Credit: After another quarter of subpar growth, economists and financial professionals are calling for more unconventional monetary policy in the United States. Time and time again quantitative easing and negative interest rates are put forth as the answer to our problems, but recently a new solution has emerged: helicopter money.
Helicopter money was first made popular by the American economist Milton Friedman in 1969, when he suggested dropping money out of a helicopter was the key to fighting deflation and restarting the economy. The idea gained popularity again in the early 2000s after Ben Bernanke made a passing reference to it in a speech.
Most recently, Bill Gross, a portfolio manager at Janus Capital Group, claimed helicopter money could solve the economy’s current stagnation. Unfortunately, it’s never that easy and critics believe the policy is filled with false promises.
Origins of Helicopter Money
In his famous paper, “The Optimum Quantity of Money,” Milton Friedman addresses helicopter money as a basic principle that raises inflation and output in an economy that is running below its potential. He explains it using a hypothetical situation where $1,000 is dropped from a helicopter to be collected by whomever can get their hands on it.
If people view this as a one-time event, then they would be more inclined to spend freely, thereby increasing economic activity. Friedman used the helicopter as metaphor to argue the government could always create inflation by printing more money.
While this sounds awfully similar to quantitative easing there is one glaring difference; helicopter money is used to purchase goods and services where QE creates money to buy government bonds. As bond yields draw down and interest rates near zero, conventional wisdom suggests consumers should borrow and spend more.
However, after the 2008 Financial Crisis people were so risk averse that they would rather save then spend at all. In this case, Helicopter money bypasses those obstacles in such a way that virtually guarantees total spending will go up.
How it Works
Helicopter money differs from most monetary policy because it incorporates both quantitative easing and fiscal policy. It essentially involves the Federal Reserve issuing a large check to the U.S. Treasury to pay for new spending and tax rebates. This comes under the assumption that the Fed does not reverse the effects of helicopter money on the money supply.
While economists view it as a last ditch effort, the theoretical benefits are unparalleled. It directly makes the economy better off by improving GDP, jobs and income. As household income increases from the tax rebate, this will induce greater consumer spending and create inflation.
A temporary increase in expected inflation coupled with near zero interest rates should incentivize capital investments and other spending. The fact that helicopter money is a one-time event means it would have no bearing on future tax burdens.
Advocates for Helicopter Money...
Given that interest rates and inflation are near zero, government debt is dangerously high and we still can’t stimulate any semblance of growth, some experts believe helicopter money should be the next logical step. Bill Gross, on the one hand, thinks technology and robots are slowly wiping out our jobs so a new social safety net that provides everyone with a universal basic income will stimulate growth.
On the other hand, hedge fund manager, Ray Dalio points to the shortcomings of QE when making his case for helicopter money. While bond buying increases the aggregate money supply, it usually results in the excess money going to the wealthy, who are less likely to spend that extra cash. Helicopter money puts this cash directly in the hands of those likely to spend and push the economy forward.
...And Critics
The biggest problem with helicopter money is that there is no certainty it will spark an economic recovery. After the Financial Crisis, households have become more risk averse, often choosing to save rather than invest and spend. Given an incremental boost in household income, it can’t be said definitively whether spending increases or not. Meanwhile, for the U.S. economy, which is close to full employment and in no imminent danger of deflation, helicopter money hardly seems worthwhile.
Another obstacle would be parting the institutional separation between monetary and fiscal policy. Helicopter money would transfer risk from government’s balance sheets to the central bank, which is historically known for having robust finances and carefully managing risk. Stretching the financial integrity of the central bank and federal government beyond its limits would undermine the reliability of the dollar.
Impact on Investors
If such a policy were to be implemented and be effective for that matter, there would be widespread consequences across the financial markets. Under the assumption that it was successful, defined by higher growth and inflation expectations, then the stock market would rally.
Higher growth expectations, all else equal, would lead to greater future earnings thereby driving stock prices. Those increases would likely come in the consumer discretionary sector which is highly affected by household spending. As spending improves, names like Walmart (WMT) and Amazon (AMZN) would see higher quarterly earnings, causing stock prices to increase.
Final Take
Despite the state of the current economy, helicopter money is unlikely to be needed in the foreseeable future. It creates a number of complicated issues, such as finding the optimal balance between the federal government and central bank. Furthermore, it cannot be said with certainty that such a program would have a positive impact on stimulating the economy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
