Responsibly Expand the Monetary Base Before It Is Too Late

 This article was first published by me at Talkmarkets:

According to Batman:

 "Better three hours too soon than a minute too late."
Unfortunately, the Federal Reserve Bank has never taken that advice. One hopes that someone will get serious about the expansion of the monetary base since GDP is slowing in the face of inflation that is not raging. You want fiscal responsibility? Then understand and promote the concept of helicopter money as it was meant to be.

It may prove to be more responsible than Paul Krugman's slight of hand Keynesianism, and more responsible than John Cochrane's fiscal instability views, both discussed below. They seem to push for diminished fiscal credibility as policy because they know you can't default on your own currency. Compared to those guys, Lonergan's helicopter money plan looks responsible and sensible.

This article is a summary look into ideas regarding the expansion of the monetary base (base money) founded upon the study of leading economists. The reader can decide if the expansion of the monetary base is a good thing and the best way of going about it. This overview could make it easier for the reader to get a concise take on the issue. It is all about how this expansion would be accomplished safely, without bringing economic instability, that is at stake.

Remember, even though you could have inflation running at 2 percent, as the Fed targets, you could also have a dropping GDP, meaning inflation should have run a little higher during that time to make up for the loss of GDP. This is a Sumner,market monetarist concept. (As an aside, the Fed may be constrained to not let inflation out of the bag as I have written in many articles. The Fed knows banks have bet on low bond rates in the age of derivatives and that those bonds are in massive demand, so the Fed may feel a need to protect them.)

Paul Krugman by Shankbone

So, David Beckworth wrote an article way back in 2014 that attempts to explain the process of expanding the monetary base. The goal of monetary base expansion is something that is promoted by three economists, Cochrane, Krugman and Sumner. Before I get to that article I want to review what Eric Lonergan said.

The expansion of the monetary base is something I wrote about regarding Eric Lonergan. In that article I said:

1. I checked with Mr Lonergan prior to writing this article, and he has confirmed that HM does not involve the issuance of treasury bonds as collateral. Former Fed president Narayana Kocherlakota always speaks of treasury bonds being issued for the purpose of spreading HM. But according to Lonergan, Kocherlakota is simply not correct in his analysis of what HM is. This is not to say there are laws that need to be changed from nation to nation to make this process work. But the issuance of treasury bonds is just QE again, but for the people. Helicopter money is much more powerful than QE! It is an alternative to QE.
2. While helicopter money is either a one off or short duration expansion,  it is a permanent expansion, of central bank base money. But we should not be confused about this. While the expansion of the money supply is permanent and the base money continues to circulate, the actual funding of families is either one off or for a short duration. Lonergan has called for 12 to 18 months, until the goals of the central bank are reached.
3. It is, after all, the answer to the zero lower bound, to deflation. Because it is a volatile policy if not done correctly, it should be used to get the economy off the mat and only during those times. It is a better plan than negative rates or a cashless society.

Beckworth quotes Paul Krugman on Japan's unwillingness to stoke inflation expectations in the midst of deflation:

After all, suppose investors conclude that Japan will never raise taxes enough to service its debt. What would they think would happen instead? Not default — Japan doesn’t have to default, because its debts are in its own currency. No, what they might fear is monetization: Japan will print lots of yen to cover deficits. And this will lead to inflation. So a loss of fiscal credibility would lead to expectations of future inflation, which is a problem for Abe’s efforts to, um, get people to expect inflation rather than deflation, because … what?

Then Beckworth quotes John Cochrane, the grumpy economist:

The last time these issues came up was Japanese monetary and fiscal policy in the 1990s... Quantitative easing and huge fiscal deficits were all tried, and did not lead to inflation or much‘‘stimulus’’. Why not? The answer must be that people were simply not convinced that the government would fail to pay off its debts. Critics of the Japanese government essentially point out their statements sounded  pretty lukewarm about commitment to the inflationary project, perhaps wisely. In the end their ‘‘quantitative easing’’ was easily and quickly reversed, showing those expectations at least to have been reasonable.
Then Beckworth puts the views of the two economists together with Sumner's thinking:

Even though Krugman and Cochrane may agree on the mechanism and its potential to raise aggregate demand, their policy prescriptions are different. Krugman would like to have countries like the United States and Japan ease up a bit on fiscal credibility as a way to shore up aggregate demand growth, whereas as Cochrane sees such discretionary moves as potentially destabilizing. Cochrane is concerned doing so might let the aggregate demand genie out of the bottle in an uncontrollable manner.
That it is where Scott Sumner and his push for level targeting becomes important. A level target, specifically a NGDP level target, would get Krugman the aggregate demand growth he wanted without letting the aggregate demand genie out of the bottle in an uncontrollable manner...Remember, we are talking about effective expansionary monetary stimulus but all the while trying to avoid runaway inflation!

Where I disagree with Beckworth is where he goes on to say that the Fed has been doing helicopter drops all along. No it has not. It has been doing QE all along, but QE requires the issuance of bonds in exchange for expansion of money. Also, there is interest paid on the expanded money, so that the banks do not lend it out. Only negative IOR is expansionary, as Sumner has said, elsewhere.

But Beckworth goes on to quote Cochrane regarding use of helicopter money. But Cochrane doesn't get it either:

Thus, Milton Friedman’s helicopters have nothing really to do with money. They are instead a brilliant psychological device to dramatically communicate a fiscal commitment, that this cash does not correspond to higher future fiscal surpluses, that there is no ‘‘exit strategy’’, and the cash will be left out in public hands... The larger lesson is that, to be effective, a monetary expansion must be accompanied by a credibly communicated non-Ricardian fiscal expansion as well. People must understand that the new debtor money does not just correspond to higher future surpluses. This is very hard to do—and even harder to do just a little bit.
And, of course, Cochrane is onto something (in a perverse way), that Lonergan is hoping for a permanent expansion of the money supply that will not require that expansion be offset by more government debt. But Cochrane sees this helicopter money sans treasury debt in exchange as being too fiscally responsible! Lonergan does not hold that view at all. Cochrane sounds disappointed that this helicopter money could bring more revenue in for the government!

Helicopter money issued without the issuance of treasury debt in exchange appears to be a very good thing, a very very good thing and very fiscally responsible. The alternative appears to be a bundle of excess reserves just sitting at the Fed and a bunch more treasury bond debt. People are uncomfortable with adding to all that. 

So, lets try the fiscally responsible helicopter money idea first, before efforts at destabilization. Helicopter money, then, is fiscally responsible! And it is needed to keep us out of NIRP. The whole world seems headed towards NIRP. Lonergan answers Krugman and Cochrane forcefully in the comment section:

Interestingly, Cochrane and Krugman have very similar views here. I disagree for a very simple reason. A cash transfer from the central bank does not entail higher future taxes, even if the central bank sticks to its inflation target, which I would advocate. In fact, a cash transfer from the ECB to households would probably result in lower future taxes in the Eurozone, because the stagnation would end sooner, growth would be higher and fiscal positions would improve. It all depends on what you think causes cyclicality and growth. Cochrane doesn’t really believe that you can have insufficient demand in an economy and that there is profound path-dependence, and that effective counter-cyclical policies can have important medium-term benefits. Like Krugman, he seems to believe that the only policy variable is inflation expectations. I think they are both fundamentally misguided.


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