Large scale asset purchases (“LSAPs, ” also often referred to as quantitative easing or “QE”) are a tool first deployed by the Bank of Japan in 2001, and then used more widely by the Federal Reserve, European Central Bank, and the Bank of England since the financial crisis. The workings of LSAPs are far less well understood by both central banks and investors than the central banks ’ traditional tool of targeting the overnight interbank interest rate. Over the last few years, given their widespread use by central banks, there has been a surge of empirical and theoretical research that aims to shed light on the workings of LSAPs. In the first part of this paper, we draw from this literature, adding some new theory and evidence, and explain the main channels through which LSAPs affect asset prices and the real economy. In the second part of this paper, based on our findings, we elaborate on the effects of the end of QE, either a cessation of purchases and/or the sale of the Fed’s portfolio. We discuss which asset prices are likely to be most affected, the dynamics of these prices, and the principal challenges the Fed will face in an exit. The findings of the first part of paper can be summarized as follows: The portfolio balance channel of QE works largely through narrow channels that affect the
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