The E-money Helicopter (Hel-e) Drop

Two basic central bank reforms to increase monetary policy effectiveness, equality and stability:

1. Extend the provision of electronic deposit accounts or e-money by the central bank (CB) to all people and other entities instead of only depository or financial institutions. The CB is tasked with providing the supply of money and should therefore also provide an efficient electronic means of making payments and depositing the money it creates. Physical notes, coins and commercial bank deposits or other forms of broader money will continue to exist in their current form.

2. Incorporate new policy tools so the monetary authority can attain its targets more effectively and equitably. The principle new tool is the e-money helicopter drop (hel-e drop). When the monetary authority is pursuing expansionary monetary policy in order to attain its goals related to unemployment, GDP growth or inflation it can periodically expand the supply of central bank e-money directly and evenly into all citizen’s accounts through helicopter drops. Other policy tools such as the ones currently employed may also utilized when optimal. The rate of monetary growth to the public should be periodically adjusted by the central bank in order to attain its targets. Expansionary policy would entail increasing the rate of helicopter drops and a contractionary policy would involve slowing the rate of money growth. Under extreme circumstances the central bank may stop hel-e’s or even issue securities to contract the money supply. New legislation would need to be crafted to allow central banks to perform hel-e’s including strict limitations on how they are performed.

Principle benefits of proposal:

Hele-s will more effectively stimulate aggregate demand and inflation than current policy tools without stimulating excessive credit and instability.

Effectiveness

Hel-e drops are a more effective tool for achieving central bank targets. Unlike interest rate targeting a lack of demand for credit or high unemployment should not diminish the effectiveness of hel-e drops in generating AD. High unemployment actually makes hel-e drops more effective in generating spending because liquidity preference of unemployed people is very low. Studies of tax rebates which occurred in 2001 and 2008 in the US and Australia show that helicopter drops are effective in generating stimulus. 20 to 40% of the money received in the tax rebate of 2001 was spent in the quarter when the money was received and approximately another third in the following quarter (Johnson et al. 2006), only non-durable spending was included in this study. 12-30% of the 2008 tax rebate was spent on nondurable goods within three months of payment receipt, and a significant amount more on durable goods resulting in 50-90% of the payments spent (Parker et al. 2013). The tax rebate in Australia in 2009 resulted in 40% spent in the quarter of receipt (Leigh, 2012).

No zero lower bound on hel-e’s.

As a result of the central bank more effectively being able to achieve its targets investment will increase because investment depends on stability and economic growth. As a result of higher and more stable growth speculative activities should decline because on a comparative basis investment is more attractive.

Hel-e’s will maintain a higher interest rate than an interest rate targeting regime for any level of stimulus generated because hel-e’s stimulate through increased monetary wealth, not a lower interest rate. In any specific economic environment a higher rate will stimulate credit and financial sector growth less than a lower interest rate. As a result of employing hel-e drops as a policy tool, credit creation and financialization will be increased less than under a rate targeting regime. Less credit will grow the financial sector less and draw less resources away from rest of economy, increasing real GDP growth. Lower credit growth will also improve stability because excessive credit contributes to the generation of bubbles.

Hel-e’s don’t stimulate through higher asset prices and portfolio rebalancing like quantitative easing (QE). Hel-e’s stimulate through higher monetary wealth. Increasing people’s money at central bank depository accounts increases the demand for financial activities such as asset trading and credit creation less than asset purchases by the central bank. Excessive portfolio rebalancing stimulates the financial sector too much because asset trading and creation are activities it underpins which generates excessive growth in this sector, undermining real GDP.

Increasing asset prices as a result of greater central bank demand for assets and portfolio rebalancing instead of greater profitability and intrinsic value of these assets contributes to the generation of bubbles and instability. Higher asset prices and portfolio rebalancing will occur under hel-e’s as a result of increased profitability from higher real GDP or increases in intrinsic value of entities, not as a result of increased demand for financial assets due to central bank asset purchases. The financial sector will grow if it underpins productive activities, not because of greater central bank demand for assets.

Hel-e’s will positively affect credit intermediation. They will increase credit to the most productive areas due to higher real GDP and creditworthiness while limiting credit to areas which are less productive due to higher interest rates. Central bank e-money will increase bank funding costs because banks will have to pay interest on deposits which will reduce non-productive forms credit creation. Credit and financial sector growth to support productive activities will grow while credit and financial sector growth to support non productive activities will decline.

Higher real GDP growth as a result of hel-e’s will incentivize investment more and speculation less because investment will be more profitable on a comparative basis to non-productive activities. This will help to prevent the formation of asset bubbles.

Less bubbles will result in more stability which in turn should generate greater investment (Guiso and Parigi, 1999).

Hel-e’s don’t depend on bank intermediation so problems within banking system will not affect the operation of policy.

Hel-e drops are superior to helicopter drops requiring fiscal and monetary cooperation

The central bank has no budget constraint. Therefore potential limitations experienced by fiscal arm of government are avoided.

Hel-e’s don’t depend on fiscal arm of government to operate. Therefore difficulties of negotiating with political system are avoided. Central bank independence isn’t compromised if it can perform hel-e’s independently.

Expansions of money by central bank don’t enter commercial banking system at creation therefore placing less downward pressure on rates than conventional helicopter drops.

The central bank has economies of scale in providing deposits/payments and efficiencies will also be found in clearing by central bank provision. The monetary authority is not profit oriented so should provide superior service to depositors. Payments and depository system is highly systemic therefore the central bank should provide these.

If people participate directly with central bank greater confidence in this institution will prevail and people will also become more educated in economic matters.

Equality

Less financialisation means more equality because the wealthiest benefit disproportionately from financialization. Stimulating through higher monetary wealth of all people evenly has a more equal distribution than asset purchases because asset ownership is concentrated.

Greater stability

The payment and depository system provided by the central bank will be risk free due to e-money provision by central bank.
If people hold most or a significant proportion of their demand deposits at the central bank the current liabilities of commercial banks will be lower and hence banks will be less susceptible to bank runs.

Private banks can create money in the form of deposits but unless they pay interest (may require a law change) people will shift money away into risk free central bank accounts which will drain banks of assets. Therefore private bank created money will generally need to pay interest and this added cost to issuers will regulate the amount of issuance.

Banks with excessive risk portfolios will be forced to pay higher deposit interest by the markets and this will curtail excessive borrowing. Short term/speculative activity will self regulate to a greater extent because as banks issue loans and hence deposits they face immediate increases in their costs.

If the banking system collectively becomes too speculative people can place their funds in central bank e-money deposit accounts and therefore pull money out of the banking system altogether which will limit excessive speculation. Without central bank e-money it is not possible to deposit money electronically outside of the commercial banking system.

As a result of a smaller financial sector and less speculation business cycles are more stable reducing risk.

References

Johnson, D S, J A Parker, and N S Souleles (2006), “Household Expenditure and the Income Tax Rebates of 2001”, American Economic Review 96: 1589-1610.

Leigh, A (2012), “How Much Did the 2009 Australian Fiscal Stimulus Boost Demand? Evidence from Household-Reported Spending Effects”, B.E. Journal of Macroeconomics 12(1).

Luigi Guiso and Giuseppe Parigi (1999), “Investment and Demand Uncertainty”
,  The Quarterly Journal of Economics, Vol. 114, No. 1 (Feb., 1999), pp. 185-227.

Parker, J A, N S Souleles, D S Johnson, R McClelland (2011), “Consumer Spending and the Economic Stimulus Payments of 2008”, NBER Working Paper 16684, January.In any specific economic environment a higher rate will stimulate credit and financial sector growth less than a lower interest rate.

DO OMO’s undermine the supply side?

Open market operations grow the finsector and hence debt to gdp to a greater extent than other tools such as emoney heli drops. Therefore they are like a policy induced supply side shock.

How Hel-e Drops Positively Affect the Operation of Credit Markets

Lowering interest rates to stimulate the economy increases credit and because credit is underpinned by financial entities this sector will grow. Stimulating the economy without lowering rates through hel-e’s will grow credit less and therefore a smaller financial sector will prevail.

Lowering rates excessively will stimulate lending, asset trading and speculation too much. In order to reduce credit towards less productive or speculative areas you need to generate stimulus while avoiding lowering rates excessively, or at all. To increase lending towards capital investment you need to increase AD because as entities become more profitable due to increased spending they become more creditworthy and therefore credit for capital investment increases. Hel-e drops increase AD while not lowering rates excessively or at all.

Lower levels of financialization and speculation will create more stable business cycles and hence motivate greater capital investment.

Higher levels of lending for investment should crowd out unproductive or speculative lending.

Higher real GDP growth will prevail under hel-e drops because the financial sector will be smaller which will alleviate the supply side of the economy. Lending will be more oriented towards capital investment and less towards asset trading and speculation having a positive effect on RGDP growth.

Emoney Helicopter Drops Compared to Helicopter Drops Requiring Fiscal/Monetary Cooperation

E-money helicopter drops (hel-e’s) are more effective because they generate stimulus at a higher interest rate than helicopter drops which require monetary and fiscal cooperation. Under normal helicopter drops the money expanded by the central bank goes to the banking system and this expands loanable funds putting downward pressure on rates which generates higher levels of credit, financialisation and speculation. Expansions of e-money do not go to commercial banking system they simply are held at the central bank. E-money will go to the banking system if people decide to lend to banks or if spent money goes to depository accounts at commercial banks. Most transactions accounts will be held at central bank because this is where money will originate and due to its risk free nature. Money used for payments will generally circulate through central bank depository accounts.

Hel-e’s don’t depend on fiscal arm of government to operate. Therefore difficulties of negotiating with political system are avoided. The central bank has no budget constraint unlike fiscal arm therefore people wont hold onto money in anticipation of higher future taxes. Potential undermining of central bank independence is avoided.

How Hel-e Drops Stimulate While Maintaining a Higher Interest Rate Than a Rate Targeting Regime

Helicopter drops of central bank e-money (hel-e’s) stimulate AD by increasing people’s monetary wealth therefore the interest rate doesn’t need to go down to stimulate. Under rate targeting it does need to go down to stimulate. Therefore under hel-e’s the rate will be comparatively higher for any given level of AD stimulus.

An increase in the money supply under hel-e’s will not affect interest rates in the same way as an interest rate targeting regime involving open market operations (OMO).

If 1 billion dollars is created and brought into circulation through bond purchases this will affect rates differently to 1 billion just placed into people’s central bank depository accounts. Under an OMO any bonds purchased by the CB adds to the total demand for bonds. This reduces rates more than if the CB did not purchase these bonds. Under an hel-e drop people will use some proportion of their money on bonds and the rest will be spent, therefore the demand for bonds will be lower and AD higher comparatively. Lower demand for bonds will put less downward pressure on rates while higher AD and inflation will place more upward pressure on the rate. Rates may actually go up under hel-e drops if the upward pressure from extra spending is greater than the downward force of extra loanable funds and bond demand by people.

Placing people’s money into accounts at the CB wont increase loanable funds until money leaves those accounts and goes to accounts controlled by commercial banks. Without emoney loanable funds do increase everytime money supply is expanded which places more downward pressure on rates compared to an arrangement where money is expanded into depository accounts at the central bank controlled by people. Hel-e’s generate increased spending and less loanable funds increases on a comparative basis.

Under a fixed interest rate system such as is employed by the ECB the rate doesnt need to be lowered to create greater stimulus if hel-e’s are implemented.

Central Bank E-money Reduces Financialization, Speculation and Risk

A monetary arrangement where the central bank provides electronic money or e-cash while physical notes, coins and commercial bank deposits or other forms of broader money continue to exist in their current form will be highly beneficial for the operation of the monetary system.

The central bank does not provide e-money to people broadly (only banks) therefore the system depends on commercial banks to create the electronic money used for most transactions. Deposits generally come into existence as a result of bank lending. As a result we need a larger financial sector to underpin extra lending and provision of depository and payments system.

Central bank provision of e-money will reduce financial sector largesse by reducing the demand for credit to generate electronic money or deposits and also because the need for intermediation of monetary policy will be eliminated or reduced.

If people can hold central bank (CB) created e-money private bank issuance of demand deposits self regulates. Assuming CB e-money is equally as functional for payments people will mainly hold demand deposits at the central bank because it is risk free whereas commercial bank deposits are not. CB issued e-money also has other benefits over privately issued money due to CB economies of scale and because the CB will operate in interest of public while private banks operate to maximize shareholder profits. People may primarily use CB e-money if money is originated in e-money accounts during monetary expansions of helicopter drops by the monetary authority.

If people hold most or a significant proportion of their demand deposits at the central bank the current liabilities of commercial banks will be lower and hence banks will be less susceptible to bank runs.

Private banks can create money but unless it pays interest people will shift money away into risk free central bank accounts which will drain banks of assets. Therefore private bank created money will need to pay interest and this added cost to issuers will regulate the amount of issuance.
Banks with excessively high risk portfolios with be forced to pay higher deposit interest by the markets and this will curtail excessive borrowing. Short term/speculative activity will self regulate to a greater extent because as banks issue loans and hence deposits they face immediate increases in their costs.

Banks that make highest risk adjusted returns from investments will attract depositors because they can offer higher returns on deposits or other savings vehicles/investments they offer to customers without being overly risky to depositors.
The most transparent banks will attract depositors creating greater transparency.

The E-money Helicopter Drop Proposal (Brief)

Two basic central bank reforms to increase monetary policy effectiveness, equality and increase stability:

1. Extend the provision of electronic deposit accounts or e-money by the central bank (CB) to all people and other entities instead of only depository or financial institutions. The CB is tasked with providing the supply of money and should therefore also provide an efficient electronic means of making payments and depositing the money it creates. Physical notes, coins and commercial bank deposits or other forms of broader money will continue to exist in their current form.

2. Incorporate new policy tools so the monetary authority can attain its targets more effectively and equitably. The principle new tool is the e-money helicopter drop (hel-e drop). When the monetary authority is pursuing expansionary monetary policy in order to attain its goals related to unemployment, GDP growth or inflation it can periodically expand the supply of central bank e-money directly and evenly into all citizen’s accounts through helicopter drops. Other policy tools such as the ones currently employed may also utilized when optimal. The rate of monetary growth to the public should be periodically adjusted by the central bank in order to attain its targets. Expansionary policy would entail increasing the rate of helicopter drops and a contractionary policy would involve slowing the rate of money growth. Under extreme circumstances the central bank may stop hel-e’s or even issue securities to contract the money supply. New legislation would need to be crafted to allow central banks to perform e-hel-e’s including strict limitations on how they are performed.

Principle benefits of proposal

Effectiveness

Hel-e’s don’t require lowering rates or asset purchases so therefore won’t stimulate financial activities such as credit, asset trading and speculation to the same extent as rate targeting and QE. Excessive credit and asset trading grow the financial sector drawing resources away from rest of economy adversely affecting real GDP growth in long term. Less speculation will result in more stable business cycles generating greater capital investment.

Hel-e’s can generate the same rate of AD growth or unemployment as conventional tools while generating less credit stimulus due to the higher interest rate.

Credit intermediation between savers and investors wont be adversely affected due to a higher rate if central bank is meeting its targets. Higher long term real growth due to a smaller financial sector will improve the intermediation process because of greater real incomes. Higher real GDP is also an incentive to invest more and speculate less because investment is more profitable on a comparative basis.

Hel-e’s don’t depend on bank intermediation so problems within banking system will not affect operation of policy.

No zero lower bound.

Hel-e’s don’t depend on fiscal arm of government to operate. Therefore difficulties of negotiating with political system are avoided. The central bank has no budget constraint unlike fiscal arm therefore people wont hold onto money in anticipation of higher future taxes. Potential undermining of central bank independence is avoided if helicopter drops are performed independently by the central bank.

The central bank has economies of scale in providing deposits/payments and efficiencies will also be found in clearing by central bank provision. The monetary authority is not profit oriented so should provide superior service to depositors. Payments and depository system is highly systemic therefore the central bank should provide these.

If people participate directly with central bank greater confidence in this institution will prevail and people will also become more educated in economic matters.

CB issued e-money also has other benefits over privately issued money due to CB economies of scale and because the CB will operate in interest of public while private banks tend to operate to maximize shareholder profits.

Evidence

Studies of tax rebates which occurred in 2001 and 2008 in the US and Australia show that helicopter drops are effective in generating stimulus. 20 to 40 % of the money received in the tax rebate of 2001 was spent in the quarter when the money was received and approximately another third in the following quarter Johnson et al. (2006). Only non-durable spending was included in this study.

12-30% of the 2008 tax rebate was spent on nondurable goods within three months of payment receipt, and a significant amount more on durable goods resulting in 50-90% of the payments spent (Parker et al. (2013). In an Australian study of it’s 2009 tax rebate around 40% was spent in the quarter of receipt according to Leigh (2012).

Ehel-e’s should be more effective than helicopter drops involving monetary and fiscal cooperation due to the fact that the central bank has no budget constraint and therefore people wont hold onto money in anticipation of greater future taxes.

Equality

Less financialisation means more equality because the wealthiest benefit disproportionately from financialization. Stimulating through higher monetary wealth of all people evenly has a more equal distribution than asset purchases because asset ownership is concentrated.

Lower risk

The payment and depository system provided by the central bank will be risk free due to e-money provision by central bank.
If people hold most or a significant proportion of their demand deposits at the central bank the current liabilities of commercial banks will be lower and hence banks will be less susceptible to bank runs.

Private banks can create money in the form of deposits but unless they pay interest (may require a law change) people will shift money away into risk free central bank accounts which will drain banks of assets. Therefore private bank created money will generally need to pay interest and this added cost to issuers will regulate the amount of issuance.

Banks with excessive risk portfolios will be forced to pay higher deposit interest by the markets and this will curtail excessive borrowing. Short term/speculative activity will self regulate to a greater extent because as banks issue loans and hence deposits they face immediate increases in their costs.

If the banking system collectively becomes too speculative people can place their funds in central bank emoney deposit accounts and therefore pull money out of the banking system altogether which will limit excessive speculation. Without emoney this is not possible.
As a result of a smaller financial sector and less speculation business cycles are more stable reducing systemic risk.

Why a 4% inflation target instead of 2% should be no better at avoiding the ZLB under an interest rate targeting regime.

To achieve a higher inflation target of 4% the central bank has to stimulate harder than to achieve a 2% target. This entails a higher growth rate of the MB and higher demand for bonds by the central bank. Therefore credit is stimulated to a greater degree than under a lower inflation target while achieving the same level of real GDP growth.

Greater credit stimulus grows the financial sector and speculation more which generates more volatility and therefore you hit the ZLB more often. So on the one hand a higher inflation target means the central bank has more room to move should rates need to decline but on the other hand it is contributing to what creates volatile business cycles to a greater extent.

The benefits of providing central bank e-money

A monetary arrangement where the central bank provides electronic money or ecash while physical notes, coins and commercial bank deposits or other forms of broader money continue to exist in their current form will be highly beneficial for the operation of the monetary system.

The central bank does not provide e-money to people broadly (only banks) therefore the system depends on commercial banks to create the electronic money used for most transactions. Deposits generally come into existence as a result of bank lending. As a result we need a larger financial sector to underpin extra lending and provision of depository and payments system.

Central bank provision of e-money will reduce financial sector largesse by reducing the demand for credit to generate electronic money and also because the need for intermediation in monetary policy will be eliminated or reduced. The central bank has economies of scale and scope in providing payments and depository services and can provide a superior form of e-money because it is risk free.

If people can hold central bank (CB) created e-money private bank issuance of demand deposits self regulates. Assuming CB e-money is equally as functional for payments people will mainly hold demand deposits (zero interest money) at the central bank because it is risk free whereas commercial bank deposits are not. CB issued e-money also has other benefits over privately issued money due to CB economies of scale and because the CB will operate in interest of public while private banks tend to operate to maximize shareholder profits. People may primarily use CB e-money if money is originated in e-money accounts during monetary expansions of helicopter drops by the monetary authority.

If people hold most or a significant proportion of their demand deposits at the central bank the current liabilities of commercial banks will be lower and hence banks will be less susceptible to bank runs.

Private banks can create money but unless it pays interest people will shift money away into risk free central bank accounts which will drain banks of assets. Therefore private bank created money will need to pay interest and this added cost to issuers will regulate the amount of issuance.

Banks with lower equity or higher risk portfolios with be forced to pay higher interest by the markets and this will curtail excessive borrowing. Short term/speculative activity will self regulate because as banks issue loans and hence deposits they face immediate increases in their costs.

Banks that make highest risk adjusted returns from investments will attract depositors because they can offer higher returns on deposits or other savings vehicles/investments they offer to customers.

The most transparent and least risky banks will attract depositors which will create a self regulatory environment and help keep banks within legal regulatory requirements with respect to transparency and risk.

CB tools for temporarily or permanently contracting the monetary base without asset sales

In order to manage short term fluctuations in money demand which will affect it’s targets the central bank will need to temporarily grow the monetary base below trend or contract the monetary base (MB). When temporary contractions are required the CB can use existing facilities such as reverse repurchase agreement or issue it’s own securities similar to treasuries.

Permanent contractions of the MB are unprecedented and seem unnecessary. If a rare or extreme circumstance comes about the central bank can very effectively permanently contract the the MB. This can be done through directly imposing transaction costs/taxes on the economy using the taxation office as its collection agent just as the fiscal arm of government does at present. There would be strict conditions on when and how the central bank could impose this form of tax in such a rare circumstance.

Direct taxation by the central bank would be a highly effective method of contracting the monetary base. As an example a 2% income tax on all income earners over a one year period in Australia would contract the monetary base by approximately 35%.

In this instance taxation would be a monetary policy tool because it would be used by the central bank to affect the money supply and destroy money, not for funding of spending.