Quantitative Easing Monetary Policy and Affects of Brexit on EU

I will discuss three topics. In the first part of the essay, I'll explain what Quantitative easing is and how effective this policy has been in achieving growth in the EU. After that, I'll discuss how Britain's exit (BREXIT) from the EU could affect Ireland assuming the euro appreciates relative to the pound over the next few years. At last, I'll explain a topic, that I learnt this year and how this enhanced my understanding of how the economy works.

Quantitative Easing

"Quantitative easing is an unconventional monetary policy in which a central bank purchases government securities or other securities from the market in order to lower interest rates and increase the money supply." (Investopedia)

This policy is designed to inject money directly into the economy. It is because consumers and businesses start to spend less, therefore demand falls, which means there won't be enough money in the economy. The aim is to increase spending to reach the 2% inflation target. It is when for example the Bank of England creates new money electrically to make larger purchases of assets from the private sector. Eg.: Pension funds, insurance companies, high street banks and non-financial firms. The Monetary Policy Committee makes these decisions alongside with each other about the inflation rate and about the purchases of these assets monthly. There are a large number of government bonds, so it's possible to buy them in large quantities fairly quickly. Quantitative Easing does not involve printing money, instead, it is creating money digitally.

When a bank injects money into the economy works in different ways, when a bank buys assets increases their price and reduces their yield as they spend their money on the asset in name. This means the sellers of assets will invest the money they receive into other assets, like bonds or company shares. If the yield is lower, the cost of borrowing is lower too, which encourages households and businesses to spend more.

The bank of England also purchases smaller private debts from corporations in bonds, this makes companies raise money and invest in their businesses.

If people deposit more money into their bank account, commercial banks have more funds which they then can invest in new loans. More bank landing supports spending, spendings are injections into the economy. This technique can be very risky because the banks keep reducing their assets, and can cause a problem in case of crises, that's why the best that the banks can do to buy assets from firms, other than banks.

With the money injected into the economy, the banks should be able to increase spendings to help keep inflation on track. and meet the 2% target. Without this boost the money into the economy would be too low, spending would fall and eventually, inflation would also fall below the aimed 2%. With this technique improvement of the economy can stimulate business and consumer confidence, which then helps to reach the expected 2% inflation rate. (Bank of England, 2018)

In 2016 ECB announced the Quantitative Easing will be extended at least until December 2017. They reduced the QE from €80 billion to €60 billion per month. At that stage, many economists argued and pointed out the possibility for its failure. The reasons were the huge amount of non-performing loans owned by banks this led to more conservatism and less investment despite the increased amount of cash available to banks.

They said that Quantitative easing presents a huge drawback. The banks could undertake too much risk, with buying risky bonds, so-called junk bonds, which could lead to huge losses. Economists said it only can have short-term benefits. The ECB had an effective Policy in 2014 which was called "Target Long-Term Refinancing Operation" (TLTRO). It is about lending money to banks at a relatively low-interest rate, but then banks had to target their lendings on families and businesses. Through this policy the economy could have improved and could have kept low-interest rates, however, the ECB stopped working with this policy as they didn't see the result on the short-run. One of the benefits of the QE could be increased in international trade across the globe. This was the case at the end of 2016. (Tosi, 2016)

Recently the European Central Bank decided to stop the €2.4tn bond-buying programme by the end of the year. The interest rate was record low and the ECB said this will remain unchanged at least until mid-2019. As a reaction for this the Euro started to fall, Ricardo Garcia, chief economist for the eurozone suggested the slide in the euro will pass. (Hudgson, 2018)

However, Mario Draghi stated that ECB's monetary easing has been 'very effective' and will still boost growth and inflation until 2020. He said that they will bring back the inflation rate close to or below the required 2% but need to be patient it will be done on the medium-term. The ECB will stop buying bonds and will reinvest the ones already bought. (Jones, 2018)

Afterall we can say the Quantitative Easing monetary policy was partly working in the EU, the inflation rate was really low, and the ECB hoping it will stay unchanged, however they have decided to stop working with this policy as it became risky and they have bought too many bonds, which now they have to reinvest.

Britain's exit (BREXIT) from the EU

The UK has voted to leave the European Union in June 2016, the actual separation is scheduled at 11 pm UK time on Friday 29 March 2019. There are a few issues that the EU and the UK are working on solving. These issues are: What happens to the UK citizens living abroad and EU citizens living in the UK. What happens with the Northern Ireland border? How much the UK owes the EU? There will be a 21-month Transition Period, which allows businesses and others to prepare for the post-Brexit rules between the UK and the EU.

The Government said Ireland will be hit hard after Brexit. The UK is the second biggest consumer of Irish goods. Northern Ireland which belongs to the UK is the only land that shares borders with Ireland. When UK leaves the EU the free movements of products an people will end. (Symington, 2017)

There are two possible outcomes of Brexit. Hard Brexit or Soft. The Soft would mean the UK would remain with a similar membership of the European Economic Area as Norway, so the country would still have access to the single market while being able to make deals without the rest of the EU. Free access for European nationals to work and settle in the UK would also continue. The Hard Brexit is the opposite, the UK would be out of the single market, the UK would be free to negotiate new trade links.

Ireland is expected to be the most impacted country by Brexit in the EU no matter what type of deal is going to be signed. The agriculture sector would be one of the most affected given the high level of food and drink exports, including cheddar cheese, beef and mushrooms, Guinness etc. This sector could decline by 10-20 % by 2030. (O'Carroll, 2018)

Assuming the pound will weaken against the euro, it will be very expensive for the UK to import Irish goods, but on the other hand, it will be very cost effective for Ireland to import English goods assuming they will sign the soft-Brexit agreement and keep the benefits of the single market trading. However, this would be beneficial for Irish consumers, would be very difficult for England to import from Ireland, this will cause a drop in Ireland's export and therefore in its income and injection into the economy.

Some argued that the companies currently operating in London would relocate to Ireland, would be beneficial for the country creating more job opportunities, others said this could push up house prices and worsen the existing housing crises.

The Irish Economy will grow 7% less in the worst and 2.8% less in the best-case scenario, according to the government's recent report. The following diagram shows the possible outcomes and their effects on the Irish Economy. (Journal, 2018)

According to the independent study carried out by Copenhagen Economics for the Government, all Brexit scenarios will have negative impacts on the Irish economy, including wages, imports and exports. The report also considers the Customs Union scenario, where the EU and the UK could trade most products duty-free, but some products would go through on border inspections and tariffs.

From the all scenarios analysed, the EEA-scenario would minimize the economic loss in GDP for Ireland. "It said the best possible trade negotiation outcome for Ireland involves no tariffs, large quotas for agricultural products, low border costs, low regulatory divergence, and low barriers for service trade. " (Baker, 2018)

The business cycle and the circular flow of income

The business cycle divided into four phases. Recession, through recovery and peek. The cycle lasts from peak to peak to complete the cycle all 4 phases need to be complete.

We can discuss the circular flow of income in a closed economy where there are only households and firms are involved in the economy, goods and services, wages and dividends provided by the firm to the households, factors of production and consumer expenditure are what households provide for the firms. It is a very simplified model. In an opened economy, there is a foreign trade involved too.

The circular flow of income is a very important part of the economy. There are leakages (Savings, Taxation, Imports) and injections (Investment, Government expenditure, Exports). These factors all affect the national income. When injections are greater than leakages, the economic activity (GDP) will rise and vice versa. The economy or the circular flow if income is said to be balanced when leakages and injections are equal. Injections add to the total volume of the basic circular flow., they inject revenue into the market which then used for factor payments and becomes household income. Leakages, on the other hand, it's how the household uses their income. They subtract from the total volume. Looking at all these factors the government can calculate the national income using the Keynesian model. The Circular flow model gives a good picture of the economy, the government can determine from whether the economy is working efficiently or whether there is a disturbance in its smooth functioning and formulating policy measures, therefore studying how it works is essential for getting a good picture of how the economy works. Understanding this cycle made me understand the economy better.

Conclusion

From my research, I found that the Quantitative Easing was an important monetary policy over the past few years, with which the ECB was working toward the targeted 2% inflation rate. They aimed to do this through digitally creating money, buying bonds, and motivating firms and businesses to invest their money and work towards the required rate with this method. However they seemed to be succeeding, they are slowing down the bond buying, and ECB will be ending the Quantitative Easing policy by the end of the year. Sure there will be another action stepping into the place of this policy.

BREXIT is affecting the whole European Union, but it is expected to hit Ireland strong. Will affect Ireland's import and export market, wages and possibly its housing situation. This is because if firms relocate to Ireland from the UK the housing crisis can worsen and mainly the agriculture sector will have a big fall in their income as the UK is one of the biggest importers of Irish products from this area.