Thursday, October 31, 2013

Make our monetary system work for us.

Today, I submitted this to the Albuquerque Journal. It is possibly too wonky, but I wanted to make a credible statement that there is another way to look at our national finances. The Journal published this on November 17, 2013 with the title "U.S. Monetary System Widely Misunderstood." 


Recently Professor Stephanie Kelton, Chair of the Economics Department at the University of Missouri-Kansas City, cited an illuminating quote from a Federal Reserve document revealing that at least some people at the Fed understand our monetary system. The quote below rings quite differently from the prattle we hear incessantly from politicians and undiscriminating media, especially during the recent shutdown/debt ceiling fiasco.

“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. 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,...?" (St Louis Fed Publication 2157)

New York Fed Building
Professor Kelton is a leading member of a school of economists and fund managers, who realize that the monetary system changed when President Nixon defaulted on the gold standard in 1971. Since the early 1990’s this community, exploring Modern Money Theory, has published widely and has gained followers from around the globe.

Significantly, MMT followers foretold the monetary problems of the Eurozone, where members gave up their monetary sovereignty for a de facto gold standard. Thus, their debt was not in their own currency. MMTers were among those, who foresaw the private debt crisis that caused our Great Recession. Further, MMT explains why the Fed’s Quantitative Easing did not and cannot stimulate the economy and why federal deficits do not and cannot in themselves lead to high interest rates or inflation.

When we get away from the gold-standard thinking that dominates current fiscal discourse, we realize that as the monopoly issuer of the dollar the U.S. government does what monopolies do. It sets the price (short-term interest rate) of the dollar and issues dollars in the quantity desired at that price by government spending and private investment. Dollars enter the economy through bank loans, which must be paid back with interest, and through government spending. Government deficits are the only source of net saving in dollar-denominated financial assets in the non-government sector. Government debts are private assets to the penny.

Also, we realize that government spending is not contingent on our ability to borrow dollars from foreign lenders. China, for example, does not create dollars; it gets them because we buy stuff from Chinese manufacturers. With their earned dollars, China can purchase anything for sale in dollars. That includes AMC Theaters, Smithfield Hams, or U.S. Treasuries. We don't need China or anyone else to fund our government spending, they get dollars from our spending.

It is the same for Government taxes. In a fiat money system there are no dollars in the non-government sector until banks lend them or government buys goods and services. Taxes serve to retrieve money that has already been spent. Government deficits result in net saving of financial assets in the non-government sector. Likewise, government surpluses reduce savings in the non-government sector.

This is just basic accounting. If government happens to have a balanced budget (spending minus taxes is zero), the non-government sector (domestic plus foreign) will also  balance to zero. This would result in reduced savings for the domestic private sector to pay for the foreign trade deficit. Federal deficits help the domestic private sector keep its head above water.

Repeatedly, we hear both political parties extolling the virtue of reduced deficits, even balanced budgets. John Boehner, Speaker of the House of Representatives, often bellows that no household or business can spend more than its income, so neither should the government. President Obama and his bedfellows blindly accede to this demonstrable falsehood.

Because government creates the money, it is not constrained in spending like a household - not that government should spend more than is needed. Also, government is unable to save for future expenditures like a household can. Saving has no meaning for the currency creator.

Clearly, Government finances are distinctly different from household finances!

Government invests in the future by spending on research and infrastructure in the here and now and can continue until full employment is reached. Then our descendants get the benefits of real assets AND possession of the financial assets (Treasury bonds) that constitute the national debt (national net savings).

One need be neither nerd nor economist to understand the rudiments of our monetary system. Our fiat monetary system can facilitate domestic prosperity. We should demand it.

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