QE, QT, and M2: The Tide That Lifts Every Asset

This course has given you two tools: the rate and the words. Both work by moving the price of credit. Now put yourself in the committee's chair in the autumn of 2008. The rate is nearly zero. There's nothing left to cut. The words have been used. And the machine from lesson 2.1 is running backwards at full speed.

What's left is the tool this lesson is about, and it's the one that explains more of what happened to asset prices in your lifetime than the other two combined. It has a technical name that sounds boring. It isn't.

The question: when the rate can't go any lower, what does the committee do, and why does it show up in the price of everything you own?

Late November 2008. Two months after Lehman, in the middle of the credit freeze from lesson 2.1, the Federal Reserve puts out a press release. It'll buy up to a hundred billion dollars of the debt of the housing agencies and up to five hundred billion dollars of mortgage bonds. The stated reason, in the release's words, is to reduce the cost and increase the availability of credit for the purchase of houses.

Nobody calls it what it is. The Fed's own history site says the program came to be known, more popularly, as quantitative easing. The Fed didn't lower a rate. It bought things, with money it made.

Four months later the chairman goes on television to explain it. Scott Pelley, on 60 Minutes, asks Ben Bernanke whether the hundreds of billions the Fed has been spending is tax money.

Bernanke's answer, quoted: "It's not tax money. The banks have accounts with the Fed, much the same way that you have an account in a commercial bank. So, to lend to a bank, we simply use the computer to mark up the size of the account that they have with the Fed."

Pelley asks if that's printing money. Bernanke: "Well, effectively. And we need to do that, because our economy is very weak and inflation is very low." And, a moment later, that it's "much more akin to printing money than it is to borrowing."

The chairman of the central bank said on national television that the tool was, effectively, printing money, and the market's reaction was to buy everything. The balance sheet that had been under nine hundred billion dollars before the crisis passed two trillion within weeks and four and a half trillion six years later.

Then the second run, the one you lived through. March 2020, the world shutting down. The balance sheet goes from four point three trillion in early March to seven point two by June. Three trillion dollars in three months, the fastest tide in the record.

The S&P 500 bottomed in late March. By the end of the next year it had more than doubled. Nothing about the businesses doubled. The water did.

Ask the tycoon's question. Who made the rule? A committee, with a press release. Who gained? Everyone holding an asset priced by lesson 3.1's formula, in proportion to how far away its cash was. Who paid? Everyone holding the money, whose unit was diluted, and everyone who didn't own assets, who watched them run away.

Three numbers get mixed up in every conversation about this, and the lesson is mostly keeping them apart. Here's the tool first.

Quantitative easing means the central bank buying bonds, usually its own government's, with money it creates by typing. Step one is the purchase. The Fed buys a ten-year Treasury from a bank. It pays by marking up the bank's account at the Fed, exactly as Bernanke described. The money didn't exist a second earlier.

Step two is the reserve. The bank now holds cash at the Fed, called a reserve, instead of a bond. The bond is off the market. There's one fewer safe asset in the world to buy, and one more pile of cash that needs a home.

Step three is the push. With safe bonds scarcer, their price rises and their yield falls, which is lesson 3.1's rate going down. Every investor who wanted that yield is pushed one step out to get it: from bills to bonds, bonds to stocks, stocks to the far end of the board, the long-duration things from lesson 3.2. It's the same money looking for the same return one rung higher.

That push is why the tool reaches things the Fed never buys. It never bought a share of stock or a house. It bought the safest asset in the world, and by making that scarce it sent every other buyer up the ladder. The far end of the board, the long-duration things from lesson 3.2, got the most of the push because it had the most room to reprice.

Step four is the tide. Every asset priced by the formula rises at once: the rate in the denominator fell, and the cash in the system rose. The tool doesn't lend to you and doesn't buy your stock. It changes the water level, and every boat on the water rises, the longest ones most.

Step five is the drain, and it has its own name. Quantitative tightening is the reverse: the Fed lets bonds mature without buying new ones, and the cash that paid for them is deleted. The water goes out, slowly, and the boats fall in the same order they rose. That's what's been running since the 2022 peak.

Now the three numbers. The policy rate is the price of overnight money; the committee sets it. The balance sheet is the pile of bonds the Fed has bought with created money; that's the tide. M2 is the money the public actually holds, in cash, checking, savings and money-market accounts. It's moved by bank lending, the mechanism from lesson 2.1, by government spending, and by the Fed's purchases when they reach the public.

They're related but not the same. The Fed can buy trillions and M2 can barely move if the cash sits in reserves. That's roughly what happened through the 2010s. In 2020, with the government sending checks at the same time, M2 jumped forty percent in two years, and this time it reached the shops, and lesson 2.2's heat followed.

The water level, from 2007 to this month. Under nine hundred billion at the start. The 2008 step, the plateau at four and a half trillion, a small drain, the 2020 wall, the peak near nine trillion in the spring of 2022, and the slow drain since to six point seven four.

Every asset chart you've ever looked at has this one underneath it.

The money that reached the economy. Find the spring of 2020: M2 went from fifteen and a half trillion to nearly twenty two trillion in two years. That's the forty percent.

It dipped in the drain, and it's back to a record twenty three point two trillion this summer, because the banks from lesson 2.1 kept lending while the Fed drained.

Now the three numbers side by side, so they stay apart.

The rate at three point six three. The balance sheet at six point seven four trillion, down from the peak but eight times where it stood before the first purchase. M2 at a record.

Read those together with the board from the end of the last course: the committee is cutting the rate and draining the balance sheet at the same time, while the money in the economy keeps growing on its own. Three tools, pointed in more than one direction.

The incentive map. Who made the rule? The committee, and it's the least constrained rule in this course: no vote, no budget, a press release. Who gained on the way up? Every asset holder, and the holders of the longest assets most, which is the incentive map from lesson 2.4 with a pump attached.

Who paid? Holders of the money, and everyone who was renting an asset rather than owning it when the tide came in. Who pays on the drain? The same list, reversed, and slower.

Here's the reveal. The tool was described by its own operator as effectively printing money, and the thing it printed into wasn't consumer prices for a decade. It was asset prices. The inflation the money course taught you showed up first on the board, not at the shops, and a whole generation learned to call that a bull market.

A digital tycoon builds in a world where the water level is set by a committee. The office reads the lesson three ways.

First, watch the tide before the boats. The balance sheet is a public weekly number. Before the office asks whether a holding is cheap, it asks whether the water is coming in or going out, because that answers more of the question than the holding does.

Second, know which of your assets are boats and which are the shore. Everything priced by the formula floats: stocks, bonds, buildings, your business at sale. A scarce thing with no issuer doesn't float the same way; it's priced by how much of it exists against how much money exists, which is a different sentence. The office holds both and writes down which is which.

Third, don't mistake the tide for the slope. Lesson 2.4 gave you the one line that grows without borrowing. The tide isn't that. A price that rose because the water rose will fall when it drains, unless there's productivity underneath it. The office's written reason for every position has to name which one it's standing on.

Our paper fund reads it by its rules, and its score against Bitcoin alone is the tide test: an asset whose supply no committee can raise, held next to a board the committee floats.

• On November 25, 2008 the Federal Reserve announced purchases of up to $100 billion of GSE direct obligations and up to $500 billion of mortgage-backed securities, "to reduce the cost and increase the availability of credit for the purchase of houses." Federal Reserve press release.
• Ben Bernanke to Scott Pelley, 60 Minutes, aired March 15, 2009: "It's not tax money. The banks have accounts with the Fed, much the same way that you have an account in a commercial bank. So, to lend to a bank, we simply use the computer to mark up the size of the account that they have with the Fed." Asked if he'd been printing money: "Well, effectively. And we need to do that, because our economy is very weak and inflation is very low." And: "much more akin to printing money." CBS News.
• Federal Reserve total assets (WALCL): $869.1 billion on October 3, 2007; $2,106.1 billion on November 26, 2008; $4,486.8 billion on October 29, 2014; $3,759.9 billion on August 28, 2019; $4,311.9 billion on March 11, 2020; $7,168.9 billion on June 10, 2020; $8,965.5 billion on April 13, 2022; $6,740.6 billion on September 9, 2026. FRED.
• M2 (M2SL): $7,873.6 billion in September 2008; $15,492.8 billion in February 2020; $21,768.4 billion in April 2022 (+40.5 percent); $20,737.5 billion in October 2023; $23,218.0 billion in July 2026. FRED.
• S&P 500: 2,237.40 on March 23, 2020; 4,766.18 on December 31, 2021; +113 percent. FRED.
• Federal funds effective rate: 3.63 percent in August 2026. FRED.
• The Federal Reserve's own history describes the November 2008 program as the first of the large-scale asset purchases, "known more popularly as quantitative easing." Federal Reserve History.