The central bank prints money, lends it to the government, and the government sooner or later spends it (or uses it to cut taxes or increase transfer payments).
There seem to me to be two views on this question that are equally daft:
- The Orthodox Daft View: "Central bank lending to government is a Bad Thing and should be prohibited!"
- The Revolutionary Daft View: "Central bank lending to government is a Good Thing and should be mandatory!"
I don't get it.
First off, central bank lending to government is very orthodox and very traditional. The Bank of Canada is doing it now. The Bank of Canada owns government of Canada bonds. Does it really matter whether the Bank of Canada bought those bonds directly from the government, or indirectly from someone else (who could be anyone) who bought them from the government?
Second off, if the government of Canada owns the Bank of Canada (which it does), and if the Bank of Canada pays all its profits to the government (which it does), it does not matter what interest rate the Bank of Canada charges the government of Canada. If the Bank of Canada charges the government of Canada an extra gazillion dollars in interest, that simply means the Bank of Canada earns an extra gazillion dollars in profits, and the Bank of Canada pays an extra gazillion dollars to the government of Canada. It's a wash.
Third off, even if the Bank of Canada refused point blank to buy government of Canada bonds (either directly or indirectly), and bought commercial bonds instead, money is fungible. If the Bank of Canada switches from buying government bonds to buying commercial bonds, the people who would have bought commercial bonds now buy government bonds instead. Does it make a difference? Yes, it probably does, because the two sorts of bonds will not be perfect substitutes. But it's not like there's any Big Difference of Principle involved. The government now pays interest to the public, and the public now pays interest to the Bank of Canada, and the Bank of Canada pays that interest back to the government as profits.
If I lend money to Tom, and Tom lends money to Dick, and Dick lends money to Harry, am I indirectly lending money to Harry? We can't answer that question by putting a tracking device on the money I lend.
If the government of Canada owns the Bank of Canada, which it does, then de facto direct or indirect Bank of Canada lending to the government of Canada, at an irrelevant rate of interest, is neither a Bad Thing nor a Good Thing. It's inevitable, if the Bank of Canada lends and the government borrows.
What would make a difference is if we passed a law that said the Bank of Canada could only lend to the government of Canada, and the government of Canada could only borrow from the Bank of Canada. That law would tie monetary and fiscal policy together, like two runners in a three-legged race, so neither could change without changing the other. The fiscal deficit in any month would have to equal the amount of money printed in that same month. You could have an independent monetary policy, or you could have an independent fiscal policy, but not both. Either the amount of money printed would determine the fiscal deficit; or the fiscal deficit would determine the amount of money printed.
Such a law sounds daft to me. Why would you want to do that? How would adding an extra constraint improve monetary policy and/or fiscal policy? Mightn't there be times when you wanted to run a deficit, but wanted to reduce the stock of money? Or print money but wanted to run a surplus? In general, adding an extra constraint on choices leads to worse choices, because the constraint sometimes prevents you choosing something you would have chosen. Now there are exceptions to that general rule, like time-inconsistency in dynamic games, where adding a constraint on your own choices lets you change others' expectations of your future choices, which changes their current actions in ways that make you better off despite the extra constraint. But I don't know of any such argument for this particular constraint.
Any money the Bank of Canada prints lets it buy assets, which earn interest, which give the Bank of Canada profits, which it pays to the government, which the government eventually spends. Sooner or later, the government of Canada will spend any money printed by the Bank of Canada. It's inevitable. But the "sooner or later" bit is very important. It doesn't have to be this month, or even this year, or even this decade. Nor should it be.
And the ECB is a bit weird, because it isn't really owned by any single government, so maybe things are different in the Eurozone.