QT as a Policy Tool

Genevieve Signoret & Delia Paredes

(Hay una versión en español de este artículo aquí.)

Today we share an excerpt from the latest edition of our report, Quarterly Outlook 2023–2025: Soft Landing Yet Again, where we present three scenarios for the global economy over the next two years. You can think of our scenarios as train tracks: each takes the economy in a different direction. A scenario is built on a group of assumptions. Our three sets of assumptions “pivot” the economy from one track to another.

QT as a Policy Tool

For the global economy, we assume first of all that quantitative tightening as a monetary policy tool will prove effective, but weakly so.

Quantitative Tightening (QT) is the process whereby central banks allow securities in their portfolios such as long-term bonds to mature without replacement. It shrinks the size of their balance sheets. It is intended to weaken demand for such bonds, driving up rates and thereby tightening financial conditions.

Central banks hope that QT will them help combat inflation. This weapon now being deployed, however, have never been tried. So all eyes are on incoming data.

So far, we’re not picking up from the data any kind of clear relationship between QT and financial conditions.

Of course, that doesn’t mean there is none. Perhaps the effect will be strong and is merely lagging. We assume under our central scenario that QT has some effect, that the effect is weak, and that it will not become strong with a lag.

In our forecast, our assumption that the effect of QT is not nil contributes to the growth slowdown. The assumption that the effect is weak contributes to the fact that recession for the United States is avoided and for Europe is shallow and short.