The I.O.U. in the U.S. Dollar

By J.D. Alt

One of the strangest things to understand about Modern Money Theory is why, if government doesn’t need your tax dollars in order to spend, does government tax at all? Here is an attempt at a new and “better” explanation. It is based on the insight that the government DOES, in fact, need to collect taxes, but the “taxes” it collects are not your “tax dollars.” This may sound like gibberish, but stick with me a moment and see if the following doesn’t make sense—and cast a new light on OTHER things as well (like, for example, the “national debt”).

A paper dollar, printed by the sovereign U.S. government, is nothing more—and nothing OTHER than—a tax I.O.U. which states, in effect: “The sovereign U.S. government owes the bearer one dollar of tax credit on the day taxes are due.”

Because of this I.O.U. pledge, the government is able to use the paper dollar, in the MEANTIME, to purchase real goods and services from private citizens and businesses. The citizens and businesses are willing to exchange their real goods and services for the paper dollars because they will NEED the I.O.U.s (dollars) to present to the government on “tax-day”. The mental “trick” here is to realize that the ACTUAL taxes are collected when the government purchases the real goods and services—those goods and services being, in fact, the actual taxes paid. (This is perfectly logical, when you consider it, because what the government WANTS are the goods and services—NOT its own paper I.O.U.s which it can print up any time it wants.)

What happens on “tax-day”, then,  is the citizens present the sovereign government with the paper I.O.U.s they have earned providing goods and services to the government (and/or to each other), and their taxes are extinguished. Again, the mental “trick” here is to realize that the transaction that takes place on “tax-day” is not actually the PAYMENT of taxes but, instead, is the citizens declaring they have ALREADY paid their taxes (the real goods and services they provided earlier)—and the paper I.O.U.s are the PROOF of that payment.

By logic, then, what does the government do with those I.O.U.s presented as proof of taxes paid? They are simply destroyed because owning a piece of paper that says you owe YOURSELF one dollar of tax credit is meaningless. The I.O.U. is only of value to the citizen who is required by law to pay taxes, and once it is used for that purpose, it is extinguished.

This perspective supports and, I think, clarifies the general Modern Money propositions that:

a)     Taxes drive money—in other words, private citizens are willing to provide goods and services to the government in exchange for government’s paper dollars because they NEED those dollars (government I.O.U.s) to pay their future taxes.

b)    The government must create and then SPEND its dollars in order for the private citizens to earn the dollars they need to pay their taxes.

c)    When the government collects “tax dollars” it is NOT collecting something it “needs” but, instead, is simply collecting back (or cancelling) its own I.O.U.s (The ACTUAL taxes are the real goods and services it had previously received in return for those I.O.U.s).

d)    Because the government imposes a continuous, outstanding tax liability on its citizens and businesses, the paper I.O.U.s (dollars) have value in the private market and become the standard currency of exchange for goods and services between private citizens and businesses.

e)    In order for this private sector economy to grow, the government has to spend MORE I.O.U.s (dollars) than it collects back (cancels) on tax-day. If it does NOT spend more than it collects, the private citizens and businesses will have no “net” dollars for private commerce and, as a consequence, there will be fewer real goods and services for the government to purchase. The more I.O.U.s the government spends, relative to what it collects back in taxes, the MORE net dollars remain in the private sector economy and, assuming the real resources are available to put those dollars to work, the economy will add jobs and produce more goods and services.

f)      Because the government must spend MORE dollars (I.O.U.s) than it collects back (cancels) on tax-day, it appears to be “deficit spending”—spending more than it “earns”. This terminology is logically MISLEADING, however, because the only thing the government can “earn” by collecting “tax dollars” is its own I.O.U.s which cannot be a form of “earning” in any meaningful sense of the term, since it is meaningless to own a piece of paper that says you “owe yourself.”

This brings us, then, to the question: If a paper dollar is a tax I.O.U., what is a Treasury bond? The common understanding is that Treasury bonds represent a “debt” which the government must “repay” in the future. But look how our new perspective requires that view to shift:

Let’s say a private citizen “buys” a Treasury bond. What takes place? The citizen exchanges say a hundred paper tax I.O.U.s for another piece of paper (the Treasury bond) which is…what? It is another government tax I.O.U. pledging to pay, at a specified time in the future, a hundred and SEVEN paper tax I.O.U.s (the original hundred plus 7 percent interest.) What is unique in this transaction is that, while it appears the government is in “debt” to the citizen, what it “owes” the citizen is nothing more than its own promise to accept these I.O.U.s (dollars) as tax payments. There is no logical sense I can think of in which that can be considered a meaningful debt.

The national “debt crisis” which our enlightened politicians and economic pundits flail us with on a daily basis—demanding our obeisance to their schemes of imposed austerity—cannot, therefore, really EXIST. It is a figment of their overwrought imaginations. Simple reason tells us that—so long as the sovereign government has the authority to declare that its citizens shall pay taxes—it is an effortless exercise for that government to continuously and FOREVER issue pieces of paper which simply state the government will accept that paper as payment of taxes due to itself. The implications of this for a TRUE national prosperity are enormous.