Government Spending and the Government’s Money

By Dan Kervick

Warren Mosler has made an interesting proposal concerning how we should think about Treasury securities:

… with today’s floating fx/non convertible currency tsy secs (held outside of govt) are logically additions to ‘base money’, as the notion of a reduction of govt reserves (again, gold, fx, etc) is inapplicable to non convertible currency.

That is, with today’s floating fx, I define base money as currency in circulation + $ balances in Fed accounts. And $ balances in Fed accounts include both member bank ‘reserve accounts’ and ‘securities accounts’ (tsy secs). And to me, it’s also not wrong to include any other govt guaranteed debt as well, including agency paper, etc.

That is, with floating fx, ‘base money’ can logically be defined as the total net financial assets of the non govt sectors.

Mosler continues:

And deficit reduction is the reduction in the addition of base money to the economy, with the predictable slowing effects as observed.

The point of this post is to ‘reframe’ govt deficit spending away from ‘going into debt’ as it would be with fixed fx, to ‘adding to base money’ as is the case with floating fx where net govt spending increase the economy’s holdings of govt liabilities, aka ‘tax credits’.

So Warren is proposing that we extend the definition of the monetary base to include not only holdings of currency and reserve deposit balances, but also include Treasury securities and government-sponsored agency debt.  Let’s use the term “MM” to stand for the types of financial assets just described – short for “Mosler Money.”

There is certainly much to be said in favor of the proposal.  For one thing, if we think about financial assets in terms of their associated risks, we can note that the new capital rule approved by government regulators and scheduled to go into effect in January, 2015 – described here in the Community Banking Guide jointly issued by the Fed and FDIC – assigns a zero risk weight to both cash and “direct and unconditional claims on the U.S. government, its agencies, and the Federal Reserve.” So the regulators regard dollars and treasuries as equally risk-free.

On the other hand, one might raise questions on the score of liquidity and maturity.  Dollars are non-interest bearing, non-maturing liabilities of the government, while treasuries mature and earn interest.  They don’t function in exactly the same way.  Also, its not clear that all treasuries are quite as liquid as dollars.  Treasury bonds and notes are usually thought to be less liquid than T-bills.

But leaving these issues aside, I have one minor quibble about Mosler’s proposal, and then a few follow-on questions to pose.

The quibble is not about Warren’s proposal to count MM as the monetary base, but the further claim that we can go further and identify MM with the net financial assets of the non-government sector, as Mosler suggests in the third paragraph above.  Whether one agrees or disagrees that Treasury debt is sufficiently “money-like” to classify it as part of the monetary base, the conceptual motive behind the Mosler’s monetary base proposal seems clear enough.  But the non-government sector holdings of US government liabilities are only the asset side of the non-government economy’s consolidated balance sheet.  The net financial assets of the non-government sector should be equal to the non-government’s total holdings of government-issued financial assets minus the non-government sector’s total financial liabilities to the government.  Federal Reserve notes, reserve balances and treasuries are only the asset side of that equation. On the other side would be such things as outstanding tax obligations to the US Treasury, all principle and interest owed to the Fed and all other accounts payable owed to the Treasury or other federal agencies: in other words the net financial assets of the non-government sector are equal to MM minus the net debt of the non-government sector to the federal government.

Notice that it is possible for the Fed to increase MM without increasing the private sector’s net financial assets.  If the Fed buys a mortgage backed security from a bank, the bank’s financial asset holdings will be relatively unaffected, as it trades the security for an amount of cash of roughly equivalent value.  But MM will be increased, since the mortgage backed security is a financial asset, but not part of MM.

Now for my follow-on questions:

If we adopt Mosler’s extended view of the monetary base as MM, then it becomes an even more perplexing question as to why we maintain the current division of responsibilities for issuing different classes of government liabilities.  Why is the central bank the only part of the government currently permitted to issue non-maturing and non-interest-bearing liabilities (i.e. dollars), while the part of the government that is responsible for conducting fiscal policy is responsible for issuing most of the interest-bearing and maturing liabilities (i.e. treasuries)?  If these are just two different forms of money, then why does one agency emit one form and the other emit the second?   And why do we let that division lead to so much political conflict and wrangling?

To take a stylized example, suppose the government buys a fleet of 500 cars from auto manufacturer Universal Motors.  Suppose the negotiated price of the fleet is $10 million, and that the automobiles cost Universal Motors $9.5 million to produce, store and deliver to the government.   The Treasury issues T-bills with a face value of $10.1 million and sells them to the primary dealers for $10 million (where many will then be re-sold in secondary markets).   So in other words, the bills yield 1% interest.  The Treasury then purchases the cars from Universal Motors by cutting a check for $10 million.  What is the balance sheet outcome for the two private sector parties involved here?

Dealers: + $100,000

The dealers now have $10 million fewer dollars, but T-bills worth $10.1 million.

Universal Motors +$500,000

They have sunk $9.5 million of costs into production and delivery of automobiles, but receive $10 million from the government.

But what in the world do these dealers have to do with this transaction, and what public policy purpose was served by the government making a $100,000 addition to the financial net worth of dealers in the financial sector?  It seems like an arbitrary and irrelevant side-deal.  Suppose instead the Treasury were permitted to emit dollars the same way that the Fed is allowed to emit dollars.  Suppose the treasurer then says: “We need to buy some cars.  So we’re going to create $10.1 million dollars, and give $10 million to Universal Motors in exchange for some cars and $100,000 to some banks for free”  What sense could be made of that statement?

Now here is part of a plausible answer: the government gives free money to the financial sector to accommodate the growth in financial sector liabilities to the non-banking sector of households and firms.  Just as you and I can earn interest on our deposits if we switch them from checking to savings accounts or CDs, so the banks earn interest on their money by shifting some of it from from reserve accounts at the Fed to government securities.  And this continual injection of interest income from the government into the banks is needed to accommodate the continual injection of interest income from the banks into the private sector.  The Fed, in coordination with the Treasury which actually issues the debt, is just playing its legally appointed role of providing a “flexible currency” and allowing the money supply to grow in response to growth in the broader economy.

Fair enough.  But shouldn’t those operations by the central bank within the banking system be kept separate from the operations of the Treasury?  The Fed could offer its own risk free savings vehicles and securities, generating the required interest flows for its banks, while the Treasury attends entirely to fiscal policy.  Why do we have a system in which the nation’s central banking system is entangled with the government’s other spending operations?  Why not permit both the Fed and the US Treasury to issue either non-interest bearing dollars or interest-bearing securities, as their policy needs dictate?

At this point, the defender of the current arrangement is likely to appeal to the requirements of monetary policy and monetary stability, and the desirability of keeping those responsible for monetary policy at some remove from the daily business of the legislature’s taxing and spending decisions. One might be convinced that unless the government has an independent monetary authority of this kind, the temptations to conduct a reckless monetary policy will be too great. Because its constituents love spending and hate taxes, Congress will frequently expand its deficits too rapidly, or in unpredictable ways, and destabilize the currency.  So the system that has been set up is that the government voluntarily subjects its budget to monetary constraints that an independent monetary authority then adjusts and manages.  In other words, the Treasury is required to operate on a budget, and can’t just issue dollars.  Only the monetary authority is permitted to do that.  The Treasury must issue securities, and swap them in the financial market for dollars that have already been issued.  And the monetary authority – i.e. the Fed – determines the prices in that market by deciding how aggressively it, itself will participate in the market to re-purchase the securities.

That the government actually needs an independent monetary authority of this kind is a highly debatable point.  But for now, let’s accept that point for the sake of argument. The question still remains as to why that monetary authority has been vested in the Fed, which is the central bank of the United States.  Monetary policy is not identical to central bank policy.  Rather, central bank policy and fiscal policy should be seen as two different aspects of government financial operations, both of which are inseparable from the government’s monetary policy.  The Fed has a banking system to govern; the Treasury has authorized spending to carry out.  But the fact that monetary policy has been assigned to the central bank is a historically contingent arrangement which is by no means a necessary one. An alternative arrangement would be to set up something like a Monetary Policy Board, on which sit representatives from the central bank, the Treasury and the Congress. The board’s role would be to establish a comprehensive monetary policy and coordinate fiscal policies and central bank policies with an eye to their combined impact on the nation’s monetary policy.

Under this arrangement, both the Treasury and the central bank would have the authority to issue non-interest-bearing dollars; and both would have the authority to issue interest-bearing securities.  (We could even say that both have the authority to collect taxes, to the extent that we view the assessment of fees by the Fed on its member banks as taxes.)  In some cases, the board might decide that the nation’s needs are best met by an increase in the amount of non-interest-bearing dollars emitted by the Treasury, with Fed emissions of dollars into the banking sector limited.  In other cases the nations’s policy needs might recommend that the Treasury reduce its emissions of dollars, and increase its debt issuance, while the Fed should increase its emissions of dollars.  The board’s joint recommendations could be submitted to Congress as part of its annual budget process, and enacted as legislation, with further recommendations offered as needed during the course of the year.

The government would establish a single consolidated balance sheet and Master Account, with the Fed’s operating accounts and securities accounts, as well as the Treasury’s operating account and securities accounts, existing as sub-accounts on that single balance sheet.  Dollars emitted by either the Treasury or the Fed would then be entered as liabilities on that balance sheet and both would be part of currency in circulation.  Similarly, securities issued by either the Treasury or the Fed would both count as part of the  debt to the public.  The Treasury general fund currently exists as an account at the Fed, but under the new arrangement, it would be a sub account on the Master Account.  If, for example, the Treasury has been authorized to emit $20 billion in new, non-interest bearing dollars during the new year, then the Fed would have no role or discretion in that operation.

The economist Abba Lerner discussed some of these issues in the context of what he called  functional finance. Governments can issue bonds, but they can also issue money.  The Second Law of Functional Finance, according to Lerner, is that the government should issue bonds and exchange them for money only if it is desirable that the public should have less money and more bonds.  But these decisions need to be made with respect to the policy needs of the whole government.  There is no reason that the decision over the proportion of bonds to currency in the government’s issue of MM should be a de facto responsibility of the central bank, and determined by that bank in the process of handling its own special responsibilities for the banking or credit sector.

Some argue that the provision of safe assets to the private sector should be seen as part of the government’s responsibility, and that is one of the reasons for the existence of government bonds.  Again, fine.  But that seems to be a job for the bankers, not the treasurer.  If people want a safe savings vehicle, let them deposit the funds with the central bank (or at member banks that belong to the central banking system) at various term lengths and rates.  Why should the fiscal authorities, whose job it is to carry out spending operations, be worrying about whether they should also issue debt instruments for the purpose of providing savings vehicles?

An economy grows, develops and progresses as a result of its investments in the creation of new value.  But in the private sector, there are two main forms in which that investment can occur: savings-driven investment and credit-driven investment.  In savings-driven investment the firm, household or entrepreneur invests out of equity already accumulated, paying for goods, labor and other services out of savings and building new value out of the present value that already exists. If the investment fails to produce as much value as anticipated, the investors bears the full loss.  With credit-driven investment, the household, firm or entrepreneur pays for goods, labor and other services by issuing promises for future payment, effectively financing the development out of a share of the value that will come into existence in the future.  The existence of credit-driven finance permits more rapid growth, but also involves more risk on the part of more people, since it builds networks of obligations extending into an inherently uncertain future, and some losses will be born by the creditors.

But a government that issues the nation’s currency can, in principle, engage in a type of financing different from both of these:  what we could call, “anticipatory money-financing”.  As the economy grows, government monetary policy is used to regulate growth in the supply of money along with the economy, continually monetizing the new value in the economy while maintaining stable prices.  Money is generally conceptualized for accounting purposes as a liability of the government, but its a peculiar type of liability, since it’s not an obligation by the government to make any further payment.  Since the money can be used to pay taxes, issuing it might reduce future tax payments.  But a government that can issue money clearly doesn’t need the tax payments.  So the risk involved in money-issuance is only a monetary policy risk: that the issuance might result in unintended fluctuations in prices, loss of asset values, etc.  In a country in which there are massive unmet needs and unemployed people and resources, however, and abundant opportunities to create new value, new growth and new markets driven by strategic and transformative government investment, the private sector should easily be able to absorb new money via direct spending without destabilizing prices.

Returning now to Mosler’s MM, we see that we can issue the MM in non-interest-bearing and interest-bearing forms.  And the Treasury could continue to rely entirely on the current system of swapping the interest-bearing MM with the financial sector for non-interest-bearing MM.  And if, as Mosler suggested recently, the Fed adopts a more formal policy for targeting Treasury yields, things will function reasonably well without requiring any difficult new legislation.  On the other hand, we will still run into the endless political wrangling and melodrama over the growth in treasury debt.  Is this really the best system we could have?

In an economy in which the most pressing needs are in the sector of households, small businesses and other non-banking companies, the present system seems like a wasteful contraction of fiscal space.  The system imposes pointless extra monetary policy constraints on the government resulting from wholly unneeded side-injections into the financial sector, and muddies up the process of targeting new issues of money at the places in the economy where it is most needed.  It gives the central bank too much discretion in determining the yield curve for MM, and thus would permit an aggressively anti-government central banker to gobble up fiscal space by allowing yields to rise.  If our concern is Universal Motors and similar enterprises, along with all the people who work for these enterprises or could be working for them, there is no need to be injecting cash into Goldman Sachs as an operating requirement for carrying out deficit spending.

Cross-posted from Rugged Egalitarianism

Follow @DanMKervick

29 responses to “Government Spending and the Government’s Money

  1. Auburn Parks

    Really well written piece here Dan. But if national monetary policy were as straight forward and rational as you describe. How then could some people argue to cut SS payments because we are “running out of money!”?

    • Well they would still argue about whether the size of the deficit was inflationary, but at least that would be a different argument, and they wouldn’t argue about insolvency.

  2. I’m thinking a wholesale reorg might be appropriate. The Fed now has other tasks besides monetary policy: it handles clearing, and it’s supposed to regulate the banking system as well. If we accept Mosler’s contention that the risk-free interest rate ought to be zero across the term spectrum, the well-defined job of the central bank (in addition to clearing) would be to post a standing bid and ask price for government securities of all maturity, and stand ready to issue or redeem them in any amount at the policy rate(s). Perhaps they wouldn’t all need to be zero, they could range from 0.25% overnight to maybe 2% for perpetual bonds.

    The regulation and prosecution function could be moved to a separate department, one that would be accountable for eliminating control fraud in the banking system, as well as auditing the auditors of the private banks. FDIC could concentrate only on its insurance function. Commercial banking should again be separated from investment banking, and no bank of either type should be allowed to become systemically dangerous.

    We probably don’t need 12 pseudo-private / pseudo-public regional federal reserve banks. Nor primary dealers. The CB could do its transactions, both buying and selling, on the exchanges itself. Coins and currency could be distributed from a central repository, or the CB could maintain regional warehouses if that would make it easier.

    With the CB able to issue new securities, Treasury would not have to. Treasury could just spend what Congress tells them to spend, and the CB would make good any overdrafts.

    There should be a small committee to make small adjustments to a broad-based tax in order to regulate aggregate demand. It must be recognized that manipulating interest rates and purchases and sales of securities are not a very good way to influence the real economy.

    The only obstacle is that it all requires that the political establishment understand and accept MMT, and be willing to dismiss a few large and wealthy interests from the public trough.

    • I think even the monetarists are starting to get frustrated, because they are realizing that the Fed, a central bank whose policy options are limited by all sorts of laws and institutional constraints, is not the Great Big Monetary Helicopter In The Sky, that they learned about in their inaccurate textbooks. So maybe there is some hope?

      • Monetarists are not far off from MMT, really. The difference is about what “counts” as money, and how it is created. After 4 years, maybe they can be open to the idea that it’s the deficit that matters, not the Fed’s balance sheet. It’s not far from that to sectoral balances and leakages. Monetarists might be persuaded that the proper policy is steadily growing private sector NFA at a rate compatible with economic growth potential, in place of their prescription of steadily growing “money supply”. Their criticisms of the Fed’s yo-yo policies can easily be re-targeted to yo-yo fiscal policy.

  3. I fully agree that Treasury bonds are part of the base money supply. I also add:

    1. Government is paying us to NOT spend our money. Here is the explanation: Base money is used by some for long term savings, which is a withdrawal of base money. Government does not really want savings. It wants money to be quickly used, rotated, and available for taxation. The solution for government is to borrow any money available and put it to work, paying the savers to accommodate the desire of a large demographic group. Government borrowing also has the desirable result of maintaining currency value.

    2. Banks do not create money, only Government creates fiat money. Yes, banks give the appearance of money creation with each loan resulting in a new deposit. Consider that each loan begins with legitimate money available for further use. Each loan completes with a new deposit, a new contract to repay the loan, and an original depositor expecting to have HIS money available upon call. In other words, a loan results in TWO claims on each loaned dollar, a serious potential problem for the bank. Bank deposits are better called a “derivative” of the base currency.

    But bank loans certainly act like newly created money, except that they also carry repayment terms.

    3. Government distributes currency to citizens by purchase of labor and materials. New money is distributed in an identical fashion. If fact, it would be impossible to distinguish whether government employees are paid with newly printed money or borrowed money. I usually consider that every government payment is part printed, part borrowed, and part tax.

    So, yes, I fully agree that Government bonds are part of the base money supply, but that acceptance forces at least these and probably additional conceptual modifications.

  4. Roger

    Banks create what are essentially look-alikes of the Treasury Credits which the Central Bank creates and issues as fiscal agent of the Treasury. Having created these instruments private banks THEN spend or lend them into circulation, but the repayment of loans does not destroy them because they are Treasury credits, not bank credits.

    Perhaps one of the most fundamental (and wilful) misunderstandings of modern time is that an agency relationship is legally and in accounting terms entirely different and distinct from a counter-party relationship.

    A Treasury credit is not reflected by a Central Bank debit. A Central Bank credit is a credit created on behalf of the Treasury and equates to or is congruent with it. ie a US Treasury Note (greenback) spends exactly the same as a Federal Reserve Note.

    As I have frequently said, National Debt is not and never has been National Debt at all, but is better described as (dated) National Equity more akin to an interest-bearing Preference share in US Incorporated.

    Another way of looking at this is that government debt is essentially fiat currency sold forward at a discount.

    The historical roots of this are evident in ‘stock’ – which was the name of the split tally instrument which recorded the prepayment of tax (at a discount, naturally) by tax-payers to UK sovereigns, which was the way they funded their wars and other expenditure for centuries.

    Unfortunately in 1694 we entered the 300 year aberration of modern finance capital (not just modern money/central banking) where prepaid tax instruments ( ‘stock’ ) forked into two conflicting instruments:

    (a) Equity – shares of ‘common stock’ (absolute – divine right of capital- ownership) in a Joint Stock Company;

    (b) Debt – interest-bearing ‘loan stock’ – government debt in the UK ‘gilts’ is short for ‘gilt-edged’ stock.

    The very language still in use today reflects the reality. The phrase ‘tax return’ was the accounting event at which the stock was returned to the Treasury to be matched against the counter-stock to settle the tax-payer’s tax obligation.

    ‘Rate of Return’ reflected the rate at which the initial discount/profit (no tax-payer will prepay tax without a discount) could be realised over time.

    And so on.

    • Chris,

      “Banks create what are essentially look-alikes of the Treasury Credits which the Central Bank creates and issues as fiscal agent of the Treasury. Having created these instruments private banks THEN spend or lend them into circulation, but the repayment of loans does not destroy them because they are Treasury credits, not bank credits.”

      By the detail contained in you comments, it is obvious that you have thought a lot about this subject. As a relatively new participant in these economic discussions, I am surprised at the diversity of models used to describe our economy. I can see that your model is a little different from mine.

      We seem to have the same concept that repayment does not destroy the underlying currency for a bank loan. One of my points would be that repayment of a bank loan would reduce the amount of deposits held at the “bank of the whole”. If “a loan results in TWO claims on each loaned dollar”, then bank loan repayment would retire one of the two claims. Assuming that bank deposits are counted as part of the money supply, loan retirement would appear on the money supply balance sheet as a reduction in apparent money supply.

      “As I have frequently said, National Debt is not and never has been National Debt at all, but is better described as (dated) National Equity more akin to an interest-bearing Preference share in US Incorporated.”

      I find myself in agreement here. I think I would state it a little differently: All of the National Debt has been issued one unit at a time and has accumulated over the years. Every unit is the same and can be used to purchase anything, or can be saved for future purchases. The ability to purchase anything is equivalent of owning something if you only wanted the something. In other words, the only difference between ownership and ability-to-own is the will to complete an action. So, yes, ownership of a unit of currency is ownership of a
      “Preference share in US Incorporated”.

      I think both you and I would conclude that a “share” is not a “debt”. We would have a disagreement with those who think of money as “government debt”.

      • Owner’s equity is a liability of the business, so National Equity would still be a liability of the government. Not a “debt” in the usual sense but still a liability.

  5. “Now here is part of a plausible answer: the government gives free money to the financial sector to accommodate the growth in financial sector liabilities to the non-banking sector of households and firms. Just as you and I can earn interest on our deposits if we switch them from checking to savings accounts or CDs, so the banks earn interest on their money by shifting some of it from from reserve accounts at the Fed to government securities. And this continual injection of interest income from the government into the banks is needed to accommodate the continual injection of interest income from the banks into the private sector. The Fed, in coordination with the Treasury which actually issues the debt, is just playing its legally appointed role of providing a “flexible currency” and allowing the money supply to grow in response to growth in the broader economy.”

    Even better than the government giving money to the financial sector to accommodate growth of financial sector liabilities to the private non bank sector in an indirect manner is to do it directly by creating the mechanism to do so. Instead of giving money to banks and then hoping for them to act by expanding deposits just expand the money supply directly to the public. Instead of tinkering with the bank dependent system of policy we can just modify it to make it operate more effectively in a direct manner between the gov or fed and the people.

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  7. Dan, I think you’ve slightly misunderstood what Warren is saying here:

    “That is, with floating fx, ‘base money’ can logically be defined as the total net financial assets of the non govt sectors”.

    What he means is that the total net financial assets of the non-govt sectors is ‘base money’.

    This doesn’t mean that total ‘base money’ equals total net financial assets of the non-govt!

    The problem is Warren’s way of phrasing it, which is slightly confusing.

    • I do understand what Warren is saying but I dont necesarily agree that treasuries should be base money.

      Instead of giving free money to banks through treasury sales in order to faciliate growth in financial sector liabilities as in the example in the article just create central bank liabilities directly with the public. Get rid of the dependence on banks to lend to create deposits. Also the banks have too much discretion in the current system to fund speculation or whatever they want.

      • That’s a possibility. But I’m inclined to think we need both credit-driven investment and savings-driven or income-driven investment to grow.

        I think the whole issue of who is “creating” the money tends to be overblown.

        • Yeah but you cant get credit driven investment or income driven investment until the economy picks up. The gov isnt spending more to break the downward spiral. So what you do is use the central bank to expand the money supply directly into the public’s accounts and demand will react and then lending and income and investment will come along.

  8. or rather,

    This doesn’t *necessarily* mean that total ‘base money’ equals total net financial assets of the non-govt!

  9. Dan, in your stylized example, you’ve got the process backwards, I think. According to Frank Newman in his book Freedom from National Debt, Treasury typically distributes money from its Fed account to the bank accounts of the public for goods and services first, then it issues securities (bills or notes) in the same amount. (It also does the same thing for interest payments on the securities, it issues securities in the amount of the interest.) There is, however no change in the money supply.

    When the Treasury spends into bank accounts, the new dollars move around the financial system. Then the Treasury auctions off treasuries for the same amount, and the money supply then returns to its previous level.

    As Newman writes:

    In the whole of the U.S. financial system, the only place to put the money is into the new Treasuries that are being auctioned— or otherwise just leave the funds in banks. If some investors choose to buy other financial assets with those new funds, such as corporate bonds or stocks, then someone else— the sellers of those assets— will end up with the bank deposits, and will be looking for a place to invest them. There are no other USD financial assets to invest in that are not already owned by someone. And the dollars cannot go to another country; an individual investor can choose to invest some dollars in assets in another country, but then the foreigners who sold those assets would just own the same dollars in U.S. banks. The aggregate of all investors have, in the end, two choices: leaving the extra $ 10 billion of cash in bank deposits, which earn very little, if any, interest, and are not guaranteed by the government beyond $ 250,0001; or exchanging some of their bank money for the new Treasuries, which pay interest and have the “full faith and credit” of the United States.

    Newman, Frank N. (2013-04-22). Freedom from National Debt (pp. 19-20). Two Harbors Press. Kindle Edition.

    Newman was Deputy Secretary of the US Treasury, and writes in the notes:

    […] This author recommends Mr. Mosler’s book, as well as various writings by academic proponents of “Modern Monetary Theory” or “Neo-Chartalism,” including L. Randall Wray (The Levy Economics Institute of Bard College,), James K. Galbraith (University of Texas), Scott Fullwiler (Wartburg College), and Bill Mitchell (University of Newcastle, New South Wales, Australia).

    • Does it really matter what comes first? It’s just a toy example. In the real world, tax revenues are continually flowing in, spending is continually happening, existing debt is continually being paid and new debt is continually being issued and sold, with the funds flowing into the Treasury account. There is no overdraft facility, so the Treasury has to keep selling debt. The point was just to argue that the two processes of government spending on goods and services and providing safe assets with associated interest flows to savers of existing dollars are distinct government operations, and so it is unclear why they are currently linked in such a way that the ability to do the former is artificially constrained by the need to do the latter.

    • “There is, however no change in the money supply.”

      Unless you define Treasuries to be part of the money supply,as Mosler suggests. The cash in the economy stays the same, but the private sector now owns more Treasuries, in the amount of the deficit spending.

      If the Fed then buys Treasuries in the amount of the spending, it is said that the money supply increases. But that is just an asset swap. If you define “money supply” to exclude Treasuries, then Mx goes up when the Fed buys bonds; but there is no macroeconomic significance to that change, since the Treasuries are nearly perfect substitutes for cash. That is Mosler’s point. QE is ineffective. The deficit is what matters.

      • You see how this can lead to confusion, if you think the Fed’s actions control the economy:

        Treasury issues more T-bills, to fill its spending account, and then it spends.
        The increased supply of T-bills would have tended to drive up short interest rates, so the Fed buys T-bills to maintain its target rate.
        GDP grows.

        The growth is due to the increased demand from increased deficit spending, but if you think the Fed is in control, you think it is the buying of T-bills increasing the money supply that caused GDP to go up. There is a very strong correlation, so the statistics can support either proposition. Whichever theory you believe in is “proven”.