Readers Question: Can Central Banks continuously print money to avoid recession?

Readers Question. If central banks collectively and continuously print money, does this mean there will never be a financial crisis and recession?

If central banks collectively and continuously print money then we could end up with a different type of financial crisis. Instead of a recession (falling output), we could get a situation of high inflation and ultimately hyperinflation.

Printing Money Can Help Solve Depressions

In certain types of recessions (Balance sheet recessions/liquidity trap). Printing money can help avoid deflation and therefore help the economy to recover from a prolonged slump.

In a very deep recession when we have low bank lending, a decline in money supply growth, it is possible central banks can print money without causing excess inflation. If you look at the policy of quantitative easing in the UK, underlying inflation has remained low. The increased money supply helped the economy to some extent recover.

see: who benefits from quantitative easing?

Printing Money Can Cause Inflation

However, if you ‘continuously print money’ there will come a point when inflation increases above the inflation target and this can lead to sustained inflationary pressure. If you ‘continuously print money’ you will get a situation of hyperinflation. See: Why printing money causes inflation

It is important to remember than printing money doesn’t create any output. Increasing the money supply will, ceteris paribus, reduce the value of money. If the value of money declines rapidly (high inflation rate). Then this creates a great deal of economic instability. We will get all the problems of high inflation

Menu costs
Uncertainty and confusion
Reduce the value of savings and real incomes

What is Biggest Concern at Moment Inflation or Deflation?

Central banks face a difficulty in deciding which is the biggest pressing threat. For example, the ECB is always concerned about inflationary pressure (this is rooted in the German experience of hyperinflation in the 1920s – when printing money destabilised the German economy). This is perhaps why the ECB increased interest rates in early 2011, despite threats of deflation and prospects of double dip recession in the Euro periphery.

However, the ECB would do well to remember German in 1930-32, where they sought to reduce budget deficits in the middle of a recession. Like other countries this deflationary fiscal policy in a recession, led to a fall in the money supply, negative economic growth and mass unemployment.

My take is that we are in a liquidity trap, we do have a balance sheet recession. The Eurozone is facing the prospect of a rising output gap, sluggish growth and an inflation rate that is either too low or even deflation.
Therefore, in this circumstance, it is one of the few occasions where the Central Bank should be pursuing some form of quantitative easing (increasing money supply)
This is especially important for the Eurozone because many economies are pursuing austerity measures (tight fiscal policy – spending cuts) which reduce aggregate demand. Increasing money supply is one of the few ways to protect the economic recovery.

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