A Fallacy of Composition

By J.D. Alt

The commentary on one my recent posts included the following statement: “It’s a fallacy of composition to imagine that what we can’t afford individually is affordable collectively.”

I cannot get this sentence out of my mind. It seems to pinpoint a central cognitive dissonance that enshrouds our thinking about money. The common-sense logic of the phrase seems to say, at first glance, that if each citizen of a nation cannot afford to pay for, say, a road from village A to village B, then collectively they cannot afford to pay for it either. However, if they pooled their money, with each citizen putting in a little bit, it seems clear they might be able to collectively cover the cost. So the person who wrote the comment cannot have intended to mean what, at first glance, the sentence seems to say. They must have meant something deeper.

What they meant to infer, I believe, is that—at any given point in time—the sum of all the citizen’s individual holdings of Dollars is a fixed amount, and if this summation of their individual capital is not enough to build the road, then it is a fallacy to believe the road can be built. Thomas Pikkety, in his new block-buster book Capital seems to promote this same idea: public debt, he teaches us, is what the state can borrow from the citizens. By inference, the state cannot borrow more than what the citizens have. It is therefore logically impossible for the citizens collectively—in the form of the state—to spend more than they have, in aggregate, as individuals. This logic permeates our culture and helps us calculate what we can and cannot  do as a collective society.

There is another possibility, however, for understanding how the road from village A to village B can be built. Assuming the road-building materials and tools are available somewhere close to the villages—the gravels and shovels and rakes—and assuming the labor needed to build the road is available as well, and further assuming the citizens want a road to connect village A and village B, it then becomes clear the only thing needed to make the road happen is enough DOLLARS to buy the materials, rent the tools, and pay the labor.

Given the situation just described, it is absurd on its face to visualize the road-building materials lined up in piles along the intended route, the tools laid out upon the ground in front of the men and women who want to provide their labor—and imagine the work cannot proceed for lack of Dollars. Here we are, ready to go, but all we can do is sit on the ground and WAIT for someone to find the Dollars to pay us. Ho-hum. And if we don’t find the Dollars pretty soon, the labor will just wander away and climb back in the trees where it came from.

But this is, if we could only see it, the very reason Dollars were invented—so we DON’T have to wait.

What do I mean by that? I mean this: it is nonsensical to imagine that the number of Dollars available is what determines what people can accomplish. Instead it is what people can accomplish that determines how many Dollars exist. This is the essential dynamic of Modern Money systems. Modern Money is the unique social invention that enables nations of people—so long as the real resources and citizen’s labor are available̶—to collectively build national goods and services. It has nothing whatsoever to do with the amount of capital the individuals of the society possess at any given point in time (in spite of what Thomas Pikkety tells us.) It has everything to do with what people collectively decide needs to be done, and what real resources are actually available to do it with.

How can this possibly be? How, operationally, can the potential accomplishments of people determine how many Dollars are available to pay them to actually implement those accomplishments? In a nutshell, the answer has four parts:

1. The people decide to form a nation and become its citizens, agreeing to abide by the rules they, the citizens, collectively impose on themselves as a nation.

2. The nation (the collective form of the citizens) establishes a Central Bank and a Treasury—and then simultaneously does two things: (a) it issues a national currency (money created by fiat, or “fiat money”) and (b) it imposes a tax on the citizens which can ONLY be paid with the national currency.

3. Having agreed to abide by the rules (which now include paying taxes) the citizens become willing to provide the nation (the collective form of the citizens themselves) with goods and services in exchange for the fiat money they need in order to pay their taxes. Subsequently, the citizens use that same fiat money as the means of measuring the value of goods and services produced and exchanged privately amongst themselves as well—(i.e. the fiat money becomes the unit of exchange in the nation’s private economy.)

4. The nation’s Central Bank and Treasury now have the task of continuing to issue the national currency—and collecting it back in taxes—in quantities as needed to match the actual potential and need the citizens have for producing goods and services. If the citizens have an actual need and potential for production for which there is not enough currency, the Central Bank and Treasury will simply issue and spend the required currency into existence by purchasing the goods and services, or otherwise causing them to be purchased. If the citizens have too much currency relative to what they are actually capable of producing (rising prices) the Treasury will increase the currency it collects back in taxes, re-establishing the balance.

Recently there was a piece on the PBS News Hour illustrating the dramatic and dire need for us, as a collective nation, to begin understanding Modern Money as quickly as we possibly can.

The news piece was about a new wonder drug which has been proven to cure hepatitis C—a devastating and, ultimately, deadly viral infection. The “news”, however, was not about the drug being proven 100% effective, but rather about the fact that we can’t afford it. The PBS piece did the math: the drug that cures the infection costs $1,000 per pill, taken for 120 days = $120,000 per cure times an estimated 5 million Americans currently infected with the virus. Framed this way, the question posed is: how can we come up with $600 million Dollars to cure the folks who have just this one disease? The implied message was clear: there simply aren’t enough Dollars to pay for all the pills. Obviously, the real resources exist to produce the pills (since they are, in fact, being produced) but there aren’t enough Dollars to buy the number of pills we need. So the pill manufacturer—just like the villagers sitting beside their tools and road-building materials waiting for Dollars—the pill manufacturer is sitting beside his pill-making machine waiting for Dollars that, according to the commentators on PBS, are going to be virtually impossible to find.

Big numbers, apparently, frighten us. We couldn’t possibly get our hands on the giga-billion Dollars necessary to buy all the wonder drugs that are rapidly becoming technically feasible. But this is the real fallacy of composition—the cognitive dissonance that prevents us from rationally understanding and managing the most fundamental aspect of our socio-economic contract: MODERN MONEY. The big numbers we should be frightened of are the millions of American citizens who are under-nourished, under-housed, under-educated, and under-cared for—and the massive number of our citizens who are sitting idle beside stacks of available materials and arrays of available tools while uncounted lists of useful things need to be accomplished. Those big numbers mean the thing we thought we were creating when we agreed to form “a more perfect union” is beginning to fail.