Deficit spending by the government is merely the counterpart of private sector saving. What government deficit spending does is to permit the private sector to achieve its level of desired saving. When the latter changes, government spending ought to be adjusting in the opposite direction to offset it (unless the current account balance happens to do the job).
This very simple statement by Marshall Auerback reflects the Sector Financial Balances (SFB) Model I discussed in “A Plague On All Your Budgets.” The Sector Financial Balances Model:
Domestic Private Balance + Domestic Government Balance + Foreign Balance = 0;
once again, is an accounting identity that provides a focus for macroeconomic analysis, explanation, and prediction by economists applying the Modern Money Theory (MMT) approach. The terms refer to flows among the three sectors of the economy in any defined period of time. Since we’re dealing with an accounting identity, the equation must always be valid.
So, for example, when the domestic private sector balance is positive that means that more financial wealth is flowing to that sector taken as a whole than it is sending to the other two sectors. Similarly when the foreign sector balance is positive that means that more financial wealth is being sent to that sector than it is sending to the other two sectors. When the private sector balance is negative that means that the private sector is sending more to the other two sectors and so on.
In “A Plague On All Your Budgets,” I used the SFB model to show that all four sets of projections of budget deficits then current by: the Congressional Progressive Caucus (CPC), the CBO, the House, and the Senate; all implied austerity over a 10 year period assuming that the foreign balance (the US trade deficit ) would remain at 3% of GDP or greater. Why?
Simple. Look at the equation. If the foreign balance is greater than or equal to 3% of GDP in any year, then unless the Government runs a deficit of 3% or greater, the domestic private balance must be negative. That doesn’t mean every private sector person or organization would lose nominal financial wealth over that year, but it would mean that other than temporary and illusory financial gains due to credit bubbles and accompanying excessive evaluation of assets, the accumulation of financial wealth in the private sector would be a zero sum game, with some people and organizations winning and some losing every year the private sector balance was negative because the foreign balance was at +3% and the government balance was greater than -3%. If the Government ran a surplus of say 2% of GDP in any year, then private sector wealth would decline by 5% of GDP in that year. Of course, three years of that would be an economic catastrophe
Over a period of years, and again, neglecting the effect of credit bubbles, the result sooner or later has to be constriction in aggregate demand, economic stagnation, and recession or depression. In my previous post, I concluded that even under the most “liberal” 10 year projection planned by the CPC we could expect domestic private sector savings losses from 2016 on, and even perhaps in 2015 if there were a slight deviation in the projection. We could not have too many years of those losses without hitting another great recession.
So, the CPC budget may be better than others for a couple of years, but the danger in it is that if the CPC plan were taken seriously and the budget course projected was actually implemented, then it would be deterred eventually only by the inevitable crash. Hopefully this crash would occur in very short order, rather than being postponed by another credit bubble, only to be even more severe later on.
Since my earlier post, the White House has weighed in with its budget and 10 year projection. One item in the President’s budget has received an enormous amount of attention, and that is the chained CPI proposal. I’ve written rather trenchantly about that immoral proposal here and here. But, the overall implications of his austerity budget from a macroeconomic point of view haven’t been widely discussed. The Table below includes these new projections.
You can see that, with the exception of the CPC “back to work” budget, the President’s budget is the most expansive of all of them in 2013 – 2015. Still, it doesn’t allow for much private sector savings in a nation still recovering from the crash of 2008, and the CPC budget is quite a bit more expansive in these early years of the projections than the President’s plan. Beginning in 2016, however, the White House budget implies that private savings must be increasingly negative with greater and greater losses of private financial wealth to 2023. Its implications for negative savings in these years are less serious than the CPC budget, but, nevertheless, the fact that the White House either can’t or won’t recognize that its budget condemns the country to a recession within “the long depression” we are experiencing now, only makes the prognosis for the economy that much more serious, because it means that, like the Europeans, the White House is likely to double down on its austerity budget in the future if its deficit/debt projections are wrong. Like Herbert Hoover, and the Eurozone oligarchs, it will believe that “prosperity is just around the corner,” if only it stays the austerity course it has been increasingly setting.
Also, apart from the SFB model’s macroeconomic considerations and their significance for declining domestic private sector wealth over time, the situation looks even worse when we take economic and political power considerations and their likely effect on the economy into account. The history of the US since 1970 shows clearly that when the private sector gets a cold, the household sector gets pneumonia.
Big businesses, the financial sector, and wealthy oligarchs will use their economic and political power to see to it that their nominal financial wealth will continue to increase even as the private sector as a whole is losing 20% – 30% of its financial wealth, over the period of a decade. That will exacerbate the already ridiculous level of inequality we see in American society, and accelerate the movement toward plutocracy in America if we allow any of these austerity plans, or any variations between the “liberal” CPC proposal and the “right-wing” House proposal to be passed and implemented.
I’ll repeat what I said in my previous post with some small changes. All of these budgets are illustrations in fiscal fantasy, or perhaps I should say, in fiscal science fiction using bad fiscal science. In taking a fiscal approach based on reducing budget deficits, all the budgets are doing the wrong thing for the economy and the wrong thing for America. They are all fiscally unsustainable and fiscally irresponsible over a decade unless a credit bubble temporarily “bails out” the Government from experiencing the ultimate effects of its actions, allowing it to run unconscionably small deficits and pretend that everything is hunky-dory until the inevitable collapse of demand forces it to face reality.
The right approach to take to fiscal policy is to design and implement programs that will guarantee full employment at a living wage for everyone who wants to work full time and is able to do so. It is not to try to force small deficits or surpluses onto an economy that is not producing them out of its own robust activity.
The government needs to let the domestic private sector determine what both the foreign balance and the domestic private sector balance should be. If it does that, then these sector balances would drive the government balance. That balance could be a surplus or a deficit of a particular size, though in the case of the United States it would probably be a large deficit, or, as I prefer to call it, a large Government addition, to domestic private sector wealth, for some years to come. But it would be determined by the wishes of people in the domestic private sector, with the Government’s role being one of accommodating the surpluses or deficits.
Seeing this conclusion, I’m sure that some readers will ask: how the United States can afford to run deficit after deficit while continuing to accumulate its national debt? Well, first, it doesn’t have to accumulate and can even pay off its national debt without inflation. I’ve explained how it can do that in my new e-book on Fixing the Debt without Breaking America.
But second, even if the US does the politically unwise thing of continuing to accumulate a larger and larger national debt, when it can avoid doing that by taking advantage of its coin seigniorage authority, it can follow that debt accumulation course without either solvency or inflation problems. Scott Fullwiler has done a very good job of explaining how that can happen in a recent series of his, which concludes here.
Scott shows that deficits can be run indefinitely by nations with non-convertible, fiat currencies, with floating exchange rates, and no external debts in currencies not their own, without either solvency or inflation problems as long as the Government doesn’t deficit spend beyond full employment. That’s the kind of fiscal policy we should be making, not fiscal policy deliberately aimed at deficit reduction. So, to all the fiscal budgeteers in Washington looking to implement long-term plans for deficit reduction, including the President: a plague on all your budgets. You’re ending America, as we’ve known it!
“taking advantage of its coin seigniorage authority, it can follow that debt accumulation course without either solvency or inflation problems.”
___
Not gonna happen. Wanna wager?
No. But I’ll keep on writing about it anyway. Since the likelihood of it happening isn’t independent from my continuing to persuade people that it’s a good idea.
It seems that most MMT advocates want a job guarantee program paid for by an increase in federal spending. It seems that most politicians want to tell voters they will lower taxes and/or cut spending. So, why not focus on using tax incentives to fund a job guarantee program? Simply allow a percentage write-off for hiring new employes until unemployment falls to a specified level. Bring the program back if unemployment rises again. What politician doesn’t want to tell voters they are fighting for more jobs as well as lower taxes?
Because businesspeople won’t hire new people if the demand isn’t there. And the demand won’t be there until more people have jobs. If you could create full employment with a job guarantee associated with deficit spending then there’d be plenty of demand to persuade businesses to hire new people without using tax incentives.
In addition, the JG is for both creating full employment and doing so at a living wage with full fringe benefits. Tax incentives would never get you that. So they wouldn’t fulfill the public purpose we’re after. A JG program would. and it would force business to pay a living wage and full fringe benefits too, because that’s the only way it could hire full-time workers off the JG rolls.
“Because businesspeople won’t hire new people if the demand isn’t there.” Isn’t it possible for businesses to use new employees to create more demand for their product or service? One might even say that the ability to create product or service demand is what separates the business “winners” from the losers who wait for the public to come to them. If I can find a way to use government money (tax break) to bring on board people who bring in business, then I will do that. I love the JG as you describe it, but fear that it is utopian in current political circumstances. Incremental change toward the objective you describe is acceptable to me.
Some business people are entrepreneurial and go on the principle that “if you build it they will come. But most hire people in response to the appearance of consumer demand for their products and services. Generally speaking then, sales come first. Then more employment. Then more production or performed services. Then more sales and so on. What happens if there’s no demand there. Then either we wait for business to risk hiring people and generate its own demand, which usually involves banks providing credit, which they normally do only if they think a business venture will be able to sell its products and/or services, or the Government generates the demand through its deficit spending. The history of the great depression and the past 5 years should make it abundantly clear that when the economy has crashed you cannot rely on the private sector to produce its own increased demand. The only other source that can provide it is the government. So, it’s the government or stagnation, TINA.
As far as the JG being utopian in present political circumstances, my reply is that anything sensible is utopian in present political circumstances. The oligarchy wants you and me to view it as utopian, so you won’t advocate that SS payments be doubled, or that we have Medicare for All, or that we repair our infrastructure or implement a job guarantee or produce anything that is a real solution to the problems we face.
Well, guess what, I’m not going to stop talking about real solutions, and I’m not going to stop advocating for them. What I’m going to do instead is to join with others to make these political circumstances a thing of the past along with most of today’s politicians. And I’d advise you to do the same if you hope to live in a real democracy again.
Well, I guess I have to agree with you & golfer1john (below). Your responses to my earlier reply nailed it. Can’t debate someone with a better argument.
You’re a rare person, Beshiva. I don’t think I’ve gotten such an open reaction in a vigorous exchange more than a half dozen times in my life.
Don’t confuse micro and macro. Yes, you can create a great new product and hire people to make it and sell it, but every time someone buys your product they’ve not bought your competitor’s product, and for every new employee you hire, he lays one off. In the aggregate, nothing has changed. Without additional demand from government or the foreign sector or from increased private sector debt, domestic businesses can only swap sales among themselves, not increase total sales. Winners and losers, as you say.
The macro problem is to make everyone a little bit more of a winner. Tax breaks, directed at employment specifically or not, can help, but cannot achieve full employment. The closer you get, the more you create shortages of some skills (and price increases) while others remain unemployed. JG employs all skills regardless of specific demand.
The economic system we have chosen has unemployment as one of its characteristic features. Government, as sponsor of that system, has the moral responsibility to alleviate its ill effects. JG succeeds at that where macro stimulus, whether by increased spending or reduced taxes, falls short.
What’s going on with the comments sections here, NEP? Sometimes you can comment, sometimes you can’t? All the lower posts seem to be closed? Makes it difficult to create ongoing discussion. I’ll restate an earlier question here -sorry Joe – in case any readers have some insight. Is the ongoing QE necessary by the Fed to keep rates where they are, or is it some kind of one-off experiment in monetary policy to try and push people into other asset classes.. or both? I’m not sure what maturity periods the asset purchases are targeted at or if that makes a difference with driving down the Fed funds rate?
“Is the ongoing QE necessary by the Fed to keep rates where they are,”
Depends what “rates” you mean. The Fed strictly controls only the overnight federal funds rate. Their QE purchases now are in a fixed amount, so that the resulting rate is undetermined. Surely less than it would have been, but the target is a $ amount, not an interest rate. QE isn’t affecting the Fed funds rate.
“or is it some kind of one-off experiment in monetary policy to try and push people into other asset classes”
One-off experiment seems like a fair description. Not sure if that is their intent. Their expressed intent is to stimulate the economy, but they have that effect backward, as the income from the assets purchased is removed from the economy. The result, if you believe investment advisers, surely is to push people into riskier asset classes, propping up stock prices in particular.
“What’s going on with the comments sections here, NEP?” Yeah, me, too. I sent a message to the “contact us” about a week ago, nothing heard back.
Brother John
“QE isn’t affecting the Fed funds rate.”
just a heads up on what I think must be a misprint….two lines above you wrote this….”The Fed strictly controls only the overnight federal funds rate.”
These two thoughts cant coexist, QE is the means by which the Fed is controlling the overnight rate, by manipulating the amount of idle reserves in the system. If all the US treasuries the Fed has purchased were instead owned by the private sector there would be a corresponding decrease in the amount of free reserves = higher interbank lending rates.
Auburn
The Federal Reserve has been buying up $40 billion per month corporate bonds, which I call Qualitative Easing as opposed to Quantitative Easing, when it buys up US Treasury bonds. Currently the Federal Reserve owns about $1.7 trillion of US Treasuries. From whom the Federal Reserve is buying corporate bonds is unclear, but presumably they have a higher interest return than Treasuries, because they have more risk attached. They also presumably have a maturity date, when the corporation backing the bonds has to cough up the money. They could also be convertible bonds. (i.e. to stock) By buying corporate bonds the Federal Reserve is providing bond holders with cash to invest somewhere else and as golferjohn points out, it would seem that they are buying into the stock market. I wonder what is the ultimate game plan.
That seems like a fairly good game plan in and of itself – if you’re in the business of equity investing to begin with. Of course, it doesn’t translate to any growth/jobs for the real economy..
I hadn’t realized QE was targeting corporate bonds now, thought it was still treasuries/MBS. That makes a bit more sense regarding the fed funds rate, although johns explanation below sounds right too. Will have to look into the recent Fed operations a bit closer..
Not that it matters to monetary policy, but I don’t think the Fed is buying corporate bonds in QE. I think it’s mainly securities of other (quasi-)government agencies (not Treasury), such as Fannie and Freddie. GSE’s. Maybe other mortgage-backed securities, as everyone thinks that if lower mortgage rates can stimulate housing demand, that will also mean more refrigerator demand, and rugs, and lighting fixtures, and employment for plumbers and electricians, …
If they were buying corporate securities, I think there would be a loud outcry, as happened during the bailouts when the government owned stock and preferred stock, as well as bonds, of the bailed out corporations.
As I understand it, QE is in addition to the open market operations that maintain the FFR. Lately, the Fed pays interest on reserves, and that sets the bottom of the FFR range, and because there are tons of excess reserves now, the rate doesn’t move much from that level. Theoretically, the existence of any excess reserves would drive the FFR down to zero (or to the IOR rate, when it is not zero) . Beyond that, any additional reserves created by QE can have no effect on the FFR, though it could affect the market rates of the assets purchased by QE, and alternatives to them.
That’s why they call it “quantitative” easing. Normal Fed “easing” means lowering the FFR (interest rate easing), which is done by adding reserves, lending them to banks at the (lower) target rate. Adding any more reserves than required to lower the FFR to zero is the definition of “quantitative” easing – injecting more reserves, but not lowering the rate any more.
“QE isn’t affecting the Fed funds rate.”
I don’t understand how that can be true.. if the Fed is purchasing debt from banks they are adding reserves to the system, which would lower the overnight rate, no?
Under normal conditions, where the Fed supplies “just enough” reserves to maintain its rate target, the way to lower the overnight rate to a new target is to supply (more, as necessary) reserves at the lower rate. In fact, maybe just the same amount of borrowed reserves, but at the lower rate.
In the QE regime, the Fed has raised reserves from “just enough”, something under $1T, to about $3T. The exact number isn’t important, what is important is the enormous quantity of excess reserves. If the Fed were not paying interest on reserves at 0.25%, the overnight rate would have dropped to essentially zero. And it can’t go below that, no matter how much more reserves the Fed adds. No matter how much QE they do, it can’t go below zero. And it can’t go below the IOR rate, 0.25%. No bank holding excess reserves would lend them at less than that, because it can collect the IOR rate by doing nothing. Adding more reserves through QE doesn’t change that decision.
When the Fed finally decides to raise the FFR, say to 0.5%, it must do one of two things: First, drain all the excess reserves by selling assets, then offer borrowed reserves at its new target rate; or raise the IOR rate, which would allow it to leave the excess reserves in the system. If it tried to simply raise its lending rate without raising the IOR rate or draining reserves, banks with excess reserves could and would continue to lend them at anything higher than the IOR rate, say 0.26%. And as long as the excess reserves remained, no bank needing to borrow reserves would need to pay more, and the FFR would never rise to the new target.
Thanks for the explanation john makes sense, the interest payment on reserves at .25% makes the whole thing clearer as to why it can’t go lower. It will be interesting to see which of the two paths are taken in your second paragraph there.
Yes, very interesting. I think they will raise the IOR rate, just because selling so much in an orderly fashion would take too long, and doing it suddenly would crash the price.
Raising the FFR when inflation threatens is pro-cyclical in itself, in the short term, but raising the IOR rate would be even more pro-cyclical, as it would increase interest income for the private sector on existing assets, as well as new treasury borrowing.
MMT is the only hope: leave the interest rate as is, and adjust fiscal policy.
QE is necessary to keep rates where they are and continue to drive them down toward zero. Short-term debt also pays a role in this because short term debt tends to follow the FFR being targeted by the Fed.
I’ll say a word or two about the comments section. NEP has changed its comment policy. Comments are now moderated. Some of us, including myself, have taken the moderation into our own hands and are operating according to the rule that we publish every comment that is civil and relevant to a post. Others are leaving moderation to NEP’s web master who is selecting a few representative comments for each post and publishing those.
I don’t know anything official about shutting off comments after a certain point. But I’ve noticed myself that I haven’t been able to reply to some late comments that have appeared, so I guess a decision has been made to shut off comments after a certain time period, unknown to me at this writing.
Comments will now be kept open on at least my posts and perhaps Dan Kervick’s if I understand things right. Other bloggers will be deciding to keep them open more than two days, according to their preference. All comments are being moderated so they won’t immediately appear when made. However, my own policy about moderating comments will be expansive and will follow these rules:
First, no personal attacks should be allowed in posts. This rule should be enforced post-by-post. The moderator should evaluate whether an attack has occurred. If so, the post should be rejected with an explanation of the reason for rejection and an invitation to resubmit after appropriate revision. No further censure or barring of the offending poster should be added to the post rejection. The emphasis here should be on instruction about what a personal attack is from the viewpoint of the moderator, and on the clear communication that they are absolutely prohibited.
Second, casual evaluative labeling of points of view in the absence of explanation should also be prohibited. Labeling can easily be seen as a personal attack by the party whose view is labeled. I know one well-known Knowledge Management practitioner who punctuates his disagreement with others with single word pejorative labels wrapped into lengthier arguments. The labels express the practitioner’s undocumented opinion of the views of those he disagrees with. Recently, in the middle of a longer explanation related to another argument, he characterized his correspondent’s view as “naïve” without further explanation of why he thought so. This called forth an impassioned, perfectly well-reasoned response from the correspondent, which however, only served to escalate the intensity of conflict between the two. “The bottom line” is that labeling poisons the atmosphere of discourse. Our second rule therefore prohibits it and posts with labeling won’t be approved.
Lastly, no ad hominem arguments should be allowed in posts. Such arguments proceed by attacking the characteristics, circumstances, or actions, of a person making a claim, and then proceed to suggest or imply that because of these characteristics, circumstances, or actions, the claim, or a related argument made by the person from which the claim follows by deduction, is either false or invalid. The invalidity of the conclusions of ad hominem arguments are not, by the fact of their occurrence, particularly damaging, and they are easily countered in exchanges by persons subjected to them. The problem with them, however, is that the attacks on the characteristics, circumstances, or actions of the authors of the knowledge claims they are directed against, poison the atmosphere of civility, and elicit answering personal attacks from others. If moderators reject posts with ad hominem arguments in the first place, conflict in exchanges will be moderated and people are much more likely to learn something from their dialogues.
Joe, are you available to moderate the next Presidential Debates?
Thanks, John. But they wouldn’t want me, because I wouldn’t care if I never did another one.
Jerry, on the basics of QE, there’s a lot of MMT literature around. Randy Wray’s written a lot on it at this blog which you can search for. Here’s one I really like on the basics.
It seems to me that so-called austerity mostly curtails government spending that would increase the income of the middle class and lower class. It effects the lower class most directly by reducing social welfare transfers. It effects the middle class in numerous ways ranging from down-sizing government contracts with private firms to reducing subsidies to states (putting upward pressure on generally regressive state and locality taxation practices).
At the same time, so-called austerity also, through privatization, often transfers equity in real property and revenues to the private sector.
This harms consumer spending – and that is precisely one of the main goals.
Harming consumer spending can only help to lower the deficit in the Current Account.
That, in turn, slows the accumulation of dollars by The Rest of the World. That is, it slows the flow of $USD to foreign entities who are not necessarily political allies of the elite that has political power in the US.
So in austerity, in the US: GDP languishes. Overall private sector incomes are harmed but the elites are picking up real assets and valuable revenue streams that the gov’t is shedding. The threat of ROW using their $USD incomes to outbid US elites is slowed a little bit.
In other words, while the deficit hawks make the bogus arguments that MMT criticizes, they don’t make those arguments sincerely. Instead, at least the elite deficit hawks essentially agree with MMT and, on that basis, find austerity to be in their best interest.
As someone who is not an elite and generally on the wrong side of austerity policies, I’m actually ambivalent. The deficit in the Current Account has deep structural causes. It needs fixed, in my opinion, but I don’t see anything coming that will do that soon.
Thus, to me, the main macro difference between austerity and social welfare is the size of the Current Account deficit — which seems like a choice between domestic and ROW overlords.
Asked to choose the lesser of those two evils….
You’re ignoring the role of consumption in raising domestic aggregate demand. The foreign balance is now only about +3% of GDP. It will go up if we have more deficit spending. But even if increases to 5%, $.95 of every deficit dollar spent will ned up in domestic hands.
You say:
But why fix it? Under a current account deficit foreign nations provide us real goods in return for electronic bits of information. So, why change that. We can put our people to work on many other worthwhile things here.
OK, I don’t think that that is true but there is a question here. It’s an interesting criticism. Here is why I think it is probably not true:
Austerity policies do not impact all kinds of consumer spending equally. Austerity policies are regressive. My hypothesis is that cut-backs to consumer spending in lower income houses has a disproportionately large effect on spending on imported goods. If Walmart shoppers are generally worse off, I’m guessing that reduces the trade deficit by more than your five cents on the dollar.
Also, at the same time, (a) austerity lowers the cost of domestic labor thus, from the domestic elite’s perspective, improving the prospects for exporting material goods; (b) austerity is an excuse to at least sustain spending on foreign intervention which, from the domestic elite’s perspective, is the market development spending with the higher potential ROI.
Question kind of answers itself, doesn’t it?
“Austerity policies do not impact all kinds of consumer spending equally. Austerity policies are regressive. My hypothesis is that cut-backs to consumer spending in lower income houses has a disproportionately large effect on spending on imported goods. If Walmart shoppers are generally worse off, I’m guessing that reduces the trade deficit by more than your five cents on the dollar.”
That’s true for Walmart shoppers. But 1) there are a lot of other shoppers around and goods and services produced right here in the USA that poor and middle class people consume; and 2) the Trade deficit is at about 3% right now. As I recall the highest it’s been is about 6% of GDP. So I think my estimate of what it would be in a recovered economy is probably about right.
Lastly, I do think the question I asked about the trade deficit answers itself. But does that mean that you agree with me? If so what’s the problem? And, if not, then why do you think it answers itself.
Thank you, Joe, for your patience with me.
Here are some numbers I used to compare changes in consumer spending to changes in consumer sectors of the current account. This is just one snapshot from November 2012. Of course the plural of anecdote is not data. But here is starting point:
Consumer spending changes in November 2012: Personal consumption expenditures went up from the previous month by $41.3B (annualized rate). For comparison to the current account statistics I’ll use the monthly rate of $3.4B. [1]
Current account changes, November 2012: Month over month, imports of of consumer goods went up $4.6B; cars, parts and engines went up $0.7B. [2]
Of course there is a seasonal factor there. Nevertheless:
In November 2012, for every extra dollar spent by consumers, imports went up by more than one dollar.
The current account deficit increased by 15.8% that month on the strength of those consumer-driven imports.
So I still think that austerity is intended to cool off consumer spending (and as well to put downward pressure on the price of domestic labor).
As for the other bit, you asked:
I offered that the question kind of answers itself and you quipped:
Assuming you are not being sarcastic I would say that what you describe, importing useful goods we currently lack the capacity to produce and exporting currency, is not resilient. It is a maladaptive circumstance.
———————-
[1] http://www.bea.gov/newsreleases/national/pi/2012/pdf/pi1112.pdf November 2012 personal income and outlays report
[2] bea.gov/newsreleases/international/trade/2013/trad1112.htm November 2012 trade report
Thomas, as you imply we can’t infer what’s happening using a one month snapshot. The trade deficit has been declining now for few years and is now down to 3% of GDP. These are facts. A snapshot showing that in a particular month every additional dollar spent domestically was matched by more than a dollar spent on imports simply must be an aberration, assuming the numbers are correct in the first place.
When you say:
I have to say that we’ve always imported such goods and exported currency, so that’s not the issue. Instead it is whether it’s sustainable to import more than we export on a continuing basis based on the impact of that on American society? I think we can say a number of things about that question. First, if we’re getting real wealth in return for bits of information, we’re getting a benefit. Second, in certain economic areas such benefits are costly because they can drive Americans out of business, raise unemployment, and destroy the capacity of our economy to produce the things we’re trading for in the future. That can hurt our adaptive capacity.
For example, if we fail to develop our capabilities to produce solar power equipment and buy it from China instead, this may hurt our adaptive capacity. The same is true of military equipment and the machines we use to produce it. There are many areas like this where a negative trade balance is maladaptive for us. But what about other areas like various types of consumer goods: toys, cameras, TVs, clothing, shoes, etc? Do we really need to retain the capacity to produce those things here. If we are cut off from current sources in the future, would it be that much trouble to re-create the capacity to produce these things?
I think it’s a real benefit in the abstract to the US to have continuing trade deficits with the rest of the world. The longer we can get that deal the better off we are, as long as we do two things. A) we must have an industrial policy that will maintain certain productive capacities that are keys for the future economic and societal health of our economy, and B) we must have a Job Guarantee program to employ under- and unemployed people who want full time jobs at a living wage with full fringe benefits. That kind of program will serve as a gateway to new jobs created by the private and Government sectors and it will provide the aggregate demand necessary to get the private sector to create those jobs.
Looking at the November 2012 snapshot helps you compare the dollar size of consumer spending increases to trade deficit increases. You are right, of course, that the trend matters. November helps us figure out that trend this way:
Look at a monthly graph of “% change in consumer spending” jul-2011 through feb-2013. November 2012’s growth in consumer spending was one of the largest in that period but you can also get a sense from the graph of what the range and trend are, and where November 2012 fits in.
Also look at a graph of of the US balance of trade for the same period. November 2012 is again large but you can again see where it fits with the trend and the range.
The two November 2012 bars on those graphs represent in the ballpark of the same amount of $US, with the trade deficit a bit larger. You can rougly compare the graphs in dollar amounts on that basis. Overall it looks like a very large share of growth in consumer spending is being eaten up by the trade deficit.
All at once, in a time of crisis? Yes, that could be a heck of a lot of trouble.
Now would be a good time to re-create those capacities. Import replacement is a good strategy for nursing an economy back to healthy. There is timely opportunity to inventively structure those industries in ways that are truly efficient in our time.
I don’t think so, Thomas. On the trade deficit, we’ll just have to wait and see, but based on recent history there’s no way the proportion going to the current account balance vs domestic spending will happen. Given our reduction in oil imports, it’s very unlikely we’ll go much above 3% in the trade deficit this year. I understand your claim that the marginal proportion of demand increases is much higher than that. But I think you’re looking at aberrations and there’s no evidence things will go that way on an annual basis.
On rebuilding our capability to produce the consumer goods we not buy from other nations, I think industrial policies designed to do that won’t produce as much value as efforts to re-invent our energy foundations, infrastructure, educational system, community capital, innovating new products, and other efforts directed toward rebuilding public assets here at home. We desperately need a second New Deal. We do not need to produce the same goods the Chinese and Japanese are willing to sell us in return for our electronic credits. When they tire of that game, they will do so gradually, over a period of years, and we will have plenty of time then to go back into the consumer products business.
Joe
I don’t know if you’ve seen this little post by Mosler at his site…..
“A while back I’d written about how the global economy had become leveraged to net exports to the US, which has turned out to be the case. And now with US imports of crude and products falling, another leg of this process seems to be underway, and in a world where no one runs high enough deficits to sustain domestic demand at reasonable levels.
A rough guess is 15x leverage? A US trade deficit of $500 billion is sustaining about $7.5 trillion in global ‘equity value’? More?”
There are still more billions of poor people that the developing world needs to employ in order to maintain growth and societal stability….and as has been the case since the end of Bretton Woods, the US economy will continue to be the international destination for a large percentage of global consumption (re: exports). I don’t know when China, India, Brazil, et al will finally stabilize into modern consumer economies with large middle class populations, but I do know that until that happens…..hoping the US can return to its post exporting ways is a pipe dream.
I couldn’t agree more. Right now, it’s best for all concerned if we continue to run a large trade deficit. But that also means we need big government deficits to compensate for demand leakages to private sector savings and to the foreign sector.
The benefit of having a high unemployment rate of around 15% for corporations, is that it keeps their labor costs low and their profits high. Full employment would mean higher wages and lower profits, but the economy as a whole would be more prosperous.
And the 1% would probably make more too. But really I don’t think they care about making more. What they care about is widening the gap between themselves and the rest of us.
You’re probably quite right if economic growth depends on a positive private sector balance. Is there real data demonstrating this? All I’ve seen is a few graphs covering one nation (the United States) over the last 20-30 years, during which time we’ve had a couple financial bubbles, which apparently mess up the data.
When I have asked in the past whether the data shows that higher deficits (higher “private savings”) results in higher economic growth I was basically told it doesn’t, but postive “private savings” is important anyway (comments in an NEP post by Stephanie Kelton about 2 years ago about belt tightening).
It is also clear that financial wealth is not the whole story. The private sector portion of the sector balance model is a limited portion of real assets. It does not include any physical assets nor does it include many financial assets (such as common stock) since none of these obey the accounting identities which the sector balance model is based on. In fact, most US families spend much if not most of their time with negative net financial wealth (having a mortgage larger than their savings). Since these families have real assets (house, stocks, etc) negative financial wealth isn’t a problem.
So is there real world data showing that a positive private sector balance causes (or even corrrelates with) economic growth or some other positive result? I’d guess there are 50-100 nations around the world which issue sovereign currency (assuming this is a requirement) and there’s fairly good economic data for many if not most of them for 50-100 years or more. It should be simple to compare growth rates to sector balances. Even given that the quality of the data varies it should be possible to draw some conclusions.
Theories are nice, but no matter how good the argument they are meaningless if not backed up by the real world. I’ve been reading this blog and other material on MMT, but so far have seen a lot of logical argument and little evidence that it works in the real economy.
Thomas, it would take me too long to correct all the misconstruals and misunderstandings you’ve stated in this post. You just don’t understand the MMT language and fundamentals enough to fruitfully exchange with. I think you should read Randy’s MMT primer very carefully. There’s a link to it at the top of the page. Once you’ve read and understood it, I think we’ll be able to exchange in a useful way, because you’ll realize that 1) MMT is very, very fact oriented, much more so then conventional economics, 2) MMT has had much more success than other schools in predicting what will happen in the real world, 3) the SFB is about flows not stocks, 4) it’s not enough to issue sovereign currencies to be sovereign in the MMT sense. You also have to issue a non-convertible currency, have a floating exchange rate not pegged to any other currency, and you can’t owe any debts in currencies you don’t issue, 5) there aren’t 50 to 100 nations that fit 4), and also, the world went to fiat currencies when Nixon closed the gold window in 1971. So there were no currency sovereign nations before that except for limited periods of time in national emergencies, 6) in the above you’re confusing the private sector with the household sector, perhaps. In any case, there are plenty of physical and financial assets in the private sector since all corporate assets are included; but 7) please note that the SFB model is about financial flows. It has nothing to do with real wealth or real assets.
You would know all of these things if you had actually read some basic MMT like the above primer.
Mr. Firestone,
While I’ve only read pieces of the MMT Primer, I have read Randall Wray’s Understanding Modern Money, Warren Mosler’s Seven Deadly Innocent Frauds, and various other material. I understand the basic arguments of MMT, but I’m not convinced by them. Thus the desire for evidence. To reply to some of your comments:
1) The introduction to the MMT primer states “The blogs will be at the level of theory, with only limited reference to specific cases, histories, and policies.” Thus I haven’t looked there for supporting data. Note I’m looking for facts in terms of real world data, not “accounting identities.” I come from a hard science background. A theory not supported by evidence is worth the recycle value of the paper it’s printed on. 🙂
2) If you can give references to MMT’s success, I’d like to see them. The one I’ve seen is Randall Wray’s 2003 paper which he says predicted the Financial Crisis. However, Mr. Wray predicted a decline for different reasons and 4-5 years earlier than the real crisis. Predicting financial problems wasn’t hard given the decline in lending standards (both mortgages and other consumer loans). The magnitude of the crisis was not as obvious.
3) Whether stocks or flows, I’m still interested in data demonstrating that “private savings” are necessary for economic growth (or whatever you define as a measure of economic success). I did not mean to imply one or the other. In reading both the works mentioned above on MMT and this blog (and, to be honest, conventional economic literature), stocks and flows are often confused.
4) Sorry, in using “sovereign currency” I intended to include the other requirements. Does this mean the sector balance model doesn’t apply to nations which are not sovereign in the MMT sense?
5) I may be wrong about the number of nations which are sovereign in the MMT sense, I just picked a number. How many nations are sovereign in the MMT sense? Is there a list?
In terms of fiat currency, both Understanding Modern Money and MMT primer #12 go to great length to deny the existence of commodity money. Both state that the use of precious metal is not for its intrinsic value. The MMT primer says we don’t know why precious metal was used for coins. Both of these works seem to argue all money is fiat money (value based on the state, no intrinsic value), so I fail to see why Nixon eliminating the gold standard in 1971 is significant. Again, does this mean the sector balance model doesn’t apply to the US before 1971?
6) I’m not confusing the private sector and household sector so much as looking for a simple, everyday example of how negative financial wealth (or negative financial wealth flow) does not imply “austerity.”
7) I understand the SFB model is about financial flows. But your own argument above is that a negative flow will result in a decline in “private sector wealth”. That decline sounds to me like a decline in a stock, not a flow, since it predicts a disaster if the decline continued over “three years”. A flow over a fixed number of years represents a change in a stock.
1. You won’t find the same “hardness” of data in economics that you find in hard science, where it is usually possible to create a controlled experiment and isolate variables and causes. In economics, too many things are changing at once, and none of them under the control of the experimenter. You can only look for correlations, and try to develop a theory that explains them, unless you already have a theory based on logic and intuition.
2. Warren Mosler had a large success advising Italy some time ago (pre-Euro). They were in much the same position as the US today, economy not doing well, debt and deficits high and growing. The “bond vigilantes” were circling. The head guy (sorry, I’m not up on the titles or names) simply stated that all obligations would be met, and that was the end of the crisis. They spent as much as required to get the economy back on track.
MMT also predicted the Euro crisis before the Euro was implemented.
3. If you overlay the periods of recession onto the sectoral balance graph, you will see that they occur shortly after the private sector balance declines or goes negative. Economics is driven by cycles, just as many physical phenomena are. The reasons for the turn lie within the previous trend. Trends that cannot continue will not continue.
4. The sectoral balance always holds. It is, after all, an accounting identity. Without monetary sovereignty, currency translations could be problematical, for instance, if the government borrows US dollars and spends Pesos. But, surely, if the accounting is complete and the translations proper, the sum is zero. There may not be many examples of accounting as accurate and complete as the US. We’re kind of anal that way, where other cultures may tend more to shrug it off.
5. Besides the US, Japan, Australia, Canada, and the UK are the typical examples of monetary sovereigns. It is tough for a small country, even if it has its own currency, unless it is a net exporter, to have the same “policy space” as the major countries do. Many peg their exchange rates to the dollar.
The sectoral balance still holds pre-1971 and with commodity-backed currencies.
The 20th century gold standard was different from early coins whose bullion value was less than face value. Before 1971, the US dollar was convertible, for other central banks, to a fixed amount of gold. There is always a certain amount of “fiat” involved, as the US could and did unilaterally change that amount of gold. But what is meant by a fiat currency is that it is convertible to nothing but itself. Early coins were pretty much like that, but US dollars from (?1896?) to 1971 were not. That’s why 1971 is important to policy. It opened up a wider range of policy options.
6. “Austerity” is more general than a positive or negative flow. Austerity can be a smaller positive flow, as compered to other alternatives. It’s a “charged” word with implied values, not a scientific term. Maybe you want to ask a more specific question.
7. It seems you understand stocks and flows fine. So does Joe. A flow is a change in a stock.
There is also the distinction between real and financial. We need to be very careful to say which ones we mean. Real wealth and total wealth can be increasing as financial assets are decreasing. The value of your house could go up by more than the amount of interest you paid.
Government adding wealth to the private sector is only half of the story, other half being the saving behavior of the private sector. That’s why one cannot draw direct causalities from deficits to economic growth.
As for predictions, MMT predicted whole euro debacle: http://neweconomicperspectives.org/2012/07/mmt-the-euro-and-the-greatest-prediction-of-the-last-20-years.html
Yes, accounting identities hold even in gold standard. If you have fixed exchange rate to either gold or foreign currency you may have to choose between abondoning that fixed rate or adopting harsh austerity if people want to convert government’s currency to something government does not issue in too large quantitites. So closing the gold window is important from that perspective.
PZ, I will look at the MMT predictions with regard to the Euro along with the reasoning (after all, there’s a difference between predicting the failure of the Euro and whether the reasons match reality). I’ll agree the problems of the Euro were apparent early on — see the 1985 book Cities and the Wealth of Nations by Jane Jacobs, which describes aspects of the problems with the Euro before it was invented. Probably more surprising than the Euro failing is that the United States succeeded given relatively wide regional economic variations.
The US in early times had several advantages that the Euro nations do not.
First was a monetarily sovereign government that, for the most part, ran perennial deficits. Only once was all the “national debt” “paid off”, in 1835, and it has been increasing ever since. The Euro nations have a monetarily sovereign central bank, but it has no budget for spending like a government has. The governments that do the deficit spending are not monetarily sovereign, and so are limited in how much deficit spending they can do.
Second, until the 1970’s the US was a net exporter. That is, the foreign sector ran a deficit for us, too. The government and foreign deficits allowed the US private sector to annually accumulate financial assets. Almost all regions benefited from the foreign sector deficits, being rich in natural resources, or agriculture, or manufacturing. And the government deficit was spread around to all regions, too, due to the nature of the Congress. Europe’s net exports are limited to only a few countries.
And despite the Ryder Cup, Euro nations are nowhere near as united, culturally and ethnically, as US States have always been. The lower degree of cooperation shows in their various responses to the current crisis.
I’ll do this passage and response style.
OK. But the issue isn’t evidence FOR MMT, it is whether any claims or predictions can be falsified by accepted facts and predictions.
Whatever Randy’s introduction states there are plenty of fact references in his primer. So, please look for them. They’re really not very hard to find. As far your “hard science” background is concerned. I’m not sure which “hard science” you mean, but I am pretty well read in critiques of the way the hard sciences do their business, and it’s pretty clear that the differences between surviving theories and those that are regarded as false isn’t in evidence that confirms or supports theory. Confirmation is cheap. The issue is really whether a scientific theory is refuted by empirical data in the context of other theories. So refutation is key, and refutation isn’t about data alone. It’s about crucial experiments which allow some theories to be falsified and others to survive. So, if your model really is science then you shouldn’t be concerned with facts “supporting” MMT-based theories (btw, MMT isn’t a theory; it’s an approach to economics that contains multiple theories); but rather with facts refuting such theories.
OK. John provided some examples. In addition, Randy originally predicted a recession coming off Clinton’s goldilocks economy. It came in 2000 – 2002. Then went when Bush increased deficit spending. It wasn’t as serious as Randy expected. But that’s not really a refutation of MMT, since it wasn’t as serious because the Fed and the banks blew a very large real estate bubble to replace the demand drained from the economy by Clinton’s surpluses.
Randy’s prediction that there would be another recession was, indeed, borne out a few years after it happened, rather than immediately, again because he failed to anticipate the magnitude of the bubble and its consequent maintenance of aggregate demand. But there’s nothing in MMT that says exactly when a recession will happen due to lack of demand contributed by the Government, so no key MMT hypothesis was refuted by the delay in when his prediction was realized. MMTers at least knew that the economy would collapse and they warned about what was to come consistently, while the neoclassicals insisted that extreme business cyclic behavior had been banished from the economy.
Moving on, MMT has predicted since the 1990s that Japan, having a sovereign fiat currency would never become insolvent. Mainstream economics kept insisting that Japan would eventually be subject to bond market discipline and that the interest on its debt would eventually consume its whole economy. Year after year passed since the middle 90s and Japan’s debt-to-GDP ratio kept getting worse. The mainstream kept predicting disaster and the Japanese Central Bank just kept driving interest rates down to near zero. As MMT predicted, the bond markets had nothing to say and Japan’s debt-to-GDP ratio, lat time I looked was 220% refuting the mainstream, corroborating MMT.
The mainstream has also been sounding the alarm in the US since 2009 that the debt-to-GDP ratio was becoming high and that the bond markets would drive those rates up eventually. We’ve been waiting for that to happen for four years now, while our short-term interest rates are down to near zero and the Fed and Treasury together remain firmly in control of interest rates, just as MMT predicted and contrary to what the mainstream was saying.
And how about the stimulus package? MMT said it would create or save some jobs; but that it would not end the recession or create full employment. MMT warned against stagnation and the dangers of a double-dip recessions here and in Europe. MMT was right about Europe where its predictions continue to come true. And it was right about the US too as we’ll soon see when Obama’s austerity starts to bite.
What about QE? When Bernanke began QE many mainstream people predicted that the expansion of reserves would create inflation or hyperinflation, MMT economists were among the few who said it would have little or no inflationary impact because there was no causal channel for the reserves to reach the economy. Again MMT was right, and the mainstream was wrong.
Then there was Argentina after it defaulted on its debts. The IMF and all the mainstream economists thought that Argentina had bought its people many years of misery. MMT said no, and that the policy space Argentina had regained by taking back its own currency and repudiating its peg to the dollar could be used to grow the economy and end austerity in a very short time. Again, MMT was right, and the mainstream was wrong.
Well, that’s enough in the way of predictions and corroborations for now. But just one more thing about the past, because it is also important for validating the explanatory power of its theories. MMT has found that all major US recessions since the founding of the Republic were preceded by surpluses, according to the SFB model, periods when the Government takes financial wealth from the private sector. That doesn’t mean that surpluses are necessary for extreme cyclic behavior, but it does suggest that running them for a number of years consecutively may cause recessions. This is contrary to mainstream economic theory, which views a Government surplus as a morally virtuous thing to achieve.
Of course, the Great Recession wasn’t preceded by surpluses, but it was preceded by some years in which the trade deficit exceeded the government deficit leaving the private sector increasingly in debt. The debt bubble sustained the economy for awhile, but eventually bubbles must burst and so we have the Great Recession, an event totally unexpected by the mainstream economists.
I don’t think you’ll see stocks and flows confused in blog post here very often. It’s a primary methodological point of MMT. But nobody’s saying anything so simple as “private savings are necessary for economic growth” or “full employment with price stability” regardless of context or conditions. What we’re saying is that if the Government drains financial resources from the private sector then that will eventually cause economic contraction. Maybe not immediately because debt bubbles can sustain consumer demand. But eventually when the bubble bursts, demand will dry up and then a downward spiral will begin which will eventually produce deflation if not checked by Government injections of financial resources into the private sector through deficit spending.
No, the SFB model always applies. It’s just that if a nation doesn’t have a sovereign fiat currency in the MMT sense, then it has a Government Budget Constraint (GBC) and is subject to insolvency.
I don’t know. I’ve never compiled one. But my sense is that most of the developing nations are pegging their currencies to foreign currencies. Some are even using the US dollar as their currency. Many are in debt to International agencies in dollars or other important currencies. So, off the top of my head, I’d say that only about 30 nations qualify according to the MMT criteria.
Before 1971 the US needed gold to back its foreign exchange dollars. So, it didn’t have the policy space it has now to run deficits year after year without serious financial damage to its own domestic economy. After 1971, after convertibility of the dollar was ended, the US could do that. That’s a very big change. Domestically we’ve been on a fiat money since 1933 when FDR ended convertibility internally. We might never have gotten through WW II without that change.
Based on the quotes above it certainly did sound like you were talking about households since how can anyone miss the great accumulated financial wealth among the very rich and the corporate sector? Recent estimates are that $30 Trillion in financial resouces denominated in US dollars are sitting offshore.
Anyway, I guess I don’t understand your question if you’re talking about the whole private sector.
As someone’s already pointed out flows accumulate to stocks, so negative flows do result in loss of financial wealth eventually after bubbles are extinguished, and that loss will result in a decline in aggregate demand. So what’s your point?
Mr. Firestone, I won’t respond in detail to everything you said. Much of it I agree with, and I was trying to say much the same thing as you did about the nature of evidence, theory, etc. I will respond briefly in a couple areas.
In terms of Randall Wray’s predictions, the question becomes the reasoning behind the predictions. Predicting a recession after the Clinton boom was no big deal, it’s the business cycle, all expansions have been followed by recessions (and vice versa). It also wasn’t hard to predict the bursting of the tech bubble of 2000/2001. I looked at stocks with strong buy ratings and a 30,000 P/E ratio (e.g. eBay) along with the assertions that “this time is different” and knew a downturn was coming. I also “predicted” the financial crisis based on receiving credit card and mortgage refinance offers at a rate of 5-10 per week plus my mother-in-law ($350/month SS income) getting offers for gold cards. However I expected credit cards to be the problem and didn’t see the major mortgage problems. Did I predict the crisis or just recognize that we were on an unsustainable expansion? I’d say the latter.
Randall Wray’s 2002 paper predicting a downturn discussed a crisis in state government finance. He didn’t mention mortgage finance, banking system excesses, or a real estate bubble, which are most often given as reasons for the actual crisis. So did Randall Wray predict the financial crisis, just off a few years, or did he predict one downturn and a different one occurred a few years later?
I will respond to one other comment. You say that “MMT has found that all major US recessions … were preceded by surpluses.” Huh? I got that in first year economics in the 1970s — surpluses (or smaller deficits) during economic upturns and larger deficits during downturns. I haven’t seen sector balance data for any period prior to about 1970, but examining comparing recessions / depressions of the 1800s to surpluses and deficits does not show any evidence that deficits were needed to end the downturn. In fact, for the depression of 1873, which ended in 1879, there was one tiny deficit (1874, .04% of GDP) followed by almost 20 years of continued surplus. This appears directly contrary to MMT, which would have predicted the depression continuing throughout the continued surplus.
I will take a look at the other cases you mention (Argentina, Japan, etc). Thank you for providing these examples and taking the time to respond to my questions.
At the time, if you recall, the mainstream had declared the business cycle had been repealed. In addition, the CBO was projecting surpluses as far as the eye could see. many classical economists were predicting that the national debt would be paid of by 2015, the hard way, through surpluses. So predicting a recession and the end of “the goldilocks economy” was not trivial, but very, very rare.
Now, as for whether Randy’s successful prediction of a very serious recession down the road was just luck, I think you’re missing the theory behind the prediction. The theory is the one you doubt, that increasing private sector savings are necessary for stable growth. The reason why Randy predicted recession was because during the last years of the Clinton Administration, the private sector was going into debt, and an unsustainable bubble was being blown. The Internet bubble burst causing the relatively mild recession of 2000 – 2002.
But the Fed blew another credit bubble, the Bush Administration went back to deficit spending, but never on the right things that would distribute savings throughout their economy, and also did their best to facilitate the extreme real estate bubble of the last decade, combining with the Fed to support the rapidly expanding though fraudulent mortgage market and driving private debt backed only by inflated market values to new heights.
These moves postponed the collapse, but they couldn’t repeal the reality that widely distributed savings from wages and other sources than paper profits were not occurring. It was only a matter of time before the credit bubble collapsed, leaving in its wake unemployment, foreclosures, and precious little savings to keep demand at its pre-existing level creating the conditions for a downward spiral. MMT couldn’t predict exactly when a Lehman-type event would occur triggering the Great Crash, but MMT economists knew that the Bush economy was hollow on the inside, that the crash would happen, and that the financial strength in the economy wasn’t there to cushion and moderate the coming downward spiral.
What you’re quoting is the Keynesian rule regarding what ought to be done. Not what was done. What was done was to run surpluses at nearly all times. That can work when you’re exporting more than you’re importing and when you’re on the gold standard. But you also can make the surpluses too large, and when you do, then sectoral balances says that you drain wealth out of the private sector and depending on the credit response from the banking system, sooner or later get to recessions.
Also what you learned in the 70s never said that you might have to run a Gov budget deficit indefinitely, in good times or bad, if you also ran a trade deficit. That’s definitely an MMT idea, not a Keynesian one. The point here is that from the MMT point of view the deficit isn’t a bad thing. in fact, it’s not even really a deficit; instead it’s a government financial addition to the private economy. You have to let it float, to respond to the private savings and import desires of your population and the willingness of the rest of the world to trade with you. So, if that willingness is there, and people want to put aside 7% of GDP, then you may have to run 10% deficits (additions) indefinitely whether times are good or times are bad, because that’s what you need to do for full employment.
You can end downturns through exports and credit bubbles. That’s what we were doing during the 19th century and up into the 1930s. but depressions were frequent and people suffered greatly. It was no way to run a railroad, but, in part, the gold standard made it necessary.
Finally, you need to start thinking in MMT. The paradigm is different. MMT predictions are coming true every day and all the time. It’s not even very statistical. For example, when was the last time a nation that was sovereign in its own fiat currency involuntarily defaulted. Two such nations have defaulted. One was Japan at the end of WWII. It didn’t want to pay its former enemies. But it didn’t have to default. It was voluntary. Then there was Russia in 1998. It didn’t have to default. But it did because it listened to the neoliberal fools who told Putin that only default could make its debt in a currency it totally controlled supportable.
In other words, there have been no involuntary defaults of nations sovereign in their own fiat currencies since 1971. As MMT predicts, it doesn’t happen.
Mr. Firestone: Thank you for a good discussion. I will consider your comments and those by others, but leave this now since at this point we aren’t going to agree nor convince each other.
Golfer1john: I will look further at the data relating to depressions. Unfortunately I haven’t found machine readable data and don’t have time to type in long printed tables at the moment.
“for the depression of 1873, which ended in 1879, there was one tiny deficit (1874, .04% of GDP) followed by almost 20 years of continued surplus.”
If you were to include the foreign sector, I think you may find that the private sector went into deficit just prior to the recession, and back to surplus as it ended. The US was a net exporter then, and is a net importer now. We could have a private sector surplus and a government sector surplus at the same time, because the foreign sector ran a deficit for us. Today, as a net importer, we need government deficits every year, and when the government deficits becomes smaller than the foreign sector surplus, we have a recession.
What I learned in my 1970’s economics was the same as you, but it deals only with the automatic stabilizers in the government’s budget. As the economy grows, tax receipts rise, safety net spending falls, and the deficit shrinks. And vice verse. The sectoral balance adds to that understanding another causation factor, that when the private sector surplus gets too low, because these automatic stabilizers reduce private sector incomes, is when the business cycle starts to turn, because people reduce (or stop increasing so fast) their spending in order to try to save more. Unemployment is the evidence that the budget deficit is too low to satisfy savings desires.
Good, clear statement of a key MMT insight, John.
“for the depression of 1873, which ended in 1879, there was one tiny deficit (1874, .04% of GDP) followed by almost 20 years of continued surplus.”
Im not sure about this but it might be that government purchases of gold did not count toward budget deficits, on the logic that govt. gains an asset (gold) as big as liability (financial assets issued). So gold mines in the 19th century were running consistant deficits and government was monetizing gold.
I asked Warren Mosler whether foreign currency purchases increase national debt and he said no for this reason. He calls FX purchases “off-balance sheet deficit spending”, because they do not show up in the official deficit figures.
This is something MMT economist rarely discuss. Some clarification would be necessery.
If gold purchases didn’t count as “deficit”, did they also not count as “debt”? That is, were bonds issued to “raise the money” to buy the gold, or were the paper dollars simply issued without borrowing or taxing? If it was the latter, and the authority is still there, maybe we ought to be doing it again now.
Trying to fine tune a system that is essentially flawed will only delay its eventual collapse. Our current monetary system is based on interest bearing debt, whereby No Debts = No Money. The argument that debt is bad and savings are good is therefore self defeating. More money must be created as debt in order to pay the compounding interest, which means that the money supply must expand exponentially to balance the equation. But there is a problem with this when incomes do not increase to match the ability to pay the embedded interest in all the money created. The interest is sucking more and more money out of the real economy of making things and providing services, causing it to contract with consequent reduction in purchasing power and increased unemployment. The financiers meanwhile are doing better than ever, while doing God’s work according to one of them.
The pyramid scheme of fractional reserve banking is designed to extract wealth from the workforce and create an aristocracy, whose wealth continually increases. In Russia they call them oligarchs, in South America they are the caudillos and here we call them the rich elite. They are not going to let go of their monopoly of money creation as debt very readily. Those who have tried in the past have been thwarted in their attempts, most notably Abraham Lincoln and John F. Kennedy.
In the past these imbalances have lead to regional and world wars, which conveniently increase the necessity for more debt. Internationally, those who threaten the banking system, such as Libya’s Gaddafi and Saddam Hussein of Iraq are deposed by military action. And now Iran and Venezuela are being threatened.
The solution to all these crises is to adopt sovereign fiat money systems that are not dependent on debt. The power of money creation should be taken away from the banks and restored to the government. However, since great wealth confers great political power this is unlikely to happen in the foreseeable future.
I’m all for taking it away from the private banks. But, of course, all MMTers don’t agree on that.
Joe,
Why don’t they agree, do you think ?
I think most of us believe that the banks need to be nationalized; just that the banking business be made unexciting again and strictly regulated.
Others are worried that there’s danger in having government get larger by including banking. Also, if the government owns the banks then that’s the ultimate in banking concentration.
My own view on this is that we see from American history that banks and banking interests are dangerous to democracy and the American people, and that it is very difficult to keep them on a permanent tight leash. We thought we had them under control after the 1930s, but they escaped the leash by 1980s and especially the 1990s and later and with the Wall street allies have now come to dominate the political system. It’s too risky, in my view, to trust to independent regulatory agencies staffed by political appointees to control them when they become systemically dangerous as they are now. If they’re TBTF and their executives are Too Big Too Jail, then I think they’re Too Big To Live (TBTL).
I also think it would be much easier to control if the banks were institutions run by SES and GS people, who had strong whistle blower protections. No system carries no risk with it. But my experience with Government civil servants is that they are very conservative when it comes to not risking their job security and tenure, and, at least here in the US aren’t easily corrupted. So, I’m not worried about them becoming too political in granting loans and credit, and I think the danger they to the political system is much greater now than it would be if they were owned by the Federal Government whose top officials, are, to at least some degree, accountable to the public.
Of course, this last is now a controversial point, since our top officials no longer seem very accountable to us. But, on the other hand a lot of that lack of accountability results from the balefl influence of the FIRE sector. If that sector were weakened by nationalizing the banks, we would get more accountability than we have now also. So nationalizing them is a multi-functional remedy for some of the things ailing us.
Thank you for the well reasoned and courteous reply.
Actually, I do not think that we need to go so far as nationalizing the private banks, but what I do believe is that the power of money creation should be taken away from them and restored to the government i.e. We the People. The government could lend money to private banks at interest, instead of the other way round. Then the banks would then act as retailers, lending out this money at some interest rate markup limited by law to private individuals and corporations. The banks would have to put up collateral to justify their borrowing from the government and pay into an insurance fund to cover bad debts.
This would not interfere with the right of corporations to borrow money by bond issuance or the sale of shares.
The object of this policy would be to have interest on all money created be paid to the government, which would reduce the need for taxation, which is something all of us would find appealing.
“I think most of us believe that the banks need to be nationalized; just that the banking business be made unexciting again and strictly regulated.”
Is there a word missing there, perhaps a “don’t” before the “believe”?
Reinstatement of Glass-Steagall should be sufficient, I think. “Banking” today includes a function we all use and need, that should be regulated and have insured deposits (previously known as “commercial banking”), and another function that is unrelated and can be left as much on its own as any other business (known as “investment banking”). The GFC was dangerous not because it endangered stock brokers and investment bankers, but because it endangered commercial banks, because we let these unrelated functions be entwined within individual companies. If we separate them again, and the investment banks screw each other with fraudulent derivatives, and the commercial banks, strictly regulated and uninvolved in derivatives are unaffected, then who cares? Let them all fail, no matter their size. Others will take their place. TBTF is not the issue, it’s “too entangled with the general welfare” that forced us to save them. That should not be allowed again.
Commercial banking should be unexciting and strictly regulated. There is no need to shackle the investment banksters (is that word still allowed?), since we are not critically dependent on them or their activities.
Right, John. There is a don’t missing. I’m definitely in a minority about that.
I also agree, that reinstatement of Glass-Steagall would work to improve things in the short run. But I think they’d overturn that in 20-30 years, maybe sooner if it were a Democratic bill alone. On the other hand, nationalization would end their political power, and it’s that power that is at the root of all our problems with them. I think we need the killer instinct here. Once we finally get the better of them we have to get them down far enough that there is no recovery.