Easy Money is Dangerous Without Activist Fiscal Policy

Yves here. A layperson-friendy explanation of why the Fed’s and ECB’s policies are sorely misguided.

By Teresa Ghilarducci, Director, Schwartz Center in Economic Policy Analysis (SCEPA), The New School for Social Research. Originally published at the Institute for New Economic Thinking website

Weak fiscal policy and a political commitment to permanent austerity in many advanced economies has left monetary policy do a job for which it was never designed, and at which it is failing.[1] The supply of easy money amid conditions of austerity is increasingly dangerous, not only because it weakens the economy but also because it threatens to destroy the advance-funded pension model. These policies, and a cynical reliance on private debt to fuel consumption by  households in the bottom 90 percent of the income distribution — and especially the bottom 50 percent[2] — will doom all forms of private pensions that rely on advance funding with financial assets.

Given the limited tools available to them, the world’s cencentral banks are unable, acting alone, to stimulate the world economy. That much is plain in the impotence of the European Central Bank without a robust fiscal union,[3] and even in the U.S. experience.

In 2008, Fed chief Ben Bernanke rapidly extended the Fed’s activity to provide liquidity through “quantitative easing,” including providing loans to all financial institutions, not just commercial banks; loaned money to businesses through the “commercial paper” market; and loaned money to AIG, an insurance company. As a scholar of the Great Depression of the 1930s[4], he was mindful of the scale of the danger posed by the financial meltdown, and acted quickly and appropriately to implement a monetary ease, buying bonds from untraditional sources[5] and lowering interest rates.

Short-term low interest rates have their place as a temporary measure; without those, the recession would have been longer and deeper. But the low interest rate policy was complemented by quick action by Congress and the President to decreases taxes and boost spending, but only for a limited period. When these fiscal measures expired, so did the recovery.

Low interest rates plainly can’t stimulate the economy – and can actually be dangerous — without activist fiscal policy, for seven main reasons:

Seven dangers of chronically low interest rates

1) Households are forced save more to reach their retirement wealth targets. When households save for retirement they use a mental or actual retirement calculator — simple math (see the chart below) says that if the return assumption is lowered slightly, the required savings rate increases. If a young person arranges to save for retirement in 30 years, she needs to plan.

If equipped with foresight and financial literacy, she’ll take account of the fact that all four of her grandparents lived past age 90. She’ll study the literature on productivity slowdowns[6] and secular stagnation,[7] and take the IMF predictions to heart, so she’ll assume a 1 percent real return on assets. And her required savings rate explodes – she would need to save 37 percent of her income order to ensure her consumption remains smooth throughout her lifetime. If she assumes a 20-year retirement and a 6 percent real return, she only has to save a manageable 5.2 percent (See chart 1).

Chart 1: Required contributions as percent of pay every year for 40 years, with low and high real asset return rates to fund retirement:

Retirement Years Asset Real Return of 1% Asset Real Return of 6%
20 years 25.8% 5.0%
30 years 37.0% 6.2%

Lower interest rates are not the reasons why rates of return on retirement savings for most households are low. High fees, undiversified liquid portfolios, and low net-of-tax returns are contributing factors. The low returns are the result of the failed structure of individual-directed, commercially-managed 401(k) and IRA plans. Because individuals in the bottom 60 percent or so of households get little tax relief due to their low marginal tax rate, the retirement accounts for the households at the bottom of the income distribution can easily earn negative real returns after deductions for fees are taken into account[8].

2) Lower interest rates force employers to increase funding contributions to pay for defined pension plans[9]. If employers must increase contributions to fund promised liabilities such as pensions and retiree health care, funds dedicated to employee compensation shift to finance post-employment obligations. Increased pension contributions add to labor costs and shift total compensation away from wages. Aggregate spending or demand consists of spending by households, businesses, government, and foreigners: the most important source is households —  two-thirds of aggregate demand comes from households.[10] Most income to households takes the form of wages and salaries. Though labor income to the bottom 90 percent of households has been stagnant for over 30 years,[11] increased pension contributions suppresses current aggregate demand even further — especially in the public sector, where pay has only increased by less than 5 percent in the recovery, and in which the overall employment figure is 500,000 less than it was before the recovery, and 2 million lower than what we would have if public sector employment kept up with population increases and the economy. There are fewer IRS agents per tax dollar collected; fewer teachers; and U.S. Postal Service employees are at 1964 levles.[12].

In short, increased employer contributions to defined-benefit pension plans – though vitally important to ensure promised pensions are paid, have the unfortunate side effect of reducing aggregate demand, further weakening the economy. The Wisconsin pension fund and CalPERS, after being nervous about the riskiness in their bond fund, are taking the bold move of lowering their interest rate assumptions.  That sets the stage for negative economic feedback effect in our low growth environment — more taxes or lower benefits or both.[13]

3) Lower returns on assets lowers household wealth. The negative wealth effect lowers current spending, and makes a weak economy even weaker.[14]  Without activist fiscal policy to overcome the suppression in wealth and spending, the economy only weakens and forces interest rates down, continuing the cycle.

4) Low interest rates immediately suppress the buying power of seniors. Though most seniors in America do not obtain income directly from financial accounts, many still do.[15]  Without activist fiscal policy, household consumption will be further suppressed, further slowing the economy.

5) Portfolio managers are tempted to take greater risks to reach their investment targets, which in turn creates asset inflation — the U.S. stock market is trading at multiples similar to 2007, and the Case Shiller index is at pre-2007. This leads to financial destabilization and increased volatility.

Harvard professors Bo Becker and Victoria Ivashina [16] found evidence that large institutional investors, like pension funds and insurance companies that have to meet a specific return target, often reach for yield by buying assets that promise high returns because the riskiness is not well measured.

Since low interest rates prompt investors to take on below-the-radar risk, the system as a whole is exposed to greater risk[17] because of feedback loops — as billions of dollars are plowed into risky bonds, the yields are driven even lower.  “Reaching for yield” was a contributing factor to the financial crises of 2008.

6) Low borrowing rates changes the relative price of capital over labor. Though substituting capital for labor because interest rates are low is not a practical problem for now – given the cash glut held by firms – low interest rates can encourage very low-value capital investment in the private sector. This is not a practical problem at present because firms are relatively uninterested in investing despite the low rates. But if the capital substitution occurs without an increase in demand, there will be labor displacement.

Virtually every economist from the left or right is commenting on the failure of our collective will to borrow money in order to fund infrastructure when interest rates are so low.[18] The failure of Congress (and political leaders at the state and local level who can issue public debt) is the only cause of the increasing public-good deficit. The nation needs trillions of spending in infrastructure just to maintain the level of investment reached decades ago.[19]

(A group of economists[20] are considering monetizing the debt [1]precisely because Congress won’t act to invest long term.  If the regulatory legal structure can be changed, the next president may have to bypass Congress and buy bonds directly from state and local governments. Clearly, pension funds would benefit directly from the supply of high-yielding government bonds.)

7) The banking community is organizing to point out that a low interest rate destroys the business model for banks.[21]

###p[22] We know permanent austerity leads to profound risks of permanent stagnation, but what is underappreciated is how household, investment and government reactions to the blunt, non-precise, and somewhat crude tool of permanent low interest rates will combine to cause enduring damage to the economy. Investors, especially institutional investors such as pension funds, should rise up and demand the combination of higher rates and the swift end of permanent austerity with bold public spending.


[1] https://research.stlouisfed.or…



[3] See comment


[5] https://research.stlouisfed.or…









[14] Monacelli, Tommaso and Perotti, Robert (2008) Fiscal Policy, Wealth Effects,…

[15] Income of the Population 55 and Older, 2014 (2014). Social Security Office of Retirement and Disability Policy…

[16] Becker, Bo, and Victoria Ivashina. “Reaching for Yield in the Bond Market.” Journal of Finance. 2015

[17] “Restoring Household Financial Stability after the Great Recession: Federal Reserve Bank of St. Louis, St. Louis, Missouri February 7, 2013  ttp://… Governor Jeremy C. Stein

[18] Institute for Global Markets Economic Experts Panel (2014).  University of Chicago Booth School of Business.…

[19] McNichol, Elizabeth (2016), It’s Time for States to Invest in Infrastructure.  Center on Budget and Policy Prioprities.…


[21] Borio, Claudio Gambacorta, Leonardo and Hofmann, Boris (2015) The Influence of Monetary Policy on Bank Profitability.  BIS Working Papers No 514.…

[22] Stiglitz, Joseph (2016) How to Restore Equitable and Sustainable Economic Growth in the United.  American Economic Review: Papers and Proceedings 2016, 106(5): 43-47.…

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  1. Spencer

    In macro-economics, unless the upper income quintiles’ savings (which are also proportionately greater), are invested or otherwise put back into circulation thru spending, then a contractionary spiral is established and indeed perpetuated. This phenomenon has been artificially diagnosed as secular stagnation (structurally deficient aggregate demand). It first shows up as a decline in durable goods, and then capital goods (delimiting long-run productivity).

    AD falls as money velocity falls. Money velocity falls when non-bank lending/investing (non-inflationary investment) shrinks relative to commercial bank credit (inflationary spending/investment). Money velocity also falls when there is an excess of savings over investment outlets. But the principle reason why money velocity has fallen c. 1981 is because savings have been increasingly impounded within the commercial banking system. And this flies in the face of pedestrian common sense.

    It is a fact that the commercial banks pay for their earning assets with new money, not pooled savings. And it is a fact that CBs do not loan out existing deposits, saved or otherwise. CBs always create new money when they lend/invest. So, and this is high level thinking, monetary savings, or commercial bank-held savings, are lost to both consumption and investment when so held. Bank-held savings are an unrecognized leakage in National Income Accounting procedures.

    The way to achieve higher and firmer interest rates, and saver-holder’s rates, is to get the CBs out of the savings business. This action increases the CB’s, NB’s, and retiree’s rates of return, viz., their profits and profitability, ROI & ROA. And understanding this is to know that we are headed in the opposite direction of economic and personal income growth.

    1. jsn

      The larger issue at this point is that most of what presently passes for “investment” is cosmically remote from investment as defined by the Kalecki or Levy profits equations.

      Global Central Bank monetary incontinence has sustained the illusion of profitability now for maybe two generations as more and more human activity, incentivized by these policies, is destroying real wealth, primarily in but not limited to the world’s ecosystems.

      The more fraudulent and detached from real world positive outcomes our so called “investments” have become, the more directly they translate this CB incontinence into the illusion of “profitability”.

      1. Spencer


        Agreed. The significant economic purposes for which a debt was contracted, or the manner in which it was financed, is of in-estimable value in evaluating its impact.

        QE, déjà vu, encouraged FINANCIAL investment, aka, the “wealth effect” (1929 is the economic paradigm) as opposed to REAL investment.

        For example if the debt was acquired to finance the acquisition of a (1) (new-security), the proceeds of which are used to finance plant and equipment expansion, or the construction of a new house, rather than the purchase of an (2) (existing-security) or to finance the purchase of an existing house (read bailout), or to finance (1) (inventory-expansion), rather than refinance (2) (existing-inventories).

        The former types of investment are designated as (1) “real” as contrasted to the latter (2), which constitute “financial” investment (existing homes).

        Financial investment provides a relatively insignificant demand for current labor and materials and in some instances the over-all effects may actually be retarding to the economy.

        Compared to real investment, it is rather inconsequential as a contributor to employment and production. Only debt growing out of real investment or consumption makes an actual direct demand for labor and materials.

    2. Alejandro

      Nominal is nominal and real is real, and how “shall the twain meet”?

      You seem to airbrush the exceeded private(individual, household, small biz) debt carrying capacity, from your analysis. Also seem to not recognize that the restraints of the user are not the restraints of the issuer, and monetary without fiscal seems to lead to entropy by default. IOW, monetary policy alone, seems to be running out of prescriptions.

      “”[V]elocity” is just a dummy variable to “balance” any given equation – a tautology, not an analytic tool.”—

      1. Spencer

        No, it’s all about incomes, not servicing existing debt loads. And that means real-investment opportunities, not financial investment, not the presupposed “wealth effect”, which is an insignificant contributor to labor and materials.

        And your referenced income velocity mechanics, Vi, are fallacious. It is Vt, the transactions velocity of money, money actually exchanging counterparties, that’s significant. Vt varied 2.5 times that of M over a 50 year period. Vt fell by 62 percent from 1981 to 1996, while Vi remained stationary. And that’s what caused Larry Summer’s secular stagnation.

        1. Alejandro

          I would encourage you to re-read the link and counter with something that can contextualize the real world experience of small business owners, individuals (employed, un/mis/underemployed, or unemployable).

          1. Spencer

            No, you should contextualize your argument. You don’t understand the articles you’ve referenced. Mine’s already theoretically and empirically validated (something you’ve dismissed).

            Rates-of-change in money flows = roc’s in aggregate demand. Nothing’s changed in 100 + years and nothing’s more accurate. And we knew this already. See: “Member Bank Reserve Requirements: Analysis of Committee Proposal” (a 7 year, 1931-1938 depression era study), published to insiders on 2/5/1938 (and declassified to the public after a 45 year hiatus on March 23, 1983).

            Economic prognostications within a year’s period are infallible. See: Ben Bernanke exasperated: “Unfortunately, beyond a quarter or two, the course of the economy is extremely hard to forecast”. Bernanke is dead wrong. And Bernanke was the sole cause of the GR.

            These theories were theories before the facts, e.g., stagflation was predicted in the late 1950’s, before the word was actually coined in 1965. So too was secular stagnation, in May 1980.

            1. Alejandro

              It seems the distinction is money as utility v. commodity…where do you stand? And we can take from there…

              1. Spencer

                “Money” is the measure of liquidity; the yardstick by which the liquidity of all other assets is measured.

                  1. Spencer


                    How can you conflate a figurative with a literal? You just sit back and chill. I am going to change this world. Your participation is un-necessary.

                    – Michel de Nostredame

      2. Spencer

        “monetary policy alone, seems to be running out of prescriptions”

        How so? Monetarism has never been tried. To expand M1, the FOMC simply has to couch its instructions for FRB-NY”s “trading desk” in terms of reserves available for private non-bank deposits, RPD, or 1972 FOMC directives (as described by Paul Meek, “Open Market Operations”, Federal Reserve Bank of New York, May 1973

        I.e., unless the desk trades directly with non-bank counterparties or non-bank dealers or thru their clearing agent, there’s no need to buy securities and credit the reserve deposit account of the bank handling the trade.

        In fact, it used to be that: “repurchase agreements are not extended to member banks which act as dealers; these banks can borrow directly from their Reserve Bank”

        That and consider with the increase, c. 1 trillion dollars of additional bank capital, the money stock was destroyed commensurately. I.e., a countercyclical increase in bank capital requirements coming out of a recession is a monetary policy blunder.

        And at the same time, as Section 19(b)(12)(A) of the Federal Reserve Act stipulates, the Fed can only pay interest “at a rate or rates not to exceed the general level of short-term interest rates.”

        With three month treasury bills currently around 0.36% and the fed funds rate at 0.41%, the current interest rate on reserves (IOR) of 0.5% exceeds the legal maximum. And unbeknownst to the pundits, this causes non-bank dis-intermediation, slowing money velocity further. The 1966 S&L credit crunch is the economic paradigm.

        1. Alejandro

          Regurgitating orthodox abstractions without referents for clarity is increasingly being recognized as not having any answers nor solutions outside of the rigid “models”. I’m all for honest debating, but can no longer sit through dogmatic sermons…”Maps are not the terrain”…

          1. Spencer

            Without referents? These observations need no clarification. You don’t understand money and central banking. Your referents tell on you. I don’t need referents. I am the Alpha and the Omega. I am the best market and economic timer in history.

              1. Spencer


                I am the best market timer in history. Krugman, Mosler, et. al. are literally stupid.

                The FACT is that EVERYONE is WRONG:
                Alan Blinder: “After the Music Stopped”
                1) Bubble bursting is like that. At some unpredictable moment, investors start “looking down”…, realizing that the sky-high prices they believed would never end are not supported by the fundamental – and start selling. It is abundantly clear that the crash must come eventually. Fundamentals win out in the end. But why it happens just when it does is always a mystery.
                2) No one will ever know…why the stock market crashed in October 1987, rather than September, or November.
                Alan Greenspan: “The Map and the Territory”
                3) The wholly unprecedented stock price crash on 10/19/87…there was no simple probability distribution from which that event could be inferred
                4) with rare exceptions it has proven impossible to identify the point at which a bubble will burst, but its emergence and development are visible in credit spreads
                Ben S. Bernanke: “The Courage to Act”
                5) First, identifying a bubble is difficult until it actually pops.
                6) A lack of transparency caused a loss of confidence.
                Janet Yellen’s speech: “A Minsky Melt Down”
                7) “Minsky understood this dynamic He spoke of the paradox of deleveraging, in which precautions that may be smart for individuals and firms – and indeed essential to return the economy to normal state – nevertheless magnify the distress fot eh economy as a whole”
                Joseph E. Stiglitz “Free Fall”
                8) Bubbles are, however, usually more than just an economic phenomenon. They are a social phenomenon.
                9) 2) Futures prices are unpredictable.
                Paul Krugman “End This Depression Now”
                10) What actually happened, of course, was the Fed did everything Friedman said it should have done in the 1930’s – and so the economy seems trapped in a syndrome that, where not nearly as bad as the GD 1.0, bears a clear family resemblance.

                I cracked the code in July 1979. BuB should be in prison for economic treason.

                I’m the only one who not only predicted the GR, but when it would occur, i.e., it wasn’t a Lehman moment::
                POSTED: Dec 13 2007 06:55 PM |
                The Commerce Department said retail sales in Oct 2007 increased by 1.2% over Oct 2006, & up a huge 6.3% from Nov 2006.
                10/1/2007,,,,,,,-0.47,… -0.22 * temporary bottom
                11/1/2007,,,,,,, 0.14,,,,,,, -0.18
                12/1/2007,,,,,,, 0.44,,,,,,,-0.23
                1/1/2008,,,,,,, 0.59,,,,,,, 0.06
                2/1/2008,,,,,,, 0.45,,,,,,, 0.10
                3/1/2008,,,,,,, 0.06,,,,,,, 0.04
                4/1/2008,,,,,,, 0.04,,,,,,, 0.02
                5/1/2008,,,,,,, 0.09,,,,,,, 0.04
                6/1/2008,,,,,,, 0.20,,,,,,, 0.05
                7/1/2008,,,,,,, 0.32,,,,,,, 0.10
                8/1/2008,,,,,,, 0.15,,,,,,, 0.05
                9/1/2008,,,,,,, 0.00,,,,,,, 0.13
                10/1/2008,,,,,,, -0.20,,,,,,, 0.10 * possible recession
                11/1/2008,,,,,,, -0.10,,,,,,, 0.00 * possible recession
                12/1/2008,,,,,,, 0.10,,,,,,, -0.06 * possible recession
                Trajectory as predicted:

        2. zapster

          Churning money around in the financial system when the real economy is paying down debt is an exercise in futility (and scattered asset bubbles) and nothing more. You can bury it in jargon til’ the cows come home, but it remains nothing but a parasitic drain on the real economy. Monetary policy is left pushing on strings and worrying about what happens when the QE bubble *does* finally escape it’s bank vaults.

          1. animalogic

            US monetary policy has been very successful: it was designed to bail out all the financial players, with easy money & across the board asset inflation, & it has done just that.
            The 5% — & the 0.1% in particular — are doing spectacularly well….sheesh what more do people want ?

      3. Spencer

        Both your referents are written by idiots. Alfred Marshall’s “cash balances approach” actually explains in his equation – that “K” may increase, and may be considered the reciprocal of Vt:

        Low interest rates may induce people to hold onto their funds and not part with liquidity for such a small price. This will also tend to reduce the supply of funds and their velocity (his “money paradox”).

        And there is no “Natural Rate of Interest”. Interest is the price of loan-funds. The price of money is the reciprocal of the price level.

        The demand for loan-funds reflects the advantages of spending borrowed money (& an increase in the demand for loan-funds tends to be associated with a decrease in the demand for money).

        1. Alejandro

          Resorting to ad hominem, is an admission that you have no substantial counter argument.

          It’s obvious that you’ve expended a lot of time and effort internalizing this particular POV, and I would concede that you’re not totally wrong, if you would concede that you’re not totally right…and use this a basis for future exchanges.

          In case you’re interested, this may make future exchanges meaningful:

          1. Spencer

            I’d say your All “ad hominem”. You’ve presented absolutely no facts. You referent is a reference.

            The Chicago Plan, chartalism, neo-chartalism (MMT), etc. were all devised by crack pots (Warren Mosler, L. Randall Wray, Stephanie Kelton, Bill Mitchell, Scott Fullwiler, etc.), that never learned their economic abc’s.

            From the system’s modus operandi, DFIs, do not loan out IBDDs, nor any liability, asset, or equity item. Whenever CBs grant loans to, or purchase securities from, the non-bank public, they acquire title to earning assets (i.e., pay for them), by initially, the creation of an equal volume of new money (demand deposits) – domiciled somewhere within the system.

            I.e., commercial bank deposits are the result of lending, – not the other way around. Thus, bank-held savings are not a source of loan funds for the banking system. All savings originate within the system itself, and already existed before the consummation of any banks’ commitment to new loans or investments. Monetary savings never leave the commercial banking system, unless currency is hoarded.

            Thus, the 1966 S&L credit crunch is the economic paradigm (the empiricism, positivism, and metaphysics that supports Dr. Leland James Pritchard’s savings-investment theory — where borrowing and investment, “putting voluntary savings to work”, is matched by non-inflationary saver-holders’ loanable-funds).

            Compliant reserves are the only legal credit control device in a free capitalistic society through which the volume of money and money flows can be precisely regulated.

    3. Rosario

      Some may argue that their is plenty of investment and the velocity of money is healthy, just that it only suits about 10 to 15 percent of the global population. Seems the issue is more, who (or what classes) are these metrics working for rather than, do they work at all in the context of the system.

  2. susan the other

    Such a timely piece of common sense. The economists who are leaning toward monetization (Japan-style) are doing so because “Congress won’t act to invest long term.” So “if the regulatory legal structure can be changed, the next president may have to bypass congress and buy bonds directly from state and local governments… pension funds would benefit from the supply of high yield government bonds.” But aren’t pension funds at least quasi-private so the federal government would not be monetizing anything unless they also took over those pension funds – which would prolly be a good thing; is this then just a way to do direct fiscal infusions? The Fed already had a mandate to buy state debt until recently when they changed their policy and said that munis were no longer to be purchased by the banks/ Fed. Which was odd. Let’s just Monetize. Forgive. Do fiscal spending in future with sovereign credit. Eliminate private debt holders of government debt. If pension funds are nationalized then there could be a virtuous circle of money, no?

    1. Disturbed Voter

      Nationalizing pension funds? Very scary, to the vast majority who think their current pension fund takes due diligence seriously. Pension fund managers are like union bosses, in it for themselves, not for the beneficiaries or workers.

    2. Spencer

      Whether debt monetization is workable depends on how its accomplished. Raising the remuneration rate is deflationary. Raising reservable liabilities is not (it is offsetting or sterilizing).

    3. Spencer

      Those who are wont to minimize the ill effects of the deficit are prone to compare the size of the deficit with N-gDp, as if the volume of N-gDp were independent of the size of the deficit.
      Unprecedented large deficits “absorb” a disproportionately large share of N-gdp (gov’t spending is a component / factor of gDp). Present deficits are unprecedented no matter how measured, and the past gives us no reliable guide to the future effects of deficit financing, beneficial or otherwise.

      Debt monetization’s salutary effect depends on how it is accomplished. Hiking the remuneration rate as a credit control device is deflationary – whereas, hiking reservable liabilities is not.

      And to appraise the effect of the federal budget deficit, it is necessary to compare the deficit, not to the debt to GDP ratio (a contrived metric), but to the volume of current gross savings made available to the credit markets. The current U.S. Federal budget deficit is $587 billion, for Fiscal Year 2016 which covers October 1, 2015 through September 30, 2016.

      The current deficit’s interest expense ($432,649,652,901.121.3B) is absorbing about 32 percent of gross private savings ($13,661.4T), — that is, expanded to elect Hillary.

      1. susan the other

        just a thought: but look who’s doing the lion’s share of detox-ing fukushima waters – we are saving as much as we can of Japan – it’s a disaster that is way too expensive for even those diligent savers to overcome – and so is much of the disaster we call ‘planet earth’. just to throw a wrench into balanced thinking.

      2. a different chris

        Pretty words wrapping lies — but I think you actually believe your stuff —


        Present deficits are unprecedented no matter how measured,

        My very first hit on the internet:

        The peak deficits came during World War I (17% of GDP in 1919) and World War II (24% in 1945), as the chart shows. The deficits of the Great Depression only came to about five percent of GDP, and the big $1.4 trillion deficit for FY 2009 amounted to 9.8% of GDP.

        Also everybody note the GD — if FDR had borrowed more it would probably have gone a lot better.

        1. Spencer

          a different chris:

          “if FDR had borrowed more it would probably have gone a lot better”

          Correct. Estimates by the Department of Commerce put the net debt figure at the end of 1939 @ $183.2 billion compared with a figure of $190.9 billion at the end of 1929. I.e., for the period encompassing the Great Depression there was no over all debt expansion. Times have changed.

          Relative to N-gDp, prior to the GR, we had the highest deficits during WWII and interest rates approximating the lowest levels of the Great Depression. Interest rates on Treasury obligations ranged from less than on percent on TBs to 2 ½ percent on long term bonds.

          This was accomplished by the Fed pegging the rates on all governments through the unlimited use of their open market power. If the market pushed any rate above the predetermined “peg level” the Fed entered the market on the buying side, etc. This resulted in a vast increase in m1, bank credit and commercial and reserve bank holdings of governments.

          At the same time due to rationing and the absence of available goods transactions velocity of demand deposits fell from around 20 to 13. The production of houses and automobiles was virtually stopped and credit rationing severely reduced the demand for all types of goods and services not directly connected to the war effort this plus controls on prices and wages kept the reported rate of inflation down.

          Financing nearly 40 percent of WWII’s deficit through the creation of new money laid the basis for the chronic inflation this country has experienced since 1945. Interest rates, especially long-term, would have average much higher had investors foreseen this inflation.

          Not only were World War II deficits an unprecedented proportion of GDP; about 45 percent of the debt was monetized; that is $96.4 billion of the $216.4 billion increase was bought by the Federal Reserve Banks and the commercial banks. The Fed’s contribution was $22.5 billion of “high powered money” – the free-gratis legal reserves of the commercial banks.

          It should have come as no surprise that we did not have a “primary” post-war depression; our problem was excess demand and inflation, not deflation and depression. During WWII we had official stability and “black market” inflation. This was reflected in the price indices as soon as price controls were removed.

  3. cnchal

    . . . In short, increased employer contributions to defined-benefit pension plans – though vitally important to ensure promised pensions are paid, have the unfortunate side effect of reducing aggregate demand, further weakening the economy.

    Isn’t that the waters where Pirate Equity likes to roam? Take over, with assistance from public sector pensions, businesses and raid their now bigger pension fund and destroy a formerly wealth generating business for Pirate Equity profits, and a little payback to the public sector pension fund that financed it, by taxing business in the first place. We have circled the drain a few times, when are we going down?

    1. zapster

      This is why private pensions are generally a bad idea–when everyone saves at once, the paradox of thrift sets in. Better for the state to simply support those that are not able to work and be done with it. Then there’s no widespread fear of the future leading to mass attempts to save and the paradox of thrift problem.

  4. nothing but the truth

    the biggest reason why ZIRP is dangerous is because there is no factor to discount earnings against. Effectively a bond and bond proxies become infinite because of divide by zero. This is the reason why asset owners and central banks just love ZIRP. It makes infinite collateral and infinite credit available.

    Unfortunately a minor problem is that it makes assets payments an ever higher percentage of the economy. Something we are seeing now as the rent payments as percentage of income in the new world are beginning to look like in the old world.

    IOW, screw the kids all over again.

    So, we can see that the ZIRP turns an economy into an asset based one. At infinite PE, infinite credit is available, however, the economy also becomes very fragile to any swings in the PE.

    China is experiencing this asset hyperinflation, with property essentially becoming a hedge against the ability of the state and cronies to produce as much money (equivalents, for the purists) as they want.

    This has led to the not-so-unwelcome problem of rampant money laundering into the real estate sector. This is an important way of balancing the current account for the anglo countries.

  5. BecauseTradition

    Monetary policy -> welfare for the rich.
    fiscal policy -> in principle, for the general welfare.

  6. washunate

    I continue to be disappointed by INET writing that focuses on aggregates over distribution and employs sloppy descriptions of the situation while giving people in positions of power a free pass.

    Weak fiscal policy and a political commitment to permanent austerity…

    Why should people who care about inequality care about the difference between tax collection and spending? What matters is the distributional effects of how money is created and destroyed. Quantity (how much) is irrelevant. In the US context, to offer a concrete example, the budget deficit today is larger than the entirety of the budget at the height of the New Deal era.

    …in many advanced economies…

    Ah, the Great Ambiguous Caveat. Why not all?

    In the very first sentence, the author just disproved the hypothesis that weak fiscal policy and permanent austerity is an important factor. The US utilizes strong fiscal policy, measured both quantitatively in spending and tax policies and qualitatively in the power claimed by the USFG to direct labor (a significant portion of which doesn’t directly show up in the federal budget but rather has effects elsewhere).

    In a world where economic writing was held to basic standards of intellectual rigor and scrutiny, this kind of claim would be laughed at as an example of what is wrong with our discourse.

    If people want to make a claim that the quantity of deficit spending is what matters, then the burden of proof is on the person making the claim to actually demonstrate that there is a meaningful difference between countries that run large budget deficits and those that don’t. The US doesn’t prove that deficit spending solves problems. We are already running enormous deficits, approaching $20 trillion in cumulative net deficit spending, plus a lot of additional activity outside of that, during the Reagan-Obama era.

    Given the limited tools available to them, the world’s cencentral banks are unable, acting alone, to stimulate the world economy.

    This claim, too, is rather sloppy. Whether through carelessness or purposeful misdirection, the author mischaracterizes the problem. The fundamental problem of the world economy (as measured by GDP, assumedly; of which the excessive usage is itself a problem in our mainstream discourse…) is excessive concentration of wealth and power. One of the causes of that is very much under the control of the Fed, ECB, BoE, and BoJ: pervasive fraud and other criminal activity in the financial sector combined with anti-competitive concentration of market power in the hands of a few TBTF entities.

    Central banks could absolutely make a big stink of breaking up the banks and investigating regulatory and criminal breaches if they cared to do so.

    1. nothing but the truth

      obviously, relative numbers matter here. In a fiat money system, the absolute value is arbitrary, what matters is the ratio of prices, most important being land to labor. “rent is too damn high”.

        1. nothing but the truth

          sorry bud, i’m not getting your comments at all.

          i’m not an economist or politician type. i’m an engineer. you’ll have to explain to me in first principles.

          there are other systems than fiat, obviously, where the absolute value has some intrinsic meaning.

          1. BecauseTradition

            Fiat is what government will accept for taxes. It can be inexpensive or needlessly* expensive.

            *Needlessly since staying out of prison for failure to pay taxes, for example, trumps any need for fiat to have intrinsic value.

        2. Spencer

          A fiat system is where the volume of currency issued is dictated by the deficit-financing requirements of the issuing government. In contrast, the essence of our managed-currency system, is a system in which the volume of currency in circulation is impersonally determined by the total effective demands of the public or the amount which meets most closely the needs of trade.

          1. BecauseTradition

            is a system in which the volume of currency in circulation is impersonally determined by the total effective demands of the public Spencer

            The public may not even use currency except in the form of physical currency, coins and bills. Unless by “public” you mean depository institutions with accounts at the central bank? In the US that would mean there are about 6800 members of the “public.”

            Also, don’t know what you mean by “impersonally” since central bank decisions are certainly made by people.

            1. Spencer

              Because Tradition:

              The non-bank public includes every institution (including shadow-banks), the U.S. Treasury, the U.S. Government, State, & other Governmental Jurisdictions, & every person, etc., except the commercial & the Reserve banks.

  7. pslebow

    Are you saying the central banks can significantly impact wealth concentration and that rather than being due to systemic causes , wealth concentration it is due to fraud?

  8. pslebow

    Trying to understand the presumptions. To me It seems that the argument is that interest is true wealth. Is interest a valid measure of economic productivity and increase in actual value to society? Is interest merely a way of compensating for inflation?

    Is the argument that higher interest rates are the best and only remedy for a livable retirement? If so, why even bother with the Social Security system – which is not tied to interest rates at all (unless artificially forced to be)? Since household analogies to government spending have been shown to be fictions based upon the absurd notion that the government needs to borrow its own IOU’s, why is this paradigm accepted when it comes to providing for retirement? Must the wages I work for today be spent today? Isn’t there some justice in acknowledging that part of my compensation for contributing to society should rest in the future?

    Are commercial banks the best arbiters as to how to best direct created money? It seems that there is an implied undercurrent that democracy has not worked and will never work – so let the market rule when it comes to money creation. Let retirees thrive on the winnings of their CD’s and savings accounts.

    The article appears to accept the current economic structure as is and we need, therefore, to correct one of its myriad of parameters, interests rates, to get the epicycles synched up again (until the next correction is required in 7 years or so).

    I’m sure I am missing the point, but is it truly a case of, “Better the devil you know….)? In my mind it begs the question, in a just society, why should my well-being in retirement be dependent upon interest rates at all? Its not low interest rates that are hurting retirees, it is the failure of government to provide for the welfare of its citizens

    1. BecauseTradition

      Its not low interest rates that are hurting retirees, it is the failure of government to provide for the welfare of its citizens pslebow

      Yes, if people need welfare they should be given it but proportional to need, not account balance.

      Not that the current means to control interest rates* are ethical; they are most definitely not.

      *e.g. the fact that only depository institutions can use fiat** artificially lowers the demand for it and thus interest rates in it.

      **except for physical fiat, bills and coins.

    2. nothing but the truth

      govt needs to borrow its own IOUs …. because….. the govt needs to follow the rules.

      Put another way, there have to be limits to govt power, otherwise it will lead to tyranny (by the cronies, because the govt is just a front for a group of people).

      1. BecauseTradition

        govt needs to borrow its own IOUs …

        The rich have no more right to be protected from government than the poor.

      2. pslebow

        Yes, giving power to the “gubment” to create money for the general welfare would require that the rules of the game need to be changed to inhibit croneyism. It would be a great experiment to actually try democracy at some point.

  9. Sound of the Suburbs

    Good news folks.

    Larry Summers has seen the light, all change.

    “Former Treasury Secretary Summers Calls For End Of Fed Independence”

    See ZeroHedge with usual anti-Government analysis.

    Better analysis …….

    Christina Romer made a fundamental mistake in her analysis of the Great Depression leading everyone to think Central Banks could get us out of the latest balance sheet recession.

    Jim Rickards (“Currency Wars” and “The Death of Money”) has explained how the removal of Glass-Steagall allowed Wall Street to repeat 1929.

    In 1929, they carried out margin lending into the US stock market to artificially inflate its value. They packaged up these loans in the investment side of the business to sell them on.

    In 2008, they carried out mortgage lending into the US housing market to artificially inflate its value. They packaged up these loans in the investment side of the business to sell them on.

    1929 and 2008 were the same apart from derivatives allowing the problems to spread outside the US

    Perhaps we should all listen to the man Ben Bernanke listened to.

    His name is Richard Koo:

    He explains the mistake Christina Romer made analysing data from the Great Depression leading Central Banks to think they could get us over 2008 with monetary policy.

    In the first 12 mins.

    At 54 mins. you can see the IMF projection for Greek recovery with austerity and see the horrifying reality.

    When the US was panicking about the fiscal cliff it was because Ben Bernanke had read Richard Koo’s book and knew cutting Government spending would drive the US economy into recession.

    The secret is in how money works, which is why hardly any economists understand either the problem or the solution.

    Money and debt are opposite sides of the same coin.
    If there is no debt there is no money.
    Money is created by loans and destroyed by repayments of those loans.

    From the BoE:

    After the system has been flooded with lots of debt with a nice housing boom, the bust gets everyone paying down debt and not borrowing.

    This makes the money supply contract, making it harder to pay down the debt.

    When the repayments are larger than the new debt being taken on, the money supply starts contracting.

    The Government needs to step in as the borrower of last resort to keep the money supply stable, otherwise you head into a deflationary spiral.

    Central Banks are the lender of last resort and Governments are the borrowers of last resort.

    Central Banks print money for banks (QE) and, as no one is borrowing, it stays in the financial system blowing bubbles and doesn’t get to the real economy as seen from the low inflation round the world.

    Central Banks printing money for the Government to engage in fiscal stimulus gets the money directly into the economy.

    What they have been trying to do all along, the intermediary has just changed.

    Banks never got the money into the real economy.

    1. Sound of the Suburbs

      “Central bank independence “comes from an understanding of the macroeconomic policy problem that is not relevant to current times,” Summers said in a speech at the International Monetary Fund.

      Central bank insulation was needed in the 1970s and 1980s to combat inflation, Summers said. That’s because the White House and Congress sometimes saw the short-run benefits of unexpected inflation, while the Fed kept its eyes on the long-run costs, he said.

      But that was yesterday’s problem, Summers said. The economy now faces secular stagnation, or a chronic lack of demand.”

      “The Marxian capitalist has infinite shrewdness and cunning on everything except matters pertaining to his own ultimate survival. On these, he is not subject to education. He continues wilfully and reliably down the path to his own destruction”

      Marx was right, they never pay high enough wages to keep the whole thing going.

      The desire for profit is blind to the bigger picture and the longer term.

      All employees = all consumers (approx.)
      Everyone cuts wages = demand going down the pan

      1. susan the other

        I don’t trust Larry Language. I do think it is long since time to use our sovereign money properly via the Treasury and if Congress won’t pass funding for good fiscal projects then the Treasury and the administration should have that ability with some token consent from Congress. But altho Summers says we should take away the Fed’s independence, he says nothing about the problem of debt. National debt van be monetized and forgiven because it is sovereign money. And that doesn’t require a “Fed” at all. And private debt might then be able to service itself because fiscal improvements improve business, etc. But even private debt must be controlled so the banking industry must be regulated and Larry Summers always seems to be leaving the door wide open for more financial mischief.

  10. BecauseTradition

    Banks never got the money into the real economy. Sound of the Suburbs

    Technically, they can’t since the real economy can’t use fiat except in the form of physical fiat, coins and bills. Instead, the real economy functions largely on bank* deposits – having no other practical choice.

    *Including credit unions and other depository institutions.

    1. Sound of the Suburbs

      If you watch the video you can see all the reserves sitting in the banks which are not being borrowed.
      All in a nice easy to understand graphical form.

      The QE is just sitting in the financial system for bankers to mess about and speculate with.

      It has to be borrowed to get into the real economy and it isn’t.

      The real economy uses cheques (not much now), debit cards and credit cards to directly transfer funds and purchase things.

    2. Synoia

      Banks lend to those who can repay. This group cannot spend any more, however they can and do gamble with “loans.”

      Government don’t lend, they give to the poor to stimulate demand. Either directly or by building (infrastructure) or consuming (military).

      The wages earners and the poor spend what they get, stimulating demand, which crests jobs etc.

      Are you asserting wage earners jobs are not “real”? They are real in that the increase demand. Their work product might be useless, but their spending is someone else income.

      With gambling, the “spending” is much less of a percent of some working persons’ income.

      1. BecauseTradition

        It is impossible* for banks to lend to the non-bank private sector since the non-bank private sector may not have accounts at the central bank, is all I’m saying. Instead, banks create new liabilities for fiat when they “lend” to the non-bank private sector.

        It’s a very odd thing, when one thinks about it, that citizens may not use their Nation’s fiat except for physical fiat. Instead, we’re forced to lend to a government-privileged usury cartel to lower their borrowing costs and the borrowing costs of the rich, the most so-called creditworthy.

        I agree with the rest of your comment though.

        *Unless they use physical fiat, currency, i.e. bills and coins.

          1. BecauseTradition

            If I lend you $20, you’ll have $20 more and I’ll have $20 less. Not so with a bank. Instead, the bank will have an additional liability (debt) for $20 which you may or may not redeem for actual fiat. If physical fiat, currency, is abolished then you’ll literally have no way at all to redeem that liability since you don’t have an account at the Federal Reserve.

            In other words, unlike you or me, the banks can “lend” the same $20 multiple times. That’s why we should not dignify that process by calling it lending.

      2. Spencer

        Historically, coming out of a recession, the commercial banks, today’s DFIs, bought highly liquid, short-term assets, pending a more profitable disposition of their legal and economic lending capacity, i.e., between 1942 and Oct 1, 2008, the CBs remained fully “lent up”, the CBs minimized their non-earning assets, their interbank demand deposits, IBDDs, or excess reserves.

        Indeed, in direct contrast to the GR, excess reserves balances actually fell during some economic recessions, 12/69 – 11/70; 11/73 – 3/75; 1/80 – 7/80; 7/81 – 11/82 (i.e., until the S&L crisis). Excess reserve balances never exceeded > $2b, and only for 1 month, in 1/91 (and not over $4b until 8/07, and then not exceeding that threshold until 9/08 (just before the payment of interest on excess reserve balances turned non-earning assets into commercial bank’s earning assets on 10/6/08).

        The CBs always responded (by purchasing short-term securities), without delay – to any injection of excess reserve balances, i.e., to any excess lending capacity, by the Central bank. I.e., the CB’s response was always self-correcting, or counter-cyclically (without Gov’t intervention), by expanding the money stock (buying securities, not necessarily making loans). And today, in contrast to the Great Depression, there is a surfeit of eligible collateral (viz., considering our 19 trillion dollar federal debt).

  11. Spencer

    I’m the only one who not only predicted the GR, but when it would occur, i.e., it wasn’t a Lehman moment:

    POSTED: Dec 13 2007 06:55 PM |
    The Commerce Department said retail sales in Oct 2007 increased by 1.2% over Oct 2006, & up a huge 6.3% from Nov 2006.

    10/1/2007,,,,,,,-0.47,… -0.22 * temporary bottom
    11/1/2007,,,,,,, 0.14,,,,,,, -0.18
    12/1/2007,,,,,,, 0.44,,,,,,,-0.23
    1/1/2008,,,,,,, 0.59,,,,,,, 0.06
    2/1/2008,,,,,,, 0.45,,,,,,, 0.10
    3/1/2008,,,,,,, 0.06,,,,,,, 0.04
    4/1/2008,,,,,,, 0.04,,,,,,, 0.02
    5/1/2008,,,,,,, 0.09,,,,,,, 0.04
    6/1/2008,,,,,,, 0.20,,,,,,, 0.05
    7/1/2008,,,,,,, 0.32,,,,,,, 0.10
    8/1/2008,,,,,,, 0.15,,,,,,, 0.05
    9/1/2008,,,,,,, 0.00,,,,,,, 0.13
    10/1/2008,,,,,,, -0.20,,,,,,, 0.10 * possible recession
    11/1/2008,,,,,,, -0.10,,,,,,, 0.00 * possible recession
    12/1/2008,,,,,,, 0.10,,,,,,, -0.06 * possible recession
    Trajectory as predicted:

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