Helicopter Money: A Serious Approach? Pros and Cons Macroeconomics

Introduction

Helicopter money is a very unconventional monetary policy. This paper intends to investigate that exact topic and further analysis into its advantages and disadvantages. Firstly, the definition, as well as a brief background of helicopter money, will be explained, followed by the economic theory behind helicopter money. Furthermore, the advantages and disadvantages will be analyzed, as well as a comparison of helicopter money to its alternative, quantitative easing (QE). There will also be an example of a country that used this method or attempted to use it and the effects of such a case. Then we will draw a conclusion from the entirety of the paper and all the research.

Background on Helicopter Money

This monetary policy was first introduced in 1969 by Milton Friedman. He spoke of this concept in his now-famous paper “The Optimum Quantity of Money.” (Irwin, 2016) Thus, from this paper, Friedman’s term “helicopter money” started to gain traction. However, its popularity only drastically increased when it was mentioned by former Federal Reserve Chair Ben Bernanke in a November 2002 speech while at the time he was the Federal Reserve governor. Such a mention of this topic left Ben Bernanke with his own nickname of “Helicopter Ben,” which remained with him during the majority of his tenure as a Fed member and a Fed chairman. (Elvis Picardo, n.d.)

With all this mention and talk of helicopter money by such influential people, what exactly is helicopter money? This concept, as mentioned in Friedman’s paper, is: “Let us suppose now that one day a helicopter flies over this community and drops an additional $1,000 in bills from the sky, which is, of course, hastily collected by members of the community”. (Irwin, 2016) The basis of this is that imagine if a helicopter suddenly dropped a large amount of cash from the sky and directly onto the public. While civilians and individuals scramble for money, what will they do once they have all the money they can take? The premise of this is that they will 1 HELICOPTER MONEY: A SERIOUS APPROACH? spend it and thus boosting the economy and stimulating inflation. The thought behind this experiment proposed by Friedman is that it is “in order to elucidate the effect of money injections into the economy over time.” (Belke, 2018)

Economic theory

As introduced above, helicopter money is, in all practicality, a provision of “ free money ” to the population so as to simulate inflation. When first proposed by Friedman, he stated that the way this would function is that after the bills had been dropped and collected, there would be a general assumption that this would be a one-time event. As a result, the consumers would instantly spend the money, stimulating the economy on two fronts. Due to the direct expenditure, there would be a slight increase in inflation, and given that one of the macroeconomic goals of many countries is to maintain a steady and slow rate of inflation, it would be beneficial. On the other front, the increase in the sudden expenditure would lead to an increase in consumer confidence which in turn could ultimately result in more jobs being created by manufacturers with more output (Krishnan, 2016). Literally acting as a “steroid shot” to boost the economy. While, on one part, this is theorized to be able to stimulate inflation, it is also regarded as a method to counter deflation. The kind of inflation that occurs as a result of an increase in the supply of money is demand-pull inflation, shown by the graph below.

Where we see that due to the demand shifting to the right as to there being more money in circulation, however, the real income of the individual real national output remains the same. As demonstrated in the diagram above, y1 remains the same with the respective long-run aggregate supply. Yet the shift causes an increase in the average price level, which is the definition of inflation, the increase in the average price level over a certain time period. This is indicated by the change in P1 to P2. One can draw a parallel conclusion that helicopter money is similar to quantitative easing, which is explained later in this essay. Advantages Even with such an unconventional concept as helicopter money, it still has its advantages for the economy. Friedman’s argument for his own theory is that central banks can simply just print enough money in order to create inflation. With more money being available, people would then spend much capital, which then causes nominal GDP to increase, and this can be through either the production of more goods or services, higher prices, or even both. (Belke, 2018)

HELICOPTER MONEY: A SERIOUS APPROACH? Another advantage concerning helicopter money is that it would allow central banks to tackle the deflation that has been present since the financial crisis by directly injecting money into the real economy. This concept that is used in this manner is beneficial as prior tactics and attempts from leading central banks have yet to achieve their desired levels of inflation. Therefore, perhaps a unique approach is required. In addition, if this method of helicopter money is used, the European Central Bank (ECB) is able to purchase government debt and then further replace it with interest-free and indefinite loans without resulting in inflation to overshoot its target. (Belke, 2018)

As with these benefits, along with such an approach also follows its downfalls. Disadvantages With such a bold concept from Friedman, while it has its aforementioned advantages, there are also many challenges and downfalls that accompany this concept. One challenge to be mentioned is the “institutional separation between monetary and fiscal policy.” (Belke, 2018) Such a gap in the two policy types exists for a good cause, as central banks were granted independence so as to prevent the reckless printing of money. Another obstacle concerning helicopter money is its governance. To be able to implement the approach to its fullest, it would require heavy and close regulation of the legislature as well it is difficult to constantly manage. Even if it was successfully managed all throughout, there would be an issue of putting at risk the longer-term independence of the central bank. (Belke, 2018)

Another challenge for Friedman’s concept is that if money were to simply be dropped directly on the public, while its intended purpose is for the people to spend it, there is a possibility that the people would want to save instead of spend. Thus, going against the aim of implementing helicopter money. There is also a fear for economists that if such were to be implemented, there would be a reason for alarm concerning a drop in the value of the currency. Printing 4 HELICOPTER MONEY: A SERIOUS APPROACH? large amounts of capital may result in currency devaluation in international markets, which could then negatively impact economic recovery. (Seth, 2016) Furthermore, another argument against helicopter money is that it “would rip huge holes in central bank balance sheets.” (Belke, 2018) Therefore, the euro member states would and their taxpayers would have to endure the costs of using this method as central bank profits would fail to materialize for a long time. (Belke, 2018) Helicopter Money vs.

Quantitative Easing (QE) What is the alternative to helicopter money? The answer to this is quantitative easing. Quantitative easing is when a central bank purchases government securities or other securities from the market in order to lower interest rates and increase the money supply. In addition, it increases the money supply by flooding financial institutions with capital to attempt to promote increased lending and liquidity. (Radcliffe, 2018) While both these concepts may seem similar, there are differences. One of the major differences is that the large majority of QE purchases have been asset swaps. Essentially, this is where central banks introduce more capital in the market through government bonds, including other assets such as commercial bonds, mortgage-backed securities (MBS), and exchange-traded funds (ETF). QE also enables for eliminating of limitations on available reserves in the financial sector as well as decreasing the cost of borrowing as more capital will be presently available in the financial system. (Seth, 2016)

Moreover, QE is a temporary and reversible measure as the central banks will sell the purchased assets when economic recovery is reached. While helicopter money is a more permanent and irreversible method as the distribution of the money increases the base amount of capital available for consumers. 5 HELICOPTER MONEY: A SERIOUS APPROACH? Using helicopter money would have a more direct effect on the economy as it is an injection of capital into the economy. However, with QE, as it creates capital through government bonds, it will have a different effect. QE pushes down bond yields which provides an incentive for consumers to borrow and spend more as interest rates cuts. However, this may not always be the case as some consumers may be more risk averse, and they are willing to hold cash with no return than to spend it. (Belke, 2018)

Examples

While there has yet to be a country that has adopted the helicopter money policy as described, there have been similar attempts to provide “free money,” so to speak. As explained in the theory section, the printing and providing of free money leads to hyperinflation. Thus all of the notable attempts so far have failed. The most notable example of this was Germany after the signing of the Treaty of Versailles. Essentially after the first World War, due to Germany having to fund its warring intentions, the government printed money, by the end of which there was six times more money circulating in the economy than there was at the start of World War One. With the intention of having a devalued currency and, as a result being able to export more to other countries, Germany opted to keep pursuing their policy of printing more money.

While to a certain degree, this was beneficial, given that in the upcoming future, due to Germany losing the war, the incurring costs had to be paid. Thus, as a result, Germany had to print more money, therefore. As a result, increasing the flow of money caused previous inflation to worsen until, ultimately, Germany fell into a hyperinflationary trap. Thus here we see the parallelism between helicopter money and the situation in Weimar Germany. Another example can be explored when seeing the hyperinflation caused in Zimbabwe.

While it can be argued that there were several reasons for this, one could consider that, similar to Germany. There was too much circulation of the Zimbabwean dollar as a result of funding warring efforts. Zimbabwe does not keep records of its inflation. Only a rough estimate can be given. However, there was an underreporting of around 23 million dollars a month to the IMF regarding the warring efforts of Robert Mugabe(Pierce, 2000). Presently Japan has opted for a quantitative reasoning approach that has been explained above in this essay. Whether it will change to a policy more oriented around Helicopter Money is yet to be seen. However, given that the previous attempts at doing so have failed, Japan would most likely opt to keep its present policy.

Conclusion

As discussed in this essay, there are potentially great benefits to helicopter money. In theory, this method is very sound, yet in all practicality, all attempts to engage in a venture driven by helicopter money have failed. Debatably, this could be less due to direct economic reasons and more due to the separate intentions of the population that gets the money. Furthermore, it has high requirements in terms of its legislation. Having slight inflation may be advantageous, but if, as a result, there is hyperinflation, the trade-off is not one that is favorable to the nation. Perhaps it is due to this reason that no country has pursued a proper helicopter money policy, in its truest form, in the last century.

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Helicopter Money: A Serious Approach? Pros and Cons Macroeconomics. (2023, Mar 15). Retrieved May 23, 2024 , from
https://supremestudy.com/helicopter-money-a-serious-approach-pros-and-cons-macroeconomics/

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