Several new articles have appeared in the last few weeks in the major media outlets expressing surprise that central banks have had little effect on economic growth despite the rather massive buildup of their ‘balance sheets’ via various types of quantitative easing programs. I have indicated before that I am coming to the view that most of the media, politicians, central bankers and other likely types (IMF and European Commission officials etc) seem to be in a constant state of ‘surprise’ as each day of reality fails to confirm what they said yesterday or last week (allowing for lags :-)). What a group of surprised people we have to effectively run our nations on behalf of capital. Poor souls, constantly be shocked out of their certainties. That is what Groupthink does – creates mobs that deny reality until it smacks them so hard in the face that they can only utter “that was surprising!” And in that context, the latest media trend appears to be something along the lines of ‘well let’s get the turbines moving’ or ‘those helicopters are about to launch’ and when we read that and what follows we learn that the media input into our lives only reinforces the smokescreen of ignorance that we conduct our daily lives within.
I have written about this topic before and won’t go into all the gory detail again:
1. Keep the helicopters on their pads and just spend
2. OMF – paranoia for many but a solution for all
3. Overt Monetary Financing – again
4. Takahashi Korekiyo was before Keynes and saved Japan from the Great Depression
The discussions are all in the context of the current myth that economic policy makers have ‘run out of ammunition’ and can no longer defend their economies against another major downturn.
Various lies are told to ferment this piece of nonsense and the conversations seem to be confined to observations about monetary policy and its limitations, with fiscal policy capacities quickly being dismissed because governments have ‘no fiscal space left’ or some other monstrously ridiculous contrivance such as that.
It is a moving joke really – the way the neo-liberal Groupthinkers are continually coming up against reality and the higher profile members of the ‘group’ such as the IMF can ill-afford to remain in total denial.
So they worm their way forward, clutching at their diminished credibility (they had none to start with if the truth was known), with Madame Lagarde wandering around the world calling for more fiscal action whereas a few years ago the IMF headed the charge against responsible use of fiscal policy.
In her latest input – The Managing Director’s Global Policy Agenda: Decisive Action, Durable Growth – she now has a new “virtuous trinity” with the newly credible (in the mainstream dialogue) fiscal policy joining the duet of monetary policy and structural policies as the way forward.
Pity this lot didn’t say that in 2010 when they were busy bullying governments to run pro-cyclical fiscal policy (aka austerity) at a time when non-government spending was weak and weakening. Millions of people lost their jobs unnecessarily because of that.
They still cannot bring themselves to abandoning their failed economic approach even though reality continually indicates that failure. They still talk about “All countries, including those without fiscal space, can also contribute by aiming for a more growth-friendly composition of revenue and expenditure, particularly increased spending in infrastructure in some countries”.
The only ‘fiscal space’ that has any validity for a currency-issuing government is the idle productive resources that are for sale in that currency. And if the ECB would do its role as a central bank then the same would apply for the Member States of the Eurozone, who use the currency that the ECB issues.
That definition of fiscal space tells me that there is massive capacity to expand fiscal deficits in every country. That reality has not yet seeped in to the mainstream narrative.
But slowly the awareness that all the monetary policy gymnastics that various central bankers have been engaged in (QE, negative interest rates, interest on reserves, etc) have failed is seeping into the mainstream narrative even if the understanding of why those policy initiatives have failed remains lacking.
In early 2009, I wrote this blog – Quantitative easing 101 – which explained why the reliance on monetary policy (without allowing fiscal deficits to increase) would fail.
It seems to take a long time for the message to catch on but that is one of the problems that patterned behaviour like Groupthink presents – denial is a powerful defence of ignorance.
But, anyway, all these characters are becoming surprised that the massive buildup of bank reserves has not caused hyperinflation, is not sent the central banks broke, and, has done little to stimulate bank lending. Surprise, surprise!
Modern Monetary Theory (MMT) provides a coherent explanation of why none of the predicted outcomes would eventuate. I might add, for those who claim that MMT offers nothing new, you will not find detailed explanations such as those provided by MMT economists elsewhere in this context.
The literature coming out of New Keynesian theory and standard Post Keynesian theory does not explain these monetary policy failures.
Anyway things move on and now we are becoming bombarded with discussions of helicopters.
The UK Guardian article (April 7, 2016) – Helicopter money is closer than you think – is one to jump on the theme.
Yesterday’s (April 19, 2016) Bloomberg article – Lending data released Tuesday shows continued recovery – though it isn’t all down to the ECB – has a similar theme.
Larry Elliot’s follow up UK Guardian article (April 17, 2016) – The bad smell hovering over the global economy – continues with the theme and exhorts us to:
Put your ear to the ground though, and it is possible to hear the blades whirring. Far away, preparations are being made for helicopter drops of money onto the global economy.
The article documents how the reliance on central bank non-standard arrangements – first, QE, then negative interest rates are not doing much to stimulate waning economic growth around the world.
The rapid increase in bank reserves (via QE) and more recently the ‘tax’ on reserves (via negative interest rates), according to the writer (Larry Elliot) “has not worked”:
There has been little impact on interest rates, banks have not increased their lending and the yen has risen on the foreign exchanges – the opposite of what was planned – because investors fear that the Bank of Japan is fast running out of ammunition. They have a point.
On April 11, 2016, former US Federal Reserve Bank Chairperson Ben Bernanke published a blog – What tools does the Fed have left? Part 3: Helicopter money – which appears to have given all and sundry carte blanche to lift their heads above the awareness ceiling imposed by the ideological straitjacket that mainstream economics imposes on the public debate and talk about the ‘not to be spoken’.
Bernanke said that:
When monetary policy alone is inadequate to support economic recovery or to avoid too-low inflation, fiscal policy provides a potentially powerful alternative—especially when interest rates are “stuck” near zero.
The reality is that monetary policy is largely ineffective in supporting economic recovery, irrespective of whether interest rates are low or high.
The distribution effects of interest-rate changes alone (creditors lose, debtors gain if rates fall) are sufficient to cast doubt on the effectiveness of monetary policy as a primary counter-stabilisation policy tool.
Add in the fact that it cannot be targeted spatially or by income group and that it works indirectly through the cost of borrowing (mainly) and is easy to understand why this reliance on monetary policy has failed to deliver the impacts predicted.
Despite claiming that fiscal policy (backed by central banks crediting bank accounts on behalf of the treasuries) is a “presumably last-resort strategy”, Bernanke’s input does have one beneficial outcome when he says that:
It’s important that markets and the public appreciate that, should worst-case recession or deflation scenarios occur, governments do have tools to respond.
That should be shouted loudly.
There is no crisis large enough that the government through appropriate fiscal policy implementation cannot respond to.
There is no non-government spending collapse big enough that the government cannot maintain full employment through appropriate fiscal policy implementation.
A currency-issuing government can always use that capacity to buy whatever idle resources there are for sale in the currency it issues, and that includes all idle labour.
A currency-issuing government always chooses what the unemployment rate will be in their nation.
If there is mass unemployment (higher than frictional – what you would expect as people move between jobs in any week), then the government’s net spending (its deficit is too low or surplus too high).
I explain the so-called helicopter money option in this blog (also cited above) – Keep the helicopters on their pads and just spend.
By way of summary (although I urge you to read that blog if you are uncertain):
1. Introducing new spending capacity into the economy will always stimulate demand and real output and, as long as their is excess productive capacity, not constitute an inflation threat.
2. When there is weak non-government spending, relative to total productive capacity (and unemployment) then that spending capacity has to come from government.
3. The government can always put the brakes on when the economy approaches the inflation threshold.
4. A currency-issuing governments does not have to issue did to match any spending in excess of its tax receipts (that is, to match its deficit) with debt-issuance. That is a hangover from the fixed-exchange rate, convertible currency era that collapsed in August 1971.
5. Quantitative easing where the central bank exchanges bank reserves for a government bond – is just a financial asset swap between the government and non-government sector. The only way it can impact positively on aggregate demand is if the lower interest rates it brings in the maturity range of the bond being bought stimulates borrowing and spending.
6. But non-government borrowing is a function of aggregate demand itself (and expectations of where demand is heading). When elevated levels of unemployment persist and there are widespread firm failures, borrowers will be scarce, irrespective of lower interest rates.
7. Moreover, bank lending is not constrained by available reserves. QE was based on the false belief that banks would lend if they had more reserves. Please read the following blogs – Building bank reserves will not expand credit and Building bank reserves is not inflationary – for further discussion.
8. Governments always spend in the same way – by issuing cheques or crediting relevant bank accounts. There is no such thing as spending by ‘printing money’ as opposed to spending ‘by raising tax receipts or issuing debt’. Irrespective of these other operations, spending occurs in the same way every day.
9. A sovereign government is never revenue constrained because it is the monopoly issuer of the currency.
10. If the government didn’t issue debt to match their deficit, then like all government spending, the Treasury would credit the reserve accounts held by the commercial bank at the central bank. The commercial bank in question would be where the target of the spending had an account. So the commercial bank’s assets rise and its liabilities also increase because a deposit would be made.
11. Taxation does the opposite – commercial bank assets fall and liabilities also fall because deposits are reduced. Further, the payee of the tax has decreased financial assets (bank deposit) and declining net worth (a liability/equity entry on their balance sheet).
12. A central bank can always credit bank accounts on behalf of the treasury department and facilitate government spending. This is the so-called ‘central bank financing’ option in textbooks (that is, “helicopter money”). It is a misnomer.
The textbook case that suggests there is less inflation risk with governments spending ‘borrowed funds’ than if it just gets the central bank to credit bank accounts is wrong.
The inflation risk is attached to the spending impulse not the accompanying monetary operation.
What would happen if there were bond sales?
Fiscal deficits increase the net financial assets (bank deposits initially) of the recipients of the spending and thus, their net worth (a liability/equity entry on their balance sheet).
When the government issues debt, all that happens is that the banks reserves are reduced by the bond sales. This does not reduce the deposits created by the net public spending.
So net worth is not altered. What is changed is the composition of the asset portfolio held in the non-government sector.
The only difference between the Treasury ‘borrowing from the central bank’ (helicopter money) and issuing debt to the private sector is that the central bank has to use different liquidity management operations to pursue its policy interest rate target.
If private debt is not issued to match the fiscal deficit then the central bank has to either pay interest on excess reserves (which most central banks are doing now anyway) or let the target rate fall to zero (the long-time Bank of Japan solution).
There is no difference to the impact of the deficits on net worth in the non-government sector.
Further, all components of aggregate demand – government and non-government – carry an inflation risk if they become excessive, which can only be defined in terms of the relation between spending and available productive capacity.
The ‘money supply’ can expand by some percent per month without there being any additional inflation risk if real productive capacity is also expanding at a rate sufficient to absorb the extra nominal aggregate demand.
The idea that debt-issuance to the private sector in some way is less inflationary (for a given injection of government spending) is totally fallacious.
Bernanke proposes to call the situation where the treasury just instructs the central bank to credit bank accounts on its behalf (that is, not matching the fiscal deficit with debt issued to the non-government sector) – a “Money-Financed Fiscal Program, or MFFP”.
He says it is an “appealing” option because it will stimulate the economy “even if existing government debt is already high and/or interest rates are zero or negative”.
The reality is that an appealing option because it will always stimulate the economy irrrespective of what interest rates are doing or what levels of outstanding public debt exist.
It should be the standard fiscal option rather than some extreme option only to be pulled out in dire circumstances. If economies get into dire states then the damage is already extensive and the path to recovery is slow and costly.
Even Bernanke acknowledges that “roofs should be patched before the rain comes”.
But mostly, he remains within the mainstream mythology by claiming that if debt is already high, “households today anticipate that increase in taxes — or if they simply become more cautious when they hear that the national debt has increased — they will spend less today, offsetting some of the program’s expansionary effect.”
This is the so-called Ricardian Equivalence lies. Please read my blog – The fantasy Barro(w) is still being pushed – for more discussion on this point.
He also claims that “increase in the money supply associated with the MFFP should lead to higher expected inflation” relative to the situation that arises if government issues debt to the non-government sector to match their deficits. I have dealt with that above.
On April 15, 2016, Deutsche Research (a division of the bank) issued a report – Helicopters 101: your guide to monetary financing – which claimed that “Little has been written on the practical implementation of ‘helicopter money'”, which just goes to show they do not read much. There has been a lot written and most of it is wrong.
The Deutsche Bank article erroneously appears to think it is offering something new here.
I devoted a chapter in my current book – Eurozone Dystopia: Groupthink and Denial on a Grand Scale (published May 2015) to the topic.
The DB article though does get to the nub of what they call a “fundamental principle”:
Unlike any corporate, government or household, a central bank has no reason to be bound by its balance sheet or income statement. It can simply create money out of thin air (a liability) and buy an asset or give the liability (money) out for free. It can run perpetual losses (negative equity) because it can fund these by printing more money.
End of story really for all those who think government spending has to be financed by taxes or bond issuance.
In effect, central banks are already ratifying the on-going fiscal deficits in many nations by expanding their portfolios of government bonds through secondary market purchases.
While the intent of the banks under QE is to give the banks more reserves to lend (as noted above), the impact is that bond traders know that they can safely bid for government debt in the primary auctions and offload the debt at higher prices to the central bank in the secondary market.
It would be far better if the government just abandoned the auction (OMT) by the central bank and instructed the central bank to credit bank accounts as necessary.
This raises another issue that I am often asked about.
At present, the Bank of Japan, as an example, holds about 33 per cent of all outstanding Japanese government bonds. That proportion has been rising in recent years under the QQE policy.
I did some projections this morning based on the BOJ’s stated commitment to purchase an addition ¥80 trillion in JGBs per year for the indefinite future and the normal change in auction results conducted by the Ministry of Finance.
Under that scenario, by this time in 2020, the proportion of outstanding JGBs held by the BOJ would be around 60 per cent. There are slight variations in assumptions that would take this calculation to 70 per cent without stretching plausibility.
A high proportion nonetheless.
The formerly publicly-owned, Japan Post Bank, which was privatised at the end of 2015 also has significant holdings of Japanese governemnt bonds, but is currently divesting themselves of them (although not at any great speed).
In 2015 (the latest annual report is up to March 2015), it had Japanese government bonds valued at ¥106,767,047 million in a total securities portfolio of ¥156,169,792 million.
This was approximately 11.8 per cent of the total outstanding stock of Japanese government bonds.
So up until late last year, a large proportion of outstanding Japanese government debt was held by the government itself (within the BOJ and the Post Bank).
Disregarding the privatised Post Bank debt, what would happen if some operative in the BOJ just accidently pressed a wrong key on some computer keyboard and deleted all the JGBs held by the central bank – some ¥300 trillion as at April 8, 2016?
Answer: Not a lot!
1. The outstanding Japanese government debt would fall by 30 per cent.
2. The central bank’s balance sheet (assets) would decline by ¥300 trillion.
Not much more than that really.
Could the central bank buy all the outstanding debt and write it off? Answer: Certainly.
Would it cause inflation? Answer: unlikely.
Would it cause interest rates to rise? Answer: the opposite.
Could the European Central Bank do the same? Answer: Definitely, notwithstanding the Lisbon Treaty.
Would it help the Eurozone recover? Answer: Definitely, the Member States could increase their deficits as the ECB bought all the debt issued in the secondary markets and recovery would be rapid.
Would any of these central banks go broke: Answer: Never, the term is inapplicable to an institution that issues the currency in use.
Conclusion
The mainstream is being dragged into the discussion about Overt Monetary Financing because it is becoming obvious to more people that the previous cycle has not finished yet as the next cycle approaches.
The failure to create the conditions for recovery, particularly in the Eurozone, has left a massive legacy of failed business, elevated unemployment and rising poverty and inequality.
Societies will not tolerate that sort of decline for too long before they challenge the basic institutions. There was a reason trade unions and the welfare state became part of our social fabric.
It is amusing to read all these ‘discoveries’ of things that have been obvious all along. But then mainstream economists knew all this stuff all along, didn’t they? (not!).
Modern Monetary Theory and Practice: an Introductory Text
The KINDLE edition is now out – Details – or through the relevant Kindle store for your currency (you can search for the relevant link).
The first version of our MMT textbook – Modern Monetary Theory and Practice: an Introductory Text – was published on March 10, 2016 and is authored by myself, Randy Wray and Martin Watts.
It is available for purchase at:
1. Amazon.com (US 60 dollars)
2. Amazon.co.uk (£42.00)
3. Amazon Europe Portal (€58.85)
4. Create Space Portal (US60 dollars)
By way of explanation, this edition contains 15 Chapters and is designed as an introductory textbook for university-level macroeconomics students.
It is based on the principles of Modern Monetary Theory (MMT) and includes the following detailed chapters:
Chapter 1: Introduction
Chapter 2: How to Think and Do Macroeconomics
Chapter 3: A Brief Overview of the Economic History and the Rise of Capitalism
Chapter 4: The System of National Income and Product Accounts
Chapter 5: Sectoral Accounting and the Flow of Funds
Chapter 6: Introduction to Sovereign Currency: The Government and its Money
Chapter 7: The Real Expenditure Model
Chapter 8: Introduction to Aggregate Supply
Chapter 9: Labour Market Concepts and Measurement
Chapter 10: Money and Banking
Chapter 11: Unemployment and Inflation
Chapter 12: Full Employment Policy
Chapter 13: Introduction to Monetary and Fiscal Policy Operations
Chapter 14: Fiscal Policy in Sovereign nations
Chapter 15: Monetary Policy in Sovereign Nations
It is intended as an introductory course in macroeconomics and the narrative is accessible to students of all backgrounds. All mathematical and advanced material appears in separate Appendices.
Note: We are soon to finalise a sister edition, which will cover both the introductory and intermediate years of university-level macroeconomics (first and second years of study).
The sister edition will contain an additional 10 Chapters and include a lot more advanced material as well as the same material presented in this Introductory text.
We expect the expanded version to be available around June or July 2016.
So when considering whether you want to purchase this book you might want to consider how much knowledge you desire. The current book, released today, covers a very detailed introductory macroeconomics course based on MMT.
It will provide a very thorough grounding for anyone who desires a comprehensive introduction to the field of study.
The next expanded edition will introduce advanced topics and more detailed analysis of the topics already presented in the introductory book.
That is enough for today!
(c) Copyright 2016 William Mitchell. All Rights Reserved.