Foreign Affairs magazine recently published an article by Mark Blyth and Eric Lonergan about how central banks should use “helicopter drops.” That means to increase the money supply by giving money directly to households rather than by loaning money by buying bonds from banks. It is worth a try. Blyth and Lonergan start by explaining that Japan has been in a prolonged “secular stagnation” of low growth and high unemployment since 1990. That is almost a quarter century already, and since 2008, the US and Europe seem to be repeating Japan’s economic experience. Ironically, Ben Bernanke argued for trying “helicopter drops” in Japan before he became the chair of the US central bank and then seemed to forget his earlier prescription once he became a policymaker.
Ben Bernanke argued that central bankers could still turn the country around. Japan was essentially suffering from a deficiency of demand: interest rates were already low, but consumers were not buying, firms were not borrowing, and investors were not betting… Bernanke argued that the Bank of Japan needed to act more aggressively and suggested it consider an unconventional approach: give Japanese households cash directly. Consumers could use the new windfalls to spend their way out of the recession, driving up demand and raising prices.
As Bernanke made clear, the concept was not new: in the 1930s, the British economist John Maynard Keynes proposed [this]… The conservative economist Milton Friedman also saw the appeal of direct money transfers, which he likened to dropping cash out of a helicopter. Japan never tried using them, however, and the country’s economy has never fully recovered. Between 1993 and 2003, Japan’s annual growth rates averaged less than one percent…
Rather than trying to spur private-sector spending through asset purchases or interest-rate changes, central banks, such as the Fed, should hand consumers cash directly. In practice, this policy could take the form of giving central banks the ability to hand their countries’ tax-paying households a certain amount of money. The government could distribute cash equally to all households or, even better, aim for the bottom 80 percent of households in terms of income. Targeting those who earn the least would have two primary benefits. For one thing, lower-income households are more prone to consume, so they would provide a greater boost to spending. For another, the policy would offset rising income inequality.
Distributing cash equally to all households would also reduce inequality by almost as much because even a few thousand dollars per year would be a trivial change for the top 20% richest households. Equal cash would be more politically popular and easier to administrate, so I would start there. Even though it would not be as efficient at reducing unemployment, it would be more politically feasible. Blyth and Lonergan continue:
Such an approach would represent the first significant innovation in monetary policy since the inception of central banking, yet it would not be a radical departure from the status quo. Most citizens already trust their central banks to manipulate interest rates. And rate changes are just as redistributive as cash transfers. When interest rates go down, for example, those borrowing at adjustable rates end up benefiting, whereas those who save — and thus depend more on interest income — lose out…
critics warn that such helicopter drops could cause inflation. The transfers, however, would be a flexible tool. Central bankers could ramp them up whenever they saw fit and raise interest rates to offset any inflationary effects, although they probably wouldn’t have to do the latter: in recent years, low inflation rates have proved remarkably resilient…
There is no need, then, for central banks to abandon their traditional focus on keeping demand high and inflation on target. Cash transfers stand a better chance of achieving those goals than do interest-rate shifts and quantitative easing, and at a much lower cost. Because they are more efficient, helicopter drops would require the banks to print much less money. By depositing the funds directly into millions of individual accounts — spurring spending immediately — central bankers wouldn’t need to print quantities of money equivalent to 20 percent of GDP…
Using cash transfers, central banks could boost spending without assuming the risks of keeping interest rates low. But transfers would only marginally address growing income inequality, another major threat to economic growth over the long term…
beneficiaries could be required to retain the funds as savings or to use them to finance their education, pay off debts, start a business, or invest in a home. Such restrictions would encourage the recipients to think of the transfers as investments in the future rather than as lottery winnings. The goal, moreover, would be to increase wealth at the bottom end of the income distribution over the long run, which would do much to lower inequality.
I have to object about requiring beneficiaries to “retain the funds as savings” or use them to “pay off debts”. That would be fine in times of low unemployment, but during a normal recession, it would reduce demand. Of course, the 2008 crisis was not an ordinary recession. It was a financial crisis and the US Treasury (TARP program) and the Fed flooded the banks with trillions of dollars to shore up their balance sheets. In this sort of recession, funding the banks by letting ordinary households pay them could be a good idea. Blyth and Lonergan:
If cash transfers represent such a sure thing, then why has no one tried them? The answer, in part, comes down to an accident of history: central banks were not designed to manage spending. The first central banks, many of which were founded in the late nineteenth century, were designed to carry out a few basic functions: issue currency, provide liquidity to the government bond market, and mitigate banking panics.
This is a good point. Central banks originated as a way to help the banking system, not as a way to manage recessions. It just so happened that helping the banking system also had a big effect on recessions, and as people have come to realize this, the role of central banks has gradually expanded. However, Blyth and Lonergan’s article demonstrates that our political leaders still don’t understand the economic power of central banks to impact the economy. Barack Obama is a key example. His biggest mistake of his presidency has been to ignore Fed policy because he is ignorant of the power of monetary policy.
The fact that central banks grew out of the needs of the banking system is why the Fed’s real mission, which is written into its charter, is mostly to help the banks rather than its so-called “dual mandate” which was tacked on later. The Fed mostly ignores the fight-unemployment part of its “dual mandate” because it’s governance and organizational form has always been structured to support the banks rather than to help workers. One of the organizational structures that prevents giving money to households is the Fed’s practice of using balance-sheet accounting, as Blyth and Lonergan point out:
A second factor explaining the persistence of the old way of doing business involves central banks’ balance sheets. Conventional accounting treats money — bank notes and reserves — as a liability. So if one of these banks were to issue cash transfers in excess of its assets, it could technically have a negative net worth. Yet it makes no sense to worry about the solvency of central banks: after all, they can always print more money.
The positive side of the Fed’s balance sheet should also include the growth of the economy as a whole. That is the real value of Fed activity. And, it really makes no sense to worry about debts (the negative side of the balance sheet) when you can print money to pay them off. The Fed is unique and deserves a unique form of accounting rather than pretending that it has the same kind of balance sheet as any other bank.
There is no technical reason nobody has tried using monetary policy to directly help households rather than banks. The reason is purely ideological. It isn’t politically popular yet. Right now it is more popular for the Treasury and the Fed to directly help the banks with trillions of dollars that only trickles down to the rest of us through lower interest rates. But why should that be more popular than helping ordinary people? The banks aren’t politically popular, particularly after their irresponsible lending brought down the global economy in 2008. It seems inevitable that the median voter will wake up in the long run and realize that Fed policy could be more powerful by using its money to directly help ordinary households and let that money trickle up to help the banks. Although this ideology will undoubtedly change in the long run, that could take a century. In the long run we are dead. So spread the idea and speed it up. There is nothing stopping us but the failure of our popular ideas.