Does the Fed Understand the Solvency Constraint?
Really interesting piece out of the St Louis Fed from last year that shows they might know more than they let on at times. They say:
“As the sole manufacturer of dollars, whose debt is denominated in dollars, the U.S. government can never become insolvent, i.e., unable to pay its bills.6 In this sense, the government is not dependent on credit markets to remain operational. Moreover, there will always be a market for U.S. government debt at home because the U.S. government has the only means of creating risk-free dollar-denominated assets (by virtue of never facing insolvency and paying interest rates over the inflation rate, e.g., TIPS—Treasury Inflation-Protected Securities). Together with the unusually high, but manageable, level of the current debt, these facts imply that the current U.S. government can wait out any short-term economic developments until long-run growth is restored.7 Further, without an immediate need to drastically reduce the debt, the mechanism between high debt and slow growth loses most of its credibility.”
There’s a few things wrong in here, but all in all it’s a good description of the USA’s situation and a huge step in the right direction. First of all, the government is not the “sole manufacturer of dollars”. Almost all of the money in the USA is created by the private competitive banking system. Ie, the issuance of money has been privatized in the USA. The banks create inside money (deposits – the vast majority of money) and the government creates outside money (notes, coins and reserves – the minority of the money supply). We have a market based monetary system in the USA which is dominated by an oligopoly of private companies. It’s not perfect by any means, but it’s certainly better than the rogue banking system we had in the 1800s. Unfortunately, some of the deregulatory steps in the last 30 years have made us a bit more rogue which has obviously had some negative effects….
Also, the current design does require the government to procure funds – the government is never free from the constraint that it is a user of the social construct (just like the rest of us). The government cannot control quantity value so it’s not unusual for the government to be unable to obtain funding from the private sector (as is the case in a hyperinflation when the tax system and bond markets collapse). When we understand the institutional design of the monetary system we can see that the Treasury is a user of money by design. The banks issue money and the Treasury procures funds. This has essentially created a market based money system where the creation of new money is the result of a market based system overseen by private competitive profit seeking entities. So the government must be able to procure funds via taxes and bonds in order to be able to spend.
Of course, the government doesn’t have a problem procuring funds so long as output is strong and demand for the currency is strong. Also, the bond market is designed in such a manner that the Primary Dealers are required to bid at auctions and are happy to do so as long as it remains profitable for them to do business with the US government (which is just about 99% of the time). Of course, it’s that 1% of the time that kills 100% of the money supply. It’s not unimaginable that, in a hyperinflation, the PD’s would not bid as it becomes unprofitable and they become survive first, do government bidding second, entities. It’s likely that the tax system would also be collapsing in such a scenario as is generally the case in a hyperinflation so this would exacerbate the procurement process here.
In such a scenario the government would fund itself by using its central bank and the currency death spiral would be well in motion. But this is an extreme example and not one the USA has to worry about since currency demand is primarily a function of output (quantity value) and with 25% of the world’s output the risk of hyperinflation in the USA remains extraordinarily low as I’ve long been saying.
But hey, this looks like progress. It’s not perfect, but it’s certainly better than the constant nonsense we hear from the mainstream about how the USA is on the verge of default or some Greek-like scenario. The real constraint in the USA is not running out of money, but inflation….
H/T: Mosler Economics
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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128 Comments
Not sure why you’re still beating this horse. Just about everybody understands the federal government can borrow — and print — whatever it wants. Many of us suspect that will have negative consequences. … Telling us that the Fed can never run out of money doesn’t really address the consequences of permanant low interest rates or debt levels at 200 percent of GDP or ongoing asset and price inflation.
That’s not really true. The vast majority of Americans think the USA can run out of money and become Greece. And most of the rest think inflation is on the verge of raging out of control. Very few people actually understands the dynamics at work here and have accurately predicted its effects over the years. Odds are, if you weren’t predicting default you were predicting high inflation or vice versa. The number of people who said inflation would remain low and the USA wouldn’t default were few and far between….
If I am making a case for something, it’s not really fair for me to pick out the worst arguments of the other case, beat them up and then proclaim victory.
I believe there are serious people who have good arguments against growing federal debt way faster than growth. Others wonder why the federal government participates in a mechanism that funnels money to the financial sector. If you tackle those arguments, you’ll make a better case for your description of the system. THere are many ‘what-ifs’ that need to be addressed to convince lay people that the current system is robust.
As for inflation, most AMericans are experiences way higher inflation than the financial community. The inflation numbers are flat out lies. I say that more in confusion than anger. Do economists actually spend real money?
As for running of of money; most people understand that if you print more money (and government debt IS money), then it loses value and people put their wealth into different venues.
So your inflation argument basically boils down to the old “govt inflation data is a lie” conspiracy. As much as I’d love to trust your own personal inflation gauge, I am going to trust the many independent gauges that say you’re wrong.
http://pragcap.com/independent-inflation-gauges-still-no-inflation-here
http://pragcap.com/money-supply-update-still-no-inflation-here-either
I can link you studies showing that the rising costs of energy, health care and education have eroded the standard of living. Food prices are starting to rise now, too.
Globally, higher food prices have been the cause of a lot of unrest in the Middle East.
At 4 percent inflation I (which is conservative), prices double every 20 years. Gasoline, education, health care premiums have done way more than double). I guarantee you that teachers, auto workers, waitresses, etc., haven’t seen their wages double in the past 20 years.
If you cherry pick prices you can always make inflation appear really high. Of course, if you look at a basket, like the BPP then your conspiracy theory falls apart….In fact, the CPI is overstated according to this. http://bpp.mit.edu/usa/
Food prices like other commodities are rising because:
1) Russia, China are suffering severe 4-yr droughts & so is the US suffering high crop failures
2) The Futures & Commodities Act wh (thanks to deregulatory morons like Rubin, Greg Mankiw & Republicans/libertarians & signed by Clinton) went into effect in 2001 & further deregulated in 2003 & 2004, which allows anyone to speculate & bid on oil, food,
&
other commodities when before only those who would actually use the commodities (airlines, food processors,etc) could bid on them.
It also forbid any regultion of CDS credit default swaps.
The result is that investigative studies by Washington Post & other newspapers
showed 70% of bids on
commodities are
by speculators who have no intention of using the commodities but are just buying them to flip them (ie, speculators/investors)
&
thus causing the huge price rises in commodities like oil & food as they are bid up by speculators/investors looking to flip them
when one investor buys a commodities contract s/he can only do so because somebody else sells. The net of longs and shorts is always zero.
Even if speculators actually took delivery of a commodity and thereby put upwards pressure on the price at some point in the future the speculator would sell and thereby put downward pressure on the price.
Rgds
MJ
Right..and just like the housing bubble or any bubble, if investors/speculators just use the money to to reinvest & roll-over into more of the same commodities/same bubble, the prices inflate
Increasing money supply(printing or borrowing) doens’t lose value because it increases production & supply of goods/services, which offsets & decresaes inflation
the exception is if there’s a supply shock or cartel like OPEC that limits production
competition & businesses keep prices low as they increase production to capture more marketshare & more sales from the increased money supply (ie, spending stimulates increased production & hiring)
except if there’s a monopoly/cartel that keeps production low & just raises prices instead or if the economy is already at maximum production (ie, full employment under 2% unemployment, factories at full max production, etc) or if there’s a supply shock/shortage
That’s akin to the idea that if you put more gas in the car it will go faster.
The idea that if you increase the money supply you will increase production *even more than the money supply increases* seems to be an article of faith here and the rationale behind expanding debt.
It doesn’t seem to be working, though. The various QE programs seem to be increasing commodity prices; indeed, that appears to be their intent.
As been pointed out before, QE isn’t really increasing the money supply & is NOT ‘printing money’
All that QE does is an asset swap where bonds are traded for other assets (stocks, commodities or other assets).
Majority of bond owners are finacial institutions/investment funds/banks & they just swap assets for one of the above to increase their returns
The only effective way to get money into the hands of the people is “deficit spending” by the gov either directly through gov funded projects
such as
antibiotics, radar, GPS, infrastructure, nuclear power, electricity powerplants, etc as the US gov did in the past
or major tax cuts to the 99% (suspension of FICA, for example)
or
what China does ($2 trillion for bullet trains,stimulus, interstates + their gov owned banks fund factories, power plants, etc at ultra low interest or no payments for 12+ yrs, & pruning is done later with the most competitive surviving & debts forgiven
(China’s gov issues their own currency & doens’t need ‘profit’ from their loans except to make shareholders look good)
As REN & I posted before, China’s gov funding directly & via their gov banks of technology, production, research/development is a huge version of Cullen’s investment idea of the US.. the US has DARPA & ARPA-E at a few hundred million + some billions for NASA/DEpt of Energy.. China is at TRILLIONs per year
Anyways, official data with charts/evidence is below on inflation & deficit spending from Federal Reserve:
1. Oil/energy prices cause inflation, NOT federal deficits -evidence/facts here: http://rodgermmitchell.wordpress.com/2010/04/06/more-thoughts-on-inflation/
2. http://www.RodgerMitchell.com Daily Economics Verifiable EVIDENCE by CEO/MBA economist at http://rodgermmitchell.wordpress.com/2009/09/07/introduction/ &
http://rodgermmitchell.wordpress.com/2011/07/09/why-bank-lending-leads-to-recessions-a-counter-intuitive-finding
3. http://pragcap.com/the-most-destructive-monetary-myth-in-the-usa PragmaticCapitalism.com’s fact-based intro on how modern currency systems work -Modern Monetary Realism vs. the most destructive myths of false outdated gold-standard based theories most politicians/economists operate under
4. Seven Deadly Frauds of Economic Policy http://moslereconomics.com/wp-content/powerpoints/7DIF.pdf by Bank CEO/economist Warren Mosler or click for here for shorter summary of Modern Monetary Economics 101
5. http://MoslerEconomics.com -Daily Insightful & Most Accurate Verifiable Economics Analysis by bank CEO/economist Warren Mosler
6. http://MikeNormanEconomics.blogspot.com One of the BEST Daily Analysis by Chief Economist & FoxBusiness-Bloomberg contributor expert Mike Norman, formerly of S&P
Sorry if it seems like I’m posting the links too much -I just copied/pasted from my sig but I’ve found that the ‘gov printing/deficit spending causes inflation/hyperinflation’ myth was only dispelled from conservatives when they finally read the charts/evidence compiled from Rodger Mitchell’s site from Federal Reserve data
If we are to educate & persuade the public, it’s the EVIDENCE –actual numbers on inflation & deficit spending from decades –that will convince people no matter how well we explain MR or MMT
Rational people go by evidence/data/facts when confronted by conflicting economic models
The Austrians/conservatives don’t have any & this allows MR/MMT to easily destroy them once evidence is presented
Yes Jason. You got tagged in the spam box due to all the links….sorry.
If China is so good why wealthy locals (which are often part of the communist party) are exporting their money abroad at tens of millions/month ? Why, if the state economy is so powerfull and the money making engine so well oiled and reliable, are the chinese importing hundreds of tons of gold ? There are theories and there are facts. May be facts are “wrong” and theories “good” but we have to live in this world of wrong facts, isn’t it ?
The state driven economy will allow them to catch up with the rest of the world in a minimum of two generations. Already they are getting first class know how on the cheap.
It works like this: 1) Keep the Yuan pegged low. 2) Issue Yuans to trade out for dollars i.e. remove dollars from the exporting manufacturers. 3) Recycle those Yuans to buy TBills in the U.S.
This is a debt instrument (dollar) traded for a debt insturment (TBill) so a lot of American’s are snorting with delight. It also allows the U.S. government to continue deficit spending.
But, look at the loops. The dollars come back and don’t stimulate main street…the dollar demand was instead used for TBills. The dollars instead allow Washington to continue to spend on military and other adventures.
Meanwhile, the low dollar allows wage abritrage for wall street; they break their arms patting themselves on the back. Eventually though all the jobs leave.
The delta in wages is sliced off in arbitrage, and the money manager looks like a hero, but really they are planning to reduce America for their today’s gains.
Wealth is more than money, it is know how and effort built up over the years. The wage arbitrage/China State Bank system has a synergy that ultimately redounds to China’s favor.
With this path, our Oligarchs will be living in walled cities and afraid of the peasants.
Sorry, recycle dollars back to the U.S. Supply and Demand makes the dollar worth more than it should be. Pushing down the Yuan is OK if the economy grows at a fast rate, meaning the money matches increased wealth. However, they are back to buying TBills directly and don’t have to go through primary dealers.
As one of the gold articles Cullen has on here at PragCap, the Chinese gov is one of the largest producers of gold & has been encouraging their citizens as well as banks to buy gold instead of buying real estate so as to cool down the real estate bubble since Chinese have a 30% savings rate
because
most things in China & Eastern Europe is bought in full cash –very few use autoloans, mortgages or credit cards -there is only a small ‘consumer credit’ culture unlike in the US)
20%-33% of China’s population own multiple homes/multiple real estate holdings, buying real estate as investment properties for their savings, thus the Chinese gov has been encouraging their population to buy gold instead so as to cool down their real estate bubble
Also keep in mind that normal Chinese are NOT allowed to invest their savings abroad & must invest domestically.
You need gov permission to invest yuan abroad instead of domestically because China’s gov wants to control yuan exchange rate as well as capital investments.
China’s gov does encourage Chinese investments to secure things China needs (like China investing in foreign oil developments in Africa, harbors, ports, freighters, coal mines in foreign countries, etc)
Yes, they can use their dollars to buy things in dollar zones around the world. That doesn’t take dollars out of circulation, but does buy an asset…say a stake in African resources, etc. It is good strategic policy.
In the meantime, the U.S., due to dollar as reserve, must keep tariffs low. This means that main street U.S. gets hozed down due to captains of industry relocating and extracting rents in the form of wage arbitrage. They know the doors won’t be shut to their exports back to the U.S. No worries, easy money and “hey why aren’t you more competitive America, they will say”
To add insult to injury, the U.S. Navy helps protect the sea lanes and transhipments, so the taxpayer is paying for their own dispossession. You have to admire China’s brilliant rope a dope strategy, and we are the dope. This is what you get when you allow private money power to host the brain of your society, they will plan for selfish takings, and it is a road to debt peonage as well as long term loss of strategic ability.
Interesting article in News China December 2011. “When Wenzhou Sneezes: Chian allowed private financing to underwrite Wenzhou’s economic takeoff. The people were driven toward private credit as the role of Chinese banks was minimal. Of course that created a debt spiral, and now Wenzhou is in trouble. China has been agonizing over what percentage of the economoy should be private and what percentage should be public, since they understand state direction has downsides for entrepreneurship. Wenzhou is instructive to them of too much private credit.
Understand the enemy. It is both domestic and abroad.
100 percent reserves (Chicago plan) would give us an immediate advantage, but I have no hopes that our political dopes can even understand it, much less the China dynamic.
Johnny – I’d say increased money supply “can” increase production – but you’re 100% right – it doesn’t always. Our growing national debt, when it just goes into the bank accounts of the uber wealthy (say by cutting taxes on “death taxes”) does nothing.
As for inflation – you only feel it when your income doesn’t rise at the same pace. Inflation is pretty mild – but incomes are not keeping up. So I agree with Cullen that it isn’t high, but I agree with you that it is still a problem and only felt by those in the bottom 80% or whatever segment is seeing zero or negative income growth
A couple years ago, I decided to stop arguing, after maybe 2-3 comments, with people like Johnny Evers.
And I decided to trade against their ignorance (ignorance is in my opinion, I fully admit).
And I’m doing GREAT!
Does this make me evil? (and yes, maybe I am lucky too)
Barry Ritholtz of Big Picture had this quote on his website: “It is the function of the markets to transfer money from the ignorant to the intelligent”. @Jaymaster, you are on the right side of that transfer, congrats!
Hi, Boston. As suggested above, inflation is only a problem for the 80 percent of Americans too ignorant to own financial assets. How much longer can that go on?
Jason, I think your QE theory is wrong. When the Fed buys a bond from an institution, it has to create money to do so. And after the transaction, that money is generally used to purchase assets. The idea that QE is an ‘exchange’ only works if you believe the Fed has unlimited reserves.
MMR works as description of how the system works, but then it makes the leap into politics and says that the system is working fine.
Jaymaster, the problem with investors getting rich while the public goes broke is that eventually the public will change the system if they see if favors you.
Good morning, everyone.
Johnny, For the record, I am “the public” too. I’m an engineer, I have a real job, and I haven’t had a raise in 8 years. In fact, I took about a 30% pay cut back in 2009 just so I could keep my job. But I’ve also been saving and investing for more than 25 years.
And I actually used to think the same way you did. I was a die hard Austrian. But I eventually figured out the weaknesses of that line of thought, and became more of a post-Keynesian. Then I discovered MMT, which made even more sense. Then MR.
But my point (which I admit I didn’t state very eloquently), is that because of what I’ve learned from Cullen and others, I knew the real threat after the crash wasn’t inflation, but deflation. I bought bonds and my inflation fearing buddies thought I was crazy. And I doubled down on stocks in 09 and 10.
And while folks like you are still screaming, inflation, inflation, inflation, I’m still worried that deflation might yet hit us. I’ve taken quite a bit of profits this year, and I’ve got investment plans for either eventuality. I wouldn’t be surprised if we see the days of 4-5% inflation at some point, but I doubt if that will be any time soon.
And by the way, I have little doubt that “the powers that be” want more inflation. I just don’t think they have the means to generate it.
Nicely said.
Couple of caveats: I’m not predicting inflation — I see it all around me. For parents, especially, it is a big issue.
As for hyperinflation, I consider it a possibility. Deflation, too. Aren’t they two sides of the same coin? In one instance, you need more dollars to buy things. In the other, your dollar is worthless. Same thing, really. … Buy some hard assets while you are at it.
LOL, JohnnyEvers, the Federal Reserve DOES HAVE THE POWER TO CREATE UNLIMITED RESERVES as outlined in it’s charter by law
&
CONFIRMED multiple times by Fed Chairmen under Congressional testimony to stunned, conservative Congressman that are
&
were ignorant of the FACT that the Federal Reserve has the unlimited PERPETUAL POWER into the infinite future to create & credit infinite amount of reserves into perpetuity
Unlike regular private banks that are limited by reserves & capital constraints, the Federal Reserve central bank has no contraints on creating infinite reserves, regardless of how much actual capital they have.
I will have to dig up the links to video testimony & relevent charter passages from Warren Mosler on his http://www.MoslerEconomics.com site as well as http://www.MikeNormanEconomics.com sites
BTW, this is why it really MMT & MR both arrive at the same conclusion because the Federal Reserve CAN ALWAYS CREATE & CREDIT the Primary Dealer banks enough reserves to buy any & all US gov bonds –in addition to serving as buyer of bonds of last resort.
Primary dealers & other banks can also create money(via loans) from their new reserves at ultra-low interest to buy any/all bonds too that pay higher interest as free profit.
Hence, no funding problems for the US regardless of whether MMT or MR is more correct
Most people don’t realize that banks can also use their reserves to buy US gov federal bonds (which serves as collateral) –thus, greater deficit spending increases amount of reserves, which lowers interbank interest rates to the target level set by the Federal Reserve via:
If you were a bank president sitting on $100 million in reserves, would you let them sit idle earning 0.25% interest from the Federal Reserve (or whatever it sets it at) or would you use it to buy US gov bonds paying 1% to 3%?
Hi, Jason:
What I’ve learned on this blog, probably not the official word.
1. The Fed can do whatever it wants. It has a bazooka. But it doesn’t have to use it, just put it on the table.
2. The Fed takes money from the private sector and issues a bond. The Treasury spends the money. The bond never has to be paid back because the bond is money. …. Just so you follow, I give the Fed a dollar and it gives me a dollar (in bond form.) The Treasury spends the dollar. A dollar has been created.
3. When politicians learn that the debt will never have to be paid back, there will be one helluva party and everybody from defense contractors to Medicaid doctors will celebrate.
4. Uh, oh, the Treasury has to pay interest on the debt. Because federal debt will soon be $25 trillion and rising, the Fed must keep interest rates low.
5. Because more and more money is being spent into a stagnant economy — asset values rise. Good for investors, bad for consumers.
JE,
You’re not very familiar with my work then. I have never said the Fed “can do whatever it wants” or that its powers are unlimited. In fact, for 4 years now I have been saying that QE is a simple asset swap whose powers are vastly overstated.
The rest of your comments are just exaggerations and misrepresentations.
Why do you do that?
We have to remember back in 1913, the Federal Reserve Act was created by a cabal of bankers like JP Morgan & others along with the federal gov/politicians at the time (who were basically owned by wealthy elite back then too like bankers).
The system was designed for & by bankers. At the time, it required that the Treasury hold at least 40% of all money/US dollars as gold in reserve –and that if the gov go into deficit spending, it would be backed by US gov bonds that would issued & bought at lower interest by banks/Primary Dealers at auction (who would resell to the public at profit at higher interest) & would be repaid in US dollars (that were backed by at least 40% in gold, which was later amended to 25% & now 0% gold & is truly fiat)
That is why we have such a convuluted system that gives ‘free’ rent-seeking profits to the private banks
Once the FDR took the US off the gold standard domestically & NIxon off gold completely/internationally, the gold chains came off.
I think China’s system of gov-owned/state run banks (in addition to private banks) who create money to fund production-increasing & job creating projects as better –where bank profits are secondary to primary purpose of creating production, jobs,technology,etc
The reason why banks are allowed to charge interest is because they engage in a competitive risk taking/profit based money issuance business. The alternative to this is having the govt oversee the loan process. Is that really better than having companies compete for loans in a market based system? I doubt it….The govt can help fund investment projects without turning the money issuing business into a state run institution.
Sorry if you’ve gone over this before, but can you explain quantity value in more detail.
Frederick,
See the glossary for acceptance value and quantity value. http://pragcap.com/pragcap-glossary
Hope that helps.
Dear CR, I agree on many interesting things you write about. But on the MMT I must tell you, that I’m somewhat concerned. You denounce not only this paper from the FED of St. Louis but as I remember you already denounced writings from the FED Chairman (B. Bernanke) himself about MMT. It seems you are the only guy understanding MMT. Basically you tell me that all the guys at the FED have no clue but these are the guys in charge and not you. This must even concern you.
The problem which I have with the MMT is (one of many problems) that you talk much about the quantity of money (and it doesn’t matter) but never about the quality of money. Since money has not only a function as medium of exchange but also a store of value and a function of pricing assets, quality is a very important factor. Please note that value and price are not the same.
Then you claim that:” The banks issue money and the Treasury procures funds. This has essentially created a market based money system where the creation of new money is the result of a market based system overseen by private competitive profit seeking entities.”
It can’t be a market based system since the FED artificially controls the interest rate of almost any important price like bonds, treasuries, mortgages, loans and so forth (the interest rate is the base to calculate all other important rates).
To provoke you I would call it a centrally (bank) planned money system and not a market based money system. And the most alarming seems to be that a bunch of ignorants (according to you) is in charge of the interest rates.
Dave,
This isn’t MMT, it’s MR – monetary realism. I haven’t been promoting MMT ideas for almost a year now. MR talks a great deal about production and the importance of quantity value or the importance of money as it relates to its quality of output.
The Fed controls part of the interest rate equation. They cannot control the demand for credit nor can they determine the final cost of someone’s credit. See credit card rates for example. The Fed does not set most credit card interest rates in the double digits. Private banks do that. Private banks have the final say on the price of the money they issue.
See my primer for more.
http://pragcap.com/understanding-modern-monetary-system
Know you do not promote MMT anymore. But have you deleted some of your earlier articles when you did? Have them on my favorites and tried to look up a couple, but they were not online.
Thanks for the link. I already started to read it.
But first I’m not talking about credit card rates, even though these rates are, like bank deposit rates, certainly influenced by the interest rate too. I’m talking about treasury rates, bond rates, mortgage rates, loan rates and so forth. These rates are tightly linked to the interest rate from the FED. So the FED can’t control the demand for credit but it can certainly control and/or influence the rates and even the demand for treasuries, bonds and bank reserves. And this makes our current monetary system not market based but it makes it a politically based system.
The MR-theory has it’s fallacies as well. Didn’t read all yet but one of the main fallacies already stroke in my eyes – the free floating exchange rates which should maintain equilibrium of global economy. The case of Japan, China, Germany and many other exporting countries with large budget surpluses show that the theory of floating exchange rates does not apply, neither in the short run nor in the long run. This might be even more prove of a politically based monetary system of artificial interest rates. It tells us that the FED (and all other central banks) has no clue about the “real market” interest rate, or if the FED knows the real rate (which I doubt because this is an impossible task) they are not interested to use this rate so equilibrium will never be established.
Anyway, even if you denounce the writings from the FED about MR and not MMT it doesn’t give me more faith in the qualification of the guys at the FED. The other option of course is that all the guys at the FED are right but that would mean… I do not want to challenge this.
But always great to read your posts and thanks for your patience reading all the posts of your readers.
No offense, but I desperately miss reading the simple explanation of the lack of a solvency constraint as the “central government spends money into existence via debits and credits” – this inside/outside money, procurement of funds, “treasury must use the system like a private entity” stuff is phenomenally confusing, and lacks the concise brevity I have used to explain the monetary system to even the least sophisticated individuals over the past two years.
Very simply, the treasury spends dollars into existence and taxes them out of existence – vertical money creation versus horizontal creation via the private sector. Boy do I miss those days.
Amen Brother!!
I wish it were as simple as that. Trust me….
yes – maybe MMT got too simplistic, but MR is the polar opposite. dumbing down complex ideas shouldn’t be considered a flaw.
It is a flaw when it results in misunderstanding how things actually work.
true, not disagreeing with that. but i think what we’re expressing is that we miss analogies and metaphors that make it easier to understand, and to explain, this stuff to others. I’m not sure this is accurate in your opinion, but saying “it is as if taxes destroy money” rather than “taxes destroy money” – if true, shouldn’t be thrown away because others can play the telephone game and change it’s meaning
Great point.. I have called and emailed a lot of conservative radio talk shows preaching the Govt can’t go BK because of it’s Issuer status. This makes it a lot more simple for people to understand. When you have to go beyond 20 seconds on explanations, peoples eyes start to glaze over..(As do Mine, LOL)
exactly – any important issue, if it is to be sold and accepted by the public, must be dumbed down into a sound bite, and then repeated over and over again.
I’ll also disagree with Cullen on something here – when people say “we’re going broke” they don’t mean it literally. So when you respond “but the US can’t go broke because it is a currency issuer” they just respond “oh, so you’re one of those who thinks we can just print our way to wealth”. So they get it – “going broke” is just a more shocking way of saying “spending more than we take in”.
I agree & understand MR & MMT but I found that it is much easier to explain MR as ‘MMT without the job guarantee’ & that they are sister schools where they arrive at the same conclusions, just minor differences in details of how they get there of how the gov is the final ‘issuer of currency’ &
that in MR, gov can always procure funds from the private sector via the Primary Dealers at bond auctions’
&
that the ‘Federal Reserve is actually subservient to the US federal gov since it’s charter states that should there ever be a disagreement, the Federal Reserve must defer & obey the Secretary of the Treasury, who is appointed & replaceable by the President & that all the board of governors & Chairman is replaceable by the President & confirmed by Congress every 4 years)’
Regardless, I found that most people, especially scientific types as well as conservatives I persuaded to MMT/MR do so because of the evidence/data from the links presented below from Rodger Mitchell’s compilation of official inflation/deficit spending from Federal Reserve
-Cullen does a great job on MR but it’s the ACTUAL EVIDENCE/CHARTS below that gets rid of the ‘money printing/deficit spending causes inflation/hyperinflation’ myth:
Evidence/facts/charts below:
1. Oil/energy prices cause inflation, NOT federal deficits -evidence/facts here: http://rodgermmitchell.wordpress.com/2010/04/06/more-thoughts-on-inflation/
2. http://www.RodgerMitchell.com Daily Economics Verifiable EVIDENCE by CEO/MBA economist at http://rodgermmitchell.wordpress.com/2009/09/07/introduction/
&
http://rodgermmitchell.wordpress.com/2011/07/09/why-bank-lending-leads-to-recessions-a-counter-intuitive-finding
3. http://pragcap.com/the-most-destructive-monetary-myth-in-the-usa PragmaticCapitalism.com’s fact-based intro on how modern currency systems work -Modern Monetary Realism vs. the most destructive myths of false outdated gold-standard based theories most politicians/economists operate under
4. Seven Deadly Frauds of Economic Policy http://moslereconomics.com/wp-content/powerpoints/7DIF.pdf by Bank CEO/economist Warren Mosler or click for here for shorter summary of Modern Monetary Economics 101
5. http://MoslerEconomics.com -Daily Insightful & Most Accurate Verifiable Economics Analysis by bank CEO/economist Warren Mosler
6. http://MikeNormanEconomics.blogspot.com One of the BEST Daily Analysis by Chief Economist & FoxBusiness-Bloomberg contributor expert Mike Norman, formerly of S&P
MR is not MMT minus the JG. If you think that then you haven’t followed MR’s development over the last 6 months. I would recommend reading the recommended readings as you’ll find many unique and very different positions in MR. Including:
1) The Contingent Institutional Approach
2) S=I+(S-I)
3) The MR Law
4) The concept of acceptance value vs quantity value
5) Clarifications on inside money and outside money
6) Understanding our market based monetary system (not state theory based) and the govt’s role as a facilitating/supporting entity
7) Resources precede taxes and output drives fiat money
8) A vast understanding of hyperinflation that shows it is more than a monetary phenomenon
9) Understanding why all nations cannot be autonomous in their own currency
10) Understanding how current account deficits can be destabilizing and why surpluses aren’t necessarily bad
11) Why monetary policy can be effective outside of a balance sheet recession
Thanks for the clarification, Cullen.. do you have intro links I can refer people I debate(or try to persuade) to explaining it & evidence/charts/data to back it up so that they know it’s correct instead of competing theories,
especially
from conservatives/Republicans who see gov deficit spending as anathema & the cause of inflation/hyperinflation?
It’ll be good if it’s a concise page with graphs/charts & links to fuller, more detailed links.. most new people’s eyes glaze over & won’t read it if it’s long.
White papers are great for academics but to hook people into learning it, it has to have it’s evidence up front that explains (ie, record low interest rates & low inflation despite record high deficits & lowered credit ratings & high debt/GDP ratios like in Japan (200%+), Singapore (118%+), & US (100%) ..and Japan/Singapore has been at that debt level for 10-20 yrs)
–such facts/evidence destroy Austrian/conservative mainstream economic theories based on a outdated gold-standard created 50-100 yrs ago.
Jason H
just to clarify: The mainstream economic theory is Keynesianism. Since Keynes wrote the book ” The General Theory of Employment, Interest and Money” in 1936 his theory is regarded at The Standard and it gets taught on every university as basic theory.
I found this posts on http://www.NakedCapitalism.com related & illuminiating quoting from FDR’s Fed Chairman who invented FDIC Marriner Ecceles:
Adam1 says:
August 20, 2012 at 8:19 am
@joebhed,
While we have created a non-transparent system, the US treasury can’t spend without forcing the FED to support its spending, that’s just how the system works. The FED can’t have and defend a target interest rate without supporting the sale of US Treasury bonds. The only difference between having the FED directly finance US Treasury spending and our current operational approach is that we currently first give the money to the banking system who then lends it to the government.
If you don’t believe me, take it from one of America’s best central bankers – former FED Chairman Marriner Eccles (1934-1948),
“If Congress appropriates more money than Congress levies taxes to pay, then, there is naturally a deficit, and the Treasury is obligated to borrow. The fact that they cannot go directly to the Federal Reserve bank to borrow does not mean that they cannot go indirectly to the Federal Reserve bank… ”
“if the Treasury has to finance a heavy deficit, the Reserve System creates the condition in the money market to enable the borrowing to be done, so that, in effect, the Reserve System indirectly finances the Treasury through the money market… ”
“So it is an illusion to think that to eliminate or to restrict the direct borrowing privilege reduces the amount of deficit financing [by the Federal Reserve]. Or that the market controls the interest rate. Neither is true.”–Marriner Eccles, Fed Chairman
==
joebhed says:
August 20, 2012 at 9:04 pm
Sorry I missed this comment.
And I’m not sure I understand exactly why you are making this statement and quote of Chairman Eccles – with which I completely agree.
I quoted from the article that said – “
“”Governments ……do not actually use taxes collected to spend but instead “mark up bank accounts (issue currency)” when needed.””
This was the point with which I disagreed and the entire discourse ignores the matter of financing deficit balances with debts.
Of course, today, the government MUST acquire funds through debt-issuance for budget spending balances not met by taxation. That is part of my point. Government (Treasury) can NOT simply push computer keys to MAKE the money.
As Eccles puts it –
““If Congress appropriates more money than Congress levies taxes to pay, then, there is naturally a deficit, and the Treasury is obligated to borrow.””
He didn’t say the Treasury could push computer keys and thus spend.
The Fed’s open-market operations have nothing to do with the point I made, which is that what we NEED is for the government to restore its money-issuance power directly, in the form of the Kucinich Bill reforms.
Once accomplished, there is no NEED to target funds rates, there will be no NEED to issue debt by the government.
The transparency in the system will be complete, if not pervasive. And the debt-based money paradigm will not prevail regarding money-cost and public debt.
Or, did I miss something?
Thanks.
Read more at http://www.nakedcapitalism.com/2012/08/is-an-anti-austerity-alliance-of-left-neo-classicals-and-post-keynesians-possible-is-it-desirable-part-1.html#XUgf2SC3Uxp8MAbg.99
Here’s the key line:
We have a market based money creation system in the USA that disperses the power of money creation away from the govt to a private oligopoly of banks. The banks create the money based on competitive market based demand and the govt and the rest of us are users. The reserve system facilitates this arrangement. Yes, it’s true that there is no issue procuring funds or even using the Fed as the final issuer of money (if necessary), but that doesn’t change the way the system is currently structured with the banks as the center of the money issuing mechanism and the state taking a back seat.
Right, I agree.. I just think the convuluted way it is done is just as an illusion, as Fed Chairman Marriner Eccles says:
take it from one of America’s best central bankers – former FED Chairman Marriner Eccles (1934-1948),
“If Congress appropriates more money than Congress levies taxes to pay, then, there is naturally a deficit, and the Treasury is obligated to borrow. The fact that they cannot go directly to the Federal Reserve bank to borrow does not mean that they cannot go indirectly to the Federal Reserve bank… ”
“if the Treasury has to finance a heavy deficit, the Reserve System creates the condition in the money market to enable the borrowing to be done, so that, in effect, the Reserve System indirectly finances the Treasury through the money market… ”
“So it is an illusion to think that to eliminate or to restrict the direct borrowing privilege reduces the amount of deficit financing [by the Federal Reserve]. Or that the market controls the interest rate. Neither is true.”–Marriner Eccles, Fed Chairman
Right, but you’re missing the key point in that. Eccles doesn’t point out there is private sector choice in funding the deficit. The govt must procure funds from the private sector. There’s a relationship here. It is OUR social construct. Not the govt’s. The govt works for us. We don’t work for the govt. Designing the govt so that it can just pick from its money tree is altering the relationship from a market based system to a state run system. That’s not how the USA is designed nor is it how its monetary system is intended to function. But yeah, technically Eccles is right. The Fed could just fund the Tsy, but that’s circumventing the private sector’s involvement in deference to state powers. Some people might argue this doesn’t matter. I’d say it matters enormously.
“9) Understanding why all nations cannot be autonomous in their own currency”
Could you link to or explain this point. I must have missed this claim among the massive amounts of output you people manage over at MR.
It’s not always possible or in the best interest of a nation to be fully autonomous. For instance, many undeveloped nations don’t have strong domestic demand and rely instead on foreign trade. So what do they do? They cede their monetary sovereignty by establishing a pegged currency. This benefits the domestic economy by keeping them competitive. It’s often times in the best interest of the country implementing that strategy to risk foregoing sovereignty in order to generate domestic growth. This is just one simple example.
“Also, the current design does require the government to procure funds – the government is never free from the constraint that it is a user of the social construct (just like the rest of us).”
Cullen, This seems a contrast to what we have come to understand in the past. I have always questioned the “Govt is issuer not user” stance because they spend money on projects.
But there has been a noticeable change in Pragmatic Capitalism’s articles over the last 6 months or so that seem to shy away from the US Govt being the all mighty “ISSUER” of the currency.
Could you please explain how we went from a sole Issuer to a user of currency?
I know I have read a lot about this on here but I just can’t seem to put all the post/article pieces together.
The govt is an issuer of forms of money such as notes, coins and reserves. They are a user of inside money by design. So, when the govt taxes they are redistributing inside money. Generalizing about the issuer vs user distinction is sloppy. The details matter here. That’s what JKH’s contingent institutional approach is all about. In order to understand precisely how the system works you have to get the details right. The govt is not just an issuer of money. They are designed as a user as well (by choice).
Is it really a “User” of inside money, or a “Realocator”?
When the govt deposits Social Security checks directly to retiree bank accounts, that money becomes a deposit. Is the govt being an issuer or “relocator” in that instance?
I’m really concerned about all the things discussed here regarding our Monetary system. I bet after some time we will not only have MMT and MR but soon MNR (Monetary Neo Realism) because soon we will see consequences which can’t be explained through MR – even with far-fetched ideas. But let me move on to MR.
Already when I read the first few lines of MR my alarm bells of logic starts to ring in my brain.
The gold standard worked in a way like the separation of powers in a democracy – and this is good and necessary. Because of the clearing system under a GS not only the private sector but also the government had to behave economically with the scarce resource money. But when I read in MR that The Federal Reserve and the government have a symbiotic relationship my alarm bells go off. In combination with the idea of “no solvency constraint at the government” these bells just go mad. First of all our economic theory just works under the fact of scarce resources. If the most important resource – money – isn’t scarce too, the whole economic system can’t work. It’s as simple as that. Examples with “redundant” resources like air and water show us the problems.
One should think about the moral hazard with a government that can’t go broke and living a symbiotic relationship with the FED and they just have to watch inflation! We should actually live in paradise.
And if the government must manage the money supply the moral hazard and therefore economic distortions are just perfect. This explains the mess we are in today: A government that manages a redundant resource (money) on which upon the government relies and therefore can’t go broke and on top of that it lives in a symbiotic relation with the FED.
A look back in history shows us why this system of redundant money was established (WWI). Of course once you taste the forbidden fruit you won’t go back on diet.
It is at least crystal clear why all governments and banks defend a monetary system with a redundant resource. Like I said it is paradise for government and for bankers and their arbitrage activities, carry trades and other speculations. These things are only under such a system with redundant money to be perverted – and in 2008 we received the check from the waiter. Under the GS the speculators and the system would have been cleared out (even earlier). But with the redundant money we just ordered some more forbidden fruits to postpone the payment once again in hope the waiter will forget us or somehow our wallet gets filled again by magic money (from the FED).
Everyone claiming that the monetary system has just to be regulated the right way ignores the reality. It is just not possible because the forbidden fruit of easy money for government and sky high profits for banks is too sweet. Therefore to keep an army of lawyers and create ever new financial products to undergo any regulation is worthwhile – as reality shows. Up until now we just had to tell the waiter that we “can’t go broke” and he was calmed down. But this system will eventually be cleared out one day. But that means a devastating deflation (or probably first an inflation) will occur or a very slow, long and painful process of deflation will start.
I do not know when this system will be cleared out or if the slowly clearing deflation already started in 2008.
According to MR there are three things infinite in this universe. But like Albert Einstein said:“Two things are infinite: the universe and human stupidity; and I’m not sure about the universe.” So why should the solvency of the government be infinite?????
BTW I don’t want to offend anyone with the quotation of Einstein. It just puts the claim “that the government can’t run out of money” in perspective, because this is a very theoretical approach that is useless in practice and therefore the MR-theory suffers lack of reality from the very beginning.
Cullen,
I know my comment is following comment is going to come close to expousing an MMT position and you’d prefer to leave that alone because you’ve clearly stated many times where and why you disagree with MMT. With that said. you’re two criticisms in this post seem easily explainable:
1) You said: ‘First of all, the government is not the “sole manufacturer of dollars”.’
What’s the St Louis Fed paper might be referring to when it says “dollars” is the Monetary Base (Reserve accounts at the Fed, coins, and bills). Using that as their possible definition, does it then make sense to say the U.S. government “is the sole manufacturer of dollars” (again, assuming the definition of dollars being used is MB)
2) You said: “Also, the current design does require the government to procure funds…”
What the St Slouis Fed might be saying is similar to MMT… that on a THEORETICAL level, the U.S. govenrment can create money without procuring funds. Here is Allen Greenspan saying to Paul Ryan that Social Security is not insolvent: “…there’s nothing to prevent the federal government from creating as much money as it wants…” (http://www.youtube.com/watch?v=GdOsybbBVEU)
1) Credit is denominated in US DOLLARS. So, no. I don’t see how anyone can say the US Govt is the “sole manufacturer of dollars”. The US Govt is the sole manufacturer of notes and coins and the Fed is the sole manufacturer of reserves. Banks are the sole manufacturers of the primary form of dollars we all use – credit.
2) Sure, but the current design makes the govt a user of its money by choice.
Can someone explain (in easy words) why we have to pay taxes to the government – that very same government that can’t run out of money?
It really sounds like a stupid question, but whats the answer to that? If we wouldn’t have to pay taxes we could even spend more. So why we pay taxes to a government that doesn’t need any taxes?
And if the government can’t run out of money why does it sell treasuries and bonds? Why this “complicated” system of collecting money if Geithner (or the Wall Street) just needs to go to Bernanke and tell him how much money he wants and… ta-da! A simple push on the keyboard transfers billions of dollars to the treasury. No need to sell bonds or even to hold (gold) reserves (assets)!
And most important:
If the money is irredeemable and infinite there is no need for the government to hold assets against their infinite liabilities. In the long run the “finite” assets can only hold up to the infinite liabilities if the assets are as well irredeemable and infinite. This is definitely a ponzi-scheme.
The government taxes to redistribute money. They do this by taxing some and giving to others for public purposes. If the government didn’t tax they wouldn’t be taking money from anyone. They’d just be printing money in excess of what already exists. It would cause really high inflation. As Cullen says, the government is designed as a user of money so they must take from someone before they can give to someone else. The government doesn’t have trouble obtaining money, but don’t mistake redistributing for printing new money.
I know this is an MMT thing, but doesn’t the government also use taxes to adjust the temperature of the economy? I seem to recall Mosler making that sort of statement and wonder if MR shares a similar view, at least in some cases.
Steve,
Govt spending increases the “flow” in the economy. That is, govt can always procure funds and keep the spending in the economy going. At the end of the day, the economy is a system of flows. When the flow stops the system stops or slows. So the govt can play a really important role by keeping the flow going. Especially at times when private actors freeze up in a recession (for whatever reason). Govt spending, however, is not always efficient and this form of redistribution (as LVG rightly says), can result in an inefficient rebalancing of the economy.
I hope that helps.
Thanks Cullen. I’m getting a handle on the “flow” idea, but I’m not clear on your thoughts about the govt using taxes to decrease the flow (or reducing taxes to increase the flow). It occurs to me that tax rates and (costly) regulations are not set by the Fed or by the Treasury, so maybe Mosler’s description of taxes being needed only to control the temperature of the economy is too simplistic.
Steve, the majority of this flow is out of the govt’s control. Federal outlays are a large component of this flow, but most of the flow is just regular people buying regular stuff every day. So the govt can’t control the economic flow entirely with taxing and spending programs, but it can have a big impact. Remember, govt is a facilitator. They are not the engine of growth. That is primarily a private sector phenomenon. Plus, these phenomenon are largely out of govt control since tax receipts climb during a boom and are reduced during a bust (automatic stabilizers). But don’t get me wrong. I am a big proponent of this form of govt induced flow. I think of govt like an artificial heart. No problem with keeping the flow going especially when it’s got the blood flowing to the right places.
Thanks for your thoughts. The redistribution is a good argument. Even though it doesn’t make any sense for a government which can’t run out of money to collect taxes to redistribute it from Person A to Person B. People in need of money could be easily helped by the government without even the risk of high inflation. They just print the money needed to pay the infrastructure and facilities who help the people in need. This would be paradise for every Keynesian because everyone could spend more at the end of the day
What still concerns me is why should the government sell through a “complex” system treasuries and bonds to collect money if it is the issuer of money (together with the FED in symbiosis), manages the supply and can’t run out if this redundant resource?
It is somehow if you where a baker owning a bakery but you buy your bread for your own living at the grocery store next door.
And my even bigger concern about MR is:
If the money is irredeemable and infinite there is no need (it even makes no sense) for the government to hold assets against their infinite liabilities. In the long run the now “finite” assets can only hold up to the infinite liabilities if the assets are (somehow transformed) as well irredeemable and infinite.
Dave,
I think you misinterpret MR. We don’t say the govt digs into a bottomless pit of money. We say the govt redistributes bank money. The money is theoretically infinite, but that’s not what the govt actually does. They don’t just print the money. They take it from the private sector and give it to other people for public purpose. The “money printing” is the addition of a bond in the form of net financial assets.
Further, the main reason the govt USES private bank money is in order to create a clear separation between the govt issuing money and the govt using money. Under the current design, the govt does not just print up new money whenever they want. The govt must be able to procure it from the private sector first. It’s a market based system. Not a state based system. The system is designed as such intentionally. The USA is a capitalist system. Not a govt run system where the govt gets to just pull money off a money tree and distribute it to people as it wishes.
Dear CR,
1.) In “Understanding The Modern Monetary System” you write that the government and the FED have a symbiotic relationship. The government manages the supply. You even write that the primary dealers have to participated at every bond auction.
As I already wrote I see here a moral hazard – but no one seems to bother. Anyway the point is if you have primary dealers that have to participate at every auction and these primary dealers know if things go bad the FED will bail them out and buy their treasuries and bonds to create artificial demand as it already happened (btw this loop proves your statement of infinite money). But I can’t see here a market based system.
2.) Another point is that all this treasury and bond auctions are just a Potemkin village (even) if the FED buys the treasuries back from the banks at the so called open market. It’s great business for the bankers because they receive money from the FED for almost 0% to buy treasuries and bonds and sell them at a discount right away to the FED (seems to me this is a ponzi-scheme). In fact it would be even cheaper if Bernanke buys the treasuries and bonds direct from Geithner and the result at the end is the same. So the bonds issued by the treasury are then at the FED which printed the money first hand and distributed it to the banks which they used the very same money to buy the bonds to sell them again to the FED for money the FED just printed (LOOP).
3.) And as you say the money is “theoretically” infinite. But that means that in theory there must be an infinite asset against this infinite money liability. And the infinite asset is a piece of paper signed by Geithner (so do I think). So we have here again a moral hazard and a very dangerous situation.
You might claim that this is only theory and we will never face infinite money printing. But even if it is just a theory the MR has to deal with this theory of infinite irredeemable money printing.
And again whats the point of holding assets against irredeemable money? This is an oxymoron.
What I mean by market based system is that banks compete to issue money based on demand and profitability of these potential loans. It’s market based as opposed to a system run by the govt where they just pick who should get money based on legislation.
On your point about auctions – there must be private demand at the primary market. If there weren’t the Fed would have to monetize. This is very different from the Fed buying on the primary market. It’s like saying that it doesn’t matter if there’s demand for an IPO. Of course it matters.
Your money is backed up by output….What’s better than that? A shiny rock? Me personally, I’d rather own a cute dog, a big house, a big boat and be surrounded by great friends and family than own a big pile of shiny rocks. But that’s just me.
CR, by what output is our fiat currency backed? I doubt that your dog, your big house, your big boat and friends will back my $-bills and savings if the financial system gets in trouble. But hey, if it happens I will knock on your door
A shiny rock has to be digged out from the ground and refined. There is lots of effort and man power put in that shiny rock. So this shiny rock has a certain value and since you can’t just hit a button to manifold that shiny rock it will always have a certain value. And if we compare the shiny rock to the dollar (the currency used to price the shiny rock) it looks not so bad for the shiny rock. Since this shiny rock will always have a certain value, because it will always require some efforts to extract new shiny rocks and they are in fact scarce you can always use it as a medium of exchange. The price might change but the value persists even over centuries.
The fiat currency has several huge moral hazards (unfortunately no one cares). Another one is: It is a huge difference if you first put efforts in a shiny rock and then create out of the shiny rock a currency. Or if you create first a piece of paper with the promise to put in some efforts one day in the long distant future. Every single bill printed by the FED is pure debt without backing, only a promise to be backed one day (by whom though???). Our system runs on debt and this difference to an asset backed currency might be fatal in the long run. Lets not hope though.
Let me put this in another perspective – let us change the perspective from a pure theoretical MR approach to a more realistic approach of a business man.
If you were a business man and someone comes to you and wants to get a credit for lets say $10 mio. What is a reasonable business man doing?
He will visit the borrower and see if he has some real hard assets against the money to cover at least, lets say, 20% of his loan. So the business man will look for value, assets that already(!!!) exist. And the reasonable business man will do this even though they will sign a piece of paper which declares that the borrower promises to pay back the $10 mio. with an interest.
An “MR business man” doesn’t care about the hard assets (value) to back the money he is just fine with the paper-promise.
But if the borrower can’t cover the credit the reasonable business man gets at least the promised hard assets to liquify them (if needed), whereas the “MR business man” will be left alone with his paper-promise.
In 2008 we got a taste of what it means to have an irredeemable currency based on debt. I do not say that an asset backed currency won’t have problems or even that such a financial system can’t collapse. But in the worst case the efforts put in to this economy by all the citizens throughout their live are backed to a certain degree by hard assets (redeemable currency) which you can always and instantly use as a medium of exchange. Whereas nowadays 99% of the people will have worked for free like slaves (except they were smart and changed their paper instantly to 100% owned hard assets) – which only the wealthy will have done.
So let us hope that we can free our government, citizens and companies from the debt burden created by an irresponsible and irredeemable currency without within the next decade. But this means lots of pain.
Dave, it’s an irrational faith & belief in historic tradition that people put in gold as a store of savings/money due to European history’s use of gold for centuries
but
if you goto the Amazon jungle or Pacific Islands, trying to trade nuggets or bars of gold for food is going to get you NOTHING,
just like during a Zombie Apocalyse or WW3 when all production is destroyed, NO AMOUNT of GOLD or money is going to buy you food, guns, nor ammo –it is no better nor worse than US dollars that are backed by production –ie, currency/money is ONLY WORTH WHAT IT CAN BUY (THE PRODUCTION available to be purchased by the currency)
REAL World example (besides tribes far away from civilization)
When production collapsed in Cambodia after the Khmer Rouge forced everyone out of the cities
&
then into agrarian concentration camps
&
then decades of civil war & production of everything dropped 99% with no electricity nor anything beyond the 10th century,
my father who was government executive before the communist revolution & part of a multimillionaire family before the revolution –he tried to trade some gold he had hidden for some rice to feed my mother who was almost starving & not producing enough breastmilk for newborn sister
No one traded him any rice for gold.. no amount of gold could even buy a small cup of rice.. (to make matters worse, he was caught with gold –and because the Khmer Rouge executed anyone who worked for the gov, spoke a foreign language (he spoke French, English, Chinese, & Cambodian),
or
was educated
(if you wore glasses, it assumed you read & were educated), he was then executed as well as my mother (who refused to allow the Khmer Rouge to take my father out for executionunless they took her with him)
Dear Jason, it is not an irrational faith since gold will “always” have a certain value. No one can deny this fact and since the industry uses gold it is valuable and trades on stock exchanges. So it serves as protection. Of course like in any asset you can have huge losses on it. But on stocks you can lose 100%. BTW I’m using the “shiny rock” because Cullen mentioned this, but I was writing about an asset backed currency!
Then you claim “it is no better nor worse than US dollars that are backed by production”. Let me make example: Let us assume that the US production/output is worth about 100 billion working hours. You must admit that it does matter if this production is backed by $7 trillion paper-dollars or $70 trillion paper-dollars. After the inflation one paper-dollar can only be worth about 1/10 of the paper-dollar before the inflation. And since inflation isn’t set instantly throughout the entire economy we get huge distortions and maladjustments.
Then there is another problem. The value of work belongs to the worker itself and can’t be backed by government. Only the owner/producer of the work can actually back it up.
There are many real world examples from asset backed currencies like in the Weimar Republic. People soon established asset backed currencies to trade goods when paper-marks failed.
My sympathy for your family members, but if the government has a death penalty on every one who is rich, belongs to the government, wearing glasses or speaking another language you can’t expect people trading with gold, wearing glasses or speak another language.
Dave, the ~92% of the population that’s employed goes to work everyday and ‘puts out’ that output.
25% of the globes GDP, that’s what output the USD is backed by.
Dave, thanks for the sympathies but it applies in any economy that collapsed production..
if there was a Zombie Apocalyse or after WW3 where all production, factories, farms destroyed, no one would trade you their food, water, guns/ammo for some shiny rock/gold & gold would be worthless.. we know this because from history, people shipwrecked in Pacific Islands/Africa were unable to trade their gold for needed food/goods w/ islanders.
Even colonial English/French explorers found that trading gold w/North American Indians, gold was not worth much because the Indians preferred guns & whiskey over shiny metal gold
We also see this in real life where gift cards/gift certificates on Ebay –the ones worth the most are Walmart, Macy’s, Best Buy, gas station gift cards/cerfiticates are worth the most because they stock & sell production that everyone wants (gas, electronics, clothing, etc)
Gift cards/gift certificates to Ayn Rand’s bookstore from Bangladesh are worth nothing because they have little production
Currency made by some trabe in Amazon jungle where all they produce is grass huts is worth little.. currency from Japan (yen, 200%+ debt) is still worth alot appreciated despite more Japanese deficit spending because Japan produces cars, electronics that everyone wants.
Also, Dave, you forget that
1) increased money supply normally increases production as businesses increase hiring/production to capture more marketshare/sales/profit UNLESS there is a cartel/monopoly or strike
or
supply shock (such as 1970′s OPEC cartel oil embargoes & jacking up prices 400%+ starting in 1973…
inflation actually went down in 1972 after Nixon went completely off the gold standard in 1971)
2) Weimar GErmany’s hyerinflation was caused by 90% drop in production when French/Belgian army to get reparations invaded Germany’s industrial Ruhr Valley to confiscate hard goods like steel, coal, oil, industrial goods, etc(they refused German fiat currency). They also expelled 85,000 German families from their homes, taking & confiscating the German homes
Almost all of GErmany’s industrial workers then went on strike for 8+ months to protest the invasion & confiscation of German production –90% drop in production of industrial goods, manufacturing, etc (coal & oil especially was needed for electrical generation, etc)
–the drop in production was also to encourage the French/Belgian army to leave so that they would have nothing to confiscate
During this time, the German gov paid the striking workers to stay on strike & NOT produce.. it also paid the 85,000 German families that had their homes confiscated/expelled by the French/German army until they could return to their homes.
It also created currency to try to buy gold-backed foreign currency & needed imports in coal/oil for heating & electricity since there was almost no domestic production
The production collapse worked in convincing FRance/Belgium to leave at the cost of severely damaging their own economy.
Zimbabwe’s hyperinflation was from it’s 30%-57% drop in production from dictator Mugagwe expelling almost all the white workes who made up the educated, skilled, managerial, supervisors, etc
&
replacing them with peasants who had no idea how to run a factory or agribusiness.
More details of those at Bill Mitchell’s site/paper at http://bilbo.economicoutlook.net/blog/
BTW, I was Cambodia as an example where production collapsed more than 99% just like the Stone Age or after WW3 because everyone was reduced to subsistence farming in concentration camps, no electricity (except for hand-cranked generators),
no money, no banking & no savings (BTW, the ‘savings’ of commodities like coconuts or fish used in rightwing ‘Robison Crusoe’ analogies of money & savings don’t apply to FIAT currencies where fiat savings do NOT matter, so gov saving for a surplus with fiat currency is RIDICULOUS),
no manufacturing, no factories, no TV, no media, no mills
…most technology was abandoned, no electricity, no factories, the cities were off-limits,
no housing, no construction, people were forced out of the cities
&
into straw huts & concentration camps, no media, NO PRODUCTION except for subsistence farming/fishing)..
gold & money had no value (there was no money at all actually)…
just bartering for different foods for different foods…
..there were NO imports, no exports, the Khmer Rouge wanted a prehistoric agrarian society worse than the Amish in technology).
It was a total breakdown of economy, production, & monetary system.. and in the bartering that ensued in Cambodia, gold had NO value either.
Do you really think after WorldWar 3 or Zombie Apocalypse, you could trade your gold for somebody last guns,ammo, or food?
(keep in mind after WW3 or Zombie Apocalypse where 99% are zombies or dead,
there
would be no production of guns, ammo, nor food anymore.. it would simply be what you could make or grow yourself in world where u barely survive trying to hunt or grow your own crops while evading zombies & bandits)
Just to clarify my points and to keep the analogy of the baker:
Why should the baker (FED) buy the bread (treasuries, bonds) for his own living at the grocery store (open market, banks) if he has a kneading machine (printing press) in his own bakehouse (Treasury)?
One must understand what it means if the FED, buying bonds, creates artificial demand for assets it wants to buy.
It is like the baker sells the grocery store flour to produce the own bread. Then the baker goes to the grocery and buys all the bread from there (of course just with a good profit for the grocery) and therefore the baker creates again demand at the grocery for even more flour. This is just a fake market, a ponzi-scheme, a loop, a risk free trade for the bankers!
As I wrote earlier higher up on the page (linked from Warren Mosler’s http://www.MoslerEconomics.com site or you can google more info on the history of the Federal Reserve), the system was designed by banks(the grocery store in your example) so of course it gives profits & protects the banking industry by design –back then, the Federal Reserve Act of 1913, most politicians were owned by the banking industry also (just like now, LOL)
I even heard that the Federal Reserve Act from 1913 got pushed through the congress late December when most members already enjoyed their holidays… So to get a majority was an easy task for the bankers.
Just looked up in the internet. So the Act got indeed through the Senate on December 18 and was signed to law by Wilson on December 23. Merry Christmas.
I’ve heard that Elvis still lives. Yup, just looked it up on the internet, he is alive. And there were no planes on 9/11 either. They were holograms. That’s what the internet told me at least. My point, don’t believe everything you read on the internet. Read the congressional record, the FRA was debated for months, passed the house overwhelmingly. In the senate, the intentions of the senators that were absent were recorded and the yeas and nays balanced out, so the act would have passed otherwise.
I also think you’re uneasiness with MR stems from your confusion of money and savings. Money is primarily a tool for exchanging one’s productivity to consume another’s productivity. Savings is taking defering that consumption for a time in the future. However, as you have noted there are plenty of other assets to save in such as gold, stocks, bonds, real estate, commodities, baseball cards, antiques, art, you get my drift.
Dear Joe, your comment is inappropriate.
And I would say YOU do not seem to understand the monetary system. My savings on the deposit creates new credits for those in need.
If I defer my consumption it doesn’t necessarily mean that this money is out of the system. And since gold, commodities and all the other stuff you mentioned pays no interest the deposits are important. Then bonds are certainly not a form of saving since bonds are credit! There is no defer for future consumption in general – except for those who buy the bonds. You get my drift.
Dave, Banks are limited by their capital requirements, not deposits they have. The old ‘deposits/reserves limit bank lending’ is an outdated myth that used to apply during the gold-standard days before central banking.
But since fiat central banking, DEPOSITS DO NOT CREATE MORE LOANS –BANKS ARE NOT RESERVE CONSTRAINED in making loans since they can get any needed reserves from the Federal Reserve (ie, central bank).
It’s a fact (as written & confirmed many times as well as Canadian banking (no reserve requirements on Canadian banks) & Federal Reserve, loans ARE NOT LIMITED by reserves
–banks make loans first, then get any needed reserves later from Federal Reserve if needed.
Dear Jason, Banks as you wrote banks are limited by capital. And as I wrote several times:”Let us assume that the US production/output is worth about 100 billion working hours. You must admit that it does matter if this production is backed by $7 trillion paper-dollars or $70 trillion paper-dollars. After the inflation one paper-dollar can only be worth about 1/10 of the paper-dollar before the inflation.”
People arguing that if the FED prints money it creates demand which is then backed by output should study the inflated balance sheet of the FED and they will soon realize that this theory doesn’t apply. This is the myth we have to talk about.
Then as written several times it is also a myth that this so called “free floating exchange rates” do automatically equilibrate trade balances. There is many evidence in trade balances of the US with other nations. The current system is not a “free monetary system.”
The Treasury doesn’t borrow commercial bank money, it borrows central bank money.
No, the Tsy settles payments in central bank money. The only reason outside money exists is to facilitate the existence of inside money. The Federal Reserve System and the TT&L system exists to help the govt procure funds and settle payments in inside money. The whole system is designed around stabilizing and using the commercial banking system. You keep trying to claim we have a state money system when we clearly do not.
‘Settlement’ is ‘payment’. That’s what it means. There’s nothing unusual about the word ‘settlement’.
“The only reason outside money exists is to facilitate the existence of inside money.”
‘Outside money’ generally means government-issued money, or ‘state money’. The term can also refer to foreign currency.
Gold and silver dollar coins, colonial scrip, Continentals, Demand Notes, United States Notes, and United States Silver Certificates are all historical examples of ‘outside money’ and ‘state money’ in the US.
With the establishment of the US Constitution, Congress gave itself the power to issue money, to regulate its value, and to collect taxes. Then in 1792 Congress established the US ‘dollar’ as the basic unit of account and currency of the United States. Following that the US Mint was created and it began to mint US coins. These coins were ‘outside money’ or ‘state money’ issued by the government.
Congress didn’t create the new currency just so that banks could make loans. They created the currency to establish the independence of the US from foreign powers, and to establish the authority of Congress over its own monetary system. As such they provided a way for Congress to finance its expenditures.
No one in Congress at that time ever stated that “we must create our own US currency just so that banks can extend credit”.
“The Federal Reserve System and the TT&L system exists to help the govt procure funds”
Technically, it’s not logically possible (in the US system) for government revenue from taxes and bond sales to ‘fund’ government expenditures. Rather government expenditure is financed by the issuance of money. It’s not just MMT people who make this point, but also Monetary Circuit Theorists (Circuitists) too.
“The whole system is designed around stabilizing and using the commercial banking system”
A major function of the Federal Reserve System is to stabilize the commercial banking system. It does this by acting as a lender of last resort – lending money, buying and selling assets etc, and as a monitor and regulator of the banking system. The money created by the Fed today takes the form of paper and digital records, but is nonetheless still ‘outside money’ in the same way that gold and silver US coins were once ‘outside money’.
“You keep trying to claim we have a state money system when we clearly do not.”
In my understanding, the phrase “state money system” generally refers to a monetary system in which the unit of account and currency is determined by and issued by the state, in which the state has authority over the monetary system, and regulates it and the value of money through monetary policy, fiscal policy, and legislation. This is the system we have.
The phrase “state money system” does not generally or necessarily refer to a system in which all money is issued directly by the state, or in which all banks are run by the state.
(‘Austrians’ advocate a ‘private/market money system’, and hate the system we have precisely because they see it as ‘statist’).
Another point:
“Credit is denominated in US DOLLARS.”
Agreed. Credit is denominated in dollars. Debt is denominated in dollars. However dollars are not denominated in dollars. Dollars are dollars.
The system has evolved over time. Brett Fiebiger touched on this in his paper on MMT. And the system we have today is run by and for private banks. You’re just changing the story to validate the MMT view of the world. The facts are simple. The private for profit banking system issues most of the money in circulation today. They are not serving public purpose. They are not part of our govt. They work for private shareholders and they serve private purpose. This is why MMTers rant against private banks daily. Their existence serving private purpose contradicts and invalidates the state theory of money. These private sector corporations control the money supply. The govt only has a very loose control over the money supply via their various policy tools. We have chosen to privatize the creation of money. We do not have a state money system nor does the monetary system exist to serve public purpose as MMT states. So the fact is, we have a market based system run by private corporations. We do not have a state run system as you like to keep claiming. I have no idea why you keep regurgitating the same conversation time and time again. It’s a total waste of time. You think we have a state run system (despite complaining about the actions of pvt banks on a daily basis). Great. Go explain that to the world and spread the message however you please. I’ll keep telling people what we really have which is a system run by and for private banks in what is obviously a privatized market based system. Your state centric views are your own. I have no issue with that. Good luck teaching that message. It’s not the one I’ll be teaching….
Tell that to the Austrians and see what they have to say!
We could probably debate these things until kingdom come.
I do not think either of our explanations of the monetary system inevitably leads to particular policy recommendations or outcomes.
For example, my understanding does not necessarily lead to policy outcome A, and your understanding does not necessarily lead to policy outcome B.
Would you agree with this, or disagree?
I think it results in very different views of the world. MMT is a govt centric view that leads people to believe govt policies can fix most of our problems. So you get a deficit centric view of the world that leads to job guarantees and other such programs. I personally think MMT abuses some concepts to generate a govt centric view of the world. Wray has said the monetary system exists for public purpose. I think this is categorically false and deeply misleading. Public purpose is a component, but the monetary system exists primarily for private purpose.
I think MR brings more balance to the table by showing how the monetary system actually exists for private purpose and not public purpose as MMT claims. But of course, I am biased.
Dear CR, you claim:”The private for profit banking system issues most of the money in circulation today.”
This can’t be true since the only issuer of money by law is the FED. The private banks can only give credits, loans…
Furthermore you claim:”These private sector corporations (banks) control the money supply. The govt only has a very loose control over the money supply via their various policy tools.” Since the private banks are restricted to the bank reserves and since the FED is the supervisor of the private banks they can’t “just” create credits and loans as they wish. The FED actually should know how much money is in circulation. That’s actually their job or how will they control inflation? Every intervention would be worthless. Or do you really claim that Bernanke guesses out of the blue on how big QE, Operation Twist and so forth should be? If this is the case, then everybody should see the problems if the FED has no basic knowledge about the quantities of money in circulation. It’s like you want to fill container half full of water. How much do you pour in?
Furthermore you claim that we have a market based system. To me a market based system is defined that there is no “forced exchange rate”. Unfortunately you can’t buy a $10 dollar bill with a disagio. If we have inflation in the system (=over supply), market based money would sell at a discount. Should be logic to anyone familiar with supply and demand. But that’s not the case and since the FED has a monopoly we have a state run monetary system.
The Fed issues reserves. The banks issue loans. Loans create deposits. And deposits make up the majority of the money supply. And yes, the banks do just issue loans as they please. They are not reserve constrained.
Ok, now you talk about money supply and not CREATING money. Seems that there is an issue with definitions. To me money are bills and coins whereas credits and loans are currency, means of payment which is different. Sorry, should have known that if you talk about money you do not literately mean just bills and coins.
But then it is actually true… The FED has no clue what it is doing. It just pours huge amounts of water into a container without knowing how big the container actually is or how much water is already in it.
But at least you should now see the problem: It is pointless even to try to draft a theory on such a system where you have no basic. Every theory based on such a system would violate the science. It is like you try to measure a distance in yards without knowing what actually a yard is or how long it is.
Dave I do not need bills and coins to buy assets and goods and services. All I need is access to credit (housing loans, margin loans, credit cards, personal loans etc.). My access to credit is given to me by private banks. Their desire to issue credit is constrained by my credit worthiness and whatever capital requirements they have imposed on them by the regulator.
I agree with you. I just wanted to point out that a bank can’t create money in the sense of bills and coins – what I assumed when reading CR’s comment. But as I pointed out it was a misinterpretation – since credit and loans are money in that sense.
. But then no one needs to wonder the mess we are in! It is not possible to guid a car in the complete darkness without lights. And here you must agree with me.
As you point out the banks are constraint to capital so the FED as supervising bank should know how much money is in circulation. Otherwise, and on that you have to agree, any monetary policy is worthless.
And I even could agree with you and CR that the FED doesn’t know at all who much money is in circulation – since I’m not a big fan of it
And unfortunately I had other points which were much more important to discuss than whether a bank is reserve constraint or not.
“despite complaining about the actions of pvt banks on a daily basis”
I don’t see why anything in MMT contradicts MMTer’s desire to complain about banks. I really don’t.
An economy based on a system where private for profit banks actually create most of the money is exactly the antithesis of the state theory of money and the MMT idea that money starts and ends with the state. There’s a natural conflict between private banking and MMT. It will exist as long as we have private banking. Most MMTers won’t admit this is a conflict, but those who understand both MMT and the monetary system can see it very plainly.
The way I understand it, the “state theory of money” basically asserts that the ‘currency’ is necessarily that which the state demands/accepts in payment (of taxes, etc).
That seems to me to be the system we actually have at present – whichever way you want to look at it.
I don’t think the existence of “for profit” banks contradicts anything in MMT, personally.
I’m very aware of what you think. You keep repeating the same comment over and over again. My issue is with MMT comments like these by Wray:
And:
The monetary system exists primarily for private purpose so I can buy a soda from the gas station, fill up my car, transact business with customers, etc. Public purpose is secondary to all of this. The monetary system does not exist so we can pay taxes and fund various govt programs. Those are things we use the govt for as secondary features to the system’s primary purpose.
Further, the circuit does not start with HPM for clearing. HPM for clearing was added to the circuit to make inside money more stable. It facilitates. To people who study a bit of FRB history or even have a bit of common sense these two points should really be crystal clear. But MMT distorts them to create a state centric view of the world that solves a set of political policies. That’s fine. If you want to believe it then great. But I’m not sure why you feel the need to keep coming here bringing up MMT though. It has nothing to do with what I talk about. I moved on from MMT a long time ago, but you all just won’t let this debate die. You need to get over it.
I think that what you call a “government-centric” view of the world essentially derives from Lerner’s concept of ‘functional finance’.
That is, the idea that the government should operate as a sort of ‘utility’ – providing the money and investment needed to sustain ‘non-government’ prosperity at all times.
MMTers are generally very focused on how to make that ‘governmental utility function’ happen – and as such maybe don’t spend enough time on the intricacies of private sector behaviour.
The private sector is assumed to be capable of taking care of itself, given the right macroeconomic conditions. And providing the right macroeconomic conditions seems to be what MMT is all about.
You might disagree…
Well, I do agree, actually. But MMT founders are very specific in their desire to “bring the state back to center stage” or in their belief that the money system exists for public purpose. I don’t just make up views. I use specific quotes from core MMTers. And they’re very explicit about this. Wray’s comment “After all, that’s what it is all about, right? From inception, the purpose of the monetary system is to move resources to the public sphere.” is probably the best single summary of MMT’s govt centric views that exists. I mean, if you can spin that into a non-govt centric view then you’re a master web spinner….Of course, they would likely say I am misconstruing things, but MMTers say that every time someone backs them into a corner. They still haven’t resolved the whole prescriptive vs descriptive thing after all and we batted that one around for months on end. And the founders STILL disagree!!!!
Wray’s argument, I think, is that historically governments have created currencies as a means to finance their expenditures.
I’d add that by creating a new government-issued currency, the government establishes its authority over the money it uses (which is perhaps another way of restating Wray’s argument). Creating a new currency is historically part of the process by which a state establishes its independence and sovereignty.
Government spending moves resources to the ‘public sphere’ or else moves resources to where the government wants them to go. For example if a government buys food to feed its army it is moving resources to the public sphere. The act of employing an army in itself moves resources to the public sphere.
But moving resources to the ‘public sphere’ doesn’t mean impoverishing or damaging the ‘private sphere’ if the government represents and serves the population. Government spending is supposed to benefit the population and add to its prosperity (defence, law and order, infrastructure, education, health, etc).
Like I said above, the US Congress didn’t decide to create a new currency so that banks could make loans. Banks could do that anyway. They created a new currency because they wanted the US to be sovereign and independent from foreign powers.
Okay, this is getting old Phil. You’re just moving the goal posts, putting words in my mouth and rewriting human history.
1) I didn’t say moving resources to the public sphere is always bad. I have never said that. I know MMT wants to peg me as some conservative hack so they can discredit me and claim I am anti-govt, but that’s 100% wrong. I’ve long been in favor of more govt spending and have written vast amounts on the importance of good govt.
2) Regarding the history of the USD – you need to read your history. The Coinage Act of 1792 established the dollar under sovereign federal control. There were many forms of money used in the colonies before this. The various colonies issued their own forms of paper currency to more easily facilitate exchange. Also widely distributed were coins. Primarily foreign coins. In fact, the dollar is called a dollar and not a pound because of the wide distribution of spanish dollars in the colonies. The Coinage Act was established after the first central bank of the USA was established in 1791. Of course, the USA became independent in 1776 so your argument about sovereignty is obviously wrong. Hamilton argued for a national bank and a single currency because of the inefficiencies. Not because of a lack of sovereignty. Creating a single currency under control of the govt created efficiencies (one of which was procuring funds from the public).
I’d also add that the Euro is a good example that also proves the sovereignty argument wrong. The Euro obviously reduces sovereignty. That’s why MMTers hate it. But it increases exchange efficiencies. MMTers keep recommending and predicting that the Euro will fail. But they will be wrong. But they’ll never explain why they were wrong or how their flawed understanding of money led them to be wrong. They’ll just keep saying they predicted the Euro crisis and brush this very bad prediction under the table. That’s fine. But don’t come here trying to sneak these points by me.
There’s a kind of comedic (at least in my mind) argument being made here. Wray says money is 4,000 years old because the MMT history books don’t pre-date govt rule. But money has always existed before governments. The fact that governments come along and institutionalize and organize money doesn’t change the fact that money existed before them. But MMT makes an argument that reminds me of the Catholic Church’s view on history and the world only being 6,000 years old. Of course, if you take such a narrow view of the world you end up misunderstanding its origins and its evolution. Which is precisely what MMT does with money. In believing that money is 4,000 years old MMT has skipped trying to understand the essence of money and has instead built an understanding around govt rule. It results in totally misunderstanding the purpose of money and its very essence. Hence Wray’s entirely incorrect statements.
My advice to you – you shouldn’t just make stuff up when you try to prove MMT right. Those of us who have actually studied the history here just build a stronger argument as you keep digging this hole you’re persistent on digging. I’ve wanted to drop the MMT axe for months and months now, but some of you keep pushing back, coming here insulting me, arguing about the same mundane points over and over again. And the more you push the more I research and find flaws. Why don’t you just drop it already? I am not your enemy. I have no desire to be your enemy. But you’re forcing me to defend my positions through this perpetual argumentation and it’s not helping your cause. You should just let the Cullen Roche criticisms of MMT slip off into the night, because at this point, I’ve developed what I believe is an incredibly damaging all encompassing critique of MMT….Otherwise, I keep pointing them out to more and more people who read this website and your persistence ends up hurting more than it’s helping….
The first money was probably in the cult temples of the middle east. The temples had organized workshops for the people, a form of welfare. It was easy to pay them with money. The first money was divisible based on Lunar (1/30) or Calendrical (1/12) divisions, showing that man was still using the heaven’s to derive counting. Gold was likely used as the people made jewelery with it and then tithed it to the temple at some point. Gold was maleable, didn’t rust, and they had it on hand. The metal and its legal money aspects have been confused ever since.
The cult temples were a form of government, as in that day, the temple was the seat of law, medicine, knowledge, etc.
Money is a legal construct, it is not credit. Money can settle credit and debts contracts, and this is where the confusion lies with MMT theorists. Money stands in as a good when it settles debt and credit contracts, but money is not debt itself.
Credit and Debts predate money. I can borrow a chicken and pay you back later with another chicken. I’m not using money to settle our credit debt contract.
“Government spending moves resources to the ‘public sphere’ or else moves resources to where the government wants them to go.”
I have heard something like this before, my question is are they moving resources or simply swapping them?
If the Govt buys bread from public sector it swaps currency for product but the net wealth or resource in the public did not change it seems to me.
Depends on your definition of “wealth”. Is the govt creating wealth by hiring people to build roads (what about if we don’t need the roads)? Are they creating wealth by helping feed the homeless? Are they creating wealth by building bombs that get destroyed in the process of protecting the nation? You see, this is why the political sphere of these discussions are filled with unanswerable questions. What is wealth to one person is not wealth to another person, necessarily….
Correct, which is to the point referenced and I am seeking greater understanding. Does govt create wealth? I don’t think it can, I think that all it can do is simply re-allocate it.
what is wealth? Is it Gold? Warren hates it: http://pragcap.com/why-warren-buffett-hates-gold
is it Production or the ability to produce?
Karl Marx seemed to think that the ability to produce via labor was where actual wealth was and that the control of this labor through capitalism or state mandate.
Our planet is wrought with people who have died for this simple concept of who owns production.
Which is why we also have a third element of Religious or a moral process in all this which even more so complicates matters.
Christ said give unto Cesar what is Cesar and to God what is God’s..
So what is Caesars wealth? and what is God’s wealth?
interesting things to think about…
Cullen,
I wasn’t suggesting that you are anti government spending – I was making the point that ‘moving resources to the public sphere’ benefits the ‘private sphere’ if the government represents and serves the people.
I agree with you that the introduction of a single currency and national bank created efficiencies. However, the question was whether “outside money only exists to support inside money”, which I disagree with.
The following quotes support my points regarding sovereignty, independence from foreign powers, and government financing, in the case of the US:
“After the Revolution, the United States turned its attention to its war-ravaged finances. In the process the problem of a national coinage system took on great importance. Under the Articles of Confederation signed by the states in 1778, both Congress and the states had the power to coin money. But the country’s leaders had come to believe that an exclusively national coinage was essential to establishing national sovereignty.”
http://www.philadelphiafed.org/education/teachers/resources/money-in-colonial-times/#03
Alexander Hamilton (A Report on the Subject of a Mint):
“a nation ought not to suffer the value of the property of its citizens to fluctuate with the fluctuations of a foreign mint, and to change with the changes in the regulations of a foreign sovereign. This, nevertheless, is the condition of one, which having no coins of its own, adopts with implicit confidence those of other countries.”
“The foreign coins may be divested of the privilege they have hitherto been permitted to enjoy”
“…the only change which will be wrought, will consist in annexing the office of money exclusively to the national coins; consequently, withdrawing it from those of foreign countries”
http://www.coinfacts.com/mint_history/mint_history_1781_1791/alexander_hamilton_report_1791_page1.htm
On the First National Bank:
“The First Bank of the United States was a national bank, chartered for a term of twenty years, by the United States Congress on February 25, 1791. Establishment of the Bank was included in a three-part expansion of federal fiscal and monetary power (along with a federal mint and excise taxes) championed by Alexander Hamilton, first Secretary of the Treasury. Hamilton believed a central bank was necessary to stabilize and improve the nation’s credit, and to improve handling of the financial business of the United States government under the newly enacted Constitution.”
http://en.wikipedia.org/wiki/First_Bank_of_the_United_States
“In obedience to the order of the House of Representatives requiring the Secretary of the Treasury to prepare and report, on this day, such further provisions as may, in his opinion, be necessary for establishing the Public Credit. The said Secretary further respectfully reports, that from a conviction that a National Bank is an institution of primary importance to the prosperous administration of the finances, and would be of the greatest utility in the operations connected with the support of the Public Credit”
(Alexander Hamilton)
http://fraser.stlouisfed.org/docs/bankunitedstates/bankoftheunitedstates_hamilton_1790.pdf
On the creation of early colonial government-issued currencies to finance government spending:
“In 1690, the Province of Massachusetts Bay created “the first authorized paper money issued by any government in the Western World”. This paper money was issued to pay for a military expedition during King William’s War. Other colonies followed the example of Massachusetts Bay by issuing their own paper currency in subsequent military conflicts.”
“The paper bills issued by the colonies were known as “bills of credit”. Bills of credit were usually fiat money; that is, they could not be exchanged for a fixed amount of gold or silver coins upon demand. Bills of credit were usually issued by colonial governments to pay debts. The governments would then retire the currency by accepting the bills for payment of taxes.”
“When the American Revolutionary War began in 1775, all of the rebel colonies—soon to be independent states—issued paper money to pay for military expenses”
http://en.wikipedia.org/wiki/Early_American_currency
Those quotes largely contradict MMT by showing that the creation of the central bank and the creation of a single currency primarily supported the funding of govt spending and the ability to move resource from private to public domain by establishing a strong relationship with the nation’s banks or “creditors” as Hamilton repeatedly referred to them. Again, this was govt creating a facilitating institutional design that made payment processing and govt procurement more efficient. This system was designed around its “creditors” and maintaining the public credit. Hamilton discusses this in great detail.
But regardless of what we argue about the USA’s founding, the Euro very clearly proves your point on sovereignty wrong. The Euro is now the second dominant currency in the world and has eliminated the sovereignty of each nation (just as the USD did for each of the colonies in the USA). This was not created to make the nations sovereign. It was part of creating a more efficient means of exchange. You are again bringing everything back to govt powers (as MMT does with everything) when the reality is that money primarily revolves around private purposes. The Euro very clearly proves this. Its inefficiency lies in the incomplete institutional design which we have written about extensively now.
Hamilton understood the need for a central bank and was light years ahead of the Europeans here. The first bills of credit made this very clear. It was all about securing a means of procurement and ensuring that the govt cannot run out of money in times of need. Not soveriegnty. After all, the USA was 14 years outside the war and official sovereignty when all of this was founded. This idea that a single currency was needed to cement sovereignty is clearly wrong. The country WAS sovereign already.
JKH’s piece is seminal in this regard and clearly shows that sovereignty is of secondary importance. I think you’re moving the goalposts to try to validate a govt centric view of the world of money….The reality is that the monetary world does not revolve around govts. It revolves around its people as a social construct. Govt is merely one element of this system.
In fact, upon reading Hamilton’s 1790 submission to the House, there is not ONE mention of the word sovereignty whereas the word “creditors” is mentioned 39 times. The entire document is about the govt being able to procure funds from the community. Hamilton repeatedly states the need to preserve the country’s credit by maintaining the trust of those who use the currency. Again, you don’t seem all that familiar with US history or Hamilton’s history for that matter. He is well known for being a friend of the banks and many conservatives in the USA find Hamtilton to be a repugnant founding father who favored central banks that helped protect the wealthy bank owners of the nation and not the people’s best interests. You seem to have this whole story very backwards. MMT should not defend Hamilton’s actions since Hamilton was a protector of the elites, the “creditors”. He designed a system that was built by the banks and for the banks. It is the system we have. Perhaps you don’t like it, but it is what it is.
Hamilton understood that the currency was for the country and that the public trust must be maintained by having a govt that properly uses this currency. The whole document is about the nation’s creditors and catering to them. That’s why many Americans think Hamilton was an evil bank supporter and nothing else. You might read the entire document. He makes this point abundantly clear throughout. I think the quotes you’ve found are misconstruing his intentions.
Hamilton was a complex character. He understood that the wealth of a country was the ability of its people to produce. At the time, most bank loans came into being after ships were loaded, and the goods could only then be hypothecated. Also the Bank of England, a private bank, was chartered in 1694, so there wasn’t enough time to see its private money power effects.
Hamilton favored the BOA model, which can be seen in U.S. first banks charter. The convoluted process for getting the nations credit, was buying up of war bonds on the cheap. Hamilton’s Federalists (merchants and wealthy) fanned out throughout the countryside buying up what former patriots thought was now worthless paper. How did they have inside knowledge?
That paper then became the base for hypothecating new credit at many times its face value. Creating “value” from nothing.
The first bank was then credit based on the people’s faith, even though they transferred their faith to the Federalist who were scheming to hold the money power.
Later, the first bank’s charter was allowed to expire, especially since Jefferson didn’t allow the country to get into debt. Jefferson bought the Louisiana purchase with Gold to avoid debts to the bank.
When the bank disbanded it was seen that most of the principles were British, and particular Rothschild agents. Probably the war of 1812 was due to a threat by the private money powers linked to England.
Hamilton and Payne got us through the war with the Continental – which was sovereign money, not credit. Hamilton gave us to start as a country. So, he was both good and bad, a complex character.
The Hamilton quotes I took are about replacing coins issued by foreign countries with coins issued by the US government, thus placing the authority to regulate their value in the hands of the US, rather than in the hands of foreign governments.
I agree the US government uses the money system to move resources from the private to public domain. I thought that was what Wray was saying in your quote above.
At the end of the war the US was practically bankrupt. It had very limited means of collecting taxes, the paper currency issued to pay for the war had been destroyed by hyperinflation (due to too much spending, practically no tax collection, and counterfeiting by the British), and the government had huge debts payable in foreign coin which it had very little of. Following this the process of re-establishing a viable domestic currency and means of financing government spending was probably not easy. The US was basically in Zimbabwe territory. Creating a mint, a central bank, and new taxes were steps they chose to take as part of this process.
The initial finance for the First National Bank was, nonetheless, created by the Bank making a ‘loan’ to the government which the govt then reinvested in the bank, in a typically convoluted money-out-of-thin-air process.
“Hamilton understood that the currency was for the country and that the public trust must be maintained by having a govt that properly uses this currency.”
And I would agree with that.
Money is credit, i.e. debt or a liability. Either it is interest-bearing, or not. Government-issued money is a liability (or debt) of the government and privately-issued money is a liability (or debt) of whoever issues it. As such I’d agree that trust is always important when it comes to money. Today the US government doesn’t promise to convert its currency into precious metal or to maintain a fixed exchange rate with foreign currencies. Instead it promises to accept the currency in payment, and to keep inflation around about 2-3%. If it loses the ability to keep its promises then confidence in the currency would no doubt fall.
However, it’s difficult to say that the government currency funds government spending, given that it is by definition a liability of the government. JKH didn’t mention this.
Here’s annother interesting, and debateable, quote by Hamilton:
“The tendency of a national bank is to increase public and private credit. The former gives power to the state for the protection of its rights and interests, and the latter facilitates and extends the operations of commerce amongst individuals.”
(Alexander Hamilton, December, 1790 report to George Washington)
“The Euro is now the second dominant currency in the world and has eliminated the sovereignty of each nation (just as the USD did for each of the colonies in the USA). This was not created to make the nations sovereign. It was part of creating a more efficient means of exchange. You are again bringing everything back to govt powers (as MMT does with everything) when the reality is that money primarily revolves around private purposes. The Euro very clearly proves this.”
The Euro was created by governments, not by the private sector. They decided to surrender control over their money to the ECB, which is part of the European Union government apparatus, and whose mandate was established by the national governments with the signing of the Maastrict Treaty. In this case the governments have given up their ‘monetary sovereignty’ and handed it to a dysfunctional transnational governmental organisation dominated by an misguided ideology which places so-called ‘fiscal discipline’ above the welfare of the population. It doesn’t seem to be working out very well for them at all so far. In fact the ECB has already had to break the rules to stop the whole thing from falling apart completely.
If they were capable of turning the Eurozone into a United States of Europe, then it might work and the Euro might overtake the dollar as the dominant global currency. However it doesn’t look like that is going to happen any time soon. To me it looks like a mistake, though some people believe it’s all a right-wing plot to destroy democracy and the welfare state for good. I agree part of the original idea was to increase the efficiency of international trade, but right now it’s just creating bankrupcy, poverty, unemployment and chaos.
You could say that the current institutional setup of the US monetary system is pretty dysfunctional too, in that the whole government debt thing makes most people think the government is ‘running out of money’ or about to be blown up by China. You spend a lot of your time telling people why you think the government isn’t going bankrupt any time soon (unless there’s a hyperinflation) – but you wouldn’t have to do this if the system wasn’t so obscure. Don’t you see that as a real weakness in the institutional ‘design’?
Phil,
The USA was not bankrupt because it ran out of money. It was bankrupt because, as Hamilton, noted, it had very little domestic wealth. He said:
Zimbabwe did not have hyperinflation because they ran out of govt power, an ability to enforce use of the currency or anything that MMT claims. They ran out of domestic output. MMT notes this in their analysis, but fails to connect the dots. This lack of output resulted in the govt’s inability to procure funds via taxes. The govt’s funding source, its pvt sector, possessed “little active wealth”. This is a point that MMT overlooks. MMT clearly doesn’t seem to understand that resources precede taxation and that output makes resource mobilization possible to begin with. It’s historically inaccurate to claim monetary systems are centered around the state or moving resources to the public domain because resources generally start in the private domain. History has proven this and anyone who understands the basics of how an economy grows can clearly see that it is the domestic private sector that generates the vast majority of growth and overall net worth expansion. We covered this in the S=I debates and none of you understood it or just chose to overlook it. You all think the world revolves around govt NFA that makes up 20% of net worth in the USA and just conveniently overlook the fact that 80% of the net worth in the USA is built on the back of private investment. Somehow you manage to skew the sectoral balances into a govt centric view of the world which is a crime against logic and visualizations of the economy. Some of the MMT economists abuse this lesson on a near daily basis. Govt just mobilizes resources by taking from the pvt sector’s expansion and spreading the love….
You say the govt doesn’t need to “fund” itself because it can just print money. Well, tell that to Zimbabwe who most certainly couldn’t fund itself by collecting taxes. The MMT idea that a govt is “not revenue constrained” is void of value. A govt is most certainly constrained by its ability to procure funds from the pvt sector because its private sector is not guaranteed to create output. And a nation’s currency has value primary because of its underlying output, not because of taxes or laws. Every hyperinflation in history has proven this. Zimbabwe is actually a decent example of many flaws in MMT. A corrupt authoritarian govt comes into power, redistributes power and resources in a coercive manner, domestic production collapse, and then govt printing and enforcement fails to sustain the currency. The Zimbabwean govt couldn’t procure funds from its private sector and when that happened they just printed money and exacerbated matters. Saying taxes don’t fund govt spending is void of value because the govt most certainly must be able to procure or use the private sector’s funds in order to be able to operate its govt. If it cannot it essentially goes bankrupt when its quantity value collapses. Yes, we agree that the govt can’t “run out of money”, but understanding the relationship between govt and pvt sector and the use of money is MUCH more important than just understanding that a govt has a printing press and some strong legal authority.
A currency does not have value because a govt wants it to have value or because they try to maintain inflation at 2-3% as you say. A currency has value because it is redeemable for domestic output. The govt plays a facilitating role in helping achieve this, but it is not the driver of the currency’s value. MR has been very explicit about currency value and the difference between acceptance value (what MMT would call “taxes drive money” in essence”) and quantity value (purchasing power). Quantity value is infinitely more important to a currency than acceptance value and it is largely out of the control of a govt in sustaining.
But we’ve been over all of these points. We just disagree on the emphasis. MMT takes a state centric view. MR takes a private sector centric view and sees the govt as a mere facilitator. At least that’s how the system is designed in the USA. MMT describes something closer to an authoritarian regime, a monarchy or perhaps even China’s state system. It is not an accurate reflection of the system in the USA, which is very clearly a market based system designed around private banks and not state money. But as I said, we’ve been through this. We disagree. So be it.
You’re not our enemy so I don’t know why you guys keep pressing the issue….
I don’t agree that the U.S. had very little domestic wealth in 1783. Before the Revolution, the standard of living in the U.S. was very high. Compared to England, a larger proportion of citizens owned land, and even an indentured servant could work his way up and own land. The country also possessed enormous resources — starting with all that land.
The war created huge debts that were for a time paid for with paper money.
There was an interesting story that Washington’s army mutinied in the year before Lexington and refused to march south. It was only when the Americans were able to borrow a trunkful of French gold coin — which the soldiers happily accepted — that they agreed to march.
The U.S. was unable to tax that wealth, however, because the federal government was weak.
I don’t know the specifics of the German financial crisis after World War 1, except that they had war and reparation debts they could not pay.
Eventually, debt must be paid in some way — either by taking it from future economic activity or defaulting. The frantic effort to avoid this reality is making the crisis worse.
Germany ran a massive deficit during the first world war, and combined with supply shortages that lead to high inflation. After the war huge financial reparations were imposed on Germany, including 26% of the value of their exports. The German central bank resorted to printing vast quantities of paper marks to buy the gold and foreign currency they needed to pay the war reparations, and the exchange rate subsequently completely collapsed. The mark was soon worthless and the Germans were forced to pay the reparations in goods. French and Belgian troops invaded the Ruhr region to make sure the goods were paid, leading to a mass strike by the workers. This all made the hyperinflation even worse (restricted supply of goods, etc).
As much as I like MMT and have huge respect for many of its founders, the premise that the American monetary system exists primarily “to transfer resources from the private to the public sector” is indeed a difficult one to swallow. It sounds too extreme, not to mention communist.
I’ve been saying this for years to Cullen. The MMT position is an extreme liberal pro government position. It’s not balanced at all. But I don’t think people realize that until they learn MMT completely.
I think it’s unfair to be so critical. MMT has an enormous amount to add to the discussion and the contributions are substantially better than most of neoclassical econ. Yes, it’s got a political bent to it, but that shouldn’t overshadow all the positives.
People issue money to acquire resources and to achieve their aims. Money is a debt or liability you issue to acquire the thing you want.
For example, banks issue liabilities (credit) so they can earn interest on loans. Individuals issue liabilities (IOUs) so they can buy things when they don’t have cash or credit.
Governments also issue liabilities (cash) to acquire resources and achieve their aims. For example they issue liabilities to pay for an army.
Government liabilities are the ‘currency’ in our monetary system. They are the ‘monetary base’ of the system and the risk free financial assets of the system. We use government liabilities as our currency, means of final payment, and unit of account in which all our credits and debts are denominated.
It’s a capitalist system. It’s got nothing to do with communism or ‘extreme liberal authoritarianism’.
We’ve been through this. Banks issue most of the money and MMT tries to create some sort of bizarre money multiplier argument connecting bank loans to base money by using terms like “leverage” all the while ignoring the fact that the central bank reserve system is a support mechanism and not the center of the monetary universe. You think we have a state money system. I think we have a market based system run by banks and for banks. We disagree. So be it. There’s no point going back and forth over these same points endlessly.
Cullen
I have one question;
Could it not be true that at “inception” a states monetary system is about moving private sector resources to the state AND also obviously true that we are not CURRENTLY at inception? Big deal one might say but if it is true about state run systems (and CBs are agreed to be creatures of or decisions by the state) then when you look at the most robust currencies, they must have a vibrant private sector to produce the goods they wish to move. Now it becomes a question of how does a govt keep its private sector vibrant?
We decided to go to, after a hundred plus years, a system where our private money creators use debt money via banks as the way to generate private sector wealth which is then purchased by the govt sector (no one will argue that public purchases of private sector wealth are not significant and important to many firms bottom line I hope).
Where we have gone wrong, in my view, is in misunderstanding this dynamic between private banking and wealth/income generation. MR/MMT have shown how a credit driven system can and actually must become unstable to grow, When credit money is your primary income source one cannot increase incomes without further increasing debt. When income to debt ratios are 2/3 increasing both by 4 makes the ratio 6/7…..it is worse!
If income is 40,0000 and debt 120000, increasing income to 80,000 with a loan increases debt 160,000 now we have gone from 1/3 to 1/2. This not a solution that can work.
Somewhere we must increase incomes without increasing our private debt levels OR reduce our private debt levels without reducing incomes. Those are the only two ways itseems
Hi Greg. You could be right I guess. But the way I see it is that money is a social construct that pre-dates govts by a long time. We have always used some form of money as socialized creatures. Whether it was a promise for protection in exchange for sex (as it often was several million years ago) or a more evolved form of money as we have today in institutionalized and organized moneys. Governments evolved long after promises between social animals. But creating these complex social institutions didn’t change the essence of money, which is primarily some sort of exchange. Now, I’ve raised some controversial stuff here because I’d have to get most of the world to believe in human evolution before I could even begin talking money, but that’s a different matter really.
So to me, there is no “inception” in this debate. There is only the moment where human beings evolved to the point where they became increasingly social creatures and as a result of evolution their social interactions of all kind became increasingly complex. Money is no exception here. I think, in order to rationalize the state theory of money, you have to be able to reject human evolution and a great deal of scientific evidence proving it. Money is not merely 4,000 years old as MMT states so to start at this point in time is to miss a great deal of the background and history of money.
I think you could argue that the USA’s system has swtiched at times from being mostly private to public or vice versa. Brett talked about this in his criticism of MMT in which he describes colonial America as a form of state money when they issued pure state fiat. But the system quickly became designed much as it was in Europe where banks ruled the roost. I certainly agree we’ve misunderstood this relationship. The deregulation of recent decades is a clear example. I said in my Huffington Post interview last week that there’s a near conflict of interest in our monetary design by which our primary money issuers exist for private purpose while we implement policy via these institutions for public purpose. I don’t know how you fix this though or even if it needs fixing. The alternative to this market based bank run system is a state run loan system. I am highly skeptical of that system. So to me, the middle ground is greater govt oversight.
On the income thinking, I think we agree. Which is why I am in favor of govt deficits right now. We need to improve the income:debt ratio. I think the deficit is doing that. Here’s a great example where govt can be used to facilitate and support the private credit system we’ve created.
Granted, banks create most of the money under the current system, but it doesn’t mean we have to like it. If bank money is really where it’s at, then I suppose we should applaud when the private sector levers itself up to the eyeballs. After all, those rising debt charts really mean that the money in the system has increased by an equivalent amount, right? Of course, that increase in so-called bank money has no affect on balance sheets. In MMT parlance, no new NFA’s have been created. For all that new bank money, no wealth, or equity, has been generated.
Would you rather receive a $1,000 bank loan or a $1,000 check from the govt free and clear? The choice is obvious. Not that I’m advocating a state money system, but the current one seems less than ideal
Geoff,
That’s not entirely accurate. When someone takes out a loan to start a new business and make some great innovation they can indeed be creating real wealth regardless of the fact that the pvt sector’s financial wealth nets to zero. Say you take out a $100K loan to build a home. No change in net worth, right? Wrong. After the loan is acquired, the house is built and the loan paid back there is a real financial asset left. The private sector is wealthier despite a loan that netted to zero. The majority of our wealth resides not in financial wealth, but in real wealth that is denominated in USDs, but held in money-like assets like stocks or real estate or things like that. We covered this in the S=I debates when JKH frequently noted that NFA is just 15T in the USA while private sector net worth is 60T. In other words, the vast majority of the pvt sector balance sheet has nothing to do with the govt at all, but MMT misconstrues this relationship to claim that the pvt sector is built around NFA when it is really built around it’s entire balance sheet (most of which is not NFA). They do a similar thing with the sectoral balances approach by using a govt centric view to claim that the private sector can only become wealther if the govt spends money. This is not correct.
Cullen
All good points, man. Thx for the reply. You know, I was once a huge debt phobe, both public and private sector. But after getting into MMT, I of course became much more comfortable with public sector debt, but was still pretty uncomfortable with private debt. Now I’m finally beginning to see the light there, too.
I went through the same process. It’s all about understanding the balance and the roles of each kind of debt.