IF THE GOAL IS TO CHANGE BEHAVIOR AND INCREASE DEMAND...:

If the core problem is inadequate global demand, only monetary or fiscal policy can solve it. But central bankers are right to stress the limits of what monetary policy alone can achieve.

The Bank of Japan recently introduced negative interest rates, and next week the European Central Bank will probably take its own rate still further into negative territory or launch yet more quantitative easing (QE). But these levers can make little difference to real economic consumption and investment.

Negative interest rates are intended to spur credit demand among companies and households. But if banks are unwilling to impose negative rates on depositors, the actual and perverse consequence could be higher lending rates as banks attempt to maintain margins in the face of the running losses they now make on their central bank reserves.

As Mark Carney, Governor of the Bank of England, has noted, negative interest rates should be used only in ways that stimulate overall global demand, rather than simply to move demand from one country to another via competitive devaluation. But achieving such stimulus via negative interest rates may be impossible. The potential for yet more QE to change behavior in the real economy is equally unclear.

This means that nominal demand will rise only if governments deploy fiscal policy to reduce taxes or increase public expenditure - thereby, in Milton Friedman's phrase, putting new demand directly "into the income stream."

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