By Scott Fullwiler
I suggested more than three years ago that helicopter drops are fiscal operations (printable version here), in contrast to the more traditional view that they were monetary policy operations (e.g., “Helicopter Ben”). My argument was based almost entirely on accounting and, therefore, on the actual balance sheet effects of a money drop. True helicopter drops of money raise the net financial assets (via income increases) of the non-government sector, which is exactly what fiscal policy does but not what monetary policy does.
MMTers have explained for years that fiscal policy provides income and net financial assets for the non-government sector, whereas monetary policy (whether it be lower interest rates or—for true believers in Monetarism and “hot potato effects”—more “money”) can only stimulate the economy via increased spending by the private sector out of existingincome. In other words, monetary policy only “works” when there is more spending out of current or existing income–i.e., you spend your money balances or you borrow at a lower rate. Your income is the same but you’ve spent more. But fiscal policy raises incomes first, so it enables more private sector spending out of increased income. And, remember, this is just accounting, not “theory.”
And now we see virtually everywhere there are calls for helicopter drops of money, only this time the proposal is for the Treasury to deficit spend while the Fed buys government bonds in the secondary market equal to the deficit spending. This is referred to as Treasury/Central Bank or Fiscal/Monetary “coordination.”
This is all fine as far as it goes, and I certainly don’t want to stand in the way of more fiscal policy, so my critique here is more about the details of operations as they are understood by those pushing “coordination” than it is of the overarching policy advice per se. In my view, a more precise understanding of monetary operations helps to better understand available policy options, and therefore my own perception that there are shortcomings in using the “coordination” language to describe helicopter drop is more than just a semantic point.
Let’s think for a minute about what happens when the Treasury runs a deficit if the Fed then buys government bonds in the open market. The answer is quite simple for anyone paying attention to the rounds of QE the past few years—the government debt is swapped for reserve balances that are earning 0.25%, or the rate the Fed pays on interest. So, in essence, with helicopter drops via “coordination,” the Treasury ends up with new debt that it services at the Fed’s target rate. (For those requiring more elaboration of this point—when the Fed pays interest on reserve balances, this reduces dollar for dollar the profits it returns to the Treasury, so Fed payment of interest has the same effect on the Treasury’s budget position as if the Treasury had paid the interest.)
Note that this would be the case whatever interest rate the Fed paid on reserve balances—if reserve balances are supplied in excess of what banks desire to hold to settle payments and meet reserve requirements, then the federal funds rate falls to the rate paid on reserve balances (or to zero if no interest paid on reserve balances). This is just supply and demand—if quantity supplied exceeds all points on the demand curve, then the price falls either to zero or it falls to a price floor established above zero. I explained this in more detail here.
Now, what happens if instead the Treasury runs a deficit but there is no “coordination” and instead the Treasury issues T-bills? In that case, the Treasury ends up with new debt that it likewise services at essentially or roughly the Fed’s target rate—it’s well known that rates on T-bills essentially arbitrage with the fed funds rate.
In other words, there is no economically meaningful difference from the Treasury’s perspective—it can have “coordination” with the Fed and pay the Fed’s target rate, or it can ignore the Fed and pay what is essentially the Fed’s target rate.
If the two are essentially equivalent, then yet again, we have established that a helicopter drop is a fiscal operation that does not require “coordination” with monetary policy makers as long as the rate on newly issued debt mostly arbitrages with the interest rate target of monetary policy makers.
Now, neoclassical economists (by the way, this is not intended here as a pejorative term as some recently suggest; ever heard of the neoclassical synthesis, for instance?) often argue that deficits combined with “coordination” will be more stimulative than issuing T-bills because it raises the monetary base. But let’s look at this more carefully. First, from neoclassicals’ own perspective, this is not true, because they also believe that interest on reserve balances stops the stimulative effect of increases in the monetary base (since the monetary base would then earn the same as T-bills). I covered this internal inconsistency in neoclassicals’ thinking here.
Second, non-neoclassicals like MMTers and others like us associated with various forms of endogenous money and Post Keynesianism already know that exogenously raising the monetary base via monetary policy does not stimulate the economy. So much has been written on this that I won’t go into detail here, but the basic points are: (a) more reserve balances don’t stimulate bank lending because banks don’t lend reserve balances in the first place and don’t need them to make loans (witness asset price bubbles in housing (1980s, 2000s), equities (1990s), and commodities (2000s) that all occurred with minimal excess balances held by banks); (b) more “money” or deposits or whatever does not necessitate more spending or a “hot potato effect” (ever heard of converting your “excess” cash to deposits or your excess deposits into savings or time deposits?); and (c) more T-bills (or T-bonds, for that matter) does not stop anyone holding them from spending (ever heard of dealer markets?).
Finally, it’s interesting that some of the same people decrying the fact that rounds of QE threatened to reduce stability in financial markets by significantly reducing the stock of Treasury securities that provide liquidity via their use as collateral now also promote “coordination” that could further reduce the stock of Treasuries and liquidity benefits they provide via collateral. (Stated differently, in the real world it is Treasuries, not the monetary base, that can enable multiple rounds of credit creation in financial markets.) For this and other reasons, one could actually make the argument (as I have several times in the past already) that deficits with Treasuries could be more stimulative than deficits without Treasuries.
In conclusion and to summarize, the Treasury doesn’t need “coordination” with the Fed to carry out helicopter drops because helicopter drops are essentially fiscal operations already. “Coordination” adds virtually nothing of macroeconomic significance compared to fiscal deficits accompanied by T-bills (and the result is only slightly different if the Treasury issuesT-notes and/or T-bonds) since “coordination” itself leaves the Treasury with new debt that is serviced via interest on reserve balances.
In other words, the Treasury already has the ability to carry out helicopter drops on its own—it does not need the Fed’s blessing nor does the federal government need to force the Fed to acquiesce as occurred during World War II or through new legislation. For better or worse (depending on your perspective), this is a highly significant revelation for anyone trying to understand in theory or in practice how to design an appropriate monetary policy/fiscal policy mix.
An aside: There is a related point for those that do not completely understand MMT and erroneously believe that MMT describes the monetary system “as we want it to be” rather than “as it is.” As explained here, the US Treasury has within its power right now (aside from the debt ceiling, obviously, though there are already various ways around this, too, if desired, that have been explained elsewhere) the ability to execute helicopter drops without overdrafts from the Fed and without “coordination” with the Fed. That is, there are no changes required to the existing monetary system or existing laws to carry out MMT-favored policy options right now.