The Money Helicopters are on their way

Amol Agrawal

Cometh an economic crisis, cometh the need for money helicopters. Whether it is the Japanese crisis, the 2008 financial meltdown or the current Covid19 economic crisis, we keep hearing economists citing the need to bring helicopters giving money (literally) to the public.

Milton Friedman first wrote in 1969 about money helicopters. The idea became really popular when Ben Bernanke, then a member of the Federal Reserve Board referred to the idea in a 2002 speech. In the speech, Bernanke listed several ways in which central banks could cure the problem of deflation which had affected mainly Japan back then. One of the ways was that first the government would cut taxes and then central banks would buy bonds to prevent interest rates from rising -- this will stimulate consumption and then the economy. Bernanke added: "A money-financed tax cut is essentially equivalent to Milton Friedman's famous "helicopter drop" of money".

The question is: what is this Milton Friedman's helicopter drop of money? In 1969, Friedman's essays were compiled in a publication titled 'The Optimum Quantity of Money and Other Essays'. In the opening essay, Friedman explained one of the central aspects of monetary economics: the idea of money being a nominal unit such as Rupees, Dollars etc. Convert 1 rupee into 100 paisa and nothing changes expect all things get multiplied by 100. Contrast this with real money which means the quantity of goods and services the nominal units can buy.

Friedman used the helicopter analogy to illustrate the differences between nominal and real units of money. Friedman used two cases, the first being helicopter drop as a one-time affair and second as a continuous affair. A drop of money will change the nominal units but will not change anything on the real side. The nominal amount of money is determined by supply whereas real amount of money is determined by demand. This is quite profound and led to the basic dictum that increase of nominal money just leads to higher prices. Whereas the true measure of a society's progress is based on the rise of real money.

Bernanke who got the title 'Helicopter Ben' post his 2002 speech, later explained the mechanics of helicopter financing in a blog post in 2016.

One must remember that both in 2002 and 2016 Bernanke was facing a different economic situation than Friedman. Friedman worried about high inflation whereas Bernanke's problem was low inflation and probable deflation. Thus, Friedman was explaining this helicopter drop to simply tell us that one major cause of high inflation is higher money supply. Bernanke on the other hand was looking to increase inflation and inflation expectations and suggested helicopter money could be a way to get out of deflationary conditions and economic stagnation.

Bernanke categorises helicopter drop as a fiscal policy or more appropriately Money Financed Fiscal Policy (MFFP). This is how it works. Say the economy is operating below potential and is running low inflation. The monetary policy is not as potent and fiscal policy is needed. The government decides to spend $ 100 billion on an infrastructure program. Usually, the government will issue debt to finance the $ 100 billion which leads to higher interest rates, concerns over excessive debt and higher taxation in future. Under MFFP, all we need is the central bank crediting the government account with $100 billion. Thus MFFP does not create any of the problems related to debt-financed expenditure.

This mere idea of MFFP will obviously bother monetary economists and central bankers worldwide. This proposal goes back to the deficit-financing methods used by governments in the past which led to hyperinflation and to undermining central bank independence. So leave alone using MFFP as a first option, it should not even be a second option.

Bernanke says "no one is recommending the use of such policies in ordinary times; it's precisely in the most difficult or extreme circumstances, in which other monetary and fiscal tools might be unavailable or ineffective, that MFFPs might be considered." The way to work around independence issues is that US Government passes a statute wherein a special account is created at the Federal Reserve. If the Government requests funds under MFFP, the Federal Reserve alone can determine whether there is a case for MFFP and accordingly credit the account. The Government will have to use the funds judiciously towards real resources and if funds remain unspent in a given time, the Federal Reserve can withdraw the funds.

Some economists have equated MFFP to the quantitative easing (QE) practiced by central banks. Well, the flow of funds may be the same but the mechanisms are different. In traditional QE, the governments continue to finance their expenditure via issuance of bonds. The central banks then buy these bonds under QE and give funds to the banks who channel the funds to the economy. The QE has often been criticized for being for Wall Street whereas MFFP is more like a People's QE with funds flowing to Main Street.  In traditional QE, the concerns over excessive debt and higher taxation in future remain.

In fact, MFFP is nothing but a variant of Modern Monetary Theory (MMT, see my pieces here and here).  MMT specifies that a sovereign issuing its own currency should not worry about debts as they can always be paid by issuing its own currency. Thus, if a government wishes to spend on real resources it should just ask the central bank to finance the spending.

Willem Buiter in a Project Syndicate article noted how the Covid19 crisis will lead to unprecedented policies. He says that responses in US (and UK) "will come in the form of "helicopter money," an application of Modern Monetary Theory (MMT) in which the central bank finances fiscal stimulus by purchasing government debt issued to finance tax cuts or public spending increase." Who would have imagined that the much-derided MMT will be compared to the helicopter money idea discussed by Friedman, the most celebrated monetary economist?

We are living in seriously surreal times where all kinds of ideas which one could never imagine discussing are actually getting implemented. The Covid19 pandemic has shattered all the glass ceilings in economics where only certain rather conventional ideas could be preached. Helicopter money is surely one very unconventional idea. In his 2016 post, Bernanke said that helicopter drops are "very unlikely to be needed in the United States in the foreseeable future". Of all his projections, Bernanke would certainly hope this one prophesy would be right. Unfortunately, it is not. Helicopters are coming thick and fast, trying their best to outpace the virus.

Amol Agrawal is faculty at Ahmedabad University. Views are personal.

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