In much of the Western world, two highly successful economic policy initiatives are coming to an end. Quantitative easing, the creation of money by central banks to purchase financial assets, is likely to have run its course in most countries by the end of 2015. Next year is also the deadline for hitting the United Nations’ Millennium Development Goals—eight ambitious global aid targets, ranging from halving extreme poverty to reducing child mortality and combating HIV.
Both initiatives have changed the world for the better. In the wake of the 2008 financial crisis, quantitative easing reawakened the world economy’s “animal spirits” when nothing else seemed capable of doing so. The Millennium Development Goals have been described by the UN as the most successful anti-poverty push in history.
That progress, however, is now in jeopardy. In developed countries, a tepid recovery has depressed government spending and soured public attitudes on foreign aid. For the first time since 1997, overseas aid payments have fallen for two consecutive years. Momentum behind funding for the Millennium Development Goals has faltered, just when it should have been building toward the deadlines.
What can be done? My 4-year-old daughter, Pia, gave me an idea. On our way to a local cafe, Pia and I passed a man collecting for charity. I didn’t have any change to give him, and she was disappointed. Once in the cafe, Pia took out her coloring book and drew a £5 note to give to the man outside. I explained to her, “You can’t do that; it’s not allowed.” To which I got the classic 4-year-old response: “Why not?”
Central bankers have long viewed sovereign money creation as a sacred policy tool, to be used sparingly lest it stoke inflation. That sanctity, however, had been challenged by the policy response of choice to the financial crisis: quantitative easing, which has increased the stock of money in the economies of the U.S., the U.K., and Japan by $3.7 trillion, more than three times the total physical stock of dollar notes in circulation worldwide. This raises the question of whether the same strategy used to ward off a global depression might now be deployed to sustain progress toward wiping out extreme poverty around the world. Put another way: Can we simply print money for aid?
Before the financial crisis, the idea of central banks’ creating money to buy assets would have been unthinkable. Yet over the last five years, investors’ reactions have been remarkably sanguine. The price of gold, an asset some argue protects against inflation, did jump, but investors bought other assets that offered little protection from inflation. They bought fixed-income securities and bonds. They bought equities, too. For all the scare stories, the actual actions of investors spoke of rapid acceptance and confidence based on two pillars. The first was that, after years of keeping inflation under control, central banks were trusted to take the money-printing away if inflation became a threat. Second, inflation never did become a threat. Consumer price inflation in the U.S. and elsewhere remained below or close to long-run averages.
This lack of inflation is partly explained by the ongoing weakness of growth. Spare capacity in many industries has kept wages in check, while tepid bank lending has meant the newly created money has not moved around the economy as fast as it could have. The velocity of money has remained low. Nevertheless, the experience of quantitative easing has demonstrated clearly that, under the right economic conditions and with a credible inflation-targeting central bank, the creation of money by sovereigns can be an effective policy tool to fight disinflation.
In fact, this was one of the few points of economic policy that both John Maynard Keynes and Milton Friedman agreed on more than 75 years ago. But that’s been long forgotten because of a plethora of mismanaged money-printing schemes that have led to hyperinflation in several countries.
So how could this relate to aid? Consider the following: Many corporations run programs whereby they’ll match employees’ charitable donations up to a certain amount. Some governments have offered similar matching contributions for their citizens for specific appeals. In late 2013 the British government matched the first £5 million donated by the public for typhoon relief in the Philippines. Could we take this up one more level? Could, for example, the Federal Reserve, the U.S. government’s banker, match Congress’s overseas aid contributions, up to a certain level, by printing money?
The creation of money to use as foreign aid would bring huge benefits—with a manageable level of risk
Here’s how it might work. Provided the central bank saw little domestic inflation risk or credibility issues from doing so, it would be mandated to match the government’s overseas aid payments up to a certain limit. Governments have been aiming (and failing) to get overseas aid payments to 0.7 percent of gross national income (GNI) for decades. Let’s say the matching limit were set at half of that—0.35 percent of GNI. If the government gave 0.2 percent of GNI in a year, the central bank would top this up with another 0.2 percent to make a total of 0.4 percent, assuming it saw no domestic inflation risk from doing so.
The mechanics in terms of what central banks would do are not so different from what they’ve done through their asset-purchasing programs. Some central banks can create money with offsetting account items. Another possibility, as suggested by Andrew Jackson and Ben Dyson in their book Modernising Money, would be for the government to issue perpetual bonds that pay no interest, and for the central bank to then purchase these bonds in the required amount. Because the bonds never mature, they shouldn’t add to national debt.
Other alternatives include creating money to buy bonds of countries receiving aid that are directly linked to development goals. For example, the International Finance Facility for Immunisation, launched by the GAVI Alliance, uses long-term donor pledges to issue highly rated bonds to raise funds for vaccinations.
These options show that “print aid” is technically possible. But because this is a step toward overt monetary financing of fiscal spending, wouldn’t it cause runaway inflation? Not necessarily. First, a policy of “print aid” would retain the inflation-targeting guidelines that made current quantitative easing schemes so credible. Second, because the money created would be spent overseas in poor countries on items such as vaccines, education, and infrastructure, the impact on prices in the country doing the printing would likely be minimal, unless it led to rapid currency depreciation. That’s unlikely for the third reason: Compared with battling the financial crisis, the money required to defeat global poverty is a pittance.
If a print-aid matching scheme had been in place over the past four years in the U.S., the U.K., and Japan, central bank balance sheets would have expanded by $200 billion. This is a modest number compared with the $3.7 trillion monetary expansion that occurred over the period. Yet in terms of development assistance, the extra $200 billion would have had a huge impact. Even though this is the printing of just three central banks, global aid over this period would have risen almost 40 percent—and come close to reaching a 40-year high.
The experience of the financial crisis has shown that the risks from money creation are more manageable than previously believed. The potential benefits from creating relatively modest amounts of money for aid, meanwhile, could be massive. Such opportunities of controlled risk and high reward rarely last long; the window of opportunity for this idea could be closing. Today money creation by central banks is an accepted policy tool. Now might also be the only time in which developed nations can actually afford to provide the level of aid to the world’s poor they’ve always aspired to. Can we print money for overseas development aid? The question we should be asking ourselves is, “Why not?”
Metcalfe is head of cross-asset strategy at State Street Global Markets. The views expressed here are his own and do not necessarily reflect those of State Street (STT). This article is based on a presentation at a TED@StateStreet event.
Metcalfe is head of cross-asset strategy at State Street Global Markets.
