This policy's fatal flaw is the left-winger's belief that government money should be spent on his pet schemesby / September 8, 2015 / Leave a comment
Published in October 2015 issue of Prospect Magazine
Whatever you may think of Jeremy Corbyn, he has a point about economic policy. Actually he has two good points and one bad one. Corbyn has been right about what he called People’s Quantitative Easing, a potentially transformative idea for restoring economic prosperity that was proposed years ago by several radical economists but has never taken seriously in Britain until it became the centrepiece of Corbynomics.
Corbyn has also been right about the problem to which PQE is a convincing response—the fallacy that government can do nothing more to strengthen Britain’s pitifully slow post-crisis recovery because “there is no money,” in the fateful words of Liam Byrne. In fact, there is more money available to the British government today than ever in history, since the Bank of England has been printing the stuff like wallpaper.
The problem, and the fatal flaw of Corbynomics, has been Corbyn’s belief that the government money which is easily available should, or even could, be spent on his pet schemes to nationalise industries, create public sector jobs, eliminate student fees, increase social spending and generally build a Workers’ Paradise.
Corbyn is right to maintain that the Bank could create more money out of thin air and channel it into the economy more effectively and equitably than it has through its misguided policy of what might be called “conventional” Quantitative Easing (QE). But the moment that Corbyn suggests that this newly created money should be used as a political slush fund for government to spend on whatever it fancies, the conjured-up wealth turns to dross and a coherent economic policy turns into a recipe for the next Labour financial disaster.
This paradox arises because monetary policy does not affect the economy directly, but only through the actions of consumers, businesses, workers and investors. QE can stimulate growth and employment, or merely create inflation, or have not much effect at all, depending on how newly-created money is channelled from the Bank into the bank accounts of the people and businesses who make decisions on spending and investment.
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Conventional QE works mainly by making the rich richer. The Bank buys bonds in financial markets, thereby transferring newly-created money to banks, hedge funds and other investors and boosting the prices of bonds, shares and other assets. The Bank then crosses its fingers and waits for a “wealth effect” to stimulate the economy, as the investors who have been enriched by selling assets at high prices to the Bank of England spend some of their profits on shopping in the high streets or employing servants or investing in new businesses and machines. To some extent, this has happened, and has helped to pull Britain out of deep depression. But despite the £375bn distributed to investors by the Bank of England, Britain has experienced the slowest economic recovery on record in the seven years since the global financial crisis.
Now consider a variant of this policy which I think I was the first to describe as “QE for the People” in a Reuters blog. Imagine that the BoE, instead of spending £375bn on buying bonds from banks and hedge funds had sent cheques of £20 per week to every man, woman and child in Britain, in a sort of reverse poll-tax, and promised to continue this until one of two things happened: either the British economy returned to its pre-crisis growth trend or the inflation rate exceeded 2 per cent consistently for a year.
Since £375bn is roughly £6,000 per head when equally divided among by the 64m people of Britain, this weekly income support could have continued for over five years before requiring the BoE to print more money than it did through conventional QE.
A weekly income boost of £20 for every citizen, or £80 for a typical family, would have worked very quickly to stimulate economic activity or inflation—more so than indirect distribution of money through bond markets and wealth effects. That, incidentally, was one of the few points of agreement between Milton Friedman and John Maynard Keynes in their analysis of economic depressions. Both argued persuasively that universal distributions of “free” paper money was a sure-fire weapon against depression, with the sole difference that Friedman proposed dropping money from helicopters, while Keynes was more Puritanical, suggesting money could be buried in disused coal-mines so that people would have to do hard work to dig it up.
But wouldn’t it be irresponsible simply to create money out of thin air and give it out to people? The intuitive objections to printing money have been theoretically refuted by many economists since Keynes and Freidman, most recently and comprehensively by Adair Turner in his recently published book, Between Debt and the Devil. In practice the prophecies of doom provoked by successive rounds of QE from 2009 onwards—that printing money would cause hyper-inflation or the collapse of sterling or the insolvency of the Bank of England—have all proved wrong.
Why then does almost no serious thinker support Corbyn’s proposals? Apart from sheer conservatism and lack of imagination, the problem is that PQE will work only if there is reasonable confidence that the money printing will stop as soon as deflationary conditions are lifted and additional money starts merely to push up prices instead of stimulating economic growth. The fatal flaw of Corbynomics lies in the conditions required for the printing presses to stop.
If newly created money is used to finance public spending instead of per-capita cash payments, this process cannot be stopped when it begins to do more harm than good. Infrastructure investment projects obviously cannot be suddenly stopped when the economy returns to full employment. This is equally true of government programmes to redress inequality, improve education, help the disabled or achieve other desirable social goals. If such programmes are permanent responsibilities of government they have to be financed by permanent sources of revenue, not used to provide a one-off injection of spending power to revive stagnant growth.
If the Bank of England prints money and spends it on buying bonds or issuing monthly cheques to all citizens, these programmes can be stopped as soon as inflation accelerates or the economy returns to adequate growth. But if QE is used to finance infrastructure investment or permanent social programmes, as proposed by Corbyn, the printing of money is bound to continue indefinitely, even when a tightening of monetary policy is required—and the outcome is bound to be severe inflation. Since this risk would be apparent from the very start of Corbyn’s version of QE, the result would be immediate financial panic, a collapse of sterling, a steep rise in interest rates and a financial crash: in other words, exactly the outcome to be expected from a throwback to the policies of 1970s Old Labour.
Suppose, on the other hand, that QE were not used to finance government spending, as proposed by Corbyn, nor wasted on buying bonds, as in the present conventional approach. Imagine instead that newly printed money was distributed equally across the entire population to create additional spending power in a truly egalitarian manner. That really would be a “People’s QE” and it would powerfully simulate economic growth.