It is a type of unconventional expansionary monetary policy
It is a type of unconventional expansionary monetary policy that has been proposed as an alternative to quantitative easing.
This is frequently employed when there is a liquidity trap, which occurs when interest rates are close to zero, yet the economy continues in recession.
It is a term developed by Milton Friedman in 1969. It depicts the idea of dropping money from a helicopter to illustrate the effects of monetary expansion.
This concept was first used in the 2000s following Japan's Lost Decade to adjust the monetary policy. In 2002, other economists such as Ben Bernake suggested that it could aid deflation.
It is used when the central banks operate with negative equity.
Adopting it was initially intended to pay individuals directly, but it has since evolved into a concept that embraces various alternative policy proposals.
This involves the permanent monetization of budget deficits to shock the economy into believing there would be future inflation or nominal GDP growth.
A citizen's dividend or dispersing future seigniorage is a new set of policies under helicopter money - when the central bank makes direct payments to the private sector to encourage growth. Typically, fiscal authorities are not involved in this procedure.
These policies aim to change market behavior and expectations.
Origin of helicopter money
The renowned Milton Friedman is credited with coining the phrase "helicopter money" in his 1969 article "The optimum quantity of money."
This is how it is described in the following excerpt:
"Let us suppose now that one day a helicopter flies over this community and drops an additional $1,000 in bills from the sky, which is hastily collected by members of the community.
Let us suppose that everyone is convinced that this is a unique event that will never be repeated."
The term was used to describe the impact of monetary policy on inflation and the expenses of holding money. This term, however, was never meant as a policy proposal.
Since then, economists have frequently used this term to refer to it as an alternate technique to the widely employed quantitative easing.
When there is a liquidity trap, this is thought to be more successful than quantitative easing at stimulating aggregate demand.
Is helicopter money taken seriously?
As depicted in the definition, money falling from the sky appears unrealistic and unsustainable. As a result, a more modern strategy would be to provide a uniform tax rebate to households funded by the central bank.
For example, in 2008, the US government provided the Economic Stimulus Act (2008), which uses tax rebates as a fiscal stimulus tool.
Similarly, the European Central Bank (ECB) started a TLTRO program in 2016 that loans money to banks at 0% interest. They also created a tiered interest rate scheme to help commercial banks maintain profitability in the face of negative interest rates.
In 2016, Irish economist Eric Lonergan claimed that helicopter drops are a legal and administratively verifiable method of providing funds to families.
He proposed that the Eurozone extend zero-interest and eternal loans to all European adult individuals eligible for them.
Revival of the 2000s
In the case of Japan, the continuous deflation was profoundly damaging to the economy.
In the fall of 1989, Japan's equities and real estate bubble burst. From late 1989 to August 1992, equity prices fell by 60%, while land values fell by an astonishing 70% by 2001.
Spending for consumers and businesses is more challenging when prices fall because they constantly think about, "what if tomorrow's price is lower?"." This leads to a cyclical behavior that further worsens the deflation.
As a result, the Japanese economy grew at a rate of 1.14% per year in terms of its GDP from 1991 to 2003, significantly behind that of other industrialized nations.
During this period, the Japanese economy suffered a credit crunch and a liquidity trap.
Following the Japanese Lost Decade, economists such as Ben Bernake proposed incorporating it into monetary policy reforms.
Bernake famously stated as a Federal Reserve Board governor:
"A money-financed tax cut is essentially equivalent to Milton Friedman'sFriedman's famous ''helicopter drop'' of money."
Bernake also emphasizes the necessity of the central bank's commitment to maintaining greater money supply levels in the future, as advocated by macroeconomist Gauti Eggertson.
This discussion was based on the fact that there are limitations to using a conventional interest rate cut. This is especially when interest rates are near zero in the US at 0.25%. This suggests the limits of further depressing interest rates.
Eric Lonergan also advocated in 2002 that the central bank should directly give money to households rather than decrease interest rates further since it would generate financial instability.
After the 2008 financial crisis
During the 2008 financial crisis, the FED's tactics included:
Interest rate cuts
Targeted assistance to ailing financial institutions
E.g., The bankruptcy of Lehman Brothers bank showed that the cost of bankruptcy is expensive, which led to the creation of the Troubled Asset Relief Program (TARP) to bail out the financial system.
Quantitative easing through large-scale asset purchases
Guidance about interest rates
Despite these efforts, the unemployment rate still hit an all-time high at 5.8%. Moreover, the economic situation subsequently led to the 2008 Federal Fund Rate reaching almost zero percent and could not go lower.
If interest rates were set below zero, this would result in increased household borrowing, which would increase the staggering debt of the economy.
Therefore, in 2008, Eric Lonergan and Martin Wolf proposed using it to stimulate the economy.
According to the Financial Times, he believes that direct transfers of money to individuals can help address the prospect of worldwide deflation. In addition, this would help increase the aggregate demand in economies which could help to stimulate growth.
In 2012, the Federal Open Market Committee (FOMC) also decided to extend policy accommodation by purchasing $40 billion in agency-guaranteed mortgage-backed securities every month to boost the US economy's recovery.
However, numerous other economists argued for helicopter money, dubbed "QE for the People," and paid by the monetary base.
These proposals were presented in response to the lackluster impacts of traditional monetary policies like quantitative easing, which harmed financial stability and the equitable distribution of money.
Helicopter money vs. quantitative easing
Both of these necessitate the central bank's control over the money supply. This is usually accomplished by increasing the money supply in the economy.
Helicopter money expands the monetary supply by delivering enormous sums of money to the general population, such as households and individuals.
This does not affect the central bank's balance sheet since it is not purchasing anything; instead, it is distributing the money that it has newly generated (printed money).
On the other hand, quantitative easing expands the quantity of money by acquiring government or other financial instruments to stimulate economic development.
The central bank will generate reserves by acquiring government bonds, a process known as an asset swap. These bonds must be repaid over a set length of time. This boosts the central bank's assets on its balance sheet.
The central bank will tend to decrease interest rates as part of its monetary policy.
While QE is reversible (assets may be traded), economists say helicopter drops are a more lasting solution since they are irreversible.
Pros and cons of helicopter money
Generates immediate demand as the money is made readily available to the public to use
Increased purchasing power for households as a result of a rise in cash
Do not rely on increased borrowing or debt to fuel the economy.
Households are expected to spend around 30% to 35% of the distributed funds, resulting in a 2% increase in GDP.
Generates aggregate demand that is not dependent on a single consumer or industry segment
Unlike QE, helicopter money cannot be reversed. This is because money provided to the general populace cannot be recalled by the central bank.
Because money drop is employed when interest rates are near zero, the central bank will be unable to use interest rates to stimulate the economy.
This means that the central bank will not be able to recoup any fees because the money was not borrowed in the manner of a loan.
The large quantity of money available may result in a severe currency depreciation in international foreign exchange markets.
Over-inflation is a significant risk the economy will have to take on as its currency devalues. This will have a considerable influence on both exports and imports.
This was largely expressed by the European Central Bank's Chief Executive Officer, Otmar Issing, in his 2014 paper.
According to an additional French Economic Advisory Council analysis, a 1% equivalent GDP in helicopter drop will result in about 0.5% inflation.
One of the primary difficulties with it is its legality.
Some economists believe that because the distinction between monetary and fiscal policy is so hazy, a traditional helicopter drop would have fiscal consequences that would fall within the authority of the government rather than the central bank.
Covid-19 and helicopter money
Many supporters of this notion, ranging from economist Ben Bernake to US Treasury Secretary Janet Yellen, feel that it should be employed in times of great economic turmoil.
Central bankers such as Patrick Honoban of the Irish Central Bank and Mojmir Hampl of the Czech Central Bank also endorse the notion.
Janus Global Unconstrained Bond Fund portfolio manager also supports the cause of implementing a basic income supported by helicopter money.
Due to the consequences of the pandemic, numerous nations have had to enact substantial fiscal packages in recent years to restore their economies.
1. United States: In the United States, there have been discussions for providing a $1000 check to eligible adult citizens in reaction to the COVID-19 pandemic in 2020.
The United States also adopted a substantial fiscal package known as the CARES Act, which involves giving $1200 per adult and $500 to each kid.
2. United Kingdom: As a stimulus to its economy, the United Kingdom has utilized a combination of fiscal and monetary policy. This is accomplished by raising the number of central bank accounts.
The stimulus package, dubbed 'Ways and Means,' is worth £370 million and will be distributed to households.
3. European Union: Given the EU's incomplete institutional setting, it can be harder to implement it into its monetary policies. However, economists are working on a solution to this problem.
For example, it is recommended that each EU nation transmit the same proportion of its GDP to its inhabitants. Each adult should receive around €1000, while children should receive approximately €500.
As a result, in a nation like Italy, with 50 million individuals above 18 and 10 million below, this plan would cost around €55 billion, or 3% of GDP.
Similarly, it is suggested that the money be directly transferred into Europa Cards, which would allow the liquidity to reach everybody.
4. Japan: In 2016, it was widely reported that Japanese Prime Minister Shinzo Abe and the Bank of Japan discussed deploying it to combat the Japanese economy's stagnant deflation.
Later, Japan sold a 50-year perpetual bond to support infrastructure investments in its economy. While this is not a direct helicopter drop, it employs similar concepts to support its economy.
5. Switzerland: There was a massive campaign in 2020 to pressure the Swiss National Bank to deliver a 7500 CHF dividend to its inhabitants. Organizers have until 2022 to collect 100,000 signatures for this proposal to be implemented.
This means that the Swiss National Bank will have an estimated cost of 4.5 billion CHF.
This money would be newly produced and dispersed in less than a year. The new funds would likewise be exempt from taxation.
In summary, helicopter money stimulates the economy during a recession or when interest rates reach zero. This is accomplished by printing massive amounts of money and distributing it to households. The current consensus on helicopter money is that it should only be used as a last resort if traditional stimulus measures fail to spur economic growth.
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