Peoples’ QE and mistakes by the chattering classes.

Apart from interest rate cuts, budget deficits and the usual forms of stimulus, there is another possible form of stimulus that hasn’t been put into effect to date (at least not in an explicit and overt way), and that’s to simply have the state print money and spend it in a recession. One currently fashionable name for that policy is “peoples’ QE” (PQE).

Unbeknown to most economists (far as I know) that idea is not new: Keynes said in the 1930s that “print and spend” would be a perfectly viable form of stimulus. However, the idea has gained additional attention in the UK of late because one of the runners for the Labour Party leadership, Jeremy Corbyn and his adviser,  Richard Murphy advocate the idea.

That idea, or something very similar, was also advocated by Positive Money, the New Economics Foundation and Prof Richard Werner in their submission to the Vickers commission a few years ago. Incidentally, the authors of that submission now claim the ideas in it are a bit dated. Actually I beg to differ: that submission strikes me as a brilliant piece of work, and while the authors have doubtless updated their ideas in some ways, the submission basically has stood the test of time.
 
One slight difference between PQE Corbyn style and PM  & Co’s equivalent is that being on the political left, Corbyn presumably rules out using extra money to cut taxes, whereas PM & Co aim to be politically neutral: that is they accept that a right of centre government might want to implement stimulus via tax cuts rather than via extra public spending.

Unfortunately the above “Johnny come latelies” (Corbyn, Murphy, etc) make a couple of mistakes in connection with PQE which PM & Co’s submission warned against and managed to avoid, and the purpose of this article is to deal with those mistakes.


Gyrations in public spending.

One mistake by Corbyn, Murphy & Co is one I’ve pointed out several times, but to little avail. It’s thus.

“Print and spend” is a form of stimulus, and the amount of stimulus needed varies greatly from one year to the next. Indeed, occasionally no stimulus is needed at all. That means that if infrastructure spending is tied to the amount of print and spend implemented, then the amount spent on infrastructure (or other types of public spending) will gyrate from year to year by far more than makes sense. Indeed, specific infrastructure projects might come to a halt in years when no stimulus is needed, which would be absurd.

In short, PQE in that it consists of printing money and spending it on one area like infrastructure makes no sense. Thus all forms of public spending should be funded basically in the normal way, that is via tax and government borrowing. While in years when a decent dollop of stimulus is needed, MOST FORMS OF public spending, not just infrastructure, should be given a boost from “print and spend” – that’s assuming the government of the day prefers extra public spending to tax cuts.

Unfortunately the latter very simple point seems to be beyond the comprehension of Richard Murphy. As Tim Worstall has repeatedly pointed out, Murphy’s mouth is considerably bigger than his brain. E.g. see here and here.


Helicopter drops should boost just private, not public spending?

One variation on PQE is to print money and simply hand it out to households, a policy advocated by Eric Lonergan. As he puts it, “The smart version of “helicopter drops” involves equal cash transfers from the central bank to the household sector subject to its inflation target.”

I have doubts about that, and for the following reasons.

The decision to boost just private spending and not public spending in a recession contains a blatantly POLITICAL element: that decision boosts private spending as a proportion of GDP. And it is very definitely not the job of the central bank to change the proportion of GDP going to public and private sectors.

PM & Co’s submission didn’t make that mistake. That is, under their system, a central bank committee (or some similar committee of economists) decides on the overall SIZE of a stimulus package, while politicians and the electorate decide how that stimulus is allocated (to public versus private sector, and if it’s to the public sector, which government departments etc get the money).

As for Eric Lonergan’s REASONS for favoring households rather than public spending, I’m not impressed. One of his reasons (set out in an article by Eric Lonergan and Mark Blyth) is that it allegedly takes too much time for politicians to decide how to implement stimulus.

Well that idea was flatly contradicted by what happened in the recent recession in the UK where VAT was cut and then raised all without the express approval of parliament. In other words as long as parliament gives PRIOR CONSENT TO presidents, prime ministers and other senior politicians having some leeway in dealing with a recession, then those senior politicians can implement a boost to sundry forms of government spending (or adjust taxes) at the drop of a hat.

Lonergan and Blyth’s point about politicians being an obstacle to spending and tax decisions may well be a problem at the moment in the US, where Congress resembles a monkey house with two gangs of monkeys fighting for supremacy. But in most European countries, the above “prior consent” would be no problem at all for 95% of politicians once the logic is explained to them.

Moreover, in view of the above mentioned need to avoid excessive gyrations in the amounts spent on particular areas of public sector activity, the above prior consent would simply be consent to adjusting more or less ALL FORMS of public spending (and possibly tax as well) by about the same amount. And that ipso facto does not amount to a dramatic change to the shape of the economy.


Conclusion.

Positive Money and PM’s above mentioned co-authors got this peoples’ QE stuff right first time. In contrast, the “Johnny come latelies” are making a mess of it .

Full reserve puts conventional banking in check mate.

Here’s why.

If government so much as hints that it might rescue banks or depositors, that constitutes a subsidy of banks, and subsidies do not make economic sense. They reduce GDP.

Alternatively, if government explicitly declares it will never ever rescue banks or depositors, then all of those who fund banks, including depositors, effectively become shareholders: that’s shareholders as in “someone who at worst stands to lose everything”.

But that leaves a problem: what about people who want money lodged in a totally safe manner? Well they’re easily catered for by entities, banks, or bank subsidiaries which accept deposits and keep the money in a totally safe manner: i.e. don’t lend it on or invest it, except perhaps lend the money, short term, to government.  (Money market mutual funds in the US that claim depositors’ money is totally safe will soon have to abide by that rule.)

To summarise, those who want total safety can get it, while the bank system is no longer subsidised. GDP should rise as a result. And that all equals full reserve banking.


Can self funding insurance save conventional banking?

However there is what looks like an escape from that check mate position for conventional banking, as follows. If the state saves banks and depositors from possible extinction or ruin via some sort of self funding insurance system (like FDIC in the US), then the conventional arrangement of lending on depositors’ money can be retained, while at the same time no subsidy is involved.

Unfortunately there are problems there, as follows.

1. All forms of insurance involve the temptation to so to speak “cheat the insurer”.  That is, if you can take extra risks and keep the profit when the risk pays off, while passing the bill on to the insurer when they don’t pay off, then you’ll benefit.  Obviously all types of insurers take steps to minimise that problem, but the problem can never be wholly eliminated. (10% of claims in respect of house and car insurance in the UK involve an element of fraud).

So to that extent, the costs of funding a bank just via shareholders (who are in effect “self insurers”) must be lower than funding a bank via depositors who are insured by the state (or some other organisation).

2. If the state insures banks and/or depositors, it’s always possible the state UNDERESTIMATES the suitable premium. In that case we all know who comes to the rescue: the long suffering taxpayer. In contrast, under a “shareholder / self insurance” system, if shareholders underestimate the risks, then those shareholders, not taxpayers pay a penalty. I.e. no subsidy is involved.

3. Re government saving banks as opposed to saving depositors, while lender of last resort loans are supposed to be at penalty or commercial rates, in practice they aren’t. Exactly what constitutes penalty rates is debatable of course. But as a rough guide, Warren Buffet loaned $5bn to Goldman Sachs at 10% at the height of the crisis. That was a loan between two private sector entities, so presumably 10% was a realistic “penalty rate”. In contrast, the $13tr or so loaned by the Fed was at nowhere near that rate.

As for deposit insurance, in the UK, that is funded by taxpayers, not by commercial banks.

All in all, the idea that state backing for commercial banks will ever be on a strictly commercial basis is a joke. Come a crisis and in the heat of the moment, the temptation is to throw huge amounts of public money at the problem and at sweetheart rates of interest. And where the AMOUNT involved ($13trillion) is about three quarters of US GDP, we are talking a HUGE subsidy.

4. Contrary to popular perception, Walter Bagehot did not approve of lender of last resort loans. In the last chapter of his book “Lombard Street”, he expressed disapproval of it, but said he thought it was so ingrained in the system that it would be too difficult to remove.


Conclusion.

While it might seem that self-funding insurance can come to the rescue of conventional banking, that idea is badly flawed. So the conclusion is that conventional banking is well and truly in check mate.

Pictures of Earth and Moon taken from million miles from Earth.

Time lapse pictures of Moon passing in front of Earth as seen from a million miles from Earth. For more, see here.

OMG: BoE blog post on helicoptering invokes Ricardian Equivalence.

“QE for the people” is a hot topic in the UK at the moment, so this recent BoE blog post is currently of relevance.  The article is by Fergus Cumming and it makes claims which are debatable, to put it politely.

First, he attaches importance to Ricardian equivalence (RE). RE is basically as follows.

Governments have to incur debt so to fund stimulus, so at some point they’ll have to repay that debt via extra tax – extra tax on households for example. Thus households will not spend additional income that comes their way as a result of stimulus because they allegedly think they’ll have to pay extra tax to fund that repayment at some point.

If you think RE is an idea straight out of la-la land, you’re not alone. As Jospeh Stiglitz, the economics Nobel Laureate put it, “Ricardian equivalence is taught in every graduate school in the country. It is also sheer nonsense.”

Second, and as to actual REASONS why RE is nonsense, do you really think the average household spends time looking at the figures for stimulus, and working out how much extra tax they might have to pay several years hence? It’s hilarious: about 97% of households (at a guess) haven’t the faintest idea where to find relevant figures.

Third, the ACTUAL EVIDENCE is that RE is nonsense: that is, the evidence is that when government implements stimulus (e.g. puts tax cuts into effect) households actually spend a significant proportion of that additional after tax income.


Helicoptering is not reversible?

Next, the BoE article claims that conventional QE is reversible (in that the central bank can always sell the bonds it has bought back into the market) whereas helicoptering (aka QE for the people) is allegedly not reversible. Complete nonsense.

If the state prints money and distributes it via tax cuts or extra public spending, it can subsequently very easily reverse that process. First, it can raise taxes and “unprint” the money collected. Secondly, it can wade into the market and offer to borrow any amount it likes simply by offering an interest rate slightly above the going rate.

Actually doing that might require a change in the rules governing the central bank, but that’s just a technicality.

And finally  towards the end of  the BoE article it is claimed that:

“A successful helicopter money injection is difficult to achieve in principle because it requires people to believe that the government and central bank want to relinquish control of future inflation.”

Whaaat?

The exact reason for that bizarre claim are not well set out, but presumably the argument is that helicoptering is irreversible, ergo it will lead to excess inflation. Well as I just explained above, helicoptering IS REVERSABLE!!!!

Horrors: British politician writes article about economics.

And it’s not just any old politician: it’s Chris Leslie, the Labour Party’s economics spokesman or “shadow chancellor”. His article is in the New Statesman.

After some introductory waffle, he says, “Take, for example, the proposal for a ‘People’s Quantitative Easing’ where the Bank of England is instructed to use QE to directly finance infrastructure and public service projects. At one level it sounds so easy – if there’s a shortage of money, just print some more! But ending the Bank of England’s independence…”

Hang on. Why does giving the central bank the right to print money and let government spend it constitute “ending the BoE’s independence”? It doesn’t!!!!!

Indeed some of the of keenest proponents of the above “print and spend” idea, (e.g. Positive Money and the New Economics Foundation) SPECIFICALLY advocate that the if the above print and spend policy is implemented, the central bank should REMAIN independent.

That’s not to say the central bank should have the right to make obviously political decisions, like how much is spent on health, roads or education. But it SHOULD be independent in the sense of deciding how much stimulus is suitable. But central banks already have a dominant say on the latter point, so the likes of PM and the NEF are not advocating anything the slightest bit revolutionary there.

Chris Leslie continues, “But ending the Bank of England’s independence and reversing one of Labour’s most enduringly successful reforms would risk a major hike in lending rates, taking money away from schools and hospitals as debt servicing becomes more expensive.”

Now why on Earth does “print and spend” necessarily result in higher interest rates? Obviously if the amount of print and spend was excessive, then one way of countering that excess would be to raise interest rates. But it’s a bit daft to implement EXCESSIVE stimulus via print and spend and than counter that with higher interest rates.

Assuming the central bank is half competent, it won’t do that.

Next, Chris Leslie says, “And resorting to the printing press to artificially create money for public expenditure purposes would be a major distortion for the economy. Such a new monetarism would spark higher inflation and make it harder for those on lower incomes to afford goods and services…”.

First, who said that new money necessarily goes to extra “public expenditure”? As PM and NEF make clear, it’s up to the government of the day whether it wants to spend extra money on more public expenditure items, or whether it wants to spend it on tax cuts: which would result in more PRIVATE spending.

Second, there’s Leslie’s idea that money printing is “distortionary”. Quite the reverse: what IS DISTORTIONARY is the alternative method of adjusting stimulus, i.e. interest rate changes. Reason is that those changes affect only a limited proportion of the economy: those households and firms which are significantly dependent on variable rate loans. In contrast, those with no loans at all, or with loans where the rate of interest is fixed for several years hence, are not affected.

You might as well boost the economy by doing helicopter drops just on households where the head of household has red or blonde hair.

As for the rest of Chris Leslie’s article, I can’t be bothered with it. He obviously hasn’t a clue.

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You’ll also have the choice as to how far you want to portray Wolfgang Schaeuble as the devil incarnate.

The program will automatically include that nonsense about the EZ compromising democracy in Greece. That’s democracy as in “Greeks have the right to vote themselves billions of other peoples’ money, while those other people (German and other core country taxpayers) have no vote on how much is removed from their pockets”.

The article won’t mention the fact that  joining ANY organisation – EZ, EU, NAFTA, the UN etc etc – involves a loss of sovereignty. After all that would detract from the “weep / wail / whinge” thrust of the article.

You may have noticed that nearly all the articles that witter on about the alleged evils of the EZ appear very similar, for example they all go on about the above point about Greek democracy being compromised. That’s because half of the articles use our software!

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Also there’s no need to feel guilty about devoting all your article to whinging rather than making constructive suggestions: if you WERE TO MAKE constructive suggestions, no one would be interested.

Solving the problem as to how REALISTIC solutions to the Greek problem would actually work is far too much like hard work for 99% of the population. In  contrast, they’ll pay good money to have their emotions aroused.

For example Heiner Flassbeck (a former State Secretary in the German Federal Ministry of Finance)  suggested import tariffs as a solution for Greece’s problems about a month ago. And certainly that would, at least in theory, solve Greece’s problems. That is, it would allow demand to be increased and unemployment reduced in Greece, while not at the same time throwing the country’s balance of payments back into deficit, which in turn would mean Greece going further into debt.

But do you think anyone has taken an interest in that constructive suggestion? Dream on.

Your article will contain blatant self-contradictions like claiming that pushing Greece out of the EZ is wicked at the same time as claiming the Grexit would benefit Greece. But don’t worry: almost none of the twits reading the article will notice the self contradictions.

Minimum wages and demand.

This CEPR article by John Schmitt claims that one  argument for increasing the minimum wage is that such an increase might boost demand.

The argument there is that the low paid spend a realtively large proportion of their income, thus a transfer of income from employers to the low paid should increase demand.

Er . . . I suggest that’s false logic. Reson is that it costs nothing in real terms in increase demand, thus there is no point in making any sort of sacrifice (e.g. distorting labour markets) in order to increase demand.

As Milton Friedman put it, “It need cost society essentially nothing in real resources to provide the individual with the current services of an additional dollar in cash balances.”

However, as intimated above, that’s not to criticise OTHER arguments for a minimum wage increase.

(H/t to Mike Norman)