Why canât governments print an unlimited amount of money?
đˇď¸ Economics
In March 2020, the COVID-19 pandemic rocked economies worldwide. Millions of people lost their jobs, and many businesses struggled to survive or shut down completely. Governments responded with some of the largest economic relief packages in history. The United States alone spent 2.2 trillion dollars on a first round of relief. So where did all this money come from.
Most countries have a central bank that manages the money supply, and is independent from the government to prevent political interference. The goverment can implement many types of economic policy like decreasing peopleâs taxes and creating jobs through public infrastructure projects. But it actually canât just increase the money supply. The central bank determines how much money is in circulation at a time. So why canât central banks authorize the printing of unlimited money to help an economy in crisis?
They could, but thatâs a short-term solution that doesnât necessarily boost economic growth in the long-term, and can actually hurt the economy. Why? With more money in circulation, manufacturers of goods like food, clothing, and cars could respond to demand, simply by raising prices, rather than manufacturing more of these goods and creating new jobs in the process. This would mean you could no longer buy as much with the same amount of money, a situation known as inflation.
A little bit of inflation, about 2% a year, is considered a sign of economic health, but more can quickly derail an economy. In recent decades, central banks have tried an approach called quantitative easing to infuse the economy with cash while maintaining a low risk of severe inflation. In this approach, a central bank increases cash flow by purchasing another entityâs bonds. Anyone can buy bonds from corporations or governments. When you buy a bond, youâre essentially loaning money to the company or goverment with the promise that theyâll pay it back later with interest.
This is why buying bonds is sometimes referred to as buying debt. When an individual buys a bond, theyâre using money that is already in circulation. But when a central bank buys a bond, it essentially creates cash, supplying money that didnât exist before in exchange for bonds. Both during the 2008-2009 financial crisis and again in 2020, the United Statesâ central bank, the Federal Reserve, bought bonds from the US goverment called treasury bonds. Historically, many people have purchased these bonds as a safe form of investment, knowing the US government will pay them back with interest.
In early 2020, the Federal Reserve pledged to buy unlimited treasury bonds, loaning the US goverment an unprecedented amount of money, cash that the government used to fund relief efforts like stimulus checks and unemployment benefits. This isnât equivalent to simply printing money that it may sound similar. Because of the way bonds are priced, by buying so many, the Federal Reserve effectively lower the return on them, which incentivizes other investors to lend to riskier entities like small and midsize companies in order to get a decent return.
Encouraging lending this way should help companies of all sizes borrow money to funnel into projects and hires, boosting the economy overtime in addiction to helping the government supply people with urgenly needed cash in the short term. The Federal Reserveâs pledge to buy unlimited the government debt has raised some questions and eyebrowns. In theory, this means the goverment could issue more bonds which the central bank would purchase. The government could then use the money fromthe new bonds to pay off the old bonds, effectively meaning the government never pays back its debt to the central bank. Citing this and other theoretical scenarios, some economists have raised concerns that a central bank buying goverment debt is a subversion of a system designed to protect the economy. Others have insisted these measures are necessary, and have so far helped stablize economies. Though quantitative easing has become a lot more common in recent years, itâs still relatively new, and potential consequences are still unfolding.