An idea from 1930s Germany could now give voters hope that there is a growth plan after the virus passes.
After COVID-19, central banks will need to shift from manipulating monetary policy (QE and cash rates) to undertaking fiscal stimulus (public spending). Here’s why.
Non-financial corporations worldwide (and especially in America, see chart below) are heavily over-indebted. Many listed companies borrowed to buy back their own shares so as to stoke their prices, which are now in free fall. In a depressed economy they will be reluctant to borrow for capacity expansion however low interest rates fall. Such a “liquidity trap” can only be overcome by lifting aggregate demand for goods and services not making credit cheaper.
Government is expected to do this heavy lifting by boosting public spending, but most governments are also heavily over-indebted and will be more so after propping up companies and individuals during COVID-19. This will limit their capacity to undertake more unfunded spending without risking their financial viability (think of Greece, Argentina and Venezuela).
Australia and most other countries will experience a sharp decline in jobs and income this year that will leave the community shocked.
Consequently, only central banks will have the firepower through money printing to undertake fiscal stimulus post-COVID-19. It’s important that this be on infrastructure – that is, capital works that have lasting benefit, not recurrent and ongoing consumption spending that would be difficult to wind back once economies have restored their productive capacity.
In a piece for The Australian Financial Review last July, I explained how Quantitative Investing (QI) would work in practice. I mentioned how successful it was in lifting Germany out of the Great Depression when other countries were still mired in it. Then I noted that printing money to fund capital works was conceived under Adolf Hitler, who exploited its success in creating autobahns and the 1936 Olympics to win re-election and then wage war.
However, the policy actually pre-dated Hitler’s rise to power. Offa bills (promissory notes redeemable with Germany’s central bank) were used for paying private contractors to undertake public works from 1932, when Heinrich Brunning, a German Centre Party politician and academic, served as chancellor.
Hitler continued the practice and also introduced Mefo bills (a variation on the same concept) for rearming Germany. In both cases the promissory notes were issued to building contractors by a private shell company and then discounted by the Reichsbank. This way, the central bank financed public works.
Instead of using a private shell company as a way to print money to pay for public works, governments should issue share certificates in capital projects and redeem them with the central bank. This would not add to government debt. Such certificates would only pay dividends if their projects generated a profit, which is unlikely since they would be for social not commercial purposes. As social assets, they should be recorded in the books of central banks the same way they are in government balance sheets.
Australia’s case most public works are undertaken by state and territory governments. To ensure only capital projects of high socio-economic merit were funded through money creation the Reserve Bank could require they be vetted in advance by Infrastructure Australia. It could also confine them to small and medium-scale projects that could be finished within three years. That would benefit depressed regional Australia and avoid direct competition for civil engineering resources with large road, rail and tunnel projects already under way in Sydney and Melbourne.
Finally, the Reserve Bank should foreshadow that it would cease printing money for new works once the economy’s productive capacity was restored so as to avoid inflationary pressures.
Australia and most other countries will experience a sharp decline in output, jobs and income this year that will leave the community shocked. People will want to know there is a plan beyond COVID-19 to restore prosperity. In an over-indebted world simply assuming corporations, governments and households will borrow their way out of this hole is naive. Only central banks have the ammunition to fill the void.
Rather than resorting to more QE and rate cuts, which have encouraged borrowings for bond, share and property speculation instead of productive investment, it’s time central banks redirect their massive money printing to serving the public good.
Percy Allan AM is a public policy economist who served as Secretary of the NSW Treasury and Chair of the NSW Treasury Corporation.