Frances Coppola – Doing “Whatever It Takes”

How to finance the current economic crisis.

Frances Coppola is the author of the Coppola Comment finance and economics blog, which is a regular feature on the Financial Times’ Alphaville blog and has been cited in The Economist, the Wall Street Journal, The New York Times and The Guardian. Coppola is also Associate Editor at the online magazine Pieria and a frequent commentator on financial matters for the BBC

Cross-posted from Frances’s Blog Coppola Comment

The economy slumbers in its induced coma. Businesses are closed, workers furloughed or laid off. But the astonishing headline falls in economic indicaters such as GDP and PMI conceal a grim reality. Businesses are closing not just because they have been ordered to do so, but because they are running out of money. And people who have lost their jobs or become ill are also running out of money. If businesses fail instead of being mothballed, the eventual economic recovery will be slow. And if people die of starvation or untreated disease, what is the point of the lockdown?

Everyone agrees that there is an urgent need to get money to people and businesses so they can stay alive. But the waters are being muddied by terms such as “helicopter money” and “people’s QE” being bandied about with little thought as to what they are, or whether they really would meet the current need. So I want to start by clarifying what, in my view, these terms mean.

In my book, I defined “people’s QE” to mean two different things:

  • direct cash transfers to people and businesses
  • central bank financing of government expenditures

Note that these are both flows. Any form of QE inevitably monetises part of the stock of government debt, but this is not primarily its purpose. Bonds bought by central banks, and money distributed by central banks, remain on the public balance sheet. So both of these alternatives expand the balance sheet of the central bank and, usually, mean an increase in public debt. Public sector debt jubilee requires separate consideration and in my view is not the most urgent need.

Direct cash transfers to households and businesses, and central bank financing of government cash transfers to households, are both colloquially known as “helicopter money”. It’s tempting to imagine the first of these as helicopters dropping pound coins over say, Milton Keynes, and the second as helicopters dropping them over Whitehall. But in reality, in both versions helicopters fly over Milton Keynes. And although in the first version the helicopter has “Central Bank” in large letters on the side, and in the other version it has “Government” on the side, the personnel flying it are the same in both cases. The difference between direct central bank cash transfers and central-bank financed government cash transfers is the purpose for which the helicopter drops are intended, and therefore, where the helicopters fly.

Emergency government cash transfers, such as the US’s $1200 cheques, are primarily intended to relieve hardship. This is true even if they are central bank financed. They usually go to those most in need of money, and they can go to businesses as well as households. Central bank cash transfers, on the other hand, are primarily intended to raise aggregate demand. They work best if they are directed to those with the highest marginal propensity to spend, and therefore can have the effect of relieving hardship, but that is not their primary purpose.

There is an immediate, and I hope obvious, problem with a central bank giving direct cash transfers to businesses that are on the verge of failure. That is credit risk. We have no way of knowing whether businesses that are failing would be viable in other circumstances, or indeed whether they will survive for long after the lockdown. So the central bank would provide liquidity to businesses of questionable viability, presumably without collateral (since many of the businesses in trouble have little in the way of assets) and for indefinite periods of time. It would in effect be disguised government bailout of these companies – even more so were the central bank to take equity stakes, as some have proposed. I would suggest that this assistance should more properly come from the fiscal authorities.

There is a related problem with the idea of the central bank giving emergency cash directly to distressed households. The payments would have to be large enough for households to maintain fixed commitments such as mortgage interest payments and rent. So it would be a disguised bailout of banks and landlords. If the payments were indiscriminate, it would also involve giving a lot of money to people who not only don’t need it, but at the moment have no means of spending it. And if the payments were targeted to people in need, then the central bank would be doing welfare payments. Again, I would suggest that this assistance should more properly come from the fiscal authorities.

But there are deeper problems with the central bank giving direct cash transfers to households and businesses during a lockdown. The purpose of central bank stimulus is to raise aggregate demand and thus return inflation to target. Helicopter money is a powerful tool for achieving this in a normal recession. But in an engineered shutdown, when the government has ordered large parts of the supply side to close down or restrict its activities, stimulating aggregate demand is surely the last thing we need. Staying alive is the imperative.

Some may think distinguishing between aggregate demand stimulus and giving emergency cash to distressed households and businesses is specious. After all, giving emergency cash supports aggregate demand, doesn’t it? But in my view this distinction is crucial. If the purpose of your direct cash transfer is to raise aggregate demand, then it doesn’t matter if some people don’t get the money, or if others save it. You only need a majority to spend the money for aggregate demand to move in the right direction. But if your purpose is to relieve hardship, then it does matter if the people in the greatest need are unable to benefit from the transfer, while others who are not in need receive it. It matters for public accountability. It matters politically, since such a scheme would be widely seen as unfair. And it matters socially, since hardship would not be effectively relieved. Central banks got into enough political hot water with the perceived unfairness of QE. They need to stay well away from this steaming quagmire. But that doesn’t mean they can’t support governments.

The time has come for the second type of “people’s QE”, namely central bank financing of government expenditures. Keeping people and businesses alive in a pandemic is extraordinarily expensive, not just because of the necessary cash transfers, but also because of raised expenditure on health services. Because central banks can create money without limit, they have unlimited buying power in their own currencies. When this power is made available to governments, they can finance the extraordinary expenditures that are needed today without fear of “buyers’ strikes” and debt crisis.

The primary remit of central banks is price stability, and since 2008 they have also taken responsibility for financial stability. At present, inflation is heading fast into negative territory, and there is a serious risk of debt deflation unless failing businesses and distressed households are provided with emergency liquidity. I’ve already explained why the central bank refloating these businesses and households directly is the wrong solution. But if central banks are to come anywhere near meeting their mandates, they must do “whatever it takes” to support governments so they can make the exceptional payments needed by households and businesses. In this situation, close cooperation between central banks and governments is desperately needed.

Central banks can and should buy their own governments’ debt without limit, suppressing yields and thus preventing debt crises such as we saw in 2012. Central banks can provide banks with unlimited liquidity and amend regulatory requirements to ensure they continue to support businesses and households. They can intervene in markets to keep them functioning and prevent damaging volatility. In the present crisis, they can and should lend directly to their governments to smooth cash flow and prevent sudden large bond issues disrupting fragile markets. All of this, I would suggest, is within their price and financial staiblity mandates.

In the last decade, we have seen central banks provide a monetary shield for governments hell-bent on hurting certain sections of their own populations. They are now called upon to provide a monetary shield so that governments can protect their populations and their economies from the effects of a very nasty virus.

Of course, central bank financing of government expenditure is widely feared because of its historic association with hyperinflation. The fact that many governments have historically made considerable use of their central banks’ lending capacity without generating significant inflation gets lost in the shouts of “Zimbabwe!” But this is the deepest slump since the 1930s. The hyperinflation risk is minimal. And if this crisis could once and for all lay to rest the notion that central banks providing governments with the money they need to finance exceptional expenditures in a deep slump is necessarily highly inflationary, that would be a good thing.

Once restrictions have been lifted sufficiently for households to start spending again, central banks might want to consider doing direct cash transfers to households as well as financing government expenditures. Evidence from China is that consumer confidence remains low for some time after restrictions are lifted, and there is also evidence from several countries now that lockdowns may need to be reimposed. This adds up to a long-running demand slump, which could be relieved by direct cash transfers to households after the immediate emergency is over or in the gaps between successive lockdowns.

But whether direct cash transfers are done now or later, the distribution mechanism needs a radical overhaul. The crisis has shown us just how difficult it is to get money to people. Governments have come up with a multitude of schemes, and yet people drop down the cracks between those schemes. The people who most desperately need money are also the most difficult to reach. And government policy can completely exclude some vulnerable groups, such as migrants.

There is an urgent need for a universal payments mechanism that can deliver money to people and businesses fast and efficiently in a crisis. Welfare systems that deliberately create obstacles to obtaining money are incapable of doing this, and systems that deliver money to households rather than individuals are open to abuse. One solution might be to establish an unconditional universal basic income, not as crisis relief but as infrastructure.

Using UBI as crisis relief fails for the reason I have already given: it is by design insufficient for people who are used to earned income, and therefore could not remove the risk of debt deflation unless the payments were raised to extremely high levels, exceeding the earned income of many people and thus creating a real disincentive to work, with potentially highly inflationary consequences. I say this as a supporter of UBI: I don’t want to see it misused like this!

But a low UBI would create a permanent mechanism through which emergency cash payments from fiscal authorites and direct cash transfers from central banks could both be delivered. Governments and central banks use the same helicopters.

So rather than arguing about whether there should be cash transfers, and to whom they should go, and when, we need to concentrate on setting up a reliable mechanism that both governments and central banks can use to distribute money. There are a lot of ideas:

  • central bank accounts for individuals, and potentially also for businesses
  • central bank digital currency delivered to individual wallets
  • secure pre-paid cards, delivered to vulnerable people through agencies working with those people
  • perpetual loans delivered via banks
  • physical cash, delivered via banks or post offices on production of ID
  • deliveries to household bank accounts by reversing local tax systems or utility payments (since local authorities and utilities often have better records of households than central government does)
  • forcing banks to create basic bank accounts for everyone

Most of these carry implications for privacy. Not everyone wants to have a bank account, and not everyone has ID. Governments need to find ways of getting money to people on the margins of society. But this is not really the responsibilty of central banks. If they are to maintain their independence, then they cannot get involved in discussions of who should be entitled to receive money and at what price, except in so far as restricting the distribution of money impacts their own mandates.

Finally, some consideration needs to be given to the role of central banks in an interconnected and dollar-dependent world. The Fed seems now to have accepted its role as dealer-of-last-resort for the world, but so far there is no coordinated central bank action to ward off FX crises in developing countries. Yet debt crises in developing countries have a nasty habit of coming back to bite the developed world. As John Donne had it, “every man is a piece of the continent, a part of the main; if a clod be washed away by the sea, Europe is the less”.

It is surely within the mandates of developed country central banks that they do “whatever it takes” not only to support their own governments, but also to prevent a global depression.

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