John Redwood, the Tory MP, was at this morning's CentreForum event and asked Vince Cable what the government would do to reverse the massive shrink in bank balance sheets - the reduction in lending. Cable answered that Quantitative Easing - increasing the cash holdings of banks - was part of the anwer and that this might well continue.
Interestingly, he wondered whether QE as it had been applied – buying bonds for newly created cash – had done anything other than prop up asset prices. He thought that it might be that it had not turned into activity in the real economy and that other mechanisms might need to be found that would give us money-creation that actually leads to output creation.
One way of thinking about this is that in a downturn, government is looking around for "shovel-ready" projects. The public sector was already stretched and doing lots of shovelling, so fiscal stimulus was not going to give enough scope for demand creation; so QE through the banking sector might have been thought to have revealed a whole lot of "shovel-readies" -- banks, after all, are constantly assessing projects and whether to back them, no? You go to the City to find all the projects that are waiting for nothing but cash on the right terms to start.
Well, maybe in normal times. But it seems that the banks were too focused on reducing their lending to turn free money into very many projects.
So here's my modest proposal for a mechanism that would turn money creation into real activity: decide on the quantum of QE to be done and simply give the cash to the 10% worst off in society. It is not fiscal policy, will not add to the budget deficit, and is sure to turn into spending (the worst off tend not to have the sorts of balance sheets that have needed repairing after the crisis) and therefore economic activity. If this is what deficity hawkery leads us to, I'm fine with it.