Monthly Archives: August 2009

The Hyman P. Minsky Summer Seminar

The Levy Economics Institute of Bard College is pleased to announce that it will hold a Minsky summer seminar in June 2010. The Seminar will provide a rigorous discussion of both theoretical and applied aspects of Minsky’s economics, with an examination of meaningful prescriptive policies relevant to the current economic and financial crisis. The Seminar will consist of a Summer School from June 19 to 26, 2010, followed by an International Conference on June 27–29, both to be held at The Levy Economics Institute of Bard College.

The Summer School will be of particular interest to graduate students, recent graduates and those at the beginning of their academic or professional careers. The teaching staff will include well-known economists concentrating on and expanding Minsky’s work.

Applications may be made to Susan Howard at the Levy Institute ([email protected]), and should include a current curriculum vitae. Admission to the Summer School will include provision of room and board on the Bard Campus. Small travel reimbursements of $100 for US fellows and $300 for foreign fellows, respectively, will be available for a limited number of participants.

The Conference will provide a forum for the presentation and discussion of papers and work in progress dealing with Minskyan themes. Preference will be given to applicants presenting contributions in the following areas: stock-flow modeling and policy simulations; financial fragility; reconstituting the financial structure; modern money, endogeneity and functional finance; asset bubbles; and employment of last resort (ELR) and macroeconomic stability.

Applications to attend the Conference may be made to Susan Howard ([email protected]), and should include an abstract of the proposed presentation. A registration fee of $200 covering meals and materials will be required for attendance and participation in the Conference program. Participants in the Summer School will be able to attend the Conference without charge. Bookings for hotel lodging at a preferential rate will be available to those attending the Conference.

Summer school and conference programs will be organized by Jan A. Kregel, Dimitri B. Papadimitriou and L. Randall Wray.

For more information, please visit

Money as a Public Monopoly

By L. Randall Wray

What I want to do in this blog is to argue that the reason both theory and policy get money “wrong” is because economists and policymakers fail to recognize that money is a public monopoly*. Conventional wisdom holds that money is a private invention of some clever Robinson Crusoe who tired of the inconveniencies of bartering fish with a short shelf-life for desired coconuts hoarded by Friday. Self-seeking globules of desire continually reduced transactions costs, guided by an invisible hand that selected the commodity with the best characteristics to function as the most efficient medium of exchange. Self-regulating markets maintained a perpetually maximum state of bliss, producing an equilibrium vector of relative prices for all tradables, including the money commodity that serves as a veiling numeraire.

All was fine and dandy until the evil government interfered, first by reaping seigniorage from monopolized coinage, next by printing too much money to chase the too few goods extant, and finally by efficiency-killing regulation of private financial institutions. Especially in the US, misguided laws and regulations simultaneously led to far too many financial intermediaries but far too little financial intermediation. Chairman Volcker delivered the first blow to restore efficiency by throwing the entire Savings and Loan sector into insolvency, and then freeing thrifts to do anything they damn well pleased. Deregulation, which actually dates to the Nixon years and even before, morphed into a self-regulation movement in the 1990s on the unassailable logic that rational self-interest would restrain financial institutions from doing anything foolish. This was all codified in the Basle II agreement that spread Anglo-Saxon anything goes financial practices around the globe. The final nail in the government’s coffin would be to preserve the value of money by tying monetary policy-maker’s hands to inflation targeting, and fiscal policy-maker’s hands to balanced budgets. All of this would lead to the era of the “great moderation”, with financial stability and rising wealth to create the “ownership society” in which all worthy individuals could share in the bounty of self-regulated, small government, capitalism.

We know how that story turned out. In all important respects we managed to recreate the exact same conditions of 1929 and history repeated itself with the exact same results. Take John Kenneth Galbraith’s The Great Crash, change the dates and some of the names of the guilty and you’ve got the post mortem for our current calamity.

What is the Keynesian-institutionalist alternative? Money is not a commodity or a thing. It is an institution, perhaps the most important institution of the capitalist economy. The money of account is social, the unit in which social obligations are denominated. I won’t go into pre-history, but I trace money to the wergild tradition—that is to say, money came out of the penal system rather than from markets, which is why the words for monetary debts or liabilities are associated with transgressions against individuals and society. To conclude, money predates markets, and so does government. As Karl Polanyi argued, markets never sprang from the minds of higglers and hagglers, but rather were created by government.

The monetary system, itself, was invented to mobilize resources to serve what government perceived to be the public purpose. Of course, it is only in a democracy that the public’s purpose and the government’s purpose have much chance of alignment. In any case, the point is that we cannot imagine a separation of the economic from the political—and any attempt to separate money from politics is, itself, political. Adopting a gold standard, or a foreign currency standard (“dollarization”), or a Friedmanian money growth rule, or an inflation target is a political act that serves the interests of some privileged group. There is no “natural” separation of a government from its money. The gold standard was legislated, just as the Federal Reserve Act of 1913 legislated the separation of Treasury and Central Bank functions, and the Balanced Budget Act of 1987 legislated the ex ante matching of federal government spending and revenue over a period determined by the celestial movement of a heavenly object. Ditto the myth of the supposed independence of the modern central bank—this is but a smokescreen to protect policy-makers should they choose to operate monetary policy for the benefit of Wall Street rather than in the public interest (a charge often made and now with good reason).

So money was created to give government command over socially created resources. Skip forward ten thousand years to the present. We can think of money as the currency of taxation, with the money of account denominating one’s social liability. Often, it is the tax that monetizes an activity—that puts a money value on it for the purpose of determining the share to render unto Caesar. The sovereign government names what money-denominated thing can be delivered in redemption against one’s social obligation or duty to pay taxes. It can then issue the money thing in its own payments. That government money thing is, like all money things, a liability denominated in the state’s money of account. And like all money things, it must be redeemed, that is, accepted by its issuer. As Hyman Minsky always said, anyone can create money (things), the problem lies in getting them accepted. Only the sovereign can impose tax liabilities to ensure its money things will be accepted. But power is always a continuum and we should not imagine that acceptance of non-sovereign money things is necessarily voluntary. We are admonished to be neither a creditor nor a debtor, but try as we might all of us are always simultaneously both. Maybe that is what makes us Human—or at least Chimpanzees, who apparently keep careful mental records of liabilities, and refuse to cooperate with those who don’t pay off debts—what is called reciprocal altruism: if I help you to beat the stuffing out of Chimp A, you had better repay your debt when Chimp B attacks me.

OK I have used up two-thirds of my allotment and you all are wondering what this has to do with regulation of monopolies. The dollar is our state money of account and high powered money (HPM or coins, green paper money, and bank reserves) is our state monopolized currency. Let me make that just a bit broader because US Treasuries (bills and bonds) are just HPM that pays interest (indeed, Treasuries are effectively reserve deposits at the Fed that pay higher interest than regular reserves), so we will include HPM plus Treasuries as the government currency monopoly—and these are delivered in payment of federal taxes, which destroys currency. If government emits more in its payments than it redeems in taxes, currency is accumulated by the nongovernment sector as financial wealth. We need not go into all the reasons (rational, irrational, productive, fetishistic) that one would want to hoard currency, except to note that a lot of the nonsovereign dollar denominated liabilities are made convertible (on demand or under specified circumstances) to currency.

Since government is the only issuer of currency, like any monopoly government can set the terms on which it is willing to supply it. If you have something to sell that the government would like to have—an hour of labor, a bomb, a vote—government offers a price that you can accept or refuse. Your power to refuse, however, is not that great. When you are dying of thirst, the monopoly water supplier has substantial pricing power. The government that imposes a head tax can set the price of whatever it is you will sell to government to obtain the means of tax payment so that you can keep your head on your shoulders. Since government is the only source of the currency required to pay taxes, and at least some people do have to pay taxes, government has pricing power.

Of course, it usually does not recognize this, believing that it must pay “market determined” prices—whatever that might mean. Just as a water monopolist cannot let the market determine an equilibrium price for water, the money monopolist cannot really let the market determine the conditions on which money is supplied. Rather, the best way to operate a money monopoly is to set the “price” and let the “quantity” float—just like the water monopolist does. My favorite example is a universal employer of last resort program in which the federal government offers to pay a basic wage and benefit package (say $10 per hour plus usual benefits), and then hires all who are ready and willing to work for that compensation. The “price” (labor compensation) is fixed, and the “quantity” (number employed) floats in a countercyclical manner. With ELR, we achieve full employment (as normally defined) with greater stability of wages, and as government spending on the program moves countercyclically, we also get greater stability of income (and thus of consumption and production)—a truly great moderation.

I have said anyone can create money (things). I can issue IOUs denominated in the dollar, and perhaps I can make my IOUs acceptable by agreeing to redeem them on demand for US government currency. The conventional fear is that I will issue so much money that it will cause inflation, hence orthodox economists advocate a money growth rate rule. But it is far more likely that if I issue too many IOUs they will be presented for redemption. Soon I run out of currency and am forced to default on my promise, ruining my creditors. That is the nutshell history of most private money (things) creation.

But we have always anointed some institutions—called banks—with special public/private partnerships, allowing them to act as intermediaries between the government and the nongovernment. Most importantly, government makes and receives payments through them. Hence, when you receive your Social Security payment it takes the form of a credit to your bank account; you pay taxes through a debit to that account. Banks, in turn, clear accounts with the government and with each other using reserve accounts (currency) at the Fed, which was specifically created in 1913 to ensure such clearing at par. To strengthen that promise, we introduced deposit insurance so that for most purposes, bank money (deposits) functions like government currency.

Here’s the rub. Bank money is privately created when a bank buys an asset—which could be your mortgage IOU backed by your home, or a firm’s IOU backed by commercial real estate, or a local government’s IOU backed by prospective tax revenues. But it can also be one of those complex sliced and diced and securitized toxic waste assets you’ve been reading about. A clever and ethically challenged banker will buy completely fictitious “assets” and pay himself huge bonuses for nonexistent profits while making uncollectible “loans” to all of his deadbeat relatives. (I use a male example because I do not know of any female frauds, which is probably why the scales of justice are always held by a woman.) The bank money he creates while running the bank into the ground is as good as the government currency the Treasury creates serving the public interest. And he will happily pay outrageous prices for assets, or lend to his family, friends and fellow frauds so that they can pay outrageous prices, fueling asset price inflation. This generates nice virtuous cycles in the form of bubbles that attract more purchases until the inevitable bust. I won’t go into output price inflation except to note that asset price bubbles can fuel spending on consumption and investment goods, spilling-over into commodities prices, so on some conditions there can be a link between asset and output price inflations.

The amazing thing is that the free marketeers want to “free” the private financial institutions to licentious behavior, but advocate reigning-in government on the argument that excessive issue of money is inflationary. Yet we have effectively given banks the power to issue government money (in the form of government insured deposits), and if we do not constrain what they purchase they will fuel speculative bubbles. By removing government regulation and supervision, we invite private banks to use the public monetary system to pursue private interests. Again, we know how that story ends, and it ain’t pretty. Unfortunately, we now have what appears to be a government of Goldman, by Goldman, and for Goldman that is trying to resurrect the financial system as it existed in 2006—a self-regulated, self-rewarding, bubble-seeking, fraud-loving juggernaut.

To come to a conclusion: the primary purpose of the monetary monopoly is to mobilize resources for the public purpose. There is no reason why private, for-profit institutions cannot play a role in this endeavor. But there is also no reason to believe that self-regulated private undertakers will pursue the public purpose. Indeed, as institutionalists we probably would go farther and assert that both theory and experience tell us precisely the opposite: the best strategy for a profit-seeking firm with market power never coincides with the best policy from the public interest perspective. And in the case of money, it is even worse because private financial institutions compete with one another in a manner that is financially destabilizing: by increasing leverage, lowering underwriting standards, increasing risk, and driving asset price bubbles. Unlike my ELR example above, private spending and lending will be strongly pro-cyclical. All of that is in addition to the usual arguments about the characteristics of public goods that make it difficult for the profit-seeker to capture external benefits. For this reason, we need to analyze money and banking from the perspective of regulating a monopoly—and not just any monopoly but rather the monopoly of the most important institution of our society.

* Much confusion is generated by using the term “money” to indicate a money “thing” used to satisfy one of the functions of money. I will be careful to use the term “money” to refer to the unit of account or money as an institution, and “money thing” to refer to something denominated in the money of account—whether that is currency, a bank deposit, or other money-denominated liability

Central Bank Sterilization

By L. Randall Wray [via CFEPS]

There is a great deal of confusion over international “flows” of currency, reserves, and finance, much of which results from failure to distinguish between a floating versus a fixed exchange rate. For example, it is often claimed that the US needs “foreign savings” in order to “finance” its persistent trade deficit that results from “profligate US consumers” who are said to be “living beyond their means”. Such a statement makes no sense for a sovereign nation operating on a flexible exchange rate. In a nation like the US, when viewed from the vantage point of the economy as a whole, a trade deficit results when the rest of the world (ROW) wishes to net save in the form of dollar assets. The ROW exports to the US reflect the “cost” imposed on citizens of the ROW to obtain the “benefit” of accumulating dollar denominated assets. From the perspective of America as a whole, the “net benefit” of the trade deficit consists of the net imports that are enjoyed. In contrast to the conventional view, it is more revealing to think of the US trade deficit as “financing” the net dollar saving of the ROW—rather than thinking of the ROW as “financing” the US trade deficit. If and when the ROW decides it has a sufficient stock of dollar assets, the US trade deficit will disappear.

It is sometimes argued that when the US experiences a capital account surplus, the dollars “flowing in” will increase private bank reserves and hence can lead to an expansion of private loan-and-deposit-making activity through the “money multiplier”. However, if the Fed “sterilizes” this inflow through open market sales, the expansionary benefits are dissipated. Hence, if the central bank can be persuaded to avoid this sterilization, the US can enjoy the stimulative effects.

Previous analysis should make it clear that sterilization is not a discretionary activity. First it is necessary to understand that a trade deficit mostly shifts ownership of dollar deposits from a domestic account holder to a nonresident account holder. Often, reserves do not even shift banks as deposits are transferred from an account at a US branch to an account at a foreign branch of the same bank. Even if reserves are shifted, this merely means that the Fed debits the accounts of one bank and credits the accounts of another. These operations will be tallied as a deficit on current account and a surplus on capital account. If treasury or central bank actions result in excess reserve holdings (by the foreign branch or bank), the holder will seek earning dollar-denominated assets—perhaps US sovereign debt. US bond dealers or US banks can exchange sovereign debt for reserve deposits at the Fed. If the net result of these operations is to create excess dollar reserves, there will be downward pressure in the US overnight interbank lending rate. From the analysis above, it will be obvious that this is relieved by central bank open market sales to drain the excess reserves. This “sterilization” is not discretionary if the central bank wishes to maintain a positive overnight rate target. Conversely, if the net impact of international operations is to result in a deficit dollar reserve position, the Fed will engage in an open market purchase to inject reserves and thereby relieve upward pressure that threatens to move the overnight rate above target.

‘Monetization’ of Budget Deficits

By L. Randall Wray [via CFEPS]

It is commonly believed that government faces a budget constraint according to which its spending must be “financed” by taxes, borrowing (bond sales), or “money creation”. Since many modern economies actually prohibit direct “money creation” by the government’s treasury, it is supposed that the last option is possible only through complicity of the central bank—which could buy the government’s bonds, and hence finance deficit spending by “printing money”.

Actually, in a floating rate regime, the government that issues the currency spends by crediting bank accounts. Tax payments result in debits to bank accounts. Deficit spending by government takes the form of net credits to bank accounts. Operationally, the entities receiving net payments from government hold banking system liabilities while banks hold reserves in the form of central bank liabilities (we can ignore leakages from deposits—and reserves—into cash held by the non-bank public as a simple complication that changes nothing of substance). While many economists find the coordinating activities between the central bank and the treasury quite confusing. I want to leave those issues mostly to the side and simply proceed from the logical point that deficit spending by the treasury results in net credits to banking system reserves, and that these fiscal operations can be huge. (See Bell 2000, Bell and Wray 2003, and Wray 2003/4)

If these net credits lead to excess reserve positions, overnight interest rates will be bid down by banks offering the excess in the overnight interbank lending market. Unless the central bank is operating with a zero interest rate target, declining overnight rates trigger open market bond sales to drain excess reserves. Hence, on a day-to-day basis, the central bank intervenes to offset undesired impacts of fiscal policy on reserves when they cause the overnight rate to move away from target. The process operates in reverse if the treasury runs a surplus, which results in net debits of reserves from the banking system and puts upward pressure on overnight rates—relieved by open market purchases. If fiscal policy were biased to run deficits (or surpluses) on a sustained basis, the central bank would run out of bonds to sell (or would accumulate too many bonds, offset on its balance sheet by a treasury deposit exceeding operating limits). Hence, policy is coordinated between the central bank and the treasury to ensure that the treasury will begin to issue new securities as it runs deficits (or retire old issues in the case of a budget surplus). Again, these coordinating activities can be varied and complicated, but they are not important to our analysis here. When all is said and done, a budget deficit that creates excess reserves leads to bond sales by the central bank (open market) and the treasury (new issues) to drain all excess reserves; a budget surplus causes the reverse to take place when the banking system is short of reserves.

Bond sales (or purchases) by the treasury and central bank are, then, ultimately triggered by deviation of reserves from the position desired (or required) by the banking system, which causes the overnight rate to move away from target (if the target is above zero). Bond sales by either the central bank or the treasury are properly seen as part of monetary policy designed to allow the central bank to hit its target. This target is exogenously “administered” by the central bank. Obviously, the central bank sets its target as a result of its belief about the impact of this rate on a range of economic variables that are included in its policy objectives. In other words, setting of this rate “exogenously” does not imply that the central bank is oblivious to economic and political constraints it believes to reign (whether these constraints and relationships actually exist is a different matter).

In conclusion, the notion of a “government budget constraint” only applies ex post, as a statement of an identity that has no significance as an economic constraint. When all is said and done, it is certainly true that any increase of government spending will be matched by an increase of taxes, an increase of high powered money (reserves and cash), and/or an increase of sovereign debt held. But this does not mean that taxes or bonds actually “financed” the government spending. Government might well enact provisions that dictate relations between changes to spending and changes to taxes revenues (a balanced budget, for example); it might require that bonds are issued before deficit spending actually takes place; it might require that the treasury have “money in the bank” (deposits at the central bank) before it can cut a check; and so on. These provisions might constrain government’s ability to spend at the desired level. Belief that these provisions are “right” and “just” and even “necessary” can make them politically popular and difficult to overturn. However, economic analysis shows that they are self-imposed and are not economically necessary—although they may well be politically necessary. From the vantage point of economic analysis, government can spend by crediting accounts in private banks, creating banking system reserves. Any number of operating procedures can be adopted to allow this to occur even in a system in which responsibilities are sharply divided between a central bank and a treasury. For example, in the US, complex procedures have been adopted to ensure that treasury can spend by cutting checks; that treasury checks never “bounce”; that deficit spending by treasury leads to net credits to banking system reserves; and that excess reserves are drained through new issues by treasury and open market sales by the Fed. That this all operates exceedingly smoothly is evidenced by a relatively stable overnight interbank interest rate—even with rather wild fluctuations of the Treasury’s budget positions. If there were significant hitches in these operations, the fed funds rate would be unstable.

Job Guarantee

By L. Randal Wray

A job guarantee program is one in which government promises to make a job available to any qualifying individual who is ready and willing to work. Qualifications required of participants could include age range (i.e. teens), gender, family status (i.e. heads of households), family income (i.e. below poverty line), educational attainment (i.e. high school dropouts), residency (i.e. rural), and so on. The most general program would provide a universal job guarantee, sometimes also called an employer of last resort (ELR) program in which government promises to provide a job to anyone legally entitled to work.

Many job guarantee supporters see employment not only as an economic condition but also as a right. Wray and Forstater (2004) justify the right to work as a fundamental prerequisite for social justice in any society in which income from work is an important determinant of access to resources. Harvey (1989) and Burgess and Mitchell (1998) argue for the right to work on the basis that it is a fundamental human (or natural) right. Such treatments find support in modern legal proclamations such as the United Nations Universal Declaration of Human Rights or the US Employment Act of 1946 and the Full Employment Act of 1978. Amartya Sen (1999) supports the right to work on the basis that the economic and social costs of unemployment are staggering with far-reaching consequences beyond the single dimension of a loss of income (see also Rawls 1971). William Vickrey (2004) identified unemployment with “cruel vandalism”,outlining the social and economic inequities of unemployment and devising strategies for its solution. A key proposition of such arguments is that no capitalist society has ever managed to operate at anything approaching true, full, employment on a consistent basis. Further, the burden of joblessness is borne unequally, concentrated among groups that already face other disadvantages: racial and ethnic minorities, immigrants, younger and older individuals, women, people with disabilities, and those with lower educational attainment. For these reasons, government should and must play a role in providing jobs to achieve social justice.

There are different versions of the job guarantee program. Harvey’s (1989) proposal seeks to provide a public sector job to anyone unable to find work, with the pay approximating a ‘market wage,’ whereby more highly skilled workers would receive higher pay. Argentina’s Jefes program (examined below) targets heads of households only and offers a uniform basic payment for what is essentially half-time work. In Hyman Minsky’s (1965) proposal, developed further at The Center for Full Employment and Price Stability, University of Missouri-Kansas City and independently at The Centre of Full Employment and Equity, University of Newcastle, Australia, the federal government provides funding for a job creation program that offers a uniform hourly wage with a package of benefits. (Wray 1998; Burgess and Mitchell 1998) The program could provide for part-time and seasonal work, as well as for other flexible working conditions as desired by the workers. The package of benefits would be subject to congressional approval, but could include health care, childcare, payment of social security taxes, and usual vacations and sick leave. The wage would also be set by congress and fixed until congress approved a rate increase—much as the minimum wage is currently legislated. The perceived advantage of the uniform basic wage is that it would limit competition with other employers as workers could be attracted out of the ELR program by paying a wage slightly above the program wage.

Proponents of a universal job guarantee program operated by the federal government argue that no other means exists to ensure that everyone who wants to work will be able to obtain a job. Benefits include poverty reduction, amelioration of many social ills associated with chronic unemployment (health problems, spousal abuse and family break-up, drug abuse, crime), and enhanced skills due to training on the job. Forstater (1999) has emphasized how ELR can be used to increase economic flexibility and to enhance the environment. The program would improve working conditions in the private sector as employees would have the option of moving into the ELR program. Hence, private sector employers would have to offer a wage and benefit package and working conditions at least as good as those offered by the ELR program. The informal sector would shrink as workers become integrated into formal employment, gaining access to protection provided by labor laws. There would be some reduction of racial or gender discrimination because unfairly treated workers would have the ELR option, however, ELR by itself cannot end discrimination. Still, it has long been recognized that full employment is an important tool in the fight for equality. (Darity 1999) Forstater (1999) has emphasized how ELR can be used to increase economic flexibility and to improve the environment as projects can be directed to mitigate ecological problems.

Finally, some supporters emphasize that an ELR program with a uniform basic wage also helps to promote economic and price stability. ELR will act as an automatic stabilizer as employment in the program grows in recession and shrinks in economic expansion, counteracting private sector employment fluctuations. The federal government budget will become more counter-cyclical because its spending on the ELR program will likewise grow in recession and fall in expansion. Furthermore, the uniform basic wage will reduce both inflationary pressure in a boom and deflationary pressure in a bust. In a boom, private employers can recruit from the ELR pool of workers, paying a mark-up over the ELR wage. The ELR pool acts like a “reserve army” of the employed, dampening wage pressures as private employment grows. In recession, workers down-sized by private employers can work at the ELR wage, which puts a floor to how low wages and income can go.

Critics argue that a job guarantee would be inflationary, using some version of a Phillips Curve approach according to which lower unemployment necessarily means higher inflation. (Sawyer 2003) Some argue that ELR would reduce the incentive to work, raising private sector costs because of increased shirking, since workers would no longer fear job loss. Workers might be emboldened to ask for greater wage increases. Some argue that an ELR program would be so big that it would be impossible to manage; some fear corruption; others argue that it would be impossible to find useful things for ELR workers to do; still others argue that it would be difficult to discipline ELR workers. It has been argued that a national job guarantee would be too expensive, causing the budget deficit to grow on an unsustainable path; and that higher employment would worsen trade deficits. (Aspromourgous 2000; King 2001; See Mitchell and Wray 2005 for responses to all of these critiques.)

There have been many job creation programs implemented around the world, some of which were narrowly targeted while others were broad-based. The 1930s American New Deal contained several moderately inclusive programs including the Civilian Conservation Corp and the Works Progress Administration. Sweden developed broad based employment programs that virtually guaranteed access to jobs, until government began to retrench in the 1970s. (Ginsburg 1983) In the aftermath of its economic crisis that came with the collapse of its currency board, Argentina created Plan Jefes y Jefas that guaranteed a job for poor heads of households. (Tcherneva and Wray 2005) The program successfully created 2 million new jobs that not only provided employment and income for poor families, but also provided needed services and free goods to poor neighborhoods. More recently, India passed the National Rural Employment Guarantee Act (2005) that commits the government to providing employment in a public works project to any adult living in a rural area. The job must be provided within 15 days of registration, and must provide employment for a minimum of 100 days per year. (Hirway 2006) These real world experiments provide fertile ground for testing the claims on both sides of the job guarantee debate.


Aspromourgos, T. “Is an Employer-of-Last-Resort Policy Sustainable? A Review Article.” Review of Political Economy 12, no. 2 (2000): 141-155.

Burgess, J. and Mitchell, W.F. (1998), ‘Unemployment Human Rights and Full Employment Policy in Australia,’ in M. Jones and P. Kreisler (eds.), Globalization, Human Rights and Civil Society, Sydney, Australia: Prospect Press.

Darity, William Jr. “Who loses from Unemployment.” Journal of Economic Issues, 33, no. 2 (June 1999): 491.

Forstater, Mathew. “Full Employment and Economic Flexibility” Economic and Labour Relations Review, Volume 11, 1999.

Ginsburg, Helen (1983), Full Employment and Public Policy: The United States and Sweden, Lexington, MA: Lexington Books.

Harvey, P. (1989), Securing the Right to Employment: Social Welfare Policy and the Unemployed in the United States, Princeton, NJ: Princeton University Press.

Hirway, Indira (2006), “Enhancing Livelihood Security through the National Employment Guarantee Act: Toward effective implementation of the Act”, The Levy Economics Institute Working Paper No. 437, January,

King, J.E. “The Last Resort? Some Critical Reflections on ELR..” Journal of Economic and Social Policy 5, no. 2 (2001): 72-76.

Minsky, H.P. (1965), ‘The Role of Employment Policy,’ in M.S. Gordon (ed.), Poverty in America, San Francisco, CA: Chandler Publishing Company.

Mitchell, W.F. and Wray, L.R. (2005), ‘In Defense of Employer of Last Resort: a response to Malcolm Sawyer,’ Journal of Economic Issues, 39(1), 235-245.

Rawls, J. (1971), Theory of Justice, Cambridge, MA: Harvard University Press.

Sawyer, M. (2003), ‘Employer of last resort: could it deliver full employment and price stability?,’ Journal of Economic Issues, 37(4), 881-908.

Sen, A. (1999), Development as Freedom, New York, NY: Alfred A. Knopf.

Tcherneva, Pavlina and L. Randall Wray (2005), “Gender and the Job Guarantee: The impact of Argentina’s Jefes program on female heads of poor households”, Center for Full Employment and Price Stability Working Paper No. 50, December,

Vickrey, W.S. (2004), Full Employment and Price Stability, M. Forstater and P.R. Tcherneva (eds.), Cheltenham, UK: Edward Elgar.

Wray, L.R. and Forstater, M. (2004), ‘Full Employment and Economic Justice,’ in D. Champlin and J. Knoedler (eds.), The Institutionalist Tradition in labor Economics, Armonk: NY: M.E. Sharpe.

Wray, L.R. (1998), Understanding Modern Money: the key to full employment and price stability, Cheltenham, UK: Edward Elgar.

Interest Rate Determination

By L. Randall Wray [via CFEPS]

A few years ago, textbooks had traditionally presented monetary policy as a choice between targeting the quantity of money or the interest rate. It was supposed that control of monetary aggregates could be achieved through control over the quantity of reserves, given a relatively stable “money multiplier”. (Brunner 1968; Balbach 1981) This even led to some real world attempts to hit monetary growth targets—particularly in the US and the UK during the early 1980s. However, the results proved to be so dismal that almost all economists have come to the conclusion that at least in practice, it is not possible to hit money targets. (B. Friedman 1988) These real world results appear to have validated the arguments of those like Goodhart (1989) in the UK and Moore (1988) in the US that central banks have no choice but to set an interest rate target and then accommodate the demand for reserves at that target. Hence, if the central bank can indeed hit a reserve target, it does so only through its decision to raise or lower the interest rate to lower or raise the demand for reserves. Thus, the supply of reserves is best thought of as wholly accommodating the demand, but at the central bank’s interest rate target.

Why does the central bank necessarily accommodate the demand for reserves? There are at least four different answers. In the US, banks are required to hold reserves as a ratio against deposits, according to a fairly complex calculation. In the 1980s, the method used was changed from lagged to contemporaneous reserve accounting on the belief that this would tighten central bank control over loan and deposit expansion. As it turns out, however, both methods result in a backward looking reserve requirement: the reserves that must be held today depend to a greater or lesser degree on deposits held in the fairly distant past. As banks cannot go backward in time, there is nothing they can do about historical deposits. Even if a short settlement period is provided to meet reserve requirements, the required portfolio adjustment could be too great—especially when one considers that many bank assets are not liquid. Hence, in practice, the central bank automatically provides an overdraft—the only question is over the “price”, that is, the discount rate charged on reserves. In many nations, such as Canada and Australia, the promise of an overdraft is explicitly given, hence, there can be no question about central bank accommodation.

A second, less satisfying, answer is often given, which is that the central bank must operate as a lender of last resort, meaning that it provides reserves in order to preserve stability of the financial system. The problem with this explanation is that while it is undoubtedly true, it applies to a different time dimension. The central bank accommodates the demand for reserves day-by-day, even hour-by-hour. It would presumably take some time before refusal to accommodate the demand for reserves would be likely to generate the conditions in which bank runs and financial crises begin to occur. Once these occurred, the central bank would surely enter as a lender of last resort, but this is a different matter from the daily “horizontal” accommodation.

The third explanation is that the central bank accommodates reserve demand in order to ensure an orderly payments system. This might be seen as being closely related to the lender of last resort argument, but I think it can be more plausibly applied to the time frame over which accommodation takes place. Par clearing among banks, and more importantly par clearing with the government, requires that banks have access to reserves for clearing. (Note that deposit insurance ultimately makes the government responsible for check clearing, in any event.)

The final argument is that because the demand for reserves is highly inelastic, and because the private sector cannot increase the supply, the overnight interest rate would be highly unstable without central bank accommodation. Hence, relative stability of overnight rates requires “horizontal” accommodation by the central bank. In practice, empirical evidence of relatively stable overnight interest rates over even very short periods of time supports the belief that the central bank is accommodating horizontally.

We can conclude that the overnight rate is exogenously administered by the central bank. Short-term sovereign debt is a very good substitute asset for overnight reserve lending, hence, its interest rate will closely track the overnight interbank rate. Longer-term sovereign rates will depend on expectations of future short term rates, largely determined by expectations of future monetary policy targets. Thus, we can take those to be mostly controlled by the central bank as well, as it could announce targets far into future and thereby affect the spectrum of rates on sovereign debt.

Pumping Liquidity to Fight Deflation

By L. Randall Wray [via CFEPS]

In recent years there have been numerous calls on the central banks to “pump” liquidity into the system to fight deflationary pressures, first in Japan and more recently in the US. (Bernanke 2003) Years ago, Friedman (1969) had joked about helicopters dropping bags of money as a way to increase the money supply. If this practice were adopted, it probably would be an effective means of reversing deflationary pressures—if a sufficient number of bags were dropped. There are two problems with suc h a policy recommendation, however. First, of course, no central bank would even consider such a policy. Second, and more importantly, this would not really be a monetary policy operation, but rather a fiscal policy operation akin to welfare spending. In practice, central banks are more-or- less limited to providing reserves at the discount window or in open market operations. In both cases, the central bank increases its liabilities (reserves)and gains an asset (mostly sovereign debt or private bank liabilities, although the central bank could also buy gold, foreign currencies, and other private assets). Helicopter money drops are quite different because they increase private sector wealth; in contrast central bank operations do not (except to the extent that adoption of a lower interest rate target increases prices of financial assets).

From the previous section, it should be clear that the central bank cannot choose to increase reserves beyond the level desired/required by the banking system if it wishes to maintain positive overnight rates. If private banks have all the reserves they need/want,then they will not borrow more from the central bank. Open market purchases would simply result in excess reserve holdings; banks with excessive reserves would offer them in the overnight market, causing the interbank interest rate to decline. Once the overnight rate reached the bottom of the central bank’s target range, an open market sale would be triggered to drain excess reserves. This would return the overnight rate to the target, and the central bank would find that it had drained an amount of reserves more-or-less equivalent to the reserves it had “pumped” into the system to fight deflation. Fortunately,no central bank with a positive overnight interest rate target would be so foolish as to follow the advice that they ought to “pump liquidity” to fight deflation.

Japan presents a somewhat different case, because it operates with a zero overnight rate target. This is maintained by keeping some excess reserves in the banking system. The Bank of Japan can always add more excess reserves to the system since it is satisfied with a zero rate. However, from the perspective of banks, all that “pumping liquidity” into the system means is that they hold more non-earning reserves and fewer low-earning sovereign bills and bonds. There is no reason to believe that this helps to fight deflation, and Japan’s long experience with zero overnight rates even in the presence of deflation provides empirical evidence that even where “pumping liquidity” is possible, it has no discernible positive impact. (The US had a similar experience with discount rates at 1% during the Great Depression.) And, to repeat, “pumping liquidity” is not even a policy option for any nation that operates with positive overnight rates.

Can the central bank do anything about deflation? As the overnight interest rate is a policy variable, the central bank is free to adjust the target to fight deflation. However, both theory and empirical evidence provide ambiguous advice, at best. It is commonly believed that a lower interest rate target will stimulate private borrowing and spending—although many years of zero rates in Japan with chronic deflation provide counter evidence. There is little empirical evidence in support of the common belief that low rates stimulate investment. This could be for a variety of reasons: the central bank can lower the overnight rate, but the relevant longer-term rates are more difficult to reduce; most evidence suggests that investment is interest- inelastic; and in a downturn, the expected returns to investment fall farther and faster than market interest rates can be brought down.

Evidence is more conclusive regarding effects of low rates on housing and consumer durables; indeed, recent lower mortgage rates in the US have undoubtedly spurred a refinancing boom that fueled spending on home remodeling and consumer purchases.

Still, this effect must run its course once all the potentially refinanceable mortgages are turned-over. Further, it must be remembered that for every payment of interest there is an interest receipt. Lower rates reduce interest income. It is generally assumed that debtors have higher spending propensities than creditors, hence, the net effect is presumed to be positive. As populations age, it is probable that a greater proportion of the “rentier” class is retired and at least somewhat dependent upon interest income. This could reverse those marginal propensities.

More importantly, if national government debt is a large proportion of outstanding debt, and if the government debt to GDP ratio is sufficiently high, the net effect of interest rate reductions could well be deflationary. This is because the reduction of interest income provided by government could reduce private spending more than lower rates stimulated private sector borrowing. In sum, the central bank can lower overnight rate targets to fight deflation, but it is not clear that this will have a significant effect.

Read the full article here.

Let’s Create a Real Job Czar for the Jobless

By L. Randal Wray [via CFEPS]

For an example of what can be done, we can look to the recent experience of Argentina. As everyone knows, Argentina had been the darling of the Washington Consensus and of the IMF structural adjustment approach. It opened its economy, freed its markets, privatized government operations, downsized government, adopted fiscal and monetary austerity, and—importantly—adopted a currency board based on the dollar. It did everything “right”, but the IMF/Washington Consensus approach was fundamentally flawed and put Argentina into an inherently unsustainable situation. When world financial markets began to doubt the nation’s ability to maintain the currency board arrangement, there was a run on the domestic currency. The IMF/Washington Consensus recommended more austerity—which caused unemployment and poverty to explode. Social unrest eventually led to rioting in the streets. Argentina wisely abandoned the dollar, floated the currency, defaulted on some of the debt, and rejected the IMF/Washington Consensus.

The rioting stopped when the government implemented a job creation program designed to provide a social safety net for poor households with children. The program evolved through several stages, with the final phase beginning in April 2002 with the implementation of the Jefes de Hogar (Heads of Household) program that provides a payment of 150 pesos per month to a head of household for a minimum of 4 hours of work daily. Participants work in community services and small construction or maintenance activities, or are directed to training programs (including finishing basic education). The household must contain children under age 18, persons with handicaps, or a pregnant woman. Households are generally limited to one participant in the Jefes program.

The program’s total spending is currently equal to about 1% of GDP, with nearly 2 million participants (about 1.7 million in Jefes and 300,000 in PEL). This is out of a population of only 37 million, or more than 5% of the population. However, it should be noted that the US spends 1% of GDP on social assistance, while France and the UK spend 3-4% of GDP on such programs. Given a national poverty rate above 50%, and with 9.6 million indigents and a child poverty rate approaching 75%, Argentina’s spending is small relative to needs.

According to the World Bank’s reviews, the program has been highly successful in achieving a number of goals. First, program spending is well-targeted to the intended population—poor households with children. Second, the program has provided needed services and small infrastructure projects in poor communities, with most projects successfully completed and operating. Third, the program has increased income of poor households. While there have been some problems associated with implementation and supervision of the program cases involving mismanagement or corruption appear to have been relatively rare. Still, there are reports of favoritism, and home country researchers have made serious critiques of program design. However, surveys show that program participants are overwhelmingly happy with the program.

On November 3, 2003, the Mayor of Istanbul, Turkey, announced his intention to create a similar program to fight the growing unemployment problem in that city. Unemployment imposes severe costs on society—both economic costs in terms of foregone output, but also intolerable social costs in terms of rising crime and disintegrating families and communities. The Mayor recognized that no other social program brings so many benefits as those that accompany a job creation program. It will be interesting to follow the developments in Turkey as a “heads of household” job creation program is implemented.

Any sovereign nation that issues its own floating rate currency can “afford” full employment. (Indeed, one might rightly question whether nations can truly “afford” unemployment.) This is because such a government spends by crediting bank accounts, and taxes by debiting them. There can be no question about the solvency of such a nation—even if a deficit results. Japan’s sovereign deficit reaches 8% of GDP; Turkey’s sovereign deficit exceeds 25% of GDP. But so long as these nations maintain floating exchange rates, they can always spend and “service” debt by crediting bank accounts. Hence, if there are unemployed resources, including labor, the sovereign government can put them to work.

The big fear, of course, is that full employment will necessarily generate inflation. If full employment is achieved by “pump priming”, that is, by trying to raise aggregate demand through tax cuts or general government spending, it can in some circumstances generate inflation. However, if full employment is generated through a job creation program designed like Argentina’s Jefes program, it cannot be inflationary. This is because such a program sets a fixed basic wage and then hires all who are ready and willing to work at that wage. This operates like a commodities buffer stock program that sets a floor price—it prevents prices from falling through the floor, but does not push up prices. If the private sector expands, workers are hired out of the labor “buffer stock”; when the private sector down-sizes, workers flow into the “buffer stock”. Hence, the Jefes-type program also provides a strong counter-cyclical stabilizing force. It should be noted that government spending on the program will also be strongly counter-cyclical.

A real Job Czar would be put in charge of a job creation program that would achieve full employment without generating inflationary pressures. Once full employment is achieved, then the pressures to use protectionist measures to fight imports will be diminished. Further, the wage-and-price stabilizing features of a buffer stock approach would reduce reliance on fiscal and monetary austerity to fight inflation.

The Point of No Return

Our own Bill Black on bank’s equity and nonperforming loans. Black argued on the Bloomberg article that

“While 5 percent can be “fatal” for home lenders, commercial real estate lenders may be able to withstand higher rates…Commercial loans carry higher interest rates because they’re riskier.”

“At the 5 percent range, you’re probably hurting,” said Black, an associate professor of economics and law at the University of Missouri-Kansas City. “Once it gets around 10 percent, you’re likely toast.”

Click here to read the whole article.

Keynes’s Relevance and Krugman’s Economics

By Felipe C. Rezende

It is true that Krugman considered himself a saltwater economist. But he is closer to Post Keynesian economics than he imagined. In his post “The greatness of Keynes …” he wrote: “The key to Keynes’s contribution was his realization that liquidity preference — the desire of individuals to hold liquid monetary assets — can lead to situations in which effective demand isn’t enough to employ all the economy’s resources.”

That is precisely what Post Keynesian economists have been arguing since Keynes’s revolution. Given uncertainty in the Knightian sense, it is the existence of money and the organization of production around money that cause unemployment of labor and productive resources. This is so because money is special in a capitalist economy, it affects economic decisions both in the short-run and in the long-run. According to Keynes (1936), money has special properties such as almost zero elasticity of production, almost zero elasticity of substitution and low carrying costs. See Krugman’s introduction to the new edition of Keynes’s General Theory, Wray (2007) and Davidson (2006) for further details.

As Wray (2007) put it:

In my view, the central proposition of the General Theory can be simply stated as follows: Entrepreneurs produce what they expect to sell, and there is no reason to presume that the sum of these production decisions is consistent with the full-employment level of output, either in the short run or in the long run. Moreover, this proposition holds regardless of market structure—even where competition is perfect and wages are flexible. It holds even if expectations are always fulfilled, and in a stable economic environment. In other words, Keynes did not rely on sticky wages, monopoly power, disappointed expectations, or economic instability to explain unemployment. While each of these conditions could certainly make matters worse, he wanted to explain the possibility of equilibrium with unemployment. (Wray 2007:3)

Krugman also refuted the New Keynesian claim that involuntary unemployment exists due to price and wage stickiness. According to Krugman, “there’s no reason to think that lower wages for all workers — as opposed to lower wages for a particular group of workers — would lead to higher employment.” Keynes explained why flexible wages do not assure full employment and, as Krugman noted, Keynes wrote a whole chapter entitled “changes in money wages” to explain that the cause of unemployment is not due to wages and prices rigidities as New Keynesians wrongly claim. (See for instance here, here, and here)

Wray also pointed out that

“Keynes had addressed stability issues when he argued that if wages were flexible,then market forces set off by unemployment would move the economy further from full employment due to effects on aggregate demand, profits, and expectations. This is why he argued that one condition for stability is a degree of wage stickiness in terms of money. (Incredibly, this argument has been misinterpreted to mean that sticky wages cause unemployment—a point almost directly opposite to Keynes’s conclusion.)” (Wray, 2007:6)

In fact, Krugman observed that flexible wages and prices can make things worse rather than better even if one includes real balance effects. Wage and price flexibility are destabilizing forces which also trigger a Fisher-type debt deflation process.

On Say’s Law, Krugman argued (here and here) that

“If there was one essential element in the work of John Maynard Keynes, it was the demolition of Say’s Law — the assertion that supply necessarily creates demand. Keynes showed that the fact that spending equals income, or equivalently that saving equals investment, does not imply that there’s always enough spending to fully employ the economy’s resources, that there’s always enough investment to make use of the saving the economy would have had it it were at full employment.”

“The understanding that Say’s Law doesn’t work in the short run — that a fall in consumption doesn’t automatically translate into a rise in investment, but can lead to a fall in output and employment instead — is the central insight of Keynes’s General Theory.”

On the Loanable funds model of the interest rate he pointed out (here and here) that:

“One of the key insights in Keynes’s General Theory — actually, THE key insight— was that the loanable funds theory of the interest rate was incomplete. Loanable funds says that the interest rate is determined by the supply of and demand for saving; Keynes pointed out that the supply of saving is endogenous, depending on the level of output. He even illustrated the point with a remarkably ugly diagram.”

Krugman also argued that “saving and investment depend on the level of GDP. Suppose GDP rises; some of this increase in income will be saved, pushing the savings schedule to the right. There may also be a rise in investment demand, but ordinarily we’d expect the savings rise to be larger, so that the interest rate falls”

It means that as income expands, for instance due to government spending, there is a downward pressure on the interest rate. This is the crowding in effect. As he noted government spending “does NOT crowd out private spending”

He then pointed out that what is moving interest rates “it is not deficits. It’s the economy.”

He also has been using a framework that Post Keynesian economists have been using for a long time. See for instance here, here, here, and here. Check also Krugman’s posts here and here.

Krugman, clearly following Minsky (1986), concluded that “government deficits, mainly the result of automatic stabilizers rather than discretionary policy, are the only thing that has saved us from a second Great Depression.” This is precisely the point that Minsky made in the first chapters of his book “Stabilizing an Unstable Economy”.

The above statements are precisely what Post Keynesian Economists have been arguing for years. They completely refute the basis of the mainstream economics which guide policy both in the U.S. and in the rest of the world. However, there is definitely a convergence of economic thought between Paul Krugman’s economics, Post Keynesian economists and the specialized media (see here and here). Keynes’s and Minsky‘s economics provide the basis for the next generation of economic models.

As Greenspan admitted before the members of the Congressional committee :”I found a flaw in the model that I perceive is the critical functioning structure that defines how the world works. That’s precisely the reason I was shocked….I still do not fully understand why it happened, and obviously to the extent that I figure it happened and why, I shall change my views”.

Shall they?