The dull topic of deficits and fiscal policy are no where near as compelling and interesting at the moment when compared with all the other topics at hand such as the current civil unrest in Ferguson, Missouri, the ongoing militarization of a growing number of local police forces in American cities and all the incredible suffering overseas due to war and human rights abuses. So I deviate from these pressing concerns with a further bit of boring political economy about our present fiscal matters. One of the reasons is not just that the economy is always an issue but that it does appear that McConnell & Co. are already threatening another costly government shutdown should they take back the Senate this November. According to DNC chairperson Debbie Wasserman Shultz, “We now have it confirmed — electing a Republican Senate majority would put us back on the road to another shutdown...” And House Minority Whip, Steny Hoyer lamented of the prospect of a GOP majority in the Senate; "I am deeply disappointed that Sen. McConnell is already threatening a government shutdown next year if Republicans’ yet-to-be-named partisan demands aren’t met...This further shows that Republicans are more interested in partisan, political games than in governing on behalf of the American people."
But the GOP shows no signs of wanting to avoid another costly shutdown. It is unlikely that we'll see the new Tea Party dominated GOP back down. It seems, rather, that they've been doubling down on their old strategy despite the obvious long term harm to the American people. Congressman Steve Israel (D-NY) has referred to the GOP threats as "partisan tools" when it comes to using the threat of a shutdown as bargaining chips for unreasonable and unpopular legislation and called for such abuses to cease. But it is unlikely that we'll see the new Tea Party dominated GOP back down. It seems, rather, that they've been doubling down on their old strategy despite the financial cost and long term harm to the American people.
The fact is, however, that cutting spending is a bad idea at a time when the economy is finally making a comeback and deficits, in the short term are completely irrelevant to the economy's long term health. It's not just that austerity now would shutdown the recovery; it's that deficits generally don't matter. These are times when many economic ideas are coming from unlikely sources and Warren Mosler, an economist and president of a capital management firm called Valance Company, is just one of those sources!
Mosler, a Keynesian economic thinker and one of the founders of Modern Monetary Theory (MMT), along with economists Marshall Auerback and L. Randall Wray, argues that fiscal sustainability doesn't consist of some kind of ideal threshold or magic ratio of national debt to GDP, as implied by a highly flawed study on the subject by Ken Rogoff and Carmen Reinhart. Rather, Mosler criticizes such debt thresholds as "artificial" posing needless constraints on economic growth and employment. One report sums up his argument on fiscal sustainability by saying that it "...is directly related to the extent to which labor resources are utilized in the economy. The goal is to generate full employment." But there is more to MMT than the obvious Keynesian argument that the real goal of policy making is full employment. It is the working proposition that sovereign government's don't face short term financing limits by deficits foreign or domestic.
Not only is it the case that national governments are not like households (unlike households, national governments earn more money by borrowing and spending to the extent that this creates added tax base and hence revenue sources) but government debt is not taxpayer debt; it is actually savings accrued by public lenders in accounts held by the Federal Reserve! Mosler explains;
The 'national debt' is nothing more than a bunch of dollars balances in savings accounts' at the Federal Reserve Bank better known as 'Treasury securities.' These 'securities accounts,' as insiders call them, along with checking accounts at the same Federal Bank (called 'reserve accounts') and the actual cash in circulation constitute the total net dollar savings of the global economy, to the very penny. When the U.S. government spends more than it taxes, those extra dollars it spent first go into our checking accounts, and then some gets exchanged for actual cash as needed, and some goes into those savings accounts at the Fed called Treasury securities. So how is 'all that debt' paid off? When Treasury securities are due, the Fed simply shifts the dollars from those savings accounts at the Fed to checking accounts at the Fed. That's all! And this is done for tens of billions every month. The debt is paid off by a simple debit and credit on the Fed's books. There are no grandchildren or taxpayers in sight -- they would only be getting in the way. There is no such thing as leaving our debt to our grandchildren!
So all this pious conservative hysteria about "leaving massive debts to future generations" has not only wrong but misses the point that in fact such debt is not a future liability but a current asset! When the public sector has a deficit, the private sector has a surplus and vise versa. Thus, the entire economy, public sector, private sector and external (trade) balances, are all part of one big accounting system with debits and credits moving back and forth; for one to be in a surplus the other must be in a deficit. This is one reason economist L. Randall Wray decried the Clinton surpluses and a bad thing; they came at a time when the private sector was also deleveraging due to the stock market crash in 2000 causing the economy to go into a recession in the first quarter of 2001!
Wray explains;
Based on the work of Distinguished Scholar Wynne Godley, it is useful to divide the macro economy according to its three main sectors: domestic government, domestic nongovernment (or private), and the foreign sector. According to his aggregate accounting identity, the deficits and surpluses across these three sectors must sum to zero; that is, one sector can run a deficit so long as at least one other sector runs a surplus...When there is a government sector surplus as well as a current account deficit (the “twin leakages” during the Clinton boom), the private sector is left with two possibilities to counteract the destruction of income: it can stop importing (leading to a balanced current account) or it can spend more (running a private sector deficit). For most households, borrowing substituted for the income squeezed by tight fiscal policies. This is why the federal budget surpluses under Clinton did not (immediately) lead to an economic downturn, since private sector deficits maintained aggregate demand but increased indebtedness.
But as Wray went on to explain, the cessation of both private
and public spending at the same time quickly led to the post-2001 downturn. The demand leakage of both of those plus growing foreign trade deficits caused a collapse of spending and hence brought on the down cycle after an unprecedented ten year expansion. The much vaunted surpluses were actually a
bad idea. Wray explains;
As evidenced by the current crisis, private sector borrowing on the scale seen after 1997 is not sustainable. The Clinton surpluses would inevitably result in a downturn, just like every sustained budget surplus in U.S. history...Every recession since World War II was preceded by a government surplus or a declining deficit-to-GDP ratio, including the recession following the Clinton surpluses. Recovery from that recession resulted from renewed domestic private sector deficits, although growth was also fueled by government budget deficits that grew to 4 percent of GDP.
Wray goes on to point out that it was actually the sudden drop in average annual Bush on budget federal deficits as a share of GDP (according to the CBO they dropped from a peak of 4.8% of GDP in 2003 to 2.4% of GDP in 2007) in 2007 that slowed the economy leading to the recession later that year. The fact that this occurred along with household reductions in borrowing and spending after the housing bubble began to deflate in mid-2006, all the more ensured that a recession would be bound to follow. The financial panics that occurred in late 2007 and 2008 only made things that much worse. But it all began with the twin reduction in both private and public sector borrowing and spending at the very same time. It is only when we see deficits as part of an "aggregate accounting identity," instead of purely a fiscal matter which is akin to the household writ large, that we understand the fiscal dynamic's impact on the overall economy and the context in which it occurs.
Mosler makes the case for a progressive fiscal agenda by stating the obvious; there is no immanent inflationary pressure from federal deficits; high productivity, low effective demand and a surplus of unsold inventory have kept the lid on prices. In other words, when a surplus of unsold, cheaply produced goods build up, prices remain low regardless of how much money the US federal government owes to bond holders. Who knew?? Anyhow, it isn't just supply and demand at work (which is the only truly unchanging law of economics) but some other issues as well. Mosler attempts to bury the quantity theory of money for good with MMT's restatement of the Keynesian classic thesis on the theory of money in a modern market economy. First, that federal taxation isn't just a means of raising revenue; it also regulates aggregate demand. Secondly, and most importantly, federal borrowing isn't primarily to fund expenditures but to "regulate the term structure of interest rates" making the US Dollar a public monopoly enabling the Federal Reserve to engage in monetary policy making through open market operations. Once this is understood, it is easy to see how the idea that the federal government is "broke" or simply "out of cash" is absurd! The Fed can easily macro manage the economy without the fear of causing inflation through the available monetary policy tools. This, by the way, is the same reason that banks are never reserve constrained in making loans (though they can be capital constrained); so long as credit worthy borrowers need loans from their local bank, the regional Fed will always credit the reserves of that bank with the requisite funds.
Mosler sums up the basic gist of MMT here;
"...MMT teaches us there is no such thing as the U.S. Government running out of dollars, that the U.S. Government is not dependent on foreign borrowing to be able to spend, and that hyperinflation comes only from sustained over spending far beyond full employment and our capacity to produce. Nor can the U.S. government become the next Greece or Ireland."
So there we have some of the basics of MMT which is really an updated, simplified restatement of the old Keynesian theory of money and credit. Some of these axiomatic claims are that money is created endogenously by banks (particularly the central bank) by crediting accounts (with debiting being the form of repayment) of borrowers; it is not something created physically outside the system as a medium of exchange which needs its value supported by something like gold or silver to control the supply and prevent inflation. Money doesn't come from anywhere; it is simply a matter of crediting and debiting accounts. The same is true for alleged foreign borrowing (from say China) to fund consumption which is actually funded by private consumer borrowing while borrowings from China simply go into a savings account at the Fed and then to a "checking account" there when the bonds are repaid. Its all a matter of credits and debits. As Mosler points out in his
Seven Deadly Innocent Frauds of Economic Policy,
"...both dollars and U.S. Treasury debt (securities) are nothing more than “accounts,” which are nothing more than numbers that the government makes on its own books." Thus, those who harp on about not having enough money to pay foreign creditors misunderstand the very nature of the process to begin with; again it is simply a matter of credits and debits based on demand for goods, services and loanable funds.
Neither is there an automatic money multiplier which is some multiple of existing reserves through the loan process; loans are only made to credit worthy borrowers who repay with interest thus cancelling out any multiplier effect on bank assets. The gold standard doesn't actually control the money supply in this case; it just puts needless constraints on economic growth causing interest rate increases when panics cause a "flight to the safety of gold" during crises. As Mosler says in his critique of the gold standard, "In a market economy you can’t fix the price of two things without a relative value shift causing you to be buying one of them and running out of the other. Likewise, you can’t sustain full employment and a stable gold price if there is a shift in relative value between the two." Which exactly describes the constraints on fiscal policy created by the "gold cover" for the US Dollar; government is limited to that level of spending that doesn't exceed the gold reserves needed to cover the outstanding currency. This would have made the recent financial crisis even worse due to those needless constraints. Not only would gold not have prevented the financial crisis, it would have exacerbated it and prolonged the crisis.
Here we have pretty much the difference between Keynesian monetary theory and the quantity theory held by monetarists like Milton Friedman and those of the Austrian School. The first sees money as an endogenous creation of a cycle of credits and debits in which money, like energy in physics, is really neither created or destroyed but merely a something which facilitates economic activity based on the existing conditions in the economy. Money is never a problem; so long as there is effective demand for goods and services produced by efficiently deployed capital stock there is "money" which is in this sense always in existence because it is actually determined by economic conditions. Here we are not surprised that the Keynesian, or more progressive, world view sees aggregate demand and economic conditions as the basic reality rather than something random and external to the system like physical money-in some random exogenous quantity-whose preservation by gold has nothing to do with the actual conditions in the economy and which has undue influence over economic sustainability that can be easily destroyed by the needless policy constraints of a strict monetarism as we saw in the early 1980s.
So what to make of the resurgence, after a brief respite, of Tea Party threats based on flawed economic philosophy? The deficit hawks are not so much preoccupied with deficits as they are with an agenda. This is an agenda to destroy the public sector and marginalize what is left of a stable middle class in order to concentrate wealth, income and output further and further upwards. They want to destroy public facilities that have worked well and cost effectively for generations, such as the post office, and replace it with expensive private services that cater to those with money. Their agenda is to further line the pockets of the wealthy at the expense of the middle class from whom their privatization/austerity agenda seeks to shift more income to the wealthiest households. And as we well know, it is the worsening inequality produced by conservative policies that has created the current crisis in the first place! All the crocodile tears about deficits burdening future generations makes a good soundbite but is based on a obsolete paradigm that is woefully inadequate to either explain the actual workings of our economy or to produce policies to save it for those future generations about whom the far right pretends to have so much concern.