The goal of this article is to present an alternative argument and to contribute to the debate on central banks printing money to save economies in crisis. The case against the printing of money mostly revolves around the textbook idea that there is a direct relationship between reserves, broad monetary conditions, and inflation. This is simply not correct. Even some critics of the idea of printing money concede to this fact.[1] In the context of a well-functioning supply side of the economy, there is hardly any evidence that a marked growth in money supply, will automatically cause hyperinflation. In fact, there is a huge trove of studies on the factors that lead to hyperinflation; these factors are varied and cannot simply be reduced to the explanation of excessive monetary easing.
A government that issues its own sovereign currency can always meet its financial obligations by crediting bank accounts. This view belongs to the macroeconomic school of thought known as Modern Monetary Theory (MMT). MMT advocates argue that increasing the supply of money will not automatically lead to hyperinflation. The majority of hyperinflation cases recorded in history are as a result of severe structural disruptions to economies, such as wars, famines or wanton supply-side mismanagement of the economy, not the demand side. In the 1920s, the hyperinflation in Germany, for example, was as a result of the supply shortages due to the First World War, together with demands for reparation that emanated from the Treaty of Versailles. The situation was further exacerbated by exchange rate depreciation as a result of financial speculation[2].
The MMT also suggests that government spending should target full employment, and the reserve bank should keep interest rates low by monetising debt. Furthermore, there is no need for government to worry about “financing the budget” through taxation or cutting other government expenditures. MMT advocates propose that, at full employment government can cut back on spending or increase taxes to constrain demand thus maintaining full employment while averting excessive inflation. The argument then goes that to achieve full employment, fiscal spending should guide macroeconomic policy, and the policy should be subject to the constraint of inflation which then is managed through fiscal policy. The task of monetary policy then is to keep the interest rate low.
Financial historian, Edward Chancellor, argues that as a theory, MMT has been rejected by mainstream economists. However, in practice, the MMT is already being deployed. Monetary and fiscal policy are in fact, currently being openly co-ordinated, just as recommended by MMT. Last year, the federal deficit of the United States exceeded 1 trillion dollars at a time when the Federal Reserves Bank was acquiring Treasuries with newly printed dollars. This year, the budget deficit is poised to reach nearly 4 trillion dollars, however, tax increases are not up for discussion. The reserve bank will instead, foot the bill. This is MMT in action.
In explaining why it resorted to quantitative easing (QE), the Bank of England argues that if the economy weakens sharply, as it did in the final months of 2008, there is a risk of having too little money in circulation, not too much. However, the decision of the Monetary Policy Committee (MPC) to directly pump money into the economy did not include printing more money. The Bank rather purchased assets from private sector institutions such as banks, insurance companies, pension funds or non-financial firms, and the sellers’ bank accounts are credited. In so doing, the sellers have more money in their bank accounts, thus releasing more money into the wider economy. There is another variation of QE - the Ways and Means (W&M) facility - which is an overdraft facility (a short-term cash management tool) that the government of the UK has with the Bank of England. This account serves as the government’s overdraft account and enables cash advances from the Bank to the government. Here, instead of the reserve bank buying bonds, the reserve bank can lend directly to the government. If one thinks of a government bond as a loan to the government, then, mechanically, a W&M transaction is similar to QE. The major difference between the two is that, unlike QE, the decision to draw down (and repay) the facility is made by the government, not the reserve bank.
Deputy Finance Minister David Masondo is reported to have admonished the South African Reserve Bank to temporarily create money to fund the government’s response to the coronavirus crisis and its economic fallout. This is in hopes of averting an economic catastrophe similar to the Great Depression, by getting the Reserve Bank to directly purchase government bonds to fund South Africa’s deficit during the coronavirus crisis. This raises the question of monetary financing, where the government creates new money and spends it. Monetary financing can be in various forms. “Consider for example a tax cut for households and businesses that is explicitly coupled with incremental Bank of Japan purchases of government debt – so that the tax cut is in effect financed by money creation”[3]. There are disagreements on what the term monetary financing means and this leads to unproductive debates. In a recent speech, Gertjan Vlieghe, an external member of the MPC argues that while officials of the Bank of England maintain that they are not doing monetary financing according to their definition, others argue that they are doing monetary financing according to their definition. Vlieghe contends that this is rather an argument about definitions, and not about what the Bank is actually doing. According to Adair Turner, the main issues around monetary financing are merely political. The technical issues are already well-established (or should be) and there is no doubt about the feasibility and desirability in some circumstances. Turner argues that monetary financing of a growing fiscal deficit can stimulate aggregate demand and in some cases, it will be a more reliable and/or less risky approach to achieve such stimulation than any other approach. The magnitude of such stimulus can be calibrated and appropriately controlled to prevent excessive inflation.
In any case, the argument around monetary financing is redundant. Ever since Ben Bernanke’s November 2002 “helicopter money” speech, the world has been moving in this direction. Vlieghe believes that, to some extent, reserve banks are always doing that. The Bank of England is directly financing the largest peacetime deficit in its history. Before the crisis, reserve bank money in the UK amounted to about 12% of government debt. Now it is 26% of government debt. Figure 1 shows a simplified balance sheet of the Bank of England. In Japan, it is 42% of government debt. There is no clear-cut threshold beyond which monetary financing is “too much”, so far as investors believe government finances are sustainable and will not result in excessive inflation.
Vlieghe, further argues that, initially, good and bad monetary financing transactions look the same, however, one ends in inflation at target and the other leads to excessive inflation. The mechanical transactions on the balance sheet of the Bank of England are similar to the historical events that transpired in Germany and Zimbabwe. However, this is not where the smoking gun lies. What differentiates the Bank of England from its historical counterparts in Germany and Zimbabwe is that the German and Zimbabwean governments were implicitly or explicitly telling the reserve bank what to do, to achieve fiscal objectives and disregarded any inflation objectives. This phenomenon is known as fiscal dominance. Germany and Zimbabwe had reserve banks that issued whatever amounts were required to achieve the financing needs of government, without taking any actions to meet inflation objectives. The key distinction between a successful monetary financing and a disastrous one is who makes the decision and with what objective?
Monetary policy can be used to determine how much wealth the country has and how justly this wealth is distributed.
“… we need political leaders who understand that widespread prosperity is not only a matter of economic efficiency or business success but also a moral issue contributing to the strength of a nation’s institutions and the soundness of its values. Money is a government’s promise made palpable, and if we cannot trust it to work for us, we must question the worth of representative government.”[1]
Philipp Carlsson-Szlezak, Martin Reeves and Paul Swartz in a recent article in the Harvard Business Review, argue that the main barrier between a severe crisis and a structural regime break, is policy and politics. Persistently inadequate policy responses that are due to inability or political unwillingness, are what fail to prevent the negative trajectory of an economy in crisis. The fears of inflation and the possible economic consequences of printing money are warranted, these fears, however, should not pitch politicians against policymakers to the extent that it prevents healthy debates on novel, alternative, or even heterodox approaches to fixing the socio-economic problems that have bedevilled the country and especially in dealing with the coronavirus crisis. It is also critical to acknowledge the huge political risk that can be created if monetary financing is accepted as a feasible option. Adair Turner warns that political dynamics may lead to excessive use of monetary financing once the legal or conventional impediments to its use are removed.
So, to print or not to print money? Should that even be the question? The questions we should be asking rather are: can we create a set of rules to prevent the dangerous abuse of monetary financing while enabling a measured use in appropriate quantities and circumstances? Do we believe our politicians are wise enough to strictly adhere to such rules?
[1] Rauchway, E., 2015. The Money Makers: How Roosevelt and Keynes Ended the Depression, Defeated Fascism, and Secured a Prosperous Peace. Basic Books.
[1] See Epstein, G.A., 2019. What's Wrong with Modern Money Theory?: A Policy Critique. Springer. [2] Kindleberger, Charles P. 1993. A Financial History of Western Europe. 2nd Edition. New York: Oxford University Press. [3] Ben S. Bernanke (2003) Some Thoughts on Monetary Policy in Japan. https://www.bis.org/review/r030606d.pdf