By Marshall Auerback

The lamentable state of American political parties has become common sport amongst the chattering classes in DC and beyond. Although, one wonders whether this dysfunction has really been such a bad thing, when considering how united bipartisan “responsible” action always seems to result in yet more budget cuts.

By virtue of the fact that Congress and the Obama Administration couldn’t agree on much for the past few years, America’s deficits got large enough to put a floor on demand. The transfer payments via the automatic stabilisers worked to stabilise private sector incomes and allowed a general, albeit tepid, recovery in the economy.

But since the beginning of the year, Democrats and Republicans have put aside a lot of their differences. And what has been the result? Well, first we got the deal to avert the so-called “fiscal cliff,” the upshot being tax increases (and not just on wealthy people, but via the regressive payroll tax hike), which took around .5% out of GDP. This despite the fact that the deficit, as a percentage of GDP, had already fallen from 10% to 7% — one of the fastest 3 year falls on record.

Since that time, it feels like we’ve been witnesses to a slow motion train wreck.  We’ve had the sequester, which will suck a further 1 – 1.5% of GDP out of the economy. True, the data which has come out recently has continued to be pretty robust: the February manufacturing ISM index showed significant improvement since December. The forward-looking new orders component is better than the overall index by a decent margin. The employment index is moderate and stable. The non-manufacturing is even better. And ADP showed companies added more workers than earlier projected in February, indicating the U.S. job market will keep expanding this year.

Of course, all of this momentum could go out the window if and when the programmed fiscal restriction (much of which was only introduced on March 1st) continues throughout the year.

Not content to leave well enough alone, we now learn that President Obama has reportedly invited a handful of moderate GOP lawmakers to dinner on Wednesday night in a bid to reach a “grand bargain” to reduce the budget deficit. The olive branch (as it’s called in the press – more like a poisoned chalice for the US economy) comes less than a week after Congress failed to reach a deal to replace the so-called sequester, allowing $85 billion in painful, across-the-board spending cuts to begin taking effect.

There isn’t, in fact, a “long-term deficit problem.” For what it’s worth, so long as interest rates stay below the growth rate, as they are, debt-to-GDP levels eventually stabilise and even decline (not that this should be a preoccupation of governments). But if we start reintroducing cutbacks, just as the US economy is beginning to show faltering signs of recovery, all of the recent gains on the budget deficit will go by the wayside. Why? Because fiscal austerity deflates economic activity, causing tax revenues to plunge and social welfare payments — unemployment insurance, welfare, food stamps — to explode. The perverse impact, then, is that deficits get larger — precisely the opposite of what the “austerian” brigade desires, but which is happening in earnest in places like Greece and Spain.

At the end of the day, deficits are a symptom of a problem, rather than the problem itself. That is, when the economy slides into a recession, tax revenues start falling as economic activity declines. Social transfer payments, particularly unemployment benefits, on the other hand, increase, again automatically, as more people lose their jobs. Calling the deficit a “national security problem” is akin to blaming the thermometer when it records the temperature of a patient suffering from the flu. Similarly, cutting government investment at a time of still high unemployment is as futile as breaking the thermometer, rather than treating the underlying illness. Your doctor would be rightly sued for medical malpractice, if that was the treatment he recommended. Shouldn’t we have a similar standard in place for economic quacks who advocate policies designed to make our deficits higher? 

Yet again, the President seems determined to snatch defeat from the jaws of victory.


  1. casino implosion

    Republicans: as long as you don’t raise the taxes on our rich folk, we don’t really give a damn about what happens to the deficit or the fate of entitlements.

    Democrats: as long as you don’t cut our entitlements, we don’t really give a damn about the deficit or how much the rich pay in taxes,

    Centrists: the sky is falling! panic! the debt is unsustainable

    Centrists outnumbered, status quo continues: “The MMT Truce”

    • davidgmills

      Which Democrats are you talking about? The ones in office or the ones who put them there?

  2. There was a day when doing nothing was often better than something, but those days have past. The problem is they have structured these laws to expire such that dysfunction is worse than even their alternatives. Sometimes though, what is bad economics can still be good/bad politics and lead to better solutions in the long run so there is no reason for discouragement.

  3. “Because fiscal austerity deflates economic activity, causing tax revenues to plunge and social welfare payments – unemployment insurance, welfare, food stamps – to explode.”

    I think the austerity mongers DO realize this. That’s why they are trying to cut back on SS and medicare, limit unemployment an impose restrictions, such as mandatory drug testing, on welfare and food stamps. As they continue to compound the problem and it becomes more evident that they are increasing not decreasing the deficits, more focus will brought to bear on curbing the existing social welfare programs.

    Once homeless and jobless rates soar and government spending is only for banks and defense contractors, they will declare victory.

  4. The real political dysfunction is in the relationship of both parties and of political discourse to economic, social and environmental reality.

  5. President Barack Herbert Hoover Obama.

  6. Mrquetiapine

    “…There isn’t, in fact, a “long-term deficit problem.” For what it’s worth, so long as interest rates stay below the growth rate, as they are, debt-to-GDP levels eventually stabilize and even decline (not that this should be a preoccupation of governments).”
    Agreed that the debt/GDP ratio will shrink if the denominator grows faster than the numerator but here debt has interest on the debt plus new deficits ie new spending. This means future debt/GDP must also shrink or a least break even. This is almost akin to perpetual motion machine as why not expand debt such that all monetary social problems are solved knowing that since current GDP growth is beating current debt it must hold for future ratios.

    • John Q. Public

      I think you might like reading more about sector balances and fiat money economies in MMT. The trap is set by what seems some common sense microeconomic false dichotomies that don’t apply to macro (such as we must ‘get’ money to spend money). Besides the many great articles here, you might like The Billy Blog (Bill Mitchell).

    • We can always keystroke the funds necessary to cover whatever, in a depression economy, but especially the interest on nataional “debt”.

      Look at who is collecting the interest: mainly US citizens in various forms (including the government paying itself on the instruments it holds), and foreign nationals.

      If US citizens or foreign nationals spend the dollars, the US economy grows, and we get the money back.

      If took much of the keystroked interest is spent so that there are inflationary pressures, the fed can jack up interest rates. Given we are only at, what 60 – 70% capacity, we’re a ways from that.

      If it’s not spent, it doesn’t matter, since it’s simply printed money anyway.

  7. How to explain the record highs in the stock market right now? The Fed’s Flow of Funds report now shows a record level of household financial assets in Q4 2012, higher than even before the crash. But we still have very low GDP growth combined with large numbers of unemployed.. yet the Dow barrels upward without any sign of slowing down. As Marshall mentions, automatic stabilizers have at least provided us with a floor for the economy, but it isn’t clear to me how/why we should be seeing these price levels in the stock market.

    One popular theory seems to revolve around a ‘central bank bubble’, the incessant bond buying and accompanying low treasury yields have pushed investors into riskier assets in search of higher returns. Regardless of the lack of fundamentals supporting such a position, people seem to be convinced of Fed omnipotence – despite all the empirical evidence to the contrary. I guess that doesn’t really matter, and we are just in the midst of yet another asset bubble? Any thoughts?

    • As the rich elite gets richer, they tend to place their money in the stock, bond or commodity markets. The bonds return little interest, commodity prices are going down and the stock market is going up. The Federal Reserve is busy buying $40 billion per month of corporate bonds, because otherwise they are unsaleable. This leaves the stock market.

    • Auburn Parks

      not being the biggest market aficionado myself….I watched the 2 hr senate testimony of Bernanke last night and he was asked about this on a number of occasions and his response was that the profit margins of corporate America are pretty consistent with the value of the stock market.
      I would also say that today’s “record high” stock market isn’t necessarily “inflated” by much. 100% growth in the market is alot but we can safely say that cherry picking the starting point at the bottom of the crash is not really that representative of the reality of where the market “should” be. It is still more than a thousand points lower than the record when adjusted for inflation.
      Frank is also right, because there is no need to expand business operations due to depressed demand, all that wealth the .1% has is being parked in stocks, commodities, bonds etc also helping to increase the market index.

  8. I’d held out hope Obama was stuffing tactical tricks up his sleeve. You know, something along the lines of following through the cutting of entitlements by targeting the costs rather than the recipients. Like lowering Medicare/Medicaid projected costs by eliminating the legislative roadblocks erected to protect large profit margins over greater access and the like. Though I’d agree the timing now for raising taxes or making budget cuts is bad–if forced to do something, whittling away at the share of expenditures that pad the profits of the already outrageously overly rewarded <1% would certainly result in the least damage to this economy.

    Politically speaking, those Henny Pennying with "the deficit is coming, the deficit is coming" who've been ridiculously successful hijacking every discussion about our current economic situation would be easier to hush if medical expense projections weren't skewing the national debt projections so alarmingly. There's no reasoning with people once they're in a panic.

    But the hopes I had that Obama was simply being tactical are about gone.

  9. Tristan Lanfrey

    deficits are a symptom of a problem

    I find this misleading. A deficit can be the symptom of a healthy economy where the private (including foreign) sector’s savings desires in the national cirrency are adequately matched.

    You just indirectly linked deficits with problem, where there isn’t necessarily a link between the two. A better phrasing would be “deficits could be the symptomn of a problem”. Then again I’d rather say something like “budget deficits or surplus are only the outcome of accounting balances after the private sector’s saving/spending decisions have been taken into account”.


  11. Blaming any political party is absolutely ludicrous. Republicans and Democrats essentially are different pawns in the exact same system. A 10 year old can figure out that it is not the party that needs to change, it is the entire system. To be more accurate, the party that campaigns on changing the entire system and presents a clear picture on how the new system will work using correct principles will be the one who really makes a difference. The inherent problem with the system is “money” is the bottom line and that “the love of money is the root of all evil”. The system has to stop revolving around money and revolve around the human condition and environment as the bottom line. The earth has enough resources that every man woman and child could eat like kings and queens and yet we have billions starving to death. Why? Because it is not profitable in a world that revolves around money to assist third world countries in helping them develop themselves. It is only profitable to steal their natural resources, so that is what is done. I believe capitalism can work with a few obvious tweeks to prevent greed from being allowed to be the order of the day.

  12. Dale Pierce


    Amen. MMT and related post-Keynesian economics is all about perfecting and applying the “tweeks” you reference. And, yes, for the present, American politics has become a comprehensively useless exercise – except, as Marshall Auerbach here explains, when it is even worse-than-useless.

    In my family, we capture this with a slogan: “In Washington, our only friend is gridlock!”


    • Dale, I am not familiar with MMT and related post-Keynesian economics but I will most certainly be looking into this.
      However, I am not certain that economics can solve our problems, but that economics seem to be the root of the problem. If economics are defined as “The branch of knowledge concerned with the production, consumption, and transfer of wealth” I am suggesting that there should not be wealth classes when the earth has enough resources that every man woman and child could live like the Rothschilds if the system was designed correctly. Every man and woman could eat the very best nutritious foods and live in a beautiful house and have the best health care, and be able to prosper in every sense of the word. I am not suggesting that I am intelligent enough to figure out how such a system would work, but I am sure that there are those out there who are. I only know that the earth we live on could sustain this ridiculously easily, we just need to figure out intelligent ways to work together to make it happen. I am not advocating any kind of political system here such as socialism\facism\capitalism. I am only suggesting that as a world population, we are not doing well at all in using the earths resources to care for ourselves. The rich get richer and the poor get poorer and the checks and balances that are implemented into any government (regardless of what type of government it is), should not allow for this to happen.

  13. Taking a look at the most recent Bureau of Labor Statistics

    Number of jobs February 2013 =142.228 million
    Official unemployment rate 8.1 or 7.7% – latter figure is the seasonally adjusted rate.(The BLS no longer considers as “unemployed” those workers without jobs, who have not looked for work in the past year, because they feel no jobs are available.)

    The actual unemployment rate is 19.52%
    Analysing the US government figures:
    Total US population = 315.46 million
    Number of Men over 16 yrs old employed = 75.16 million
    Number of Women over 16 years old employed = 67.07 million
    Total =142.228 million jobs

    Therefore number of stay at home women = 8.09 million
    Calculating size of potential workforce:
    33 million over age 65, but 21.5 % are still working = 25.9 million retired
    20 million under 5 years old
    75 million at school/college
    8.09 million stay at home wives/Moms
    8 million are on SSI disability
    Total 136.99 million not in the workforce
    (1.4 million are in the military and are technically employed, but not counted by BLS, but I will add them to the number of employed)
    Therefore potential workforce = 315.46 – 136.99 = 178.47 million
    Number of jobs = 142.228 + 1.4 military = 143.63 million
    Therefore number unemployed = 178.47 – 143.63 = 34.84 million
    % unemployed = 34.84 /178.47*100 = 19.52 %
    This also underestimates unemployment in that about 10 million people are involuntarily working part time.

    Bureau of Labor Statistics

    • Sunflowerbio

      Frank, thanks for posting these figures for easy reference. If the ten million or so under-employed are added to the 34.84 million figure, the un/under-employed figure is about 25% of the population. This is really disgraceful for the richest nation on earth, and totally unnecessary for a sovereign monetary nation with a free floating currency.

    • Auburn Parks

      Thats a very nice and useful summary you did there. Thank you for taking the time to break that all down.
      If nothing else, as sunflowerbio mentions below, the fact that we can have an effective rate of 25% and not see the same type of widespread destruction and desolation as was seen during the Great Depression is a testimony to how much better our society and government safety net is constructed today vs 80 years ago.
      Yes, I know all about relativity….the safety net is much better than the 1930’s but is much WORSE than it can and should be.

  14. @Jerry
    I think there is merit in finding how much of 2013 GDP will come from stocks, bond, CDO, etc. sales (wall st related income) Maybe Jack Lew (another wall st. alumni) has convinced Obama that GDP from financial sector will keep the 2013 economy growing. It could be that stocks, bonds, etc. will become the next bubble with large sums moving into financial sector instead of going to investments that create jobs or wage increases. Congress will have to put a damper on welfare and unemployment benefits (extended unemployment benefits were only funded for 1 more yr) to make it appear that spending is under control. The Fed is relieving the banks of their toxic assets slowing with their bond buying program as not to alarm anyone. Only these toxic assets now become the liability of US taxpayer and not the banks.

    • Since it is the banker owned Federal Reserve, who are buying the $40 billion per month of corporate bonds with money they create out of thin air, it is not the taxpayer who is liable for any loss incurred. However, it is a claim on the companies that issued the bonds. Who they are has not been divulged. At some point in time these bonds have to be redeemed by the corporations, who issued them. In other words they will have to buy them back, if they have the money to do so, that is.

  15. @Frank
    ….Since it is the banker owned Federal Reserve, who are buying the $40 billion per month of corporate bonds with money they create out of thin air, it is not the taxpayer who is liable for any loss incurred.

    You really believe the Fed borrowed from the banks to buy the bonds. That funding comes from the treasury (taxpayer debt not bank debt). Think about it! Why would banks sell their bonds to themselves?

    Yes, banks are required to have capital investments in the Fed (ownership) but US dollars to buy the bonds are not created out of thin air from banks but from US treasury key strokes. You really need to listen to MMT economist-L. Randall Wray. speak at Lewis & Clark College. He has a dry delivery but very informative explanation of how moderning banking works. Banks are not creating dollars!

    • Jmarco,

      The Federal Reserve does not have to borrow money from anyone. It creates the money needed to buy corporate bonds with a keystroke on its computer. The US Treasury is not in the least involved with Bernanke’s purchases of corporate bonds.

      I do not necessarily believe everything written about MMT by anyone, no matter who they are. I prefer to deal in facts, rather than opinions or quasi religious beliefs.

  16. @ Frank:

    See below explanation on Feds relation to its banks holding investments in this Wikipedia paragraph-Legal Status of regional Federal Reserve Banks.

    Federal Reserve (Wikipedia)

    Regarding the structural relationship between the twelve Federal Reserve banks and the various commercial (member) banks, political science professor Michael D. Reagan has written that:[80]
    … the “ownership” of the Reserve Banks by the commercial banks is symbolic; they do not exercise the proprietary control associated with the concept of ownership nor share, beyond the statutory dividend, in Reserve Bank “profits.” … Bank ownership and election at the base are therefore devoid of substantive significance, despite the superficial appearance of private bank control that the formal arrangement creates.

    MMT is not some cult theory. Or do you believe that political science writer Reagan as quoted is just a dupe?

    Show me how you think that a bank can direct the Fed to buy its bonds?

    The Fed does not manage/operate banks like Chase, Wells Fargo, Bank of America, etc or vice versa. The US banking industry is not controlled like they were in J P Morgan era. You really need some actual facts not just some personal belief that bankers control US economy (Fed does their bidding)

    Where does? See below web article.
    From America Enterprise Institute magazine “The American”

    “3) Where does the Fed get its money?
    The Fed has its own source of funds, so Congress cannot guide monetary policy through withholding or bestowing appropriations.
    The main source of income is seigniorage revenue. Whenever the Fed increases the amount of money in circulation, it purchases new currency from the U.S. Treasury for cents on the dollar. For example, if a member bank needs an extra million dollars, it calls the Fed to order currency, and the Fed asks the Treasury to print the amount. The Fed gives the money to the bank, and debits the bank’s reserve account. The Fed then invests the reserves in government securities as collateral, and profits from the interest that accrues to its own account. In 2006, after accounting for expenses, the Fed returned $29 billion in profits to the U.S. Treasury (Figure 1)”.

  17. Jmarco,

    Thanks for your reply. I would comment as follows:

    1. The shareholders of any major corporation do not manage its affairs. It is the CEO, senior management and the board of directors, who decide on policy and operations. The same applies to the Federal Reserve. Bernanke basically calls the shots together the Board of Governors. it is independent of the US government.

    2) No bank can direct the Federal Reserve to buy its bonds, but if the Federal Reserve sees fit it can do so, with money it creates merely by making a book entry.

    3) The article you quote is misleading. It is only referring to printed Federal Reserve bank notes, which are printed by a division of the US Treasury and sold to the Federal Reserve at the cost of printing rather than their face value. But only 3% of the money supply is created this way; the other 97% consists of book entries on computers. The Federal Reserve does not involve the US Treasury in this operation.

    The American Enterprise Institute is a right leaning think tank funded by large corporations and therefore I interpret its writings accordingly.

    • @Robert
      So your authority on Fed is somebody named “Michael” at The Economic Collapse website? This guy speaks like an authority on Fed but anybody with good writing skills could produce the same economic rants. Ex.: Blaming the Fed for 96% loss in purchasing power of a 1900 dollar is a little ridiculous. Most likely, any real factual info on Fed operations will never get past a “survivalist mentality”.

      you should go to Federal Gov data website and see how many years that US has had a surplus/or rev = spending? A country with over 200 years of spending more (deficit) than it collects in taxes has survived and prospered. It will not go into default. If you don’t trust Gov. website for data, then you built your survival bunker and take all your money with you. But if your heirs come out in 100 yrs, count on them losing their dollar purchasing power.

      And check the dollar bills in your wallet, they all have “Federal Reserve Note” at the top.

  18. “And check the dollar bills in your wallet, they all have “Federal Reserve Note” at the top.”

    They also read “In God We Trust” and have picture of an Egyptian pyramid with an eye at the apex.

    • sunflowerbio

      Since Egypt has been around for over 5000 years and the United States for just over 200, I’ll put my trust in the pyramid.

      • The image of the Egyptian pyramid on US banknotes, is to persuade the public that the notes are powerful and invincible. The term in God We Trust is meant to convey that God ordained the printing of these bills and the all seeing eye atop the pyramid, is to convey to everyone the omnificence of the Federal Reserve.

        For good measure, they bear the signature of the Secretary of the Treasury and a picture of a US president, in order to deceive everyone that they are government issued. It was masterful use of imagery to lend an impression of authenticity, which was in fact the biggest scam ever perpetrated on the American public; a currency the government has to buy from a private bank.

  19. @Frank

    Per your Mar 8 response to me:
    Since it is the banker owned Federal Reserve, who are buying the $40 billion per month of corporate bonds with money they create out of thin air, it is not the taxpayer who is liable for any loss incurred…. etc.

    You were right:
    The Fed is purchasing treasury & mbs bonds on open market at about $85 bn (instead of $40bn) per month. And Fed does pay for them with key strokes (out of thin air) not borrowings. They are increasing money supply.

    The Fed is calling their purchases a form of Credit Easing.
    Treasury Bonds:
    Now when Fed buys treasury bonds, doesn’t US end up making its interest payment to the Fed? And wouldn’t the Fed probably return some of that interest to US Treasury by making dividend payments?
    MBS Bonds:
    In several announcements Fed has stated that its purchase of MBS bonds (with Fannie/Ginnie Mae & Freddie Mac guaranteed mortgages) are being purchased to spur home mortgage lending and lower home mortgage interest rates.
    Money To Bank:
    The Fed hopes that money will be lend out and help lower unemployment. That is of course a big IF?

    • JMarco,

      There is in fact a mandate that that the Federal Reserve must work to reduce unemployment. There is also a bill passed by Congress to minimise unemployment introduced in the House as H.R. 50 by Augustus F. Hawkins (D–CA) on January 4, 1977

      Neither are succeeding, since the real unemployment rate is 19%, but the Obama administration doctors the number down to around 7.9% by using a misleading definition.

      The total Us Treasury debt is supposed to be $16.5 trillion, but approximately half of it is intergovernmental. The remaining $8.25 trillion is divided roughly between domestic and foreign investors. The Federal Reserve bank owns about $1.7 trillion.


  21. @Frank
    “Obama administration” is using the same measure of unemployment as has been used by previous admins.
    It may be a flawed system (surveys,etc.) but is the same calculation as previously.
    If anyone has thoughts as to how to measure it directly, by all means promote them!

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