Keynes once remarked that when economists are confronted by novel ideas their initial objections frequently cede into the assertion that there is nothing new.
Amidst the considerable noise and confusion around helicopter money there are some genuine policy innovations and some old policies in new clothes.
The two innovations are:
1) Transfers to the private sector from the central bank financed by changes in base money. These can take multiple forms – direct transfers to households, and transfers by stealth through the banking system, which are already underway in Japan and Europe.
2) Money-financed budget deficits, which attempt to alter beliefs about variables in the future – mainly beliefs about future inflation (points 2 & 3 highlighted here by Bernanke).
The old policy in not-so-well disguised new clothes is simply money-financed government spending. The monetisation of deficits neither deserves nor needs a new name. That this old policy could generate nominal demand in any circumstance is probably beyond doubt – its merits are likely highly conditional on institutional and political structure, a critical feature ignored by the literature, although recently raised by Adair Turner.
I want to focus on why (1) is novel, and is urgently needed, and why (2) is an unhelpful distraction – an artifice of model-building which threatens to derail a project of social value, not least because it is illegal in the Eurozone – the part of the global economy most urgently in need of cyclical stimulus.
The tendency of economists to conflate something new and unfamiliar with something distinct but familiar is doubtless a particular case of a more universal human impulse. It may explain why we use metaphors.
It can also be decidedly unhelpful. For example, if we decide that the central bank is merely an office of the treasury, base money is a government debt, no different to a bond or a bill, and households are synonymous with ‘taxpayers’ then we will quickly conclude that a policy of money-financed transfers from central banks is ‘simply’ fiscal policy in disguise.
It is not unreasonable to respond to such objections with ‘who cares, as long as it works’. As an exasperated Simon Wren-Lewis puts it, helicopter money is what it is. I am inclined to deliver a more robust rebuttal, because I fear analytical complacency and model-based confusion are obstacles to much-needed reform.
The analytical confusion is straightforward: the central bank is not the national treasury; base money is different to government bonds, and a check (or perpetual loan) from an independent central bank is not a tax cut.
None of these distinctions are trivial in practice or in law. Economists seem forever determined to deny the existence of money, or to conflate it with ‘debt’. At least in this regard, the Eurozone is a blessing: only the ECB creates base money. The Greek treasury can issue bills and bonds, but cannot create base money – there is no clearer case for a distinction. Some will argue that this is peculiar to the Eurozone. Why then do we have ‘independent’ central banks? The Eurozone is an extreme; independence is a spectrum. There are good reasons why we want central banks to issue money, and governments to issue bonds. They’re different.
A rare voice of clarity in this discussion, Martin Sandbu at the FT, puts it succinctly: “It is more helpful to call policies involving the government budget fiscal policy and policies involving central bank money monetary policy. That avoids collapsing important distinctions […]”
Central banks are not treasuries in other ways, too. Central banks make decisions that effect the economy instantaneously, after a conference call. Fiscal policy doesn’t work like that.
A perpetual loan or transfer from a central bank to a household is not a tax cut, or that wonderful artefact of US economic marketing ‘a tax rebate’. A perpetual loan from the ECB can’t be reversed, it can’t be ‘temporary’. It is qualitatively different to tax policy. Which of course is not to say that if in the future there is too much base money the central bank cannot take multiple actions to reduce its quantity or alter its effects. This reinforces the difference: a ‘fiscal’ tightening takes a very different form to a monetary tightening.
So my first conclusion is straightforward: money-financed transfers to the private sector from central banks are a policy innovation. This is not ‘just’ fiscal policy. It is very different – and likely far more effective – than any fiscal policies currently on the table.
Now what about the other type of ‘helicopter money’, which involves shocking our beliefs about the future – where words and commitments almost miraculously raise demand?
The tedious theoretical games being played by some economists, which masquerade as policy insights, are confusing at best. The prevalent reference to ‘permanence’ seems determined to haunt us, so it is best addressed head on. The worst of economic theory resembles tautology premised on empirical falsehoods. Consider the relevant example: if I assume changes in spending occur due to the inter-temporal substitution of consumption by households optimising over multi-period, or infinite, time-horizons, it will follow by logical necessity that the effectiveness of policy hinges on expectations about conditions in future periods. The central relevance of ‘permanent’ changes to base money or inflation expectations is not a conclusion derived from robust empirically-grounded macro theory – it’s an assumption.
Worse still it is an empirically false assumption. When the answer to most questions pertaining to our long-term economic futures is ‘don’t know’, households have evolved to be rationally myopic, forming habits, and using sensible rules-of-thumb. Modelling their responses to receiving a check in the post from a central bank could be a daunting task – except we know what they do. Those on lower incomes tend to spend a large share, some save the windfall, others repay debt. Forecasting the increase in demand is imprecise, but far less so than with negative interest rates or QE (we don’t even know the sign of the former). Oh, and households in receipt of a check from the central bank don’t ask, ‘before I spend/save/repay debt with this windfall, can you remind me if the associated change in monetary base is permanent or temporary?’
Now our models care if the change in the monetary base is temporary or permanent, or if inflation expectations change – of course they do, that’s how we designed them. But households ‘know’ that the future path of base money is highly contingent, and if the central bank in some distant boom decides to raise reserve requirements, sell assets, raise loan-to-values, or introduce and tax tiered reserves, none of this is particularly relevant to their current decision-making. For similar reasons, cancelling debt, ‘raising’ inflation targets, announcing that QE is ‘permanent’ is likely to be greeted with a shrug – after all, no one has any more money to spend.
Cyclical weakness in China, and persistent political risk in the Eurozone, is a reminder that we need a contingency plan should the global economy slow further. Fiscal policy has been neutered in the Eurozone and is of questionable efficacy in the rest of the developed world for a host of political and institutional reasons, negative interest rates are likely counter-productive and create financial instability, so too does monetary policy reliant on asset price targeting and increasing leverage. There is scope for policy innovation, contingency planning, and better policies for the long run. As it stands, granting central banks the power to make money-financed transfers to the private sector – as close as possible an approximation to Friedman’s helicopter drop – seems the best on offer.