"Helicopter drops" are a bad idea at any time
By Scott Sumner
Market monetarists tend to prefer using monetary policy to stabilize the path of NGDP, not fiscal policy. We are skeptical of the efficacy of fiscal policy, and also view it as being inefficient. Now David Beckworth has suggested that a helicopter drop approach could be brought into play if monetary policy was hampered by a liquidity trap.
I have several problems with using fiscal stimulus at the zero bound:
1. Fiscal stimulus is inefficient and might not work.
2. Fiscal stimulus is not needed. As Mishkin said in the number one money textbook, monetary policy remains “highly effective” at the zero bound.
I should first explain that most people use “helicopter drop” as a metaphor for combined money/fiscal expansion, as when the Fed creates money and deposits it in each citizen’s bank account (or accounts at the Fed itself.)
The fiscal part of this plan is inefficient for the same reason as it would be inefficient to give people money when not at the zero bound—the deadweight cost of taxation. Some people respond that the funds are created out of thin air, so there is no deadweight cost. That’s wrong for two reasons. First, the funds will probably have to be partly removed when the economy exits the zero bound, in order to prevent high inflation. That requires distortionary taxes. Yup, there’s still no free lunch. And even if the funds never had to be removed, if we are at the zero bound forever, there is an opportunity cost; the same funds could be used to reduce distortionary taxation.
That raises the second issue. Let’s assume helicopter drops are not perfect, might they still be better than mass unemployment? Of course, and I’d favor them if they were needed. But they are not; monetary policy is still highly effective.
1. The best solution to the zero bound problem is to adopt a policy of NGDP targeting, level targeting.
2. Now it’s theoretically possible (although unlikely) that the country might be at the zero bound even if they had an optimal NGDPLT policy. In that case they should buy more Treasury securities.
3. Now its theoretically possible (although very unlikely) that a central bank might be at the zero bound even with NGDPLT, and even after buying all the Treasury debt out there. In that case they should buy agency debt and safe foreign government bonds.
4. Now its theoretically possible (although exceedingly unlikely) that a central bank might be at the zero bound even with NGDPLT, and even after buying all the Treasury debt, agency debt, and safe foreign government debt out there. In that case they might want to consider:
a. Set a higher NGDP target growth rate.
b. Negative interest on reserves.
5. Now there is a very tiny, tiny, risk that we’ve gotten past step 3 and step 4 options are not feasible for political reasons. Should you do fiscal stimulus in that case? No! Or at least not the sort of fiscal stimulus most economists imagine (tax cuts, infrastructure projects that are otherwise not worth doing, government consumption, etc.) Of course some of those projects may be worth doing, but in that case it’s not fiscal stimulus, it’s just ordinary government spending, worth doing even when not at the zero bound. I’m talking about the sort of stimulus that wouldn’t ordinary pass cost/benefit analysis, were it not for the assumed benefit of reducing the unemployment rate. That’s not worth doing, even if all the preceding initiatives leave us stuck at the zero bound.
Instead the government should buy riskier assets such as index funds of stocks and bonds. Thomas Piketty tells us that the government can expect to earn 5% in real terms in the long run, and since governments live forever, they can take the long view. Keynesians will insist this is actually fiscal policy, but I don’t buy that. Fiscal policy has a cost; the deadweight loss associated with distortionary taxes required to finance debt in the long run. That’s not true (on average) for purchases of stocks and bonds, although obviously it might be true in a few cases. The point is that the government should never do the sort of fiscal stimulus that is expected to lead to efficiency losses from taxes. If “something should be done,” it’s purchase AAA bonds, then other bonds, then stocks, etc.)
Of course all this is “angels on a pin” stuff, in the real world we’d never get beyond step 2. So no need to worry about creeping socialism.
PS. I do realize that the logic of Piketty’s figures imply that countries like Switzerland and Singapore might want to borrow a lot of money at near zero rates and buy so much wealth that they can eventually live off just the 5% income generated, and free their citizens from taxes. Better yet they should have done so in March 2009. But that utopian thought is better left for another post.