Welcome to European Tribune. It's gone a bit quiet around here these days, but it's still going.

Why Fear Deficits?

by ARGeezer Thu Apr 29th, 2021 at 03:21:10 AM EST

Depressions usually start with a contraction of the money supply. In 1929 that contraction occurred in the fall, just when money needed to come out of the stock market so it could be used to transport crops to market. But the stock market was in a speculative bubble and this demand to sell stocks for cash caused the bubble to collapse.

 In 2008 there was a massive bubble in securities backed by real estate. When it was discovered that the assets backing most of these securities was only worth 60% of their face value, and that most banks and financial institutions had lots of these securities on their books all confidence in the financial system collapsed. Banks would not lend to other banks. Money Market funds 'broke the buck', letters of credit needed  for the export market ceased to be honored and the entire payment clearance system in the USA and the world froze.  

Frontpaged with minor edit - Frank Schnittger


Then comes the second blow. In times of recession or depression business people will usually not invest simply because it correctly seems to be unreasonable to invest in money losing operations when revenue is already down. So private investment drops towards zero. Good assets are being sold to cover the losses, driving down the price of all assets.

This dynamic was well described by Irving Fisher in his paper Debt Deflation Theory of Great Depressions So the ONLY ways out of such a debt-deflation death spiral was, under the gold standard, a new gold rush or a national emergency such as war, which led countries to abandon the gold standard. This was why John Maynard Keynes called the gold standard a barbarous relic - it prevented governments from effectively relieving wide spread suffering.

Ironically, a workable prescription for handling such crises had been available since 1873, when Walter Bagehot published Lombard Street A Description of the Money Market.. Bagehot's prescription for dealing with financial crises was to lend without limit but at a high rate and against good securities.

In 1929 The Federal Reserve was paralyzed by a dispute between the Board and the New York Fed and, effectively, did nothing. The result was the Crash of '29 and the Great Depression. In 2008 the Federal Reserve under Ben Bernanke in coordination with Hank Paulson, Sec. of Treasury, implemented the 'lend without limit', but ignored the 'at a high rate' part. The result was to prevent a financial collapse but to leave a lot of problems unresolved.

The primary task of a Central Bank is to defend the payment system. If the payment system collapses the economy will follow. Collapse is what happened in '29. But the Fed had to and did save the world's payment system in 2008. That is the price of having the world's de facto reserve currency.

In the 1990's, building on Keynes and other monetary economists, consciously or not, the developers of Modern Monetary Theory, MMT, including Warren Mosler, Bill Mitchell and Randall Wray began to take a closer look at how money creation ACTUALLY OPERATES in countries that have their own fiat currency that is freely traded in international markets. It is not that others had not come to such conclusions themselves, but they had not attempted to make the findings widely known.

MMT notes that money is FIRST created and spent into the economy and THEN a portion of that money is taxed back, that tax money being destroyed upon receipt. If the money were not first spent by the government there would be no money to tax. The difference between what the government spends into the economy and what it taxes back and then destroys is the money that remains in the economy. The effect is cumulative over time. And the sum of all government purchases since the nation's founding is equal to the national debt - which is really the national net worth.

The US Federal Reserve has clearly understood this since Marriner Eccles Marriner_Eccles was made head of the Federal Reserve under FDR in November of 1934. Eccles had independently developed an understanding of money creation similar to that of Keynes while running his own bank group in and around Utah. The USA and the UK, during WW II, fully took full advantage of these understandings to put the productive capability of the US and the UK into overdrive without creating inflation. Successive Chairmen of the Federal Reserve have clearly stated that the Federal Reserve, in coordination with the US Treasury Department, creates money out of thin air via bookkeeping operations on its computer accounts system. Money is created by key strokes. Alan Greenspan and Ben Bernanke have both stated this truth before Congress. So it is simply not true that the US Government uses taxes to 'pay for' expenditures. And the limit on government expenditures is inflation, not tax revenue.

In times of recession or depression it is vital that Congress deficit spend sufficiently to make up for the lack of private investment. It was the failure to adequately deficit spend after 2008 that led to the anemic recovery under Obama. The 2008 meltdown had left approximately a $1.6 Trillion hole in the US money supply, but the Obama Administration only provided an $800 Billion stimulus. So the recovery began from a baseline $800 Billion below what it had been before 2008. Thank Larry Summers' numbers phobia.

It is easy to see why deficit spending is usually needed. Let us, for purposes of analysis, divide the US economy into three parts:

PART ONE is the Federal Government. It is unique in that it possesses the ability to create money at will via keystrokes on the Federal Reserve's book. It consists of everything that the Federal Government pays for directly - the salaries of all government employees and all government purchases. As the Federal Government can create money at will to cover its obligations it can never be forced to declare bankruptcy except as an act of political vandalism.

PART TWO is the Private Sector. This includes state and local governments, all corporations not part of the Federal Government, all private citizens and all privately operated businesses. These are money users. They cannot create money at will and they can and will go bankrupt if they operate at a loss long enough.

PART THREE is the Foreign Trade sector - everything we import and export, both goods services and US currency. To keep things simple let us look at the situation where there is balanced foreign trade. Then it equals Zero and drops out of the national accounts budget.

So, in the case of balanced foreign trade the equation for the US National Account System is:

Public Sector + Private Sector = Total Economy.

The actual amount of the total economy does not matter for purposes of this analysis, so let set it to zero. Then the equation becomes:

Public Sector + Private Sector = Zero

From this it is obvious that The National Account is like a teeter-totter.  if the Public Sector runs a surplus then the Private Sector must run a corresponding deficit. If continued very long a Federal surplus, such as the one of which Bill Clinton was so proud in the late '90s, will lead to a recession, such as the one George W Bush inherited. This is because the net effect of federal spending and taxation when the Public Sector runs a surplus is to extract money from the economy. Tight money leads to recession or depression. On net Private Sector entities lose money and start to go bankrupt. And they cannot create the money to pay their obligations. Only the Public Sector can do that.

When the Public Sector runs a deficit - A FEDERAL DEFICIT, then the Private Sector runs a surplus. Businesses and individuals, on net, MAKE money and prosper, while the Public Sector, the dreaded Federal Government, runs a deficit - which it can cover by simply creating the money to close the gap. Sadly, this requires Congress to do the right thing and run a deficit, which they are often unwilling to do if so doing would make the party in power look good.

All of the above is well laid out in Stephanie Kelton's The Deficit Myth. Kelton received her PhD at UMKC under Randall Wray.

Fortunately the Biden Administration is following the MMT prescription at this point and spending big to meet the present and future needs. They will, however, have to keep an eye on inflation, which is the true guide star of fiscal policy. Increasing taxes, especially on the rich, is one way to counter inflation. Fortunately it also counters increasing wealth inequality.

Display:
MMT also goes a long way towards explaining 'the business cycle'.

The pure monetary model and the monetary over investment models assume that consumption, business confidence and investment are endogenous elements. From an MMT perspective investment can be an element of fiscal policy as can be control of inflation. So the business cycle would result from improper or imperfect fiscal policy over the life of the cycle.

Schumpeter introduces the effect of innovations as part of the business cycle. Disruptive inventions invite investment and tend towards a boom. But Schumpeter also assumes that the supply  of capital is determined by endogenous factors. Again, from an MMT perspective, investment can be an element of fiscal policy, as can be responses to inflation.

Keynes explanation is more complex but was never taken to the level of policy perscription and does not suggest active fiscal policy intervention to control the business cycle.

In fact all of the discussed explanations assume no fiscal policy intervention. Yet fiscal policy is probably the best way to control the business cycle.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Apr 29th, 2021 at 04:04:51 AM EST
From life's experience each theory is proven right until under duress the shortcomings come to light. I have lived through the Kennedy investment in America's Space Program and boost to technology, innovation, education and the sciences. The mistaken costs of the Vietnam War (Johnson) and domestic political unrest did likely offset much of the positive economic boost. The Nixon shock of economic measures and dollar conversion cut from the gold standard (1971) led to runaway inflation and the recession of the eighties.  The International shock of Middle East conflict, oil price spike of 1973, the Asian Stock crisis of 1987, the Savings and Loans crisis, recession of the nineties, the Internet bubble of 2000-2001, etc. added to a cyclical uncertainty.

My worry is the savings and pensions of those not involved in the workforce. The Dutch used to have the best pension benefits, but under Conservative policy of Mark Rutte, the younger generation are mostly "self-employed" and lacking social benefits. Absolute no room for a pension after 70+ years of age. This is not investing in a future for society, just reaping profits and not sowing seeds for improvement.

Some criticism from "the left" ...

Eric Tymoigne and Randall Wray's (2014) defense of MMT leaves the MMT emperor even more naked than before (excuse the Yogi Berra-ism). The criticism of MMT is not that it has produced nothing new. The criticism is that MMT is a mix of old and new, the old is correct and well understood, while the new is substantially wrong. Among many failings, T&W fail to provide an explanation of how MMT generates full employment with price stability; lack a credible theory of inflation; and fail to justify the claim that the natural rate of interest is zero. MMT currently has appeal because it is a policy polemic for depressed times. That makes for good politics but, unfortunately, MMT's policy claims are based on unsubstantiated economics.

[The Critics of Modern Money Theory (MMT) are Right - by Thomas I. Palley]

From the nineties ... Reagan's Voodoo economics now mainstream?

Modern Monetary Theory: A Critique

Oversupply of money - affordable housing - higher education - poverty level in affluent society.

The Covid-19 spending by government keeps unemployment low, because workers are on the government pay-roll ... this will not last. As one can witness in the stock market, a tectonic shift to the tech sector and everything digital. The shortage of microchips is already biting in manufacturing and the economy. People have their workplace at home, but the increase in road traffic increases due to retail shops going bust and goods we buy in the web shops need to be delivery by couriers. Are we just patching up the shortcomings until heaven of doom falls from the sky? Just as sudden as the Covid-19 pandemic was foreseen, but corporations and politics refused to act. Climate change, rising sea level, extreme drought and rainfall just to name some obvious challenges.

COVID-19 has created a new poverty class in Europe

Barcelona is a city known for its architecture, culture and thriving business sector.

But the city has recently revealed a darker side: people from all walks of life are suddenly finding themselves exposed to hardship and occasionally hunger.

The economic crisis caused by the pandemic is wreaking havoc, especially among the middle classes. Nearly half the people asking for social and financial help now are called the "new poor". They're people who, for the first time, are in a position of vulnerability.

The territorial impact of COVID-19: Managing the crisis across levels of government | OECD |

It's abundantly clear governments are setting policy in unchartered waters ... Dutch saying: "Op hoop van zegen." Just like a farmer sowing in seeds in either a dry field or extremely wet, hoping to harvest a crop of abundance.

PS Interesting to discuss the effect of American capitalism by controlling the spigot of fossil fuel: heavy sanctions on Iran-Libya-Iraq-Russia and possibly Turkey in the near future. Artificially keeps the price of a barrel of oil high and funnelling wealth to the sheiks of the Gulf States and the new oil barons of fracking in the America's.

by Oui on Thu Apr 29th, 2021 at 06:02:39 AM EST
Excellent coverage for insight into fiscal policy and MMT ...

MMT Heaven and MMT Hell for Chinese Investment and U.S. Fiscal Spending | Carnegie Endowment - Oct. 2019 |

...
From these readings (including a 1943 piece on "functional finance" by economist Abba Lerner), we assume that the key insight of MMT is not that debt doesn't matter, as mistaken stereotypical views seem to assume, but rather that governments that issue their own fiat currency have no funding constraints insofar as they do not need to issue debt or raise taxes to spend money. They simply budget the expenditure, and then go ahead and spend the money.

by Oui on Thu Apr 29th, 2021 at 07:29:05 AM EST
[ Parent ]
I like the following quote from the above article a lot and have long been a fan of Michael Pettus:

Advocates for modern monetary theory argue that, for a sovereign country with its own currency, there is no inherently unacceptable level of government debt--that country does not automatically begin to collapse when debt reaches 90 per cent of GDP, or even 200 per cent of GDP. The country appropriates what it believes is necessary for domestic programs, regardless of revenue.

This, however, is almost certainly an unfair caricature of MMT. It assumes that if a country increases debt to fund spending until the economy is at capacity, it will cause the country's debt-to-GDP ratio to rise. But if government spending directly or indirectly causes productive investment to rise in line with the debt, this kind of spending increases both debt and GDP, so neither the debt ratio nor the debt burden changes.


I have long maintained that the purpose of the expenditure is at least as important as the size of the  expenditure, but with an investment time is required for the investment to mature and that has to be taken into account for future investments once investments are underway.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Apr 29th, 2021 at 05:30:11 PM EST
[ Parent ]
Keynes once argued that in a recession it might be good policy to pay people to dig a hole and then fill it in again. This was almost certainly hyperbola, but certainly be preferable to just letting people starve.

But the difference between Republicans and Democrats may not be about the level of deficit spending, at least when their own man is in power. Cheney, after all, said that "Reagan proved that deficits don't matter".

The difference between Reaganomics and Bidenomics may be that Biden insists on the spending being directly on public goods like relieving poverty, improving public healthcare, re-building infrastructure and reducing carbon footprints.

Trump, on the other hand, insisted that increased borrowing should be on funding tax cuts for the rich and for highly profitable MNCs, on the grounds that this would increase investment and eventually trickle down to everyone else.

But as Krugman has pointed out, this increased investment never materialised, to the embarrassment of its conservative advocates, which is one of the reasons they have remained strangely quiet about Biden's proposed spending splurge.  

Index of Frank's Diaries

by Frank Schnittger (mail Frankschnittger at hot male dotty communists) on Thu Apr 29th, 2021 at 06:29:05 PM EST
[ Parent ]
Macron has applied his version of Trumponomics over the same period, with the same striking lack of results...
The axiom "give money to the rich, they will invest it" is a manifest absurdity, they didn't get rich by being stupid. If good investments are available, they will borrow to invest. Otherwise, they might as well spend it (witness the extraordiary boom in luxury goods and services these last few years).

Pushing on a piece of string...

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II

by eurogreen on Thu May 6th, 2021 at 10:51:58 AM EST
[ Parent ]
The Economist Who Believes the Government Should Just Print More Money | The New Yorker - Aug. 20, 2019 |

Stephanie Kelton, a senior economic adviser to Bernie Sanders and a professor of economics and public policy at Stony Brook University, is popular in a way that economists, almost definitionally, are not.

Filmmakers trail her with cameras; she goes on international speaking tours and once sold out a basketball arena in Italy. Kelton is the foremost evangelist of a fringe economic movement called Modern Monetary Theory, which, in part, argues that the government should pay for programs requiring big spending, such as the Green New Deal, by simply printing more money. This is a polarizing idea.

by Oui on Thu Apr 29th, 2021 at 07:31:00 AM EST
[ Parent ]
It is easy to throw stones at someone whose ideas you don't like. More difficult is to provide a better solution than they offer. Would one suggest that the US Mainstream Economics explanations of money are superior? Paul Krugman tried that - with rather unimpressive results.

 To me mainstream explanations are an incoherent and bumbling collection of 'just so' stories: 'loanable funds', 'crowding out', etc. Neo-Classical Economics considers money creation to be exogenous to the economy. Lucky miners dig out the gold and the US Mint turns it into money. But that tied growth of the money supply to new gold discoveries, which was far from what the economy actually needed. And that became obsolete with the end of the gold standard.

Instead of providing a theory of money Mainstream Economists just provide an excuse for the government doing nothing so it will not get in the way of private enterprise, which has again run amok. Let the looting continue.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Apr 29th, 2021 at 04:11:23 PM EST
[ Parent ]
On the whole the article is favorable to MMT but the author is new to the subject. I see that I had been mistaken about Kelton's PhD, which I thought was from UMKC, but The New School certainly makes sense.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Apr 29th, 2021 at 05:44:41 PM EST
[ Parent ]
Popular understanding of MMT is near zero and people mostly recoil in horror if you try to explain it. Journalists ought to know better, but largely pander to the neoconservative economic hegemony.

However, the USA has been doing it for decades, and the fact that the EU has now signed up for deficit spending on a fairly big scale, to remarkably feeble opposition, is perhaps a game-changer.

Clearly, the euro is the key resource. Other countries with their own currencies are much more vulnerable.

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II

by eurogreen on Thu May 6th, 2021 at 10:57:49 AM EST
[ Parent ]
I don't see your last sentence as necessarily true. Sweden has been spending a lot more then taxes received since the start of the pandemic.

According to trading economics non-euro EU members Sweden and Denmark increased government debt in 2020 by 20-25% and eurozone by 11%. UK by around 15% and US by just above 25%.

So far it looks like the euro is still a constraining factor when it comes to using deficit spending to alleviate teh effects of the pandemic.

by fjallstrom on Thu May 6th, 2021 at 02:41:00 PM EST
[ Parent ]
Correlation is not causation: the overall lower government debt increase in the EZ countries is not necessarily the result of the Euro itself; many so-called "frugal" countries with large GDP are part of the EZ. Would be interesting to know what caused the difference between EZ and the other...
by Bernard on Thu May 6th, 2021 at 05:00:53 PM EST
[ Parent ]
But lack of correlation indicates a lack of causation, so if other countries has larger increases in debt it indicates that eurogreen's last sentence isn't true. It isn't because of the euro that the euro zone can run deficits, it is despite the euro. Also because sovereign governments with their own currency are not restrained by deficits, only countries using a foreign currency are.

Sweden and Denmark are your typical "frugal" countries with current accounts surpluses (easier outside the euro zone) and low debt/GDP ratios. Actually, now I realise that one can argue against the metric in my last comment in that relative increase in government debt gives undue weight to previous debt level (which is low in the case of Sweden and Denmark). So if one wants to make comparisions one should use some other metric.

by fjallstrom on Thu May 6th, 2021 at 08:54:31 PM EST
[ Parent ]
But perhaps being outside the euro forces them to have a low deficit or a surplus? Perhaps it's not purely a policy choice?

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II
by eurogreen on Fri May 7th, 2021 at 01:24:19 PM EST
[ Parent ]
But smaller currencies are more vulnerable to markets, surely. Nothing bad has happened yet, but perhaps some wannabe Soros is planning an attack on the Danish kroner when the opportunity presents?
Pure speculation, on my part, I confess.

It is rightly acknowledged that people of faith have no monopoly of virtue - Queen Elizabeth II
by eurogreen on Fri May 7th, 2021 at 01:21:43 PM EST
[ Parent ]
Much of the criticism is from 'post-Keynesian' economists and reflects arguments within the post-Keynesian community where some see MMT as an appropriate whipping boy to disguise their own disarray. MMT is NOT a complete theory of Economics. It is simply an explanation of how fiat money works when it is freely traded internationally.

Ranall Wray is one of the seminal figures in MMT and one of his efforts has been to solve the unemployment problem with his Job Guarantee. Palley is simply wrong on that point. Post Keynesian Economics is a broad field. Parts of that field are needed to compliment MMT, which supplies the theory of money. Not all traditions in economics have complete theories of economics, Georgism, for instance. Yet the Georgist tradition provides valuable insights and offers effective solutions. Gödel's incompleteness theorems come to mind in this respect.

Of course the Cato Institute will oppose MMT. Half of them are closet gold bugs. But, while that world is gone, the nostalgia for it remains. It is true that infaltion took off after the USA abandoned the last link to the gold standard in 1971. That does not imply that the resulting inflation was CAUSED by abandoning the gold standard. Allowed? Certainly.

The response to leaving the gold standard was certainly  far less than optimal. Larry Summers long ago quipped that 'we probably ought to have done something about the price of gold.' What could that have been? Buying and continually rolling over a large out of the money Long Term Equity Put on gold would likely have kept it below $60 for a good while. And the NY Fed could have done that off book and at almost zero cost. Keystrokes are cheap.

To Milton Friedman the abandonment of the gold standard in conjunction with the oil shocks and the resulting stagnation was an opportunity to bash Keynes. Keynes was not around to defend himself and the media bullhorn had been given to Freidman by the same people who gave him his direction. Friedman knew on which side his bread was buttered.

The most sensible response to the oil supply shocks was import substitution, which Carter tried, but which the clout of the Oil lobby derailed. The other available response was to allow wages to rise so as to make the shortage price more affordable. Instead we got Volker. Friedman's theories about controlling the money supply were virtually forced upon the Fed, but quickly proved unworkable. 'Supply Side' 'economics' scarcely deserves discussion.


"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Apr 29th, 2021 at 03:48:29 PM EST
[ Parent ]
Yanis Varoufakis has an interesting take on the current situation in Europe and the USA. He was the virtual keynote speaker at a conference in Israel apparently sponsored by the Israeli Labor Party. He asserts that, since 2008, we have been in a Post Capitalist environment.

Our situation is Post Capitalist as capitalism has been disconnected from the ability of corporations to make profits by making things. Much of this has to do with financialization. In the USA and UK manufacturing ceased to be profitable and was largely 'offshored' under the guise of 'neoliberalism' which was neither liberal nor new. Since the '80s in the USA and UK profit sources came to be financial firms.

General Motors, by 2008, was a financial services firm that made cars on the side, while the profits came from General Motors Acceptance Corporation. I would add General Electric to that category, as by the '90s its profits came from the Japan Carry Trade - borrowing Yen for free in Japan, converting them to US$ and 'investing' those dollars for profit at a positive interest rate in the USA.

But in 2008 this all collapsed and the banks, along with other financial firms, were bankrupt and totally dependent on free money from the Federal Reserve or the Bank of England, which came to the rescue of the financial sectors, with the Federal Reserve also supplying generous swaps of US$ to foreign Central Banks. But what to do with this free money? Central Banks could only supply that money to credit worthy borrowers, of which there were few, as citizens did not have accounts at the Central Banks.

The answer was to give the money to large corporations. They could be counted on to pay the money back and many of them had huge cash reserves anyway. But the corporations did not see profitable investments available in the economy. In Europe the ECB went to negative interest rates, effectively paying the corporations to take the money. The not so ingenious solution of the corporations was to use the money to buy and retire shares of their own corporations, thus driving the stock bubble we now have.

To Varoufakis this was no longer capitalism, which is why he calls the situation Post Capitalist. Then he points to the massive market failure constituted by the inability of Capitalism to make the investments necessary to save the climate. So he argues for a Green New Deal financed by Green Keynesianism.

But Varoufakis also notes that such Keynesian efforts always meet with push back from the business sector. So he proposes a new version of Capitalism, where each worker has one non-transferable voting share in the corporation for which he works and the direction of the corporations are set by votes of the workers. This reminds one of Lenin's 'All Power To The Soviets' - at least so long as they followed the direction of the 'vanguard'.

Well, something clearly needs to change in the organization of our political economy. And that something needs to address the massive wealth inequality and the inability/unwillingness of our current Capitalist system to invest in saving the climate and providing future generations with a livable world.  

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu May 6th, 2021 at 04:12:13 PM EST
Capitalism expresses myriad forms of property and exclusive, or "private," ownership rights thereof, granted and enforced by government.

So.

No.

Civilized societies have not dispensed with organizing principles, functions, and utility ascribed to property by people.

by Cat on Sat May 8th, 2021 at 11:14:30 AM EST
[ Parent ]
by Cat on Sat May 8th, 2021 at 11:19:16 AM EST
[ Parent ]


Display:
Go to: [ European Tribune Homepage : Top of page : Top of comments ]