The difference between quantitative easing and an increasing fiscal deficit is that the former creates no new net financial assets in the currency of issue.
Answer: True
The answer is True.
Quantitative easing then involves the central bank buying assets from the private sector - government bonds and high quality corporate debt.
So what the central bank is doing is swapping financial assets with the banks - they sell their financial assets and receive back in return extra reserves.
The central bank is thus buying one type of financial asset (private holdings of bonds, company paper) and exchanging it for another (reserve balances at the central bank).
The net financial assets in the private sector are in fact unchanged although the portfolio composition of those assets is altered (maturity substitution) which changes yields and returns.
In terms of changing portfolio compositions, quantitative easing increases central bank demand for "long maturity" assets held in the private sector which reduces interest rates at the longer end of the yield curve.
These are traditionally thought of as the investment rates. This might increase aggregate demand given the cost of investment funds is likely to drop.
But on the other hand, the lower rates reduce the interest-income of savers who will reduce consumption (demand) accordingly.
How these opposing effects balance out is unclear but the evidence suggests there is not very much impact at all.
Expansionary fiscal policy adds net financial assets to the non-government sector by way of contradistinction to QE.
Like all government spending, the Treasury would credit the reserve accounts held by the commercial bank at the central bank. The commercial bank in question would be where the target of the spending had an account. So the commercial bank's assets rise and its liabilities also increase because a deposit would be made.
The transactions are clear: The commercial bank's assets rise and its liabilities also increase because a new deposit has been made. Further, the target of the fiscal initiative enjoys increased assets (bank deposit) and net worth (a liability/equity entry on their balance sheet). Taxation does the opposite and so a deficit (spending greater than taxation) means that reserves increase and private net worth increases.
This means that there are likely to be excess reserves in the "cash system" which then raises issues for the central bank about its liquidity management.
But at this stage, M1 (deposits in the non-government sector) rise as a result of the deficit without a corresponding increase in liabilities. In other words, fiscal deficits increase net financial assets in the non-government sector.
What would happen if there were bond sales? All that happens is that the banks reserves are reduced by the bond sales but this does not reduce the deposits created by the net spending.
So net worth is not altered. What is changed is the composition of the asset portfolio held in the non-government sector.
The only difference between the Treasury "borrowing from the central bank" and issuing debt to the private sector is that the central bank has to use different operations to pursue its policy interest rate target.
If it debt is not issued to match the deficit then it has to either pay interest on excess reserves (which most central banks are doing now anyway) or let the target rate fall to zero (the Japan solution).
There is no difference to the impact of the deficits on net worth in the non-government sector.
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