Mises Wire

The Destructive Effects of the Coronavirus Relief Package

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Governments and their central banks have put together mega–bailout packages. In the US, President Donald J. Trump has signed off on a $2 trillion “virus relief package” amounting to around 10 percent of the US gross domestic product. It is meant to provide massive financial support—in the form of loans, tax breaks, and direct payments—to large and small businesses as well as individuals whose revenue and income have been destroyed by the politically dictated “lockdown.”

What is more, the US Federal Reserve (the Fed) has provided a colossal “backstop” to financial markets. It injects ever higher amounts of central bank money into the financial system by buying up all sorts of credit instruments—not only government bonds, but also mortgage debt, corporate bonds, commercial papers, etc. The Fed thereby props up financial asset prices, keeping the cost of credit artificially low and, most importantly, avoids payment defaults on a grand scale.

In fact, the Fed is at the heart of all these rescue measures, for the US administration does not have the money to finance all its promises. The US Treasury will issue new bonds that will be bought by the Fed, which thereby creates new US dollar deposits in the hands of the US government. These are then transferred to the bank accounts of entrepreneurs, consumers, and most of all to government beneficiaries (its employees, service providers, and contractors). As a result, the newly created money shows up in people’s bank accounts, increasing the stock of money in the economy.

Beyond that, the Fed purchases credit instruments—bonds and bills (and perhaps even other assets at some stage). As it does business with banks, the Fed ramps up the central bank money supply to the interbank market: Banks hand credit papers over to the Fed in exchange for newly created central bank money deposits. As a result, the “excess reserves” of banks increase and credit risk is taken off their balance sheets. Equity capital is freed up and can be used to increase lending to corporates, consumers, and, of course, government entities. This also contributes to the increase in the outstanding money stock.

If and when the Fed purchases credit products from, say, hedge funds, mutual funds, and insurance companies, the quantity of money will also be increased: these market players will hand unwanted credit products over to the Fed in exchange for deposits held with commercial banks. These new money balances can, and most likely will, be used to purchase other assets (e.g., stocks, land, commodities, etc.).

It becomes obvious that the mega–bailout package will effectively result in an increase in the quantity of money in the economy. Sound economics tells us what the consequences are: the increase in the quantity of money will result in higher goods prices, thereby lowering the purchasing power of money. In other words: the mega–bailout package boils down to “money printing”—to an inflationary policy. Again, sound economic tells us that inflation is a policy redistributing income and wealth among people: it does not create a win-win situation; it creates winners and losers.

Those holding money will lose; their wealth will dwindle. And so will those holding bonds and bills denominated in the official currency. In contrast, those holding stocks, bonds, real estate, commodities, art, etc. may well benefit—if and when the prices of these assets increase as a result of the expansion of the outstanding money supply. Overstretched borrowers will also benefit, as their default is prevented and their careless creditors’ deserved losses are thus warded off.

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S&P and M2

Most importantly, banks, financial institutions, big business, Wall Street, the establishment, and the deep state will for sure rank among the beneficiaries of the Fed’s backstop policy. This amounts to a repetition of what happened during the crisis of 2008/2009, when the Fed bailed out the economic and financial system. This time, however, the costs will be higher—for it is very likely that people will see and feel its consequences—namely conspicuously rising goods prices.

The Austrian economist Ludwig von Mises (1881–1973) did capture what governments will do if and when they have access to the printing press very well. In early 1923, shortly before the scary hyperinflation took off in Germany, he finished the script for his essay “Stabilitsation of the Monetary Unit—from the Viewpoint of Theory” (“Die geldtheoretische Seite des Stabilisierungsproblems”). In it, Mises—clearsighted and foresighted as he was as an economist—anticipated the monetary disaster resulting from a central bank catering to the needs of a bankrupt policy. He wrote:

We have seen that if a government is not in a position to negotiate loans and does not dare levy additional taxation for fear that the financial and general economic effects will be revealed too clearly too soon so that it will lose support for its programme, it always considers it necessary to undertake inflationary measures. Thus inflation becomes one of the most important psychological aids to an economic policy that tries to camouflage its effects. In this sense, it may be described as a tool of anti-democratic policy. By deceiving public opinion, it permits a system of government to continue, which would have no hope of receiving the approval of the people if conditions were frankly explained to them.1

Today, the policy of printing new money to hold up an economic and financial system that cannot last is being pursued again—as it has been in the past, on many occasions. The question is not whether money will lose its purchasing power. It is just a question of how much and how quickly. The best-case scenario is that the economic slump will be overcome quickly and, as a result, central banks will not have to monetize too much debt and issue too much newly created money.

But even then the underlying problem will not be solved; it will merely be postponed, because the government-controlled unbacked paper money system will predictably lead to ever greater amounts of debt on the part of entrepreneurs, consumers, and, most importantly, governments. At some point, debtors will no longer be in a position to service their debt. This is the point at which the unbacked paper money system collapses altogether through payment defaults, or when governments begin to issue ever greater amounts of money in a last-ditch effort to fend off the inevitable. That said, economies that have become addicted to unbacked money will, at some point, be confronted with a “recession-depression” à la 1929 or a German hyperinflation à la 1923.

Meanwhile, however, governments and central banks’ mega–bailout programs may very well succeed in keeping the artificial boom going—that is, in transposing the approaching economic and financial bust into yet another boom, thereby preventing the system from collapsing. One thing, however, is certain: the official currencies—be it the greenback, the euro, Chinese renminbi, or the Japanese yen—will most likely lose their purchasing power. The truth is that they have never been a reliable means to store wealth—and never will be.

  • 1Ludwig von Mises, The Causes of the Economic Crisis, and Other Essays before and after the Great Depression, ed. Percy L. Greaves Jr. (1978; Auburn, AL: Ludwig von Mises Institute, 2006), p. 38.
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