Health Crisis Has Now Become a Wealth Crisis
Economics is not a cult. It is not a set of definitive, unchanging rules. It is not a religion. There is no creed. There are no believers and there is no dogma. While there are clubs or factions, membership of those is optional. At its core, economics is the art of the possible. It is the study of a complex system that is never at rest, a dynamic and adaptive system of enormous energy and potential. It evolves rather than grows or contracts.
The economy is like an immune system, dealing with new dangers, learning on the job and constantly acclimatising. Despite what most economists say, there is no such thing as equilibrium. A moment’s thought would tell you that an economy in equilibrium is a ludicrous notion.
Economic policy comes with a box of various tools to be used depending on circumstances.
Right now we are faced with the spectre of a once-in-a-lifetime pandemic, driving us into lockdown and a recession which could lead to a depression unless we replace shibboleths with hard thinking. As Van Morrison might say, there is “No guru, no method, no teacher”. When faced with a crisis like this, every policy reaction is possible. Nothing can be ruled out.
We are only at the end of the beginning. We are now going into phase two, when concerns about national and individual health, though still central, give way to concerns about national and individual wealth.
In a crisis the first thing to do is define reality, not as we would like it to be, but as it is. Then you see what policy tools are available.
Our reality is that the economy has been shut down not by debts, spending, a property bubble, too much lending or bad policy, but by a virus. And we don’t know how long it’s going to take to be free of this curse. Some 600,000 are on the dole and national income is set to fall by at very minimum 10-15 per cent. Tax revenues are collapsing and State spending is rocketing. Most retail and hospitality businesses will struggle to reach 40 per cent of last year’s revenues. The summer as we know it has been abandoned.
Therefore, the primary objective should be to keep as many businesses – particularly small businesses – afloat. We must prevent bankruptcies, which prompt defaults, which are contagious. Unless we do this, we will face a raft of bad loans in 2021-22, crippling the banking system once more. The banking system has a huge interest in saving its own loan book now, keeping small business solvent.
The second objective is to ensure that the pandemic expenditure does not lead to a spike in debt-GDP ratio, a rise in interest payments or an austerity budget being introduced over the next couple of years. Austerity budgets affect the poor most because the poor depend on government most. There is no reason for an austerity budget if we deploy all the economic tools at our disposal.
How can we achieve these two objectives?
All roads lead to the Central Bank. The Government uses the Central Bank as its clearing house; it provides overdrafts when taxes fall short and revenue shoots up. It does this by crediting the government’s account.
The European Central Bank (ECB) has said it will do “whatever it takes” to save the European economy and the euro, meaning the Irish Central Bank has a green light to act as it sees fit.
The ECB has shown itself to be extremely flexible in a crisis. This is its second such scenario and last time (after it dumped the tragic Jean-Claude Trichet), Mario Draghi tore up the rulebook and used the central bank’s printing press to buy government debt and corporate debt in the secondary market, to save the euro.
Now its current boss Christine Lagarde needs to keep the free money flowing. The ECB has made €750 billion available to finance state spending, and there will be more where that came from. One of the Central Bank’s jobs is to “magic up” money, and the Irish entity has the power to do so.
Can I let you into a secret? It costs nothing to print money or credit every business account with a zero – or two for that matter. This many seem odd to you, but this is the great trick of monetary economics. In the wrong hands at the wrong time, such as in Zimbabwe, a powerful central bank can destroy a country; but in the right hands at the right time, it can save a country.
We should print money and credit business accounts until every business has enough money to make sure it survives the Covid-19 shock.
There are no catches. This is “helicopter money” that goes into people’s accounts directly without going through the cumbersome banking system. It is quantitative easing for the people. When the problem is too little money, more money solves it. Who doesn’t understand that?
The Government’s account should be similarly credited, so that State expenditure doesn’t raise debt ratios, interest costs or demand austerity in the future.
And if the “inner accountant” in you gets uncomfortable with this free money idea, the State could issue a perpetual bond to pay for everything. A perpetual bond is never repaid. There could be an interest rate paid, but this should be close to zero.
If the Central Bank undertook to buy it and provide infinite liquidity, the financial market would follow suit and use it as a proxy deposit. The accountants satisfy their demand for credits and debits, the Government issues a perpetual IOU, and we chill out and wait for a vaccine.
It’s that easy, and it’s free. So why isn’t it being done?
You’d be amazed how many clever people hate easy answers. It’s natural to believe these things are complicated, but they are not. In economics, what is complicated is rarely useful and what is useful is rarely complicated. As with many fields, only those who truly understand their subject have the self-confidence to opt for the easy answer.
Should we be afraid of inflation? With 600,000 on the dole and oil prices close to zero, rising prices are not coming any time soon. If the Central Bank is worried about inflation in the future, it can put lending limits on the banks. We know how to stop inflation – it’s deflation that’s the real killer.
I understand why we might fear one institution having such power. However, this is why the world’s central banks aim to behave conservatively in normal times, so that when a crisis comes they have the credibility to act in a one-off temporary fashion to save the economy.
Extraordinary times demand extraordinary action. We are in extraordinary times.
This column originally appeared in the Irish Times April 25, 2020; It was posted to DavidMcWilliams.ie on April 28, 2020