Explain the effect of an increase in Quantitative Easing on i) the price of bonds ii) the yield from a bond. (6)

Quantitative Easing (QE) is a monetary policy tool used by central banks to stimulate the economy when standard monetary policy has become ineffective. It involves the central bank purchasing government bonds or other securities to increase the money supply and encourage lending and investment.

i) Effect on the price of bonds: When the central bank implements QE, it purchases a large amount of government bonds. This increases the demand for these bonds. According to the law of demand, when demand for a product increases while supply remains constant, the price of the product increases. Therefore, an increase in QE leads to an increase in the price of bonds.

ii) Effect on the yield from a bond: The yield of a bond is inversely related to its price. This means that when the price of a bond increases, its yield decreases. Therefore, an increase in QE, which increases the price of bonds, leads to a decrease in the yield from a bond. This is because the fixed interest payment of the bond becomes a smaller percentage of the price of the bond as the price increases.