Tuesday, August 13, 2013

America's Main Street economy versus Wall Street

An article written by a local bank officer and published in the Helena Independent Record  on the relationship of the Fed to the rising mortgage interest rates stated that when the Fed buys Treasuries on the secondary markets it is "printing" dollars that  increase the number of dollars in the global economy.  The fact that a bank manager seemingly does not understand the Federal Reserves operation and is misleading the public from a position of supposed credibility caused me to write an article that was published on the Opinion page of the Helena IR on July 29.  My article was discussed on Professor Randall Wray's EconoMonitor blog site on July 30.


America's Main Street economy versus Wall Street

You might have noticed that Wall Street no longer is a thermometer for measuring Main Street’s economic health.  While the stock markets have recovered from their 60% collapse caused by the 2007 Great Recession and are now at an all-time high, the health of the Main Street economy as measured by the quantity and quality of jobs is not doing so well.

Jobs being created tend to be lower paying with fewer benefits than the jobs that were lost as fallout from the Great Recession and the recent government budget cuts.  Most concerning of all is the fact that the income and wealth gap between the richest and the working American continues to increase even as the stock markets continue their advance to higher highs.

Politicians, analysts, and media pundits provide all kinds of rationale for these discrepancies between Wall Street and Main Street and the failure of the job market to improve.  Almost all are wrong.

A new branch of economics called Modern Money Theory (MMT) perfectly explains these discrepancies.  It emerged during the early 1990s and foretold the euro zone crisis and the recent 2007 Great Recession.  And, it explains why the Fed’s Quantitative Easing (QE) program has been insignificant in stimulating the economy.  QE did have an effect of stimulating the stock market’s recovery while continuing to accelerate the income and wealth gap.

MMT is actually not a theory and it has no political ideological basis.  It is an objective study of modern (fiat) money and the way a sovereign country with its own fiat currency works.  It has nothing to do with big government versus small government, and it has everything to do with our government functioning effectively as our forefathers intended, using the constitutionally mandated financial tools at their disposal.

Warren Mosler, a former hedge fund manager who made his billions from these insights, challenged the economics profession that the U.S. would be far more prosperous if we stopped basing our fiscal and monetary policies on theories designed for a country whose currency was still tied to the gold standard. 
Today, tens of thousands of professionals in academia, finance, business, and government also champion Mosler’s insights that (1) our fears about the national debt and deficit are the result of a failure to understand how modern money works and (2) that lack of understanding is holding back progress on all economic fronts in America.  

And recently, the mainstream media has begun to take notice of MMT and is beginning to print articles about the economy discussed in a MMT framework.

While the actual details of how the United States government’s financial management system works are complex, MMT describes the government’s basic financial management framework in a way that is simple and straight forward that most of us can understand.

  • The U.S. government’s finances are nothing at all “like a family sitting around the kitchen table working its budget” as has been metaphorically described by countless politicians. 
  • The U.S. dollar is not tied to a commodity.  It is only a medium of exchange backed by the strength and power of the United States economy.
  • The U.S. government’s financial management system consists of two components, fiscal (spending and taxing) and monetary (monetary operations and interest rates control).  
  • Effective financial management requires that both the fiscal and monetary parts of the government work together in sync. 
Congress is solely responsible for the fiscal part.  It literally puts U.S. dollars into the main street economy by its spending and taxing directives and policy decisions.   To be effective, Congress must put the dollars where they are needed and in the amounts needed, coupled with effective tax policies, to reach its economic and societal objectives.  

The Federal Reserve Banking system (the Fed) is responsible for the monetary part.  As the central bank of the U.S. government, it manages the federal government’s financial balance sheet.  The U.S. Treasury and all states and commercial banks, both foreign and domestic, that want to do business with the U.S. government must have an account at the Federal Reserve Bank.  

The Fed is the most misunderstood part of the U.S. government’s financial management system, and its power is greatly exaggerated.  It is only the U.S. Congress that has the power to create jobs and stimulate growth in the main street economy.  

The Fed does have the authority to change the supply of reserves in the commercial banking system by exchanging reserves with Treasuries on its central bank financial balance sheet as it is currently doing with its QE program.  This action by the Fed does have great influence on the stock markets by changing the supply of reserves in the banking system (the financial industry).  But, increases in bank reserves do not make it into the general economy until or unless banks give loans to credit worthy customers in the private sector of the economy.   Therefore, the Fed’s QE action artificially inflates Wall Street while doing nothing to grow the main street economy that we all depend upon.

Real job creation and main street economic growth comes only from U.S. government deficit spending at times when the private sector is not producing enough jobs to generate disposable income in family budgets.
Just as the Fed is the “lender of last resort” for commercial banks if they need reserves to balance their capital accounts, the U.S. Congress must be the “job creator of last resort” for our economy.  For the United States to regain its status as the most prosperous and socially mobile country in the world, Congress must create a modern work program similar to FDR’s New Deal Programs of the 1930s.

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