Macro Digest: The Chicago Plan - are you ready for the real helicopter money? (The public version)

Dear Friends,

This is my own educational piece on The Chicago plan – unfortunately I think you all have to prepare yourself for this being the H2-2013 plan for a plan to buy more time. The world is running on empty in terms of creating jobs and clarity – the dual highs in unemployment and stock market are long term unsustainable and with Bernanke already a major fan of this concept the “easy decision” to do a “just a little bit” will be too tempting for a group of politicians who refuse to live up to their responsibility to reform and create jobs. Sad but properly very realistic. This version has been excellently edited by my colleague John Hardy. Enjoy. Steen

The Chicago Plan - are you ready for the real helicopter money?

Non-Independent Investment Research

Over the last several months, The Chicago Plan keeps popping up in the media – a bit under the radar, but the A-list of people who have circulated this concept now and historically include Henry Simons, Irving Fisher, Milton Friedman, Keynes himself, Bernanke, and last August Benes & Kumhof in an IMF working paper – The Chicago Plan Revisited. Remember that the IMF is the policy maker’s policy maker, or the overlords of dirigisme, if you will.

The Chicago plan idea got additional fuel recently when Lord Turner, Chairman of the FSA, defended the plan in an interview – This time it’s different. Here a is video link with one of the authors: Michael Kumhof.

The so called plan is simple: “Wipe out debt by legislation by using state created money to replace the private banking system” (ZH link), or as Ambrose Evans-Pritchard put it so well in the Telegraph: "The conjuring trick is to replace our system of private bank-created money - roughly 97 per cent of the money supply - with state-created money." The key features of the plan are the requirement that banks put up 100 per cent reserve backing for deposits, while at the same time stripping the banks of their ability to create money out of thin air”.

The original plan was created in 1936 by Professors Henry Simons and Irving Fisher during the US Depression. The original paper looks at how money created by credit cycles leads to a damaging creation of wealth. The Keynesian call on Friedman and Bernanke who both have supported the “idea”: Milton Friedman invented the term “helicopter money” – in his “The Optimum Quantity of Money” in 1969 and we have all by now read Bernanke’s helicopter speech from 2002.

It was also in turn supported by Martin Wolf in FT: 

Finally, some common sense this morning from Gavyn Davies also in the FT.

The Gavyn Davies piece covers the following points concerning the Chicago Plan and the idea of Overt Monetary Financing (OMF):

1. The key difference is that in the case of QE, the bonds are (in theory) only parked temporarily at the central bank, while under OMF the purchases are never intended to be reversed – in other words, while central banks can pretend that QE is not printing money – OMF dispenses with the pretense – it is pure printed, “helicopter” money.

2. A second difference is that, in the Turner version of OMF, there is a “breakage of the link between the government’s decision to run a budget deficit, and the public’s willingness to finance deficits at acceptable interest rates” . This means that the policy requires co-operation between the fiscal and monetary authorities (or a melding of the two), while QE is built around the idea that the two policies are determined at arm’s length due to the nominal independence of the central bank.

3. Finally “Because it does not tap private savings, OMF financing will be much more expansionary than QE on a dollar-for-dollar basis. Supporters of OMF, like Lord Turner, see this as an advantage, and say that it means that the medicine would need to be applied in much smaller doses than QE. The possibility of introducing OMF in small doses, controlled by the central banks, is seductive: supporters argue that not all roads necessarily lead to Zimbabwe.”

My comments:
It all sounds so innocuous, these policy making tools: It starts as a small experiment – you know, just to test the waters. Other policy measures have been rolled out in this fashion: The V.A.T started at a small 2% - then suddenly it morphs into a 25% albatross, like in Denmark – or the ECB steps in to “save the Euro” but then all of the sudden it’s bankrolling all of the debt in Europe. Under a Chicago Plan scenario, fiscal- and monetary accountability and anchoring would disappear – and the most dangerous thing is that it will appeal to many stakeholders in theory. Eventually, the danger is again that our policymakers make David Copperfield’s grand illusions look like childs play as this would make an illusion of our entire monetary system – extend and pretend to the next dimension.

Make no mistake – this is privately what Bernanke, Draghi and Carney believe could be done, if (don’t we all know that it is “when” and not “if”?), the politicians again fail to create the needed reform. 2013 looks like a big transition year. Fed officials are bravely talking up an exit from QE – but only because they believe the economy is set for a strong rebound. If it isn’t and we don’t start seeing signs of needed reform, we’re simply going to descend to another ring lower in the monetary/central planning inferno.

While we may have high stock market prices the real economy continues to disappoint: World plunges into recession in Q4-2012 – so get ready for some more monetary experiments?

If the history since the advent of QE is any guide, we are only a few quarters away from all having to understand the Chicago Plan, as politicians haven’t even taken baby steps in the right direction toward structural reforms – though is that simply because the voters can’t handle the truth of what is needed?

Safe travels,

Steen

For an educational tour here is excellent link from Economicshelp.org. And here is another primer on the idea.