The coronavirus, and lockdown imposed to curb its spread, are already increasing the risks of unemployment and causing humongous loss to the economy. The costs will be staggering (expected to be over 15% cent of GDP ).A surge in public funding is inevitable to ensure a comprehensive response- strengthening our health capacity to battle anypossibility of a second wave of infection, providing substantial relief to the needy and a stimulus package to revive the flailing economy .
Every country is developing specific processes for allocating funds to limit the human and economic impact of the COVID-19 pandemic. These specific processes or budgetary practices have attracted a lot of attention and many high profile economists/Governors of central banks (Ben Bernanke, Willem Buiter, Duvvuri Subbarao, Rangarajan, ……) have joined in the debate on the use of helicopter money as an exceptional measure to fund the higher-than- expected spending.
You recall, as we explained last time, Helicopter money is free central bank money financing e.g. from Bank of Mauritius reserves or holding a perpetual govt bond whereas quasi helicopter money is repayable money financing e.g. , advances, lines of credit, taking and buying public or private debt or equity. As Mauritius will struggle to meet the potentially huge expenditure, Sithanen has been proposing that the government opts for helicopter money for its public funding as it will not affect our elevated level of public debt. His proposal seems to be gaining momentum as it now, unsurprisingly, being supported by the private sector and probably Government will also fall in line very soon more than eager not to miss such an opportunity to keep up to its prodigal ways.
Why is helicopter money so attractive, in theory at least?
Because when the level of government debt is high, such money-financing of the increased government spending is not paid for by issuance of new government debt to the public. Thus, it does not increase public debt. Moreover, it induces consumer spending as households are aware that it will not increase future tax burdens and with the lower real interest rates ( as a result of a temporary increase in inflation), incentivizing capital investments and other spending, the economy stands a better chance of getting back on track.
The main premises on which it is being recommended are : a) that it used as a last resort after having exhausted other monetary tools/instruments which on their own are proving to be inadequate to support economic recovery or to avoid too-low inflation, for e.g in many economies there has not been any need for monetisation of debt so far as the bond market has already absorbed much of the gross borrowing needs.
b) it would require close coordination of government and the central bank to manage a joint monetary-fiscal operation without putting at risk the longer-term independence of the central bank c) that the production capacity responds rapidly to all the measures put in place to meet the sharply deficient aggregate demand d) it is modest and temporary and is used in combination with quasi-helicopter money & other financing measures while ensuring that monetary expansion absorbs only a small part of the financing needs.
The limitations of helicopter money and its limited applicability in other economies are because
a) Of the number of practical challenges of implementation, including integrating them into operational monetary frameworks and assuring appropriate governance and coordination between the legislature and the central bank.
b) The increase in the money supply associated with monetary financing inevitably leads to higher expected inflation than would be the case with debt-financed fiscal policies.
c) Unlike the advanced economies which issue debt in reserve currencies, other economies do not have this luxury and thus are more likely to face capital flight and excessive depreciation of their currency.
d) In regards to the above, it is to be noted that monetary financing may be more relevant for those economies which are much less open than ours and which have a degree of exchange control and thus on imported inflation.
e) In less advanced economies, the mere provision of liquidity to boost demand may not be of much help because the productive system does not respond as rapidly as in advanced economies. Moreover, the absence of material inputs globally and domestically can clearly make it difficult for the production system to respond rapidly to the increase in demand, resulting in a spike in inflation and an acceleration in the depreciation of the rupee.
f) Foreign investors and Credit Agencies may be apprehensive of such unconventional policies by emerging market central banks and we thus stand the risk of a rating downgrade.
Please note that even if the helicopter money, as it is defined internationally, is adopted in advanced economies, it is likely to be a last resort. We have restricted our discussion to helicopter money and avoided the mix-up with quasi-money not to confuse our readers. We cannot say the same about Sithanen. Sithanen wants BOM to finance Govt directly by pure money creation, i.e., either from its internal reserves, or by buying a perpetual Govt bond, presumably because it does not increase Govt debt. But he confusingly also says BOM can buy Govt Bonds in the primary market i.e. directly - this is QE, (Quasi-helicopter) or termed as monetisation in India, which would increase deb Govt debt. Or maybe he is thinking of a perpetual or very long term bond
Countries have thus adopted various other forms of support. The question should be which tools are best to achieve the policy objectives—e.g. preserve jobs, support investment, maintaining critical supply chains—in a judicious manner. There are several country-specific aspects to consider: (i) government financing constraints. These will impact how much support can be provided and the type (e.g. lower taxes or higher subsidies will have an immediate impact on the budget, while guarantees may only have an impact in the future); (ii) administrative capacity to ensure timely support—what are the tools available that are more effective, easy to employ? and (iii) the recipient firms’ characteristics (e.g. facing a temporary cash shortage or bankruptcy, the size of the firm) and intended coverage, e.g. support all small and medium firms (SMEs) or a specific sector. For example, support to SMEs through guaranteed loans may be easier and more effective than other tools (e.g. equity support). The main types of firm-specific support are:
• Revenue measures to provide liquidity relief to firms that may face difficulty in paying taxes and other costs (see note on Tax Policy Responses). These have included tax deferral (China, Germany, Italy, Japan, Korea, Brazil, Indonesia, Russia) and tax relief (China, UK, Korea, Indonesia, Russia) and other measures such as making sure tax prepayments are realistic in now-changed circumstances.2 For example Australia waived fees and charges for businesses in regions most affected by COVID-19 and Russia extended tax deadlines for firms in the tourism and aviation industries.
• Expenditure measures to help pay for wages and other liquidity needs. These include wage subsidies (e.g. France, Germany, Japan, Australia, Korea), transfers, or more general liquidity support to firms (e.g. Canada, Germany, Japan, Russia). Wage subsidies preserve the employer-employee relationship which could help ensure a faster recovery. For example, Japan provided subsidies: 1 billion JPY allocated to small businesses that introduce work-from-home equipment/IT-system.
• Government guarantees have been widely used in past crisis and the current one. Umbrella guarantees (e.g. covering loans to SMEs) are often more efficient than direct government support, because the transaction cost of distributing subsidies or loans to multiple beneficiaries is likely to be higher.3 One- off guarantees can also be extended to large firms hardest hit to provide access to cheaper credit. Many European countries have already announced guarantees, amounting to around US$21⁄4 trillion and rising. Examples of countries outside Europe that have extended guarantees on loans include Bahrain, China, Japan, and Peru. In some cases, these guaranteed loans have a grant component if the SMEs use them to preserve jobs (e.g. U.S.), which could be particularly important for those firms in more financial distress.
• Government may also provide directly subsidized loans (e.g. U.S. is planning to offer loans). Such support will be particularly useful for firms that mainly face liquidity pressures. However, additional measures may be needed to support the most vulnerable, largest, or strategic firms that face the risk of insolvency—these could include outright grants, and equity injections (as happened during the global financial crises).5 An advantage of an equity injection is that it immediately improves the balance sheet of the firm and reduces funding costs and risks, allowing the firm to continue operating and investing. As a shareholder, the government will have a stronger voice to ensure value for taxpayers’ money, including by setting conditions for the equity injection (which could also be legally imposed). On the other hand, equity is junior to debt and may be riskier for the government if the crisis is prolonged.
• Use of off-budget measures. Special purpose vehicles may be used by some governments to channel support (e.g. the announced French Solidarity Fund or Germany’s economic stabilization fund, WSF). These are set up as extrabudgetary funds (EBFs) that may receive budget funds and are managed by the public authorities. Government support can also be given by public banks or other public financial institutions (Public Banks’ Support to Households and Firms).
Whereas if we persist with helicopter money, we may end up....(see pic below)
Whereas if we persist with helicopter money, we may end up....(see pic below)
