Quantitative Monetary Easing and Risk in Financial Asset Markets

55 Pages Posted: 19 Dec 2004

See all articles by David H. Small

David H. Small

Federal Reserve Board - Monetary Studies Section

Takeshi Kimura

Bank of Japan

Date Written: September 2004

Abstract

In this paper, we empirically examine the portfolio-rebalancing effects stemming from the policy of quantitative monetary easing recently undertaken by the Bank of Japan when the nominal short-term interest rate was virtually at zero. Portfolio-rebalancing effects resulting from the open market purchase of long-term government bonds under this policy have been statistically significant. Our results also show that the portfolio-rebalancing effects were beneficial in that they reduced risk premiums on assets with counter-cyclical returns, such as government and high-grade corporate bonds. But, they may have generated the adverse effects of increasing risk premiums on assets with pro-cyclical returns, such as equities and low-grade corporate bonds. These results are consistent with a CAPM framework in which business-cycle risk importantly affects risk premiums. Our estimates capture only some of the effects of quantitative easing and thus do not imply that the complete set of effects were adverse on net for Japan's economy. However, our analysis counsels caution in accepting the view that, ceteris paribus, a massive large-scale purchase of long-term government bonds by a central bank provides unambiguously positive net benefits to financial markets at zero short-term interest rates.

Keywords: Bank of Japan, CAPM, portfolio-rebalancing effect, quantitative monetary easing, risk premium, zero interest-rate bound

JEL Classification: E40, E58, G12

Suggested Citation

Small, David H. and Kimura, Takeshi, Quantitative Monetary Easing and Risk in Financial Asset Markets (September 2004). FEDS Working Paper No. 2004-57. Available at SSRN: https://ssrn.com/abstract=633201 or http://dx.doi.org/10.2139/ssrn.633201

David H. Small (Contact Author)

Federal Reserve Board - Monetary Studies Section ( email )

20th and C Streets, NW
Washington, DC 20551
United States

Takeshi Kimura

Bank of Japan ( email )

CPO Box 203
Tokyo, 100-91
Japan

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