It goes without saying that that in a country like the US, the governmet is the ultimate source of dollars. Furthermore, it should go without saying that in a growing country with a growing economy, the government must produce more dollars on a constant basis to avoid rececession.
For historical reasons, the goverment’s process for creating money is complicated. Basically, it sells treasury bonds and the Fed buys them with newly created money, which increases the number of dollars. That’s exactly what the US is doing, and why our economy is growing, compared to, for example, Europe. (I’ve argued previously that issuing Treasuries is the approximately functionally the same as producing money, but that s a different thread.)
Anyway, here’s a short-ish example of what I’m talking about, by L. Randall Wray, a principle proponent of MMT:
The basic idea is that the US, or any modern country, needs large and progressively larger deficits to maximize economic growth and efficiently. Which of course, goes against conventional wisdom.
It all seems pretty straight-forward to me, but I’m looking for a discussion, so if you want to point out flaws, or ask questions, or I hope you’ll participate.
There are 2 possible strands of confusion in the OP.
If you are saying, “The money supply must grow in a growing economy”, you will find wide support. Growth in the money supply occurs when the Fed conducts open market operations. During normal times, the Fed buys Treasuries on net in exchange for dollars. But that’s for convenience: the Fed could buy used cars or more likely corporate bonds or an index fund made up of corporate bonds. It would be fine. (Or rather, the problems with such a policy relate to possible political interference, which is best discussed separately.)
The linked article calls for chronic budget deficits, which is the 2nd strand. Similar models were put forward at the end of WWII. They might be correct. But that is far from clear. It’s entirely plausible that the government could run a surplus, the fed could hold interest rates lower than they would have, and additional investment would soak up the excess savings. That would be fine up to the point where the Fed drops interest rates to zero. Which is the situation we have now. But that problem falls under the category of “Liquidity trap” or “Zero lower bound”. Which is something different.
There are smart economists who say we need higher deficits right now. But if the deficit is continually increasing as a percentage of GDP, wouldn’t you eventually get to where 'it took more than a year’s worth of GDP just to pay annual interest coming due? And wouldn’t we go bankrupt long before, with a depression resulting?
Ideally, you should run rather large deficits when economic times are bad, and smaller surpluses when times are good.
One also needs to consider the demographic situation. When the ratio of workers to retirees is increasing, you have more room for deficits. But when it is going the other way, as now, so that the cost of government is bound to go up for the next 25 years of so, and the national debt is already substantial. it is not the time to have large and increasing deficits.
I don’t think we could have exactly saved up for the rainy day of supporting the baby boomers in their old age. But it would have been better to have gone into this difficult period having paid off most of the national debt. GW Bush’s biggest economic mistake was to pander to the short term, as in this famous quote:
Whatever you think of his administration’s wars, they should not have been fought on borrowed money. Back then, higher taxes were affordable.
Now, given the current high unemployment, a balanced budget would be foolish. And the substantial deficit reduction now underway probably is too much too soon. But the extreme easy money approach of the OP would eventually result in disaster.
Well, I’m not saying merely that the money supply must grow, if by money supply you’re including commercial bank deposits. Those are supported by loans, and result in over-leveraging that ends in the classic boom-bust cycle that’s counter-productive. The difference is that government money is money that doesn’t have to be paid back (In MMT talk, "vertical transactions). Commercial bank money is money that does have to be paid back (horizontal transactions).
When the Fed purchases used cars it’s taking financial assets out of the private sector, so there’s a zero-level balance increase in private net worth. When the Fed purchases Treasuries its also reducing private sector net worth, but essentially only using the sellers as middle-men. Ultimately the money comes from the Treasury, as national debt. It’s what MMTers call a vertical transaction: one that has a positive net effect on private net wealth. If the private sector, as a whole, wants to increase net financial savings (which it does), this is the only way that may be accomplished.
I don’t understand your second paragraph. If the government is running a surplus, that means dollars are disappearing. I’d dollars are disappearing, where are the excess savings coming from?
No, because the Fed can purchase up to, and including all Treasuries issued to cover deficit. The US issues Treasuries to people who want to buy them, but it doesn’t have to do that. The government is capable of financing itself. It doesn’t need outside investors.
The MTT position is that the US should run deficits whenever unemployment is more than whatever policy-makers think is desirable (presumably, a very low number) and run surpluses (or lower deficits) only to reduce inflation.
Deficits have nothing to do with anything. When you have a lot of older people, who have to be supported by younger people, the younger people must either worker harder and longer, or more efficiently, to support them.
As a thought experiment, suppose the country was composed of one million retired oldsters, and one young worker. What difference would it make whether the oldsters saved up one dollar, or one trillion trillion dollars? The point is, the maximum the oldsters will be able to consume is whatever that one young person is able to produce. Money has nothing to do with anything. It is the amount of production that makes a country rich, not the number of units of currency.
First, monetary theory says no such thing. This some guy with an ax to grind. Monetary theorists are interested in using money and rates as tools to direct and yes, manipulate the economy. However the reason for that relates to a phenomenon of capitalist economies known as the business cycle. And the point isn’t to advance the cause of the Illuminati but to soften the severity of both booms and recessions as well as to help normalize things like employment.
I can’t even imagine letting this guy loose on undergraduates with that nonsensical example. Sure he admits it’s oversimplified, but to the point of being useless and misleading. For example, were the govt to run at a surplus and if it were to do so during an upturn in the business cycle, a time of economic expansion, it hardly means that the govt is raping poor helpless corporations.
When the economy expands, so does the money supply. This happens naturally but a central bank’s job is to facilitate the process. You need more money because there is more economic activity. So you’re not talking about the same size pie any more, ergo the example is bullshit. And I’m sure that’s not the only and probably not even the most egregious error either, but I’ll settle for that.
Beyond that, LinusK, if you insist on talking about this stuff, try to understand at least some of the basics so that you know when you need to be specific and when you don’t need to be. For example you should at least be aware of the fact that there are 6 different flavors of “money supply” and sometimes it matters which one you’re talking about. And when you clearly demonstrate that you have no idea that they even exist, when you subsequently try to use non-existent jargon like ‘vertical transactions’ - “in MMT speak” you really don’t come off looking good.
And one final point that I hear all of the time and is something that I really wish they would put on a billboard someplace. The federal reserve does not and CANNOT buy debt from the Treasury. M’kay? The only way it gets into Uncle Ben Bernanke’s hands is if someone else buys them first and only later decides, of their own volition, to part with them. That is important and not as some von Mises zombies would tell you, just a barely concealed financial shell game.
As usual, I think the focus on monetary supply is quite misplaced.
Growing the U.S. economy means entities (government, Americans, foreigners) increasingly buying goods and services produced by the U.S., whether for immediate consumption or to improve future production capacity. It really is as simple as that.
Government should run deficits (i.e. inject money into the hands of taxpayers and itself) to increase spending when the appetite of consumers to consume and investers to invest is inadequate to grow the economy.
The huge trade imbalance is a big problem for the U.S. Consumers buy Chinese goods instead of American goods. This “forces” China (or its proxies) to buy American assets (e.g. stocks or bonds). The solution to that is to make American products more competitive – a good reason the public treasury should be spent on infrastructure improvements rather than tax cuts aimed at allowing consumers to buy still more foreign-made goods.
When the Federal government spends more than it taxes, the public (the non-federal government sector) is richer: there’s a net flow of money from the government to the public. When the government taxes more than it spends it’s reversed. The public is poorer and the government is richer.
The Federal Reserve can increase the money supply, but only by buying things. So for example if it buys gold, or cars, from the public, the public has more dollars, but less gold, and fewer cars. The net financial effect, assuming the Fed pays fair value, is zero.
Are you assuming there is a trade of between inflation and unemployment?
MMT commits the error of ignoring the importance of what is produced. Prices matter because they are signals for where resources should be allocated. When you start injecting money into the economy willy nilly you are going to screw up the signals.
No when the government spends more the public is poorer. You said yourself that dollars are unimportant and that production is what matters. Government distorts the allocation of resources in favor of obviously wasteful things like defense spending. Government can never know if what it is producing is valuable because nobody is engaging it in mutually beneficial trade, which is where real wealth is created.
I would agree with this in theory, but the assumption you make is unwarranted IMO. The fact that the FED commits to buying something increases its market value. For example, if it buys MBS, it is inflating the value of these shitty assets. I think this would be expansionary.
I have to point this out again. What is being labeled as MMT doesn’t even exist. These people treat it as if it is some separate school of thought like Marxism. It’s not. It is simply the study of how money and interest rates affect the economy. OK, it’s a bit broader than that since like all economics there are the psychological factors as well, but the point is that it’s not a dogmatic position paper that pretends to dictate how things ought to be. Many people who study the field will certainly have strong opinions on certain policy issues but also many strong disagreements.
So please don’t buy into this bullshit of some monolithic MMT because it doesn’t exist.
That only works if you look at the economy like it’s a photograph. But the economy is really more like a movie; it’s an ongoing series of events.
If the government is spending more than it collects today, it will have to collect more than it spends at some future time. And while in theory this equals out, as a practical matter, it’s subject to political gaming; politicians want to schedule the excess spending now while they’re in office and put off the excess taxing until some unspecified future date when another politician will get the blame for it.
And the fact there is a known buyer of something (the fed), is no factor in someone purchasing them in the first place? Gotcha. what do you think would happen if the fed wasn’t politically and ideologically motivated to buy?
That’s very true and because of that it does sometimes look suspiciously like ye olde shell game. But remember, the only reason that’s happening at this particular time, i.e., since 2008 or so, is that the normal route of stimulating the economy via lowering short term rates was having no effect. So the fed embarked on a variety of liquidity programs that were novel and massive.
What is going on now cannot, even in the most epic Gordon Gekko cocaine and alcohol induced haze, be considered standard operating procedure.
There are two kinds of money. Commercial bank deposits, which are liabilities of commercial banks, and what I’ll call government money, which is a liability of the Federal Reserve. Those liabilities take the form of either currency, or reserves.
The money supply “naturally” expands whenever commercial banks make new loans, which in turn create more commercial bank deposits. This is what MMTers call “horizontal” transactions. The important thing here is that the loans are also debt. In other words, more money always equals more debt. The non-bank sector has to service that debt. When times are good, banks create more and more money, and more and more debt, until something happens and the non-bank sector can’t service the debt anymore. Then you have a financial crisis.
I’m aware of the various kinds of M’s. I just think as a classification system, it’s arbitrary and unhelpful.
The Fed doesn’t directly buy Treasuries from the Treasury. Some person or entity buys them from the Treasury, and then the Fed buys them from them. So there are middlemen involved, but it doesn’t make much difference. Suppose the Fed bought Treasuries directly from the Treasury. What difference would it make?
MMTers do in fact label transactions between the government and the private sector “vertical” transactions, and transactions within the private sector “horizontal”. I don’t particularly like the jargon myself, but it’s there because MMT asserts there’s an important distinction between them: specifically, that vertical transactions are necessary to combat unemployment, prevent recessions, and to make the economy run at full capacity.
One thing of which people should be aware is that the Fed doesn’t need to go out looking for bond holders to buy from nor to look for bond purchasers looking to buy. It has the ability to say “We’re going to buy - for example - $85 billion worth of bonds this month. You’re all going to sell them to us.” There isn’t even an ‘or else’ in there. The wants to buy their treasuries, the fed gets to buy their treasuries.
The same is true with the converse. The fed wants to sell a bank some treasuries, the bank is going to buy them. “We’re taking your money. Have some bonds. Fuck you.”
Not that they’re that rude about it. I exaggerate.
Still, it’s that power to compel that allows the Fed to control the money supply. Even if the banks involved disagree, they can’t refuse to buy or sell.
Generally, this is spread across all banks of a certain level. However, I’m uncertain whether that’s actually regulatory or just (good) practice.
The Fed buys at market value. The Fed sells at market value. Their partners are without exception willing partners. They find voluntary transactions because they’re buying and selling at the market price, and exactly the same is true for you personally if you want to go out and buy Treasuries yourself. If you have enough cash to meet the market price, you’ll be able to buy. If you own Treasuries and are willing to sell them, you’ll receive the market price for them, same as the Fed.
If the Fed wants to buy 85 billion worth of bonds, then they will buy 85 billion worth of bonds, yes. That’s obvious. But that has nothing to do with forcing anything. It relates to how many bonds they’re actually able to buy. If interest rates are low, then bond prices are high, and 85 billion of bonds will be a relatively “small” number of them. If interest rates are high, then bond prices are low, and that same 85 billion dollars will buy a relatively larger number of bonds of the same face value, coupon, and maturity.
The only way to “force” a purchase in this context is to buy bonds based on last week’s more favorable prices, and the Fed does not get to do that. They pay market price. The actual difference with the Fed is that they’re the 800 pound gorilla, so when they announce that they’re about to make purchases, on a vast scale using newly created monetary base, they are likely to change the market price. That is, in fact, part of the point. But it’s still a market. If they want to commence with their purchases, they will pay the new market price, and they will do so by finding a willing partner on the other side of the transaction. 85 billion dollars might buy a different number of bonds than it did last week, but this is the most liquid market in the entire world, and there will always be a voluntary seller on the other side. There’s no need to twist any arms, and no authority to do so, since it would be totally unnecessary. They buy on the open market.
Well, I acknowledge your well … knowledge … Hellestal. I was going from memory and taking it from a CE course on the fed and treasury behavior.
But I could have sworn the fed had the right to both require sells and buys of bonds among primary lenders. Again, though, I acknowledge that I could be misremembering. But what if the fed wants to buy - to expand the money supply, for example - and there are no buyers? Or, I suppose, the converse?
The price changes. If they’re not willing to sell a bond at 1000, they might be willing to sell at 1001, or 1002. Etc. This is the basic gist of the process the Fed uses to push down interest rates.
Now, there might indeed be rules of convenience on the day of the purchase (I’m fuzzy on that myself – I’ve been reading up on Treasury rules lately and that’s scrambling my memory of Fed procedure). It could be that the ostensible rule is “forced”, but it still won’t work that way in practice. Those rules still won’t dictate price. That’s one reason why they make announcements of purchases. “We’re going to be making 85 billion dollars of purchases this month.” Everyone knows this, and so the price of the bonds will change before the Fed acts to accommodate the dealers. The whole point is to get the bonds at the market price, whether buying or selling, and that includes letting the price/interest rate change. If a dealer is “forced” to sell 11 billion of bonds, it will only be because they purchased those very same bonds for 10.9 billion two days ago. I would personally still call that a voluntary market transaction. The purpose is to facilitate transactions, not to compel deals that are potentially disadvantageous to one side or the other.