BILL CLINTON’S ADMINISTRATION WAS AFRAID TO “PAY OFF” THE NATIONAL DEBT

NPR is reporting on secret discussions inside the Clinton administration back in the late 90′s when the government briefly ran a budget surplus (via Business Insider).  The Clinton economic team was building models to project when they could pay off the national debt and any potential risks associated.   His economic team was clearly confused by the predicament.  While they viewed the surplus as necessary, they were also bothered by some risks.  The report says:

“In the year 2000, the U.S. Treasury began actively buying back the public debt; we should all appreciate the tremendous achievement this represents for the Nation as a whole. As the previous section described there are good reasons for our current fiscal discipline and the public savings that accompany it to continue. We must realize however, that a sharp reduction in Federal debt and the possible accumulation of a Federal asset raises at least three important issues. First, investors looking for an asset free of credit risk can no longer count on an abundant supply of U.S. Treasury securities, and Treasury securities may no longer provide a reliable benchmark for other interest rates. Second, the Federal Reserve may have to change the mechanisms by which it conducts monetary policy. Third, continued surpluses after the public debt has been paid of f will require the Federal. government to acquire assets; either directly or though the Social Security Trust Fund. This raises issues about what kinds of assets might be acquired, and the best way to manage this task.”

It’s a rather bizarre and really a very embarrassing document for the Clinton administration.  It essentially shows how confused the Economic Council was with regards to the operations of our monetary system.  Whether it is the bizarre editing of the document and the uncertainty regarding some operations or just the flat out questioning of their surplus to begin with.  The one thing we can confirm is that the Clinton surplus was an utter disaster.  I won’t rehash my past story on this in its entirety, but for the uninitiated:

“What happened next directly contributed to the current malaise in the US economy.  If we look at the sectoral balances we can see exactly what the Clinton surplus did.  As the US economy was running a current account deficit in excess of 2% in the mid 90′s the US government began to shrink the deficit.  This wasn’t entirely misguided, however, it was taken to an extreme.  As the current account remained steady near 2% the government’s balance continued to shrink and went positive in 1999.  All the while the domestic private sector is being driven into deficit.  Why?  Because the government was not spending enough to allow the domestic private sector  to net save.  So what happens as Americans attempt to counteract this?”

“They fund their lifestyles in other ways.  This means going into debt.  As you can see from household debt levels Americans were taking on an increasingly large amount of debt in order to sustain their lifestyles.  We all know what happened in 2000 as the dotcom bubble burst and the economy was thrown into a tailspin.”

Yes, the “fiscally prudent” Clinton surplus was actually a disastrous economic strategy given the balance of payments at the time.  But even more disturbing in this document is the repeated comments about needing to fund the future spending of the US government.  The very highest economists in our government appeared oblivious of the fact that the USA is a currency issuer completely autonomous in this currency and having no outside funding constraint (as in an inability to create money). They said:

“Regardless of how the Fed proceeds, by 2012 the public debt will be retired according to current projections, leaving the government with net receipts above its expenditures. In order to deal with financial obligations mid century, the government may choose to save, and indeed invest this surplus.”

They really think they have to “save” before they “invest”.  They were (are) working entirely under a convertible currency paradigm where they believed the USA can “run out of money”.  Contrary to popular opinion, an autonomous currency issuer in a non-convertible floating exchange rate system does not have a solvency constraint like a household or business does.

The monetary operation discussion is equally bizarre.  You would have thought that this would make the Clinton team reconsider their actions.  After all, when one plays this whole scenario out they must reconsider their premise to begin with.  If eliminating the government’s debt results in reduced instruments for private sector saving and an alteration in the Fed’s operations then perhaps the convertible paradigm they were thinking under was not exactly correct?  But it never dawned on them that the government’s debt was merely the private sector’s savings and not some funding source.  Eliminating the debt was the difference between giving Grandma a checking account and a savings account.   Furthermore, they never fully recognize that Fed policy could still be achieved without issuing bonds.  They see the elimination of the Treasury market as some great risk to monetary operations.  Now we know this is nonsense as the Fed can achieve monetary policy via interest on reserves.

The whopper in the piece is a fairly random comment about the financial industry in general:

“The financial services industry has grown tremendously in this country over the past eight years, and done a very good job ofhandling growth and the increased risks that accompany it.”

No comment needed after that one.  This is all just more evidence that our leaders lack a coherent and complete understanding of our monetary system (as well as the true risks associated with it).  It’s a frightening reality and no one should be surprised that we are in the mess we’re in today given these basic mistakes.

* Update – Title changed due to semantic reasons.

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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  • Jose

    Continued surpluses would have meant the government acquiring private sector assets (debt and equity) and a fully state owned economy at the end of the process.

    The logical implication of neo classical austerity is a socialist economy.

    Mainstream economics is simply pathetic. In a rational society people would have stopped paying attention to this body of thought (?) long ago.

  • Peter D

    The level of economic understanding among the nation’s economic elite is just frightening. That people don’t understand that for each transaction there needs to be two sides and that govt surplus HAS to mean somebody else’s deficit (who wold that be, Martians?) is just unbelievable.

  • Jose

    Don’t worry about economic ignorance in the U.S. – it’s even worse in Europe.

  • Noel

    Cullen,

    You wrote “budget deficit” in the first sentence of the first paragraph. Didn’t you mean “budget surplus”? Not trying to be critical… Just don’t want people getting confused. This is damn important work you’re doing here, man! Please keep it up!

  • perpetual neophyte

    I was just re-reading “Can Goldilocks Survive” by Godley and Wray (circa 1999) this morning. Pretty surreal.
    http://www.levyinstitute.org/pubs/pn99_4.pdf

    Does anyone know if the data for the sectoral balances is publically available (e.g. via the St. Louis Fed)?

  • Different Chris

    I’m only 7 pages into the actual document and at least twice the author has stated that the national debt would be retired by 2012 based on the plan at that time.

    Scary.

  • Peter D

    “Does anyone know if the data for the sectoral balances is publically available (e.g. via the St. Louis Fed)?”

    You can extract it from the NIPA tables:
    http://www.bea.gov/national/nipaweb/SelectTable.asp?Selected=N#S5
    I did it once – I’ll see if I can upload it somewhere. Stephanie Kelton/Scott Fullwiler also has a spreadsheet floating somewhere but I remember their numbers were slightly off from the NIPA ones.

  • Peter D
  • pebird

    Yes, should be “briefly ran a budget surplus”.

    The baby boomers were in their prime income years, driving the SS surplus, the dotcom and Y2K spending (corporate spending funded by private debt) was at its peak and the consumer was moving to a net private debt position. As I recall, net of Social Security the government was basically running a balanced budget for a while.

    This is one of the best examples of the government position being an outcome, not a cause. It is a comedy/tragedy reviewing the neoliberal response – as if the situation would last forever and they could take a victory lap when they retired the national debt. Greenspan finally told them that the private sector requires a risk free savings option (he was right sometimes, that blind squirrel).

  • Cowpoke

    MMT sure has a Matrix feel to it. Everything we are living under with regards to economic policy is not based on reality.

    Cullen is like Neo……………….,.,.,>
    .,><><
    …,><.,<
    ^%&^%&^%&%&%&^%&$$#%$
    &^%&%&^% &%^&^%^&&^
    $##$@#$@

  • dimm

    I listened to the NPR interview and the author said it was NEVER PRESENTED to the administration. Mostly he wrote it and NOONE of significance saw it.
    So no, Bill Clinton was not worried about that.

  • dimm

    It is even in the article:
    “The report was intended to be included in the official “Economic Report of the President” — the final one of the Clinton administration. But in the end, people above Jason Seligman decided it was too speculative, too politically sensitive. So it was never published.”

  • F. Beard

    Furthermore, they never fully recognize that Fed policy could still be achieved without issuing bonds. Cullen Roche

    So far so good. A government should NEVER borrow money. To do so makes the government the gun-totting collection agent for one group of people (typically the rich) at the expense of another group (typically the non-rich). Or if a government is monetarily sovereign it is an even more absurd gift to the lenders.

    They see the elimination of the Treasury market as some great risk to monetary operations. Cullen Roche

    Why? Can’t capital requirements on the banks be changed instead? Why the heck should the government provide a risk-free return to the banks?

    Now we know this is nonsense as the Fed can achieve monetary policy via interest on reserves. Cullen Roche

    More fascism except now through the central bank. Another free gift for the banks.

    Our country is “of the people but by the banks and for the banks.”

  • http://www.pragcap.com Cullen Roche

    Right. His Chief Economic Advisors thought about this “16 hours a day” and never brought it up to the President. Dimm, your political blinders are stunning some times.

  • Dismayed

    “I was just re-reading “Can Goldilocks Survive” by Godley and Wray (circa 1999) this morning. Pretty surreal.”

    Wow. Thanks for the link. So much fir the argument that no one could have seen this coming!

  • http://www.consideratecapitalist.blogspot.com WellRed

    Cullen,

    I certainly think you are on to something with this MMT stuff. It makes perfect sense that for every borrower there must be a saver, but I am confused why when the US government ran a surplus, the spending was forced upon the private sector. Why is it not possible for both the private and public sectors to be net savers simultanously and have these exported via the capital account?

    Any response would be greatly appreciated.

    Regards,
    WellRed

  • f

    Does MMT works for Japan? China… Or it just works for USA?

  • http://www.pragcap.com Cullen Roche

    Yes, thanks.

  • http://www.pragcap.com Cullen Roche

    WR,

    We know that the sector balances must equal 0. This is an accounting identity that cannot be refuted. So:

    (I – S) + (G – T) + (X – M) = 0

    Our foreign balance is and was negative. When the govt goes into surplus it HAS to become the private sector’s deficit. If you think of the US economy as a bath tub it’s like having a leak in the side (foreign sector) and a surplus is like the drain running without the faucet being on to offset it. Our bath tub basically had a gaping hole in it. In trying to run surpluses the currency issuer basically stopped filling the tub that only they can fill. The result? A smaller amount of water in the bath tub (until the pvt sector tried to offset the decline by taking on debt which obviously ended in disaster). So, here we are. Shrinking economy, huge economic contraction, decade of malaise….

    It wasn’t all Clinton’s fault (there are many more moving parts here), but he played a big role in it….

  • Wulfram

    Our leaders suck. The Senate decided to approve legislation to increase the conforming loan limit on Fannie and Freddie loans back to the original (increased) limit. Subsidized debt is just what we need to get out of the balance sheet recession. So much for learning our lessons.

  • Pierce Inverarity

    MMT is an accurate description of the monetary workings of the USA, Japan, the UK, Australia, New Zealand, Canada, Norway, Sweden, Switzerland, Mexico, and a handful of other countries I am overlooking. Any country that is the monopoly issuer of its own currency, in a free-floating, non-convertible exchange rate system. China pegs its currency to the USD, so, no, it doesn’t describe China’s system per se. Once you understand MMT, though, its basic precepts will allow you to better understand the mechanics of other monetary setups and the advantages/disadvantages these may have.

  • dimm

    First it is one of them that claimed to think about this for 16 hours a day. He is the one that mostly worked on the report.
    Second he is not a Chief economic adviser, just a guy that makes reports that the Chief Economic Advisers read.
    Third the Chief Economic Advisers and Clinton never saw the report.
    So your title is factually wrong again. It is pure nonsense.
    What you say inside might be correct, but you get there with a lie.

  • F. Beard

    It makes perfect sense that for every borrower there must be a saver, WellRed

    True except when it comes to banking. Banks create so-called “horizontal money” (better known as “credit”) in exchange for a promise to repay that money plus, of course, interest.

    If only what you said was always true! Instead, we have a government backed/enforced counterfeiting cartel creating most (97%?) of the nation’s money.

    Usury and counterfeiting is the basis for our money supply.

  • f

    1. American owns 100% US government debt and foreigners owns 0% US government debt.
    2. American owns 95% US government debt and foreigners owns 5% US government debt.
    3. American owns 50% US government debt and foreigners owns 50% US government debt.
    4. American owns 5% US government debt and foreigners owns 95% US government debt.
    5. American owns 0% US government debt and foreigners owns 100% US government debt.

    A. From accounting point of view, is there any difference between above 5 assumption?
    B. From non-accounting point of view, is there any difference between above 5 assumption?

  • plain jane

    I guess what I don’t understand is… where do normal, reasonably educated people think “money” comes from, anyway? I was talking to a guy the other day who said the economy had to be driven by “real, private” dollars, not “the fake stuff the Treasury prints.”

    What was he talking about, money that the banks lend to consumers? But then wouldn’t he also turn around and say that excess, reckless private borrowing is to blame for our current malaise?

    So confusing.

  • Bruce

    Peter D,
    Thanks! Talk about ask and ye shall receive! BTW, I really appreciate all that you contribute to this blog.

    Cullen, unfortunately I’ve gone from eyes wide shut to wide open; which can be a bit frightening at times when you see fools behind the wheel. Keep up the good fight and keep giving me ammunition to refute the Gold Standard / Ron Paul is a living deity crowd at work (who are stock-piling guns and medicine for the collapse that we need to cleanse the country).

    Regards,

    Bruce

  • Pierce Inverarity

    You’ve been on a nitpicking rampage this past week. What’s going on?

  • casanova

    I wonder how long before Cullen calls Denninger an idiot who understands nothing…

    http://market-ticker.org/akcs-www?post=196248

  • Different Chris

    It is astounding how no one ever learns the lesson. Not necessarily that MMT is the accurate description of the system, but something simple like their assumptions and pre-conceived notions are not giving the results they should, so they should realize there is something inherently wrong with their view and models.

    The status quo is a powerful force in politics.

  • dimm

    Did you listen to NPR or read the piece?
    “BILL CLINTON WAS AFRAID TO “PAY OFF” THE NATIONAL DEBT”
    True or False?

  • http://www.pragcap.com Cullen Roche

    Karl buried himself when he compared the USA and Greece. He doesn’t even understand the most basic differences between our monetary systems. He’s been screaming about our imminent bankruptcy for years. It’s even worse analysis than the hyperinflation hyperventilators. They at least MIGHT end up being right at some point…..

    http://pragcap.com/discussion-forum?mingleforumaction=viewtopic&t=191

  • Different Chris

    Peej,

    Sounds like this person is talking political rhetoric not economics or monetary policy.

  • http://www.pragcap.com Cullen Roche

    I’m a little stunned that you could be so naive to believe that the President would not consider the possible ramifications of his surplus given the fact that his economic advisers were so broadly discussing this. You can see the email chain in the document. It is sent to many on Clinton’s council of economic advisers.

    You’re letting your politics cloud your judgment.

  • Pierce Inverarity
  • Pierce Inverarity

    “If only what you said was always true! Instead, we have a government backed/enforced counterfeiting cartel creating most (97%?) of the nation’s money.” Citation? I’m genuinely curious about the banks’ horizontal money effects.

  • dimm

    Cullen, I pointed the errors in your piece and you still insist to be right. Clinton did not read the report. His advisers did not read the report. There is absolutely no hint that he ever discussed that point with anyone.
    So read the article again and tell me with one word:
    “BILL CLINTON WAS AFRAID TO “PAY OFF” THE NATIONAL DEBT”
    True or False?

  • dimm

    BS answer. Based on the info in the NPR piece. True or false ?

  • http://www.pragcap.com Cullen Roche

    You’re being naive. Baily was on the email chain. He was the Chairman of the Council during this period. It’s utterly naive to believe that Clinton’s top economic adviser was reviewing the effects of the surplus and never discussed this with Clinton. In fact, it’s entirely unfathomable.

    Martin Neil Baily is an economist at the Brookings Institution and formerly at the Peterson Institute. He is best known for his work on productivity and competitiveness and for his tenure as a cabinet member[1][2] during the Clinton Administration. He was one of three members of the Council of Economic Advisers from 1994 to 1996, and chairman of the Council from 1999 to 2001.

    Maybe the headline should read: “The Clinton Administration….” But we’re really nitpicking…..

  • Pierce Inverarity

    I don’t know why beowulf and I have to keep combating you on proper English usage. And I really don’t understand the point you’re trying to make by attempting to tear Cullen apart semantic point by semantic point.

    It is perfectly acceptable for an author to use Dr. when referring to a medical doctor vs. a PhD (or other academic), and it is perfectly acceptable to refer to the President’s administration by the President’s name alone. This is common practice, and it’s called synecdoche.

  • dimm

    It is you claim. You wrote the title and you refuse to answer if what you said is true or false. Obviously it is false.
    You promote MMT and complain that in general people do not want to consider and acknowledge if when they are wrong. That is true. But it seems you are part of the same group now.
    So one word Cullen. True or False and we can stop with this silliness as you say.

  • dimm

    I never pretended to have perfect English. English is my 3rd language so I apologize if for all errors that I make.
    The Dr discussion is in the other post. Nothing to do with this.
    But, I see you are still dodging the question.

  • http://www.pragcap.com Cullen Roche

    There’s nothing unusual about referring to the actions of the Administration to the President. The buck stops at Bill, but you seem to think he was in the dark about the absolute most important economic development during his Presidency. You also seem to think he didn’t discuss these important matters with his top economic advisers. So yes, if we live in the naive world of Dimm, then you’re right and I am wrong. But the only problem with this theory is that Bill’s State of the Union in 1999 discussed this exact point. He was obviously well aware of the surplus, thought it was a good thing at the time and I am 100% certain his advisers would have raised any concerns. To believe otherwise is absurd:

    “For the first time in three decades, the budget is balanced. From a deficit of 290 billion in 1992, we had a surplus of 70 billion last year AND NOW We are on course for budget surpluses for the next 25 years.”

    So yes, if we close our eyes and ears and shut off our brains, you are 100% right.

  • http://www.pragcap.com Cullen Roche

    No one’s dodging. You have a political axe to grind again. Give it up.

    This conversation is pointless…..

  • http://www.pragcap.com Cullen Roche

    I altered the title Dimm. You can sleep soundly tonight knowing that Bill Clinton was the greatest President of our lifetime. Or not…..

  • F. Beard

    The 97% figure I recall from Ellen Brown’s “Web Of Debt”. Also, US minimum capital requirements for banks is 3% according to http://wfhummel.cnchost.com/capitalrequirements.html.

    As for horizontal money creation in general, I believe Steve Keen’s “The Roving Cavaliers of Credit” ( http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/ ) is a good place to start.

  • dimm

    Thank you. That makes more sense.

    “Baily was on the email chain.”
    The article mentioned Jason Seligman.

    Any source for Martin Neil Baily link? Thanks

  • Pierce Inverarity

    Seriously? Everything you just complained about above was because he said “Bill Clinton” and not “Bill Clinton’s Administration”? I can’t believe you, Cullen and I wasted so much time on this. Patently absurd.

  • jswede

    I stopped reading Denninger a few years ago when he wrote a blog post regarding the Fed’s mortgage portfolio — he screamed for resignations and criminal charges bc in one year (2006?), 97% of MBS purchases by the Fed were Option-Arms.

    Only he read the chart wrong: in that one year, they bought 97% of their Opt-Arm holdings, which amounted to <1% of the total portfolio.

    He never revisited the post, replied or corrected anything after I pointed that out to him. On to the next dose of outrage – 100% vitriol, less than 100% factual.

  • Ted

    I see that Warren Mosler has run for office recently. Is there any way to get him on the ballot for the Americans Elect (Internet-based) ballot for 2012? I’m guessing an organized effort from everyone on here could make some noise and get MMT some additional pub…

  • F. Beard

    Citation? Pierce Inverarity

    Bernanke’s expansion of M0 in the last four months of 2008 has merely reduced the debt to M0 ratio from 47:1 to 36:1 (the debt data is quarterly whole money stock data is monthly, so the fall in the ratio is more than shown here given the lag in reporting of debt). from http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/

    Steven Keen is talking about base money (MB) even though he calls it M0 (He’s Australian). So the ratio of credit to base money was 36:1 in 2008 according to Steve Keen.

  • Kristjan

    What is the financial stability argument worth in MMT opinion?
    I asked Warren about the public debt issue arguing that It enables private sector to save inflation free and risk free. He said It’s ok to have public debt for that purpose if It is desired. At the same time Cullen is writing all the time how QE might create speculative bubbles, and then there is this MMT idea that would pay off the entire debt by key stroke.

  • Austin

    Some ramblings…

    If the Treasury runs a surplus, the private sector can either borrow, spend their savings, or sell assets to offset the surplus (I’ll leave 401k and pension assets out of the argument.) The private sector is not forced to borrow.

    Government surpluses normally occur during periods of strong economic growth. In a robust economic environment interest rates tend to rise and interest rate spreads compress, which produces an almost perverse incentive for individuals and businesses to borrow even though they may have enough cash saved to offset the surplus.

    During a BSR deficits are high, interest rates are typically very low and interest spreads (for consumers and SMBs) are high. Excepting gimmicks like ‘Cash for Clunkers’, households find the relative cost of borrowing excessive, and choose to pay down debt or save. Small/midsize businesses crunch the numbers and postpone expansions and other major projects due to insufficient ROIC.

    My point is that there are a number of dynamics at play, and that some side effects of large deficits (low interest rates, large spreads, etc) exacerbate the downturn. GE can sell debt publicly and profit from the low rates. SMBs, not so much. And Congress is doing its part to extend the recession by eliminating interest deductions, reforming bankruptcy laws and making student loans unforgivable.

  • El Viejo

    Science / Economics too.

    The whole burden of proof on the new guy thing I guess.

    It’s hard to evict the old guard.

    But then my accountant says, “The best revenge is living well.”

  • Wantingtoretire

    Thanks for the post, I hadn’t got medicine on my list………….

  • Different Chris

    “The best revenge is living well.”

    Good advice from the Talmud.

  • Captain REALLY REALLY Obvious

    Exactly. Most anyone can get their heads around a trade deficit/surplus — one country’s deficit is another’s surplus. But they can’t apply that same logic, one level down, to our federal deficit/surplus. And I will admit, I was one of them. It just never occurred to me until I found my way to PragCap. And all it took was someone pointing it out and within a couple of minutes on my first visit here, a massive dot-connection process began (I OWNED at those kind of games as a kid). And while it took quite a bit longer to sort through all the details, it answered many obvious disconnects in popular thinking with one big DUH.

    And I was NEVER sold on the whole household analogy. Other than recognizing revenues and the government’s ability to spend are RADICALLY different, yes, HH and Gov are exactly the same. I understood that the large deficit was a direct result of a hard-hitting recession. It’s just basic math. And that the role of the government during downturns was to maintain the long-term vision of the country and ride out the wave (since history has shown they can) while not gutting things like SS, education, and safety nets in the process; that putting people back to work largely (but not wholly) resolves much of this.

    And you want to balance the budget? Eliminate economic cycles and moved to a planned economy. I had the right answers, but wrong reasons. I just never realized, at the most fundamental of levels, how simple it really all was.

  • Detroit Dan

    Who is the private sector going to sell assets to? Obviously, selling assets to others in the private sector only moves around financial assets and does not offset a Treasury surplus.

  • JWG

    I recall reading in the late 90s about government speculation as to the possible positive and negative economic effects of retiring the national debt. The prevailing logic was that taxes could not be reduced to eliminate the surplus effects because future surpluses and federal “savings” would be needed to “fund” Social Security benefits for the boomer generation. Of course President Clinton was aware of this; if I was reading about it in the NYT and WSJ it was certainly no secret.

    After 9/11 and the internet bubble produced a serious recession, George W. Bush was crucified for those evil “Bush tax cuts” that “destroyed the surplus” by the same hacks who now complain that the Obama waste-a-thon wasn’t big enough. I have heard from those in the business that government funded infrastructure contract pipelines are and were thin and are now getting thinner in my region. A trillion dollars in stimulus spending could have changed America for the better for generations; instead it was wasted. FDR would be weeping right now.

  • Matthew

    Mr Roche

    There is a possibility you are mistaking the cause and effect regarding Clintons Surpluses. I read your Aug 5, 2011 MMT Paper, and you say Clintons Surplus (having caused a decrease in the money supply) caused the private sector to borrow to fund their lifestyles (the effect) and thus resulted in bankruptcy and recession. From an Engineers point of view, it is possible that excessive private spending by the private sector (even spending money they didnt have) caused an increase in the money supply, and Clinton rightly reduced the money supply to fend off inflation (his surplus, and paying off the debt). Then, as the spending capacity of the private sector ran out (as you point out they can not spend indefinitely like governments can) for an instant both government and the private sector were not spending very much, so bubbles burst, causing a self fulfilling recession (as all recessions seem to be). All recessions may be caused by this as the government would have to change course and begin running a deficit again BEFORE the private sector ran out of spending capacity to avoid a recession, but it is hard to predict this point in time, and would infact cause a moment when both government and the private sector were both largly spending pushing the potential bubble larger. It doesnt make sense that government surpluses would force the private sector to borrow money. It does make sence that the public will choose to borrow money, and then run out of credit.

    I think it is telling, that you dont mention this possibility. That your cause and effect may be reversed.

  • jesuslizard

    correct me if I’m wrong, but it is not my understanding that the private sector has the ability to increase the money supply.

  • Peter D

    >>It doesnt make sense that government surpluses would force the private sector to borrow money.

    I wonder why you think that. If the private sector in aggregate runs down its net financial assets, it is possible that some actors would feel it more than the others and would try to compensate the lack of assets by borrowing. It wouldn’t affect the private sector’s net position but it would cause more instability than otherwise.
    I agree in general with your comment and indeed not sure it was Clinton’s surplus that was the primary cause for the mini recession that followed, but I am not sure about this point of yours.

  • The Missing Link

    I agree Matthew as I’ve been tossing around the same thoughts. Hindsight is always 20/20. So in that respect, I find this piece a bit disingenuous. Who exactly is in the driver’s seat or who is supposed to be steering, I don’t know. I think though, the broader message is that it’s clear the Clinton Administration didn’t have a clue as to what was going on. They just sort of fell into it, as they scrambled to figure out how to “message” it while scratching their heads at the same time. THAT is the worrisome part.

    And that’s the tricky part about MMT. At least for me, and as you point out, how to proceed once we approach a surplus. What is the on/off switch trigger? Good news is that we are nowhere near this “predicament” right now. Bad news is that our current leadership has no better understanding of how our economy and monetary systems works. But it’s a discussion I’d more than welcome outside of the debates we are seeing now.

  • The Missing Link

    Haha, poor Matthew just got piled on. Peter D, take the wheel!

  • beowulf

    You know, that’s actually a big problem, the US govt collects data on EVERYTHING and yet its not packaged in a way to provide useful information to policymakers.
    The BEA should issue an updated sectoral balance report and chart quarterly (if not monthly) and the CBO should incorporate the same into their budget projections, its ridiculous that the most informative economic projections are the Strategic Analyses the Levy Institute releases once or twice a year.

    Earlier this evening, I was trying to figure out how much tax-deferred retirement savings there is every year since the tax inducements for contributions and the tax penalties for early withdrawal makes them de facto compulsory savings (“In 1940 Keynes put forward the idea that, instead of raising taxes, the government should require compulsory savings contributions from all taxpayers.”).
    http://www.telegraph.co.uk/finance/recession/6789027/Compulsory-savings-contributions-would-soften-the-blow-to-the-taxpayer.html

    Best info I can find is the govt loses $184B a year in tax revenue, If we assume the average tax rate is between 20% and 25% for taxpayers who take advantage of these plans, $560B and $710B a year. Every dollar of which is a demand leakage (about the same size as the trade deficit demand leakage, which itself will require a Real Buffett Rule market to fill) and yet it doesn’t seem to be tracked on a consistent basis, hell it doesn’t even have a specific name. But its something worth pinning down, since “long-term savings” (let’s call it that) and federal public investments ($600B this year) could be paired off in a “national investment account” (so long as public investments are less than long-term savings, take it off-budget).
    We could cut the deficit by $600B (or at least $560B) simply by properly accounting for the AD effect of de facto compulsory savings. But since the necessary numbers aren’t easily available, no one’s made that case before.

  • alex

    There is no difference on the Treasury’s/Fed’s balance sheet, but there is obviously a difference in the domestic private sectors net financial assets. Overall though, there is no difference in the total non-government sector’s (domestic + foreign) balance sheet. So, essentially there is no accounting difference, though there are economic implications.

  • alex

    I wouldn’t worry about Warren Mosler running for office. Not that I don’t think he’d be good – I bet he would – but I believe he lives in the Virgin Islands and pays super low tax rates. Anyone that does that is going to get torn apart in politics.

  • John Armour

    WellRed at 10/21/2011 11:41

    “but I am confused why when the US government ran a surplus, the spending was forced upon the private sector”

    That’s a question about the sectoral balances, and whilst Cullen’s reply was quite correct, I think, if you’re a newcomer, you might benefit from reading a recent post on the subject by Prof. Bill Mitchell.

    “When an Excel spreadsheet runs wild”

    http://bilbo.economicoutlook.net/blog/?p=16557#more-16557

  • Gary_UK

    “First, investors looking for an asset free of credit risk can no longer count on an abundant supply of U.S. Treasury securities, and Treasury securities may no longer provide a reliable benchmark for other interest rates. Second, the Federal Reserve may have to change the mechanisms by which it conducts monetary policy. Third, continued surpluses after the public debt has been paid of f will require the Federal. government to acquire assets; either directly or though the Social Security Trust Fund. This raises issues about what kinds of assets might be acquired, and the best way to manage this task.”

    Re the first issue mentioned above, those investors should buy some gold.
    Re the second point, so what, change the mechanism.
    Re the third point, continued surpluses would just enable the tax rates to be reduced.

    Sounds like 3 non-issues to me.

  • Giledain

    Let it not be said that MMT is as easy as ABC :-)

    I kid, a little. Certainly, after some thought, the concept of gov’t deficit mirroring private sector surplus and vice-versa becomes intuitive; as indeed does the reminder that government backed by a sovereign currency is not to be equated to a household (unless it be a household running a printing press in the basement).

    But to my mind the truly thorny issue is determining exactly how government deficits should be structured to provide maximum benefit to society at large. Higher taxes and even greater spending? Little to no taxing and a “budget”, while in deficit, more akin to those of a century ago, pre-New Deal?

    What constitutes misallocation? It is easy to cry “bloated military appropriations!”, “entitlements run wild!” etc but oftentimes the concept of misallocation would seem to be in the eye of the beholder. Just as one person’s meat is another one’s poison, so is one person’s bootstrapping program a welfare giveaway boondoggle to another.

  • F. Beard

    What constitutes misallocation? Giledain

    How could a just system produce misallocation to any great extent or for any long time?

  • Giledain

    Which requires us to define “just, injust”, one of the thorns :-)

  • F. Beard

    If justice is too hard, then how about philosophical consistency?

    So what is philosophically consistent about a government enforced/backed money cartel for private debts in a so-called “free market economy”?

    Nothing? Precisely.

  • Giledain

    Some here might feel it’s a little premature bringing up the issue of budget appropriations given how many policy makers seem oblivious to the realities of the modern fiat system. My assumption is that the truth will out, sooner or later, however much damage is inflicted. In the meantime, there are movements afoot, at least in the US, intent on rolling back government to a (mythical?) point in the past when citizens went about their business untrammeled and all was well with the world; and so I struggle to determine in what measure MMT can be applied, if at all, to this very basic question of how much central spending and in what form.

  • Giledain

    No philosophical continuity, no. But this assumes that the government and its cartel agents are believers in “free market economy” as opposed to lip servicers. Long after most Roman citizens ceased to take the old gods seriously, offerings were still being burnt across the empire.

  • F. Beard

    and so I struggle to determine in what measure MMT can be applied, if at all, to this very basic question of how much central spending and in what form. Giledain

    First, the entire population should be bailed out of all debt to the counterfeiting cartel, the banking system. This could be done in a just manner without price inflation if further counterfeiting (so-called “credit creation”) was banned and if the entire population, including savers, were sent equal bailout checks metered to just replace existing credit as it is paid off.

    The above would go a long way to restoring the economy in the short to medium term and thus reduce the need for government spending. For the longer term, government money should only be legal tender for government debts. This would allow government to spend freely without damage to the private sector.

  • Giledain

    Would you not agree that a lot of people got themselves into debt unnecessarily? In other words, the fault is more theirs than the counterfeiters’? Perhaps it’s hopelessly old school but I remember my father stessing at every opportunity the dangers of borrowing. To this day I’ve never had a credit card and am as solvent as an average guy can be in this day and age.

    On the other hand, the world is clearly drowning in debt; perhaps a moratorium is in order to facilitate coming out of the balance sheet morass? Followed by a serious reappraisal of the system, yes.

  • F. Beard

    Would you not agree that a lot of people got themselves into debt unnecessarily? Giledain

    The alternative to borrowing from the counterfeiting cartel is to be priced out of the market by those who do borrow. Honest saving is precluded by negative real interest rates, particularly in housing.

    On the other hand, the world is clearly drowning in debt; Giledain

    Even monetarily sovereign governments! Even though a monetarily sovereign government can always pay debts owed in its own money, the purpose of government is not to provide a risk-free return to some at the expense of others.

    perhaps a moratorium is in order to facilitate coming out of the balance sheet morass? Giledain

    A moratorium is necessary during the bailout period to keep the money supply constant. Afterwards, when banking becomes a purely private business, the moratorium could be lifted.

  • Ted

    Question for you, Peter – What would be the ideal path for the US going forward in regards to these sectoral balances?

    My guess would be to reduce the trade deficit, which in turn would reduce the government deficit. I’m guessing it would also be good to have a small private sector surplus similar to the 50′s and 60′s, no? Is there any advantage to having all 3 sectors equal zero?

    Clearly the quality of the government spending plays a major part in our prosperity, correct? Having the government invest in highways, high speed rail, or faster internet for example would be better than paying people to sit around and email resumes to prospective employers.

  • Rick

    Interesting discussion…

    Mr. Cullen, what do you think of the following?

    As you have pointed out already, China has very few choices with the dollars it gets as a result of the huge trade surplus with the US. If they try to exchange those dollars in the forex market, for Euros let us assume, the dollar will collapse and they will be forced to devalue their currency. Thus, a plan for Chinese growth should carry guarantees that they should be able to invest the money in US bonds, a savings account as you say with the US.
    Now, a US government running a surplus would be a barrier to Chinese growth. No issue of bonds would mean there would be no place for China to invest the money. By running deficits and financing them with bond issues, US allowed the explosive growth of China essentially. What is your opinion about this?

    As you have said – if I understand you correctly, – the US can operate without issuing any bonds. In that case, there would be no gains for primary dealers, banks and others from the trading of these bonds but also there would be not enough securities of AAA rating to use for liability matching for insurances and pension funds.

    I think there is a lot of politics behind the monetization of debt. But I also think it is very difficult to separate politics from economics in the world.

    Thus, I think MMT is a model that does not represent how and why economic decisions are taken when there are many players and some type of equilibrium must be reached between competing objectives.

    I think you look at the US in isolation. In that case MMT could be a good model. But as long as big players emerge that have the power to negotiate the economic policy (G-7, G-20, etc.) it is not a proper model anymore.

    What do you think?

  • http://deltafinancials.com Delta Financials

    Those identities, by definition work equally in every direction.

    So, (I – S) + (G – T) + (X – M) = 0 isn’t particularly insightful in itself. It’s just a dull old economic identity. The thread that ties it all together in my view is NOT Clinton era surpluses in themselves, but what interest rates have done throughout this time. X – M being negative certainly isn’t a coincidence. Low rates encourage consumption over savings; savings have been too low and subsidized consumption has been too high (a mechanism that feeds on itself unchecked because capital inflows drive rates even lower).

    The implication of negative real rates is that I > S, which is where the I – S bit fits in. That in turn, fuels the X – M staying negative. So, rates should have been high enough to maintain a balance between I & S; if that were true, the net impact of a budget surplus would simply have been a corresponding current account surplus. Instead, artificially low rates have distorted the market for years. A consumption based economy is at some stage a bubble economy, unless its the product of excess savings for decades and low natural rates as a consequence.

    It’s what’s behind the identities that is far more interesting than the identities themselves, in my view. And interest rates as the guiding principle behind those components is theoretically valid. Thoughts, Cullen?

  • The Missing Link

    I definitely agree with the challenges of implementing the most efficient solutions. But this whole idea that households and governments are exactly the same and that we need to balance our budget needs to go away. And pronto. In our nation’s history, how many times have we run a surplus? I don’t have those numbers (because I used facts sometime in 2008 and they are WAY overrated) but I am confident it’s not been even close to the norm. And why do people get to scream about the government printing money on one hand and then claim we are broke on the other? Usually in the same sentence. Why did tax cuts work for one administration and spending increases for another? In this respect, the two political parties really aren’t as far apart as they seem, if only they could learn the ABCs. And I DO expect it to be THAT easy for people to grasp these concepts when they choose to RUN this country.

    As I am thinking of the the national debt. How many times have our children actually paid that down? And what happened when it hit its first trillion? And doubled after that, and after that, and after that…well, you get the idea. All the while the bonds markets truckin’ along without so much as a hiccup. And Social Security is a Ponzi scheme. Fine. But you have to admit it’s a helluva good one after close to **80** years. So at some point, people need to stop beating on the same dead horses and realize that maybe, just maybe, those horses aren’t dead after all. And now that I think of it, the absolute best punch line to all of this would be an organization like PETA having to step in and save our economy. And the horses. In fact, I am going to write a letter right now.

    (Gently pets the horsies).

  • Different Chris

    Not disagreeing with you that it would happen, but I hate that argument “you’re smart enough to find a way to pay less taxes therefore I write you off as a possible leader”. It makes no sense.

    I believe Mr. Mosler briefly moved to CT to run for senate there.

  • The Missing Link

    Jamie Dimon is a prick.

  • Giledain

    My daughters love their horsies. Two beautiful arabs.

    Way irrelevant but felt compelled to add that :-)

  • The Missing Link

    “Save the economy, and save a horse!”

    “Every time you slash Social Security, a horse gets lashed!”

    I think I’m onto something here so I’m “running” with it. That’s some serious bumper sticker material right there. And if there’s one thing I can’t get enough of, it’s metaphors and puns.

    Everyone just stand back, I got this.

  • Jon Goldman

    As a matter of fact, regarding Bill Clinton,

    He gave a wonderful speech today in Rochester, at a subsidiary building of the University of Rochester. He’s a wonderful thinker regarding the perils of economic inequality and resources depletion, had great things to say about his philanthropic work, recommended books (Lords of Finance, for one), the current state of politics, but,

    Cullen, you’re right. He didn’t understand the implications of his budget surplus then and he still doesn’t understand now. He was very clearly unequivocally proud of his budgeting, as to be expected. Not even a shade of understanding regarding sectoral balances was displayed. He also referred to the U.S. economy as being in a state of financial crisis several times. Oddly, right after referring to the U.S. economy as being in a state of financial crisis RIGHT NOW, his immediate #1 policy proposal was a recapitalization of the middle class by whatever means necessary, which he heavily implied but didn’t outright say would involve massive write-downs of GSE assets, which in turn are the mortgage liabilities of homeowners. He understood at least that much about sectoral balance, apparently.

  • plain jane

    Perhaps I shall just start asking my neighbors where they think money comes from. Lord knows I never really pondered the question myself before reading MMT people. Nobody ever talks about how it comes to exist.

  • Ron

    Either that or he knows something you do not.

    Only very naive individuals think the secret of economics is hidden in a formula.

    US is in a state of financial crisis because it is not creating local jobs and most of the growth is financed by debt purchased by foreign nations. This must stop. The crisis is a political but it is a crisis. Forget about sectoral balances. Special interest groups financed by foreigners care less about them.

  • John Armour

    It’s not so much that the sectoral balance identity is the Rosetta Stone of economics, but if you understand its implications you also understand that obsessing over surpluses is rather silly.

  • f

    I am wondering if the MMTer think there is difference or not?

  • I’llHaveADouble

    I’m not so sure.

    X – M being negative certainly isn’t a coincidence. Low rates encourage consumption over savings; savings have been too low and subsidized consumption has been too high (a mechanism that feeds on itself unchecked because capital inflows drive rates even lower).

    Lower rates might discourage or encourage marginal saving behaviour depending on whether the income effect or substitution effect is greater or smaller – we typically assume it will push the saving rate lower, so no controversy there. The effect on net saving, however, is indeterminate unless you ascribe to a loanable funds view of the world. Higher investment may lead to high enough income that savings increase.

    The implication of negative real rates is that I > S, which is where the I – S bit fits in. That in turn, fuels the X – M staying negative. So, rates should have been high enough to maintain a balance between I & S; if that were true, the net impact of a budget surplus would simply have been a corresponding current account surplus.

    But lower interest rates strongly encourage X to be greater than M through its effect on the capital account: lowering the interest rate should make it much less attractive to buy US assets, whereas raising it should have the converse effect. That’s why the trade deficit exploded in the 1980s.

    For the story to work, the savings rate needs to drive net saving, investment is indeterminate but assumed to be higher than net saving due to low interest rates, and the current and capital accounts adjust to satisfy whatever the difference between investment and net saving happen to be. The activities of foreign actors – even when, for example, they are rigidly enforcing currency pegs – are implied to adjust to satisfy the rest of the equation. The interest rates that have complete control of how much domestic actors choose to save in the United States needs to have no effect on how much foreign actors choose to save in the United States.

    What we’re doing here – I think – is working behavioural equations out verbally. That bugs me about most MMT sites: there are plenty of charts, graphs, accounting identities and maybe an accounting matrix or two, but the behaviour is generally put forward in a block of text. We need this to be done mathematically, explicitly stating causal relationships.

  • Peter D

    >>My guess would be to reduce the trade deficit, which in turn would reduce the government deficit.

    Well, the prevailing position of MMT is that trade deficits are not a problem as long as the govt ensures enough demand to sustain domestic full employment. Trade deficit means we’re getting real stuff for money, which is advantageous for us. The problem with our current situation is that since jobs got outsourced, we need to find employment for many people who lost those jobs. Some MMTers say it would be easy had the govt run a large enough deficit. And with Job Guarantee program you could get to 0 unemployment.

    >>I’m guessing it would also be good to have a small private sector surplus similar to the 50′s and 60′s, no? Is there any advantage to having all 3 sectors equal zero?

    We currently already have a private sector surplus. But we need more, as evidenced by insufficient demand. I am not sure what you mean by “having all 3 sectors equal zero” – the sum of the 3 sectors is 0 by definition, there is no other way around it.

    >>Clearly the quality of the government spending plays a major part in our prosperity, correct? Having the government invest in highways, high speed rail, or faster internet for example would be better than paying people to sit around and email resumes to prospective employers.

    Absolutely agree!

  • Peter D

    >>From an Engineers point of view, it is possible that excessive private spending by the private sector (even spending money they didnt have) caused an increase in the money supply, and Clinton rightly reduced the money supply to fend off inflation (his surplus, and paying off the debt)

    This, by the way, is a very important point. While running surpluses may cool down overheated economy and reduce inflation, it is always important to recognize the source of inflation. Inflation is one of the worst understood phenomena in economics, it seems to me. Because it comes in many shapes and forms, curing it by the same means makes as much sense as trying to cure all cancers by the same treatments. When the inflation is caused by too much govt spending it certainly makes sense to reduce that spending. But when inflation is caused by private sector spending spree enabled by credit expansion, reducing govt deficit might not only not help but actually make things worse, as it makes an already unstable system even more so. The solution must lie somewhere else – most probably regulatory. Or changing the tax structure. But not simply going into surplus.

  • Different Chris

    I would say that it can potentially be more than silly. It can be damaging to obsess over surpluses depending on the environement.

  • Ted

    Thanks Peter! Let me try to clarify the 2nd part – I know all 3 sectors must sum to zero, but is it less stable to do so by way of trade and government deficits that approach 10% of GDP versus having smaller sectoral deficits (say, 2% of GDP or less)?

    For example, would we be a stronger in the long run if we looked more like Germany or Japan and the private savings came via a trade surplus rather than government deficits? (I know this assumes that the rest of the world suddenly steps up and buys more of our products.) Your answer to the first part seems to imply that a large trade deficit or government deficit isn’t necessarily bad as long as the government keeps its eye on the ball when it comes to demand and unemployment. Appreciate the knowledge.

  • R. Dappa

    Continued surpluses lead to socialism? Only if you don’t reduce taxes.

    Reducing taxes would reduce private sector burden and thus increase private expenditures. This growth would lead to more taxes as revenue to the government and thus reduce even greater deficits. Eventually, the taxes would be at the lowest rate possible and the economy would be able to hum at a steady speed. The defense of the nation would become less than 1% of the economy and further technological advances would be able to be found. Exploration would continue.

    Far from socialism, reducing the deficit would increase freedom and the economy.

  • Peter D

    >>all 3 sectors must sum to zero, but is it less stable to do so by way of trade and government deficits that approach 10% of GDP versus having smaller sectoral deficits (say, 2% of GDP or less)?

    I don’t know whether it is more or less stable or if it is even a well defined question – under different circumstances different things might be more or less stable. Our trade deficit, in particular, arises, as many MMTers would say, from our status of world reserve currency. It is because so many in the rest of the world who want to acquire dollars that they are willing to sell us their labor and real stuff for those dollars. If trade deficit is seen as ultimately a losing bargain for us, then our status as reserve currency is to our detriment to a large extent.

    >>For example, would we be a stronger in the long run if we looked more like Germany or Japan and the private savings came via a trade surplus rather than government deficits? (I know this assumes that the rest of the world suddenly steps up and buys more of our products.)

    But even Germany and Japan have big deficits! And, yes, it is very hard to run the trade deficit around.

    >>Your answer to the first part seems to imply that a large trade deficit or government deficit isn’t necessarily bad as long as the government keeps its eye on the ball when it comes to demand and unemployment.

    Yes, that’s what I meant.