As of late, Eric Lonergan has had negative interest rates in his crosshairs. Helicopter money is a much sounder policy, he says, and goes on to cite a single study “proving” a precise, positive, and unshakable link between tax rebates and spending. The same “proof” is not available for negative interest rates, he says, which will probably reduce demand anyway (see David Einhorn’s Jelly Donut).
As you can tell, I find his argument full of speculation. It is intelligent, well-reasoned speculation, but speculation nonetheless. The fact is we simply don’t know how negative rates will impact the economy. And if we don’t know, why rule it out? The time to rule something out is when it has been implemented and demonstrably failed. None of Lonergan’s arguments against negative rates would result in catastrophic outcomes, so why admit defeat before we’ve even tried?
This is a time, surely, when proponents of alternative monetary policies should support each other. This is not the time for infighting. The enemy, let’s remember, is conservatism. After a century of economic triumphs — the end of the gold standard, the rise of Keynesian counter-cyclical policies, the taming of inflation since the 1980s — our societies have become complacent, and it will be difficult to convince the public to accept new tools without an imminent catastrophe at hand. To achieve the impossible, we all need to work together.
All this does not mean, of course, that we should shy away from debate. I, for one, believe that helicopter money has a significantly higher chance of bad outcomes than negative interest rates. Last weekend, Eric Lonergan proposed an injection of 5% of GDP directly into bank accounts. He believes this amount of new money would be highly stimulative. And on this point, he is probably right. While we can’t say for sure exactly how much demand will increase, we can be confident that it will rise. Sometimes people will save more of the rebate, as they have with the recent gas price windfall. Sometimes they’ll splurge it all in one go. Either way, a helicopter drop will undoubtedly boost demand.
My fear is hyperinflation. While a money injection of 5% of GDP sounds trivial, its potential impact on demand is enormous. If wages are paid monthly, this money could cycle from income to spending 12 times in one year. And if wages are paid biweekly, this money could cycle 24 times. What does this mean? It means that this new money could boost nominal spending by anywhere from 60-120% (12*5%-24*5%). If preferences suddenly change, the money is already there in actual bank accounts, ready and waiting to be spent. The overall boost to demand could quickly assume hyper-inflation proportions before the central bank time to react.
Under a system of negative interest rates, on the other hand, the likelihood of catastrophe is more limited. Negative interest rates only speed up the circulation of the existing stock of money. They don’t pump in more. Let’s remember that the only way new money enters the system is through commercial banks. And commercial banks, believe it or not, are not in the business of doling out loans indiscriminately. While artificially low interest rates could of course trigger inflation, the risk of a rapid surge in demand is much lower, as there is simply far less money lying around the economy waiting to be spent. The central bank, in other words, will have more time to react.
So I favour negative rates. The reality, however, is that the political hurdles to implementing a helicopter drop are fewer. While negative interest rates may face less legislative resistance (a helicopter drop would require approval from Congress), the main problem is they are a bitter bill for the public to swallow. Cash handouts from the government, on the other hand, are not.
For this reason, I believe we should still experiment with helicopter drops. But let’s experiment with caution. One of the main criticisms levelled at monetary experimentation and Keynesian economics in general is that it inevitably leads to 1970s-style inflation. Let’s not prove these naysayers right!