by Joseph M. Firestone, New Economic Perspectives
In the first two parts of this series of commentaries on Bruce Bartlett’s testimony to the Senate Budget Committee, I’ve reviewed the first 8 paragraphs in his statement. These points debunked various concerns of those who think the United States has a serious “debt crisis” it must handle before it takes on trivial problems such as its unprecedentedly high level of wealth inequality, lack of true full employment at a living wage, roughly 30 million people still lacking health insurance, one of the worst infrastructure systems in the developed world, transitioning from fossil fuels and ending climate change, creating a first class public educational system from pre-K through graduate school, ending the student loan crisis, creating a single standard of law for all, including the various categories of violators categorized as too big to prosecute by recent Administrations, and ending the student loan debt crisis, just to name a few.
However, what was noticeably missing from the variety of arguments given in his eight paragraphs was a recognition that the United States is a fiat sovereign nation and that this fact has serious implications for most of the subject matter Bruce Bartlett covers in his statement. In this post I’ll continue my analysis of his statement to explore the extent to which his views correspond to Modern Money Theory (MMT).
9. Analogies between a family’s debt and the federal government’s are totally invalid. There are two key reasons. Humans die and their books must be balanced at death, with all debts paid, passed along or written off. But the federal government lives forever; there is never a point at which its books must be balanced as a matter of principle. Second, if families get into debt trouble they cannot legislate higher revenues for themselves; the federal government can. The ultimate guarantor of the debt is the federal government’s taxing power and secondarily its power to print money. Absent a problem with the debt limit, which is a technical legal problem, not an economic one, the federal government cannot default; families can and do.
Joe: This is close to what I think. But I’d state it a bit differently. The taxing power isn’t needed to collect the revenue to pay the debt. But the taxing power when exercised sufficiently to create a need for the government’s money to pay taxes with, makes the currency valuable. Once a currency is in wide use there are other things that make it valuable. But, in the beginning it is the need to pay taxes that does it. As MMT says, “taxes drive money.”
On the other hand, the government needs the power to issue coins, currency, or reserves, denominated in its currency in order to require people to pay taxes in that currency. Since that also is a requirement, I think it’s better to say that the ultimate guarantor of debt issued in a government’s own currency is the combination of its ability to tax and its ability to issue its money.
Each of these powers is equally important. But the second power means that if the government issues interest-bearing debt instruments, and also decides to pay down the level of debt by running government surpluses, then paying down the debt this way is making a political choice to 1) pay it down, and 2) pay it down using this needlessly painful method.
It can make other choices. Namely, it can cease to issue debt instruments, and it can also spend by creating whatever money it needs to provision itself and to facilitate public purpose. It can even pay off the debt as it falls due if it likes, without collapsing the American economy; something it cannot do using the surplus method, since it would eventually remove all the net financial assets added to the private sector by the federal government since the founding of the Republic.
In sum, there is no substance, as Bruce Bartlett says, to the analogy between the budgetary constraints of the household and the federal government. Anyone who says that there is hasn’t thought through the supposed analogy, or is deliberately trying to use it to mislead the public into accepting the necessity for debt repayment and government spending austerity. Don’t let them get away with the analogy, don’t let them get away with refusing to support any proposed fiscal policy on grounds that ‘we can’t afford to pay for it.”
We can always afford to pay for anything for sale in US currency, but whether it is wise to spend the money to pay for it, depends on the likely effects of paying for it, and not on whether we’ll run short of money if we do.
10. There is no relationship whatsoever between the deficit and inflation. Historically, inflation has been the number one reason to oppose deficit spending, which is the annual increment to the debt. The history of the last several decades is sufficient reason to dismiss this argument. Indeed, the biggest problem facing the world economy today is deflation, most obviously in commodity markets, but in consumer prices as well. Recent research suggests that an aging society will tend to be deflationary, which may be a cause of secular stagnation.. . . Forecasters expect continued low inflation for the foreseeable future. . . .
Joe: MMT is about a variety of goals related to public purpose. One of the most important of these is price stability. It’s right for Bruce Bartlett to say that there’s been no observable relationship between deficit spending and inflation at the levels of deficit spending we’ve been observing that don’t approach what’s necessary to create full employment, but we don’t have that much experience with nations that are fiat sovereign and that have deficit spending approaching or exceeding the level and configuration needed to create full employment.
However, theory tells us that deficit spending at such levels would cause demand-pull inflation and has to be moderated, by cutting spending, or raising taxes. So, MMT accepts the likelihood of that relationship and strongly recommends fiscal policies that will moderate demand at that point.
Those policies should be consistent with expectations about sectoral balances. That means deficits shouldn’t be moderated past expectations about desired savings and trade deficit levels. For example, if the expectation is that people will want to run a trade deficit of 4% of GDP and a private sector savings flow of 3% than deficit spending should not be less than 7% of GDP. And rather than targeting this level before the fact fiscal policy should allow the deficit to float in response to desired savings and trade deficits.
11. The supply of private saving is vital to determining whether the debt is sapping economic growth. As I noted earlier, many economists assume that the deficit is negative saving and insofar as net national saving is a key determinant of growth, they believe deficits could crowd private borrowers out of financial markets and reduce investment, which would reduce growth. . . . This may have been the case in the 1970s, but today the economy is awash with saving, as shown by the low level of interest rates. Also, saving can be imported if domestic saving is insufficient to finance domestic investment. Historically, U.S. foreign investment has approximately matched foreign investment in the U.S., including Treasury securities, and the U.S. has long gotten a higher return on its foreign investments than foreigners have gotten on their investments in the U.S.
Joe: Macroeconomically, the sector financial balances accounting identity says that deficits are positive savings for the private sector as long as deficit spending exceeds the size of the trade deficit, and that there is no such thing as deficits “crowding out” private borrowers from financial markets, because deficits generally increase the value of private sector net financial assets, which, in turn, can serve as collateral for banks loans.
In addition, bank loans aren’t made based on “loanable funds” existing in some ideal market. Instead, as MMT shows, the banks, backed by the Federal Reserve, create deposits “out of thin air,” when they make loans. Since the deposits that may be created are limited only by the desires and credit-worthiness of the borrowers and the willingness of the Federal Reserve banks to maintain its interest rate targets by accommodating any reserve shortages that may occur by making new reserves available, the availability of pre-existing loan funds in “the market” is never a factor in making loans for investments.
12. To a large extent, the burden of the debt is a function of the efficiency of the tax system. Since the true burden of the debt is the interest cost, it stands to reason that the revenue needed to pay it is critical to determining how burdensome that is. All tax systems impose what economists call a “deadweight” cost over and above the tax itself. If this deadweight cost is reduced by a tax reform that improves tax efficiency then the burden of the debt is reduced. . . Of course, to the extent that tax policy can improve economic growth that will also reduce the burden of the debt. . . .
Joe: As I argued in the second post in this series there is no burden of debt for a fiat sovereign, because the debt can always be paid as it falls due by simply creating the money necessary to pay it. This is true whether or not that fiat sovereign issues new debt to replace the old, and and also, whether it pays interest on the old debt, which, of course, it must do. As long as the capability to create that money still exists, there is no solvency problem involved in making debt and interest payments.
I’ll continue my discussion of Bruce Bartlett’s statement in my fourth post in this series. But, up to this point, it is fairly clear, I think, that most of his comments on the “debt crisis,”other than his treatment of the false household analogy, miss the relevance of our fiat currency system to the issue of whether or not there is, or can be an involuntary public “debt crisis” in the United States.