Superb post from Fergus Cumming of BoE.
When Friedman famously conjured up images of banknotes fluttering from helicopters in 1969, perhaps he knew he was about to inspire decades of sky-bound puns and policies in the name of deflation avoidance. Helicopter money goes beyond standard fiscal and monetary policy by boosting economic activity using money created by the central bank – money that does not have to be paid back. To its modern advocates, the tale is one of blue-sky thinking that could avert the next recession. But is this just pie in the sky? This post discusses why such a policy is different to quantitative easing, why it is unlikely to have much impact relative to conventional fiscal measures and the pitfalls associated with pursuing it.
Friedman’s metaphor was all about printing and distributing physical banknotes. In practice, a modern helicopter drop would be a joint operation between a government and a central bank. First, the government would carry out a bond-financed tax cut or spending programme to transfer resources to firms and households. The central bank would then simultaneously buy the equivalent amount of government debt in the secondary market in exchange for reserves; in a manner that would be observationally similar to the quantitative easing (QE) programmes that some central banks have conducted to date. The key distinction between a helicopter drop and QE is that the former is permanent, while the latter is expected to be – and eventually is – unwound.
As it is permanent, a central bank has to credibly tell people that this will not be unwound in future and is permanent. This will mean giving up future inflation targets as well which is difficult in today’s environments. There is nice balance sheet explanation as well.
For helicopter money to work, households and firms have to believe that all future central bankers and governments want to abandon inflation targeting. That seems implausible given current institutional set-ups. Convincing people of the policy’s irreversibility will therefore require threatening to impose large costs on society at a future date. While fiscal policy may stimulate growth, the extra kick from helicopter money is either non-existent or comes with a sky-high price tag. Let’s leave it to the eschatologists.