Helicopter money is a reference to an idea made popular by the American economist Milton Friedman in 1969.
In the now famous paper “The Optimum Quantity of Money”, Friedman included the following parable:
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, of course, hastily collected by members of the community. Let us suppose further that everyone is convinced that this is a unique event which will never be repeated.”
The basic principle is that if a central bank wants to raise inflation and output in an economy that is running substantially below potential, one of the most effective tools would be simply to give everyone direct money transfers. In theory, people would see this as a permanent one-off expansion of the amount of money in circulation and would then start to spend more freely, increasing broader economic activity and pushing inflation back up to the central bank’s target.
From that paper, other academics including former Federal Reserve Chair Ben Bernanke and economist Willem Buiter have developed the theory further. Bernanke raised the possibility for monetary-financed tax cuts, whereby a government could cut taxes in a slump with the central bank committing to purchasing government debt in order to prevent interest rates from rising.
A broad-based tax cut, for example, accommodated by a programme of open-market purchases to alleviate any tendency for interest rates to increase, would almost certainly be an effective stimulant to consumption and hence to prices. Even if households decided not to increase consumption but instead rebalanced their portfolios by using their extra cash to acquire real and financial assets, the resulting increase in asset values would lower the cost of capital and improve the balance sheet positions of potential borrowers. A money-financed tax cut is essentially equivalent to Milton Friedman’s famous ‘helicopter drop’ of money.”
So how is this different from conventional quantitative easing?
Current quantitative easing (QE) programmes undertaken by central banks since the financial crisis involve large-scale purchases of assets from financial markets. These have predominantly been targeted at government bonds, but individual central banks have also bought up a range of alternative assets, including commercial debt, mortgage-backed securities and even stock market exchange traded funds.
The major difference between QE as it has been carried out and helicopter drops as envisaged by Friedman is that the vast majority of purchases have been asset swaps, where a government bond is exchanged for bank reserves. While this alleviates reserve constraints in the banking sector (one possible reason for them to cut back lending) and has lowered government borrowing costs, its transmission to the real economy has been indirect and underwhelming.
As such, it does not provide much bang for your buck. Direct transfers into people’s accounts, or monetary-financed tax breaks or government spending, would offer one way to increase the effectiveness of the policy by directly influencing aggregate demand rather than hoping for a trickle-down effect from financial markets.
So what’s the problem?
In order to get a helicopter-drop style policy, you would first need to coordinate the responses of a government and the independent central bank. While this doesn’t present much of a barrier in theory, in practice the two seldom operate seamlessly with one another and indeed frequently operate at cross-purposes.
The most obvious examples can be seen in the US debt ceiling stand-offs between Democrats and Republicans in Washington, which was ultimately settled with a default package of government spending cuts. These cuts, however, effectively pushed back against the efforts of the Federal Reserve to keep the country’s economic recovery on track.
Then the Fed’s Bernanke told the Senate Banking Committee in 2013: “There’s a mismatch with the timing of the spending cuts. The problem is long-term, but the cuts are short-term and do harm to the recovery.”
This type of coordination failure is a huge problem for advocates of helicopter money. As Buiter makes clear in his analysis of helicopter money, “cooperation and coordination between the Central Bank and the Treasury is required for the real-world implementation of helicopter money drops”.
However, it’s not only the prospect of coordination failures in the downturn that has people worried. There are also concerns that, if governments become used to being able to fund tax breaks or investment projects with newly printed money, they might decide that the tool is too useful to give up, even in good times.
Former Bank of England economist Tony Yates worries that helicopter money could shatter the fragile political consensus that has given central banks broadly sensible mandates and preserved their independence.
In this case, the perfect may well be the enemy of the good.
Author: Tomas Hirst is editorial director and co-founder of Pieria magazine and was previously commissioning editor, digital content at the World Economic Forum.
Image: Money is seen thrown in the air. REUTERS