Category Archives: MMP

Thanks for comments. I’ll return to posting the questionsand my responses this week.

Q1: What about the Chinese or others buying US assets withthe dollars they have credited to their accounts.  They could have controlof US corporations which wouldn’t sit well with the US electorate.

A: I recall the exact same “yellow peril” arguments in the1980s when the Japanese were “buying up” Hawaii and NYC. Look, once they buy USassets they are subject to US laws. If we don’t like what they are doing with“their” property, we change the laws. In truth, is it worse to be subject tothe whims of a convicted criminal like Michael Milken engaged in LBOs thatenable him to downsize workers and strip off assets; or to a Japanese orChinese firm that has a long-term interest in producing autos in Georgia? Iguess it is a toss-up. In any case, most of the Chinese “dollars” are safelylocked up at the Fed, either in the form of reserves or US Treasuries. They getno obvious advantage from that ownership except whatever advantages TreasurySecretary Geithner wants to give to them.

Q2: What do you make of the idea that a weaker dollar would be good for oureconomy because it’d make it less attractive to export American jobs andpossibly bring some back? Would the positive effects of this offset thenegative effects of more expensive oil and imports?

A: Estimates of trade benefits of dollar depreciation arealmost certainly overstated. First, many of our trading partners “peg” to thedollar—depreciation has no effect at all on them. Second, those that don’t peg arewilling to take lower profits (hold dollar prices steady) to keep market share(this has been the Japanese strategy). Third, exports are a cost, imports abenefit so trying to maximize a trade surplus is a net cost maximizingstrategy; ergo: just plain dumb. Fourth, forget those old, 19^thcentury factory jobs. They ain’t coming back, and good riddance. Today low wageworkers in developing nations will take them; tomorrow they’ll all be done byrobots who don’t mind hard work for zip wages. Alternative: create good payingjobs in good working conditions right here in the good ol’ US of A.

Q3: When foreign central banks purchase U.S. dollars, howdoes the accounting go from their perspective? Do they mark up U.S. dollars onthe asset side of their balance sheets and issued money on the liability side?Does this lead to increase of reserves in the domestic banking system, and theyhave to issue equivalent amount of bonds to accomodate this? So export ledgrowth, with undervalued exchange rate would still lead to increase in publicdebt even when government’s budget was balanced? And if foreign central bankshold foreign money on the asset side of their balance sheets and domesticcurrency on their liability, aren’t they exposed to huge losses if exchangerates change?

A: Not sure I got all of this, but let’s give it a go.Typical case: a country (say, China) exports goods to the US. Its exportersearn dollars but need RMB (to pay workers, buy raw materials, service debt).Their bank credits their deposit account with RMB, central bank of Chinacredits the bank’s reserves in RMB. So the dollar reserves end up at Bank ofChina (asset of Bank of China, liability of Fed). Bank of China says “hey,these suckers earn zero interest; I want Treasuries” so Fed debits theirreserves and credits Bank of China with Treasuries. Impact in the US: some USbank’s reserves are debited, Bank of China’s reserves credited. No change oftotal reserves until Bank of China buys Treasuries. At that point the reservesdisappear, Fed’s liability to China reduced, Treasury’s liability to Chinaincreased. No necessary impact on the dollar/RMB exchange rate since theexports sold and imports bought were voluntary, and China only exported becauseshe wanted dollars (reserves, then Treasuries). The next question always is:but what if China decides to run out of the dollar and dumps Treasuries? Ok, ifthat happened there could be depreciation pressure on the dollar; in which caseChina loses since its dollar assets decline in value relative to RMB.Fortunately, China is not as dumb as those posing the scenario. It will not runout of dollars in part because it does not want dollar depreciation.

Q4: This discussion gets to the heart of another question Ihave regarding the MMT proposition that tax liability is the main reason usersvalue a fiat currency. As there are considerably more dollars held abroad as ahedge against currency runs and also as banking reserves to underpin intltrade, it would seem that foreigners value the dollar and yet have no taxliability to the US government. How does this square with the MMT claim? Thisalso brings to mind another nagging suspicion that MMT focuses too much onnominal values and not on the real value of the supply of goods and servicesthat underpin the currency. My guess is that Chinese sovereign funds will seekdiversification out of dollar reserves by exchanging them fordollar-denominated real assets.  Barron’shad an article this week that suggests the Chinese govt. will also promote intltrading in yuan to compete with the dollar.  I could see how exchangemarkets with competing currency bloc issuers could provide the constraints onpolicy abuse of fiat currency values – a collapsing exchange rate is a highlyvisible market indicator.

A: Ok: 1. At the extreme, if we impose a $2 trillion taxonly on Bill Gates, you can be sure that others will take dollars because poorBill will work hard for us to pay his tax in dollars. This is a red herring. Wedo not need to tax all 6 billion people in the world to ensure a global demandfor dollars. Tax about 300 million relatively wealthy Americans and you can besure dollars will be demanded outside the US. Because Americans want them topay taxes. Ever hear of the “margin”? Here is one place it works. Tax on themargin and you drive a currency. 2. MMT focuses too much on nominal? Hey, MMTis “modern money theory”. Money. So yes, it is focusing on money. Nominal. Wecould focus instead on the aesthetic value of nose jobs. Then we would call itmodern nose jobs theory: MNJT. In any case, like it or not, we live in amonetary economy. Monetary production economy. Capitalist economy. Choose yourterms. Money matters. 3. Barron’s? Give me a break. That is your source ofanalysis? Read more MMP, less Barron’s. More seriously: China will become thebiggest economy in the world within 5 years. Its currency will likely replacethe dollar in 50. Maybe sooner. Don’t hold your breath.

Q5: To what extent do foreign countries other than Chinahold US dollars as a way to protect their own currencies? Even if not directlypegged to the dollar, don’t many hold dollars to support their currencies in fxmarkets? If China suddenly desired to hold fewer dollars and started to dumptheir US bonds, wouldn’t the weakening of the dollar that might result causeall those other countries to buy more dollars to build back adequate reserves?And wouldn’t that demand tend to support the dollar’s value? In effect won’tevery country that uses dollars to protect its own currency automatically actto protect the value of the dollar as well? If the dollar were to be suddenlydevalued for whatever reason, is their any other stable currency that couldplausibly be used instead by countries that now use US dollars to protect theirown? I can’t imagine Euros or Yuan being very attractive …

A: So many questions, so little time. However, much of thisanswered above. Yes, many hold dollars to enable them to manage or peg theircurrencies. Holdings increased after the Asian Tigers’ crisis, when nationscame to realize you need an unassailable reserve if you are going to peg. Chinalearned it well. Does it increase demand for dollars. As Sarah would say, “youbetcha”. Does devaluation lead to capital losses? Yep. Is there any alternativenow? Nope. You can’t get safe euro debts in sufficient quantity. Oh, sure youcan buy the debts of PIIGS. Go ahead, they need your help. Germany is a netexporter and the model of fiscal rectitude, so you can’t get their euro debt.So euro is a no-go. RMB? No way. Ditto. It is a better Germany than Germany is.Japanese Yen? Exporter. As an exporter it creates sufficient domestic saving toabsorb its large government debt. TINA: there is no alternative to the dollar.Today.

Q6: Okay, I’ve been waiting for these posts for some time. Idon’t know how much of the below question you will deal with in next weekspost, so maybe its best if you ignore the parts of the questions that will bedealt with. (1) You mention Japanese domestic saving. Can we just confirm onceand for all that the high rates of domestic saving in Japan are the result oflarge government deficits and little of this ‘leaking’ abroad due to theirrunning current account surpluses? And can we surmise from this that Japanesesavings rates are largely determined BY the government deficits? — hence, it’sthe deficits that ’cause’ the savings and not the savings that ‘allow’ thedeficits. Sorry, I know I’ve been pressing this point for  while on here.But I’d like it ‘in stone’, as it were. (2) In what way does what you say abovetie into the Hudson/Varoufakis ‘dollar hegemony’ argument? I.e. the argumentthat the US occupies a ‘special position’ due to its post-war status thatallows it to have its currency accepted by others to an extent that no othersovereign can? The kicker here would be that, if there is truth to thisargument the US might not like the prospect of currency devaluations not justfrom the perspective of Wall Street, but also for geopolitical and military(read: imperial) reasons.

A: Thanks for the patience! Japanese gov’t deficits +current account surpluses = large domestic savings. By identity. Yes. Yen forYen. Causation goes from spending to income to saving; or from injections toleakages, in the normal Keynesian way. Some in US would like dollardepreciation (exporters); some would like appreciation (tourists, and yourstruly). The US is special. It has more nukes than anyone else and has shown theworld it is willing to use military might. That was not post-war, it was war. That’sreal hegemony, not merely dollar hegemony. Nuclear hegemony will trump currencyhegemony, I think.

Q6a: Question (1a) — well stated! Let me try to summarize– and add a third alternative: Which view is “best”? * Conventionalview — loanable funds: “private savings allow governmentdeficits” * Philip’s suggestion: “government deficits’cause’ private saving”, or alternatively “private saving isdetermined by government deficits” * Keynes/Godley view (heh..as understood by Hugo): Increased private saving constitutes a demand leakage,since private spending decreases. Private saving decisions thereby ‘lead’ thegovernment into deficit. Because if the government does not go into deficit (toaccomodate for the private saving intentions) the economy will slow down (dueto the decreased private spending). So: “private saving behaviour’leads’ government deficits” or alternatively “governmentdeficits ‘allow’ private saving” Philip, is that a reasonable way toformulate your question (1a)? (Question (1b) would then be the question on whyso few foreigners hold Japanese bonds — is it due to Japanese current accountsurpluses?)

A: Always takes two to tango. By construction, modern government budgetaryoutcome is accommodative—taxes fall and spending rises in downturn. Thedownturn, in turn, can be thought of as resulting from inadequate aggregatedemand which leads to a reluctance to spend. That in turn results from apreference for saving and especially in liquid form. Ergo: private sector wantsto net save in government IOUs, so won’t spend, so a deficit results to satisfythe saving desire. To be sure, causation is always complex but that is a roughand ready explanation.

 Q7: Pretty much.Randy has said many times before that government spending = private savingdollar for dollar. I just want to know if he thinks the case of Japan is aconcrete example of this. Its just a very concrete argument to make against the’Japan is because of high savings’ types. “No,” you’d respond,”Their savings are DUE TO high deficits coupled with trade surpluses! Thegovernment bonds just mop this up. Hence the perpetually low interestrates.”

A: Both. Japan has an inadequate safety net in conjunctionwith 2 decades of recession. Perfectly rational to save. That generates lowgrowth and hence budget deficit. However, since the saving cannot occur unlessthe budget deficit occurs (and trade surplus) it makes sense to say thedeficits allow the desired saving to be realized.

Q8: Could the government be compelled to raise taxes, afterissuing so much bonds, paying so much interest, that bond holders becomenervous and suddenly rush to buy actual stuff (mines power plants, whatever)before inflation and currency depreciation occur ? As the US dollar shift awayfrom international reserve currency status, isn’t a harsh inflation to beexpected ? How to deal with it? When governments lended to banks in 2008, werethey compelled to do so because the massive losses demanded reserves to payright away (or go bankrupt) to an amount exceeding what central banks had intheir balance sheet ? Have we figures saying just that ? Otherwise why wouldgovernments act as Lender of Last Resort and humiliating central banks whopretended to be the ultimate guarantee of the monetary system ? (Yep I was theguy sending an e-mail entitled Lender of Penultimate Resort, I hope I”m nottoo pressing 😀 )

A: In a sovereign country, taxes create a demand for thecurrency and they drain income and thus reduce demand, which can be useful ifthere is inflation pressure. Obviously that is not the problem in recent years.So, no, there is no reason to raise taxes after the bail-out. The US dollar isnot shifting away from international reserve status. Have you been watchingEuroland? There will be a huge euro bond sell-off and a run into US Treasuries.Buy them now before Europe gets all of them. Why did the Fed bail-out WallStreet? Because Bob and Hank and Timmy came from Wall Street to save GovernmentSachs. Not sure it is humiliating, but it certainly is a scandal. Worst inhuman history.

Q9: As far as exchange rates go, context matters.Switzerland is actually rather unhappy about the fact that the CHF rose so muchrelative to EUR in the recent crisis, to the point where their central bankdecided to put a limit on how high the CHF can go. They want to protect theirtourism and export industries. Similarly, it seems to me that a depreciation ofthe USD wouldn’t necessarily be bad for the US. At least, I often read UScommentators complain about the perceived de-industrialization of the US comparedto the rest of the world. A falling USD could certainly help make production inthe US more attractive again, couldn’t it?

A: Again, depends on which American you are. Estimates ofpositive trade effects are almost certainly overstated for the US. For acountry like Italy, depreciation could have a nontrivial effect within Europe.Of course, it cannot do that until it leaves the euro and returns to the Lira. Noone is going to peg to an Italian Lira. So depreciation does increase exports.Given that most countries constrain demand, exporting is a lot like payingpeople to dig holes. It provides jobs devoted to waste. Exports mean youproduce things you don’t get to consume. Pure waste—might as well just dig theholes, unless workers prefer making Fiats they don’t get to drive. The US wouldbe far better off if it exported nothing, imported loads of stuff, and operatedat full employment. Not digging holes but rather doing useful and fun stuff.

Rather than repeating the questions, let me justsummarize six key issues raised.

1. Weneed to tie ourselves to the masthead of budget limits to keep politicians fromspending too much. For better or worse we have a budgeting process throughwhich Congress decides how much to allocate to programs, then submits the planto the President. Once approved, this authorizes spending. That is the“democratic” process through which our elected representatives decide whichprograms are worthy of funding—and at what levels. Much of the spending is“open-ended” in the sense that it is contingent (unemployment benefits paidwill depend on economic performance, for example). I do not see how adding aconstraint beyond this is either necessary or consistent with democraticcontrol and accountability. Certainly I do not support many or even most of theprograms Congress and the President decide to fund. I can vote to throw thebums out. If I’m rich enough, I can try to buy them off with campaigncontributions. By its very nature a debt limit is arbitrary and inconsistentwith the budgeting process. In the past, it never mattered—the budget trumpedthe limit and Congress routinely raised the limit. Now the politics of aminority is trying to subvert the budgeting process. In truth, the biggerdanger is the new super-duper hand-picked for ignorance deficit committee thatis authorized to ignore Congress’s will as expressed in the budget and to slashand burn programs in a thoroughly undemocratic manner.
2. Publicgoods provision is always less efficient than private goods provision; andproduction of public goods crowds-out private goods and hence must reduceoverall efficiency. This is faith-based economics of the worst sort. It hasabsolutely no evidence to support it and defies any logic. Outside of communistor socialist societies, I truthfully cannot see any legitimate use for the hazyterm “efficiency” in economics. Unlike communist societies, capitalistsocieties never operate near to full capacity (with World Wars the onlypossible exception) and hence it is never a simple matter of taking resourcesaway from private use to support public use. And in any case, one cannotimagine any private production without first having in place publicprovisioning.
3. Abloated government is a drag on growth and causes inflation. Could be true.However, everywhere I look in the West (that is to say, among developednations) the problem is government that is far too small to succeed in thetasks at hand. Too much privatization, too many idle resources, inadequateprovision of essential public services.
4. Whohas the authority to issue “warrants” or “platinum coins”? As discussed above,Congress and the President first work out a budget. That authorizes Treasuryspending. We can come up with all sorts of procedures to allow Treasury toaccomplish that task. A relatively primitive but effective one would be for itto simply print up Treasury notes and spend. Or it can directly keystrokeentries into the deposit accounts of recipients—but that requires that Treasurycan also keystroke reserves onto bank balance sheets. Since we divide the tasksbetween Treasury and Fed, having banks “bank at the Fed”, it must be the Fedthat keystrokes the reserves. There is no fundamental reason for this—bankscould have accounts at the Treasury used for clearing and then the Treasurywould keystroke the reserves. But we don’t do it that way. So we could have theFed act as the Treasury’s bank, accepting a Treasury IOU and keystroking bankreserves. But we don’t do that either—we say that although the Fed is theTreasury’s bank, it is prohibited from directly accepting a Treasury IOU. Andhence we created complex procedures that involve private banks, the Fed and theTreasury to accomplish the same thing.

   Now I went through all that simply as an introductionto the warrant and platinum coins proposals. Treasury has the authority toissue platinum coins in any denomination, so could for example make largepayments for military weapons by stamping large denomination platinum coins. Itwould thereby skip the Fed and private banks. And since coins (and reserves andFederal Reserve notes) don’t count as government debt for purposes of the debtlimit this also allows the Treasury to avoid increasing debt as it spendsplatinum coins. Similarly we could create some new IOU we call a warrant thatis made acceptable (for example) in tax payment. It would be a Treasury IOU butwould not be counted among the bills and bonds that total to the governmentdebt. Like currency it would be “redeemed” in tax payment, hence demanded bythose with taxes due. So it is just another finesse to get around arbitrarylimits or procedures put on Treasury spending.

5. TotalFed commitments (so far) to bailout Wall Street: $29 trillion. That figureresults from a close study by two UMKC PhD students who will soon be releasingtheir study.
6. Whatabout Italy (etc)? Do they face market imposed debt limits (rather than simplytying their shoes together voluntarily)? Yes. Go to my GLF blog today.They are now more like US states, users not issuers of the currency.

By L. Randall Wray

Sorry this is late—there were a lot of comments and I amtraveling. Before we begin, a note and plea: we are getting an increasingnumber of emails with comments and questions (sent to NEP email and to mine).Please understand I cannot respond to those—I get hundreds of emails a day andit would consume all of my time to respond individually. That is why I amcollecting comments on the Primer page and responding to all at once. I knowsome people are having trouble posting comments (I do too!) but what I’ve foundis that “three’s a charm”: if you hit “post” three times it inevitably works.Sorry about that.

Some of the comments were quite long and dealt with severalissues. So this week I am posting most of the text, followed by my response.

Iris: So from my point of view, what you obviously neglectis to insert all the additional references to presupposed material, which us,especially with less “previous knowledge of MMT” could help to betterunderstand the matter you’re dealing with. My impression is for example, thatnot only general accounting basics are necessary but also knowledge about thestructural system of inter-firm-, inter-bank- and governmentbanking-institutions’ accounting to private sector. Would it be asked
to much of a favor for you to perhaps offer, at least via footnotes, thesehints too?

A: Well there is always a trade-off. We don’t want to getinto defining the meaning of “the” (as a former President tried to do). I dopresume some knowledge and it is tricky just how much should be assumed and howmuch explained in detail. Sometimes the reader with less background is probablygoing to have to accept some statements without fully understanding all thedetails behind them. I have been leaving out detailed accounting for tworeasons: it is more detail than most will want, and it is hard to produce thesein Word (and I have no idea how hard it is for our techie to post them to theblog). However, since there have been a number of requests, I will devote ablog to “T Accounts”.

Hugo: Ok, “excess deposits” results in increased”demand for profitable savings vehicles”. And if demand for savingsvehicles exceeds supply, the market will adjust. Savers will have to acceptlower yields on their savings. Firms would find it more easy to borrow money.Interest rates for corporate bonds would likely decrease (in thefinancial markets?). But I feel the transmission to an increase in governmentbonds is somewhat weak here? What you are suggesting seems to be: “Excessdeposits seeking profitable savings vehicles”  -> “excessreserves in the interbank lending system” -> “overnight ratemaintenance” -> “bond sales” -> “equilibrium”..?But how does “excess deposits” necessarily lead to “excessreserves” here?

A: Before I get into a response, Guest responded to Hugo,trying to straighten this out:

A: Sounds OK to me. A central bank CAN target a long termrate (ie 30 year treasury bond) and hit it if it wants, but central banksnormally do not. Instead, they target the short end and when they want thelonger term rates to fall, they make statements like “we expect to hold theovernight rate at a low level for the foreseeable future”. That makes holdersof longer maturity bonds more confident that the short term rate will not risesoon—which would cause capital losses. There are a number of approaches to thedetermination of longer term interest rates: expectations theory, habitattheory, and interest rate parity. As a great philosopher once said “you canlook it up”. But in conclusion, yes, MMT agrees that longer rates are complexlydetermined and are not normally exogenously controlled by central banks.

WH10: “Finally, the fear that government might “printmoney” if the supply of finance proves insufficient is exposed as unwarranted.All government spending generates credits to private bank accounts—which couldbe counted as an increase of the money supply (initially, deposits and reservesgo up by an amount equal to the government’s spending).”That’s only halfthe picture for those concerned.  Peopleperceive govt spending as being counteracted by bond sales, so the money supplyseemingly does not go up.  HOWEVER, is itnot the reality that a significant proportion of bond sales come from bankPrimary Dealers, which ‘spend’ from their reserve accounts, such thateffectively there is a net credit to deposit accounts (as opposed to them beingoffset by purchases of bonds out of deposit accounts)?  In other words, it seems we’re almost always’printing money,’ if this is the case.

A: Minsky said: “anyone can create money (things), theproblem lies in getting it accepted”. Yes, we are almost always “printingmoney” in the sense of issuing IOUs denominated in the state money of account.Get over it. On some conditions, that can cause prices of output or offinancial assets to rise. It all depends. There is no automatic channel thatcauses an increase of “money supply” however defined to lead to “inflation”,however defined. And there is nothing that magical with respect to inflationeffects of government spending as opposed to private spending. If I get an autoloan to buy a car, on some conditions that could push up car prices and hencethe CPI. And we could find that some measure of the money supply also hadincreased. If government strokes some keys to add a vehicle to its fleet ofcars, on some conditions that could push up car prices, the CPI, and somemeasure of the money supply. Yes, it is a possible outcome and if you reallywant to point your finger at the increase of the money supply, I guess you can.I would say that it was the increased purchase of autos that in tight markets(full employment, full capacity utilization) would induce manufacturers toincrease prices. Note that could also happen without any additional loans or“printing money”.

WH10: Was there a time when did the U.S. Govt could spendbefore requiring the Treasury’s account to be marked up?  If we imagine afiat currency starting out, but Fed overdrafts are not allowed and the sameinstitutional restrictions that we have today are in place, then what are theaccounting statements which allow the government to spend without a positiveaccount?  Does this necessitate the existence and willingness of primarydealers that to have their reserve accounts go negative to facilitategovernment spending?  Why are they willing to do this? 

A: Not exactly sure when the US government decided to tieits shoes together by requiring Treasury to have a credit to its account at theFed before making a payment, but it could date to creation of the Fed in 1913. Whatif there were no Fed? Bank clearing could take place on the books of theTreasury, and the Treasury could simply credit them with reserves whenever itmakes a payment. Even simpler, it could just pay with paper notes or coins. Or,in the old days, with tally sticks. These would be the debt of the governmentand the financial assets of the nongovernment, accepted in tax payment.

Dave: I guess I’ve missed something (though I’ve reviewedthe two previous posts): Given that reserve requirements are defined by the Fed(http://www.federalreserve.gov/…how does the non-governmental sector as a whole acquire “excessreserves” i.e. don’t reserves only grow as much as (in proportion to) thesurplus the non-governmental sector accumulates from deficit spending? Or doyou only mean that SOME agents/banks/actors of the non-governmental sectoraccumulate “excess reserves”? Or….?

A: Banks can get reserves from either the central bank orthe treasury. When treasury buys goods and services, bank reserves arecredited. We normally call that government spending. When the central bank buysfinancial assets from banks (ie: buys government bonds, or private debt, or theIOUs of a “borrowing” bank) that also increases bank reserves. But we do notnormally call that “government spending”. Really it is, but it is spending onassets not on goods and services (so does not show up in GDP).

Joe: OK, so we’re starting to get to the answer of”What if people don’t want to buy the bonds?” Perhaps some examplenumbers, accounts etc. would make thing a bit more concrete as ‘portfoliopreference’ is rather vague. Also, the idea the deficit spending comes first,to provide the reserves to purchase the bonds, seems logical(money must existbefore you can buy bonds), but doesn’t the treasury need a positive balance inorder to spend? Bond sales increase the balance, so there’s a very strongillusion that the proceeds from bond sales are recycled into the treasury’saccount (which I believe is the traditional, pre-1971 view).  Did theinterpretation just change in 1971; pre-1971 money from bond sales went intotsy account, post-1971 cash assets are converted to bond assets while new moneyis put into tsy accout? And how can the deficit be mandated to be covered bybonds, if you have to wait for preferences to adjust, there must be some timelag between spending and bond ales?  (sorry, lots of questions, I’mpatient, hopefully it’ll all clear up in the coming weeks)

A: Not sure how numbers would help. In the US, where we tiedthe government’s shoes together, the Treasury first sells bonds to specialbanks that buy them by crediting the Treasury’s deposit account. Treasury movesthe account to the Fed before spending. These bonds will be bought by thespecial banks, so at this point the portfolio preferences of the nongovernmentsector do not matter. Deficit spending will increase bank reservesdollar-for-dollar (cash withdrawals will reduce that a bit). As discussed thebanks will try to buy earning assets such as government bonds. The Fed andTreasury coordinate how many bonds will need to be sold by the two of them tooffer earning assets as alternatives to reserves, to allow the Fed to hit its interestrate target. A complication is that in the Treasury’s new issue market, itpursues “debt management”, offering a range of maturities. Occasionally theTreasury might offer a maturity that does not match “portfolio preferences” ofpotential purchasers.

Hugo: According to Vickrey, private capital in the U.S willhave trouble seeking profitable productive investment. Is government bond salesneeded as savings vehicles for the private sector to prevent assets bubbles?

A: Not sure I follow. To prevent asset bubbles, I’d userules, regulation, and supervision of financial institutions. The problemreally is not one of “excess saving”, so trying to “soak up” saving throughgovernment bond sales will not resolve it. If I want to speculate in Martianocean-front condo futures, I do not need any savings. All I need is a bank.

Kostas: “In reality, the Chinese receive Dollars(reserve credits at the Fed) from their export sales to the US (mostly), thenthey adjust their portfolios as they buy higher earning Dollar assets (mostly,Treasuries)”. It would be nice if you could elaborate on how foreigncentral banks get a hold of dollars in their Fed accounts. My understanding isthat this happens when central banks (of surplus countries) intervene inforeign exchange markets in order to maintain their currency foreign exchangevalue (by offering their currency in exchange for foreign assets). Is there anyother way for Bank of China to acquire US$ reserves?

–Dirk: Of course. The People’s Bank of China can borrow/buydollars from abroad. Not only from the US, but from anybody who holds dollars.In case of buying dollars, the counter-party has to accept yuan (not a problem)and the exchange rate might be changing (indeed a problem).

A: Thanks, Dirk, I think you answered.

Neil: “Recipients of government spending then can holdreceipts in the form of a bank deposit, can withdraw cash, or can use thedeposit to spend on goods, services, or assets.” Can’t they also swap itfor another currency with a willing party at an agreed exchange rate?  So the ‘shifting of pockets’ surely has anexchange effect as well, not just an interest effect. Or do you see currencyexchange as just another asset purchase and that it will effect themacroeconomy in the same way as any other asset price shift?

A: Yes, I can use a dollar deposit to buy foreign stuff,take vacations abroad, or to buy foreign assets. The dollar deposit will beheld by someone else. My spending abroad can affect the exchange rate.

Andy: What effect,if any, does a reduction in bank depositshave on central banks’ day to day operations? For example if repayment ofprivate debt is greater than bank lending and fiscal tightening by governmentsat the same time.

A: Let us say bank deposits decline due to loan repayment. Whenit comes time to calculate reserve requirements (in the US, more than a monthlater), banks will find they have excess reserves relative to what is requiredon their deposits. They will attempt to individually reduce reserves held bypurchasing bonds (etc). That just shifts the reserves about. But it also pushesthe overnight interest rate down. The central bank responds with an open marketsale of treasuries. So it “forces” the hand of the central bank that reacts tothe interest rate decline.

Suspicious: When will we get the MMP  explaining how to credibly regulate a bankingsector ? Banks have always managed to circumvent doctrines, ideologies,regulations, etc. and to wreck havoc the financial system. What’s the purposeof the central bank reserves not being inflationary if banks can loot it viacontrol fraud, and raise prices like in the commodities, and even causehyperinflation if only they were not as greedy as preventing anyone butthemselves to make money on it ?