Helicopter Money: Unconventional Policy for Unconventional Times?

How should governments minimise COVID-19’s economic damage? As economies grind to a crawl, governments are (rightfully) pursuing aggressive expansionary fiscal policies to alleviate the likely upcoming recession. Although the necessity of bold, stimulatory fiscal policy is widely agreed on by academic economists, how that should be financed is less discussed. See here for an open letter on support for jobs and business in response to the COVID-19 pandemic, currently signed by over 900 academic economists. [5]

Now is not the time to worry about government debt, but this it presents a problem for future governments. Moreover, some of the worst afflicted countries’ debt ratios are above 100% of their GDP. However, governments have an experimental alternative to bond-based borrowing: helicopter money.

Helicopter money was a thought experiment by economist Milton Friedman. He proposed that central banks can increase inflation to whatever level it desired by giving money to the population with the promise that it will permanently stay in circulation [1]. The idea has never taken off for two reasons:

1. Conventional contemporary monetary policy involves controlling the cost of borrowing via manipulating interest rates, not the monetary base, which is the amount of money in the economy.
2. Central banks pay interest on reserves, money that banks keep with the central bank, to control the economy’s interest rates, whereas Friedman’s essay assumes that reserves had zero interest rates.

However, that is not what economists mean when they refer to helicopter today. Now, helicopter money is ‘a fiscal expansion that is financed by central bank money rather than bonds’. Cecchetti and Schoenholtz provide an excellent explanation of the accounting behind helicopter money with the balance sheets of the central bank, the Treasury and the consolidated government [2]. In other words, helicopter money permanently increases the economy’s money supply, which increases our nominalpurchasing power. 

If that sounds like quantitative easing, that’s because they are very similar. The key difference is permanence. In quantitative easing, central banks purchase bonds to create reserves, but they could later be exchanged. With helicopter money, central banks permanently give that money away, and the assets can’t be swapped.  

Quantitative easing has at best, a mixed record. Despite the Bank of Japan trialling quantitative easing since the early 2000s, Japan’s economy was still stubbornly plagued with low growth and deflation. This is mirrored in other major European economies such as the United Kingdom and the Eurozone, although a counterfactual world without quantitative easing may have had even lower spending and possibly a more painful recession. 

However, there are no free lunches in economics, and helicopter money is certainly no exception. Although there are many disputed drawbacks to helicopter money, I will present two major flaws.

Firstly, helicopter money distorts the distinction between monetary and fiscal policy. Macroeconomists still can’t reach a consensus over whether helicopter money is monetary or fiscal policy.  A key question we must ask is who would implement it? Is it the Treasury? The central bank? Both? 

At best, this forces us to redefine the relationship between central banks and the Treasury. At worst, it threatens the independence of our central banks, a freedom that monetary policymakers have enjoyed since the 1950s. Any institutional rearrangement will require very cautious checks and balances if we are to avoid the runaway inflation that has resulted when politicians were put in charge of monetary policy.  

Secondly, critics of helicopter money argue that it has a crucial trade-off. For it to be more expansionary than traditional debt-financed fiscal policies, central banks must credibly commit to keeping interest rates at zero, permanently [3]. Unless we want to surrender monetary policy as we know it forever, whatever expansionary impacts of money financing can be accomplished with a combination of the traditional tried and tested policies we use today. However, proponents disagree with this over the assumptions used to reach that trade-off [4].

Regardless of the true interest-rate setting mechanism, perhaps keeping interest rates at zero, which is the zero lower bound, isn’t such a terrible thing today. Not only are major central banks like the Federal Reserve, Bank of England and the Reserve Bank of Australia knocking on the door of the zero lower bound anyway, but other central banks like the European Central Bank and the Bank of Japan are experimenting with negative rates already. 

From this perspective, the question becomes: do we believe that helicopter money is only superior to debt financing if interest rates are permanently zero, and if so, are we likely to leave the zero-lower bound in the future anyway?

Governments need to pursue swift and targeted policy responses that are proportional to the sheer magnitude of the crisis. However, the issues with helicopter money mean that we should only resort to it in truly dire economic situations, and when we have given it enough formal economic research and have ironed out the institutional details.

Perhaps it is now too late to safely use helicopter money to fight the likely upcoming recession. Yet that does not mean we should not start exploring today. Maybe we’ll have a new policy tool in time for the next recession.

[1] Friedman, M. (1969). The Optimum Quantity of Money. Routledge.

[2] Cecchetti, S., & Schoenholtz, K. (2016, August 19). A primer on helicopter money. Retrieved from VOX CEPR Policy Portal: https://voxeu.org/article/primer-helicopter-money

[3] Borio, C., Disyatat, P., & zabai, A. (2916, 5 24). Helicopter money: The illusion of a free lunch. Retrieved from VOX CEPR Policy Portal: https://voxeu.org/article/helicopter-money-illusion-free-lunch

[4] Muellerbauer, J. (2016, 6 10). Helicopter money and fiscal rules. Retrieved from VOX CEPR Policy Portal: https://voxeu.org/article/helicopter-money-and-fiscal-rules

[5] Open letter on support for jobs and business in response to the COVID-19 pandemic, currently signed by over 900 academic economists.