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A modern monetary theory lullaby

In recent comments on my blog concern was expressed about continuous deficits. I consider these concerns reflect a misunderstanding of the role deficits play in a modern monetary system. Specifically, it still appears that the absolute size of the deficit is some indicator of good and bad and that bigger is worse than smaller. Then at some size (unspecified) the deficit becomes unsustainable. There was interesting discussion about this topic in relation to the simple model presented in the blog – Some neighbours arrive. In today’s blog I continue addressing some of these concerns so that those who are uncertain will have a clear basis on which to differentiate hysteria from reality. We might all sleep a bit better tonight as a consequence – hence the title of today’s blog!

I should note at the outset that these simple teaching models are only designed to reinforce the stock-flow relations at the sectoral level and show the inevitable relationships that follow from the national accounts when discretionary action is taken by, say, the government to cut back its deficit. They are not intended to incorporate all macroeconomic behaviour and system interactions. Then we would lose the message.

If you consider the headline from this article in yesterday’s WSJ, then it is clear that those concerned individuals would start resonating.

The headline read: Foreign Demand Of US Assets Slows In December and within a few hours I was receiving E-mails from the deficit terrorists who seem to think it is okay to regularly send me E-mails … as if they know me … without starting with “Dear Bill” or any other form of polite introduction.

They typically then immediately launch into some asinine diatribe, interspersed with comments such as – “you see, despite what you say, China is bailing out … its all about to go up in smoke” or “interest rates are about to jack up what do you say now Professor” – sometimes with some additional colourful terms – such as “socialism” or “fu##wit” appended. Such politeness always suggests to me that this crowd must have had stable upbringings with a sound primary school education!

Now let me be absolutely clear – no-one who is nice enough to comment on my blog whether pro or con in relation to the argument I present there write these E-mails. I welcome all constructive comments and contributions to the billy blog community. These E-mails I get are another matter altogether and the descriptor spam comes to mind.

As an aside, the IP addresses from the E-mailers are 99 per cent of the time from US routers which doesn’t say they are Americans but is suggestive. I sense there is real angst in the US and a lot of it is being fuelled by these so-called financial market experts who wouldn’t know what day it was.

As an another aside – in relation to “what day it is”: (humour coming up) – a few years ago a US sociology professor (or some such) was being interviewed by our national radio broadcaster the ABC about his forthcoming trip to Australia to present a paper at a conference. At some point in the interview he said “and by the way what month is it down there” (it was mid-May, so it wasn’t a dateline issue). It was funny. By the way, many of my best mates are … you guessed it … Americans.

Anyway, back to that WSJ article which reported that:

China continued to sell U.S. Treasurys in December, dropping to the second-largest foreign holder after Japan, raising concerns of a permanent shift out of the dollar. Foreigners were net buyers of long-term U.S. assets in December, though the pace slowed and a record amount of Treasury bills were dumped.

I am not sure why this would raise any concerns at all. Who buys the government paper is somewhat irrevelant. Whether anyone buys the paper should also be irrelevant to a fiat currency issuing government but that is another story given the voluntary arrangements (constraints) that the US government like most sovereign governments impose on themselves.

Anyway, China is now a “major net seller of Treasurys” and is possibly “moving forward with plans to diversify out of U.S. assets”. The WSJ says it is suggestive whereas I prefer “possibly” because they wouldn’t know anyway.

The WSJ quoted some character at the Brookings Institution (and a former IMF official) as saying:

China is trying to send a subtle economic and political message to the U.S. through the deployment of its foreign exchange reserve holdings.

It is not very subtle if that is what they are doing. Further, Chinese officials are smart enough to realise that the US government ultimately doesn’t care if China hold the paper or not. Someone else will if they don’t. If China think it now has leverage power of the US government then they are stupid or the US government is stupid or both.

But I thought the interesting point that was not mentioned in the WSJ report is that bond yields have been very stable. As my mate Marshall Auerback noted in correspondence with me today, this is a denial of the hoopla that is trotted out daily by the same characters that send me E-mails.

The folklore they are trying to etch firmly into the public debate is that when China finally sells of its US bond holdings, those yields will sky-rocket, no-one else will want the debt and it will be the end America as we know it.

You can get daily US yield curve data from the US Treasury Department. It is aslo an excellent data source which I use often.

The following very colourful graph shows the US government bond yields for each maturity (months and years) since January 4 until February 16 (yesterday). So time is on the horizontal axis and yields are on the vertical axis. The various time-series are then the different bond maturities.

The conclusion you reach is that nothing much is happening at all. Yields at all maturities are stable despite the implications of the headlines. If the world was about to fall in you would not be observing such stability. If anything the yields are edging down a bit. You can see that in the next graph.

If you want to see the daily yield curve (which just plots time (maturity) on the horizontal axis against yield on the vertical axis) since January 4 to February 16 then here it is. There are actually 30 daily curves here and the story is one of great stability. The curve is upward sloping which is normal and reflects the expected inflation risk of holding bonds out to 30 years given they are nominal rather than indexed.

You can some slight movement down (the thickening) but you can conclude for all operational reasons that the 30 curves plotted are virtually identical.

So bad luck to those who are looking for bad news in the US bond markets.

If I examined yields in Japan, Australia – places that are not tied into the current Eurozone debacle then the same story would be observed.

Remember this blog – D for debt bomb; D for drivel – where a so-called expert Australian bond analyst was commenting on the Australian bond market in July last year. He introduced the topic with statements such as an “Alarming debt bomb is ticking”; “Funding for Australia’s huge deficit … threatened by a nearly saturated bond market”; “A looming crisis in the financial markets is threatening the ability of the Federal Government to finance its fiscal stimulus”.

It was asinine exemplified.

The commentator then said that:

An unprecedented amount of debt threatens to strangle the bond market and place a dire dependence on foreign investment to fund the budget deficit … with each tender now becoming a growing burden on the level of available cash for investment in the market, risks are rising. One gauge of investor interest is the bid/cover ratio. When bids exceed issuance by around three-to-one or greater, the auction is generally considered successful. Twice last month, bid/cover was below two.

You will see at the time the commentator just revealed his ideological biases and his lack of acumen. Looking back the commentary was even more laughable than it was then given we have more data.

Bond yields and bid/cover ratios have hardly budged – you can see the data from the Australian Office of Financial Management.

Some history

In a recent speech the President, Federal Reserve Bank of Kansas City, Thomas Hoenig, made the following statement:

Throughout history, there are many examples of severe fiscal strains leading to major inflation. It seems inevitable that a government turns to its central bank to bridge budget shortfalls, with the result being too-rapid money creation and eventually, not immediately, high inflation. Such outcomes require either a cooperative central bank or an infringement on its independence. While many, perhaps most, nations assert the importance and benefits of an independent central bank, the pressures of the “immediate” over the goals of the long run makes this principle all too expedient to forgo when budget pressures mount.

He then went onto to discuss Germany in 1920s but didn’t have the outright audacity to move onto Zimbabwe. Neither historical examples have any bearing on the current circumstances. Please read my blog – Zimbabwe for hyperventilators 101 – for more discussion on this point.

But the important historical point is that there are many more examples of governments running continuous budget deficits with some central bank support (I don’t just the term printing money or even money creation as above) for extended periods where inflation has not been an issue.

Most of the significant inflationary episodes in the last 50 years have been sourced in supply-side shocks rather than demand pull situations arising from aggregate demand outstrippling the real capacity of the economy to respond via output increases.

I will examine the Hoenig speech in more detail in another blog because it is getting some mileage out there and needs to be carefully rebutted. The rebuttal is easy – the speech was near hysteria but it will take more time than I have today.

Further while historical appreciation is very important, it is also crucial to understanding scale. It is never sensible to react to statements like “record levels of debt” or “massive budget deficits” or “unprecendented levels of spending”. If levels mattered then how would you compare the US deficits (trillions) to Australia (billions). We must be great and then if we compare them to Haiti, Australia would be awful.

You always have to judge these things in terms of scale and what the movements in the other significant and interlinked aggregates are. The purpose of the simple teaching models was to bring those interlinked aggregates into sharp relief to get people thinking about the interrelatedness of macroeconmics. I will come back to this point in the next section of the blog.

But here is some history. The following graph reminds us that today and yesterday are short spans of time. The data is from the US Office of Management and Budget historical data which is an excellent source of long time series for US public sector data.

For the 79 year period shown, the US government’s budget was in deficit of varying proportions of GDP 67 of those years (that is, 84 per cent of the time). Each time the government tried to push its budget into surplus, a major recession followed which forced the budget via the automatic stabilisers back into deficit.

These deficits have provided support for private domestic saving over most of this period. The US current account was in surplus (very small though) up until the 1970s and then has been more or less in deficit since the mid-1980s and increasingly so in the 1990s and beyond.

In times of crisis – the Great Depression and World War 2 – you can see the deficit grew relatively large and national debt followed it upwards as a percentage of GDP. Then as growth resumed and stability was re-established the deficit fell back as a percentage of GDP to the level required to support private domestic saving and maintain aggregate demand to support relatively high (but not high enough) employment levels.

Movements in interest rates and inflation rates and changes to US tax regimes bear no statistically significant relationship with the fiscal parameters over this entire period. The strongest relationship that can be established is the relationship between deficits and expenditure and hence economic growth (and employment growth).

So the question that has to be answered by those who are predicting the end at the moment is this – given the historical period experience – why are the current Deficits/GDP, which are smaller by a long way from what they were in the 1930-40s, suddenly signalling something that is unsustainable?

The first response will be the ageing society and health issues are different now. Yes they are but those issues are erroneous distractions. Please read my blog – Another intergenerational report – another waste of time – for more discussion on this point.

There are no other credible responses. The US economy will resume growth – the automatic stabilisers will go to work and eat into the budget deficit and the US will cut back stimulus spending to further reduce the deficit. Private domestic saving will stabilise as private balance sheets are restored to some semblance of sustainability following the private debt binge and the net public spending required to support that saving and maintain growth will also stabilise.

In 10 years time, all the hysterical commentary and angst will be revealed as nonsense. If you want to be comforted I suggest you go back to the 1930 and read some of the conservative literature that was published then. You will get such a sense of deja vu. Then re-examine the following graph to see that things turn out okay!

Further, in the period following the Great Depression the US and all of us ran convertible, fixed-exchange rate currency systems which made it much harder to make the adjustments to net spending etc. In our fiat monetary systems of today the financial constraints are all voluntary.

For Australian readers, the following graph shows the budget deficit as a percentage of GDP since 1949. Our data is not nearly as good as that kept and made available by the US government. Trying to match up earlier data is very difficult so I refrained in this instance.

Once again you can see that we have run continuous budget deficits over a very long period. Each time the government tried to run surpluses recessions followed. In the last period (1996-2008) the surpluses squeezed the private domestic sector so badly (given we almost always have run a current account deficit) that the levels of household indebtedness relative to income rose to dangerous levels.

As in the US case, movements in interest rates and inflation rates and changes to tax regimes bear no statistically significant relationship with the fiscal parameters over this entire period.

Similarly, the strongest relationship that can be established is the relationship between deficits and expenditure and hence economic growth (and employment growth).

So when is a deficit bad?

Essential background reading includes the following blogs – Deficit spending 101 – Part 1Deficit spending 101 – Part 2Deficit spending 101 – Part 3

Then you should read these more specific blogs – Fiscal sustainability 101 – Part 1Fiscal sustainability 101 – Part 2Fiscal sustainability 101 – Part 3.

In summary, when considering the concept of fiscal sustainability the following points are important guide posts:

  • Saying a government can always credit bank accounts and add to bank reserves whenever it sees fit doesn’t mean it should be spending without regard to what the spending is aimed at achieving.
  • Governments must aim to advance public purpose.
  • Fiscal sustainability is not defined with reference to some level of the public debt/GDP ratio or deficit/GDP ratio.
  • Fiscal sustainability is directly related to the extent to which labour resources are utilised in the economy. The goal is to generate full employment.
  • A sovereign (currency-issuing) government is always financially solvent.
  • You cannot deduce anything about government budgets by invoking the fallacious analogy between a household and government.
  • Fiscal sustainability will not include any notion of foreign “financing” limits or foreign worries about a sovereign government’s solvency.

Attention to these guideposts should alert one to when a spurious argument is being made or not. Here is some more detailed explication which establish some overriding principles of modern monetary theory (MMT) in this respect and should be used when appraising whether a particular fiscal policy strategy is sustainable or not.

Advancement of public purpose

The only sensible reason for accepting the authority of a national government and ceding currency control to such an entity is that it can work for all of us to advance public purpose. In this context, one of the most important elements of public purpose that the state has to maximise is employment. Once the private sector has made its spending (and saving decisions) based on its expectations of the future, the government has to render those private decisions consistent with the objective of full employment.

Given the non-government sector will typically desire to net save (accumulate financial assets in the currency of issue) over the course of a business cycle this means that there will be, on average, a spending gap over the course of the same cycle that can only be filled by the national government. There is no escaping that.

So then the national government has a choice – maintain full employment by ensuring there is no spending gap which means that the necessary deficit is defined by this political goal. It will be whatever is required to close the spending gap. However, it is also possible that the political goals may be to maintain some slack in the economy (persistent unemployment and underemployment) which means that the government deficit will be somewhat smaller and perhaps even, for a time, a budget surplus will be possible.

But the second option would introduce fiscal drag (deflationary forces) into the economy which will ultimately cause firms to reduce production and income and drive the budget outcome towards increasing deficits.

Ultimately, the spending gap is closed by the automatic stabilisers because falling national income ensures that that the leakages (saving, taxation and imports) equal the injections (investment, government spending and exports) so that the sectoral balances hold (being accounting constructs). But at that point, the economy will support lower employment levels and rising unemployment. The budget will also be in deficit – but in this situation, the deficits will be what I call “bad” deficits. Deficits driven by a declining economy and rising unemployment.

So fiscal sustainability requires that the government fills the spending gap with “good” deficits at levels of economic activity consistent with full employment – which I define as 2 per cent unemployment and zero underemployment.

Fiscal sustainability cannot be defined independently of full employment. Once the link between full employment and the conduct of fiscal policy is abandoned, we are effectively admitting that we do not want government to take responsibility of full employment (and the equity advantages that accompany that end).

Understanding the monetary system

Any notion of fiscal sustainability has to be related to intrinsic nature of the monetary system that the government is operating within. It makes no sense to comment on the behaviour of a government in a fiat monetary system using the logic that applies to a government in a gold standard where the currency was convertible to another commodity of intrinsic value and exchange rates were fixed.

Please read the blog – Gold standard and fixed exchange rates – myths that still prevail – for further discussion on the financial constraints that applied to governments in that sort of system.

A government operating in a fiat monetary system, may adopt, voluntary restraints that allow it to replicate the operations of a government during a gold standard. These constraints may include issuing public debt $-for-$ everytime they spend beyond taxation. They may include setting particular ceilings relating to deficit size; limiting the real growth in government spending over some finite time period; constructing policy to target a fixed or unchanging share of taxation in GDP; placing a ceiling on how much public debt can be outstanding; targetting some particular public debt to GDP ratio.

All these restraints are gold standard type concepts and applied to governments who were revenue-constrained. They have no intrinsic applicability to a sovereign government operating in a fiat monetary system. So while it doesn’t make any sense for a government to put itself in a strait-jacket which typically amounts to it failing to achieve high employment levels, the fact remains that a government can do it.

But these are voluntary restraints. In general, the imposition of these restraints reflect ideological imperatives which typically reflect a disdain for public endeavour and a desire to maintain high unemployment to reduce the capacity of workers to enjoy their fair share of national production (income).

Accordingly, the concept of fiscal sustainability does not include any recognition of the legitimacy of these voluntary restraints. These constraints have no application to a fiscally sustainable outcome. They essentially deny the responsibilities of a national government to ensure public purpose, as discussed above, is achieved.

Understanding what a sovereign government is

A national government in a fiat monetary system has specific capacities relating to the conduct of the sovereign currency. It is the only body that can issue this currency. It is a monopoly issuer, which means that the government can never be revenue-constrained in a technical sense (voluntary constraints ignored). This means exactly this – it can spend whenever it wants to and has no imperative to seeks funds to facilitate the spending.

This is in sharp contradistinction with a household (generalising to any non-government entity) which uses the currency of issue. Households have to fund every dollar they spend either by earning income, running down saving, and/or borrowing.

Clearly, a household cannot spend more than its revenue indefinitely because it would imply total asset liquidation then continuously increasing debt. A household cannot sustain permanently increasing debt. So the budget choices facing a household are limited and prevent permament deficits.

These household dynamics and constraints can never apply intrinsically to a sovereign government in a fiat monetary system.

A sovereign government does not need to save to spend – in fact, the concept of the currency issuer saving in the currency that it issues is nonsensical.

A sovereign government can sustain deficits indefinitely without destabilising itself or the economy and without establishing conditions which will ultimately undermine the aspiration to achieve public purpose.

Further, the sovereign government is the sole source of net financial assets (created by deficit spending) for the non-government sector. All transactions between agents in the non-government sector net to zero. For every asset created in the non-government sector there is a corresponding liability created $-for-$. No net wealth can be created. It is only through transactions between the government and the non-government sector create (destroy) net financial assets in the non-government sector.

This accounting reality means that if the non-government sector wants to net save in the currency of issue then the government has to be in deficit $-for-$. The accumulated wealth in the currency of issue is also the accounting record of the accumulated deficits $-for-$.

So when the government runs a surplus, the non-government sector has to be in deficit. There are distributional possibilities between the foreign and domestic components of the non-government sector but overall that sector’s outcome is the mirror image of the government balance.

To say that the government sector should be in surplus is to also aspire for the non-government sector to be in deficit. if the foreign sector is in deficit the national accounting relations mean that a government surplus will always be reflected in a private domestic deficit.

This cannot be a viable growth strategy because the private sector (which does face a financing contraint) cannot run on-going deficits. Ultimately, the fiscal drag will force the economy into recession (as private sector agents restructure their balance sheets by saving again) and the budget will move via automatic stabilisers into defict.

Further, given the non-government sector will typically net save in the currency of issue, a sovereign government has to run deficits more or less on a continuous basis. The size of those deficts will relate back to the pursuit of public purpose.

Understanding why governments tax

In a fiat monetary system the currency has no intrinsic worth. Further the government has no intrinsic financial constraint. Once we realise that government spending is not revenue-constrained then we have to analyse the functions of taxation in a different light. The starting point of this new understanding is that taxation functions to promote offers from private individuals to government of goods and services in return for the necessary funds to extinguish the tax liabilities.

In this way, it is clear that the imposition of taxes creates unemployment (people seeking paid work) in the non-government sector and allows a transfer of real goods and services from the non-government to the government sector, which in turn, facilitates the government’s economic and social program.

The crucial point is that the funds necessary to pay the tax liabilities are provided to the non-government sector by government spending. Accordingly, government spending provides the paid work which eliminates the unemployment created by the taxes.

So it is now possible to see why mass unemployment arises. It is the introduction of State Money (government taxing and spending) into a non-monetary economics that raises the spectre of involuntary unemployment. As a matter of accounting, for aggregate output to be sold, total spending must equal total income (whether actual income generated in production is fully spent or not each period). Involuntary unemployment is idle labour offered for sale with no buyers at current prices (wages).

Unemployment occurs when the private sector, in aggregate, desires to earn the monetary unit of account, but doesn’t desire to spend all it earns, other things equal. As a result, involuntary inventory accumulation among sellers of goods and services translates into decreased output and employment. In this situation, nominal (or real) wage cuts per se do not clear the labour market, unless those cuts somehow eliminate the private sector desire to net save, and thereby increase spending.

The purpose of State Money is for the government to move real resources from private to public domain. It does so by first levying a tax, which creates a notional demand for its currency of issue. To obtain funds needed to pay taxes and net save, non-government agents offer real goods and services for sale in exchange for the needed units of the currency. This includes, of-course, the offer of labour by the unemployed. The obvious conclusion is that unemployment occurs when net government spending is too low to accommodate the need to pay taxes and the desire to net save.

This analysis also sets the limits on government spending. It is clear that government spending has to be sufficient to allow taxes to be paid. In addition, net government spending is required to meet the private desire to save (accumulate net financial assets). From the previous paragraph it is also clear that if the Government doesn’t spend enough to cover taxes and desire to save the manifestation of this deficiency will be unemployment.

Keynesians have used the term demand-deficient unemployment. In our conception, the basis of this deficiency is at all times inadequate net government spending, given the private spending decisions in force at any particular time.

Accordingly, the concept of fiscal sustainability does not entertain notions that the continuous deficits required to finance non-government net saving desires in the currency of issue will ultimately require high taxes. Taxes in the future might be higher or lower or unchanged. These movements have nothing to do with “funding” government spending.

To understand how taxes are used to attenuate demand please read this blog – Functional finance and modern monetary theory.

Understanding why governments issue debt

The fundamental principles that arise in a fiat monetary system are as follows.

  • The central bank sets the short-term interest rate based on its policy aspirations.
  • Government spending is independent of borrowing which the latter best thought of as coming after spending.
  • Government spending provides the net financial assets (bank reserves) which ultimately represent the funds used by the non-government agents to purchase the debt.
  • Budget deficits put downward pressure on interest rates contrary to the myths that appear in macroeconomic textbooks about ‘crowding out’.
  • The “penalty for not borrowing” is that the interest rate will fall to the bottom of the “corridor” prevailing in the country which may be zero if the central bank does not offer a return on reserves.
  • Government debt-issuance is a “monetary policy” operation rather than being intrinsic to fiscal policy, although in a modern monetary paradigm the distinctions between monetary and fiscal policy as traditionally defined are moot.

Accordingly, debt is issued as an interest-maintenance strategy by the central bank. It has no correspondence with any need to fund government spending. Debt might also be issued if the government wants the private sector to have less purchasing power.

Further, the idea that governments would simply get the central bank to “monetise” treasury debt (which is seen orthodox economists as the alternative “financing” method for government spending) is highly misleading. Debt monetisation is usually referred to as a process whereby the central bank buys government bonds directly from the treasury.

In other words, the federal government borrows money from the central bank rather than the public. Debt monetisation is the process usually implied when a government is said to be printing money. Debt monetisation, all else equal, is said to increase the money supply and can lead to severe inflation.

However, as long as the central bank has a mandate to maintain a target short-term interest rate, the size of its purchases and sales of government debt are not discretionary. Once the central bank sets a short-term interest rate target, its portfolio of government securities changes only because of the transactions that are required to support the target interest rate.

The central bank’s lack of control over the quantity of reserves underscores the impossibility of debt monetisation. The central bank is unable to monetise the federal debt by purchasing government securities at will because to do so would cause the short-term target rate to fall to zero or to the support rate. If the central bank purchased securities directly from the treasury and the treasury then spent the money, its expenditures would be excess reserves in the banking system. The central bank would be forced to sell an equal amount of securities to support the target interest rate.

The central bank would act only as an intermediary. The central bank would be buying securities from the treasury and selling them to the public. No monetisation would occur.

However, the central bank may agree to pay the short-term interest rate to banks who hold excess overnight reserves. This would eliminate the need by the commercial banks to access the interbank market to get rid of any excess reserves and would allow the central bank to maintain its target interest rate without issuing debt.

Accordingly, the concept of fiscal sustainability should never make any financing link between debt issuance and net government spending. There is no inevitability for debt to rise as deficits rise. Voluntary decisions by the government to make such a link have no basis in the fundamentals of the fiat monetary system.

Setting budget targets and inflation

Any financial target for budget deficits or the public debt to GDP ratio can never be a sensible for all the reasons outlined above. It is highly unlikely that a government could actually hit some previously determined target if it wasn’t consistent with the public purpose aims to create full capacity utilisation.

As long as there is deficiencies in aggregate demand (a positive spending gap) output and income adjustments will be downwards and budget balances and GDP will be in flux.

The aim of fiscal policy should always be to fulfill public purpose and the resulting public debt/GDP ratio will just reflect the accounting flows that are required to achieve this basic aspiration.

Accordingly, the concept of fiscal sustainability cannot be sensibly tied to any accounting entity such as a debt/GDP ratio.

Inflation will only be a concern when aggregate demand growth outstrips the real capacity of the economy to respond in real terms (that is, produce more output).

After that point, growth in net spending is undesirable and I would be joining the throng of those demanding a cut back in the deficits – although I would judge whether the public/private mix of final output was to my liking before I made that call. If there was a need for more public output and less private then I would be calling for tax rises.

This is not to say that inflation only arises when demand is high. Clearly supply-shocks can trigger an inflationary episode before full employment is reached but that is another story again and requires careful demand management and shifts in spending composition as well as other measures.

Foreign issues

First, exports are a cost and imports provide benefits. This is not the way that mainstream economists think but reflect the fact that if you give something away that you could use yourself (export) that is a cost and if you are get something that you do not previously have (import) that is a benefit.

The reason why a country can run a trade deficit is because the foreigners (who sell us imports) want to accumulate financial assets in $AUD relative to our desire to accumulate their currencies as financial assets.

This necessitates that they send more real goods and services to us than they expect us to send to them. For as long as that lasts this real imbalance provides us with net benefits. If the foreigners change their desires to hold financial assets in $AUD then the trade flows will reflect that and our terms of trade (real) will change accordingly. It is possible that foreigners will desire to accumulate no financial assets in $AUD which would mean we would have to export as much as we import.

When foreigners demand less $AUD, its value declines. Prices rise to some extent in the domestic economy but our exports become more competitive. This process has historically had limits in which the fluctuations vary. At worst, it will mean small price rises for imported goods.

If we think that depreciation will be one consequence of achieving full employment via net government spending then we are actually saying that we value having access to cheaper foreign travel or luxury cars more than we value having all people in work. It means that we want the unemployed to “pay” for our cheaper holidays and imported cars.

I don’t think the concept of fiscal sustainability should reflect these perverse ethical standards.

Further, foreigners do not fund the spending of a sovereign government. If the Chinese do not want to buy US Government bonds then they will not. The US government will still go on spending and the Chinese will have less $USD assets. No loss to the US.

Accordingly, the concept of fiscal sustainability does not include any notion of foreign “financing” limits or foreign worries about a sovereign government’s solvency.

Understanding what a cost is

The deficit-debt debate continually reflects a misunderstanding as to what constitutes an economic cost. The numbers that appear in budget statements are not costs! The government spends by putting numbers into accounts in the banking system.

The real cost of any program is the extra real resources that the program requires for implementation. So the real cost of a Job Guarantee is the extra consunmption that the formerly unemployed workers can entertain and the extra capital etc that is required to provide equipment for the workers to use in their productive pursuits.

In general, when there is persistent and high unemployment there is an abundance of real resources available which are currently unutilised or under-utilised. So in some sense, the opportunity cost of many government programs when the economy is weak is zero.

But in general, government programs have to be appraised by how they use real resources rather than in terms of the nominal $-values involved.

Accordingly, the concept of fiscal sustainability should be related to the utilisation rates of real resources, which takes us back to the initial point about the pursuit of public purpose.

Fiscal sustainability will never be associated with underutilised labour resources.


I have clearly traversed this ground before but to welcome newcomers to the discussion it is always worth repeating key concepts that emerge from MMT. In defining a working conceptualisation of fiscal sustainability I have avoided very much analysis of debt, intergenerational tax burdens and other debt-hysteria concepts.

These concepts are largely irrelevant once you understand the essential nature of a fiat monetary system and focus on the main aim of fiscal policy which is to pursue public purpose.

This discussion should support the simple teaching models that I have made available. It should provide a very clear indication of the basic concepts that should be used when assessing whether a particular fiscal position is sustainable or not.

That is enough for today!

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    This Post Has 107 Comments
    1. it would be nice if you addressed specific cost increases caused by inelastic government demand. when government demands a product at any cost the price tends to be inflated and bloated which is a waste of real resources and makes goods much more expensive for private sector buyers (we’re looking at you U.S health care spending). i think you should do a blog post about the microeconomic effects of government spending and taxing because when you read someone like warren mosler you get the feeling that if we just cut a bunch of taxes all would be right with the world which i personally don’t agree with but also don’t think you do either (or for that matter warren mosler himself).

    2. ok – maybe i can ask a simple question.

      Bill, you wrote “The folklore they are trying to etch firmly into the public debate is that when China finally sells of its US bond holdings, those yields will sky-rocket, no-one else will want the debt and it will be the end America as we know it.” and then later “If the Chinese do not want to buy US Government bonds then they will not. The US government will still go on spending and the Chinese will have less $USD assets. No loss to the US.”

      For some reason I’m reminded of Hank Paulson’s quote about how if you have a bazooka in your pocket, and everyone knows it, then you won’t have to use it. The difference is that everyone knows China makes defective guns, and we’re not afraid of their bazooka because we don’t think they have a working one (Sorry – lame humor attempt). I mention this because you seemed to be trying to show, way above, that because yields on government bonds didn’t jump, this means they WILL not jump. The market clearly doesn’t believe China’s bazooka threat to sell Treasuries. Are you really suggesting that IF they did sell their treasury holdings that there is another suitable buyer for them? I’m guessing that what you’re suggesting is that we don’t NEED another buyer for them – we (The US Gov’t) just print money on our sovereign printing press and pay them back, right? Am i ok so far?

      So, let’s say that when the debt China is holding matures, instead of buying new debt with it (rolling their position), they say they want their money back. We print up a fresh trillion dollars (digital or otherwise) and give it to the Chinese. Now, they either 1) sell the $$$ and buy Yuan and take them back to China (unlikely?) or 2) buy real assets in our country with our currency (more likely?)

      when China takes its trillion dollars and starts buying up US real estate, ports, sports teams, and businesses, doesn’t that have a real (negative) effect on me – The American Who Now Has To Pay Higher Prices Because I’m Competing With The Chinese For Assets? I could have also called myself The American Who Has Savings And Doesn’t Want To See The Purchasing Power of Them Reduced.

    3. Dear Kid Dynamite

      Implicit in your question is the assumption that China and the rest of the world in general will at some point in the near future choose to run trade deficits with the US . . . big ones, as that’s the only way they reduce their net savings in dollars. I’m curious which country or countries you think that might be?

      While I wouldn’t myself necessarily assume the rest of the world will necessarily desire trade surpluses with the US forever, one also has to recognize that the reversal of this is what is required for your scenario to even be plausible. And, even in that case, many nations have shown that it is possible to have strong currencies and positive trade balances simultaneously (i.e., Japan . . . which has the world’s largest (or thereabouts) national debt ratio, to boot).


    4. Thanks Scott – that’s a key point.

      you are saying that China will continue to have dollars because we buy their goods – they have a big trade surplus with us

      BUT, isn’t the net effect on ME different if they take their dollars and buy US debt at 4% yield or if they buy up real physical assets?! ie, if China holds financial assets, it doesn’t really bother me – in fact, i WANT them to (keeps rates low!) – but if they swap financial assets for real physical assets, it has a real negative effect on ME… no?

    5. I should add that IF the rest of the world decides to run large trade deficits with the US, it is at that moment that MMT tells you a smaller government deficit is appropriate, as the improved trade balance results in greater utilization of the economy’s capacity; running deficits the same size as previously (with a trade deficit) would not be the MMT proposal, unless the domestic private sector were raising its own desired net saving in lock-step with the reversal of the trade balance. If the trade surplus is large enough, then even a budget surplus might be appropriate.

      This is separate from Bill’s point above that imports are a benefit and exports are a cost, which remains true.


    6. I’m curious about where the two percent figure for determining “full employment,” comes from. I’ve been looking through articles on the COFFEE and CFEPS websites for a discussion of how this number was determined and I can’t seem to find anything directly on point. Given the amount of thought put into the analysis I read here at billy blog and at the Economic Perspectives from Kansas City website I can’t believe the two percent figure is just a made up, arbitrary number like the NAIRU. Even the people who promote NAIRU have some justification for their figures. Could someone please point me in the right direction. Thank you.

    7. “they either 1) sell the $$$ and buy Yuan and take them back to China (unlikely?) or 2) buy real assets in our country with our currency (more likely?)”

      # 1 can’t happen. At best, PBOC could reverse its domestic FX transaction policies, and “buy back” the Yuan liabilities it created when it bought dollars from its exporters, but that would simply transfer China’s long dollar position from PBOC to the private sector. The long dollar position for the country would remain. Apart from that, PBOC can only buy Yuan from the rest of the world to the degree that the rest of the world has existing Yuan claims on China, which is very minimal. (They could sell their long dollar position to the rest of the world outside of the US (for non-dollar, non-Yuan FX), but they’re still locked into a long FX position of some sort (as a current balance sheet condition) as a country, due to their cumulative current account surplus. The future trajectory of their current account is what drives the future trajectory of their long FX position.)

      If they do # 2, they are effectively swapping existing dollar financial claims on the US for direct investment in the US. US sellers of direct investment will be supplied the dollars to enable purchase of the treasuries (with associated global portfolio adjustment, no doubt). Remember that China is the one on the bid for hard assets in that scenario, so the sellers of the hard assets would get their price, and therefore would be prepared from a portfolio perspective to redeploy into financial assets. There’s no reason to believe that the bid for hard assets wouldn’t be beneficial in terms of producing a natural knock-on bid for treasuries with the proceeds from the asset sale, a bid that would be helpful in reversing any price effect of the original sale of treasuries.

    8. I expect that my question has already been addressed somewhere on this site, but where? :)

      “Debt monetisation is usually referred to as a process whereby the central bank buys government bonds directly from the treasury.

      “In other words, the federal government borrows money from the central bank rather than the public. Debt monetisation is the process usually implied when a government is said to be printing money. Debt monetisation, all else equal, is said to increase the money supply and can lead to severe inflation.”

      What would be the effect if, instead of borrowing money from the central bank, the treasury did not borrow at all? (In the U. S., that would require a change in the law, I expect.)

      Many thanks. :)

    9. Dear Sir,

      You briefly mention the problem of cost shock driven inflation, as opposed to demand driven inflation. It would be interesting to hear your views on how best to conduct policy under such a cost shock. Especially since the inflation of the 1970s was used by the monetarists to misleadingly discredit the postwar consensus, of whose full employment policy objective was not responsibly for the real decline in the supply of oil which was the source of that inflation.

      While we can see in Japan clear empirical evidence that there is no significant tradeoff that has to be made between unemployment and inflation (as it has had consistently lower unemployment and lower inflation in the postwar period than nearly all other developed economies, despite big dependence on imported commodities), it would be nice to have a full blown discussion on the issue of a cost shock, unemployment and inflation.

      In my own view it seems rather counter-productive to excessively deflate an economy encountering an oil shock but also that it seems counter-productive to excessively inflation an economy encountering an oil glut. A collapse in oil prices could well cause beneficial (supply expansion driven, as opposed to 1930’s depression 1990s Japan and a large part of the world today’s demand collapse driven) deflation in oil consuming countries that would coexist with full employment.

    10. No offense intended, but I think the statement: “…exports are a cost and imports provide benefits,” is a bit too simplistic. Exporting goods and services also has the tendency to develop productive capacity, which can absolutely be a benefit. For example, China’s export led strategy for economic growth has been hugely successful even though it has come at the cost of depriving its own citizens of consumption opportunities. IMHO, relying on foreign countries to provide real goods and services to the extent the U.S. has over the past ten to twenty years or so creates a dependency that is not healthy for a modern society. Personally, I feel finding a way to create a more even balance of trade arrangement, whether that be through transaction taxes, capital controls, import quotas, import-export certificates, or whatever, is an important part of solving the numerous problems facing the U.S. and world economy. I’d be curious to know if MMT has anything more to say about balance of payment issues. Maybe it’s just that I’ve only been reading billy blog and the Perspectives from Kansas City website for under two months, but I haven’t really found much discussion of these kinds of issues.

    11. Min,

      The monetarists out there hold increases in the money supply lead directly to inflation. They are drawing from the old quantity theory of money which holds velocity and employment constant in the standard mv = pq equation. Professor Mitchell and the other Chartalists say velocity and employment are not fixed and therefore increasing the supply of money will not necessarily lead to inflation. There is ample research supporting the view that v and q is not fixed, but really all you need to do to confirm this is look out the window. The U.S. economy has not been anywhere close to full employment for over forty years so a fixed q is clearly out. Furthermore, anyone with eyes to see should be able to tell you that in times of economic uncertainty (i.e. now) people are less willing to spend, so a fixed q is also obviously out. So, in answer your question, if the treasury didn’t borrow at all and just increased the money supply, it is likely employment would increase. However, it also depends on how that money is spent. Normally, deficit spending puts downward pressure on interest rates so it is also possible that increasing the money supply could fuel asset price bubbles. You can see some of that today in the burgeoning U.S. dollar carry trade. To counter asset price bubbles appropriate fiscal policy and regulatory intervention is also necessary. I hope that helps.

    12. Back when Tokyo was worth more than the entire US, the Japanese tried number 2 and got burned buying Hollywood studios, etc. I doubt that the Chinese want to come in and start buying up real estate (commercial buildings anyone?) or other US assets for that matter. They have enough to do internally – unlike Japan which is pretty much built out.

      For being worthless, I’m sure those Treasuries are used for collateral for other trade dealings, like trying to buy Australian mining companies.

    13. Hello,
      I wandered over from Kid Dynamite’s site and spent a while reading this post. First off let me say that your writing and knowledge of the subject seem very deep so thanks for the take.

      I really cannot debate the nuances of monetary policy with you, I think its mostly a joke and a huge game of pretend (and it is well over my head!) but I noticed as all other number cruncher types, I failed to see any context commentary in your writing. There was a massive credit bubble and it collapsed, do models exist that can offer a take on “if” something should be done and not just the “how”? Maybe home prices are still too high and the “how” of supporting them, transferring the debt onto the public balance sheet, has nothing to do with whether this is a goal worth chasing.

    14. I am trying to absorb as much of MMT as I can in a short amount of time. I understand and agree with much of what you said but I get stuck on “exports are a cost”. Putting aside the way GDP is typically calculated, sure, there is probably a theoretical basis for such a statement but in reality when trading partners are not equal or are behaving in a way that doesn’t benefit both trading partners then how can exports be considered a cost?

      Unfettered globalization has hurt U.S. manufacturing base and has acted as a deflationary means on wages of U.S. workers. – that to seems to be two very big costs of exports.

      Your thoughts.

    15. ugg, I should make use of this new preview button before posting. In my response to Min I made three mistakes.

      “v and q is not fixed,” should be: v and q ARE not fixed;

      “so a fixed q is also obviously out,” should be: so a fixed V is also obviously out (v for velocity);

      and: “fiscal policy and regulatory intervention is also necessary,” should be: fiscal policy and regulatory intervention ARE also necessary.

      I’m going to use the preview button now.

    16. Comment re Kid Dynamite and JKH – China exchanging real assets for financial assets (Feb 18, at 1:45):

      The US government can set strict limits on the Chinese ability to do this asset swap. A few years ago a Chinese state owned company tried to buy the 11th largest US oil company, Unocal. This very large purchase, or asset swap, was not allowed. The US is sovereign in its currency and in what it allows people who hold its currency to do with it within its borders. The same applies to all sovereign countries.

    17. Dear Bill,

      Quote: “If China think it now has leverage power of the US government then they are stupid or the US government is stupid or both.”

      Perhaps the problem is that no gov’t in existence today (that I’m aware of) is designed to operate in a fiat monetary system. All of them were conceived with respect to a gold standard.


    18. Perhaps the problem is that no gov’t in existence today (that I’m aware of) is designed to operate in a fiat monetary system. All of them were conceived with respect to a gold standard.

      The problem is that they continue act as if they were financially constrained by a convertible fixed rate currency regime instead of recognizing that the world is now on a non-convertible flexible rate regime. Mainstream economics also has not caught up, so policy-makers are still operating under this illusion. Much of the Fed’s literature on its operations has not been updated to reflect this change either.

      The task of MMT is educate how the current monetary regime actually functions operationally and to show what this implies both theoretically and relative to policy-making. So far it hasn’t gotten through, and a lot of what is bandied about by so-called experts is nonsense operationally. It’s not reality-based.

    19. I get stuck on “exports are a cost”.

      Trade involves exchanging resources for currency. Fiat currency can be increased at will. Resources are irreplaceable and can be depleted.

      This is a problem particularly for countries that relying on exporting resources, like Australia, Canada, the petroleum producing nations, and many emerging nations. Resources are basic for an economy, and they are real rather than merely nominal.

    20. GYSC Maybe home prices are still too high and the “how” of supporting them, transferring the debt onto the public balance sheet, has nothing to do with whether this is a goal worth chasing.

      The problem is that if the government follows a policy of liquidationism, then asset values with debt attached to them fall so fast that the debt blows up, and in the final cycle of a financial cycle in which Ponzi finance dominates, the whole house of cards will collapse resulting in a depression. The US and world are not out of the woods on this yet. There needs to managed deleveraging, with government picking up the slack with respect to plunging spending power (nominal aggregate demand) that results in an output gap, rising unemployment, forgone opportunity, and social instability.

    21. digital cog You briefly mention the problem of cost shock driven inflation, as opposed to demand driven inflation. It would be interesting to hear your views on how best to conduct policy under such a cost shock.

      Good question. How would MMT deal with the resulting stagflation, as happened in the 70’s, differently from Volcker’s tightening short terms rates and inverting the yield curve. A lot of people ask this. Maybe that’s a separate post.

    22. Tom, what about countries that are exporting things besides natural resources? China’s export regime has allowed it to develop a large manufacturing sector. This has certainly proved to be beneficial, even if it has come at the cost of decreased consumption for much of the population. On the other side of the world the United States’ reliance on cheap imports from China has been a major contributing factor to the hollowing out of our manufacturing sector. Isn’t that a cost? Does MMT deny the current imbalances in world trade have real consequences for the economy?

    23. The kertuffle over China $ reserves is pretty pointless.

      Countries accumulate foreign reserves for later use, such as:

      1. Defend their currencies.

      2. Buy resources such as petroleum and materials for domestic production.

      3. Invest in foreign countries.

      Keeping funds in foreign reserves is like keeping funds in the banks or government securities. It’s just storage for later use. There are plenty of uses to which China can put its reserves and is constantly doing. It won’t have keep such a large store of foreign reserves when its domestic economy matures. Right now, the amount gained from its predominantly export economy has to be managed carefully. China has to control how much is repatriated to prevent inflation.

    24. “If China think it now has leverage power of the US government then they are stupid or the US government is stupid or both.”

      I know what I’m betting on…

    25. TH said:
      “and in the final cycle of a financial cycle in which Ponzi finance dominates, the whole house of cards will collapse resulting in a depression”
      Well at least we agree that Ponzi schemes can collapse!


    26. Greetings all,

      Bill, I just wanted to thank you for this site. Your daily writings are so educational and prolific. I”ve been trying to point as many readers from other financial blogs as possible in your direction. I’m curious if any of you have knowledge of any elected or unelected officials out there who actually understand how our monetary system works?


    27. China has been a major contributing factor to the hollowing out of our manufacturing sector. Isn’t that a cost?

      Comparative advantage. Do US workers want to compete for wages with Chinese workers. I don’t think so. So what’s the alternative? Tariffs? What about WTO? Also, why should US workers be privileged above other workers in the world that need work?

      Lots of questions like this that need to be answered and a lot of that is political, not economic. Economically, the US needs to shift its workforce so that it is increasing comparative advantage through investment in the appropriate areas, including human resources, not competing with cheap labor in emerging nations. That’s a no-win game.

      From the economic vantage exporting resources and goods is a cost. Importing resources and goods is a benefit. Exporting dollars in a fiat system is no big deal. If the CAD become a concern, then the fx rate drops, favoring exports and the balance resets. And why would the US want to import fx, when it is the issuer of the global reserve currency?

    28. I’m curious about where the two percent figure for determining “full employment,” comes from.

      There are three kinds of unemployment:

      Cyclical – caused by the business cycle according to the mainstream, and inflation targeting using unemployment as a tool (NAIRU) according to MMT. Some industries like construction are cyclical. They could be gainfully employed in government projects under the Job Guarantee, for instance.

      Structural – caused by obsolescence, automation, etc. For example, workers who are permanently displaced due to changes in the economy and need to retrained, like the former employees of buggy whip and horseshoe manufacturers when the auto came into vogue. These workers could be employed through the JG, too, instead of remaining unemployed long-term.

      Frictional – people temporarily unemployed, usually voluntarily, e.g., transferring from one position to another. These people are not looking for employment and would therefore be self-excluded from the JG.

      Frictional unemployment is estimated to be about 2%. MMT excludes frictional unemployment in figuring full employment.

    29. Re Exports being a cost; certainly exports are a cost but for Canada as a result of its colonial past and the neo-colonial mindset of current decision makers (and many others) there are few alternatives in the short run. Canada devastates its forests, pollutes the air with greenhouse gases to extract and process the tar sands, and pollutes the soil and water to produce mining products, mostly for foreigners. It enables Canadians to get flat screen TVs, foreign automobiles, computers, etc. It also produces many many thousands of jobs in isolated communities where there are few other options for work.

    30. “Comparative Advantage”??? – a nice neoclassical theory – I am kind of surprised that this concept would be mentioned favorably. Comparative advantage has severe limitations in today’s world. We are talking trading small scaled items such as services for larger scale items such as manufacturing. That is a losing scenario on many levels especially in the form of wages for U.S. workers which is very much an economic issue.

      In the U.S. there are significant costs to ‘free trade’ and again how is it that exports is a cost – Caterpillar would beg to differ with idea that exports are a cost.

    31. Please forgive me, I should mention the costs of ‘free trade’ or a trade deficit like the one U.S. has: 1) job losses; 2) lost output growth; 3) lost competitiveness; 4) lost investment (as multinational corps. move investments offshore).

      In the U.S., the theory was cheap imports would ameliorate the effects of stagnate wage growth. But the prices of cheap imports keep raising faster than wages and so what made up the difference – consumer debt and a lot of it. I am sorry, I digress.

    32. Dear Bill,

      This post may be slightly off-topic because I will try to address certain areas which may be marginal to MMT proper but in my opinion this context is relevant and these issues need to be addressed otherwise MMT scholars will make an easy target to their ideological enemies.

      I believe the main reason why some economists and people reject MMT is not because MMT violates accounting principles. It is obvious to me that debt financing of budget deficits is based on arbitrary assumptions. The system to some extent has been designed like this and to some extent has evolved. These arrangements may serve interests of some social groups by providing a very useful vehicle to redistribute income – the debt which is also an income-generated asset.

      Does anybody assume that people who work for GS are not intelligent?

      However not every investor is a bankster and people may fret about the value of their superannuation savings. The main reason is that people in general intuitively think than governments should not create money is because people believe that in general governments do not create value. Governments can redistribute value however this in the most of Western countries is considered to be bad. This is how we WANT to think about money. Money should in theory reflect real value (goods and services) produced by market participants. The number of tokens should reflect the value of current and near future goods and services. Of course this ignores the reality of credit money creation and the reality of financial markets – the very existence of the great global casino.

      That’s why even if certain facts mentioned by Bill and the others are indisputable (like the breakdown of money multiplier) the main principles of MMT (for example that deficit spending is required to create net financial assets of the private sector and therefore in some cases is desired) will never be accepted by people who BELIEVE in free markets and who HATE the institution of the state managing the economy. (Yes I know that these so-called free markets may be more than free for some participants like investment banks and big corporations and less than free for workers or unemployed. But true believers in neoliberal ideology usually don’t want to see this ).

      The bottom line is that you cannot argue with the opinions based on faith.

      There is another group of people who do not subscribe to MMT that is people with engineering background. I may belong to this group. To me there is something dodgy in the assumption that flows can remain unbalanced for a long period of time without causing an overflow. But let’s save this point for another discussion.

      The third group of people (to which I also belong) who will never be convinced to the economy being run directly by the state for a long period of time are people who lived in a communist society and who remember that similar solutions were already implemented and failed. I would not easily dismiss points raised by VK on Steve’s forum in regards to long-term effects of low unemployment policies.

      I will never forget several visits in the early 1990-ties to the regions of Poland where state owned or collective farms disintegrated and where I saw real poverty. The descendants of serfs living like serfs. “The landlord’s dog bit him but he didn’t complain as he could have lost his job” – this was real…

      These people who lived there had been mostly “hidden unemployed” during the communist era. Replacing unemployment by hidden unemployment is in my opinion not a solution. In my opinion the unemployed people need to be given a helping hand and retrained to do something really useful rather than just given “a” job.

      When the system crafted by luminaries like Oskar Lange and Michal Kalecki finally collapsed in 1989 with a hyperinflationary thump these people were left basically outside of the new system. They had no useful skills and they were demoralised with the communist mentality (“the state has to look after us and we don’t care”) and often addicted to alcohol.
      Here is a brief document describing that context:
      These people were true victims of the both systems – the fallen communist and the new neoliberal one. These few trips opened my eyes and lost my faith in neoliberalism. But a system where the state drives the economy is not a long-term solution either. It is only good for a war-like period but it degenerates very rapidly and becomes corrupt.

      I will repeat – these people who lose jobs must be given a hand by the state. But I think they have to be retrained and acquire new skills – not just be given “a” job. In Poland they were given just enough money to survive – a dole. As a consequence about 2 million people left the country. The society is still I affected by this experience – nearly 20 years after the transition happened.

      If the current political system in the US is corrupt (the most of visitors to this site wouldn’t question this) why can we assume that the system where the state directly creates demand will be less corrupt? Just imagine lobbying for freshly printed money by all the interest groups…

      I have a few more issues in the context of foreign traded / mercantilism and in regards to the transition from the current system suffering from debt deflation to the system proposed by MMT scholars (especially the response to push-type inflation and stagflation) but let’s save them for later.

      I believe that application of MMT in some form is inevitable due to the collapse of the current global order caused by the excessive private and public debt but the printing press may not be used for advancing social progress at all. This tool is most often used to pay for military expenses if the budget deficit becomes too large.

      (By excessive public debt I mean debt excessive in the environment where budgets are constrained by borrowing on the markets – this will collapse for sure one day).

      Finally I believe that inflation which will downsize the real size of debt (and assets) in relation to GDP is the only alternative to a deflationary collapse. But the growing role of the state in directly creating demand may lead to the evolution of the system towards something looking like the Venezuela if not Cuba.

      Dear Bill, please do not brand me a neoliberal. I am quite sceptical to any theory which offers easy-looking solutions. It is not my fault that I was born in a communist country and I simply have personal experience from living in a fiat monetary system (almost without credit money) where the state was not constrained by the borrowing in financing their deficits. Yes I know that MMT is not socialism (it does not include central planning, etc) and we are now older (and wiser) but in this case why did you mention Lange and Kalecki? Aren’t you aware of the horrible effects of implementing their ideas? Why did they (the communists) shoot workers in 1970 in the city where I lived? Because of the friction in the price adjustment process?

      I believe that MMT is a very valid contribution but we have to put it into a wider historical context. I don’t believe that just spending money to create aggregate demand is enough…

    33. “The non-government sector cannot create or destroy net financial assets denominated in the currency of issue.”

      Although this is self evidently true, I wonder if there is something to be gained by considering the change in distribution of NFA within the private sector from purely horizontal transactions. In particular, looking at the interactions between banks and non-banks, it seems to me that a well-functioning, profitable banking system implies an increase of NFA (banks) over time, as cumulative interest repaid to banks exceeds cumulative bank expenses, and that this increase in NFA (banks) must be at the expense of an equal decrease in NFA (non-banks).

      i.e. banks act horizontally as a sink of private sector NFA.

      So, in order for NFA (non-banks, private sector) not to turn negative, there must be an external source of NFA in order to restore private non-bank balance sheets. This would have to arise from a vertical transaction.

      Hence, it seems to me that even with G=T (supposing a closed economy), there is a tendency for NFA (non-banks) to become drained via interaction with the commercial banking system, and so a government deficit is required simply to keep private non-bank NFA from falling, let alone allowing the private non-bank sector to net save, which would require an even greater deficit.

      Am I off base here?

    34. I see a number of comments to the effect that China has been able to develop a manufacturing base thanks to the ability to export its output to the US. But I see no logical connection: there would be nothing to stop China from developing a manufacturing base from products which it sells to its own people. Perhaps, given the income differential, exports to the West have catalysed the process. Fine. But could we actually rebuild our manufacturing industry if we curbed Chinese imports. Or, to consider another “solution” frequently advocated: would a big RMB revaluation solve America’s China-trade “problem”? Well, it might hit China’s exporters (and also, inevitably, its workers) hard. Multinationals might migrate to other low-wage countries; American importers might seek other sources of supply, in other corners of the Third World. But this much is sure: Not a single low-wage job would return to the United States. So, American consumers could be harmed, while American workers wouldn’t be helped.
      At the turn of the 20th century, about half of the American population was engaged in the production of food. Now it’s around 1% and we produce more of it. Should we have fretted about the loss of agricultural jobs? What’s wrong with service jobs? Is working in a steel factory or a car plant really something to which American policy makers can aspire? We should specifically focus on creating new jobs, in sectors (including high tech, education, healthcare and energy conservation) that meet national needs and build world markets for our goods. We should rebuild our cities and transport systems, protect our vulnerable Gulf Coast and otherwise get on with meeting the challenge of climate change, rather than trying to subsidise dying industries.

    35. Net exports (NX) and trade are different issues. NX simply considers the flow of resources and goods in and out, and payments in and out. From the economists vantage, trade considers the issues resulting from this flow in addition to the actual transactions, such as worker displacement.

      Most economists are in agreement about comparative advantage and free trade being a net positive for the global economy. However, that does not imply that they agree about how this should be pursued. Neo-liberal “free” trade benefits the multinationals, for example. There is also evidence that trade barriers should be introduced gradually and with due consideration of effects between trading partners or regions of different levels of development. Otherwise, imbalances are likely to occur.

      But here we are just talking about NX and the relative cost-benefit of real goods and nominal payments. Obviously, if trade involves barter of goods and resources, then the situation would be different.

    36. Dear Marshall,

      1. The cornerstone of the Chinese policy was to develop the wide manufacturing base first and then to get into high tech. Getting western companies to transfer technologies was instrumental in achieving the 2nd goal. (remember what Lenin wrote about the capitallist selling the rope?) I travelled there a few years ago and I was in fact involved in a project related to 3G telephony targetting domestic market only (TDCDMA) so this I saw this with my own eyes.
      The Chinese are doing both – export-driven development and growing capacities to meet the domestic demand.
      When late Paul Samuelson saw this he freaked out and finally admitted a mistake in his free trade theories. The Chinese were only supposed to make plastic boxes not high-tech telecommunication equipment.
      It is difficult to directly describe transfer of know-how in monetary terms. But this is a fundamental issue determining their growth and development.

      2. I believe we (in the US and Australia) must preserve some manufacturing capacities. The reason is the same as growing rice in Japan – national security.

      3. There is an issue I don’t have a solution. There is a lot of unemployed people with IQ around 80-90. They cannot be computer programmers but they have the same human dignity as a guy with IQ 145 (mine is probably much lower). This may be the root cause of higher structural unemployment in the 2000-ties compared with 1950-ties. There was a lot of demand for manual labour then. I believe that aged care and some services may provide employment opportynities for less educated people.

    37. Good points, Marshall Auerback. This is already happening in the emerging nations. China is now outsourcing to Indonesia for even cheaper labor, for instance, as Chinese workers get paid more. Eventually, Africa will come online, too. This creates strains in the poorest countries, too, as the traditional way of life gives way to modernization. So the problems are not just with the developed nations, where the bargaining power of fungible labor is declining. But service jobs, unlike manufacturing, are not as readily fungible because they often must be performed locally. In addition, may jobs are protected by regulations and licensing. This applies between the states in the US, too.

    38. Adam, I’m not criticising China for adopting the approach it has taken in the past. Whether it works going forward is another matter. Worth noting, for example, that during the Great Depression it was creditor nations such as the US, which got hit the hardest, due to the onset of protectionism. And while I’m not a free trade theologist, I can assure you, I wonder whether it should it be government policy to subsidise dirty, repetitious jobs that cannot compete on even fair trade principles? It’s always difficult to say what jobs will replace manufacturing, but my reading of Marx at university and my own experience working a summer job in one of the local steel factories growing up in Canada, tells me that this is not the sort of high quality job that our policy makers should be aiming to reintroduce.

      The “progressives” who rail about how we eventually have to get control of the deficits always insist that we have to rebuild our manufacturing base because you can’t possibly just have a service economy.

      Why not? Those nice trails which restored the spectacular walk from Coogee to Bondi in Sydney represent precisely the sort of work that would be gratifying and create huge social benefits.
      Tom, lots of good points, as you always make!

    39. Dear Tom and NKlein1553

      NKlein1553 asked:

      I’m curious about where the two percent figure for determining “full employment,” comes from.

      Tom replied with the standard taxonomy of unemployment – cyclical, structural and frictional – which is widely used although hardcore mainstreamers always claim the decomposition is invalid because all unemployment is voluntary – you can cut your wage (addressing the cyclical); you can move or you chose to not invest in skills (structural) and friction is voluntary as Tom notes.

      The taxonomy is somewhat problematic however particularly the structural component.

      The concept of a skills shortage is clearly a relative concept, implying some distance from an optimal state, which begs the question: according to whom. Unsurprisingly, analyses of skills shortages by industry and governments invariably consider the issue from the perspective of business and profitability, which places the emphasis on containment of labour costs both in terms of wages and conditions, and hence, whenever possible, externalising the costs associated with developing the skills firms require in their workers.

      Within this context, the notion of structural unemployment arising from “skills mismatch” can be understood as implying an unwillingness of firms to offer jobs (with attached training opportunities) to unemployed workers that they deem to have undesirable characteristics. When the labour market is tight, the willingness of firms to indulge in their prejudices is more costly. However, when labour underutilisation is high, firms can easily increase their hiring standards (broaden the desired characteristics they demand from workers) and the training dynamism driven by labour shortages is lost. Then we observe, in a static sense, “skill mismatches” which are really symptoms of a “low pressure” economy.

      For example, the mining companies are always complaining of skills shortages yet the local population in the mining areas – largely indigenous Australians face very high unemployment rates. When you dig a bit deeper the types of jobs they are claiming they need to fill are often positions that anyone able bodied person could be trained to do in a matter of weeks if not days. The reason they won’t offer the positions and training slots to the indigenous Australians who live in the area is purely a matter of prejudice.

      Further, in times of high pressure firms have to compete for scarce labour and offer training slots with their job offers. In my PhD research I demonstrated that skills adjust to the business cycle (hysteresis concept) so that what looks like a structural impediment is actually a cyclical constraint – not enough jobs and disappears when the labour market is tight.

      So the 2 per cent implies only frictional unemployment – that is, the labour market has a lot of turnover in normal times with workers leaving jobs and firms offering jobs and connections taking some time to finalise. That is about 2 or so percent. Any unemployment beyond that is a reflection that the government is allowing aggregate demand to be insufficient to employ the willing and available workforce.

      I don’t use terms like structural unemployment because it is very loaded. It also implies in any region there is no work to do. But in most places I have visited around the World I always see productive work opportunities. It is just there is no-one willing to pay for the work to be done. That is the role of the national government in my view when the private market fails. Remember the private calculus only considers private costs and benefits. It fails to deliver optimal outcomes if the social benefits outweigh the social costs of an activity.

      In that context, the national government always, ultimately, chooses the unemployment rate – once private decisions are made. The national government can always maintain lower unemployment by expanding its deficit – either to stimulate private employment (which is sometimes fine) and/or to expand public employment (either at market wages – which is sometimes fine or by the introduction of a Job Guarantee – at fixed minimum living wages – which is always fine).

      Further, full employment requires zero underemployment which by definition is a systemic constraints on volition. Workers desire more work but the demand-side will not deliver it. That is a lack of working hours on offer which is a further symptom of an aggregate demand failure.

      The only qualification I would make to this is that the implementation of the Job Guarantee would resolve time-based underemployment but not skills-based underemployment where a person who is a “brain surgeon” is unemployed because of a demand failure in the economy and then takes a JG job performing productive environmental care services. The reality is that very few high skills workers ever become unemployed. Cyclical downswings tend to be heavily biased against the disadvantaged workers.

      Finally, I haven’t addressed the productivity issues raised by Kid Dynamite and some others yet but I will. I have written blogs about this in the past and will dredge some response soon.

      best wishes

    40. Marshall –

      As a “progressive” I can tell you I don’t rail against the twin deficits. I rail against one – trade deficit. I agree with many of the points Adam makes. As some who as worked summer jobs in factories in Chicago, I can tell you that many people miss those jobs. They created a middle class in the U.S. I know many people who have lost manufacturing sector jobs who were only able to replace those jobs with not ONE but TWO service sector jobs plus more debt just to maintain their current standard of living.

      The exchange rate is a major problem. There is no such thing as ‘free trade’ or ‘fair trade’ with an authoritarian regime that is hell bent on preserving an entirely export driven economy.

    41. Dear RebelCapitalist, Keith, Tom, NKlein1553 and others

      Exports are clearly a cost by any measure when you take a macroeconomics position. They involve a nation giving another nation the benefits of their real resources which might otherwise be consumed locally. The only reason you would want to do this is to: (a) get some real goods and services from other nations (that is, imports which are beneficial in a material sense); and/or (b) build up stores of financial assets denominated in the currency of the nation you are exporting to.

      Either way, there is a cost involved and that cost is represented by the resources you are shipping away. How costly the exports are is another matter especially if you have lots of minerals such as my nation and who could imagine us using it all. But it still remains that there is a cost of some dimension in all exports.

      What Caterpillar thinks is a separate matter as they are only indulging in private cost-benefit calculus and do not take a macroeconomic position.

      Further NKlein1553 said:

      Exporting goods and services also has the tendency to develop productive capacity, which can absolutely be a benefit. For example, China’s export led strategy for economic growth has been hugely successful even though it has come at the cost of depriving its own citizens of consumption opportunities.

      China is still largely an assembly nation rather than the manufacturing hub – a point which is often misunderstood. They are clearly moving into the next phase of industrial development to become full-blown manufacturers but are facing a relative shortage of low-price labour given they have exhausted the coastal region which gave them transport economies. Moving into the hinterland to maintain cheap labour will come at a cost.

      But they could have had this economic growth without exporting very much at all. They have a huge domestic market which they could have developed.

      Finally, I understand all the debates about undermining a nation’s manufacturing base etc I will write a separate blog about that topic at some point. There are confused issues always in the debate – national security, unemployment, regional independence etc. Most of the claims are self-serving and do not stack up from a macroeconomic perspective and the regional dislocations could be addressed more adequately if governments didn’t believe the market solves all resource re-allocations. It doesn’t – it never has and it never will. There is a strong case from a federal regional development strategy in each country to address these issues.

      But to some extent you cannot have it both ways – those who do not want government intervention but then complain when China develops products that we all choose to buy and because we don’t want to work for the wages the Chinese work for then we lose those industries. The government could protect all industry if it wanted to. But then all other workers in the nation would pay for the jobs of a few not in higher taxes but in more highly priced and lower quality goods from the local suppliers. The calculus in these sorts of comparisons is that the nation as a whole loses out from this sort of protection. Anyway, I will elaborate more fully in another blog.

      best wishes

    42. “The purpose of State Money is for the government to move real resources from private to public domain. It does so by first levying a tax, which creates a notional demand for its currency of issue. To obtain funds needed to pay taxes and net save, non-government agents offer real goods and services for sale in exchange for the needed units of the currency.”

      Bill, I cannot understand the basis of this line of argument. Are you suggesting that taxation is actually a form of nominal anchor in the economy? It seems to be in your business card economy, where you require your kids to pay a fixed number of business cards each month in exchange for living in your house.

      No modern government levies tax independent of private sector income. The vast majority of taxation is defined as a proportion of private sector income. If I don’t earn any income, I won’t pay any tax (or very little). My demand for the currency (which I might already own) is then defined by other factors, such as what the current purchasing power is, and what my perception of future purchasing power might be.

      Therefore, taxation never provides the nominal anchor.

      I don’t think this is a minor simplification, it seems to be a logical flaw which undermines the entire argument.


    43. Dear nmtdoc

      Thanks very much for your comment.

      I have never met an elected official in Australia who understands how the system actually operates. I have never met one of their advisors who understands. I have met many by the way and am continually surprised by how little curiousity the politicians have. My close US colleagues report the same.

      But my view is that what the pollies are curious about is the poll results. So we – the “people” can influence what they see as being important to “understand”. That is what I assume my role to be as a prominent media commentator here and a senior research academic. To get messages out that become political narratives in the hands of those that write less than I do (a little reference here to Kid Dynamite who wants me to reduces by daily blogs words by 90 per cent to allow those with short attention spans to cope).

      On that last point, the sorts of concepts I research and write about are difficult and “iconoclastic” which means I can be easily dismissed as a “fkn moron” if I don’t spell things out in detail to provide background, context, history and analytical rigour. That is the problem I face in writing a blog of this type. If I just said “governments can spend what they like” and left it at that – imagine the reception! I get it anyway, but at least thoughtful antagonists such as Kid Dynamite do feel the need to engage and delve a bit more deeply as to why an otherwise smart sounding character (senior professor, PhD, lots of high quality academic publications etc) would say something as “stupid as that”

      best wishes

    44. Dear GYSC

      Welcome to the blog and I hope you keep wandering over and exploring the ideas I present.

      I always try to provide context and history to what I say. There are millions of words now in my archive and I cannot repeat everyone everytime. The blogs get too long as they are!

      I just urge you to stay curious and keep reading and come back when you have specific issues and we can try to clear them up.

      best wishes

    45. Dear Kid Dynamite

      Thanks again for your input. In terms of the US currency, all power remains in the hands of the US government although I doubt they really understand that – as evidenced by the sycophantic visits by US officials to China in recent months.

      In terms of your options, they are often raised in the context of whether China can exert economic power over the US. Most people don’t realise that US dollars always “stay in America” from a banking perspective. They don’t go to China! China runs a trade surplus against the US and therefore accumulates US-dollar denominated financial assets which in the first instance are in the US banking system. They may (and do) convert these deposit accounts into interest-bearing accounts by buying US government bonds. But from the US government’s perspective the dollars are still in the US central banking system – a reserve account has been run down and a special type of “bank account” at the central bank (the bond) has been created.

      So then you say:

      1) sell the $$$ and buy Yuan and take them back to China (unlikely?)

      Even if they wanted to (and I note you consider it unlikely – and I presume you mean the motivation is unlikely) – from an operational perspective they would not be able to do that. Where are they going to get that volume of Yuan from in the foreign exchange markets to do that? Currencies get supplied into the forex market via trade. There are not too many nations running trade surpluses against China.

      Yes, the Chinese government via its central bank could do a deal with the private Chinese exporters as JKH notes to allow them to hold the dollars but from a macro perspective the US dollar-denominated assets would still be held by the Chinese.

      Yes, they could buy Euro or AUD but then that would just transfer the US long-position to another foreign country. They will only reduce that position once they decide to enjoy the material benefits of their own resources (reduce exports) and start net importing to get the material benefits other nation’s resources. That is a long way off.

      You then said they could explore option:

      2) buy real assets in our country with our currency (more likely?)

      They might do that if governments allowed them too. The Australian government recently blocked a major minerals purchase attempt by the Chinese government by appealing to our “national strategic interests”. We also have severe restrictions on what foreigners (all) can buy by way of real estate. So these issues are regulative. If you allow them to do that then (a) depending on supply-side capacity – prices may rise and sellers get their desired returns (plus rents perhaps). But this is the case for any product offered for sale on an open market. Why be fearful that it is the Chinese buying the goods rather than the Canadians or yourselves. There are clearly distributional issues but if these are too onerous then as I noted above they become regulative issues.

      Further, the impact on activity of direct investment (instead of financial investment) – the former presumably reflecting the market realities operating – would stimulate private employment and … reduce the budget deficit.

      A way of thinking about that is that US citizens have a choice – if you as a nation net buy the Chinese goods and services voluntarily on offer in the market then you have to also accept that they are accumulate US dollar claims against you. That is the nature of trade and markets. That happens whether you run a convertible or non-convertible currency (although the latter system makes the adjustments to trade imbalances easier to cope with). If you truly don’t want them to be able to “buy your goods and services” (which would be exports) then don’t buy their goods in the volumes you presently do and be prepared to pay higher prices (because your wages, thankfully, are higher) for locally produced goods to replace them. Or close your borders!

      I think the real issue that is related to China and India is that Americans and Australians and others in advanced Western nations have been enjoying cheap energy because the people in China and India have been poor. Now they are becoming richer the demand for energy will drive up oil prices and undermine the present standard of living in our nations over the next 50 years. That is going to be a much greater challenge to deal with than the other issues. I talked about those issues in this blog some months ago – Be careful what we wish for …

      best wishes

    46. adam: “There is another group of people who do not subscribe to MMT that is people with engineering background. I may belong to this group. To me there is something dodgy in the assumption that flows can remain unbalanced for a long period of time without causing an overflow. But let’s save this point for another discussion.”

      I am not an engineer, but I think I understand your point. Trade imbalances can exist for a long time (in terms of the lifespan of an individual). The reason is that we are far from equilibrium, and the flows are relatively small. I used to be worried about the U. S. trade imbalance, until I read somewhere that Great Britain, in its heyday, had a persistent trade deficit vis-a-vis the rest of the world for many decades (over 200 years, IIRC, but it has been a long time since I read that, so I am not sure). The point being that Great Britain then (and the U. S. now) was a very rich country. We can afford it. :)

      “The third group of people (to which I also belong) who will never be convinced to the economy being run directly by the state for a long period of time are people who lived in a communist society and who remember that similar solutions were already implemented and failed.”

      I think that Bill clearly differentiates the financial facts from his policy views. Let me speak for myself, politically. (I make no claim to understanding MMT.) As I am sure you know, n-person games can have suboptimal equilibria, where no one can improve their own lot merely by their own actions, but where they can reach another, better equilibrium if enough other people change their behavior, as well. One way out of suboptimal equilibria is to have an umpire who can change the payoff functions of the other players. The government can play such a role, and, IMO, should do so. Sometimes, paradoxically, worsening the payoffs can make things better. Criminal law attempts to do that, and largely succeeds. Ideally, a carbon tax should do that, but whether it will or not is disputed. Running a government deficit during a recession is another way for government to alter the game payoffs for its citizens, to their betterment. MMT indicates that some of the arguments against doing so are groundless. Now, you know about government intervention in communist countries, but my impression is that the kind of intervention that I am talking about is rather different. :)

    47. Dear Gamma

      Think about – in a macroeconomic context – what is required for the non-government sector to pay taxes. Ultimately they have to accept government spending to get the currency. In other words, they have to supply goods and services (including labour) to the public sector.

      This doesn’t mean that taxation is a nominal anchor. It means that a taxation liability that is not matched with at least equal government spending will create unemployment. In the business card model taxation serves the role of transferring private resources (the kid’s time and labour) into the public sector (doing tasks around the house). Without the tax burden there would be no demand (in the first instance) for the otherwise worthless currency.

      You already made the point about taxes being a function of income the other day and we addressed that. It doesn’t matter if the tax is function of income or a poll tax from a macro perspective. It still creates a need for the private sector to interact with the government sector in aggregate.

      So when you conclude as strongly as this:

      I don’t think this is a minor simplification, it seems to be a logical flaw which undermines the entire argument.

      I think you should put your thinking cap on and go back to basics and understand how a fiat currency operates and how government’s elicit real resource transfers from the non-government sector without resorting to slavery.

      Which also answers the point Kid Dynamite made a few days ago that I have been too busy to get back too. The point was why don’t I just scrap the monetary system and get the kids to do the work anyway. That would be slavery. Monetary systems operate in more sophisticated ways than that.

      best wishes

    48. Bill,

      “It doesn’t matter if the tax is function of income or a poll tax from a macro perspective.”

      I disagree. It invalidates your entire conception of what sustains the value of a currency.

      As an individual, the requirement to pay taxes absolutely no role in my decision to either spend or save. I am confortable knowing that whatever taxes I will have to pay in the future, will always be defined in terms of the amount of money I earn.

      I will never find myself in the situation where the government will say to me: “You must pay me $25,000 in taxes next year, go out and earn them!”

      However this is the situation your children are in. The fact that you will charge them a certain number of cards in taxation becomes a nominal anchor for prices.

      This is not the case in any modern economy. It does not operate like this. The nominal anchor (whether you think it should be or not) is the level of inflation that is targeted by the central bank (and also the public’s perception of how successful they will be).

      “I think you should put your thinking cap on and go back to basics and understand how a fiat currency operates and how government’s elicit real resource transfers from the non-government sector without resorting to slavery.”

      With all respect, if you have some kind of insight on the basics which you think I am missing, why not outline what it is, rather than making comments about thinking caps.

    49. Dear Min,

      My point is that if the role of state is redefined and it plays much more active fiscal role there is a possiblity that this will be abused. If you read the original post written by VK on the Steve’s blog this was his point.

      For example trade union aparatchiks (think about Senator Conroy and his Internet freedom agenda) may use the printing press for the benefits of their mates what has nothing to do with the interests of the so-called wide society or even working class.
      Another example of that process is how the Real Estate lobby has infiltrated the Labor (and Liberal) Party in NSW.

      This is not communism but smells the same to me.

      The reason why communism collapsed is not because Oskar Lange made a mistake in linear optimisation computations of his price system. Communism collapsed because people didn’t bother to work and resources were misallocated or simply stolen. Things didn’t belong to anyone. If you have a humming printing press it is not difficult to imagine how the system evolves in that direction.

      Having said that I admit that I believe priniting money is inevitable at some point of time or a deflationary hole will gobble us and our capitalist overlords together.

    50. Dear Gamma

      Think macro! The entire non-government sector cannot act as you claim you would act. As long as the government can enforce any tax liability (however assessed) there has to be some transfer of non-government resources to the public sector for there to be any non-government income earning activity.

      The simple model just abstracts from the complexity of the tax system to make the same point. The modern monetary system works in terms of the sectoral relationships and the stocks and flows exactly like the simple model with some complexities thrown in that do not undermine the basic national accounting relationships.

      best wishes

    51. Adam,

      All that you fear regarding the printing press for mates happens right now. The way to solve the problem is to get people to recognise how things really function so that they will demand accountability. Right now we simply pretend the choices made are forced on us by the economy.

      Many seem to mistake that those advocating the recognition of how the money system really works actually believe it will solve all economic, social and political problems. Now where did anyone claim that?

    52. bill: “It doesn’t matter if the tax is function of income or a poll tax from a macro perspective. It still creates a need for the private sector to interact with the government sector in aggregate.”

      I have a question about that that may be different from Gamma’s. It has to do with getting things started. Suppose that you start with a sales tax, for instance. Well, if nothing is bought and sold in your currency, you never have a tax to collect. So it is *conceivable* that people will not use your currency. OTOH, if you have a poll tax, such as in the household example, or a property tax, such as in one of Mosler’s examples, then people will need to get their hands on your money to pay the tax. Later you can add sales tax or income tax, verdad?

    53. Dear Jeff65 and Adam and Min and others

      I think Jeff’s point is sound:

      The way to solve the problem is to get people to recognise how things really function so that they will demand accountability. Right now we simply pretend the choices made are forced on us by the economy.

      It is also a reflection on my simple teaching models which are being misinterpreted by some as a prescription of a system. They are not. Despite what some are thinking these models accurately describe the underlying dynamics of the government and non-government relationship as they exist today. My purpose is to simplify these detailed dynamics into some simple principles that people can then really understand and build back a more complex picture of the reality.

      At present the debate is so totally derailed because the underlying justifications for the propositions being presented are just plain wrong in relation to the way the system we have no operates. Once people get a better grasp of what are the financial constraints (if any) and what are the economic constraints they will be able to see that most of the debate is political/ideological. If that sort of clarity and separation spreads out then it is an empowering device.

      People might still choose austerity packages. But they will do so understanding the reasons and dispense with a lot of the falsehoods that parade as financial constraints.

      My role is to push the knowledge barriers – as an educator and researcher – to help this social process occur.

      I make no claims that political interests cannot or will not always seek to hijack the monetary system and turn our lives into a system with gulags. We have an unfortunate history of human weakness in that regard. I make no claims that human stupidity will not scorch the earth and destroy our very basis of living – the natural environment. It looks to me that is exactly what is happening.

      But these oppressive regimes are still likely to be running a monetary system with fiat currency etc. I think it is better I help people understand the underlying dynamics of that type of system and leave the political science etc about dictatorships to those who are more learned than me in those areas.

      The reality is that at present Australia and the US have working (sort of) democracies – I trenchantly criticise our national government on their own media service (the ABC) regularly and write this blog and sleep okay each night. No-one has taken me away yet!

      In that regard, until that happens :-) – it is better that academics like me continue to try to bring some clearer understanding into the public debate and strengthen those democracies – to perhaps head off extreme movements.

      After all, Hitler and Stalin rose to power because of economic adversary imposed on the common folk by the elites.

      best wishes

    54. Dear Min

      That is a good point. When we replied to Gamma earlier (a few days ago when he made the same point as today) I noted that if you study the implementation of monetary systems during the colonial era the poll tax was a popular means of getting the locals to demand the currency and then transfer “private” labour to the public sector.

      But any tax would do it as long as you could measure economic activity. The pre-colonial economies used money tokens to accompany exchange of economic resources and all the colonial power needed to do was enforce a tax liability on this economic activity in its currency for it to work. Then the system can become as complicated as you like and the private sector will also start to see other reasons for holding the “imposed” currency.

      But you always have to go back to first principles to understand something.

      best wishes

    55. I understand the point about exports and consumption of real resources but isn’t there an opportunity cost involved if a nation imports real resources instead of producing and consuming them locally – assuming they could produce real resources locally.

      According to Abba Lerner:

      “[t]he most serious foreign trade problems of the capitalist economy are connected with employment. (Lerner, 1970, pp. 369-70). That said, the benefits of free trade have been dampened the world over by the harsh effects of globalization, particularly those that accompany rising unemployment (i.e. widespread poverty, growing inequality and indebtedness.) To best cope with these problems, we need to establish a framework within which the benefits of free trade can be garnered without disregarding human rights in the process. To capitalize on the benefits of free trade, countries should adopt flexible exchange rates and implement a buffer stock employment program. With this framework in place, exports will become a cost and imports will be a benefit. Only then will preoccupation with the balance of trade truly be unnecessary.

      Now I can relate to that.

    56. Dear Bill,

      Billy Blog is the most valuable resource on the internet. The sad fact is that 90% of all media is driven by the profit motive and nothing sells newspapers like fear and greed. You spend copious amounts of time educating us (or at the very least offering us a second opinion) for no immediate financial gain. It’s a very rare and important role and I wanted to thank you for your time and effort.

    57. Dear Bill,

      If people do not trust the currency they will not use it for virtually anything except for paying taxes – they may use dollars or another currency instead. We even observed limted dollarisation in Poland in the late 1980-ties.
      This is an extreme example:

      So taxation is not enough to have a working fiat money system.

      But inflation targetting mentioned by Gamma is not an anchor either as asset bubbles (e.g. housing bubble) are overlooked.

      I fully agree with your point about educating people. I will write a post describing the most effective way of communicating some of your ideas to average people later.

    58. Min,

      I have a different perspective to Bill. I don’t think you need to go back to some pre-colonial era to find the answer to your question about how a new currency would get started.

      Why not consider a more recent and relevant example? We are concerned about MODERN monetary theory here, after all!

      When the Australian dollar was introduced in 1966, how did the Australian government set the value of the currency and ensure that everyone started to use it?

      They announced that they would exchange the old currency (Australian pounds) for the new Australian dollars at a fixed rate (2 dollars = 1 pound).

      A couple of other things contributed to inducing the public to accept the currency – one was that it would be accepted in payment of taxes. Another thing was that the currency was declared legal tender (and could not be refused for the settlement of debts, including bank debts).

      So the taxation effect was one part of the reason, but it didn’t happen like the business card economy in Bill’s example.

      Bill suggests this is simply an abstraction from reality, just ignoring irrelevant details, but I respectfully suggest it looks more like a fundamental difference between the model and reality.

      In the business card economy, the level of the tax burden acts to fix the value of the currency – it becomes a nominal anchor point. Hence price levels are restrained in some way by this anchor.

      In the real economy, taxation does not provide this anchor. The thing which serves to anchor prices or fix the value of the currency is the central bank (or government) undertaking to achieve a stable rate of inflation through monetary (or fiscal) policy.

    59. “Billy Blog is the most valuable resource on the internet. The sad fact is that 90% of all media is driven by the profit motive and nothing sells newspapers like fear and greed. You spend copious amounts of time educating us (or at the very least offering us a second opinion) for no immediate financial gain. It’s a very rare and important role and I wanted to thank you for your time and effort.”


      Indeed. I just wanted to second TK’s post.

    60. Scott, sorry. To clarify, this is what I am trying to convey.

      In the business card economy, the nominal price anchor is the amount of the poll tax, which would have quite a direct influence on prices.

      In the real economy, the nominal anchor is the undertaking of the central bank and government to keep the level of inflation within their target band. Both monetary policy and fiscal policy (including taxation) both do have an influence on prices and inflation, but not in the direct manner of the model economy.

      Thanks for that link to your paper, I will have a read of it.

    61. Gamma,

      Let me attempt to explain where I believe your argument to be fallacious from an MMT point of view (at the risk of making a complete fool of myself :-)).

      I think you might be forgetting two things which I understand are fundamental to MMT. First, there are always 2 fiscal operations which are a: spending and b: taxing – in that precise order. The spending sets the price by defining what can be bought for that amount of $ whereas taxing is a direct function of the first (at least in a non-credit society) and provides the necessary ‘coercion factor’ for the private sector to accept the $ coupon in exchange for its goods. All other functions of money follow. Second, the monetary operation of inflation-rate targeting is directed at the separate realm of bank created money (credits). In a society with both forms of money creation, it takes both operations to first set and then maintain price levels.

      Does that make sense?

    62. I forgot to add that I deliberately made no claim about the effectiveness of either operation. As far as I understand, MMT sees monetary policy as a fairly weak tool, based on a flawed understanding of the banking system. You might want to look up what Bill has to say about this in other posts.

    63. Thanks, Gamma. Will have to respond later when I have more time. Glad my post came across as asking for clarification . . . rereading now could’ve appeared kind of snotty and I didn’t intend that.

    64. Bill, I’ll add my voice to ak and tom’s regarding a talk about cost push inflation and the MMT recipe for handling it.

      Perhaps when you get round to this you could give us your thoughts on the inflation (or deflation) outcomes of an increasing dependency ratio that can’t be fully offset by raised retirement age and worker productivity increases, or perhaps these advances are undone by improvements in average lifespan. Of course the falling output that might result from this would to some extent be offset by falling demand – it’s complex.

      The other obvious case would be rising energy costs as the developing world demands more of a share of world energy output and increasingly has the purchasing power to obtain it.

    65. The other obvious case would be rising energy costs as the developing world demands more of a share of world energy output and increasingly has the purchasing power to obtain it.

      This is certainly going to be the case, considering only the increase in auto use in the emerging nations. Even if vast new supply were discovered, it is unlikely to be inexpensive to recover and it would be years before it came on line. The developing world is going to experience a supply shock, and the US is going to feel it most, because the US lifestyle is auto dependent.

      We saw already what happens when the price of gasoline rises and consumers are pinched since a lot of this use is commuting, a maintenance expense. Yes, there are ways to conserve, but that would mean drastically altering accustomed lifestyle, in perception anyway, if not so much in realty (Is car-pooling that much of real modification?). But a lot of consumer demand is related to easy and convenient mobility (this will benefit internet shopping). So a wrench is coming.

      But this is going to involve a rise in prices across the board as energy costs increase. And it will likely result not only is some cost-push inflation, but also in some economic contraction. So the question about stagflation is not relevant just to the Seventies variety. Many savvy people opine we are facing it again, and probably soon, if the recovery is not interrupted by a double dip (which I think it likely will be due to still unfolding debt-deflation and premature tightening as a result of political pressure for “fiscal responsibility”).

    66. Adam (ak),

      I guess you are the same ak from Keen’s blog ? Looks like it.

      Check this out – a mathurl link made by me.

      There is no overflow. Plus, of course, this is an oversimplified model – no banks etc. There is a lot you can add and it has been done already – including stock-flow consistent real accounting!

    67. So taxation is not enough to have a working fiat money system.

      I don’t see that MMT is claiming that is not so. For example, in a highly inflationary environment, people will exchange currency for real goods and assets as soon as possible before it loses value, generating extreme price instability. The challenge of a fiat currency is to manage it properly, and MMT shows how to do this. Where’s the problem here?

      You seem to be mistaking a necessary condition for a sufficient one.

    68. Dear Gamma

      You said:

      In the business card economy, the nominal price anchor is the amount of the poll tax, which would have quite a direct influence on prices.

      No, the nominal anchor is the spending gap which is managed by fiscal policy.

      You said:

      In the real economy, the nominal anchor is the undertaking of the central bank and government to keep the level of inflation within their target band. Both monetary policy and fiscal policy (including taxation) both do have an influence on prices and inflation, but not in the direct manner of the model economy

      No, in the real world, the nominal anchor is the spending gap. We have been told that the central bank “manages” this via inflation targeting monetary policy. But the overwhelming evidence is that inflation targeting countries did no better in terms of inflation than non-targeting countries. Tight fiscal policy was significant in maintaining a spending gap on growth as evidenced by persistent excess supply of labour (unemployment and increasingly underemployment).

      Conceptually, the anchor is created via a buffer stock. Prior to the crisis, Governments (via their central banks and passive treasuries), used unemployment buffers to provide the nominal anchor. This buffer disciplines the price level. In the simple business card model, while the price level is implicit, it is the same deal – I can create deflationary forces using unemployment by squeezing aggregate demand.

      In reality, fiscal policy is a much more effective way of managing demand than monetary policy. Even our Treasury has stated that in terms of underpinning demand in the current crisis – monetary policy has been a bit player only. So although all the neo-liberal rhetoric tells us that monetary policy has disciplined inflation – and you seem to want to rehearse that mantra uncritically – the evidence is not supportive of that.

      Finally, instead of a unemployment buffer as a nominal anchor, I would actually use employment buffers which is what the Job Guarantee is about. By paying a fixed price for idle labour the government provides itself with a nominal anchor without creating unemployment. But that is another story.

      best wishes

    69. Dear Scepticus, AK, and Tom and others

      I will post a separate blog on inflation – cost-push and demand-pull – at some point in the near future.

      best wishes

    70. Nklein: It is most excellent to see you here. Your thinking has evolved magnificently — you are smart cookie. Your point about hidden unemployment costs of import economy are good and subtle. I am in both minds about it, it is a conversation I would want to revisit in an economy with low unemployment as opposed to this demand constrained nonsense the US has been in for an age.

      ALL: How to deal with cost+ inflation (1970s).

      I see it this way. If cost of bananas goes up, you substitute out of bananas and buy more oranges and apples. But, if cost of oil goes up (oil shock in 70s) then you really cannot substitute into much else as energy is part of so much. Your short term choices then are 1) high prices plus low unemployment or 2) high prices plus high unemployment. Long term you can try to diversify economy away from oil. You also want to eliminate automatic destabalizers, such as anything that increases deficit (particularly spending) in times of high inflation. So, COLA should be tied to inflation target, not actual inflation, in all Govt programs.

      In the context of MMT, Volkers rate hikes are (in my mind) as confused as monetary policy always is. Yes, high FFR means loans are expensive, but it also means that savers make a lot of money through interest income. Net net, what is effect? Hard to say.

    71. Bill,

      In several of your blog posts, you refute the notion that central banks can monetize government debt. In this post you write:

      “The central bank is unable to monetise the federal debt by purchasing government securities at will because to do so would
      cause the short-term target rate to fall to zero or to the support rate.”

      But in the US, for example, the short-term target rate is zero, so your statement is irrelevant to the current situation. My question is simple: with a 0% Fed funds rate, isn’t the Fed monetizing the federal debt with its QE program?



    72. Dear Bill,

      I will be very happy to see your analysis of cost-push inflation. If I can ask you to write a few words about whether in your opinion it is possible (or not) to see cost-push inflation sparked by the speculative behaviour of the financial markets – this would answer one of my key questions. Global financial markets caused GFC so can they do it again – this time to deliver an inflationary shock?

      I am referring to a scenario when some money which is currently parked on the sovereign debt instruments is suddenly used to push the prices of oil, food and other commodities on the future markets because the investors (speculators) are unhappy with the yields offered by bonds.

      Reserve banks may need to lower them using open market operations if the cost of servicing sovereign and private debt is not to skyrocket – I am referring to the current framework, not the framework suggested by MMT. If nominal interest rates (which are correlated with bond yields) go up – we are all dead in the short run because of the debt deflation.
      But if they are low… if there is some residual inflation in the system, real bonds yields may well fall below zero and the investors may want to abandon bonds. Some time ago I tried to analyse the volume traded on leading exchanges (NYMEX and ICE) and it looked that except for the near month the volume was not very high so the market was not very liquid – the price can be driven up easily.

      Do you think that this (global hoarding of the commodities by the speculators) may lead to a supply shock similar to what happened in the 1970-ties and spill to the real economy – especially in the context of the current political volatility? Can the tail wag the dog? Or do you think that the governments will shut the exchanges down before that happens and go after the investment banks and hedge funds?

      Finally, can such a meltdown be triggered by a decision of the Chinese politburo to teach the Americans a lesson? We are talking about trillions of dollars which can potentially flood the markets for real (physical) commodities. Haven’t we already seen first signs of such a process?

      Do you think that George Soros is right, predicting even more bubbles?

    73. Dear Andrew

      Thanks for your comment. I do refute the notion of monetisation when there is a positive target interest rate. At present, with near zero interest rates there is no need for central banks to use open market operations for liquidity management purposes. So in principle the central bank could just accept some accounting request from treasury (it might be a “bond”) and not bounce the government’s “cheque” which typically would be in the form of a credit in the commercial banking system. So net financial assets would be added using fiscal policy and the extra reserves would remain in the banking system.

      I note that Japan ran 0 rates for years and still issued debt – the secret was that they left just enough excess reserves in the cash system to ensure that interbank competition to expunge these reserves would keep the overnight rate at 0. But they clearly didn’t need to issue the debt. It had the effect of reducing the overall level of reserves but that is about all.

      This is not what QE is about though. No new net financial assets are added through QE – it only involves a portfolio swap – bonds (or something similar) for reserves.

      best wishes

    74. Thank you Zannon, and thank you for introducing me to the writings of Warren Mosler, Wintespeak, Bill, Scott, Randall, and all the rest of the MMT people. It’s been a really fascinating two months or so since we had our debate about the Consumer Financial Protection Agency over at the Baseline Scenario. I’m still trying to get a handle on all of it, but this blog and others like it has easily been the most interesting reading I’ve done in economics since I read “The Worldly Philosophers,” Freshman year in college.

    75. Bill: This is not what QE is about though. No new net financial assets are added through QE – it only involves a portfolio swap – bonds (or something similar) for reserves.

      This is really the essence of it. Those who don’t get this are running around screaming “hyperinflation” because they think that the Fed is “printing.”

    76. Bill,

      Thanks very much for your reply. I’m also looking forward to your post on inflation. If you could include the period in the early 1970s in your analysis that would be great.

      Specifically, my question is this – if the inflation of the 1970s was primarily a “cost-push” phenomena, driven by the oil price shock (which began in October of 1973) what caused the spike in inflation in 1971 (where inflation went from 3% in 1970 to over 7% in 1971)?

      By September of 1973, year-on-year inflation was already above 10% – so inflation was already high before OPEC increased the oil price. What was the cause of this?

    77. Dear Gamma

      The inflation post will come in due course.

      The inflation of the early 1970s was not all externally generated. If you examine the wage data in early 1970s you will see that several key wage deals were done which set off the wage-price spiral before the OPEC oil shock came along and cemented the deal. At that time, the federal government clearly was not committed to using unemployment to control inflation (that came soon after) and so they “accommodated” the distributional conflict (wage and margin push) which meant that nominal aggregate demand outstripped the real capacity of the economy to accomodate it. So what began as cost-push morphed into a demand issue.

      I will elaborate more when the time comes.

      best wishes

    78. Dear Bill,

      I will admit a lot of this is beyond my knowledge base. However, something I did notice and would like to see your thoughts on; in one section you suggest we examine the 1930’s liteture and then point out that despite the depression things turned out okay.

      Though I don’t disagree that fiscal for the most part things turned out okay over the long run, it did take a world war to completely end the depression of the 30’s, something you feel to point out. So though the fiscal stabilty returned, the cost of that stability was very expensive.

      Also unlike the previous fiscal issues in the US, this nation no longer has a manufactoring base to revitalize the economic growth. How exactly does an economy rebound when it doesn’t make anything?

    79. Dear Bill,
      Excellent article that triggered several points of consideration. First, there are real capital assets, accumulated investment that need to be priced and whose total must equal total public liabilities of the accumulated money balances and public debt. This is driven by profits and credit or private interests that interact with public purpose. Second, public purpose is more than full employment. Third, there is no imperfection, friction and complexity in your analysis above (maybe somewhere else). Fourth, private speculation and public corruption affects fiscal policy. Actually, taxation apart from its distribution of resources aspect, it represents a means to moderate speculation and is affected by corruption. Here is a scenario of this case using my analytical framework of occurence.
      I argue that excessive behavior (speculation drives) or motivation process leads in excessive gain/loss and is restrained by moderation policy (strategy, tactics) and in particular taxation or penalty policy. However, as the surprise impact reaction of recovery/impression is realized, the complexity induced entropies of inertia and illusion open “windows” for speculation to exploit the excess receipts. This is manifested as a cheating process of exclusion against moderation policy, in this case taxation. Taxatio policy is defeated by a cheating process that employs a decision strategy of adversity in order to avoid the incidence of taxation and a practice tactics of tax evasion that hides revenues. The result from this exclusive behavior is for tax/penalty revenues to be rationed.
      Similarly, policy operations encounter a fiscal “discipline” (political reaction) displayed as an operational shortfall. Policy operations are discouraged and frustrated. Reconstruction resources are underemployed to be secured with capital flight (external) and capital drain (internal towards a (para)economy) while capital estimation is devalued by net wealth holders. The severity of the shortfall depends on fiscal discipline imposed on policy operations, a discouragement expressed by conservative inertia of recovery and illusion of impression.
      Furthermore, any recovery/impression is weakened by the intensity of private orientation whose proprietary interests in competition with each other they transpose the authority of agents of public institutions. Their response and motivation is to engage in corruption behavior to promote their interests which are another form of exclusion. Audit decisions of moderation policy are defeated with strategy adversity that permits (legitimacy) the avoidance of payments (taxes/penalties) and bribes as a cover against evasion and exception to rules. As an outcome of fiscal discipline of operations and fiscal austerity of behavior, income is reduced, the budget balance is in deficit, capital value is lower, resources are underemployed, spending and finance are rationed. Capital fight (external) and capital drain(internal) bring a balance of payments deficit.

    80. “For every asset created in the non-government sector there is a corresponding liability created $-for-$.”

      Only if you consider assigning title to real assets to be creation of an asset by the government. When someone builds a house, for example, the house is a real asset and the title to it is the reflection of that asset on paper. Real assets are created by real economic activity. Or you could say they’re created by labor, capital, natural resources, risk-bearing, and initiative. Either way you describe it, they’re represented in accounting and transactions by documents of ownership.

      “All transactions between agents in the non-government sector net to zero.”

      In terms of future cash flows in any possible scenario, or therefore in any average over possible scenarios, this is true. In terms of the present accounting values of the asset and the corresponding liability, it is not. If you owe money, you must acknowledge the full amount of the liability. If you are owed money, you must acknowledge the possibility of default. Transactions net to the difference in what the parties must account for. This is negative when any leverage is present, and zero for pure equity.

      A group of people can all have real assets, and have no financial obligations to anyone but each other, but still all be financially insolvent. In fact, this would always be the case, if the only source of positive financial wealth were the creation of fiat money by government. Only the book value of real assets is sufficient to offset the negative book value of aggregate leverage.

    81. Dear Bill,
      In my last comment I did not mention the issue of fiscal policy (net of taxation) as an outcome of the political behavior. It is obvious to me that this is at the core of your thesis and I do not need to bother you with it. However, as an exercise of discovery that makes me realize I am alive, I will analyze it as follows. Political behavior rations fiscal policy as a financial decision(authority issue) and spending praxis. A surprise impact reaction to speculation with inertia of recovery and illusion of impression will bring effects upon fiscal policy. See, for example the political debate regarding “fiscal responsibility”. These effects can materialize as adverse plans that restrain issue decisions such as monetary restriction and evasive programs that restrain spending practices and escape the public purpose of full employment. These could be amplified by private interests that benefit from speculative activity and conditions of underemployment of resources such as those that exercize market power. The result is rationing o montary and debt issues and spending activities. Thus, the outcome depends on political behavior (O.E.D.).

    82. Panayotis, good points, which lie beyond the simple models that Bill is presenting to aid in understanding the basics of how a modern (post-1971) monetary system actually operates. These are undoubtedly pressing problems at the moment in that the crisis has highlighted and the inability of the political system to address them adequately to date shows that they are rather intractable.

      Some people prescribe more regulation and oversight (liberals and progressives), while other advise sticking to the basic principle of capitalism, which is enforcing full responsibility for the consequences of risk-taking, even if it results in liquidationism (“creative destruction”). Others see the the system itself as being inherently flawed and suggest changing it, re-instituting the gold standard (:sound money”), or folding the CB into Treasury-abolishing the Fed-ending bank money creation through lending-and going on government currency alone (Stephen Zarlenga). Of course, there are more.

      These issues are independent of MMT, however important they may be and necessary to resolve. MMT simply describes how the system actually operates and predicts the consequences of various courses of action based on national income accounting and stock-flow consistent models. The only thing speculative in these models is data, i.e., historical data, which are imperfect, and data projections, which are uncertain due to unforeseeable circumstances that introduce uncertainty. These consequences illuminate the results of various policy options and provide an aid to policy-making.

      The task of the governing authority is to ensure that the monetary and economic systems are operating efficiently (operating as they are supposed to) and effectively (producing the expected outcomes and adjusting if not). How to reduce inefficiency is an administrative (political) question, and what the criteria of effectiveness are, is also a political one.

      Capitalistic systems are founded on the pursuit of self-interest. As a result, they are not self-organizing, but rather tend toward excess in some sectors and corresponding deficiency in others. As Joseph Stiglitz said recently, “There is no invisible hand.” Inefficiency and lack of systemic effectiveness works to the advantage of some interest groups, so there is always some bias, often strong.

      As far as effectiveness goes, the political spectrum runs from anarchy (no government) to socialism (government ownership). As soon as there is government, government by its very nature makes some claims on private ownership. The debate over effectiveness is about the extent to which such claims should extend in promoting the general welfare and other matters of public purpose. This is the basis of political debate among reactionaries/conservatives/libertarians and liberals/progressives/radicals.

      MMT operates within this larger framework. It shows what the options are in relation to the operation of the monetary system that is in place, as well as what the options would be under other regimes, given the same conditions. All political debate must be built on the foundation of MMT, given the monetary system currently in place. To the degree it is not, the framing of the debate is biased, as the moment in the favor of conservatives and wealth, since it does not accord with the operational facts. This is what happens when ideology trumps reality. It is the difference between a scientific, fact-based approach and a dogmatic one, or one based on ignorance of fact.

    83. Ramanan, in the Flow equations, you have government spending going entirely to firms. But government disbursements include government spending on purchases of good and services, and also disbursements to households that get spent or saved, such as Social Security and automatic stabilizer assistance programs like unemployment compensation.

    84. Ramanan, Tom,

      I will run this model in Scilab and then start modifying it – but I need to spend a few more days on the model generator.
      The simple equations can be solved outright.

    85. Thank you Tom for your prompt response. I must congratulate both Bill and you for the effort and patience you show to all your commentators. This a sign of excellent scholarship and teaching skills. Iam plannining to respond more fully in the next couple of days to your comment as I have some pressing business to attend to and issues to deal with in my research work. As a quick feedback I must tell you that I do not object to an accounting system with stock-flow consistency but I feel we need to go further than that (more to come). My previous comments where meant as suggestions to enrich further some propositions I thought your thesis defended. As far as the ideological debate you mentioned I must tell you for clarification purposes that Iam familiar with it from both sides as I was a student of Milton Friedman, George Stigler, Gary Becker, Robert Barro, Harry Johnson, Robert Mundell and many others of the orthodoxy. My Ph.D thesis was supervised by the PostKeynesians Tom Asimakopoulos and Jack Weldon and I have attended seminars given by Joan Robinson and Hyman Minsky among others. I share many of your conclusions and I have no conflict with your system (MMT) as I understand it, but I see reality as the outcome of reaction to occurence that brings surprises. The framework I use helps me analyze the dynamics of situations ( see the simple examples in my previous comments). Iam looking forward to give you soon a more elaborate and constructive response. I encourage you again to send me an email so I can forward the framework, if you are still interested to read and comment on my work since I am still revising it. (I just added some new aspects).

    86. Dear Tom,
      Your system and my framework share the reality we describe and reach similar conclusions regarding policy effects and the political debate that governs policy. Any differences we have can be described by the following analogy. Your accounting system with stock/flow consistency of data is a period picture/frame of the reality you observe. My dialectical framework is a rolling video of the same reality that we share. Your photo and my video portray the same picture, they are not better , they are just different displays. Let me explain the video analogy so you can see the difference.
      I set the stage with an operational system made of a series of parts that is run by a mechanism (camera) of engagement. At this point of the movie the system description is incomplete because there is imperfection in the script and friction in my set so the video frame has a sclerosis term that is missing. The director screams and an adjustment is made, consisting of a regular behavior that protects against the danger and organizes against the scarcities axposed by the shooting of the film so far. This behavior covers the missing part but in the process complexity creeps in as transition and articulation get entangled and a”window” of manipulation opens up and motivation is triggered to get extra improvement that can make the film budget blow to my face. The director concerned with artistic but speculative frames that can defeat the character of the movie attempt to moderate and hold “these horses” (“animal spirits”). At each point we review the outcome surprised by what we see, we intervene with impact collision phenomena that shake the motion/vibration or variation of film-making, conditional on the situation we face (bankers, friends with opinions, studio execs, journalists, etc.). Imperfection creeps in as our set is a fragile and opaque arrangement of relations (that damn support personnel is so limited!) and complexity from motion hysteresis and vibration flucuation of our creative actors during impact recovery shows a reaction which is inferior to what the scenario implies. Similtaneously, presentation messages, of what we view, filter through and induce an impression feedback subject to an lllusion complexity imposed as delay of communication and distraction of retrieval of deflected information. Furthermore, notice that we film with many rehearsals so the video has a rate of production calibrated by the frequency/probability of scenes. However, these suffer from film defects, accidents on the set we use and infections of presentation that influence this rate with random/stochastic jumps.
      The recovery/impression scenes of video reaction have a systematic/deterministic term consisting of various but constant/smooth frames, a stochastic/random term consisting of various variant/fractal frames and an interaction between them. The movie is filmed and reviewed but we are surprised with the outcome and the writer is besides himself and the impact we encounter brings a remake of scenes and the recovery/impression feedback upon our viewers require additional editing with a shortfall of construction (distress of producers) and devaluation of the esteem of the movie (dicredit of director). The result is an exclusive decision to ration adverse (off the mark) scenes and a praxis to ration evasive (out of context) sections. There is a lot of preparation to reduce the damage inflicted such as search for a new assistant director, employ redundant (emergency) funds, assess various redesigns of sets and filming locations and monitor better the sections filmed. At this point and with the editing finished the director screams “end and Cut”!
      The marketing guys come in the picture and point out that the private vs. public(documentary) orientation of the movie has a lot of relevance. The choice is whether we are film making oriented by private considerations driven by proprietary interest to make a profit in competition with other films in the marketplace inducing more sensational scenes or we are oriented by public concerns of common duty for art, environment, etc., in solidarity with other documentaries, sharing the thesis, that are released to the community. The reaction from our video is the reality of the occurence displayed by your photo frame. Furthermore, what is our technical purpose? If we need a snapshot of reality to use for our passport, then we take a photo picture. If we need to display the reality of us enjoying to dance, we film a video that shows us dancing with a beautiful lady!
      I wonder if my analogy is a good reality of my framework occurence that I attempt to describe. In any event I will be surprised anyway! This will mean more discovery and more living for me to do!

    87. Dear Tom,
      In your last note you did not answer some specific concerns I mentioned in a previous comment regarding my understanding of MMT. First, if total capital assets (private financial assets/liabilities cancel out) is always for period accounting equal to total public liabilities as money balances (reserves) and public debt held internally, there is a role for pricing of capital to play.
      Assume that investment production has a rising cost, given technical requirements, due to private financing terms, transaction and organization costs. In this case the price of capital assets is higher and the share of prices to nominal value of accumulated capital higher than the share of the quantity of investment goods employing workers than otherwise. Given the total public liabilities mentioned before, the level of accumulated investment could be less than the one required for full employment. If total public liabilities are even higher and the cost of investment acceletates faster than the rate of investment, the share of capital prices will rise further reducing the corresponding level of employment. Notice that there is also a debt leverage spiral effect. At rising capital asset prices (capital gains), internal private fund financing will drop out eventually of the investment financing pool, which pool will first be dominated by speculative financing and with rising leverage it will eventually be converted into a pool dominated by Ponzi financing. Notice that even with private financial assets /debts cancel out in aggregation, RISK is not canceled out but is rising! At some point the Bubble bursts and we have a Minsky moment! Of course, the solution is for investment to be embedded with technology and innovation sufficient so the rate of investment costs to equal the rate of investment, in order for capital asset prices to remain constant and the level of public liabilities neccessary for full employment to assure this result.

      However, as you must have noticed from my previoius comments, we are not home free yet, if we introduce imperfection, friction and complexity. They can bring a) reduction entropy that liberates a motivation process (animal spirits) such as speculation, b) inertia as hysteresis and fluctuation of recovery, c) illusion as delay and disruption of impression, d) exclussive behavior, e) operational shortfall, f) cheating behavior against taxation policy g)corruption of public policy. These effects will tend to frustrate our legitimate goal of full employment. Notice that the unemployment observed is more than frictional.
      I hope my comments are helpful to your cause that I share.

    88. Bill;

      Thanks for the tip on the spam math… (duh on my part)

      I appreciate your writings and that of Tom Hickey, whom I have followed from Baseline Scenario to your site. As a economics undergrad 20 years fallow, I must confess to being a gold-standard thinker, but am coming around to the MMT way of thinking about national debts… I am trying to understand the MMT perspecive of what I perceive to be signifigant world economic imbalances. I am curious about the MMT perspective on the those issues debated on Baseline Scenario, namely US banking system Too Big to Fail, and regulatory capture.

      I also understand that with MMT, a govt that issues it’s own currency (ie the US) can run large deficits as measured by debt to GDP ratio. In the US, as long as someone buys our bonds (China, Japan or even our Treasury (monetising the debt)), the way of thinking about the deficit/debt is not tied to a finite, or inelastic, method of accounting. We issue currency, we can increase the money supply via monetisation, and what is in flux is the money supply, interest rates and inflation.

      So one of my questions is what does MMT proscribe when we look out 10 years, where our CBO estimates that the US will run a $1 trillion deficit each year… there has to be a significant change …either we will loose our ability to control interest rates, our currency will debase, or real inflation will set in.. (or all of the above). As a country that has exported our manufacturing base, which is 70% based on consumption and services, and which is completely petro-dependant – how does MMT see us digging out of this mess?? My gold-standard way of thinking sees no way out that isn’t very messy.

      i’ve asked alot of questions, and you have probably covered much of this in previous posts… so answers or redirctions to older posts are welcome.



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