June 10, 2016

A guide to helicopter money: June 2016

The term ‘Helicopter Money’ comes from a thought experiment by Milton Friedman in which helicopters dropped money from the sky.

  • With some commentators seeing existing monetary policy tools as either being exhausted or ineffective, there has been speculation that the next ‘unconventional’ tool to be deployed by central banks will be ‘Helicopter Money’. Helicopter Money typically refers to the central bank sending money to households or to a central bank financed government fiscal stimulus.
  • Unlike ‘QE’, Helicopter Money has an explicit fiscal element. Moreover, in a Helicopter Money operation the central bank commits to making any asset purchases permanent and to not paying interest on the resulting bank reserves. It differs from a normal fiscal stimulus as it is not financed by interest paying debt (a bond issued to the public) but by money creation by the central bank.
  • Introducing Helicopter Money will potentially affect existing monetary policy goals and tools. For example, it might require a change to the inflation target and changes to the system of interest on reserves. It could also complicate how monetary policy will operate in circumstances when the central bank seeks to tighten monetary policy.
  • The key channels through which it is expected to work are increased demand for goods & services (either by government or households) and by raising inflation expectations, thereby lowering real interest rates. Proponents also argue it gets around possible problems with normal fiscal stimulus – crowding out (though higher interest rates) and households increasing savings as they perceive a future higher tax burden.
  • In theory Helicopter Money should result in some combination of inflation and real economic growth. Exactly what the mix will be is harder to determine, and it is even possible for inflation to be rising while real activity goes the other way. How individuals and business react to Helicopter Money, and how it changes their expectations of the future, will be an important determinant of its effectiveness.
  • While a central bank money financing government spending is not new, there are good reasons why it is considered a ‘taboo’. There are many cases where too much money printing has led to hyperinflation, with disastrous consequences.
  • What this points to is the need for credible institutions and the need for any Helicopter Money program to be consistent with the inflation goals of the central bank. An open question is whether credible arrangements could be put in place given political realities.
  • Legal and political obstacles to Helicopter Money vary by country. Of the major advanced economy central banks, the European Central Bank is the one facing the greatest possible constraints, given legal prohibition of (direct) money financing of governments by the ECB, the lack of a central fiscal agency and the difficulty of getting agreement amongst member states.

For further details please see the attached document