Don’t Blame Ben!

The Economist has a comment on central banks financing governments in the wake of the financial crisis. Basically, the point is that central banks that did QE bought tons of government bonds. At the same time, at least some of them – the Bank of England, for example, but the Fed as well – wrote their respective governments a yearly check, transferring any profits they made (after paying salaries). They always do that, but now, some of the money they made was from interest earned on their huge government bond positions. So the government paid them interest, they collected it, and at the end of the year sent it back to the government. Which, you know, isn’t too far from monetizing government debt – i.e. financing the government.

But what’s the problem? In the continued absence of hyperinflation, you might conclude that there really isn’t much of an issue here. However, says the Economist:

But another reason why monetisation has always been frowned upon is that it is an easy option. Why should governments finance spending with unpopular taxes or borrow from suspicious bond investors when they can get the money from a friendly central bank? The process makes democratic leaders less accountable; by boosting asset prices, which are mostly owned by the rich, it may well have led to a rise in inequality, without the sanction of any vote. Perhaps in ten or 20 years’ time, recent events will be seen as the moment the world crossed a line.

I have a couple of miscellaneous points on this, and one bigger point on the idea that this promotes inequality.

Why government bonds?

One of the questions we have to ask ourselves in this context is obviously, why only allow the central bank to buy government bonds (and a very limited set of other ‘save’ assets)? We obviously had this discussion in class: the Fed (or BoE, or other central bank of your choice) being able to buy stocks would give them a lot more firepower. They could reduce interest rates that are much further from zero than a three-month T-bill. Beyond that, buying stuff that isn’t issued by the government also means you’re not monetizing government debt. So here’s another argument for giving the Fed freer reign with regards to asset purchases!

Who’s afraid of government financing?

The Fed, BoE, and central banks around the world generally pay their governments yearly checks, even in times when none of their profits come from interest on government bonds. Something has to happen with their profits! Sure, if the US, England or other places had a sovereign wealth fund, that would be one place to put them, and it might be at least semi-autonomous from the government. So that’d be nice. But nobody has those, so not an option right now. But yet another reason to have them!

By the way, in better times, central banks raising interest rates hurts the government, in so far as that it has to pay higher interest on newly issued bonds. So it’s not clear that the government generally benefits from central bank actions, at least not directly (although it does reap the benefits of a smoothly running economy if the central bank does a good job and doesn’t have to worry about the ZLB).

Inequality and all that

The point about QE raising asset prices and helping the rich is actually quite interesting. For one thing, QE also reduces interest rates (that’s just the flip side of higher asset prices), so it’s not quite clear that all rich people benefit from it. Specifically, the classic rentier would actually suffer. On the other hand, people sitting on tons of assets may of course benefit. but the question is: when did they acquire those assets?

If they held them throughout the financial crisis, chances are they’re about back to break-even now, because they probably copped huge capital losses throughout the crisis. If they bought them right in the depth of it, well… smart investment on their part, but some of their profits were certainly subsidized by the central bank. The question is: did the Fed (BoE, any other central bank) have an alternative strategy, given the ZLB? Not in the absence of electronic money. And not doing anything would have prolonged the crisis. It’s not obvious to me that the middle class or the poor would have preferred a longer crisis to what we had. So as long as we’re unwilling to have electronic money – this is as good as it gets!

I think that next time (which I’m sure will be different) we should have a new set of tools at the ready. That may contain a sovereign wealth fund, a more powerful central bank, or electronic money. And maybe that way, expansive monetary policy – which was absolutely necessary, macroeconomically speaking – won’t have as many side-effects as it may have had this time around, and be more effective. But ultimately, it’s difficult to fix the economy without the rich taking their share of the recovery. And more importantly, that’s not the central banks domain; distribution is government’s domain. And if it’s unwilling or unable to act, don’t blame Ben (Bernanke, or really any other central banker)!

One thought on “Don’t Blame Ben!

  1. mrosidi

    Nice post. I like your way in discussing this issue. Many additional knowledge I think readers can get through reading this piece.

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