What Do You Want For America

By Thornton Parker

People who understand how this country’s financial system works know the American dream doesn’t have to die.  They know why the federal budget is not like a family’s budget or the budgets of companies and states.  They know why the government can’t run out of money, default, or go bankrupt; and why Europe’s financial troubles won’t come here.  They know the government can afford to do more to help educate young people, improve everyone’s health, provide income assistance as people age, foster a sound economy with good jobs, modernize the infrastructure, and protect the environment.  And they also know that popular myths and deliberate misrepresentations of the system are hurting America. 

Ask yourself two questions: 1) Does it make sense that millions of  Americans who want to work can’t find jobs; that businesses can’t find enough customers; that state and local governments are laying off vital employees; that a record number of children are living in poverty; and that young people coming out of school can’t find the work they trained to do—all because a thing called “money” that societies create out of nothing is scarce?  2) Are you willing to learn how the financial system can help turn that around?  If so, please set aside preconceived notions about government spending for a few minutes, and read on.

Like the economy, the financial system has three parts – the government sector, the private sector, and the international sector.  Most significant actions by one sector affect one or both of the others.  The system uses two types of money—bank credit that is created in the private sector credit and base money that is created by the government.  Most of the money used in day-to-day transactions is bank credit.  This paper explains important differences between the two types.  Arguments about what the government can or can’t afford to do usually result from failure to understand how the three sectors and two types of money interact.

The mythical comparisons of the federal budget with the budgets of families, companies, and states are wrong.  To begin with, they treat the government sector in isolation.  Those who would balance the federal budget and eliminate its deficits don’t explain how these actions affect the other two sectors.  In the real world, financial actions in the government sector always cause balancing reactions in at least one of the other two sectors and they affect the level of economic activity or GDP.

For example, during 2011 and 2012, the private sector sent just over one trillion dollars to other countries (the foreign sector) to import more than we exported.  If those dollars had not been replaced by the government through the stimulus package and other programs, there would have been that many fewer dollars in the private sector and the economy would have slowed down more than it did.

The comparisons of the federal budget to other budgets are also wrong because they are based on the assumption that the government must get dollars by taxing or borrowing before it can spend them, in the same way that a family wage earner must bring home a paycheck before it is spent.  As counterintuitive as it may seem, this assumption is exactly backwards.  The government doesn’t get dollars from others, it creates them for others to get and use.

The government creates new base dollars by paying out more than it receives from taxes.  Called “deficit spending”, creating new base dollars is widely but incorrectly viewed as a problem.  In reality, it is a basic governmental function authorized by the Constitution.

The technical relationships between base money and bank credit are complex, but the principle is simple.  One who borrows from a bank typically signs an IOU, has the amount of the loan added to his or her account at the bank, and gets checks to use for spending.  The amount of the loan is bank credit, but it depends on base money in two ways.  First, everyone knows that he or she can cash a check (if it doesn’t bounce) for currency which is base money.  Without the explicit backing of base money created by the government, bank credit and checks would not be used so widely.

Second, bank credit depends on base money for what is called check clearing.   This process is complex also, but the basic task is easy to understand.  Every day, millions of people, companies, and others write checks that go to payees all around the world.  The payees deposit their checks at their own banks or cash them.  The clearing process connects the check writers’ banks and accounts with the banks and accounts of the payees.   Most transfers are done electronically by the Federal Reserve System.  The Fed uses accounts called reserves to run the clearing process, and most of the money in the reserves is base money that was created by the government.  As its name suggests, base money is like a platform on which banks can build and operate their check credit structures.

There is an important difference between bank credit and base money.  A person who borrows from a bank gets two things—the amount of the loan in the form of a bank account deposit which is an asset, and the IOU which the borrower’s liability that must be repaid.  The two balance and equal zero.   The IOU that the bank gets as an asset and what it pays out also equal zero.  When the borrower repays the loan, all the assets and liabilities created by the transaction will cancel out and revert to zero.  (If the borrower defaults, both the obligation to repay and the IOU are written off so the balance remains zero.)  When a loan is no longer outstanding, the money is gone.

The government creates base money by spending more than it receives from taxes.  It is an IOU of the government (either the Federal Reserve or the Treasury) but it is a net asset for households, firms, and banks in private sector.  As discussed, banks use base money for clearing among themselves.  Households and firms use it as currency, and they can exchange it for Treasury bills, notes, and bonds.  These securities are also government debt and assets that the private sector can hold as safe savings that earn interest.  Base money doesn’t vanish unless the government destroys it by taking in more from taxes than it spends or the private sector uses it to buy treasury securities.

The paragraph above is worth reading several times.  To put the most important point differently, when the government runs a deficit, it creates the base money that banks need to operate and people need to save.  Conversely, the government destroys base money by running a surplus.

When all the deficits and surpluses that were run since the founding of the Republic are added up, the total is known by the misleading term “national debt”.  The national debt is just the amount of base money the government has created since 1790.  While some of the base money is used to support bank credit, most of it is saved by people, companies, and financial institutions.  Much of the base money winds up in such important places as savings accounts and retirement plans where no one wants it to vanish.

Recall that the government, private, and international sectors are interlinked parts of a single system.  The previous paragraph highlights one of the links.  The government sector can’t reduce the national debt by running a surplus that destroys base money  without reducing private sector savings and eventually, slowing down the economy.

This was demonstrated forcefully during the past fifteen years.  When the government sector ran surpluses under President Clinton, it shrank the monetary base.  Millions of people responded by borrowing more (negative saving) to maintain their standards of living.  This private sector reaction kept the economy running, but only for a while.  People increased their borrowing to record levels until the housing boom, which was financed with bank (and other private sector) credit, collapsed.  Then, as debts were repaid or defaulted, private sector credit shrank, money started to vanish, people bought less, businesses slowed down or failed, and jobs were lost in a self-reinforcing spiral.  Without the government’s creating base money quickly, (deficit spending) to fund the stimulus package and other programs, the Great Recession would have been significantly deeper.

The effects of large government surpluses are clear.  In earlier years, they were run six times to reduce the national debt significantly in the mistaken belief that it was the right thing to do.  Those six times were followed by the depressions of 1819, 1837, 1857, 1873, 1893, and 1929.  And each time, the government had to create more base money by running deficits in order to recover, as it is doing now.  Like it or not, the government and private sectors are like mirror twins who are joined at the hip.

The worry of runaway inflation, always comes up in discussions of base money creation or deficit spending.  It is certainly true that if the government just created money without restraint, it would lead to inflation.  But two points must be considered.  First, the pace of the economy is limited by its resources including minerals, fuel, farmland, water, factories, infrastructure, and people looking for work.  Inflation occurs when too much bank credit and base money are created and the prices of things and labor are bid up.  With thirteen million people looking for work and a record backlog of unsold houses, that is not happening today.  In the last several decades, oil scarcities and the resulting market price increases were the main cause of inflation.

The second point is that inflation can be controlled with taxes that withdraw base dollars from the economy.  Runaway inflation has rarely happened.  The few times it did were unique and easy to understand.  For example, one reason why the Confederacy had runaway inflation was that it had no tax system to draw back some of the money it printed.

A pervasive misunderstanding is that the government must use taxes to collect dollars before it can spend them.  The government, however, creates net new dollars by spending more than it receives from taxes.  (Please excuse the repetition, but the point is critical.)  The idea that the government has to take back dollars that it has already made before it can spend them makes no sense.  (Note that when the economy recovers and nears full employment, Grover Norquist’s anti-tax pledge will be inflationary.)

Fears of uncontrollable or runaway inflation, although baseless, are sometimes used as scare tactics to oppose government actions.  Claims that the government can run out of money, go bankrupt. or have to levy crushing tax burdens on future generations are often used the same way.  But no one has explained how the federal government can run out of base money that it alone creates and can always create more. 

That leads to the final question:  If the government can’t run out of money, why does it borrow by selling securities?  The answer has several parts.  First, before the country went off the gold standard forty years ago, the money supply was limited by the amount of gold the government had in its vaults, mostly at Fort Knox.  It could not create dollars as when they were needed it does today.  At times, it had to either borrow or devalue by increasing the set price of gold.  In part, the government still borrows because it has always done so and old habits are hard to break.

Second, no one wants the government to just spend freely and run wild.  Thus, laws require the Treasury to have enough reserves from both taxes and sales of securities to cover all payments.  This is an administrative control requirement, but it is not an economic necessity.

 The third, and perhaps most important reason why the government sells securities is that people, financial institutions, and other countries want Treasury bills, notes, and bonds as ways to save their dollars and get interest payments.  Much of the base money that is saved winds up in these instruments.

To summarize, many well intentioned people have bought into the myth that federal spending must be managed just like a frugal family’s spending.  If that were true, then the reverse would have to be true; a frugal family’s spending is just like federal spending.  If were true, a frugal family’ spending can balance the dollars sent to other countries because of the trade imbalance; support the country’s system of bank credit; and sustain the economy while other frugal families are saving by reducing their debts.  Clearly this is not the case, so using a family budget as an analogy for the federal budget is patently false.

This leads to an ethical dilemma for the reader.  Do you want to pass a strong legacy on to future generations that includes more base money and savings (even if it is called the national debt)?  Or do you want to leave a declining economy with less base money and depleted savings under the guise of reducing the national debt?  Are you committed to the widely promoted and accepted ideas about government spending even if they are destructive myths, or will you try to understand how the financial system really works and tell your elected officials to use it properly?

A lot is at stake and it’s your call.  What do you really want for America?

42 responses to “What Do You Want For America

  1. The mythical comparisons of the federal budget with the budgets of families, companies, and states are wrong. To begin with, they treat the government sector in isolation.

    I know who and what you’re arguing against, and I don’t really want to derail the discussion here, but this isn’t just a myth in case of the federal budget. States, families and companies also lend (or do favors, give out IOUs, etc.) all the time, without this necessarily being unwise. And, at least in the case of favors and IOUs, they are basically free to give out as many as they want (within physical limits, of course), while their interaction partners are similarly free to accept (and give out) as many as they want.
    What we need to get rid of is the idea that the store of value function of money (along with the desire for precise equivalence) is socially acceptable; commodities rot, people giving out promises can die, and money rots too (via inflation). The consequences for most (non)humans of keeping inflation low are far too dire for this to remain acceptable practice.

    (And the biggest problem to solve, here, seems to me that of the pension system. As I see it, pension funds are far too attractive a looting target for the existence of a pension system organized in the current way to be acceptable, while there is no real reason why we should allow so much money to be taken out of circulation to be pumped into stupid ‘investments’ like stocks and commodities, where they serve no social function at all except to enable speculation. Use that money to build homes and hospitals with, for all I care, but keep it out of the stock markets, and regulate those more heavily to make it seem less of a ‘waste’ for pension funds to invest in those things.)

    • Give out as many “Foppedollars” through favors/IOU’s as you want and see how far that gets you. The federal government can give out an infinite # without problem. The key difference between the federal government and everyone else in your examples? Monetary Sovereignty. Those who do not understand the difference between monetary sovereignty and monetary non-sovereignty really do not understand economics. I agree with your assessment on pension funds. A license to steal. Interesting that the state of California has averaged 1% return recently on its “investment portfolio”. Yikes!

  2. An excellent post. Are our problems due to money being scarce, or are they due to the 1 percent having such a massive portion of the money in the economy? Hasn’t our rampant Inequality caused our current Instability (hat tip James Galbraith)?

    The narrative seems to be: influence of unions decreases, inequality increases, recession inevitably occurs.

  3. Samuel Conner

    This is very helpful; thank you.

    Something that continues to puzzle me and that I think must be a point of concern for many at-present skeptics of MMT is the question of whether, and if so what, realistic limits there may be on the size of the cumulative sovereign deficit/debt/money base as a ratio of annual income/product. It appears to me that the conventional MMT position is that monetary base is essentially inert; it is used in the payments system and it can provide income to savers if it is converted into interest-bearing obligations of the fiscal authority.

    A concern I have (perhaps a highly ill-informed or otherwise ignorant concern) is that a very high ratio of base money to economic activity provides more space for speculative activities that may yank prices around without producing much or any real-world benefit. The presence of huge amounts of price-stable financial assets in the private sector would permit even more debt-pyramiding (modest haircut repo, for example) to engage in leveraged bets.

    Perhaps it could be useful for MM theorists to explicate for the benefit of worried sympathizers such as myself the kind of private-sector financial system governance that might be necessary for base money levels to be truly inert as they grow to multiples of GDP. My intuition is that such stronger governance is desirable in any event (in view of the ongoing crisis) but it may be even more desirable or necessary if the amount of secure collateral were to grow to be multiples of what it is at present.

    • Samuel Conner

      As an illustration of this concern, suppose that under an NEP favored policy regime, the annual deficit averages 4.5% of GDP and real economic growth is 1.5% per annum. Over time, the deficit stock would grow to 300% of GDP. A deficit stock that size at present would be about $45 Trillion. If all those reserves were soaked up with low-coupon Treasury bond issuance, there would be about three times the current level of very safe US-Treasury backed collateral in circulation with which the investment banks and hedge funds could play. I’m not well-informed, but it seems to me that the cumulative deficit stock is not, under present banking system governance, as inert as MM theorists want it to be to make long-term deficit spending innocuous. The financial system can do things with the deficit stock — it is a private sector asset that can be pledged as collateral to finance leveraged activities — and not all of these things have beneficial real world outcomes. As the ongoing crisis shows us, many of these things have negative real world outcomes. So it seems to me that one needs ways of constraining what the private sector can do with the deficit stock asset in its possession if that asset is to be as innocuous as we need it to be. Maybe the rules could be simple, for example punitive limits on repo haircuts, or much higher bank reserve requirements, or ways of strictly constraining shadow banking. But it does seem to me that progressive policy prescriptions informed by MMT require a different and much stricter governance of the financial system than we have at present.

      It might be that some of the skepticism of MMT policy perspectives from otherwise sympathetic people has an element of anxiety about what might happen if these fiscal policies were implemented in the context of the present environment of lax-to-nonexistent financial system regulation.

  4. Nice piece. I would like a little more detail on this:

    ” … laws require the Treasury to have enough reserves from both taxes and sales of securities to cover all payments. This is an administrative control requirement, but it is not an economic necessity. … perhaps most important reason why the government sells securities is that people, financial institutions, and other countries want Treasury bills, notes, and bonds as ways to save their dollars and get interest payments. Much of the base money that is saved winds up in these instruments.”

    How do you see these two reasons related?

    • Samuel Conner

      I think that this is a tautology. Since the Treasury is required to fund its annual deficit flow (excess of expenditure over tax receipts) with sovereign debt issuance, then by definition new base money (which is the increase in the cumulative deficit) will equal new Treasury debt issuance. The equivalence may not be exact, because there are also paper notes and coins, which are part of base money, in circulation and the amount of these may vary as new notes/coins are issued and old ones destroyed, but it is close.

  5. Good post. One question. You say “The third, and perhaps most important reason why the government sells securities is that people, financial institutions, and other countries want Treasury bills, notes, and bonds as ways to save their dollars and get interest payments. Much of the base money that is saved winds up in these instruments.” Can’t one go even further and say that ALL of the base money is ultimately saved in Treasury bills, notes and bonds? What I mean is that even though an individual can choose to invest his cash in something other than a Treasury (such as a stock or corporate bond or a mutual fund), once cash has been injected into the economy through government spending, the economy as a whole, at the macro level, has no choice other than to invest in a Treasury bill, note or bond if it does not wish to be invested in cash. This is because the cash remains in the nongovernment sector unless and until it is removed from the nongovernment sector in a transaction with the government (either the government taxes it away or exchanges it for a Treasury). An individual can get rid of the cash by investing, for example, in a stock, but then the seller of the shares of stock ends up with the cash. That person could, in turn, get rid of the cash by investing, for example, in a corporate bond, but then the person who sold him the bond ends up with the cash. In other words, at the macro level the cash will ultimately still wind up as a deposit in a bank account somewhere in the system (and a corresponding reserve account at the Fed). Ultimately that money will end up purchasing Treasury debt, as that is the only alternative to holding non-interest paying cash. Am I right about this?

    • Thornton Parker

      Thanks, Joe. You may be right about savings, but keep in mind the purpose of the article — to try to explain to those who must apply the basics of MMT, or get the government to apply them to the problems of today. I am not an expert, but I have never been completely comfortable with the idea that the only form of savings must be Treasury securities. That may be right, but it is so far from anything that the intended readers have learned, that I don’t think the point should be made here.

  6. Base Money
    “The national debt is just the amount of base money the government has created since 1790.”
    That describes what base money is, what the entire expansion of the credit money system is built upon. Base money simply exists as a rolling net number of dollars representing the difference between the amount of money created from the beginning by the government and spent into the money system and the amount withdrawn by the government from the system.

    What if all the base money created by the government since 1790 was in the form of serialized one dollar bills and they never went out of existence. They never became worn out or replaced. When necessary at times in our history the government simply took existing serialized one dollar bills out of the system and held them in suspension (not counted as debt while in suspension) and returned them to the system, plus newly created dollars as needed. There would be about 15 trillion dollar bills in the system today with a serial number from one to 15 trillion.

    Where would those 15 trillion serialized dollar bills physically be?

    “The Fed uses accounts called reserves to run the clearing process, and most of the money in the reserves is base money that was created by the government. As its name suggests, base money is like a platform on which banks can build and operate their check credit structures.”

    So, in my “what if” system most of the 15 trillion serialized dollar bills we call the national debt are held by the fed as reserves upon which credit structures are built. The remaining serialized dollar bills would be somewhere else. Where? Some at Treasury?

    How many credit dollars does each dollar of national debt as base money support?

    • Thornton Parker

      Tim, please keep in mind why I wrote the article. Imagine yourself trying to convince an advocate for continuing Medicare in its present form rather than cutting it, to use the MMT line of reasoning. For that purpose, the article may even have gone too far in mentioning base dollars. Trying to sell the fine points of them would surely end the discussion.

  7. Another bit that wasn’t directly pointed out but well worth mentioning is that interest paid by the US Treasury on T-bills is income for the non-government sectors – another money creation mechanism.

  8. Thornton Parker

    Thanks to the four of you for commenting. Here a few thoughts for each of you.

    Foppe: The tale is told of the Confederate artillery spotter, who seeing their shots were way too high, said, “Capt’n, you’d better elevate them guns a mite lower!” That has been my concern about those who write about MMT. While discussion among the developers is critically important, enough is known about the basics for those who must apply them to begin to understand them. That was the purpose of the article – not to cover new ground. For the experts, the article must be notable for what it did not include, but it was intended to be the purchaser’s Quick Start Guide, not the maintenance and repair manual.

    Your point about the use of money as a store of value is interesting. For some years, I have thought, but have not been able to explain, that the multiple functions of money lead to paradoxes of the kind that Russell had in mind with his Theory of Logical Types. His point was that in a classification system, all members of a class must be unique, and no item can be a class of which it is a member. Example: draw a box and write in it, “dogs have scales” and “fish have feathers”. Title the box with “All statements in this box are false.” Changing the picture by moving the title into the box creates a paradox, because the title becomes a member of the class that it describes, and in that place, it is wrong. I suspect that using money as a unit of measure and as items being measured (savings) leads to that type of paradox, but I haven’t been able to state a proof yet.

    And on the subject of retirement plans, I agree completely. I am the author of What If Boomers Can’t Retire? How to Build Real Security, Not Phantom Wealth. Written over ten years ago, one of its main points was that stocks are likely to prove very poor retirement investments. Productive investments in the real world rather than parasitic financial investments have much better chances of providing future incomes for many reasons. Sadly for millions of boomers, that is turning out to be right.

    Tyler: You put your finger on what seems to me to be a weakness of MMT as I understand it. Money rises to the top like cream for many reasons, including interest. If the government just creates more new dollars via deficit spending, I see no reason why they won’t rise rather quickly. The consumer economy depends on a mass market, but when more than 46 percent of the household incomes goes to the top 10 percent, I don’t see how the remaining 90 percent of the households will be to sustain consumption, which amounts to 70 percent of GDP with just less than 56 percent of the personal income. For the purposes of my article, however, I think that is a second order consideration.

    Samuel Conner: I’m not qualified to create or refine MMT theory. It has been enough of a challenge to try to learn and explain its basics. But I tend to agree with you, and that relates to what I wrote to Tyler. Unlimited money creation seems likely to rise to the top and be used for parasitic speculation on Wall Street, not productive investment on Main Street.

    econobuzz: The two points are only related in that they are different reasons to continue federal borrowing and Treasury security issuance. Either could stand on it own.

    I want to thank Stephanie for having this piece posted for your comments, and Randall for his patience on a Sunday afternoon in helping correct something that was not right. Again, thanks to the four of you. My email is [email protected] if you want to contact me directly

  9. Good summary of account flows-Wynne Godley’s book on this subject Monetary Economics: An Integrated Approach to Credit, Money, Income, Production and Wealth is now out in paperback. Horrah!

  10. Congratulations.
    Pretty wild stuff.

    “”The government, however, creates net new dollars by spending more than it receives from taxes. …. “”
    Who says?
    Actually, the government never creates net new dollars by spending more than it takes in.
    Rather, when it deficit-spends, it MUST issues debts to the private sector in return for receiving monies already in circulation.
    It is a public transaction, happening every day.

    There is no change in the supply of money(creating new dollars) , merely a change in the user of that money(debt-loan proceeds) from the private to the public sector. Upon government spending, that same money, in the same amount, returns to the private sector.
    Meantime, the debt obligation exists (WHY again?), and the taxpayers funds the interest thereon, for the term of the debt that is issued, as part of their tax payments.
    It’s crazy.
    But it does not increase the supply ( amount) of money in existence.

    What the writer proposes IS happening – the government creates new money annually be spending more than it takes in through taxes, CAN be done under a different monetary regime, a new money system.

    And there’s no reason not to do it.

    “” The idea that the government has to take back dollars that it has already made before it can spend them makes no sense. “”
    A little redness in the catch of the day.
    What makes no sense is the notion that the government created any money in the first place.
    If you want to turn the actual private practice of bank-credit money creation in this country on its head, you NEED to change the money system.
    Otherwise, the private banks create all of the nations money that is used both for national commerce and for paying taxes.

    So, there’s only one kind of money in its true, legal sovereign money sense.
    It stinks more than the rotten herring.
    But you can’t change it by magic, or giving it new names.

    For the Money System Common

    • Broll The American

      All fiat money, for lack of a better term is “debt,” and conversely debt is money. So when the government issues “debt” to trade for “monies already in circulation,” new money is indeed being created. The original money is a financial asset to the government and the new bond is a financial asset to the holder. Essentially the government created a new, large denomination, interest bearing dollar out of thin air and exchanged it for the small denomination, non-interest bearing dollars. Its no different than exchanging 4- $Fives for a $Twenty… with the $Twenty created from thin-air.

      • This is to 9:48 on 7/18.

        That is a self-effecting, circular argument.
        “If money is debt, then…..” and
        “If debt is money”, then …..”.

        How ’bout this:
        “”when the government issues “debt” to trade for “monies already in circulation,” new money is indeed being created.”‘.
        That’s like a conundrum.
        Money IS in existence.
        Somebody trades something for money.
        Presto – “New money is indeed being created”.
        PLEASE check the money supply at the end of the day.

        There’s a lot of confusion here because there’s very little science, and even less law – about what money is.

        People enamored with MMT as an alternative to perhaps free-market capitalism or social and economic injustice ought to have a read of Soddy’s “Wealth, Virtual Wealth and Debt” -in order to understand where money fits in.
        And on alternative days, a read of his “The Role of Money”.

        Money is not debt.
        Even though Randy Wray takes the view that it is, ostensibly based on Knapp, Innis and to a lesser degree MacLeod.
        Knapp and, more so, MacLeod were true alternative thinkers about money – really took money into the public realm, both for ownership and policy .
        Innis was the bankers’ economist. “Money is debt”.
        Like I said, have a read of Soddy, who upon understanding money said – “It’s not a system – it’s a confidence trick”.

        For the Money System Common.

  11. Instead of saying that the government borrows money for the reasons given, I think it would be better to deny that the government borrows at all. If all spending is base money creation at the moment of spending, and all taxation is base money destruction at the moment of receipt, then the government is not borrowing money at all. Rather, it gives the illusion of borrowing due to arbitrary laws that require it to create this charade. Bond issuance is merely base money destruction today in exchange for the government’s promise to recreate that money plus a little more later and give it to a specific individual. In this understanding, government “debt” is on equal footing with any other government spending program that promises to create base money in the future and give it to an individual, e.g. social security. Accordingly, a reduction in social security benefits is every bit as much of a “default” as failing to pay a full amount promised on a bond.

  12. First, what is the difference between this new “base money” and reserves?
    IMPORTANT. If they are the same, people should get an understanding of the answer to “What are reserves?”.

    Second, it is here written:
    “” A person who borrows from a bank gets two things—the amount of the loan in the form of a bank account deposit which is an asset, and the IOU which (is) the borrower’s liability that must be repaid. The two balance and equal zero. The IOU that the bank gets as an asset and what it pays out also equal zero. “”
    Not a semantic or typo suggestion here.
    The borrower gets the deposit of X.
    The bank gets the IOU for x plus interest, AND the bank gets “pledged” collateral against the loan.
    And the bank brought nothing of consideration to the table.
    So, the borrower gets one thing, and the bank gets two things, if not three counting the interest.

    I hope that your posting of this “base money” piece leads to a greater understanding of how ridiculous the whole ‘base or high powered money’ concept is and what they really mean and really contribute to a sound monetary policy and financial stability.

    I am seeing more of the concept of the use of “money-things’ (especially tradeable $US-denominated assets) in the financial system supplanting an MMT construct of what money and the money system are in a modern MONETARY economy. Like, “”Are you willing to learn how the financial system can help turn that around?””
    It’s the (not) modern monetary system that is broken, and only fixing the monetary system can turn that around.


  13. Whereas it is true that a Gov soevreign over the currency it’s economy uses won’t technically ever go bankrupt, that it does not need to either tax or borrow in order to spend, the downstream tenets of MMT has problems:

    1. “The Gov can always just tax back extra currency circulating to curb inflation when it strikes…or sell Gov securities to do this purge” – Once you earn the money, it’s not easy for the Gov to suddenly tell you, “Hey! we are seeing too much inflation – so now we will tax you at 60% and not 30% anymore.” If it gets as simple as that, you will see a fall in economic activity. Economy needs people to attach meaning and their ability to hold on to money. At best you can let some of it’s value chip away due to inflation and tinker little bit with tax rates when increasing them. If you actually are able to sell to the people MMT – that money does not mean anything, you will kill the economy, and not be able to even apply MMT sparingly.
    If the Central Bank is going to sell Gov securities instead to curb inflation, first off, you’re already back to giving money meaning – i.e. I get to keep the money I saved in a safe haven called Treasury secruties. If there’s a lot of money Gov wants to mop up from the economy, it’ll have to offer higher interest rates on the securities it is tring to sell forth.

    2. the MMT World of ~’money as points that Gov can dilute or withdraw at will upon need to do so’ is totally insensitive to the societal aim of people having the opportunity to retire with dignity on the money that they themselves saved up. MMT will pay retirees based on the need of the overall economy at that hour – to keep growth.inflation on target, and might have taxed away what the guy had saved up because there were bouts of inflation in periods prior to his retirement.

    3. Whereas it is true that Gov does not have any need to “earn money before it can spend it”, it has to forever ensure that households have to EARN money to spend it or save it up – they cannot be GIVEN (handed out) money for doing nothing (except some modest survival payments), or worse, for doing things that rob value from other people. e.g. the extensive taxation bureaucracy and litigation machinery exists to administer the complex tax code that makes life difficult for people. THAT is no good way to expand the economy and embed jobs.

    I believe MMT is a long way off from being a whole and complete perspective-set to drive policy – until then it can only sparingly cast a shadow over it, as it already does: Neither the US nor EU nations would have deficit levels that they are at if hard-money policies (“Gov has to earn or tax before it can spend”) were firmly in control.

  14. You state: “I suspect that using money as a unit of measure and as items being measured (savings) leads to that type of paradox, but I haven’t been able to state a proof yet.” Might there be a similarity to a “fixed” currency, where, when a value is set, the value of the currency changes.

  15. “….that makes life difficult for people. THAT is no good way to expand the economy and embed jobs.” please read further:
    New Government money can, however, be added into the economy (and/or this spending be covered by some practicable tax reorganization and/or cuts in value-robbing Govt areas) to create public value adding jobs such as delivering education (in all its aspects including music, drama, arts and literature) with low students/teacher ratios and delivering infrastructure.

  16. I question the assertion that Federal government surpluses cause depressions. You list several periods where surpluses were followed by depressions. Yet a brief look at the data leaves questions about whether there is any causal link.

    First of all, every period of government surplus is followed (at some point) by an economic slowdown. This should be obvious – every period of economic growth is followed by a period of economic slowdown just as every slowdown is followed by a period of growth. Since an economic slowdown results in lower government tax revenue, a slowdown after surpluses will likely result in lower surpluses or deficits. This doesn’t say anything about causality.

    Let’s look at the periods of surplus in the US economy. I’m taking numbers from http://www.usgovernmentdebt.us and its sister sites, if these are incorrect then please point me to correct data. I realize that older economic data is less reliable, but you brought up the depressions of the 1800s so I’ll go ahead and use the data.

    The first depression you mention is 1819 after 4 years of surpluses. The next depression is 1837 after 12 years of surpluses. The depression of 1857 followed 7 years of surpluses. During the period from 1792 to 1837 the US had a surplus most years, I can’t see any connection between surpluses and these depressions. I find periods of up to 9 years of surpluses without a depression during other this period.

    I also have a question about the 1837 depression. As of about 1836 the US had no debt (a surplus if I remember correctly). Since you state that the base money supply equals the national debt, the US must have had a negative money supply. How is this possible? How did the economy function at all? How is it that the surpluses before 1837 reduced debt from 12% of GDP to zero (which, by your assertion, ought to cause a depression), yet the depression ended with debt never totaling more than 3% of GDP from 1837 to 1857. How could such small deficits counter such large surpluses?

    Moving on, you mention depressions in 1873 and 1893. Why were there two depressions here? The government ran surpluses from 1866 to 1873. It then ran a single deficit year in 1874 (.04% of GDP), followed by surpluses every year through 1892. How did the 1873 depression ever end? The government didn’t run deficits to create any significant amount of base money, it continued to run surpluses after a single deficit year.

    The final depression is the Great Depression of the 1930s. After World War I the US ran surpluses from 1920 through 1930. The total surplus over this period was $7 billion, one half of the deficit the last year of WWI. Prosperity didn’t return until over $26 billion of deficits prior to WW II plus $200 billion in deficits during the war.

    This was the last recognized depression in the United States. There were surpluses in the late 40s and 50s, but these apparently didn’t spark a depression (though the late 40s surplus was larger in both dollar terms and in percentage of GDP than the 1920s surplus).

    Now we get to today’s high unemployment. You seem to be saying we’re suffering because of the surpluses of the late 1990s (I’ve seen that argument here in the past). Yet the relatively small surpluses of the late 90s were more than counteracted by (at the time) large deficits up until 2008. With these large deficits, how did the US go into such a steep decline in 2009? And why is it that running a deficit 2-3 times the total surplus of the 90s is not bringing the economy out of recession? The US trade deficit from 2011 to 2012 might have been $1 trillion, but the deficits were over twice this.

    Finally, even if there is a relationship between surpluses and depressions, I’m left wondering what changed in the economy in the 20th century. The depressions during the 1800s all ended with relatively modest government deficits (in either absolute or percentage of GDP terms). Then the recession of the 1930s comes along and only ends after a long period of large government deficits. Today’s downturn comes along and is not ending after large government deficits. Why can’t we end a downturn today with the modest increase in spending of the 1800s (if there even was an increase)?

    It seems to me there’s a lot more going on and that depressions after surpluses are in no way causal, rather the result of reduced tax collections during the downturn.

    • @ ThomasW
      Apparently American History is not being taught so well these days. Off the top of this poorly educated head answers to your question concerning depressions may be as follows:

      1819 try looking at reducing the debt incurred for the 1812 War with Britain off of excise, custom, tarriff taxes and the like.

      1839 the trans-Appalachian settlements created demands for money met primarily by state and local bank script which the First Bank of America stifled through hard currency policies. See President Andrew Jackson’s take on banks. Currency disappeared and depression ensued.

      1857 the California/Colorado gold finds were in full flood, undermining the value of the money supply through hard money (tight monetarist credit) policy making settlement of the west open mostly to those who could self finance.

      1873 another instance of attempted War debt reduction from the nation’s books. The beginning of monopolistic and industrial control of markets and the revenues being generated by those markets coupled with tight money supply produced in zero sum results (again).

      1893 again the results of full blown monopolistic control of most markets. Recall (IIRC) the story of Fisk printing stock on his printing press, and Vanderbilt buying it all? Hard currency was unable to satisfy both financial cunning and economic needs of the then world’s largest economy.

      The depressions of the 20th century are well enough known but do lay under deep propaganda sediments requiring specially powered excavation to reach them. The debt incurred from WW II were countered by the enforced savings of the war years fueling economic recovery coupled with generous economic and social recovery programs effecting economic growth which absorbed much of the debt settlements out of the generated growth of the only surviving world economic power. Had Truman followed the British lead with price controls on goods and services, the world would be unrecognizably poor and there would unlikely be footprints on the moon.

      As for Clinton’s surplus, the economy was collapsing as Bush43 was saying his I do’s. Much of the debt generated by his administration was necessary to absorb the tsunamis of liquidity awash in markets that were not able to absorb such volumes in any economically meaningful way other than through interest bearing sovereign notes. Viva la debt!

      • @ T-Bear

        My comment must not have been clear. I did not question the existence of the depressions listed or go into the causes. My questions were regarding the following statement by Thornton Parker:

        “The effects of large government surpluses are clear.  In earlier years, they were run six times to reduce the national debt significantly in the mistaken belief that it was the right thing to do.  Those six times were followed by the depressions of 1819, 1837, 1857, 1873, 1893, and 1929.  And each time, the government had to create more base money by running deficits in order to recover, as it is doing now.”

        In particular, I question the assertion that “the government had to create more base money by running deficits in order to recover”. When I look at Federal deficit and debt numbers from the 1800s, I find that the government ran relatively small deficits after these depressions and in one case (1873) a minuscule one year deficit before continued surpluses. This doesn’t seem to support Mr. Parker’s statement.

        For the Great Depression of the 1930s, the government immediately started running deficits. By the start of World War II the national debt was almost four times larger than at the start of the depression (meaning the base money supply was almost four times larger), yet the economy had barely recovered to its pre-depression size.

        Thus, I’m asking for data to support the statement that deficits are required to create more base money in order to recover. The evidence I’ve found does not seem to support this statement.

        • Apologies if I misunderstood. I think my point was there were other factors present, and tried to give a thumbnail sketch of them, the common theme (if any) had been the conflict between hard and soft monetary policy – that cross of gold kind of bit which allowed either difficult or easy debt servicing for financing a massive growing economy. Balanced budgets and surplus are signature hallmarks of the hard currency advocates as are the depressions that they spawn. The economic world had fundamentally altered between the time Adam Smith’s “Wealth …” had been published and the 1819 depression, a period of 45 years that saw the change from manufacturing which Smith described into industrialization and its constellation of economic factors that Karl Marx observed and wrote about, publishing in another 40 years his “Capital” as a focused critique of Smith’s opus. Not until Keynes was there any effective description of political economy dynamics (and precious little since – not counting MMT:-).
          The whole of the 19th century effectively had no operating paradigm outside the mercantilism against which Smith’s “Wealth …” spoke until certain economic magnates borrowed from Darwin, promoting social Darwinism as justification of their psychological pathologies, emerging from the darkness of their crypts to undo every advancement made against their predations, marketed on the sign of the cross and honour of a flag to a population deprived of enough education to realize their peril. Outside MMT, there is still no effective operating paradigm for economic governance, until there is, this will not end well. But as Winston Churchill once observed that the Yanks will eventually get things right – after they have tried everything else Maybe. The Irish optimist is the one who buys a car with a sunroof.

          • I’ve been out of town a few days.

            I don’t see evidence that surpluses spawn depressions. I especially don’t see any evidence that deficits (increasing base money) are required to solve depressions. The (relatively short) depressions of the 1800s were not met with large increases in government spending or deficits. One of them was met with continued surpluses. The longest depression (1930s) was met with large deficits.

            To me the evidence says the opposite of MMT, and when theory and evidence conflict, it seems that the theory needs to change rather than making statements which aren’t backed up by evidence.

            So I’m still looking for evidence showing that base money increased in response to the depressions in the 1800s, as stated in the original essay. I realize this is only one piece of the essay, I chose to only comment on that one aspect as it seemed easily checked. If the evidence doesn’t support Thornton Parker’s statement about depressions, is there evidence supporting the rest of the essay?

    • You raise interesting questions and I hope someone answers them. But one thing I wonder is the extent to which the current account may have played into any of this in the last ten years or so. To the extent that is in deficit it couterbalances the budget deficit or, perhaps in Clintons’s case makes the surplus even worse. We need a chart of the sectoral balances, which I don’t have.

      Once there is a recession/depression the deficit would get larger as a matter of course.

    • Samuel Conner

      With respect to the question at the end of why the Bush II deficits were not more stimulative, it may matter what they were used to purchase — large tax reductions and large foreign war expenditures. It surely also matters what else was happening in the economy at the time, particularly the ongoing decline of domestic manufacturing and the unsustainable housing bubble, the increasing “financialization” of the economy (more nominal GDP and increasing share of corporate profits attributable to financial engineering at the expense of the production of tangible goods and services). The Bush II deficits were not particularly smart.

      • In terms of the unemployment rate, I’m not sure how the Bush II economy was so bad. Unemployment hit a low (4%) in 2000 (coincident with the largest surplus). Unemployment rose to about 5.5% as the deficit rose to about 3.5% of GDP. Unemployment dropped to about 4.6% as the deficit fell to 1.2% of GDP. Then 2008 and the economy fell apart, with unemployment going over 9% and deficits hitting 10% of GDP.

        I realize there are lags in the economy, though I haven’t seen an MMT statement of the typical lag between, for instance, increased spending and decreased unemployment. I have noticed that a graph of unemployment and the deficit (as a % of GDP) since 1970 shows very similar graphs — higher deficits correlate with higher unemployment and vice versa. The pre-1970 graph doesn’t show this correlation, but there seems to have been a fundamental change in the economy around 1970, I also remember reading about some correlations between money supply and inflation (I think, I’m out of town and don’t have the book handy) which broke down about 1970.

        Since recent deficits and unemployment seem to be doing the exact opposite of MMT predictions, I’m looking for data supporting MMT. Again, Thornton Parker’s original statement was that the way out of depressions is increasing the base money supply. I don’t see that in the evidence – in the 1800s the federal government didn’t increase spending significantly in response to depressions (and according to deficit figures, didn’t increase the base money supply much), yet these depressions only lasted a few years. The longest lasting depression (the Great Depression) featured increased government spending and deficits throughout the downturn. Today’s downturn also features increased spending and deficits.

        According to Thornton Parker’s original post, I would have expected the opposite (long lasting depressions in the 1800s due to a non-responsive government, short downturns in the 20th century after the government responds. At this point, the evidence I can find appears to argue the opposite of MMT. Increased federal spending in response to a downturn (or increased deficits) appear to hurt the economy, not help it, and I can’t find any evidence that surpluses cause depressions.

        • I could observe a correlation between my perspiration and feeling hot, only to conclude that perspiring makes me feel hot, rather than keeping me from overheating.

          The Clinton surpluses, I have to think, were only possible without resulting in higher unemployment because private sector investment was outpacing saving by leaps and bounds, during the dot-com craze. That bubble burst in 2000, and bye bye surpluses.

          (Keeping in mind that I’m just another guy who reads MMT blogs, and no expert by a long shot…)

          So, you can’t get your causes and your effects reversed, and you can’t ignore the other sectors when trying to predict what will happen when one of them is in surplus or deficit.

  17. My guess is that supply side driven consumption is a permanent part of the neoliberal project plan. It floods the market with variety but not necessarily what you want or need. Marketing crams it down your throat until your last borrowed penny is taken off the table. The system hires to handle the over production until the customer is illiquid, has lost confidence and is resistant to marketing. Then begin the lay offs. A supply side economy is hard to stimulate once it over produces. I notice the new Bush book wants to kick the bloated private sector and begin over production again hoping for a new wave of conspicuous consumption on credit.

    We are a long way from the original American Dream of hard work, saving and frugality until you could afford a fixed asset such as a corner store to multiply your labor productivity and also be a savings vehicle for wealth accumulation. It was the ticket to the middle class for millions of immigrants.

    At the age of 14 my grandmother left school as ws the custom for girls. She did not want to learn household management, she wanted to manage a store. She eventually managed a penny candy store that sold newspapers , smokes and ice cream. She bought the store and then the building. The pennies added up and got them through the Depression when grandpa’s hours were cut back at the factory. Back then prices were set with no discounting so a little store could compete by ordering stock to satisfy the neighborhood needs and wants. Store credit (no interest) figured on half her sales . They helped each other.

  18. Charles Yaker

    So when does the “preaching to the choir” end?

    Please don’t take this as being nasty uninterested or facetious I really want to know. More importantly I would like to know how to proceed. How do those of us that are interested in the same goals that you are operationalize tthe above piece?

  19. Thornton Parker

    Charles, you asked the most important question. I now live in western Virginia — a very “conservative” area with elected representatives and one newspaper all spreading the fear of deficits. I am going to try to explain how the fear is being used and its destructive effects to progressive candidates in hopes that they will spread the message, and maybe even get elected.

    That is why I wrote the post that started this exchange. Even if MMT is not complete, and I don’t think it is, it points in the right general direction for the next few years. But for candidates to bet their campaigns and futures on it, they must become convinced of its value and have a way to express the most basic points convincingly.

    My post was just a stepping stone toward condensing the essence into a persuasive explanation. In finished form, it should be brief and probably include no more than four main points, each convincingly worded in ordinary language at about the eighth grade level.

    For any of you who want to compare ideas on developing the explanation, my email address is [email protected]. Whatever I/we come up with will be in the public domain.

    Thornton “Tip” Parker

  20. This absolutely the best description of the national debt that I have ever read. Thank you.

  21. MMT is given a review of sorts over at binews.org. Comments over there anyone?
    See opinion piece: Money Trees

  22. Chris Jordan

    “The third, and perhaps most important reason why the government sells securities is that people, financial institutions, and other countries want Treasury bills, notes, and bonds as ways to save their dollars and get interest payments. Much of the base money that is saved winds up in these instruments.”

    So why can the Federal Government not print some of its own money – without compound interest – to spend into infrastructure jobs and stimulate the economy? Not all the money ‘borrowed” by the government needs to be by way of a public financial instrument. This would then balance the corrupt banking system and help them get back to more basics of banking. The Fed has done nothing with its QE because none of the money created employment and we all need employment to be able to spend and keep the economy moving.

  23. Pingback: Towards an new American Manifesto « David Petraitis

  24. Pingback: Κίνηση οικονομικών ιδεών Ιουλίου Β’ 15μέρου | Greekjammer

  25. When all the deficits and surpluses that were run since the founding of the Republic are added up, the total is known by the misleading term “national debt”.

    The term “National Debt” is in no way misleading. The National Debt is precisely that. Thinking of the national debt as debt is precisely the right way to think of it. The ones who are misled are the ones who think of it as misleading. The MMT academics do not say such things.

    Relatedly, the government / household comparison is not misleading – if it is done correctly, which is hardly ever – it is just another way of stating the creditary nature of money – that money is credit/debt. MMT academics could do well to explain this. The government is a household; the royal household, the sovereign household, the by-far- most-powerful household. If another household or firm became more powerful than the government, it would be the government for MMT purposes, no matter what it called itself, no matter if a residual formal government still existed.