BERNANKE: BUDGET DEFICITS ARE UNSUSTAINABLE
It’s hard to be optimistic about the economy given the Fed Chief’s comments today. He said:
“Under these assumptions [by the CBO], the budget deficit would be more than 4 percent of GDP in fiscal year 2017, assuming that the economy is then close to full employment. Of even greater concern is that longer-run projections, based on plausible assumptions about the evolution of the economy and budget under current policies, show the structural budget gap increasing significantly further over time and the ratio of outstanding federal debt to GDP rising rapidly. This dynamic is clearly unsustainable.” (emphasis mine).
But let’s look at the facts. Since 1952 the government’s budget deficit has averaged 2.6%. Not quite the 4% level that Bernanke cites, but certainly “in the red” according to the way that we are all taught (wrongly) to think about a government budget deficit being analogous to a household’s budget. Not surprisingly, Paul Ryan was fueling much of the heat on the deficit today. The odd thing is that under the Republican’s hero Ronald Reagan (from 1980-1988), the budget deficit averaged 4.8%. You can clearly see the sea of red in the government’s deficit since just about the beginning of the chart:
The government always runs a budget deficit!
So if it’s “unsustainable” then we could have had the exact same conversation in 1982 when the budget deficit was 6.3% (right before an epic economic boom). The confusion of course is surrounding why this is unsustainable and that’s where Dr. Bernanke’s comments were most alarming. He said:
“…Even the prospect of unsustainable deficits has costs, including an increased possibility of a sudden fiscal crisis. As we have seen in a number of countries recently, interest rates can soar quickly if investors lose confidence in the ability of a government to manage its fiscal policy. “
Dr. Bernanke doesn’t explicitly mention Greece and Europe, but he certainly alludes to Europe. And of course, he’s entirely misinterpreting the difference between being an autonomous currency issuer and being a currency user (like European nations). An autonomous currency issuer doesn’t “run out” of money. Their true constraint is inflation (and we always inflate, but notice that living standards haven’t collapsed since 1950!).
Thankfully, someone close to Dr. Bernanke knows the difference. Paul Krugman has recently been highlighting the importance of being a currency issuer. Let’s hope he invites Dr. Bernanke back up to Princeton to clue him in on this important fact….
Cullen Roche
Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.
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210 Comments
bernanke isn’t stupid. sounds like his masters want a republican and austerity.
Cullen,
It is simple why he is worrying. If you cannot finance government expenditures through the markets via bond issuing then you must print cash and generate inflation. This will in turn make the cost of financing the deficit higher and the government will be forced to print more money. In principle, there is nothing wrong with that because US has the right of printing money. But in the longer term the cost of doing business in the US will increase due to rising interest rates and the economy will get into a serious recession.
Thus, you are right in that US can never default like Greece but deficits cannot grow forever because this will lead to high inflation and interest rates that will kill economic activity.
How do you guys type in italics on here? do you write in Word then cut and paste?
See italics section. Use em codes. http://www.ncsu.edu/it/edu/html_trng/basic_commands.html
1. Perhaps the Ben Bernank knows something the MMT folks don’t know ?
2. “”Issueing money is left to the whims of the issuer. But credit is an entirely different animal”. Source: Robert Prechter.
And credit (excluding student loans) is contracting. The FED issued lots of new money after 2008. But that money didn’t turn into too much new credit.
3. Yes, the US can issue a lot of new money. When (not IF) interest rates rise then those interest rates rise it raises the benchmark for the private sector as well. Corporate loans, mortgages etc. And then the US private sector is toast.
Maybe Little Ben is talking about the pressure deficits put on the banking system. And maybe it would be disastrous when the banking system picks up lending on top of the massive deficit accumulation causing incredibly high interest rates and mass inflation?
Good discussion indeed on here. But again, we must all know that BB realizes we are not Greece.
As far as Krugman goes, he has become more of a political shill than anything else.
I would have thought Ben knew that until he said our debt was unsustainable. He lost me there. Least he could have done is tell us when it goes over the edge and why.
Rick:
If the printing of money causes the cost of doing business to rise and interest rates increase, why would we have a serious recession?
What we need IS increasing interest rates. It will help savers, by increasing their income and allowing them to spend more, and still save.
IF the U.S. can poof money into existence as Robert Rice said, then we’ll just poof enough money to cover the increased interest.
Voila!
What about the debt principal?
Oh, don’t be silly!
Don Levit
I think one VERY IMPORTANT thing that MMT’ers have to get accross to the skeptics is that for all the deficit spending since 2001 or so, NOT 1 YEAR from 1997-2008 was our fiscal deficit higher than our trade deficit, meaning we were net-purchasing more stuff from overseas than we were gaining in new savings.
This is why our balance sheets still managed to be in such disrepair after/during 2008.
Deficit spending HAS to be looked at in context of foreign demand for our currency… Yes, they could send it back to us in demand for our goods, but that doesn’t sound too shabby at this point… and then and ONLY then we could raise taxes and our safety net spending would naturally significantly decrease.
The other thing is to stress that greenbacks AND treasury bonds are both simply two different forms of fiat government medium of exchange… one is simply more geared to being a savings instrument, while the other is more liquid.
I know this has been discussed, but I think those two things are really what’s causing a lot of confusion.
Does anyone know where we can find data regarding how many of the dollars lost to the trade deficit are used to buy assets in the U.S. and find their way back into the real economy?
read this story online; yeah, in terms of jobs guarantee, my guess is that it’s a no-go.
An economics professor at a local college made a statement that he had never failed a single student before, but had recently failed an entire class. That class had insisted that Obama’s socialism worked and that no one would be poor and no one would be rich, a great equalizer.
The professor then said, “OK, we will have an experiment in this class on Obama’s plan”. All grades will be averaged and everyone will receive the same grade so no one will fail and no one will receive an A…. (substituting grades for dollars – something closer to home and more readily understood by all).
After the first test, the grades were averaged and everyone got a B. The students who studied hard were upset and the students who studied little were happy. As the second test rolled around, the students who studied little had studied even less and the ones who studied hard decided they wanted a free ride too so they studied little.
The second test average was a D! No one was happy.
When the 3rd test rolled around, the average was an F.
As the tests proceeded, the scores never increased as bickering, blame and name-calling all resulted in hard feelings and no one would study for the benefit of anyone else.
To their great surprise, ALL FAILED and the professor told them that socialism would also ultimately fail because when the reward is great, the effort to succeed is great, but when government takes all the reward away, no one will try or want to succeed.
It could not be any simpler than that.
These are possibly the 5 best sentences you’ll ever read and all applicable to this experiment:
1. You cannot legislate the poor into prosperity by legislating the wealthy out of prosperity.
2. What one person receives without working for, another person must work for without receiving.
3. The government cannot give to anybody anything that the government does not first take from somebody else.
4. You cannot multiply wealth by dividing it!
5. When half of the people get the idea that they do not have to work because the other half is going to take care of them, and when the other half gets the idea that it does no good to work because somebody else is going to get what they work for, that is the beginning of the end of any nation.
Your professor did not understand Monetary Sovereignty. He thinks money going to the poor must come from the rich. Absolutely false. Federal spending is not supported by federal taxes (though state and local spending are supported by state and local taxes.)
So your professor, ignorant of economics, took money (grades) from the rich (high scorers) and gave it to the poor (low scorers), demonstrating he still is mentally operating in a monetarily non-sovereign economy. But the U.S. has been Monetarily Sovereign since August 15, 1971. Time for your professor to catch up.
Those who do not understand Monetary Sovereignty do not understand economics.
That’s been spread via mailing lists, etc. for…like decades.
snoops outed this bogus economics “lesson” quite some time ago – this was just a clever story to fool the idealogues with no brain to continue to give tax breaks to the rich (let the A students be handed the answers beforehand AND given extra credit so they can score more than 100%) while making the exam too confusing for 60% of the students to ever possible get a grade better than a D.
all one has to do to not be fooled…. 5 minutes worth of investigation
actually that’s not what i meant, i mean that there’s a psychology behind the story that is worth thinking about when we think about implementing things like jobs guarantee.
I’ll remember that important little parable when someone ACTUALLY proposes averaging a company’s wage bill over the entire workforce. Until then ….
Hello, I have 2 quick questions:
-would you say the same for a currency issuer whose currency is not the international reserve currency?
-the Eurozone, globally, could be a currency issuer. What are precisely the operational reasons for which it is not?
thank you for your daily comments, MMT is always helpful for the understanding of the US situation, but is not always as easy to use for others context.( I would take any comments from you on this last statement).
Having the world’s reserve currency is going to have an affect on how you operate your currency, but it doesn’t fundamentally change much. The government should not only be looking at deficit spending, but how much of it is leaving our shores in terms of trade deficits. A country with the world’s reserve currency is going to have had a lot of years, previously, of trade deficits.
Eventually that money may come back and our trade deficit will reverse. At that point, our government won’t need to run NEARLY as large of deficits to have a growing economy.
I’m not exactly sure what you mean by your Euro question, but the fact that they have a monetary union without a fiscal union wrecked the currency before it even got off the ground, for the same reason that countries went off the gold standard during the 1930′s.
Cullen, you probably know there is an ongoing POLITICAL debate in Europe right now, some people are saying that european governments have just to monetize the debt over the long term, and that it does not hurt to have public debt covered by the central bank,so at least the tax payers would spare the interests or would have them back under the form of revenues in the budget.
Do you thing there is some compelling elements against this conception? I would thing that in due course the absence of slack in the economie would turn all the money creation from the state into inflation and that the anticipation of agents would take over and fire a strong inflation, if not hyperinflation.
What do you think?
The last time gov debt/gdp was this high was in the 40′s. We were able to grow our way out of it, but I don’t think household or business debt/gdp was anywhere near the levels they are today. It appears from looking at charts of total credit market debt over the last 100 years that gov debt/gdp shrank from 1940′s until the 1980′s…..but at the same time household and business debt/gdp rose.
Total credit market debt/gdp (public and private) has declined in the last few years. Private debt has shrunk more than public debt has risen. We still we have been able to grow slowly though. Can it last?
This chart is scary….
http://www.creditwritedowns.com/wp-content/uploads/2011/09/Total-Credit-Percent-of-GDP.png
I am not predicting doom and gloom as my last post might suggest. GDP did grow from 1933 to 1952 at the same time that total credit market debt shrunk from around 300% down to 130%. So we can grow while overall debt contracts. Now I need to look into how we did it…..
Now I need to look into how we did it…..
A very large public works project that left a lot of people flush with cash. I think monetary policy also involved directly targeting yields on government bonds of various maturities.
Here you go Texan:
http://www.gold-eagle.com/editorials_08/amerman021209.html
I suggest all MMTers have a read (don’t panic that it is from a gold site, remember gold was backing the US dollar back in the 30s, so it is relevant).
Gary,
The link makes some decent observations and points, but overall it’s pretty juvenile. The idea that people are over-protecting themselves from deflation, and not inclucing inflation protection (debt & a home) is a bit of a straw man. Further, when the fed “prints money” it’s trading one form of fiat money (cash) for another form of fiat money (bonds). Think of govenment bonds as blue money that spits out green money every 6 months.
It’s deficit spending that truly creates this fiat purchasing power, not QE. Think about it, when the gov’t spends, only then is it really changing the financial balance sheets of the nation. Swapping cash for bonds is a non-event.
If the author doesn’t understand that, then he’s already WAY off the mark.
Any chance next time Gary that you link something that its a serious article and not an advertisment for someones investment course (that no doubt you pay for in fiat money) thank you
Texan,
Because we have purchased so many things from other countries, much of our dollars have left our balance sheets and gone to theirs. A society needs enough base money (M0 + treasury bonds in my definition of “base money”… yes, bonds are money) to operate efficiently. Ours doesn’t. Our economy is like a motor with an oil leak (trade deficit) that makes throwing a quart in (high deficit spending) every month necessary. This is incredibly cheap compared to letting the engine run with too-little oil.
Hi Dan hope you’re enjoying your Saturday. Saw your above post on CAD. Is it possible that money is still here for the most part but is parked in low velocity investments? That would require an increase in the federal deficit to make up for the ineffiency of the foreign owned dollars? I can’t say for sure just a thought.
If you take money from the rich and give it to the poor, normally it will end up again in the pockets of the rich who control production. This is not the problem of the US and the reason that socialism in the US won’t work is because if you take money from the rich and give it to the poor it will end up in China.
Case closed.
So the only people who should have money are the rich and the Chinese? Does it make sense that a poor American should support capitalism if he has no stake in it? I don’t think “Give everything to the rich” would be a very successful campaign slogan.
Or create an economy in which there are no rich (i.e. one in which money can only be acquired through working and not by having money).
The internet bubble was Fool’s Paradise version 1.0. The real estate/debt bubble was Fool’s Paradise 2.0. The current federal deficit/Treasury bubble is Fool’s Paradise version 3.0. That being said, Japan’s Fool’s Paradise has lasted for over a generation. The inflationists in the US have been wrong since 2008 because they do not understand that the debt bubble created many trillions of dollars that went into inflating asset values (rather than CPI inflation) that the Crash of 2008 has been trying to destroy and that the Fed is trying to prop up by creating yet more trillions of dollars. Once equilibrium is reached on asset values via the Fed’s money creation efforts, substantial inflation is the long term bet if money creation and 10% GDP deficits persist, and that is what I think Bernanke is getting at.
Right now, we have inflation in what we need and deflation in what we own, which is leaving us with about 2.5% CPI despite very strong current deflationary pressures on asset values. High single digit CPI inflation is one oil shock away. Inasmuch as such inflation will destroy debt, I wouldn’t be surprised if the current government welcomes it. There will never be another Paul Volcker; the US is a different country than it was in 1980.
And so what do you propose we do about an oil shock if OPEC simply uses their power to hike prices?
I do not have an answer. The Fed’s answer will be even more liquidity, which will make things worse.
I’m not clear why the fed would want to make anything worse, or what even they would or could do. I suppose they would want to stave off a recession and maybe that means more easing.
I’llHaveADouble,
“A very large public works project that left a lot of people flush with cash. I think monetary policy also involved directly targeting yields on government bonds of various maturities.”
I agree, but it was surprising to see gdp cut in half from 1929 to 1933 as total credit market debt doubled and then see gdp grow from 1933 to 1950 as credit market debt was cut in half.
I have naively assumed until now that US growth was more dependent upon credit growth than it actually is.
But that’s why credit market debt as a percentage of GDP doubled – GDP contracted by much more than credit market debt.
Healthy credit markets are important, but that’s not the same as suggesting the ratio of outstanding market credit to GDP needs to keep increasing – virtuous circles of increased income and increased spending should do the trick. It’s very compelling that the ratio’s explosion after 1980 coincides with the wealthy taking most or all of the new income being earned.
Ah yes….I need to remember the “as a percent of gdp” part. The correlation in these two charts confirm that we need healthy credit markets….
http://www.measuringworth.com/graphs/graph.php?year_from=1990&year_to=2010&table=US&field=NOMINALGDP&log=
http://research.stlouisfed.org/fred2/graph/?s1id=TCMDO
Second link didn’t work. Here are the correct ones.
Total credit market:
http://research.stlouisfed.org/fredgraph.png?g=4OW
Nominal gdp:
http://www.measuringworth.com/graphs/graph.php?year_from=1990&year_to=2010&table=US&field=NOMINALGDP&log=
Hey Cullen, you should probably refer to “the Eurozone” or “the Euro Area” rather than ‘Europe’. There are countries in Europe that don’t use the Euro and still have their own currencies.
This is a really basic question, but are you certain that governments only borrow, spend and tax in central bank money? No commercial bank credit involved?
Bamks create money when they make loans in modern banking. The note is the bank’s asset and the borrower’s liability, and the deposit created is the borrower’s asset. It’s sterilized money creation and not government spending.
From the link to Bernanke and things he has said recently, the reason he thinks that the “structural deficit is unsustainable” is so-called unfunded health care commitments and the impending retirement of the boomers. He apparently thinks that the supposed IGBC will prevent the government from funding these obligations even though it has the capacity to do so. So it is not exactly that he does not know what he is talking about. However, the premise of a putative IGBC is mistaken.
As far as the bond vigilantes go in provoking a “fiscal crisis,” he apparently didn’t get the message from the bond market when there was a good chance that the US renege on the debt at the time of the debt ceiling kerfuffle. There was not even a shrug, in spite of all the hand wringing from experts like Bill “who will buy the debt?” Gross.
It’s magical thinking about bogeymen under the bed resulting from misunderstanding of the fundamentals of monetary economics. Pretty shocking for a Fed chair.
If budget deficits are not sustainable then neither is an over-leveraged Federal Reserve.
Tom:
Regarding unfunded health care commitments, let’s take Medicare Part D as an example.
25% of the premiums are paid by beneficiaries, and 75% by general revenues.
This 75% is an immediate expense, and reflects on the budget.
Do you consider these current and future obligations as fully funded?
Don Levit
It is not about inflation it is about interest rates. Household and even financial companies need stable and low interest rates. The government must stay away; cut spending and raise taxes over time. A budget in check and in surplus allows for further credit expansion and the so called price stability Bernanke talk about.
so your answer is take money away from the private sector so that the private sector takes on even more debt? yikes.
Roy the Monetarist still seems to believe in the myth of “crowding out”.