By J.D. ALT
I recently read in the WSJ that Modern Monetary Theory is defined as the proposition that the federal government can borrow as much money as it needs so long as the interest rate it pays is less than the growth rate of the GDP. The short article, by Desmond Lachman, went on to argue why this was a dangerously false premise. Thus, MMT got shot with two bullets in one paragraph: first by defining it in a way that negates its most fundamental principle (that the federal government doesn’t need to “borrow” fiat currency in order to spend fiat currency), and second, by declaring MMT to be not only false, but dangerous.
It’s remarkable how stubbornly tenacious mainstream economic thinking is about misunderstanding and fearing MMT. The fundamental belief that refuses to be shaken is that for a sovereign government to spend, it must first claim—either through taxation or borrowing—some portion of the profits of private commerce. This immediately sets in motion complex calculations about what percentage of those profits can be claimed for government spending before the profit-making capabilities of private commerce, itself, are harmed (because the capital that would otherwise be used for expansion, is being appropriated for government spending). When that point is reached, the calculations insistently predict, private commerce will cease to grow—perhaps even shrink—which perversely will then reduce the amount of currency available for the government to claim a portion of; if, under those circumstances, the government continues nevertheless to increase its spending (by insistently increasing its taxing or borrowing), private commerce will be driven to shrink even further, setting in motion a disastrous downward spiral. The calculations, in other words, are structured to demonstrate that government spending per se strangles the goose that lays the eggs—and, therefore, it is rational to argue that government spending should be limited, and specifically that it should not exceed some calculated percentage of GDP (which, of course, in most calculations of this sort, it already does)!
Why is it so difficult for MMT to get itself properly understood—and, once understood, to get itself over the hump of this narrative calculation? Part of the problem was revealed to me on New Year’s Day at McGarvey’s Saloon at City Dock in Annapolis when a neighbor—who is a retired banker, sharp as they come, and who understands quite well what fiat money is—said to me, “Yes, yes, that’s all well and good, but the fact is the federal government does not own the Federal Reserve. It is owned by the private banking industry.”
Whether or not he was technically correct (and the reality of it is so ambiguous that arguing the point on one side or the other is futile) what he meant, of course, is that it is meaningless for MMT to argue that the sovereign U.S. government creates U.S. dollars by fiat and then spends them into the private economy—because it is the Federal Reserve, in fact, that creates U.S. fiat dollars, and it does so only to service the needs of private commerce. The Federal Reserve cannot, by law, create U.S. fiat dollars for government spending. It can create them, as necessary, to maintain the liquidity of the reserve banking system—which generates the loans that support the profit-making enterprise of private commerce—but it cannot create fiat dollars and deposit them in the U.S. Treasury’s spending account. Therefore, the fundamental belief that cannot be shaken (as described above) is unshakable because it is, apparently, based in reality: Operationally, it seems, the sovereign federal government really does have to claim—through taxation or borrowing—some portion of the profits of private commerce (fiat dollars created by the Federal Reserve) in order to have dollars to spend.
MMT therefore is made difficult not because it must disprove a false “truth,” but because the “truth” which it is trying to replace cannot seem to be disproved so long as one accepts words to have their conventional meanings. This dilemma is often brought to light with the question: if the Central Bank and the Treasury are really two components of the same sovereign entity, why are they not set up that way? If the Federal Reserve can create sovereign fiat dollars at will, why limit this ability only to the meet the “demands” of the operations of the reserve banking system in support of private commerce? Why is it not structured to also enable the Federal Reserve to create fiat dollars as “demanded” by the spending needs of the federal government in support of the collective good—as is implicitly (and often explicitly) suggested by the advocates of MMT?
Again, the answer most likely lies in my neighbor’s perspective: because the banks—despite the fact they grudgingly allowed themselves to be “regulated” by a federal agency— “own” the banking system. And being “owners,” they have a natural prerogative to guard against what they fear most, which is dilution of the value of the fiat currency they use: i.e. that they might loan out dollars that have one value, and then be repaid with dollars having a lower value. In other words, inflation. Fiat dollars created in support of private commerce, the thinking must go, will not produce inflation because the money supply increases commensurate with the production of the goods and services private commerce produces for people to buy. More dollars = more goods and services, therefore the value of the dollars relative to the goods and services to be purchased remains more or less constant. (A good argument, but not a proven explanation of the dynamics of inflation.)
On the other hand, fiat dollars created directly for government spending (the argument continues) would not typically create more goods and services for people to buy; instead, after the government spends them (for example, to make a welfare payment) they simply increase the number of fiat dollars competing for the existing goods and services produced by private commerce. In other words, creating fiat dollars for the purpose of government spending inevitably must dilute the value of the currency—and the banks will realize their greatest fear: getting repaid with dollars less valuable than what they loaned out. Therefore, the banking industry, from the very beginning, when the Federal Reserve system was created, made sure it was structured so this could not happen; i.e. the federal government, if it is short on spending money, is required to issue treasury bonds to make up the short-fall—an operation which became known by the pejorative term “deficit spending.”
Given the context of this understanding, it seems perfectly reasonable that mainstream economic thinking (which is primarily the thinking of the banking and financial industries) clings so tightly to the unshakable belief that a sovereign government, in order to spend, must first claim, through taxation or borrowing, a portion of the profits of private commerce—as well as all the other “rational” axioms that build upon that belief:
- That to avoid the appropriation of too much capital from private commerce, government taxing and borrowing must be limited to some small percentage of GDP;
- That limited government is, therefore, implicitly desirable—and expanded government implicitly to be feared as endangering the profits of private commerce;
- That to keep government limited, social welfare and safety net services should primarily be the responsibility of voluntary private charity and philanthropy rather than federal spending;
- That any federal regulation hindering the ability of private commerce to generate profits hurts the collective good, because hindering profits ultimately hinders the profit-share the collective good can claim or borrow;
- Any kind of federal welfare payments are inherently inflationary because they give people money to spend without producing anything for them to spend the money on;
- etc.
Is there a chink in the armor of this narrative that might give MMT an opening? Is there a seed of misunderstanding in the “truth” that it presents? The place to look, I think, is the fundamental notion that federal spending absorbs and threatens the availability of capital for private commerce. If that is true, then it is, indeed, reasonable that federal spending should be curtailed and limited—which means it is reasonable that the activities and responsibilities of the federal government, itself, should be curtailed and limited. If it is not true, however, a completely different rationale is required to argue that the sovereign government’s efforts, responsibilities, and spending on behalf of the collective good of its citizens, should be limited.
In other words, to look from a slightly different angle, is it possible for the sovereign government’s spending, in the interest of the collective good, to expand by orders-of-magnitude beyond current spending—without increasing rates of taxation or diluting the value of the currency—while private commerce remains fully and happily capitalized to pursue its profit-making enterprises?
MMT answers “yes.” The key to this answer lies in seeing a flaw in the conventional “truth” of treasury bonds, the reality of what treasury bonds legally represent and, consequently, the value and usefulness they have in the operations of private commerce.
To uncover the flaw, begin with the question: why would a private bank (or anybody else in private commerce) trade real, genuine, “spendable” sovereign fiat dollars for a treasury bond representing fiat dollars that can’t actually be “spent” for, say, ten years? Does the U.S. Treasury coerce the purchase of its bonds? In fact, banks and big spenders and players in private commerce pretty much line up to trade their fiat dollars for the Treasury’s bonds like cattle line up at a hay-trough. Why? Hunger—not for the crunch of hay, but for safe, guaranteed, no-work-required profits. Safe, guaranteed, no-work-required profits are not something easily found in the world of private commerce. They are much appreciated and sought after, however, because the biggest headache in private commerce, if the truth be told, is figuring out what to profitably do with profits. There is a staggering amount of profit in private commerce that hasn’t figured out what to do next. If it does nothing, it simply shrinks due to “background” inflation. If it rushes to invest itself recklessly, without the concerted and creative efforts required by successful private enterprise, it risks being lost completely. Thus, the U.S. treasury bond is a godsend for private commerce: the players trade their excess capital (sovereign fiat dollars) for the interest-bearing treasury bonds and make a profit without having to creatively exercise their brains or worry about anything at all—except, perhaps, whether the United States is going to collapse as a sovereign government.
What makes the treasury bond even more magical, however, is that if, say, a big opportunity comes along to invest real sovereign fiat dollars in a killer profit-making venture—no problema! The secondary market for U.S. treasury bonds—other folks who can’t imagine, right now, what to do with their private commerce profits—provides instantaneous liquidity: the treasury bond can be traded for the real sovereign fiat dollars needed to make the killer investment.
Given this transparent and virtually seamless interchangeability between U.S. fiat dollars and U.S. treasury bonds, it is clear the treasury bond represents something fundamentally different than the government’s “borrowing” of dollars from private commerce. The fiat dollars supposedly “borrowed” are, in fact, replaced with another kind of fiat dollar represented by the treasury bond. Therefore, it is INCORRECT to imagine or say that the issuing of treasury bonds subtracts capital from private commerce. In fact, the opposite occurs: first, the fiat dollars represented by the bonds are greater than the fiat dollars private commerce traded for the bonds (because the bonds are interest-bearing); second, when the federal government subsequently spends the fiat dollars it received in trade, they are spent back into the market of private commerce. The net result of the entire operation, therefore, is that private commerce now has substantially more capital available to invest than it had before the trade.
The conventional meaning of the term “borrow”—as applied to the U.S. Treasury’s operation of issuing treasury bonds—then, is the seed of misunderstanding that lies at the heart of MMT’s dilemma. Correcting the misunderstanding should make it possible for MMT’s logic not only to be accepted, but for that logic to prevail in future dialogs about what the federal government can undertake to accomplish—and pay for—in the collective interests of society:
- U.S. fiat dollars are promissory notes for federal tax credits—of which the federal government has an infinite supply (and for which there is infinite demand)—so long as U.S. citizens and businesses are required by law to pay federal taxes.
- The federal government does not “borrow” fiat dollars from private commerce; it trades new fiat dollars, issued by the U.S. treasury in the form of treasury bonds, for existing fiat dollars in the private market (created by the Federal Reserve); the government then spends the fiat-dollars it has traded for back into private commerce.
- What is called “federal government borrowing,” in the lexicon of mainstream “truth,” is actually and operationally the issuing of new fiat dollars by the U.S. treasury—and these new fiat dollars are what, operationally, enable the government to purchase goods and services for the collective benefit of society.
- “Deficit spending” by the federal government, therefore, does not increase something called the “national debt” because the holders of treasury bonds already “have their money.” (This is why no one is knocking on the federal government’s door asking for the “national debt” to be repaid.)
- Federal spending, therefore, does not require the government to claim a portion of the profits of private commerce; and increasing federal spending, therefore, does not require increasing that claim—either through taxing or “borrowing.”
- Federal spending, through the issuing of treasury bonds, in fact results not only in the creation of useful public goods and services, but in the expansion of capital in the private markets.
It is therefore possible to understand that fiat money creation by the sovereign government has two sources—the Federal Reserve, which creates fiat dollars as necessary to meet the liquidity demands of private commerce, and the U.S. treasury, which creates fiat dollars (in the form of treasury bonds) to meet the demands of federal spending beyond what can be covered by tax collections.
J.D.
I think the exposition is perfect until the very last sentence, where you write that *some* federal spending (at least) is “covered by tax collections”. I know what you mean, but I fear that most people won’t. And I have come to believe that MMT’s biggest immediate challenge is to expound that the sole meaning of “tax” (as a verb) is “destroy existing money”. Its sole meaning as a noun is specifying “which money was destroyed.”
We should continue to insist, apropos of Margaret Thatcher, that there is simply no such thing as “tax money”. There is only public money – which the federal government has created by fiat spending – and bank money (which the federal government has licensed to be created temporarily through loans). “Tax money,” in the sense of it’s being a pile of money that is present in some place because it was taken away from somebody, is an obsolete concept – an oxymoron, even. The essence of taxation is that it makes somebody’s money *disappear into thin air* in a symmetrically opposite process from its having been created “out of thin air,” i.e., by fiat spending.
Insisting on this formulation frames our further empirical case that the sole economic purpose of taxation is to regulate demand in the economy, including the question of whose spending needs to be curtailed in the public interest. This does not always or automatically lead to progressive conclusions. If the ultra-rich already own everything they wish to own (except more money), then it is not obviously necessary to tax them more – because they aren’t making excessive demands on real resources. John Maynard Keynes thought that we should leave them alone and then confiscate most of their winnings when they die.
There are other good reasons to tax the rich, but they are political reasons, not economic ones. Chief among these is our just desire to remove (or at least reduce) the power of money over our electoral and governmental systems. But it detracts from our case when we dilute this message with muddled thinking about how to calculate what someone’s “fair share” of taxes might be. This even appears in @AOC’s genuinely delightful proposal to raise the marginal tax rate to 70%, when (for example) she cites tax receipts and “deficit spending” as two alternative ways to “pay for” things. Taxes never pay for anything. Taxes create not money but its absence – the negation of money. The capacity of the federal government to spend one more dollar is never, ever increased because a dollar was taxed back somewhere else in the economy.
Again, overall, and in every way, this is brilliant J.D. Just can’t help grinding my current axe.
Cheers
Yes! As usual, this is a clear explanation of a frequently misunderstood topic.
Here is a potential companion piece on the subject of Treasury bonds as a form of money (as opposed to debt): The Socrates Show, with guest Pete Peterson
Is there a real need for two creators of fiat dollars ..the treasury and the fed?
If someone has a 10 year treasury bond that they want to sell early, there is some risk (almost a certainty) of taking a loss on the sale. If the investment opportunity is good enough, it is worth taking a loss to free up the cash for investment. However actual spendable cash incurs no loss to turn it into actual spendable cash. So a treasury bond is not just another form of fiat currency exactly. The difference between the bond and actual currency is significant. Why do some MMT proponents tend to gloss over things that really matter?
It seems to me that the arguments against MMT, as explained in this post, are entirely circular and, therefore, refute themselves in their very expression. Because the federal government has put rules in place that link the creation of dollars to debt, it is contended, by these MMT opponents, that those self-created rules now prevent the government from changing the rules in order to de-link (at least some) dollars and debt. Given that the essence of government is to make and unmake rules, I cannot help but ask: Am I missing something? Are we overthinking thoughtless arguments and inadvertently bootstrapping their legitimacy, by attempting to circumvent them instead of laughing at them?
Dear J. D. Alt
I’m no doubt missing a beat here. Aren’t government bonds used to take dollars out of the economy, e.g., in wartime, in order to prevent inflation? Or is it simply that “treasury bonds” excludes savings bonds?
Nat,
Treasury bonds are the most liquid assets in the world, other than cash. They can always be exchanged for dollars at a moments notice. Also, they are the gold standard in collateral for loans. So you’re not really taking money out of the economy when you sell government bonds.
I think that what you’re describing is a common misconception.
Thanks for your reply.
What I had in mind is that in contrast to “treasury bonds,” by which Mr. Alt may mean only *negotiable* Government bonds, savings bonds are *non-negotiable*. (So too were WWII war bonds.) Therefore, if I follow the argument, the author’s view is that the former add money to the economy (the latter remove it).
Nat,
Treasury bond sales drain reserves out of the banking system, and put upward pressure on the interbank interest rates on reserves (the “Fed Funds rate”). Interest rate manipulation (monetary policy) is their real purpose. The idea behind monetary policy is that increased interest rates on reserves will slow the economy and control inflation.
I tried to look up what percentage of Treasury securities are non-negotiable, but can’t find any numbers. It does seem that the great majority of T securities are marketable.
John, this is a good analysis. One paragraph jumped out at me:
“What makes the treasury bond even more magical, however, is that if, say, a big opportunity comes along to invest real sovereign fiat dollars in a killer profit-making venture—no problema! The secondary market for U.S. treasury bonds—other folks who can’t imagine, right now, what to do with their private commerce profits—provides instantaneous liquidity: the treasury bond can be traded for the real sovereign fiat dollars needed to make the killer investment”
The fact that there is always a voluntary total demand for federal bonds, that includes both new issues and bonds for sale on the secondary market, means that some in the private sector consider the bonds to be a better way to invest and protect their money than any other available option. For me, treating both the new issue market and the secondary market as parts of a single bond market paints a different picture.
This ties in to another thought that may be of use to you. We always hear that the federal government should be run like business that pays its bills as they come due. As I write this, my computer is using electricity provided by Dominion Power. Dominion is thought to be a pretty well run company, so how does it compare with the federal government?
The federal debt is often related to the GDP. So for Dominion, the GDP equivalent is its gross revenue, while its total liabilities are its accumulated debt. In 2014, Dominion (trading symbol D) had total revenues of $12.4 and total liabilities of $42.4 billion. The ratio of debt to revenue was 3.4 to 1. In 2017, its revenue had only increased to $12.6 billion while its total liabilities had increased to $57.2 billion. The 2017 ration of debt debt to liabilities increased 4.5 to 1.
So is Dominion well run or not? Is it more likely to be able to repay its debt (which it must do or default) than the United States government?
Now look at the country. The GDP is $20.7 billion (Q3 2018). The federal debt owned by the public is $21.5 billion so the ratio that everybody worries about is just over 1.03 to 1.
But to compare the government to Dominion, we must consider both public and private sector debt. That total is $68.6 billion so the debt to GDP ratio is really 3.3 to 1. This is about the ratio of Dominion in 2014,
The private sector portion is $47.1 billion, or 2,2 times the federal debt, the ratio of the private sector debt to GDP is just under 2.3 to 1, and all of that debt must eventually be repaid or written off.
So tell me again, deficit hawks, what is the problem?
I argue that the Federal Government actually creates money in three forms: currency and coins (“walking around money”), Federal reserve deposits (“checking account money”) and Treasury securities (“savings account money”). All three are liabilities created out of thin air by the Federal Government, and all three are financial assets of the private sector. Although there are formally some time restrictions on Treasuries, as a practical matter they are easily exchangeable for the other forms of money, and by and large have the same wealth effects in the economy.
As another example of misunderstanding, I saw on Noah Smith’s twitter account that he believes that Democratic Socialists of America (DSA) will “implement MMT” if they gain power. This is like saying that Isaac Newton “implemented gravity.”
I can appreciate your efforts. I figure the system was set up to defraud people out of a true understanding of how the system operates. Too many things appear on the surface to operate one way, but in fact do something quite different. I don’t expect those of a vested interest like your friend the banker to have any interest in seeing things a different way. They’ll see it only as a threat. To say that the Federal Reserve Bank cannot create money for the treasury is just nonsense. I see the signatures of the Treasurer of the United States and the Secretary of the Treasury. On the front and the back it says “The United States of America.” Everyone know whose note it is.
The irony here, to me, is that despite the MMT narrative based upon promoting private financial assets by in-debting the entire population to the bankers, here the WSJ informs us that the IMF, of all Global Bank-Corps, warns that this is not a sustainable, nor healthy, monetary-economic policy framework.
Imagine.
And then there’s the nuance of federal reserve stock-accounting. Who owns the shares of the institutions? Who runs the banking and finance system? Guess what(?) from the ‘knowing’ friend who knows – ‘Stop it. The Fed is PRIVATE ! This does not remain a ‘messaging’ problem, to be re-memed and re-framed …. the jig is up. Status Quo.
Thanks, J.D..
Who owns the shares of the institutions?
As the FED explains you are getting hung up on the word shares because of the word that is used. These “shares” are more like tickets to ride. If you buy an airplane ticket, you don’t think of yourself as owning part of the airline.
See the article Who Owns the Federal Reserve on the Federal Reserve’s web site.
This is a good analysis and one paragraph jumped out at me:
“What makes the treasury bond even more magical, however, is that if, say, a big opportunity comes along to invest real sovereign fiat dollars in a killer profit-making venture—no problema! The secondary market for U.S. treasury bonds—other folks who can’t imagine, right now, what to do with their private commerce profits—provides instantaneous liquidity: the treasury bond can be traded for the real sovereign fiat dollars needed to make the killer investment”
The fact that there is always a voluntary total demand for federal bonds, that includes both new issues and bonds for sale on the secondary market, means that some in the private sector consider the bonds to be a better way to invest and protect their money than any other available option. For me, treating both the new issue market and the secondary market as parts of a single bond market paints an important picture.
This leads to a different but related point. We keep hearing that the federal government should be run like a business that pays its bills as they come due. As I write this, my computer is using electricity provided by Dominion Power. Dominion is thought to be a pretty well run company, so how does it compare with the federal government and the country?.
The federal debt is often related to the GDP. So for Dominion, the GDP equivalent is its gross revenue and its federal debt equivalent is its total liabilities. In 2014, Dominion (trading symbol D) had total revenues of $12.4 and total liabilities of $42.4 billion. The ratio of debt to revenue was 3.4 to 1. In 2017, its revenue had only increased to $12.6 billion but its total liabilities had increased to $57.2 billion. The 2017 ration of debt debt to liabilities was 4.5 to 1.
Now look at the government. The GDP is $20.7 billion (Q3 2018). The federal debt owned by the public is $21.5 billion; the ratio that everybody worries about is just over 1.03 to 1.
So is Dominion well run or not? Is it more likely to be able to repay its debt (which it must do or default) than the federal government which cannot default in the currency it creates?
To compare the country to Dominion, we must consider both the public and private sector debt. The private sector portion is $47.1 billion, or 2,2 times the federal debt, and the ratio of the private sector debt to GDP is just under 2.3 to 1. The combined total debt is $68.6 billion so the debt to GDP ratio is really 3.3 to 1. This is about the ratio of Dominion in 2014,
The country has fallen into depressions or deep recessions several times because of excess private sector debt, most recently in 2007, but never because of federal debt.
Nat Uerlich: It is confusing, I agree. I have earlier argued precisely as you say, and in one sense things can still be viewed in that way: treasury bonds exchange dollars that cannot be spent for some period of time (years) for dollars that can be immediately spent—therefore, from that perspective, spendable dollars are removed from the economy and replaced with a “time-deposit savings note.” That “time-deposit” note, however, becomes instantly exchangeable for other people’s fiat dollars—or for bank-loan dollars—which are spendable. War bonds did effectively remove fiat dollars from the U.S. economy in WW2, but that was because most people understood them and used them as savings accounts—which they couldn’t access for some period of years—rather than as tradable securities. Confusion on this point stems mostly from the fact that many of the presentations of the principles of MMT (including my own essay Diagrams & Dollars) make the simplifying assumption that the Treasury and the Central Bank are a single entity called the “sovereign government” which issues fiat currency. When you consider the reality that there is, by law, a fire-wall between the Treasury and Central Bank, MMT becomes much more difficult to understand and explain. It’s taken me a lot of time, effort and exploratory thinking to get to the understanding presented in this essay. And I’m still working on it!
Dominic C Soda: Short answer: No, we don’t. More complicated answer: It appears that the federal reserve banking industry believes very strongly that we do, and so…. To a large degree, they are in charge and it’s very unlikely that Congress is going to pass legislation that modifies the Federal Reserve Act (let alone anything else of import in the foreseeable future). So: the overarching point of this essay is that we don’t NEED to change any laws at all in order for Congress to realize they have enormous spending power. We ONLY need to modify the definitions we use to frame the public debate. We CAN issue future fiat dollars to pay for federal spending to undertake and accomplish pressing collective needs—WITHOUT “borrowing” fiat dollars from the profits of private commerce. That’s all that matters. Once you get to that plateau of agreement, the questions explode: WHAT are we going to target our sovereign spending to accomplish?
Good article!! and from the above article: “The federal government does not “borrow” fiat dollars from private commerce; it trades new fiat dollars, issued by the U.S. treasury in the form of treasury bonds, for existing fiat dollars in the private market (created by the Federal Reserve); the government then spends the fiat-dollars it has traded for back into private commerce.” And the Fed, in their cleverness, has set up a system, where the federal debt can NOT be paid off, for new bonds must be issued to allow printing of new dollars to “pay off” old bonds.
I would agree with Dale Pierce the purpose of federal taxes is to remove money from circulation, and probably one of the most effective way of controlling any inflation.
Alexander Hamilton said in his letter to Congress about establishing the country’s money system that bonds sold by the government were very much like specie in that they could be used to store savings and buy things. He doesn’t appear to have seen another dynamic that would come into play.
As others have said here, when the government sells bonds, it exchanges one form or term of liability for another, and does not change the amount of purchasing power in the private sector. But when it then spends a similar amount to into the economy for some purpose, it increases the purchasing power in the private sector by that amount. Selling bonds and spending a similar amount doubles the dollars it puts into the economy. This is why deficit spending is inflationary and why the both the federal debt and inflation have grown over the years.
Tip, you’re right that selling bonds doesn’t increase total liability on the government side or increase financial assets on the private side. MMT has always pointed out that the increase in government liability and the increase in private financial assets occurs because of deficit spending. But inflation generally won’t result unless the economy is pushed past its production capacity by the additional spending (or by some external shock such as oil ministers in the Middle East raising the price of a critical economic input, or destruction of production capacity by war, natural disaster, etc.) On the other hand, MMT also points out that if combined government and private spending falls below production capacity, then some capacity will be idle. That generally means unemployment, and spending should be increased or taxes decreased to put that idle capacity back to work for maximum economic benefit.
Hasn’t anybody been taught what Keynes said about monetary policy in the face of a depression? Why would any sane capitalist put a tax cut windfall to work for economic benefit if there are already too few customers for what this capitalist can already produce. As we have seen with the Trump tax cuts, one of the things capitalists do is buy back corporate shares to shrink the size of the corporation to better match the size of the market.
This share buy-back is what boosts all the corporate per-share figures of merit while the company is selling and producing less. The stock prices go up. The people still holding the stocks get a benefit, and the economy shrinks. I am taking advantage of this dynamic as we speak. It is good for me, but bad for the productive capacity of our economy.
“Why would any sane capitalist put a tax cut windfall to work for economic benefit if there are already too few customers for what this capitalist can already produce.” Completely agree, and that’s why we didn’t see the productive capital investments that were promised from the tax cut. We saw primarily financial investments, as you point out. And share buybacks don’t shrink the size of a company, they just give each remaining share a bigger slice of the pie thus making each remaining share more valuable. But layoffs sure do shrink the company.
The holy grail of economic policy is full employment and stable prices. Full employment because unemployment and underemployment are wastes of the most important of economic resources (human industriousness and ingenuity), not to mention engendering misery and social dysfunction that, unlike a deficit, truly can burden children and grandchildren.
A tax cut given to people who will spend it consuming newly produced goods and services is how you put otherwise wasted human industriousness and ingenuity back to good use. Or, you could have the Government give those folks something useful to do for pay (Job Guarantee).
Consider how much more powerful stimulus deficit spending could be if we did not have to offset that spending by sequestering spendable fiat dollars in delayed spending of Treasury securities.
That is a serious question of economics that deserves serious study. Before anybody will take on that effort to do a serious study, they will have to do my suggested thought experiment. The thought experiment is what will stop people from dismissing the important difference between cash and Treasury securities.
In a previous reply, you suggested that during WW II people udnerstodd the purpose of war bonds, is another attempt to dismiss the idea. When I tell people that the intent of war bonds was to prevent people from spending money into the economy causing inflation, it is a surprise to them. I doubt very much that people back then realized the real reason for war bonds. If you look at all the movies and commercials that were made back then to sell war bonds, they never mention their real purpose.
If not you, then somebody will eventually take my remarks seriously.
Steven, I’ll take a shot.
I agree with your point that war bonds were intended to prevent inflation. Along with rationing and price controls, bonds worked by preventing people from spending on non-war consumer goods. They were sold primarily through appeals to patriotism; the anti-inflationary effects didn’t depend on people’s understanding of the economic purposes. If I’m not mistaken, these were non-marketable bonds. I remember my dad cashing in some Series E bonds when I was a kid. There was no inflation on things that money was being spent on (war goods) because that market was a monopsony.
Where I disagree is that “stimulus would be more effective if we did not sequester spendable dollars”. The Fed’s open market operations make sure that there are always unlimited spendable dollars available at its target interest rate. If the demand for spendable dollars exceeds the supply at the target rate and demand pressure starts to push rates up, the Fed buys Treasury securities on the open market and increases the supply of spendable dollars until the rate comes back down to its target.
I think that the effectiveness of a stimulus spending depends more on who ends up with the money, and their propensity to spend on consumption of newly produced goods and services vs. purchasing existing assets, or perhaps even purchasing Treasury bonds.
I was having trouble following this at first… does the Government own the Fed or not? I did not see a yes or no answer to that. But then I realized that any discussion of the Fed’s role in MMT is just as one of several(?) ways the government can move money into the economy. If I understand it correctly, the Fed does not actually play a role in “creating” money – only the Treasury can do that. And on the other end, I know that when I pay my taxes I make the check out to “United States Treasury”, not the Fed, just as when I send money to AT&T for my phone bill I make the check out to “AT&T” and not the name of whatever bank AT&T happens to use. I can not remember whose name is on the check on the times I have received a tax refund but my guess is that is the Treasury again. On my bank statement, my Social Security deposits are marked as being from “SSA TREAS 310 XXSOC SEC” which would be the Social Security Administration, not the US Treasury, but I guess they can label their checks however they want. Do I have this right?
Paul, both the Fed and the Treasury are involved in creating our money. Think of the different kinds of money that the Government issues (paper notes and coins, or “walking around money”; dollar deposits at the Federal Reserve, aka reserves or “checking account money”; and Treasury bonds, “savings account money”). The Treasury creates Treasury bonds and coins (coins for historical reasons) and the Fed creates paper bills and reserves.
The Treasury pays for the Government’s expenditures with reserves (dollar deposits the Treasury holds at the Fed). Some of the reserves have been collected by the Treasury as taxes paid by you and me, but there’s generally a shortfall between tax receipts and authorized expenditures. To make up the shortfall, the Treasury creates bonds (out of thin air) and auctions them to the general public for additional reserves. So now the general public is holding more bonds and fewer reserves, but it really may want reserves instead. If so, the general public will sell the bonds to the Fed, which pays with reserves (which the Fed creates out of thin air). The amount of bonds the Fed is willing to buy depends on the amount of reserves it wants the general public to hold, and the Fed’s interest rate target on the general public’s reserve supply.
Hope this helps. It’s kind of a goofy system.
PS. This explanation illustrates why the Treasury will always be able to auction all the bonds it needs to: Because the Fed will always buy them at a price that is related to its own interest rate target. For example, if the Fed wants zero interest rates (it did for several years) it is in effect committing to buy all bonds offered for sale at any price significantly below the bond’s face value. If it doesn’t, interest rates will be pushed above its target.
Paul Dickson,
There is not a definitive answer to the question of who “owns” the Federal Reserve system because it was intentionally set up in ambiguous way: there was a consensus that the national banking system needed a centralized government control for stability and liquidity, but there was a powerful mistrust of the government on the part of banks and commerce—they did not want the government controlling them. So—and this is a loose approximation of the history—the Federal Reserve Act (which was an excruciatingly difficult thing to get enacted into law) set up a convoluted power structure where the Federal Reserve Banks were essentially privately owned but were “governed” by a Board of Governors dominated by public officials representing the federal government. So, who’s in charge? It’s a negotiation. Re: whether the Fed creates money—the understanding I’m operating with is that it does create new dollars as necessary to maintain the liquidity of the banking system in the support of private commerce: i.e. if private enterprise decides it wants to expand production, and private citizens decide they want to expand consumption—decisions largely expressed by bank-loan activity—the Federal Reserve creates the dollars necessary for the expansion to occur. The issue for MMT is that this operation, by law, specifically cannot create dollars directly for federal spending. Dollars for federal spending are created, instead, by the operation of the Treasury issuing bonds—and the cognitive disconnect we struggle with is that we “define” that operation as “borrowing” by the federal government which creates a “national debt.” Which limits what we believe we can allow ourselves to undertake and accomplish with “public” spending.