Winner of the New Statesman SPERI Prize in Political Economy 2016

Tuesday 7 June 2016

Money and Debt

For economists

As regular readers will know, my advocacy of helicopter money (HM) does not depend on it being different from, or better (at stimulating demand) than, fiscal policy. [1] So, for example, when Fergus Cumming from the Bank of England said that if after HM the government recapitalised a central bank this “reduces the initial stimulus to a vanilla, bond-financed fiscal transfer”, then that sounds just fine to me. Except, of course, to note that HM is not just like fiscal policy because (a) HM may be quicker to implement than conventional fiscal policy, and speed matters (b) HM can bypasses both genuine debt fears and deficit deceit (c) with HM there is no chance of monetary offset.

Much the same is true for this Vox article by Claudio Borio et al. They argue that if interest is paid on all bank reserves, then HM is “is equivalent to debt-financing from the perspective of the consolidated public sector balance sheet”. Maybe, but why should that be a problem? It is only a problem if you set up a straw man which is that HM has to be more effective than a bond financed helicopter drop.

The reason some people think it is not a straw man is that, if you set up a model where Ricardian Equivalence holds and you have an inflation targeting central bank, a bond financed lump sum tax cut would have no impact. Then you would indeed want HM to do something more. And perhaps it could, if it led agents to change their views about monetary policy. While such academic discussions may be fun, I also agree with Eric Lonergan that “theoretical games being played by some economists, which masquerade as policy insights, are confusing at best.” A good (enough) proportion of agents will spend HM - at least as many as spend a tax cut - for perfectly sound theoretical reasons. [2]

The Bario et al article does raise an interesting question. When the central bank pays interest on all reserves, what is the difference between money and bond financing? Reserves would seem to be equivalent to a form of variable interest debt that can be redeemed for cash at any time. It is exactly the same question raised in a paper by Corsetti and Dedola, an early version of which I discussed here. The answer their model uses is that the central bank would never default on reserves, whereas debt default is always an option.

I think this all kind of misses the point. Base or high powered money (cash or reserves) is not the same as government debt, no matter however many times MMT followers claim the opposite. (For a simple account of why the tax argument is nonsense, see Eric Lonergan here.) Civil servants can frighten the life out of finance ministers by saying that they may no longer be able to finance the deficit or roll over debt because the market might stop buying, but they cannot do the same by saying no one will accept the money their central bank creates. [3] Money is not the government’s or central bank’s liability. (For a clear exposition, see another piece by Eric, or this by Buiter.) Money is not an obligation to make future payments. Money is valuable because, as Eric describes here, it is an established network.

Bario et al seem to want to claim that because central banks nowadays control interest rates by using the interest they pay on reserves, this somehow creates an obligation. Reserves are like variable rate, instant access debt that banks get for nothing.

I think we can see the problem with this line of argument by asking what happens if obligations are broken. If the government breaks its obligation to service or repay its debt we have default, which has extremely serious consequences. If the central bank decides on a different method to control short term interest rates because paying interest on reserves is too much like a transfer to banks, no one but the banks will notice.

So reducing the macroeconomics of helicopter money to fiscal policy is not an argument against it. Furthermore money created by the central bank is not the same as government debt, even if interest is paid on reserves.

[1] They would also know - unlike Jörg Bibow - that I do not think there is any kind of contest between fiscal policy and HM, because the fiscal authority moves first.

[2] The two main reasons some people will spend a tax cut is if they are borrowing constrained, or if they think there is a non-zero probability that the tax cut will be paid for by reducing government spending. An additional reason for spending HM is that it might be permanent if it avoids the central bank undershooting its inflation target.

[3] If the finance minister knows some macroeconomics they would of course realise that not being frightened by the second means you should not be frightened by the first. But that does not negate the conceptual difference.           

Postscript (8/6/16): This by Biagio Bossone provides a very good complement to my analysis, looking a why HM is not 'permanent' and discussing interest on reserves


  1. As a layperson without academic library access, I'm very curious about the empirical evidence for Ricardian equivalence. Can you point towards any key papers?

    (I keep reading about the theory of Ricardian equivalence, but it's an empirical claim about how people will behave. I am sure there have been enough historical moments to form some natural experiments, but I'm not able to do an extensive literature search at the moment.)

    1. There is none whatsoever. It's a theoretical model property that the economy should have if you make bad assumptions about government debt is and how agents actually behave.

    2. It is indeed a theoretical proposition. Crucially it assumes everyone can lend (reasonable) and borrow (unreasonable) as much as they wish at the market interest rate. Empirical studies typically show it does not hold, with around a third of any temporary increase in income (e.g. from a temporary tax break) spent quite quickly.

    3. I'm told that Ricardo himself didn't even believe it. He proposed it as a concept. Not as a truth.

  2. “Base or high powered money (cash or reserves) is not the same as government debt, no matter however many times MMT followers claim the opposite.” So which MMTers make that claim? MMTers DO CLAIM that base money and public debt are VERY SIMILAR, but they do not claim they are IDENTICAL. Indeed Martin Wolf made the same point. As he put it:

    “Central-bank money can also be thought of as non-interest-bearing, irredeemable government debt. But 10-year JGBs yield less than 0.5 per cent. So the difference between the two forms of government “debt” is tiny…” See:

    BTW, David Hume, writing over 200 years ago made a similar point.

  3. Not sure I follow, you seem to be saying that there is no bond vigilantes for money. But actually FX vigilantes are very real, playing around with base money would make them come out, at a certain point...

  4. "Base or high powered money (cash or reserves) is not the same as government debt, no matter however many times MMT followers claim the opposite."

    It is really not that difficult to understand, although I suggest that Buiter and Lonergan have not understood it either. (and neither have Derrida or Hume)

    Money is a tax credit.

    A tax credit is a promise to accept money in payment of taxes by the state. It is therefore a liability of the state. When money is issued, the state creates that liability. When taxes are paid that liability is extinguished.

    Taxes can be paid in cash, or by redeeming government bonds. Either can be used to extinguish the liabilities of the state (which are tax credits).

    Money is therefore an obligation of the state to accept money in payment of taxes, i.e., money is a liability for the state.

  5. "Civil servants can frighten the life out of finance ministers by saying that they may no longer be able to finance the deficit or roll over debt because the market might stop buying...."

    I would suggest any finance minister who knows how QE works (where the BoE bought about 25% of the UK's debt) would not be frightened. The civil servant should, however, be sacked.

  6. Eric Tymoigne here:

    Gov currency is an obligation of the state because it promises to op take it back in payment at anytime at par so it has the obligation to do so. If gov does not do it (as it did many time in the past by crying out the currency or changing the term to maturity) then the gov defaults. This is tremendously disruptive. Gov currency is a zero term zero coupon security).
    Convertibility does not have to be required to make someone liable. As long as redeemability exists then there is a debt.
    More here:

    And here:

    And here:

  7. I very much agree with your conclusion

    "Furthermore money created by the central bank is not the same as government debt, even if interest is paid on reserves."

    You may be interested in this reply of mine to Borio, just posted, which follows a long exchange I had with him on the fiscal cost of HM. We haven't come to an agreement, but it might be interesting to discuss some reasons why his arguments may not hold. I would definitely welcome any reactions of yours and other readers.

  8. "If the central bank decides on a different method to control short term interest rates because paying interest on reserves is too much like a transfer to banks, no one but the banks will notice."

    I'm curious what alternative you might be referring to here--RRPs? Something else?

    1. Paying interest on reserves is relatively new: a reaction to the financial crisis and the holding by banks of a large amount of excess reserves.

  9. Money IS debt is a phylosophical question, not economic or value question.
    MMT does not claim that money is "same" as debt, MMT says that money IS debt of governments that issue it. And it is only a phylosophical statement. Government behaves and uses the same way with money and with bonds.
    It is phyloophical in order to dispel myths about money and myths about government debt.

    When governments give money it helps it with an obligation just as with issuing debts. When govs receive money back it destroys it, and also destroys its bonds as it receives them back. The other side, private side, is helped by having money and also having bonds.
    Bonds and money do not behave the same in private hands but they do in government hands; governments issue it and also destroy it. That counts only with money and bonds that such government issue, not with the ones that other government issue it. Then it behaves just as in private hands.

    So there are two perspective on money and bonds, one from private side and another from government side. Those perspectives are different. I know that MMT gives headaches to many because those sides are not pronounced all and every time such things are disccused. But mainstreamers are even worse on noting to which side a statement should apply.

  10. SW-L, i would say that your post is excellent in describing HM and bonds. But you can add another solution to such disccusion; raising requierd reserves instead of paying interest on excess reserves from HM.

  11. Wouldn't it be better for civil servants / the cb / economists to educate the finance minister and the public as to why they should not be frightened of govt debt, rather than accommodating their fears through tricks like helicopter money, and so perpetuating the myths?

    1. No. HM is partly a fall back in case governments fail to be educated. It is also a fall back when governments fail to act quickly with fiscal actions.

    2. "It is also a fall back when governments fail to act quickly with fiscal actions."

      Wouldn't introduction of strong auto stabilisers be better?

  12. «they cannot do the same by saying no one will accept the money their central bank creates.»

    That is not a "law", but something that has to be earned and maintained. Consider the present and past history of the argentinian peso, the greek drachma, the venezuelan bolivar, or even worse the cambodian riel etc.

    In his linked article E Lonergan gets pretty close to the most appropriate idea of "money" but makes several mistakes, most small, but some less so, and some matter in limiting the possible extent of "helicopter drops".

    The major issue is that "moneyness" is not bestowed by "users" but by *vendor* (money is debt created by buyers and accepted by vendors), where a vendor is the particular type of user that wants to become more liquid by giving some more directly useful but less liquid in exchange for something less directly useful but more liquid, e.g. by giving "food" to get "currency".

    The practical limit is then usually the effect of the money dropped by an helicopter on the liquidity of that money when used to buy imports.

    Because as a rule imports cannot be bought with "helicopter money", they must be bought with something called "hard currency", and "too much" helicopter money does not help its exchange rate with hard currency, and it is foreign vendors that decide what they accept as "hard currency".

    Which is simply the old principle that fiscal policies (or credit policy that is disguised fiscal policy, like the creation of "wealth effects" via "private keynesianism") that results in larger surges in imports has very different impacts from policies that result in smaller surged in imports.

    But it is often rare to get even political economists to consider the case of open economies, when most of Economics is about closed ones.

    «money created by the central bank is not the same as government debt»

    «Money is not an obligation to make future payments»

    Of course it is, where the payments are in stuff more useful but less liquid than money; that is money, if it is money, is a debt payable in non-money stuff. Money is worthless, that is, is not money, if it has no purchasing power, and purchasing power is in effect the obligation to make payments (in goods and services). Debt is not necessarily just that payable in currency.

    That does not mean that the obligation is absolute and enforceable; like for every type of debt, cramdown and default can happen, for money too.

    Consider someone buying food with a cheque saying "2 hours of my work to the bearer". That can circulate, can be hoarded, but it must be eventually be paid with 2 hours of work by the issuer, or else there is little reason for the vendor to accept it.

    If the issuer when presented with the cheque, used to purchase 2 hours of their work says "I'll do one hour" that's a cramdown, and if they says "so long sucker", that's default; and both have as a rule material consequences.

    Vendors accept money not just because it is so useful because it has network effects, as a unit of settling accounts, but because it can be used in turn to buy something. The acceptance of money-debt by the issuer (its repayment) in exchange for the stuff described as its face value is essential to its acceptance by everybody else.

    Just about only banks and the government by conventions can get away with issuing a limited amount of cheques they never intend to repay (with any good or service less liquid than money), and that's a very special thing called "seignorage".

    1. What’s particularly entertaining is that there is little difference between a Petro-state supported by ‘oil revenues’ and a deficit state supported by foreign saving. In one the export product is oil, in the other the export product is safe savings.

      It’s only economist blinkers that stop them seeing the two products as largely equivalent. And therefore the issues being somewhat similar.

  13. «Because as a rule imports cannot be bought with "helicopter money", they must be bought with something called "hard currency", [ ... ] the old principle that fiscal policies [ ... ] that results in larger surges in imports has very different impacts from policies that result in smaller surged in imports.»

    The point I was making perhaps was not overt enough.

    While I agree with most of this post by our blogger and most of E Lonergan's argument, the devil is in the details, and in this case the details really matter, and our blogger's post should have made them, even if talking of exchange rates and balances of trade is so unfashionable in Economics.

    We all agree that "helicopter money" is mostly disguised fiscal policy, but since it is about "money" it operates mostly non-selectively via the consumption channel, which includes consumption of imports (as well as in part via paying back of debt in some places and thus allowing leverage to surge again in other places).

    But proper fiscal policy, that is selective spending by government, can be targeted at consumption or investment that has less of an impact on imports, and thus can have a reduced impact on the acceptance of that "money" by vendors, which degree of acceptance gives it a degree purchasing power.

    Put another way, helicopter money by raising demand can indeed stimulate supply and employment (supply of labour), but not just (or even mostly) in the economy in which the helicopters fly, but in other economies. The story of the extraordinarily loose credit policy ("fiscal keynesianism") of the past 30 years in many anglo-american culture countries has also been a story of booming employment and wages in exporting countries, and stagnant or falling wages in the countries with the very loose credit policy, perhaps not entirely by coincidence :-).

    Put another way again, helicopter money is somewhat similar in impact to an inflow of "free" ("never to be repaid") financial capital from abroad. This impact is usually to the benefit rentiers in the target country and of businesses and workers in the countries that export to that target country.

    Fiscal spending for consumption or even better (useful) investment targeted at raising demand for national resources usually is more beneficial to workers and in particular to resident workers.

    The best things that can be said about "helicopter money" targeted at all consumers in a country are that it is better than similar loose-credit policies that target the richer half or quarter of the same country, and much better than the trillions of public free-capital/"bailout money" donated by central banks and treasuries to the very richest members of the financial sector.

    But those are pretty low bars, even if beloved by some "sponsored" (or eager to be "sponsored") sell-side Economists, usually of a (fake-)"conservative" coloring.

    1. If Japan suddenly decides for whatever reason that it doesn't like Sterling and starts selling Sterling for US dollars, then that move will spread via the other currencies - because there is suddenly money to be made buying and selling RMB/USD pairs and USD/GBP pairs. And there is suddenly excess demand for US dollars affecting every pair linked to the USD.

      So other exporters to the UK are affected by the entities in Japan's decision - since the supply and demand has shifted.

      Suddenly China has a problem with its dollar peg because there is an increased demand for US dollar, which it can fix by supplying the USD and buying the Sterling to keep the currencies in a range that it requires for its own exports.

      All excess exporters have spare currency. The spread effect means that what they lose on Sterling won't necessarily be corrected by increases elsewhere - because of course nobody exports everywhere. Everybody has major markets and minor markets.

      Everybody acts with view to their own interests and that tends to balance things out. An importing country can help that by ensuring that any currency pain is felt by those countries exporting to your country - imposing import restrictions on luxury goods for example.

    2. In a world short of demand, those with demand have the upper hand.

      You do not quite have the management of floating rate systems correctly analysed. Largely because you are operating in fixed exchange rate mentality.

      Imagine a system where nobody in the world wants your tally sticks. You want a larger standing army which means freeing up some people from land work. So you impose a tax on the land and issue tally sticks to those who sign up to your army and those that make pointy sticks. Productivity is improved by division of labour and the army gets the spare manpower and goods - which they then use to improve the water drainage and irrigation systems further boosting output.

      Everybody is more fully employed by using the state's power to create money, but there is no 'surge' in imports because nobody wants your tally sticks outside your border. But inside the border there is a demand due to the taxation system.

      Only when you have that 'reductio' clear in your mind can you get a grip on the dynamics within a floating system.

      Where you have drawn the border is an artificial device based on political boundaries. If you just have a dynamic border that encompasses everybody holding a denomination then it becomes much clearer to see what is actually happening.

      But it boils down to this. The end buyer always gets to use the type of money they want and the end supplier always gets the type of money they want. Otherwise there will be no deal. It doesn't matter what the invoice is priced in. It doesn't matter what the currencies are. It doesn't matter where people are physically located in the world. The finance system has to make the finance channel tie up or it all stops and the deal chain collapses.

      Statistics showing excess of imports or excess of exports are thus the result of successful end to end deals on both the real and financial sides. They can't be anything else in a floating rate system.

  14. Great post, surprisingly convincing for something I tend to be skeptical about.

  15. I continue to appreciate your separation of HM spending from the financing of it, as many commenters seem unable to do the separation and become confused.

  16. "Money is not the government’s or central bank’s liability."

    For this to mean anything, you have to show that there is a useful distinction here between money and bonds. You have to show how the following two statements can be simultaneously true:

    1. Money is not a liability.

    2. Government bonds are a liability, even though there is no obligation other than to deliver an instrument that is not itself a liability.

  17. This post seems very disingenuous as I have said many times before all spending is 'money financed.' They run unlimited overdrafts intraday and could do just use the Ways and Means Account permanently if it were not for Article 123 of the EU treaty. Government runs overdrafts intraday and clear at the end *just like* private banks:

    "18. The net surplus or deficit in the NLF is automatically balanced to zero each day by a transfer to or from the Debt Management Account operated by the Debt Management Office (DMO). The DMO's cash management objective is each day to balance this remaining position on the NLF. It does this by issuing Treasury Bills and by borrowing or lending in the sterling money market during the day. To achieve this objective the DMO needs reliable forecasts of each day's significant cash flows into and out of central government, and up to date monitoring information on actual cash flows as they occur. For cash management purposes the flows that matter are those which cross the boundary between the Exchequer Pyramid accounts at the Bank of England and accounts elsewhere (ie cross the outer black line of the chart annexed to this memorandum).

    19. When government is a net lender on a particular day because, for instance, tax receipts exceed spending, the DMO lends the cash back out into the market. The effect is to balance up cash holdings across the banking sector because, if government has received more cash on the day than it has spent, the commercial banking sector will have an equal and opposite deficit.

    20. The DMO has put arrangements in place with the Bank of England and the main settlement banks to ensure that its position is balanced at the end of each day, even when there have been very late changes in the forecast of government cash flows on the day. The DMO also maintains a small (£200 million) balance at the Bank which acts as a buffer, eg in the event of a change in the net government position following the final reconciliation of the government accounts in the Exchequer Pyramid after the end of each day."

    "HM can bypasses both genuine debt fears and deficit deceit "

    Think about it. So can not issuing debt and keeping rates at zero.


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