Krugman, Helicopters, and Consolidation

By Scott Fullwiler and Stephanie Kelton

Paul Krugman has a new post that explains why the debate over money- vs. bond-financing of government deficits is really much ado about nothing.  In it, he essentially echoes longstanding MMT-core principles, as we will show below.  Indeed, MMT blogs have written as much many times previously (for example, see here, here, here, and here).

Krugman’s post looks at two alternative scenarios:

Case 1: The government runs a deficit, selling bonds to offset the shortfall, while the Federal Reserve does QE

Case 2: The government runs a deficit but does not sell bonds, instead financing all of its spending by “printing money” (i.e. with newly created base money)

Let’s look more closely at his Case #1, where the government deficit spends and “finances” that spending by selling bonds to commercial banks while the Fed does QE.  This is shown in Table 1, where we have T-accounts for the private sector (here referring to households and non-financial businesses), banks, dealers (which are assumed to purchase T-bills at auction and engage in open market operations with the Fed), the Fed, and the Treasury.

Assume the government spends $100 and receives taxes in the amount of $90, resulting in a deficit of $10.  The T-accounts for the T-bill sale, deficit spending, QE operation, interest on reserves (IOR), and reduced Fed profits returned to Treasury (as a result of IOR payment to banks) looks like this:

Table 1:  Krugman’s Case 1—Deficit with T-bill Sale and QE

(To simplify an already complex (for some) exposition, we’ve assumed that the Tbill is purchased by the Fed without capital gain, but that wouldn’t have a material effect.)

Note what has happened in the final rows, where the Fed’s reduced transfer of profits is entered.  IOR payments from the Fed reduce its profits, all of which are transferred to the Treasury.  So, the actual transfer that would normally have occurred has been reduced by the quantity of IOR payments, shown in the T-accounts as (-IOR).  Note also that the change in net financial equity of the non-government sector (equity in the second to last row for the private sector, banks, dealers, which is 10+IOR) is necessarily the mirror image of that for the government sector (-(10+IOR)).

(The final row showing total $ changes in each sector’s total assets and liabilities/equity has the + or – after the number since that’s the only way to avoid an error term in Excel.)

Krugman’s Case 2 for the same $10 deficit is shown in Table 2—here we’ve assumed that the Fed provides the Treasury with an overdraft (currently not allowed by the Federal Reserve Act, which requires the Fed to make net purchases of Treasury debt in the “open market”—obviously a self-imposed constraint that has been lifted in the past).

Table 2:  Krugman’s Case 2—Deficit with No Bond Sale

Just as Krugman said, the results in the final two rows (total changes and total $ change) are exactly the same as in his Case 1, except that instead of the Fed providing the Treasury with an overdraft in Case 2, in Case 1 it purchased a Tbill in the open market from a dealer.  As Krugman suggests, there is virtually no macroeconomically significant difference between the Fed providing the Treasury with an overdraft versus the Fed owning the short-term debt of the Treasury—the Fed will return any interest it receives on the Tbill or the overdraft to the Treasury along with the rest of its profits.

This all confirms Krugman’s point – there is no meaningful difference between what the government is doing today (case 1) and what Market Monetarists are urging it to do via helicopter financing via direct money creation (case 2).  As Krugman says, “the results are the same.”

Still more interesting are the implications of this statement from Krugman:

It doesn’t take fancy analysis to make this point — just an acknowledgement that in financial terms, at least, the central bank is part of the government. The Fed, for example, remits the interest it earns on government debt to the government proper, keeping only that amount it needs for operations. So for the purpose of our analysis right now, we can use the term “the government” to include the central bank.

Consolidating the government (Fed + Treasury) balance sheets as Krugman suggests reveals why it makes no difference whether the government sells bonds with QE (case 1) or finances its deficit spending simply by creating new money (case 2).  To see why, look where you end up if you simply consolidate the Fed and Treasury balance sheets from the above examples.

Table 3:  Krugman’s Consolidation for Case 1

Table 4:  Krugman’s Consolidation for Case 2

 

Consolidation shows that once “the government” buys back its Tbill, it is as if it had never issued it in the first place.  In other words, Table 4 could essentially illustrate both of Krugman’s cases, since in either case all that remains on the balance sheet following a “helicopter drop” or a deficit with QE is newly created money (deposits for the non-financial private sector and reserves for the banking sector).

Consolidation gives rise to two further points that Krugman either misses or chooses not to develop.  We will refer to this as Case 3.

Case 3: The government runs a deficit, issues Tbills, but the Fed does not implement QE

Kelton (then Bell) showed in this article, written long before the Fed started doing QE (or running ZIRP), that issuing bonds versus QE or “printing money” doesn’t matter.  To illustrate, note that in Table 3 the government is issuing Tbills—but why should it?  Table 4 shows—as all economists know—that the government is the currency issuer, and so it obviously is not really “borrowing” even when it requires itself to issue Tbills.

This leaves us with a question—why then does a currency-issuing-government issue debt?  Here again, consolidation helps us understand.  Let’s reconsider Table 3 but reorder the deficit and Tbill issue as in Table 5:

Table 5:  Consolidation with Deficit and Debt Issuance Reversed

Here we see perhaps more clearly that the deficit creates reserves and deposits.  Obviously this is an option available to a currency issuer without issuing debt first, whether via consolidation or via overdraft for the government’s Treasury to the government’s central bank if the government so allows.  But without IOR set at the targeted interbank rate, adding reserve balances causes the interbank rate to fall below the target rate, all the way to zero.  The only alternative is to drain the reserve balances through sale of (in this case) Tbills if the government (or central bank if we aren’t consolidating) desires a positive interbank target rate.  Thus, as Abba Lerner put it, the purpose of bond sales for a currency issuer isn’t “financing” but rather a decision that the public should hold bonds rather than reserve balances earning interest (i.e. IOR).

This (Case 3) plus Krugman’s two cases demonstrate Fullwiler’s point, which is that because neoclassical economists believe that both IOR at the target rate and an interest rate target at zero (either of which means that Tbills and “base money” are perfect substitutes) stop QE or “monetization” of deficits in their tracks, there is no real-world scenario in which either is more inflationary than bond sales.  In other words, because there is no difference between bond- and money-financed government deficits, there is no reason for the government to sell bonds at all.  We can stop today.  No further increases in the debt and no unnecessary and counterproductive debt ceiling drama.

Furthermore, as Fullwiler later argued, there is no need for so-called coordination of monetary and fiscal policies for “money-financed deficits,” since this again operationally necessitates IOR at the central bank’s target rate (assuming the central bank’s target rate is above zero) which is the functional equivalent of simply issuing a Tbill in terms of the interest on the national debt.  To illustrate this, Table 6 separates the Treasury and Fed while presenting all the transactions for Case 3.

Table 6:  Case 3 with Separate Treasury and Central Bank

From the second to last row (total changes), the only difference between Table 6 (unconsolidated Case 3) and Table 2 (Case 2) is interest on the Tbill in the former and IOR = Fed’s target rate in the latter.  And of course, the Tbill and the Fed’s target rate will be very close via arbitrage.

Of course, none of this means that a currency-issuing government should run large deficits, only that it can when necessary.  And it obviously can do so without worrying about bond vigilantes—again Tables 3, 4, 5, and 6 show that the interest rate on the national debt for a currency-issuing government is either IOR—a policy rate—or the Tbill rate, which arbitrages with the policy rate.  Splitting up the central bank and Treasury doesn’t change this, and neither does the self-imposed requirement that the Fed not provide the Treasury with overdrafts—which simply means that the Treasury can issue debt at roughly the Fed’s target rate via Tbills.

Thankfully, Krugman is helping clear through decades of confused teachings in macroeconomics textbooks.  While the U. S. Treasury and the Federal Reserve are obviously separate institutions within the government, Krugman’s analysis shows that it can be quite illuminating to look at the effects their operations using a consolidated balance sheet.  For example, we see the case for helicopter financing of government deficits has been much ado about nothing.  Indeed, the main advantage of Case 2 is not that it provides a greater boost to the monetary base but that it would relieve the government from the practice of selling bonds altogether. In other words, the main advantages of direct money creation are political rather than economic.

75 Responses to Krugman, Helicopters, and Consolidation

  1. Pingback: Links 12/11/13 | naked capitalism

  2. financial matters

    Excellent to see Krugman come to this conclusion as it helps understand the monetary system better and so should help with policy decisions. Skidelsksy considers Krugman a New Keynesian which seems to imply that Krugman still thinks too rationally ;) rather than incorporating more true Keynesian uncertainty.

    The Job Guarantee Program helps mediate uncertainty by making demand more reliable.

  3. Dear Prof’s Fullwiler and Kelton,

    Forgive what is an obviously ignorant question from a scientist (biophysicist) who uses a lot of applied math in his professional work: how can the government stimulate the economy to produce more jobs, more production, more economic growth? I conclude from reading your (fine) article (perhaps incorrectly) that printing money (excuse the naive language but it is appropriate given my economic naivete) will not work .

    WHAT WILL WORK? Will direct government purchases work?

    Thanks for reading this far: I write with the hope that you will help me decrease my ignorance.

    Bob Eisenberg
    Bard Endowed Professor and Chairman
    Dept of Molecular Biophysics
    Rush University Medical Center
    Chicago

    • Scott Fullwiler

      Hi Bob

      Our overarching points here are (a) to show Krugman got it right in his post and (b) that basic, run of the mill govt deficits where the govt sells Tbills are the same thing for all intents and purposes as “printing money.”

      • Thanks.
        I guess I did get that.

        Now, to the next point.
        HOW can the government stimulate the economy?
        What WILL work?

        I know …. it needs a new article. I can’t wait.

        Thanks
        As ever
        Bob

        • Hi Bob, These posts outline some measures MMT economists and writers have proposed or would favor for bringing the economy to full employment and a measure of social justice: http://neweconomicperspectives.org/2013/07/what-would-you-have-the-president-do-part-ii-getting-to-full-employment.html

          and

          http://neweconomicperspectives.org/2013/07/what-would-you-have-the-president-do-part-iii-doing-some-economic-and-social-justice.html

          The effect of these policies would be felt in a very short time. My guess is that it would be 6 months to full employment, and Warren Mosler a leading MMT economist, writer, and speaker, has said it would take only 90 days to end stagnation and get to full employment. Had the President followed MMT policies in 2009. Full employment wold have been achieved by September of 2009; instead we’re now halfway through what is like to be a lost decade, or even longer until full recovery.

          • financial matters

            These points are well taken but when you talk about ‘Keynesian deficit doves’ I think that is also referred to as ‘New Keynesians’ which seems to be people like Krugman and Stiglitz who try and fit some neoclassical notions into Keynesianism.

            One of the main differences I see is that Keynes saw capitalism as a ‘foul’ means to a ‘fair’ end. We needed productivity created by people who ‘love money’ to get us to a place of relative abundance where people can then enjoy their lives through their friendships and hobbies and not be so concerned about money. I see MMT as trying to develop a more generally sustainable ‘capitalistic’ economy which is more inclusive. Keynes would be appalled at our level of financial innovation and income inequality.

            As an aside it’s interesting that Keynes’ idea of ‘enoughnous’ was about $66,000/yr. Daniel Kahneman came up with a similar conclusion “Below an income of … $60,000 a year, people are unhappy, and they get progressively unhappier the poorer they get. Above that, we get an absolutely flat line. … Money does not buy you experiential happiness, but lack of money certainly buys you misery.” The current minimum wage is around $14,500 and a proposed living wage of double that would be around $29,000.

    • Bob
      QE is not the only way that government can use its fiscal power – government can spend to benefit the people. If QE doesn’t look like spending in a direct economically productive way that’s because it isn’t. If we were to look at say the Roosevelt New Deal or WW2 deficit spending (with little thought to affordability) we’d see good examples of ‘real’ spending that begins to be scaled to fully meet the government purpose in hand – particularly true (sadly) in the case of WW2.

      The consequences are the rapid employment of large numbers of unemployed people. The MMT economists have suggested that a Job Guarantee offered to all those wanting to work (a fiscal target truly worth targeting) that runs permanently and not as a periodic, politically difficult, stimulus programme that runs only whilst government has the political power and the debt hawks are kept quiet.

      JG would become like the other automatic stabilisers such as unemployment benefit, with the economic benefit of creating demand by paying wages and by closing the gap between government spending and the production of goods to consume with JG wages (if that’s economically what’s needed e.g. inflation).

      Randy Wray wrote this recently – it’s a good read. Go to page 44 for a discussion of MMT policy http://www.levyinstitute.org/pubs/wp_778.pdf

      Good reading,
      Jim

      • Many thanks!
        I will read Randy Wray for sure.
        It is comforting to have a common sense “Yogi Berra” view reinforced: if you want to hire people, and get work done, hire people, and contract work.

        I guess the next question is how can we make this so much in the self interest of the (almost entirely) selfish types of people who run our Congress and financial industry to make it happen?

        Thanks again
        Bob

    • All Full wider and Kelton are saying is that the Fed’s attempt at stimulators via QE is functionally identical to what it does during normal operations, so QE itself is not going to be stimulative. All the Fed can do is change the mix of financial assets, it cannot increase them because it cannot actually spend money into the real economy. For that fiscal policy is required and that is how government would stimulate successfully.

  4. George Balanchine

    Well, this was nice to read. Something to cheer me up a bit while watching the continuing disaster in Washington, D.C.
    Three cheers for Mr. Krugman!

    Sincerely,
    George Balanchine

    P.S. Although I think you MMT guys do go a bit overboard. And why don’t you call yourselves Keynesians or post-Keynesians? Or does that question show my ignorance of the history of economics?

    • Scott Fullwiler

      Hi George

      We are a subset of Post Keynesians, though this is a highly diverse group and I would probably say a minority of them are on board with us on some of the points we raise here.

    • George, You’re quite right to point to the similarities between Keynes’s ideas and MMT. In fact Dean Baker (director of the Centre for Economic Policy and Research in Washington) said he couldn’t see the difference. I wouldn’t say Keynes and MMT are identical, but certainly they’re very similar.

    • Hi George, Here’s a statement on the difference between Keynesians and MMT economists: http://www.correntewire.com/keynesian_deficit_doves_vs_mmt_deficit_owls

      Scott’s already pointed out that MMT economists are within the post-keynesian category and that this set isn’t homogeneous.

      • financial matters

        Just putting this comment where it belongs and giving credit to Skidelsky (2010) (Return of the master) for many of the ideas including extrapolating Keynes’ enoughnous to today’s value.

        These points are well taken but when you talk about ‘Keynesian deficit doves’ I think that is also referred to as ‘New Keynesians’ which seems to be people like Krugman and Stiglitz who try and fit some neoclassical notions into Keynesianism.

        One of the main differences I see is that Keynes saw capitalism as a ‘foul’ means to a ‘fair’ end. We needed productivity created by people who ‘love money’ to get us to a place of relative abundance where people can then enjoy their lives through their friendships and hobbies and not be so concerned about money. I see MMT as trying to develop a more generally sustainable ‘capitalistic’ economy which is more inclusive. Keynes would be appalled at our level of financial innovation and income inequality.

        As an aside it’s interesting that Keynes’ idea of ‘enoughnous’ was about $66,000/yr. Daniel Kahneman came up with a similar conclusion “Below an income of … $60,000 a year, people are unhappy, and they get progressively unhappier the poorer they get. Above that, we get an absolutely flat line. … Money does not buy you experiential happiness, but lack of money certainly buys you misery.” The current minimum wage is around $14,500 and a proposed living wage of double that would be around $29,000.

  5. I find myself concurring until we get to table 3.

    At line TBill sale, in the Govt = Tsy + CB column, it does not seem correct to debt bank reserves to purchase a Tbill. Instead, the column should show Assets of Dep+10,and, Liabs/Eq of Tbill+10.

    At line Total $ Change, in the Govt = Tsy + CB column, we should show Assets of Dep+0 and Liabs/Eq of Tbill +(10+IOR).

    Going to Table 4, the concern about drawing from bank reserves reappears. Going to the line Total $ change, the line should be correct. Double entry accounting does not really work when single side money-printing occurs. There is no asset and no liability that remains with government. (This situation does raise the question of how money is valued. A product (money) has been created and exchanged. After the transaction, the product remains in private and bank ownership.)

    It seems to me that Case 3 displays some confusion between bank reserves, currency, and the money system. I will take the perspective that money is what the public thinks it is. From this perspective, reserves and currency are the same thing. From this perspective, when government borrows reserves, the public has less currency to spend because their savings has been loaned to government. This is very good from a pension planning perspective.

    Without fully developing the reasoning, I would conclude that by issuing treasuries to the public, government is effectively telling people to not spend for a period of time. Pure printing of money is a bypass of the “please do not spend” phenomena. (We are not discussing currency valuation here.)

    • Scott Fullwiler

      Hi Roger

      Tsys settle at auction via Fedwire, so this means that the bank necessarily settles the pmt for the dealer via reserve balances.

      http://www.newyorkfed.org/aboutthefed/fedpoint/fed05.html

    • At line TBill sale, in the Govt = Tsy + CB column, it does not seem correct to debt bank reserves to purchase a Tbill. Instead, the column should show Assets of Dep+10,and, Liabs/Eq of Tbill+10.

      Why do you say that Roger? Both dollars in reserve accounts and Tbills held by the public are liabilities of the government. If the private sector uses reserve funds to purchase a $10 Tbill, then the government’s dollar reserve liabilities are reduced by $10 but its TBill liabilities increase by $10.

      • As I read the post, I compared Tables 1 and 2 with Tables 3 and 4. The consolidated Table 3 came to a different total in the Govt = Tsy + CB column, which seemed immediately in-congruent. After re-reading several times, my conclusion was sustained and I made the comment.

        Looking at the in-congruence from a different angle, Table 3 would reflect that government, having sold a bond, stops accounting for the bond. The table suggests that the only ongoing bond accounting would be done by the private bond holder. Only if government, under consolidated CB and Treasury accounting, would entrust all Treasury bond to private hands, would we conclude that Table 3 would be correct.

        I read your comment as suggesting that both banks and government own “Reserves”. I think there is only one owner of reserves and that owner is the banks. The government would have possession of reserves but as a caretaker, not owner.

        Economist (in general) should reflect more carefully on whether dollars are liabilities of the government. I believe government has no liability arising from the printing of a “dollar” except to replace the dollar if damaged (it is hard to damage electronically stored dollars). A worker or vendor receiving a dollar for government service finds himself fully paid; the worker or vendor now has a product (money) that he can exchange for whatever someone else will trade for. The “money” as a “hot potato” will exist until returned to government.

        • Scott Fullwiler

          The consolidated govt sells the bond, then buys it back, thereby retiring it. So, it goes away, just as if a company bought its bonds back.

  6. I do not see the word “seigniorage” anywhere in the above article and hence it does not address the fundamental point.

      • Yes, Dr. Wray does use “seigniorage” in that paper but in a very academic way, not in the effect it might have on taxes and the economy. For example, a quick look at at the proposed ’14 budget shows 5% or 120B$ for “health” expenditures. The government as presently operating will borrow those funds when operating in a deficit mode and tax citizens to pay the interest on the loan, that tax at 5% being 6B$ per year. Alternatively the government could spend the money it prints to pay the 120B$ and that printing cost would be nominally 120M$ to taxpayers, a significant difference enjoyed from seigniorage.

        • Scott’s point is it makes no real difference if the Treasury sells bills to the public or if the Fed pays interest on reserves. The interest paid will depend on the Fed’s target overnight interest rate. That target rate is currently 0.25%. If it raises the target rate, then the interest paid by the government will be higher whether the Treasury sells bills or the Fed pays IOR. In effect it is the same thing.

          “Seigniorage” in the sense that you use it simply means issuing base money at zero interest. But this is only possible if the Fed has a target overnight interest rate of zero. If it sets a target rate higher than zero, the newly-issued base money will not earn zero interest.

          The government doesn’t have to “tax citizens to pay the interest”, and in reality it doesn’t anyway. The government spends X amount and taxes Y amount and the difference is the deficit or surplus, with a deficit adding to the government ‘debt’ (which may pay interest or not) and to the non-government savings by an equal amount. If the government wants to increase demand in the economy it could increase X, or lower Y, or do both. If it wants to reduce demand it could lower X or increase Y, or both. It could choose to pay 10% on the outstanding debt or 0%. These are macroeconomic and political questions which should be talked about clearly rather than using misleading language.

          • Philippe, I follow your comments completely and agree with your assessment of the big picture as you describe it. There are however two points: First, you assume a Fed and I assume you support the need for the Fed as an issuer of money into the economy. I believe the US Govt should issue its own money into the economy. Second, and most troubling to me, the national debt remains as a conduit for funneling money into the hands of international, national and individual entities who provide no services nor products in exchange for the money stream. If the Govt issued its own money, taking responsibility for the money supply and there was no CB responsible for the money supply then there would be no need for a national debt.

            • I agree with you on the US Treasury issuing money directly but the Fed is part of the government, despite its flaws, and I’m talking about the world as it exists.

              “If the Govt issued its own money, taking responsibility for the money supply and there was no CB responsible for the money supply then there would be no need for a national debt.”

              I see where you’re coming from. You need to understand that MMT is actually on your side in this debate, but they just talk about it in a different and more technical way.

              Maybe have a read of some of these papers to get a better grasp of MMT:

              http://neweconomicperspectives.org/mmt-scholarship

              • ok you need to realise that the central bank is not the only reason why there is a “national debt”. Lots of conspiracy theory people believe this but it is wrong.

                • Philippe, the Fed in their publications describe their need for a national debt as a tool for managing the money supply via the FOMC. Historically, we have the experience of the national debt going to zero when the central bank (Biddle’s 2nd US Bank) was closed in the 1830s by Jackson. If the govt issues money and takes responsibility for the management of the money supply why is a national debt ever necessary? Are taxes and spending controls not adequate to control the money supply? I don’t see a functional need for debt. Bonds are like paying some entity to pay a tax and promising to give it back at some point in time too. It seems to me that sticking with taxing and spending to manage the money supply is the rational approach and forget about taking money from the economy by borrowing. I’ll grant you that a national debt will serve a select set of entities but it definitely does not serve the citizenry at large.

    • “From this perspective, reserves and currency are the same thing.”

      Reserves exist in a parallel universe wrt to currency, which is only held in the non-government as dollars.
      Parse any balance sheet in the non-government…you will not find a single “reserves” entry.
      Reserves are an acoounting abstraction that exist outside of the non-government.

      “I would conclude that by issuing treasuries to the public, government is effectively telling people to not spend for a period of time”

      Why do you think those funds would otherwise be destined for spending?
      It’s not possible (mathematically) to spend a dollar of your savings until you have exhausted your income.
      I mean savings in the sense of liquid financial wealth that is currently held in any account, or your wallet, or your mattress or any check lying on your desk that hasn’t been cashed or deposited yet.…you get the picture.

      Until you spend you last dollar of income, any savings you think you spent is simply replaced by the income you didn’t spend. Net change = 0.

      • I am sorry; I do not see the relevance of your remarks to my comment about seigniorage. Bu commenting on your comment: I believe you confuse money and wealth. They are very different things and in fact basically the negatives of each other. Your money shows the wealth you do not have and your wealth shows the money you have divested yourself of to obtain the wealth……..assuming you did not swipe it . Seriously, I admit you can create wealth with your own labor too…and convert that wealth to money by sharing the wealth you create with others.

        • “Your money shows the wealth you do not have”

          No. Money is financial wealth.

          • Philippe, yes, the meaning of words and our basic beliefs and subconscious images of these words are all important, very important. In fact, very generally, what we believe establishes our reality, not the other way around. If you believe money is wealth like a beautiful parcel of land or a painting by a master or an elegant diamond then you will guard it and hold it, perhaps we can say hoard it. But if you believe like me that money is a commodity that enables people to live in a communal way, enjoying the products and services of others while they in turn work and supply the unique products or services their talents enable them to provide then you see money in a very different way and your reality changes. Money is not something to be hoarded but rather it is to be used and enjoyed. And we are not the first to debate the point. It is an old one. As a factual item I would suggest that essentially all money transactions (I speak of quantities of transactions, not quantities of money) are for just that purpose, people securing products/services produced by others. Idle money is abhorred in some cultures and we even speak of the velocity of money as a meaningful measure of economic status. The Muslims believe idle money should be taxed, 2.5% per year as I recall. I read that MMT views money as IOUs but I also see their fundamental view of government controlling the quantity in the economy, producing all that is needed and, I hope, controlling the distribution in the population via taxes, as supportive of my notion of the fundamental purpose of money.

            • “But if you believe like me that money is a commodity that enables people to live in a communal way, enjoying the products and services of others while they in turn work and supply the unique products or services their talents enable them to provide then you see money in a very different way and your reality changes.”

              No, you’re just using more words and being a bit vague. Technically, money is a form of financial wealth. It’s a financial asset, like a security. I’m not advocating hoarding it or fetishizing it or anything else.

              • Money is uniquely susceptible to having many tags or names because of the multiplicity of vantage points from which to view it. I can understand someone viewing it as wealth or as a security but it is very different from other forms of wealth and securities. Coming off the presses at the BEP it is definitely a commodity, tons of paper and ink being consumed to produce it. At the bottom line, it does not matter very much what users of money wish to call it but it is very important how those who manage and control it think of it. My point is that the managers of of the quantity and distribution of money in an economy will better serve the citizenry if they view and understand money as a tool that enables peaceful communal living.

        • @Charles Layne

          I’m pretty sure your comment was not wrt to mine, but I had to object to something you wrote…

          “The government as presently operating will borrow those funds when operating in a deficit mode and tax citizens to pay the interest on the loan, that tax at 5% being 6B$ per year. ”

          Properly stated this should read…

          “The government as presently operating will spend $4.1T when operating in a deficit mode and tax citizens only $3T, thus leaving the citizens with $1.1T of profits and savings.” Taxes don’t fund spending…never have…never will.

          Interest payments on the “debt” are created ex-nihilo and are a net gain for the citizens.

          Your parochial ideas re taxation and who pays what will be true on the day that total taxes paid over history exceed government spending over history.

          You are welcome to parse the data yourself at treasurydirect.gov and bea.gov…

          You will have a long wait before taxes ever exceed or even equal…spending.

          Deficits are what fund our savings…our accumulated financial wealth…and profits that accrue to retained earnings and distributions.

          Deficits are endogenous…it is the citizens that decide how big they may be by saving instead of spending all their income and by businesses by taking profits rather than taking losses.

          Good luck to the economy without that.

          • Paul, I appreciate your remarks. They make me think and that is good. Looking at your remark:
            “The government as presently operating will spend $4.1T when operating in a deficit mode and tax citizens only $3T, thus leaving the citizens with $1.1T of profits and savings.” Taxes don’t fund spending…never have…never will.”
            If the govt printed and spent the 1.1T$ into the economy I would agree with you but the govt has not done that since ..was it the early 60s? If the govt borrows that 1.1T from the economy and then spends it back into the economy I don’t see a “..$1.1T of profits and savings.” Granted someone owns $1.1T in govt bonds but that is not circulating in the economy.

            I like your notion of taxes not “funding” the govt. Taxes are an obvious tool to both control the money in circulation and control its distribution but the control of the amount in circulation is bequeathed to the Fed with their much weaker tools. Buying and selling bonds and fiddling with interest rates pale compared with the power to tax and print/mint money. I think a central bank is just the wrong entity to be charged with managing the money supply and maintaining full employment. It should be done by the govt with its tools, taxation and the BEP at the Treasury.

  7. The other day, Warren Mosler posted a picture of Krugman holding a copy of “The 7 Deadly Innocent Frauds of Economic Policy.” Maybe Krugman actually read the thing.

  8. What we really need is what the Republicans under Hoover created in 1930; the RFC. It became the biggest bank in the world and financed the build up of the US economy to win WWII. The banks finally got the RFC closed in the 50s. If it were “rebirthed” it would turn around our economy in very short order. And it would not create inflation if it used, as before, “lawful money” that cannot be used as reserves by banks and hence cannot be multiplied by the fractional reserve factor. Additionally, the money an RFC would spend into the economy would be “good” money because it would not have to be paid back at interest.

    • Potomac Oracle

      http://goo.gl/8KZEze Here’s an equally acceptable alternative.

    • Chauncey Gardiner

      This is in response to Charles Layne’s comment. Charles, I find your RFC proposal is intriguing. I believe QE is not the functional equivalent of MMT for at least a couple of reasons. These relate to the presumed distribution of government-created money under MMT being directed to recipients according to explicit policies set by the People’s elected representatives vs. Fed-created money, which is distributed through the Primary Dealers, the fractional reserve banking system, and the shadow banking system as intermediaries.

      I believe both government Austerity policies and QE-ZIRP are being driven in large part by the dual unstated political objectives of enabling the Primary Dealers (two-thirds of whom are foreign owned) and their shareholders to recover their enormous losses from the Great Financial Collapse of 2007-2008 and to concentrate wealth in the hands of a few who are politically favored. Whether these two goals have now been largely accomplished in the eyes of their proponents and beneficiaries is unclear.

    • Charles

      “lawful money” that cannot be used as reserves by banks”

      What does that mean?

      • Lawful money: “Any form of currency issued by the United States Treasury and not the Federal Reserve System, including gold and silver coins, Treasury notes, and Treasury …”
        Quote from: http://www.investopedia.com/terms/l/lawfulmoney.asp‎

        • Regardless of what ‘Investopedia’ says, Federal Reserve notes are also legally recognized as ‘lawful money’.

          You said: “lawful money” that cannot be used as reserves by banks and hence cannot be multiplied by the fractional reserve factor”.

          But currency issued by the Treasury is and always was used as reserves by banks, to ‘fractionally back’ deposits. So your statement makes no sense.

          • My reading on the subject is that all money issued by Treasury directly is issued under the terms of the 1862 legal tender act that enabled the issuing of “Greenbacks” under Lincoln and that act specifically forbids the money from being used as reserves and is identified as an “inelastic” money in contrast to elastic money used in fractional reserve expansion of the money supply. I confess I have not read the act directly, only read the description of others of the act.

            • Yes, Lincoln issued the original greenbacks in 1862-1863, in 3 series totaling $450 million. There is a long Senate transcript related to that here: fraser.stlouisfed.org/publications/1869histlegaltender/issue/4630/download/71142/historyoflegaltender.pdf. It was controversial, even at the time, and became more so after the Civil War, but in a series of legal tender cases, SCOTUS eventually upheld in the famous Julliard v. Greenman (1884) 8-1 which affirmed the government’s right to “coin Money” as it says in the constitution’s Art. 1, Sec. 8, clause 5.
              United States Notes were produced continuously through 1996 – 14 series in all – albeit in increasingly irrelevant amounts of $351m.
              It’s true – they were specifically excluded from being allowed to pay the national debt from the beginning. However, they can be used to pay everything else (the constitutionality of excluding legal tender to pay national debts has never been challenged, but it could be).
              At least 2 attempts were made to introduce U.S. Notes back into circulation since 1996 were made, one by Ray LaHood, Obama’s former Transportation Secretary, then Congressman, and one in a more comprehensive reform bill from Dennis Kucinich – HR2990.
              U.S. Notes can be introduced anytime, in any amount, to pay for whatever government wants. This would be debt/interest-free Sovereign money. The closest thing we have to that now is coins and in a more limited way, stamps. We can’t run out of those either.

              • Thanks for the details, Scott but I have read the issue of the red serial number treasury notes was stopped in the early 60s and the on hand cache held by the treasury was destroyed. It is not clear to me who can restart the issuance of the treasury notes. Can it be done by executive order or only via congressional action?

                • Actually, the last series was in 1973, and Treasury didn’t burn their remaining stash (without even crediting the Government account!) of $250m until 1996.
                  At least 2 Congressional bills were introduced since then to restart production of U.S. Notes – HR1452 (from then-congressman Ray LaHood, 1999, reintroduced in 2003-04 as HR4371) and HR2990 (Kucinich).
                  I further argue here that the president could, under very special circumstances of avoiding default on the debt – which I also argue is doubly unconstitutional, under Article 6 and under the 14th Amendment – have Treasury issue U.S. Notes to pay everything BUT the debt, leaving FRNs to pay the debt.
                  http://www.opednews.com/articles/Debt-No-More-How-Obama-ca-by-Scott-Baker-Banks_Constitution-In-Crisis_Constitution-The_Constitutional-Amendments-131018-391.html

                  Of course, we would need a president with some backbone to do this, but this president is no Lincoln.

                  • I totally agree with your views on the issue and in fact hoped he would do it if pushed in the debate about defaulting. It is an obvious recourse but you are correct too, I think, with your observation:
                    “Of course, we would need a president with some backbone to do this, but this president is no Lincoln.”

            • I just read the legal tender act of 1862 and it does not say anywhere that US notes can’t be used as bank reserves. Nor does it identify US notes as “inelastic” money.

              See for yourself, it’s quite short:

              http://memory.loc.gov/cgi-bin/ampage?collId=llsl&fileName=012/llsl012.db&recNum=376

              • It does say that “…such (U.S.) notes herein authorized shall be receivable in payment of all taxes, internal duties, excises, debts, and demand of every kind due to the United States, except duties on imports, and of all claims and demands against the United States of every kind whatsoever, except for interest upon bonds and notes, which shall be paid in coin, and shall also be lawful money and legal tender in payment of all debts, public and private, within the United States, except duties on imports and interest as aforesaid.”
                So, it does seem, as a practical matter, that it would be hard to put U.S. Notes into bank reserves.
                However, I personally see this a feature, not a bug, because it leaves this kind of money free to be spent into the real economy, not endless pumping up bank reserves, as QE is doing, which has little if any effect on the real economy, and even has a bad effect of inflating asset bubbles.

                • Scott,

                  “So, it does seem, as a practical matter, that it would be hard to put U.S. Notes into bank reserves.”

                  No, there is nothing in the part you quote which says that US Notes could not be used as bank reserves.

                  Bank reserves are simply money – either physical currency (paper notes or coin) that banks hold in their vaults or deposits they hold at the central bank, which are basically just cash in electronic form.

                  All it would take for US Notes to be used as bank reserves is for someone to deposit US Notes at their bank, or for a bank to buy US Notes from the government (either directly from the Treasury or through the Fed).

                  There is nothing magical or mysterious about bank reserves. Coins issued by the Treasury are counted as part of bank reserves, i.e. as part of the currency that banks hold in their vaults for customer withdrawals.

                • “not endless pumping up bank reserves, as QE is doing, which has little if any effect on the real economy”

                  When the Fed buys assets from the private sector this inevitably increases bank reserves.

                  If you owned a government bond, and then the Fed bought it from you by sending you physical currency (federal reserve notes) in the mail, what would you do with the currency? You would deposit it at your bank, and your bank’s reserves would increase.

                  This is what happens when the Fed does QE, except that it doesn’t send out physical currency in envelopes, and instead does it electronically.

                  The Fed buys assets (bonds and MBS) from the primary dealers, which in turn buy those assets from the rest of the market. Instead of paying the primary dealers with physical currency, it credits their bank’s reserve account.

                  A reserve account is just a deposit account held at the central bank. In the same way that we hold deposit accounts at our banks, so those banks have deposit accounts at the central bank. A deposit at the central bank is exactly like physical currency (federal reserve notes, coins), only in electronic form (i.e. it’s just an entry on the Fed’s electronic ledger or accounting system).

                  The reason why QE money generally “isn’t getting out into the real economy” is because the people selling assets to the Fed (either directly or via the primary dealers) mostly aren’t spending the money (that they get for the assets) on goods and services in the real economy. Instead they are either just sitting on the money (mainly in the form of bank deposits), or using it to buy other assets, such as stocks.

                  Unlike fiscal policy, QE doesn’t directly increase the amount of assets held by the private sector. It just changes the type of assets held by the private sector. Monetarists believe that by changing the types of assets held by the private sector you can get people to spend and invest more in the real economy. However, at present that theory isn’t really working.

                  • It isn’t working because the “me (seller)” you refer to as selling bonds is really just the Fed, and the “buyer” is just the bank (reserves). Banks use reserves to lend to each other, not to make loans, which go into the economy.
                    Greenbackers like me bypass these problems by advocating direct fiscal spending, without bank involvement at all, except as the temporary holder of funds (or electronic up notations in accounts, really) that are already allocated for spending in the public sector, so there is no danger of them “going into stocks” and other asset bubbles.

                  • My first take on QE was that it was just another term for open market operations but it is not. First, it is the purchase of commercial instruments, not national debt. Second, open market operations do target the money supply and apparently QE targeted bank balance sheets that were in descent from the rule to report non-monetary assets at market value and the market value of those securitized stocks held by banks was zip. So apparently QE was very different, giving banks a sigh of relief and keeping their doors open as opposed to doing anything for the economy.

                  • financial matters

                    “”Unlike fiscal policy, QE doesn’t directly increase the amount of assets held by the private sector. It just changes the type of assets held by the private sector. Monetarists believe that by changing the types of assets held by the private sector you can get people to spend and invest more in the real economy.””

                    I think this holds when talking about Treasuries vs federal reserve notes (USD) but not so clearly when talking about MBS. With MBS you are exchanging what should be an asset based on due diligence of loan officers to measure risk for the high powered currency of the sovereign.

                    And it could get much worse… http://online.wsj.com/news/articles/SB10001424052702303330204579250582491040034

                    Fed Moves Toward New Tool for Setting Rates
                    ‘Reverse Repo’ Program Could Be Critical to Fending Off Inflation

                  • Scott, I think you’re getting things a bit mixed up.

                    If the Fed were to buy a government bond directly from you as part of its QE program, your bank account balance would increase and your bank’s reserves would increase.

                    This is what happens when the Fed does QE. Insurance companies, broker-dealers and hedge funds, for example, sell government bonds to the primary dealers, which then sell them to the Fed. The end result is an increase in both bank reserves and bank deposits.

                    Say you had savings in the form of a government bond, and then the Fed bought your bond as part of QE, so that you then had a bank deposit instead of a bond. Would this suddenly make you want to go out and spend all your savings on goods and services? No. You will not suddenly decide to spend all your savings on goods and services because your savings are held in the form of money rather than in the form of a government bond. What you are more likely to do is either hold onto the bank deposit (which might earn some interest) or buy some other sort of asset, like stocks.

                    QE simply changes the composition of people’s financial assets, so leads mainly to a reallocation of savings rather than to an increase in spending on goods and services.

                    Fiscal policy, on the other hand, can put money directly into the pockets of people who need it, increasing their financial wealth. They would then spend this money on goods and services.

                    The power of fiscal policy compared to monetary policy (QE) has nothing to do with ‘bypassing bank reserves’.

                  • My point was that it is mainly institutions who are buying and selling Treasuries – some foreign, in fact. Those folks are not looking to spend into our economy, no matter what they own. They are asset speculators.
                    My other point about fiscal spending was to bypass banks, not just their reserves, and put money directly into the economy, as you suggest. Greenback dollars direct from Treasury, as guided by Congress, would do that far better than anything coming out of the Fed.

              • I interpret the statement in the bill that the total in circulation shall never exceed the sum of 150 million as a statement on inelasticity. These points were argued and additional explanations added over the years. I’ll go back and review my sources where I read that the treasury notes with the red serial numbers could not be used as reserves. Thanks for the link to the act.

                • “I interpret the statement in the bill that the total in circulation shall never exceed the sum of 150 million as a statement on inelasticity.”

                  The total amount issued may be fixed, but that doesn’t mean that banks couldn’t use them as ‘fractional’ reserves for deposits. After all, banks used silver and gold coin as ‘fractional’ reserves for deposits before government-issued paper currency.

  9. I seem to recall reading somewhere that one way the Fed can make certain that Treasury auctions always sell out at the price it wants is by making deposits in the big banks the day before so that the banks find themselves with surplus reserves on the day of the auction.

  10. Potomac Oracle

    reserverporto

    U got it absolutely ryte.

    The house always wins.

    After all its a “fiat” currency casino.

  11. Scott,

    Assuming the Fed continues in future to raise and lower the Fed Funds rate in an attempt to control inflation, wouldn’t it be more expensive (for the government) for it to do so via IOR, rather than by buying and selling government bonds as it has done in the past?

    Controlling the Fed Funds rate via IOR essentially means that the entire government debt held by the Fed pays the IOR rate. If the Fed raises the IOR rate, this means the government then pays a higher rate of interest on all of the debt held by the Fed, and not just on new debt issues.

    If the entire government debt was held by the Fed, each time the Fed raised the IOR rate, the interest paid by the government on the entirety of its outstanding debt would increase. Prior to IOR this was not the case – the government would only pay the higher interest rate on new bond issues, whilst previously issued bonds would continue to pay whatever interest rate was determined when they were originally sold.

    • When the Fed holds Treasury debt, the rate of interest doesn’t matter. All the interest paid by the treasury becomes the Fed’s profit which is credited right back to the treasury. If the debt were held as an overdraft instead of T-Bills, the Fed can even stop bothering about collecting interest (increasing the overdraft) and crediting it back (decreasing the overdraft), since it knows there won’t be a change in the total balance.

      • GRP,

        “All the interest paid by the treasury becomes the Fed’s profit which is credited right back to the treasury”

        No, the Fed currently pays some of that interest out to banks as interest on reserves. The Fed currently remits as much as it does to the Treasury because the IOR rate is very low. If the Fed raises the IOR rate, more of that interest will be paid out to the banks and less will be remitted to the Treasury.

        If the Fed raises the IOR to a level at which it ends up paying out more interest on reserves than it receives in interest on the Treasury bonds it holds, it will either go into negative capital or the Treasury will re-capitalize it by giving it more bonds directly.

    • Scott Fullwiler

      Yes, having all national debt earning IOR would make debt service more responsive to changes in the target rate. The central bank can offer longer-term CDs, repos, or sell its own securities (as they do in some countries) if that’s a problem. Strategically, it makes more sense to have the central bank make that choice since it is the one setting rates and also the one that has to be concerned about the affects of debt service perverting its interest rate policy. And that has the added benefit of making it all the more clear that the treasury doesn’t need to issue debt to finance itself since obviously the central bank doesn’t need to finance itself.

  12. “This all confirms Krugman’s point – there is no meaningful difference between what the government is doing today (case 1) and what Market Monetarists are urging it to do via helicopter financing via direct money creation (case 2). As Krugman says, “the results are the same.””

    I think David Beckworth is the only ‘market monetarist’ who has advocated increased ‘money-financed deficit spending. The others think everything can be achieved through monetary policy with no expansionary fiscal component.

  13. It’s all old new, nothing to worry about here. Ya think?

  14. Dear Joe

    Thank you for your most helpful reply. I will do the reading you suggest.

    Next question: how can we make the measures MMT suggests happen?
    Or to be more practical, how can we make those measures to be in the self-interest of the politicians and
    capitalists who trade for their own profit?

    Many thanks!
    As ever
    Bob

  15. The above article says, “there is no reason for the government to sell bonds at all. We can stop today.” I agree, plus I’m fairly sure that would be a good move. But there’s a problem in doing that: it’s not insuperable. But it needs thinking thru. The problem is thus.

    The above system would be the end of monetary policy, interest rate adjustments in particular. And that implies that AD is adjusted just via fiscal policy. Or to be more accurate, stimulus when needed would be effected simply by the government / central bank machine printing and spending new money (and/or cutting taxes). And the latter policy contains an element of monetary policy since implementing stimulus that way increases the monetary base. So the latter method of effecting stimulus is really a combination of monetary and fiscal policy.

    But if stimulus is to be effected that way, we would not be able to sit around for months or years waiting for politicians to have their say on exactly what types of public spending should be increased, or which taxes should be cut.

    There’s actually a very simple solution to the latter problem, and it’s set out at the link below (pp.10-11). Incidentally that work advocates full reserve banking, but that’s irrelevant: the system the authors advocate would work perfectly well under fractional reserve banking.

    http://www.positivemoney.org.uk/wp-content/uploads/2010/11/NEF-Southampton-Positive-Money-ICB-Submission.pdf

    • Scott Fullwiler

      Interest rate adjustments can still occur via changes to IOR, since IOR will be equal to the target rate. Not that I’m proposing that.

  16. Correction:
    ” Only if government, under consolidated CB and Treasury accounting, would entrust all Treasury bond to private hands, would we conclude that Table 3 would be correct.”

    should read:

    “Only if government, under consolidated CB and Treasury accounting, would entrust all Treasury Bond accounting to private holders, would we conclude that Table 3 would be correct.”

  17. there is no exit

    the difference is that the Fed buys assets from the 0.01%. The treasury has leeway whether to spend it on guns, butter or both.

    asshole economists think proving equality is so easy.

  18. Another point, when the act was passed in 1862 I think gold and speci were the only accepted reserves so the issue was immaterial at that time. It became an issue in later years and I believe what happened was that the requirement that the currency be “inelastic” was then interpreted to mean it could not be used as reserves.