Romney is shocked to learn how the Fed creates money

By William K. Black

The following passage from the transcript of Governor Romney’s secretly videotaped May 17, 2012 fundraiser has not received any attention in the media.  It is a fascinating passage, however, from the perspective of Modern Monetary Theory (MMT).  Here is the full context of the passage:

MALE VOICE: One comment, Governor.


MALE VOICE: The debates are gonna be coming and I hope at the right moment you can turn to President Obama, look at the American people and say, “If you vote to reelect President Obama you’re voting to bankrupt the United States.” I hope you keep that in your quiver, because that’s what’s gonna happen. And I think it’s gonna be very effective. In some (UNINTEL).

MITT ROMNEY: Yeah. Yeah. It’s– it’s interesting. There’s– the former head of– Goldman Sachs, John Whitehead– was also the former head of the New York Federal Reserve and– and I met with him and he said, “As soon as the Fed stops buying all the debt that we’re issuing–” which they’ve been doing. The Feds buy like 3/4 of the debt that America issues.

He said, “Once– once that over– that’s over,” he said, “we’re gonna have a failed Treasury option. Interest rates are gonna have to go up. You know, we’re– we’re– we’re living in this borrowed– fantasy world where– where the government keeps on borrowing money.” You know, we– we borrow this extra trillion a year. We wonder, “Well, who’s– who’s loaning against the Treasury? The Chinese aren’t loaning to us anymore. The Russians aren’t loaning it to us anymore. So who’s giving us a trillion?”

And the answer is we’re just making it up. The Federal Reserve is– is just taking it and saying, “Here, we’re– we’re giving–” it’s just made up money. And– and this– this does not augur well– for– for our economic future. No. I mean I– you know, some of these things are– are complex enough it’s not easy for people to understand, but your– your point of saying bankruptcy usually concentrates the money. Yeah, George?

There is one important error in the transcription of Romney’s remarks, which I confirmed by listening to the videotape.  Romney quotes John Whitehead as saying “we’re gonna have a failed Treasury option.”  That phrase does not make any sense.  What Romney actually stated when he was quoting Whitehead was “we’re gonna have a failed Treasury auction.”  Romney was endorsing Whitehead’s claim that investors will stop buying Treasury bonds.

Let’s begin with who Whitehead is.  He was in fact the head of Goldman Sachs before joining the Reagan administration as a senior official.  He was also the Chairman of the Board of the Federal Reserve Bank of New York (FRBNY).  Note that Romney considers him to have been the “head” of the FRBNY.  That demonstrates why the regional Fed banks should have no governmental function – the banking interests run the regional Fed banks if Romney is correct.  The regional Fed banks are the primary examiners and supervisors of the Federal Reserve System – an obvious and untenable conflict of interest.

Whitehead is also an old-fashioned “liquidator” – a not very modern incarnation of President Hoover’s Treasury Secretary, Andrew Mellon.  Paul Krugman cites the key passage in Mellon’s rant.

Treasury secretary Andrew Mellon, according to Herbert Hoover:

Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.

Whitehead believes that the budget deficit and Social Security, Medicare, and Medicaid are the great threats and that our nation could be forced to default on its debts.  Hyper-inflation is just around the corner.  He wants a firm regime of austerity.  That should pose two insurmountable problems for Romney.  First, Romney is on record stating that austerity would “throw us into recession or depression.”

Second, Whitehead says that what the nation desperately needs to avoid a debt collapse is elected officials who will champion and vote for higher taxes.

Romney is promising very large tax cuts (supposedly offset by ending a handful of tax deductions used primarily by the wealthy – a mathematical impossibility).  Naturally, Romney did not tell his wealthy donors that Whitehead was warning that America’s survival depended on them paying much higher taxes.  Romney did not tell his donors or voters that he rejects both of Whitehead’s primary policy recommendations despite the fact that Whitehead warns that rejection of his policies will lead to an inevitable, catastrophic U.S. economic collapse.

With the Whitehead preliminaries out of the way we can now discuss Romney’s unintentional endorsement of MMT.  Let us assume for purposes of analysis that Whitehead is correct that “The Feds buy like 3/4 of the debt that America issues.”  Whitehead and Romney treat this asserted fact as proof that the U.S. is about to suffer an inability to auction debt.  They imply that the Fed is buying U.S. debt issuances because the rest of the world has ceased doing so.  They imply that the asserted Fed purchases of “3/4” of U.S. debt issuances must be a last gasp measure that can only briefly delay an inevitable default.   Whitehead and Romney have made public these asserted facts and analytics for many months.  The purported Fed last gap strategy for delaying the inevitable bond default is so crude and so large that Whitehead and Romney believe it must be on the verge of collapse.  The U.S. bond markets – the broadest, most efficient, and most sophisticated in the world must have reacted to this “proof” of an inevitable, near-term default by pricing this risk of inevitable, catastrophic default.  After all, the presumed one-quarter of U.S. debt issuances still purchased by investors other than the Fed represents a massive amount of money and those investors would suffer catastrophic losses in the event of default so they have every financial incentive to demand a premium interest rate to compensate for that default risk.

We can examine Whitehead and Romney’s analytics by observing the surging interest rates on U.S. debt issuances, which should be extremely high given Whitehead’s claims about the near inevitability of a U.S. default.  It was with the greatest trepidation that I just looked up that raging rate.  The two-year U.S. note has reached the perilous yield of 0.274 and the 10-year note has skyrocketed to 1.658.  Clearly, professional investors believe that we have already passed the precipice and have only delayed briefly our plunge into the bottomless pit of default by a fingernail grip on the lip of that pit.

Several other important points about MMT also arise from Whitehead’s and Romney’s claims about money.  First, the whole “the U.S. deficit is a disaster because we owe a debt to China” blows up.  We’re now supposed to panic because we “owe” “ourselves” an “extra trillion dollars.”

Second, if the Fed is buying our debt, then it is not in fact debt.  It is simply an accounting game.  If Division A of Corporation Z “sells” bonds to Division B of Corporation Z there is no change in Corporation Z’s debt levels.  That fact should have led Whitehead and Romney to ask why Treasury was bothering to “sell” U.S. debt to the Fed.  The Fed’s surplus goes to the Treasury, so the Whitehead and Romney theory cannot be that Treasury has “run out of money” and the Fed has a trillion dollars in “extra” “money” that it is lending to the Treasury as a last gap effort to delay the inevitable default on U.S. bonds.  The Fed could simply send its hypothetical $1 trillion in “extra” “money” to the Treasury as a component of its annual “distribution” to the Treasury.

There is also the small matter that on any accounting basis the Fed does not have remotely a trillion dollars of “capital.” If Whitehead and Romney think that the Fed is “buying” a trillion dollars in Treasury bonds how do they think the Fed got the money to buy the bonds?  It is in attempting to answer this question that Whitehead and Romney began to stumble unintentionally into how money is actually often created by a nation with a sovereign currency.  Their problem is that they cannot believe the truth.  Indeed, they boggle at the very concept.  You can see it in the transcript of Romney’s meeting with his donors.

And the answer is we’re just making it up. The Federal Reserve is– is just taking it and saying, “Here, we’re– we’re giving–” it’s just made up money. And– and this– this does not augur well– for– for our economic future.

Yes, the Federal Reserve “just made up money” by making keystrokes on a computer.  Romney thinks this is unheard of and unimaginable.  In reality, it is the day-to-day reality in central banks around the world.  Whitehead has to know this.  None of this means that the world is about to end; it in fact does “augur well … for our economic future.”  Banks created money long before computers were invented.  Sovereign, freely-floating currencies are the norm in much of the world because they have proven superior.  The gold standard was a superb device for producing periodic depressions.

Note that financial markets understand these facts.  That is why they price the credit (as opposed to interest rate) risk of purchasing U.S. debt as essentially zero.  They price the interest rate risk as minimal.  What alternative would Romney prefer?  He told Time magazine in an interview showing the date of May 23, 2012 that austerity would “throw us into recession or depression.  So I’m not going to do that, of course.”

Romney’s secretly videotaped meeting with his donors occurred on May 17, 2012 – six days before the interview with Time in which he explained that austerity would cause a disaster and he would not embrace austerity by trying to balance the budget during a recovery from the Great Recession.  Recall that the question from the unidentified donor that sparked the entire discussion was the donor urging Romney to attack Obama because he had not embraced austerity and tried to balance the budget in response to the Great Recession.  If Romney were honest, he would have explained to the donor what he explained contemporaneously to Time – Obama was doing the right thing and Romney would follow the same strategy.  Of course, that kind of honesty would have terminated Romney’s campaign.

Similarly, if Romney really believed Whitehead’s analysis he should have told his donors that the situation was hopeless, which was Whitehead’s conclusion:  “I don’t see a solution here.”

Whitehead claimed that the survival of the nation was dependent on substantially increasing taxes in order to reduce dramatically the budget deficit – yet Romney knew that such a program of austerity would be insane because it would “throw us into recession or depression.”  Throwing us into recession or depression would cause the budget deficit to grow enormously.  If Whitehead were right, whatever policy we followed, including Whitehead’s proposed policies, was sure to produce a disaster.  A stimulus program, if appropriately large and well-structured, could speed recovery and eventually reduce the deficit.  The irony is that MMT explains why Whitehead’s analysis was wrong, there are viable alternatives employing stimulus that will speed recovery and will not cause a bond default or even materially higher interest rates.  Unfortunately, Romney’s economic advisors have never explained how money works to their candidate.  The result is that Romney cannot tell the truth about either our economic problems or their solutions.

18 Responses to Romney is shocked to learn how the Fed creates money

  1. wow! how refreshing to read something which takes a subject, and methodically analyses it in a logical fashion!
    why is this so hard for most of humanity?

    thanks for a brilliant discussion on this important subject.

  2. While Dr. Black is correct that neither Romney, his supporter, nor the former head of GS (and Chair at FRBNY) really know how money is created , for the many reasons given, his explanation here leaves a great gap of understanding in how the currency-issuing ‘government’ is capable of creating money – in reality.
    Mr. Whitehead was at all those times Chair and CEO of private corporations.
    The interactions of private corporations with public debt should be much more of an arms-length transaction.
    It should not be allowed that a private corporation can create any form of national currency-unit denominated ‘money-thing’ with which it purchases public debt.
    That is, of course, a statement in favor of a publicly-owned and controlled central bank.
    And it begs one tenet of the MMT construct: that the government itself, and not the private CB, can and should “print” the money without issuing any debt, if it is necessary to advance the public good.
    And it is thus necessary at this moment, by any measure.
    While Functional Finance includes the CB and Treasury as embodying the “public” sector, the fact is that Mr. Whitehead never got a government check while head of the FRBNY, but he did while representing SOS in the Reagan administration, casting just a little doubt that the two (FRBNY and Treasury) are in fact divisions of the same corporation.
    What the economy clearly needs is money without debt.
    A la Abba Lerner.
    A la this IMF Research Paper.

    For the Money System Common

  3. If you follow the link to the video, the passage quoted begins at 09:30 in the 1st video
    .. if anyone cares.

  4. I am sure Romney has no clue about the mechanisms of Fed Open Market operations or the nature of the Feds balance sheet but then who does? Now I, a nobody, knows some but I claim no special advantage by knowing how the Fed actually works. That is because no matter what America does fiscally and the Fed does monetarily will save us for we are damned if we do and damned if we don’t. Borrow and print more, or not , I mean.

    Mitt is intellectually, morally and ethically confused by the austerity or growth dilemma with good reason. He senses, like everyone, that more debt is needed for GDP growth but also senses that debt cannot grow forever. I will now note however he nor most think of this as a dilemma. A true dilemma is an insoluble problem but Americans don’t believe in dilemmas, there is always a solution in our minds. So he is for and against more spending and for and against more borrowing. It makes no sense but it makes perfect sense. Perfect sense to the degree that failure of the system is beyond his comprehension. From one minute to the next he will support austerity and more borrowing. Finessing it when pressed by proposing more borrowing now and austerity later, always later. Then, somehow, all will be well.

    Mitt is hardly alone. MMT is in itself a cheap way to wiggle out of the dilemma. Proposing money that has absolutely no store of value function anymore and is merely a medium of exchange. Such ‘money’ will not stand for long and don’t get me wrong I am no gold bug. Well don’t take my word for it, just keep it in mind.

    • rapier: if the problem is neither an environmental and/or a technological problem, then it is no “real” problem at all. Apparently the entire idea of our social world being socially constructed is beyond your grasp.

      • It’s the socially constructed games that matter the most. People need laws, contracts, property, bookkeeping, debt, money, corporations and other command hierarchies, and carefully controlled competition for both real and socially-constructed resources (e.g. a CEO position). It’s ultimately driven by personal needs and instinctual desires for sex, love, power, etc. If the games by which all of civilization is organized begin to falter and collapse, then Hell on Earth will be unleashed. Remember, 65% of people will raise the voltage to a lethal level in a lab setting. What will they do if the social order collapses? I think that’s why bits of paper and old rules are given an almost mystical, quasi-religious deference. We’re treading on thin ice here.

        • that’s really clever buddy, but the point was that there is no socially constructed dilemma we can’t get out of, and your statement: “If the games by which all of civilization is organized begin to falter and collapse, then Hell on Earth will be unleashed” has nothing to do with MMT. If you want to play a game of sudoku (ie bringing up a hypothetical and applying it to anything you want) then go do it with yourself, and not here.

    • rapier, there is no “wiggling” going on in MMT. MMT just takes the concept of fiat currency and describes it clearly with all its implications and consequences. The idea that printing money removes its function as a store of value is false. Money is a store of value because we agree that it is. What you are indirectly implying is that inflation will be the result of money printing and thus the value it stores will decrease. This is only true if certain circumstances exist. The idea that inflation will magically occur when money is printed is clearly false as we have been printing like crazy for many years now and inflation has been easily manageable. Inflation is not a bogeyman to be feared and trotted out every time some reactionary wants to cut social programs. Inflation is a real result of an imbalance between the quantity of money that is available to purchase goods, and the quantity of goods available to be purchased with that money. Its a supply and demand problem, not a money printing problem. The fact that our economy is so terribly under-utilized currently, with massive labor capacity and production capacity going to waste, and enough food and other goods available with no shortage in site, means we could print money for a very long time with no inflation whatsoever. And hyperinflation is a total impossibility in our current system. In fact, hyperinflation, the real bogeyman we irrationally fear, is a very rare phenomenon that is encountered only when a severe and generally artificial supply shock occurs in connection with other equally rare concurrent phenomena. The US government could print $10 trillion tomorrow and provide the most massive stimulus in history, aiming the money at creating an entirely green energy economy, rebuilding our electric grid, our crumbling bridges and roads, build more schools, hire more teachers, build hospitals and train doctors, putting every single unemployed American to work doing productive jobs and living wages, and if managed properly inflation would be non-existant. I’m blowing your mind, I know, but such is the reality of a fiat currency in a hugely developed nation such as the USA. The moral case for such action is obvious. The only reason we don’t is that it will once and for all show the world that we don’t need super wealthy plutocrats to trickle or urinate money down upon our grateful and lazy heads. They are not supermen, just greedy jerks who live for money. I know, I rock your world.

      • The Fed has not been printing money like mad for years. It had $800 billion in assets in early 2008 and then it started printing like mad so it’s balance sheet is now $2.56 trillion. I am making no claim about inflation. Not in any conventional conception of inflation anyway. That printing has only been enough to prevent some deflation, some sectors defended better than others. Residential real estate now so much. Stock have done pretty well, Treasury paper has however inflated strongly. It is at record highs after all.

        One might say MTM rationally describes the current monetary system which dates from the end of Bretton Woods in 71. Would you care to defend the economy of the US vis a vis ordinary citizens on any basis that can be considered Progressive since then? That is the moment when America became obsessed with monetary matters and everyone sought to gain by the inflation of assets prices above all things. When anything that hinted at the common good became anathema to our elites and a large plurality of citizens. Where everyone became obsessed with money. Something impossible to grasp for those who have only lived in this age. The obsession with money and stuff which is leading to ecological dislocation on a large scale is intrinsically destructive. Who here is willing to say our problem is not enough demand for stuff? It is sad that liberals and progressives are now the biggest cheerleaders of all for maintaining our consumer culture. I have to throw in that oil and carbon energy is the mother of our economic existence and that it can only be more expensive as time goes on if current levels of GDP are to be maintained but that expense itself is a block on more demand for stuff. The massive growth of oil consumption one of the promises of a world without limits that came with the age of Reagan, along with the explosion of debt.

        MTM rationally describes an irrational system. Then too it ignores the role of debt which is more important although it is impossible I suppose to separate debt from money. Monetary things will not save us nor will more money. Let us be clear too that there is not a lack of money so much as it’s maldistribution. But the current monetary system is based upon maldistribution for the money creation and debt creation is overwhelmingly centered in the financial sphere. MTM guarantees this will continue.

        I’ll quit.

        Read 30 or 40 Credit Bubble Bulletins, the narrative part which leads recent columns but was at the end of former ones to start to get a grasp of my alt take on things.

        • Rapier:MMT rationally describes an irrational system. There are a lot of stoopid addons, but the basic system, nonconvertible floating fiat money since 1971 is very rational. In fact it is the only system that has ever existed. What happened was merely that barbarous relics of ancient superstitions were removed.
          To practically all intents and purposes, it was the system of the USA from 1933-1946. MMT recommendations amount to a streamlined, improved version of what the USA had in 1942 say. Was there a more Progressive period in US history? Was there one with more & fairer economic growth?

          Then too it ignores the role of debt which is more important although it is impossible I suppose to separate debt from money. Monetary things will not save us nor will more money. Let us be clear too that there is not a lack of money so much as it’s maldistribution. But the current monetary system is based upon maldistribution for the money creation and debt creation is overwhelmingly centered in the financial sphere. MTM guarantees this will continue..Aaaaargh. MMT doesn’t ignore debt. It is obsessed by debt. It’s centered on debt. Money IS debt, says MMT & any sort of sound economics.” Not a lack of money so much as its maldistribution.” Exactly what MMT says – right now there IS a lack of money – low aggregate demand – but THE policy prescription of MMT, the Job Guarantee directly addresses maldistribution.

  5. Yankee Frank: Great comment. I think there is always one thing that gets left out: the expense of war and the ongoing energy crisis. Ongoing now for at least 50 years. That might well be the crossroads of caution and spending. How many of us would actually vote to go to war? I don’t even want jury duty.

  6. John O'Connell

    “a handful of tax deductions used primarily by the wealthy – a mathematical impossibility)”

    You guys are smarter than that. Romney’s plan limits total itemized deductions, including those used by all classes who itemize. The limit is so high that only a minority of taxpayers is affected by it. A middle class taxpayer can still deduct all of his $10,000 mortgage interest and $5,000 property tax, even though his overall itemized deduction is limted to $17,000. The 1%-er can deduct only $17,000 of his $50,000 mortgage interest and $30,000 property tax. That’s how the limit affects only the “rich”, while limiting deductions used by all. Deductions used only by the rich are indeed few and far between, and could not offset enough of the tax rate reductions to make the plan revenue neutral, but that is not a description of the plan Romney says he wants to do.

  7. Andrei Sakarov

    Clearly Romney MUST feign incredulity with respect to money creation in order to give credence to calls for austerity and to avoid acknowledging that he has been a prime beneficiary of our privileged access debt based monetary oligopoly. I am somewhat surprised to say the least that an intelligent man such as yourself would accept an obviously disingenuous self serving claim of ignorance by a man of Romney’s experience at face value.

    There is absolutely no way that Romney is unaware of the mechanics of money creation at all levels and you can rest assured that if selected POTUS Mitt will take full advantage.

    Additionally it is worth noting that the Federal Reserves charter is to be renewed and signed off on by whomever is POTUS in 2013 yet after all that has transpired over the last 12 years there is no real public discourse of its merit and little or nothing on this topic in the Pres. debates. How is that possible?

  8. roger erickson

    “ECCLES: We [the Federal Reserve] created it.
    PATMAN: Out of what?
    ECCLES: Out of the right to issue credit money.
    PATMAN: And there is nothing behind it, is there, except our government’s credit?
    ECCLES: That is what our money system is.”
    – Federal Reserve Board Governor Marriner Eccles in testimony before the House Committee on Banking and Currency in 1941, during questioning by Congressman Wright Patman about how the Fed got the money to purchase two billion dollars worth of government bonds in 1933.

    Can someone ask Romney if he’s ever heard of Marriner Eccles?

    • Benedict@Large

      Except that there is something behind it. The government backs the currency by providing the holder with the right to extinguish federal tax liabilities up to the face value of the currency held.

      Credit money is actually an unused federal tax credit.

      It’s kind of fun to phase it this way when people try to used the word “unsustainable”. Exactly how, I respond, are federal tax credits unsustainable? The entire idea is nonsense.

  9. Benedict@Large

    Second, if the Fed is buying our debt, then it is not in fact debt. It is simply an accounting game.

    Actually, it doesn’t matter whether or not the Fed is buying our debt. It’s still an accounting game because the entire transaction is superfluous. It doesn’t increase liabilities, and so it’s not even really borrowing; merely something that sort of looks like borrowing to the counterparty.

    Consider the sale of a $10,000 bond. [Think this thru in a double-entry format.] The purchaser hands over $10,000, which simply offsets the liability created when that $10,000 was created. That $10,000 (and its associated liability) now no longer exists. The government in trade now hands over a $10,000 bond, thus replacing the $10,000 liability it just extinguished. In essence, a “green liability” (currency/reserves) of $10,000 was swapped for a “blue liability” (bond) of $10,000, with the federal liability both before and after the “borrowing” transaction being the same amount ($10,000).

    Now, an additional liability of another $10,000 is eventually incurred, but only when this supposedly borrowed money is spent, except that the money wasn’t borrowed at all, and so this spending (and the incurrance of the additional $10,000 liability) is actually the issuance of new money, which is when ALL federal liabilities are incurred. It is only AFTER the $10,000 is spent that the federal liability rises to $20,000, half of it green, and half of it blue.

    Finally, go back and repeat this process, only this time, completely eliminate the “borrowing” transaction. You start at the same $10,000 (green) liability position, and then you simply spend another $10,000 into existence, increasing liabilities to $20,000, only this time the liabilities are all green. This doesn’t matter; it’s still the same ending liability. The borrowing transaction doesn’t change that at all, and so it is superfluous.

    Currency is a bond that doesn’t pay interest. Bonds are currency that does pay interest.

    • roger erickson

      “Currency is a bond that doesn’t pay interest. Bonds are currency that does pay interest.”

      And both are simply liquidity notation. (ESPECIALLY so in a fiat, floating-Fx, non-convertible currency model.)

      Bottom line is that accountants deserve some pay, but not too much. Bankers, and management in general, are grossly overpaid for their caretaker services.

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