This is Part 3 in Deficits 101, which is a series I am writing to help explain why we should not fear deficits. In this blog we consider the impacts on fiscal deficits on the banking system to dispel the recurring myths that deficits increase the borrowing requirements of government and that they drive interest rates up. The two arguments are related. The important conclusions are: (a) deficits introduce dynamics which put downward pressure on interest rates; and (b) debt issuance by government does not “finance” its spending. Rather debt is issued to support monetary policy which is expressed as the desire by the RBA to maintain a target interest rate.
This is the second blog in the series that I am writing to help explain why we should not fear deficits. In this blog we clear up some of the myths that surround the so-called “financing” of budget deficits. In particular, I address the myth that deficits are inflationary and/or increase the borrowing requirements of government. The important conclusion is that the Federal government is not financially constrained and can spend as much as it chooses up to the limit of what is offered for sale. There is not inevitability that this spending will be inflationary and it does not necessarily require any increase in government debt.
A lot of people E-mail and ask me to explain why we should not be worried about deficits and why they do not have to be financed by debt (even if the government does typically increase its debt when it goes into deficit). So in the coming weeks I will write some blogs to explain these tricky things. First, I will explain how deficits occur and how they impact on the economy. In particular, we have to disabuse ourselves of the notion that when governments deficit spend they automatically have to borrow which then places pressure on the money markets (which have limited funds available for lending) and the rising interest rates squeeze private investment spending which is productive. This chain of argument is nonsensical and is easily dismissed. So this is Deficits 101. Next time I will detail the reason why the central bank issues bonds (government debt).
The Project Syndicate is held out as an independent, quality source of Op Ed discussion. When you scan through the economists that contribute you see quite a pattern and it is the anathema of ‘independent’. There is really no commentary that is independent, if you consider the term relates to schools of thought that an economist might work within. We are all bound by the ideologies and language of those millieu. So I assess the input from an institution (like Project Syndicate) in terms of the heterodoxy of its offerings. A stream of economic contributions that are effectively drawn from the same side of macroeconomics is not what I call ‘independent’. And you see that in the recurring arguments that get published. In this blog post, I discuss Jeffrey Frankel’s latest UK Guardian article (August 29, 2018) – US will lack fiscal space to respond when next recession comes – which was syndicated from Project Syndicate. Frankel thinks that the US is about to experience a major recession and that its government has run out of fiscal space because it is not running surpluses. We could summarise my conclusion in one word – nonsense. But a more civilised response follows.
The fiscal position of a government that issues its own currency should never be a focus of attention other than to understand why it have evolved to its current level – whether it is reflecting mainly discretionary policy choices or cyclical effects (automatic stabilisers). If there was accelerating inflation and high GDP growth then one might be tempted to conclude the fiscal deficit is to expansionary and needs to be cut back. One might equally conclude that private spending is too strong and needs to be cut back. But when there is declining growth and very high and persistent labour underutilisation rates, it is hard to argue that the fiscal deficit needs to be cut. It is, in fact, lunacy!
I know I am an armchair commentator hiding out in my research environment and not really accountable to anybody other than the funding agencies I win grants from. I am certainly not a Finance Minister with a nation in crisis on my hands. But with that said I wonder how any Finance Minister who aims to create full employment and expand equity and undo years of deliberately imposed neo-liberal hardship can claim his nation will “Never, never, never!” record a primary fiscal deficit again. That comment has to be dismissed as political rhetoric rather than an expression of a serious evaluation of reality. What worries me about Greece at the moment is that we are seeing a trend around the world where politicians over promise (or lie straight out) about their intentions to apparently appease the multitude of vested interests then proceed to do what they like. I discussed how this is now backfiring in the recent blog – Time is running out for neo-liberalism. An understanding of macroeconomics will tell you (and I know the Finance Minister in question knows all this) that a government cannot guarantee to never run a primary fiscal deficit forever unless they are prepared to allow for large swings in unemployment, something I thought the new Greek government was averse to, and it is that aversion, which defines their popular appeal.
Being a researcher is interesting and frustrating. But it almost always takes one on a ride that is unpredictable, which is part of the fun. Sometimes, you hit a dead-end (often = frustrating). Other times, you end up somewhere that you never planned but which is instructive in itself (= interesting). Yesterday, my blog was about financial market criminals that seem to escape prosecution. The insulation from prosecution of white collar criminals is not confined to the financial markets. Today, the basic message is that if a nation engenders growth the budget deficit will likely fall and the benefits of the growth will be higher employment, higher national income and improved material living standards. The opposite is the case when a nation contracts. The irony is that the nation will still probably have a budget deficit, but in this case it will be accompanied by stagnation. The first deficit is good and virtuous the second bad and irresponsible (from the perspective of the government fiscal policy stance). So even if you are obsessed with reducing deficits, the best way is to engender growth. The dumbest thing a government can do if it wants a lower deficit is to impose fiscal austerity. There are a lot of dumb governments out there. The problem is they are aided and abetted by criminal types who know full well it is dumb to cut net public spending but pressure governments to do so as long as the space for spending on them expands.
This week I seem to have been obsessed with monetary aggregates, which are are strange thing for a Modern Monetary Theory (MMT) writer to be concerned with given that MMT does not place any particular emphasis on such movements. MMT rejects the notion that the broader monetary measures are driven by the monetary base (hence a rejection of the money multiplier concept in mainstream macroeconomics) and MMT also rejects the notion that a rising monetary base will be inflationary. The two rejections are interlinked. But that is not to say that the evolution of the broad aggregates is without informational content. What they paint is a picture of the conditions in the private sector economy – particularly in relation to the demand for loans. In this blog I consider recent developments in the US broad aggregates and compare them to the UK and the Eurozone, which I analysed earlier this week. But first I consider some fiscal developments in the US, which, as it happens, are tied closely to the movements in the broad monetary measures. The bottom-line is that the US is growing because it has not yet gone into fiscal retreat and the broad monetary measures are picking that growth up. The opposite is the case of the European economies (counting the UK in that set) where governments have deliberately undermined economic growth and further damaging private sector spending plans.
Last weekend, on the eve of the G-20 meeting in Paris over the weekend, the Australian Treasurer was talking tough and giving ultimatums to our Northern friends – telling them that the “time for half measures is over. The time for action is here. So people will be looking for a comprehensive plan on October 23”. Of-course, in the Communiqué of Finance Ministers and Central Bank Governors of the G20 from the Paris meeting you don’t get any sense of urgency. Not once do they mention the word “unemployment”. The problem is that the world leaders remain in denial and still want us to believe that you can have “growth-friendly” cuts in spending. To increase spending you do not cut it.
Many readers ask me to provide a Modern Monetary Theory (MMT) rule for sound fiscal management. I had done this often but apparently not concisely enough. It is important to understand what the limits on fiscal deficits are in term of prudent fiscal practice given that terms such as fiscal sustainability, fiscal consolidation, fiscal austerity are in the media almost every day without fail. The mainstream version of fiscal responsibility is based on false premises and is not an applicable guide for sovereign governments to base their policy decisions on. MMT provides a coherent fiscal position for governments to aim for. In this blog, I juxtapose that position with the sort of narrative that is now coming out of the OECD with renewed vigour – after they went a bit quiet once it was clear they were exposed by the magnitude of the economic crisis. But they are back, strutting and arrogant as before and threatening the jobs of millions. So here is the full employment fiscal deficit condition that makes a mockery of the IMF and OECD narratives.
I get many E-mails every week from people asking me to explain exactly what a deficit is. They understand that a budget deficit is the difference between revenue and spending but then become confused as a result of being so ingrained with narratives emanating from politicians and lobbyists who misuse terms and always try to conflate deficits and debt. So today’s blog is a basic primer on deficits and why you should welcome them (usually) and why we all should sleep tight when the government is in deficit. So – budget deficit basics …
I suppose I had to respond to this atrocious piece of deception pedalled by the New York Times (March 5, 2011) as an “Economic View”. The article – It’s Time to Face the Fiscal Illusion – is not economics. It is a religious diatribe with strays into lies and deception. The reality is that mainstream economics has learned nothing from the crisis that has left their key intellectual propositions being exposed as vacuous nonsense. The inability of my profession to move on and embrace the challenge that an alternative theoretical structure is more relevant is sad. Instead the same old mantra based on theories that have no empirical basis are being wheeled out – the same theories that pressured policy makers to create the conditions which ended in the crisis. In relation to today’s blog we should understand that government deficits are the norm and they generally never pay back their debt (overall).
I have been travelling today and so haven’t had much time outside of my commitments. But I did read some truly astounding articles today. As the conservatives take control of the political processes in the advanced nations they are revising history faster than we can read about it. Meanwhile they use the TINA claim to implement policies that damage the well-being of the average citizen and set up dynamics that will manifest as the next crisis. And we say we like it – because we have been bluffed into the TINA lie. The fact that the public believe all the conservative dogma and go along with it astounds me. Economics is not that hard. If no one is spending then output will fall and unemployment will rise. But somehow the public believes the opposite. They have been conditioned to believe that a rising (large!) budget deficit is bad and a falling (small!) deficit is good. The reality is that there are no better or worse deficits.
Today I have had several media requests for interviews about various topics including the flood reconstruction in the eastern states of Australia and their implications for the budget aims of the Federal government (to record a surplus in 2012-13). My position seems to be alone in the debate. In the conservative pro-business publication – Business Spectator article (January 19, 2011) – A flood levy would not break Labor – we read more about the alleged budget dilemma facing the Government as a result of the devastating floods that Australia is currently enduring. To put the article in context, the author was a former advisor to past Labor government ministers – which when you read it tells you how far to the right the political “centre” has gone. While I doubt that the floods alone will undermine economic growth over the next 12 months, I certainly consider that the Australian economy requires further fiscal stimulus to keep growth going and the response to the disaster is a politically acceptable way to inject that stimulus. It is certainly not the time to be trying to raise taxes or cut spending in other areas to “pay for” the reconstruction effort.
Its very balmy weather over here in the Netherlands at present – like early October and people were out in T-shirts are 21:00 last night. I went to Brussels in the afternoon and didn’t even take an overcoat! But in contrast, the economic climate is decidedly chilly. Each week new evidence emerges which demonstrates categorically that the fiscal austerity proponents have not clue about how real economies and monetary systems function. The world is not behaving as they predicted. The models and analysis they provided to governments as support for withdrawing fiscal support are bereft of any credibility. It is also common for economic commentators and policy makers to argue that problems are manifest and complex and there are no silver bullets. Well what Modern Monetary Theory (MMT) tells you is that when there is a recession (and/or tepid growth) such as the world is enduring now and the non-government sector is drowning in debt and unwilling to expand spending the only solution is to expand public spending. That proposition is not manifest or complex. Its simple – more public spending is required.
I have always been antagonistic to the mainstream economic theory. I came into economics from mathematics and the mainstream neoclassical lectures were so mindless (using very simple mathematical models poorly) that I had plenty of time to read other literature which took me far and wide into all sorts of interesting areas (anthropology, sociology, philosophy, history, politics, radical political economy etc). I also realised that the development of very high level skills in empirical research (econometrics and statistics) was essential for a young radical economist. Most radicals fail in this regard and hide their inability to engage in technical debates with the mainstream by claiming that formalism is flawed. It might be but to successfully take on the mainstream you have to be able to cut through all their technical nonsense that they use as authority to support their ridiculous policy conclusions. That is why I studied econometrics and use it in my own work. It was strange being a graduate student. The left called be a technocrat (a put-down in their circles) while the right called me a pop-sociologist (a put down in their circles). I just knew I was on the right track when I had all the defenders of unsupportable positions off-side. But an appreciation of the empirical side of debates is very important if a credible challenge to the dominant paradigm is to be made. That has motivated me in my career.
Even the most simple understandings are lost in the public debate about budget deficits and public debt. The Flat Earth Theorists who whip up deficit hysteria each day like to stun people with large numbers. They produce debt clocks that relentlessly tick over and try to get us to believe that impending doom is upon us. But if we just take a deep breath and think the situation through we would see that the ticking debt clock is really just a measure of the portion of non-government wealth embodied in public debt. We would then learn that budget deficits are just the mirror image of non-government savings. Saving is usually considered to be something we should aim for. Increased wealth is also something we usually aspire to. So the increasing deficits and increased debt outstanding is, in fact, beneficial to the private sector (overall). Once we understand that then the deficit hysteria becomes transparently ideological. These characters just hate government and want to get their greedy hands on more of the real pie.
Three people are dead in Athens as the people turn ugly against an even uglier ideological push against their welfare. The EMU is now facing an untenable future. Senior policy makers within the EU are now lecturing the UK about the need for harsh fiscal measures following the election. And the UK goes to the polls today and the polls are suggesting “sweeping gains” for the conservatives who are unfit to govern and will drive their economy even further backwards if elected. All of this is unnecessary. All of it a reflection of a failed ideology trying to re-assert itself. The upshot will be that the Eurozone will wallow in crisis for years to come and the rest of us are taking policy positions that will lead to the next crisis – if not a double-dip recession later this year.
Today I am writing about the sectoral balances which are derived from the national accounts. A recent article in the Financial Times uses these balances to demonstrate that attempts to reduce the UK public deficit can only be successfully achieved by engineering growth in non-government spending. That is an insight that is core to Modern Monetary Theory (MMT) but typically escapes the understanding of most commentators. The article is interesting because it shows how the sectoral balances – which are accounting statements and thus true by definition – can be interpreted in different ways and influence different policy strategies. But the fundamental understanding you gain from knowledge of these balances is that at present public deficits are here to stay … and if you don’t like them … you better get used to it!
Zimbabwe is the new Weimar Republic. Not! Zimbabwe is the front-line evidence that shows that government deficits will generate hyper-inflation. Not! Zimbabwe is the demonstration of the folly of a fiat monetary system. Not! Zimbabwe is an African country with a dysfunctional government. Yes!