The Times is running a fortnightly series of briefings to coincide with Target Two Point Zero, the Bank of England’s competition for sixth-form students run in conjunction with this newspaper. The contest challenges students across Britain to play the role of the Bank’s Monetary Policy Committee (MPC) and recommend the best level for interest rates. This week: Quantitative Easing.

What is Quantitative Easing (QE)?

The Bank’s MPC has one aim — to keep inflation close to its target rate of 2 per cent over the medium-term, usually defined as two years. To do this, it adjusts interest rates to either boost or dampen activity in the economy if inflation threatens to undershoot or overshoot the target. Once the base rate reached a historic low of 0.5 per cent in March, the MPC had little scope but to cut it further, and so turned to this alternative method of pumping money into the economy.

Why do people talk about “printing money”?

In the past, a decision to pump more money into the economy would have involved actually printing more notes and circulating them. These days, the “new” money is created electronically.

How does it work?

The Bank holds reverse auctions of gilts and other corporate bonds — ie: it offers to buy them from institutions, such as banks. In return for the gilts or bonds, the Bank credits those institutions with “new” money it has created in accounts held at the Bank. The theory is that as the banks have more money at their disposal, they will lend more — helping to boost the economy. QE also has a knock-on effect on the cost of bonds as competition steps up, driving down the interest rates on these bonds, which form a benchmark for rates charged on other loans.

What has the MPC done so far?

The Committee had directed the Bank to pump in £175 billion so far by buying up £172 billion in gilts and £3 billion of corporate bonds and commercial paper. Last week it voted to buy another £25 billion in the next three months, a total of £200 billion.

Is it working?

Since QE is relatively new, even the Bank has admitted that it is difficult to measure how successful it has been. The Bank’s preferred gauge of money supply, M4 excluding flows to non-bank financial intermediaries, which it monitors to see if QE is filtering through, fell at a record rate between July and September. Official data shows that lending is still fairly stagnant, although mortgage lending has picked up from record lows last year.

There are fears that banks are using the money to shore up their capital or pay off debts, rather than lending more or increasing their activity. However, the Bank has said that it could take six months or more for the full effects of QE to filter through.

Won’t QE push up inflation?

There is a risk of this, but the Bank is sanguine about the longer-term threat of spiralling inflation as it is using QE to stave off deflation. Adam Posen, an MPC member, said recently that those who believed that QE could pose an inflationary threat in the present conditions were “nutters”.

When will it end?

Nobody knows. The Bank’s latest £25 billion tranche of purchases will be completed in February, but the MPC could decide to extend the £200 billion limit again.

The competition

More than 1,000 UK school and college students are gearing up to step into the shoes of the Bank of England’s rate-setting Monetary Policy Committee to try to win £10,000 in the annual Target Two Point Zero competition, run by the Bank of England in conjunction with The Times.

Teams of four students aged 16 to 18 from more than 300 schools will decide how interest rates should move and what measures to take to keep inflation at the 2 per cent target.

Complex issues this year include quantitative easing, the monetary policy used by the Bank to inject money into the economy to try to curb the recession.

Each team will use economic data, such as producer prices, retail sales and unemployment rates to assess what is happening in the economy. The teams present their findings to a panel of three Bank of England judges at both the regional heats this month and at the area finals.

The top six teams will compete at the Bank of England in March.

As well as the £10,000 prize for their school or college, the winning team will bring home the Interest Rate Challenge Trophy. Last year’s winners were from Peter Symonds College, Winchester. The second-placed team receives £5,000; third place earns £2,000; and three more collect £1,000 each.

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