in Europe has been an environment of historically low inflation combined with weak economic growth and key interest rates close to zero. This increases the risks of the economy spiralling into harmful deflation or secular stagnation. To mitigate these risks, the Eurosystem resorted to unconventional measures. With no room remaining to effectively use the interest rate tool, the Eurosystem launched quantitative easing (QE) in 2015. QE relies on large-scale asset (e.g. government bonds) purchases on the secondary markets, aimed at raising inflation, facilitating bank lending, increasing liquidity and the supply of money in the financial system and eventually stimulating the economy through increased consumption and investment. The Bank of Japan implemented similar unprecedented measures in 2001 and the US Federal Reserve (Fed) from 2008. As a result, the balance sheets of these major central banks grew considerably. The Eurosystem and the Fed recently began to taper off their QE operations (not adding fresh assets, but still replacing those that come to maturity). QE programmes have sparked intense policy debate as to their effectiveness. While the central banks point to the positive financial market effects, the rise of inflation to near normal levels and the stimulation of economic growth, it is not certain what their longer-term impact will be. In addition, some experts fear that new financial stability risks may materialise as a result of QE policies.

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