The Explicable Mystery of the National Debt

By J. D. Alt, author of The Architect Who Couldn’t Sing, available at Amazon.com or iBooks. Originally published at New Economic Perspectives.

America’s current “national debt” is tallied to be $21.5 trillion. When politicians and economic pundits talk (worry, fret, wring their hands, gnash their teeth) about this “debt” they implicitly assume—along with their listeners, readers, and potential voters—that this fantastic sum will eventually have to be paid back. That’s what happens with debts, right? Someone calls them due! Everyone also assumes the American tax-payer will have to do the paying. (Quick calculation to save you the trouble: Each one of us is in hock for $65,950!)

Depending on which political football is being tossed around, this “national debt” is either a crisis that must be addressed first(before anything else can be paid for!) or it’s something we can simply ignore for the time being—until the promised “economic growth” comes along that will somehow enable the federal government to collect that extra $65K from each of us. So long as we promise that Yes! someday we’ll pay it off, we can feel okay about going one more day, or month, or year without even starting to do so. In the meantime, of course, the “national debt” somehow keeps growing! At least thatmust stop, we declare! Our government must stop borrowing even more!

So, we resolve to put a cap on the “national debt.” Which everyone feels good about until the federal government starts running out of tax-dollars to meet the expenses Congress has already committed it to meet. When that happens, the government—or crucial parts of it—painfully shut down. And the fault lies with whoever voted for all that spending in the first place—or whoever voted for all those tax-cuts that made the spending impossible. In the end, after everyone has been thoroughly blamed, the cap on the “national debt” is, of necessity, raised a little higher into the clouds, like Jack’s beanstalk.

Meanwhile, of course, it’s impossible to even discuss the need to spend newdollars to address any of the dire and critical things America confronts as a collective society. We can’t repair our dangerously impaired highway bridges. We can’t modernize our air-traffic control system. We can’t replace our failing, lead-polluted, water-systems. We can’t clean-up the super-fund sites leaching toxins into our ground-water. We can’t provide free pre-school day-care to every mother who wants to secure a job. We can’t modernize and guard from cyber-attack our national electric grid. We can’t provide healthy food and safe accommodations for homeless families. We can’t provide Medicare for every American. We can’t build affordable housing for families earning the minimum wage. We can’t provide a post-high school education for our nation’s workforce. We can’t build modern transit systems that relieve the congestion and gridlock of our urban centers and corridors. We cannot even beginto plan for the relocation and/or rebuilding of millions of square miles of human infrastructure and habitation that will, beginning in the next decades, be flooded by rising sea levels…. There is simply not enough money to even think about doing all these things—and the fact we can’t even begin paying off our “national debt” is a constant reminder of that “reality.”

The mystery is, while all this perpetual haggling and hand-wringing is happening, no one seems to be knocking on America’s door asking to be repaid. Unlike Greece and Italy who are constantly being squeezed by the E.U. central bank and the IMF to repay their debts, no one seems to be squeezing the U.S. at all. Unlike Spain, which gets an earful from Germany if it even whispers about increasing its national borrowing, the U.S. hears nothing from anybody (except its own politicians and pundits) when it votes to raise the beanstalk one cap higher. How can that be? It’s almost as if—weirdly—there isn’t anyone out there expecting to get paid back.

Could That Be True?

This puzzlement can, in fact, be explained. More important, the explaining—if you accept the explanation—will change your understanding of what the American economy is capable of accomplishing. And it’s exponentially more than you’d ever imagined.

The mystery lies in the use of the term “borrow.” As it’s commonly understood, when you borrow something, you take temporary possession of it from its owner (the lender)—and when you “repay” what you’ve borrowed, you give it back. What is often not considered in thinking about this transaction is that the lender’s possession is always replaced—either implicitly or explicitly—with a “promise” (i.e. the promise to return the possession, often with an additional premium to compensate the lender for his trouble.)

What is unique about U.S. government “borrowing”—and what gives the term, applied in that context, its confusing ambiguity—is the fact that the “promise” which replaces a borrowed dollar is simply another kind of “dollar.” Specifically, the government borrows a dollar from the economy, and replaces it with a “Treasury bond or note” which is, in effect, a special form of “dollars” that earn interest. The Treasury bond or note has the same liquidity/tradability in the economy as the regular dollars it has replaced; therefore, the amount of “money” in the private sector doesn’t fall by the amount taken out by the “borrowing” but remains the same as before the “borrowing” occurred.

In conventionally understood “borrowing,” when the borrowed thing is returned, the “promise” that was being held by the lender (either implicitly or explicitly) is simply cancelled. In U.S. government “borrowing,” however, the borrowed thing is NEVERreturned because, by logic, the promise being held in its place is already the same thing as what was borrowed. E.g. a $1000 Treasury bond is the same “thing” as 1000 dollars—only better, because it earns interest! When the Treasury bond “matures,” the dollars it “contains” are simply converted to “regular” dollars or, more often than not, they are rolled into a new Treasury bond.

This is why there is nobody squeezing the U.S. government to repay what the government has “borrowed.” They have alreadybeen repaid by the Treasury bonds they took in exchange for the dollars they “loaned.” (As you can see, the term “loan” applied to this transaction has the same paradoxical ambiguity as the term “borrow.” What’s really happening is that one kind of money is simply being traded for another.)

The surprising result of this transaction is that when the government subsequently spends the “borrowed” dollars back into the economy, there is a net increasein the monetary assets in the private sector equal to the number of dollars “borrowed.” In effect, the Treasury bond auction process creates “new” dollars that previously did not exist—dollars which the U.S. government now has possession of and authorization to spend. And that’s exactly what it does: it spends the new dollars to pay for things that Congress has determined will benefit American society.

The Consequences of This Explanation

First, the U.S. “national debt” is functionally not a debt at all. It is simply a tally of the U.S. Treasury bonds which the government has issued and then traded for U.S. dollars which already existed in the private sector. These Treasury bonds are in effect interest-paying, time-deposit savings accounts for the bond holders. You personally may have traded some of your retirement dollars for one of these “savings accounts” and you know, firsthand, they definitely contain real money! The “national debt,” then, is really a “national savings account.”

This is, to say the least, a startling and liberating perspective. It means all the political drama and hand-wringing about how we are going to repay our “national debt” can just go away. Even better, all the haggling can be replaced with an entirely different conversation: What shall our government spend the new dollars—created by the Treasury bond auction process—to accomplish? The short list of deferred needs, recited earlier, could be a start.

The most extraordinary consequence, however, is that the explanation we’ve just outlined constructs an overarching view of the modern U.S. economy that has never been clear before:

The economy—that is to say, the creation and spending of dollars to undertake and accomplish humanly defined goals—is composed of not one, but two,money-creation processes. The first (and most commonly understood) process is the U.S. banking system: Banks “create” new dollars when they issue loans. This is the engine of American capitalism, and the new dollars sent into circulation by the banking system are specifically (and exclusively) targeted to accomplish goals associated with the generating of personal or corporate financial profits in the market economy.

The second money-creation process, as our explanation above has made clear, is the process we have been habitually calling “government borrowing.” The issuing and auctioning of U.S. Treasury bonds, as we’ve just discovered, is not “borrowing” money at all, but creating t. Most important, the dollars generated by this process, which are then spent by the U.S. government, are not spent in the pursuit of personal or corporate financial profits. They are spent to pursue the collective goals—and address the collective needs—of society at large.

The problem we are struggling with today is that while we continue to encourage the first money-creating process—the banking system—to “create” as many dollars as American enterprise and consumers can profitably spend, we have habitually constrained the second money-creating process by labeling it our “national debt” and falsely believing it is encumbering us. In doing so, we severely—and unnecessarily—limit and constrain what we undertake to accomplish for the benefit of what could be called our collective “social economy.” This is a mistake we must now stop making.

Note: I am indebted to Thornton Parker for planting the seed of this essay and, of course, to Warren Mosler who was the first, I believe, to see and understand the true character of sovereign Treasury securities.

Print Friendly, PDF & Email

113 comments

  1. Wat

    I am sure I am very dense, and embarrassed ahead of time, but could someone please explain to me what would happen if Russia, China, UK and Japan all called in their Treasury notes and wanted to be paid — in their own currencies, or gold, perhaps. Is the term “monetizing the debt” an oxymoron or does it ….. mean something?

    Reply
    1. paul

      I think the US government would tell them that they can have it in the dollars they are denominated in and that they could use them to buy their own currencis,gold or cryptotokens.

      Reply
      1. whip

        I don’t understand the ‘$1000 bond = 1000 dollars’ point. A few things differ:
        – I can’t buy a house or pizza with a bond, so I’ve got to trade it for dollars. So getting people to buy bonds seems like a way for the government to get people with savings to put that savings into circulation: by giving it to the government to spend. Savers get a little interest-payment for their trouble. So when the government issues a $1k bond, they’re not creating a new $1k, they’re just taking $1k that already existed but was sitting in a bank, and spending it into the economy. The only new money would be the interest on the loan. Is this correct?

        – Also, $1k bond isn’t like $1k because bonds can gain or lose value based on current interest rates. If rates go up, bond prices go down, so if you buy a $1k bond and rates go up and you want to sell the bond, you may only get back $900. So now, if you want your $1k principal back, you’re stuck with the bond until it matures, or stuck hoping rates go back down. This seems quite different than having $1k in a savings account.

        Am I missing something? The ‘national debt as savings account’ still makes sense even with these points to me.

        Reply
        1. aliteralmind

          by giving it to the government to spend

          Most of what you say seems okay, but this I don’t understand. The government couldn’t spend this money if they tried.

          Reply
    2. Boomka

      One reason this action may be considered harmful is that by increasing supply of bonds, they would lower their price, i.e. increase yields. Which people implicitly translate into the increase of the interest rates, which harms economy. But the reality is that Fed can always just step in and buy as many bonds as it wants, hoovering away any extra supply and retaining their control of the rates.

      Another reason this may be considered harmful is in the above scenario, having failed to influence US bond markets, China etc would still end up with a big pile of dollars on their hands, and they can use them to try and influence FX markets. By selling all their dollars quickly, they can cause the exchange rate of USD to plummet. However, it is highly arguable whether this actually harms US. Many in US would welcome falling dollar, making US more competitive, so this could be exactly what US wants. Also, just how much influence on the FX rate can China have is unclear, it may not be nearly as much as people assume. So most likely outcome here is that China only harms itself.

      Reply
      1. Jamie

        If one assumes that dollars and T-bills are essentially the same, the question becomes, “What can China do with all those dollars they are holding that could harm the U.S.?” I don’t worry too much about the bond market. It seems to me the more pressing concern is that since China can “buy anything whose cost is denominated in dollars” that, given the current state of play, China could buy our public institutions and commons that are being so assiduously privatized, our congress-critters and our president. Of course, why “China” would want these things is beyond me…

        “China” is just an abstract notion of sovereignty associated with some geographical borders. Who is it that actually “owns” all the dollars in China’s account at the Fed? Who gets to choose what to spend them on or whether they get spent at all? Is it the sum of individual Chinese investors? The Chinese “government” or some branch thereof? The President? Whose dollars are they, really? Anybody out there know enough about China and/or national accounts to shed some light?

        Reply
          1. Jamie

            Well, that is how I think of it. But that’s precisely what leads to my question. Presumable “China” does not buy and sell stuff with the U.S., but Chinese companies buy and sell with U.S. companies. (OK, maybe some stuff is traded directly, government to government, but how much?) I would think the owners of the Chinese companies are the ones with the extra dollars. Or

            1) “China” actually owns all Chinese companies (i.e. the state owns everything) but I was under the impression that such a “communist” system does not actually exist in China,

            2) Chinese business owners do not want dollars so all the dollars end up in the Chinese banks, so it is the banks that own them, or the banks turn them over to the government or…

            3) wealthy Chinese with dollars are waiting for a better exchange rate (or whatever) so they keep the dollars, which would mean that the “Chinese” account at the Fed is actually an aggregate of all the business owners’ individual accounts along with some portion that may be owned by the Chinese government itself and/or Chinese banks…

            4) some other configuration I haven’t thought of.

            The question remains, who has authority over all those T-bills, “owned by China”. What does it even mean to say a country “owns” the money represented by a positive trade balance or that “China” could suddenly “do something” with all that money? Surely in the case of the U.S. any positive trade balance “we” have with another country is owned by the individuals and companies that made the trade. It is not a source of income for the government, and I certainly don’t own it and neither (probably) do you unless you’re an exporter. And for our government to suddenly “do something” with all that money it would first have to appropriate it. Or am I living in la-la land?

            Reply
            1. Chips Taratus

              I think you are addressing the matter too literally. We (the US govt, a domsestic company, or an individual) bought a Chinese product, received value from it, and now they have dollars. They can spend them here buying American products or services, or if they don’t have an immediate purchase to make, they can buy a security with those dollars until they do. By repurposing the surplus dollars China (either the Chinese Govt, a Chinese company, or an individual) already has in their possession, the U.S. government has still another tool for managing the overall stock of dollars in circulation. The opportunity for the dollar holder (China) is to earn interest on the dollars. This also serves as a check on inflation. Why print more dollars if you can instead re-use them? It also may serve as a check on dollar hoarding or foreign stockpiling of dollars. So, the offering of treasury bills as a place to put your dollars actually protects American interests.

              Reply
            2. Adam Eran

              All of this stuff is debt: T-Bills, Treasury Bonds, and dollars. ***ALL*** appears on the books of the Fed as a liability. It’s bank debt, not household debt.

              Your checking account is your asset, but the bank’s liability. Ditto for your savings account. When you write a check, you’re assigning a portion of the bank’s debt to the payee. Dollars are simply checks made out to cash in fixed amounts.

              How many dollar financial assets are in circulation in the U.S. economy? Exactly the amount we call “National Debt.”

              And how often do you hear of bank’s depositors petitioning the bank to diminish its indebtedness (i.e. the amount in their accounts) by increasing its fees or lowering interest paid on savings? That would only occur at the bank of crazy people.

              Meanwhile, what do dollars really indicate? They are an IOU. What is owed? A dollar’s worth of relief from an inevitable liability: taxes. That’s right, taxes make the money valuable. They do not fund or provision the government that makes the money (where would tax payers get dollars to pay taxes if the government didn’t spend them out into the economy first?).

              What does China get for its dollars? The right to buy things with dollars. That’s it. And even that is not an unrestricted right (remember, government can forbid certain transactions). Steve Keen says MMT ignores the real import of balance of payment imbalance because it’s too U.S.-centered. Meanwhile, if we’re to remain the world’s reserve currency, the U.S. *must* run a trade deficit so it can leave dollars in the hands of its trading partners.

              Reply
        1. False Solace

          Congress and the EU have previously stepped in to prevent China from buying things they don’t want China to have — ports, key companies in certain industries, etc.

          Reply
      2. Skip Intro

        If you ‘owe’ China a million bucks, that’s your problem. If it’s a trillion, it’s their problem.

        As they start to sell their dollars, the price drops, and they find themselves poorer. They are more concerned with the value of the dollar than the US!

        Reply
    3. AlexHache

      As Warren Mosler explains, the FED would basically debit those countries’ “saving accounts” and credit their “checking accounts” in some kind of internal spreadsheet. No big deal.

      Reply
      1. Blue Pilgrim

        Yes, thanks. I found a reference to this, and there be videos there too:

        http://www.netrootsmass.net/fiscal-sustainability-teach-in-and-counter-conference/warren-mosler-the-deficit-the-debt-the-debt-to-gdp-ratio-the-grandchildren-and-government-economic-policy/

        Warren Mosler: The Deficit, the Debt, the Debt-To-GDP ratio, the Grandchildren and Government Economic Policy
        April 28th, 2010 by selise

        Session 3 — 1st Fiscal Sustainability Teach-In and Counter-Conference
        George Washington University, Washington DC, April 28, 2010


        Now after the government spends, they don’t just throw it out the window, they could, then it would be in cash, but what they normally do is put it in a checking account at the Federal Reserve. It’s called a reserve account because it’s the Federal Reserve Bank. (All right, I’m doing the second one first.) Reserve accounts are checking accounts at the Federal Reserve Bank. They call them reserve accounts, the Federal Reserve Bank, they give it a fancy name and then when people say, well, our reserve balances went up, they sound professional, but all — they’re just checking accounts. [00:14:47]
        Warren Mosler – Slide 12

        The national debt — okay and there’s another kind of account at this central bank, at the Federal Reserve Bank, called Treasury securities. They’re savings accounts. That’s already been covered, I’ll just leave it at that. You give them money; you get it back with interest; that’s called a savings account. [00:15:04]

        Reply
    4. Fibblewocky

      The US Government would tell them to take a hike. The Government makes no promise to pay bonds in anything else other than US currency and Russia, China, etc, knew that going in.

      Reply
      1. Richard

        This is my first post on this site due to my reluctance to talk about financial issues in the presence of the those truly knowledgeable–I am an academic in another area. But I have been interested in MMT for the past week(!) and it seems clear that the US can not go bankrupt or will never be unable to repay its notes. The US will simply print more dollars where ‘print’ means a computer transaction. The major limitation on printing dollars is that if done to excess, i.e. where there are too many dollars relative to the value of goods in the market it will lead to inflation. If China wants money for its bonds we treat them as we would US bond holders-simply print the money they ask for. This is in contrast to Obama’s statement that we get dollars from China using a credit card and our children will have to pay for it.

        If this is a grossly inaccurate or over-simplified argument please tell me…

        Reply
        1. John Beech

          You are absolutely correct, we indeed can print Dollars, as long as we also recognize they devalue and debase the currency When does it end? When it takes a wheelbarrow load of money to buy a loaf of bread.

          Don’t believe me? Take Venezuela, for example . . . it recently devalued the Bolivar (by 80% back in February). This, as a direct repercussions of fantastic experiment in social spending backfired.

          Zimbabwe is famous for going bankrupt after printing gone wild. And while it’s easy to suggest Zimbabwe didn’t produce anything the world wanted, note Venezuela is first amongst equals, e.g. the country with the worlds greatest reserves of oil.

          Does this make me heartless guy who doesn’t want the poor to have higher pay, and free stuff like day care and college? Nope. it makes the the guy who says, ‘Put it to the vote!’ I say, let’s vote to raise our own taxes to fund free day care and college.

          I’m a long time Republican voter and I’d be perfectly happy raising my property taxes the amount required. However, bear in mind, TANSTAAFL hasn’t been repealed so this means rents will go up also.

          Oh wait, you want rent-control so poor people can afford to live in neighborhoods after they’ve been priced out. OK, that suits me. One question, who wants to borrow to build knowing they can’t make a buck? E.g. when what happened in New York happens elsewhere and well intentioned socialists forgot people aren’t motivated by other than filthy lucre. So who ponies up the dough to build new ‘affordable’ units? Not me. Will you?

          Go ahead. Cash out your 401(k) and build some affordable housing for poor people. Let me know how that works out for you.

          Reply
          1. Darius

            We just conjured up trillions in an instant for the bank bailout. No questions asked. Shrug.

            Another $100 billion for added military adventurism goodness? No one even pays any attention.

            The US prints more money whenever it wants with impunity. It’s just a question of priorities.

            Reply
            1. Buck Eschaton

              It’s not a “real money” vs “printing money” thing. It’s all “printing money”. It’s not like there’s a set amount of real money in the world, or real dollars to be specific and that going over this “set” amount is “money printing”.

              Reply
          2. False Solace

            Ha, it’s like that tweet I saw yesterday:

            so weird how nobody ever asks how we pay for the endless wars, or the billions in tax breaks we give to the richest people on earth

            but the second someone mentions policies to vastly improve millions of lives, grandpa breaks out the [family blog] abacus

            source

            Reply
          3. Blue Pilgrim

            See http://www.netrootsmass.net/fiscal-sustainability-teach-in-and-counter-conference/marshall-auerback-inflation-and-hyper-inflation/

            Hyperinflation is not a problem for the US, which is nothing like Zimbabwe, etc. US dollar can lose value and US can have inflation, but not hyperinflation, which is due to different circumstances. Debt deflation / depression is the real risk.

            The US issuing currency to increase the amount in the private sector helps the economy unless inflation is a big problem, which it is not, and investing in housing, health, education, infrastructure, etc. leads to greater employment, productivity, and productive capacity — real wealth instead of financial speculation and loss of velocity, liquidity, and utilization in the real economy.

            Reply
          4. lyman alpha blob

            Why do private companies need to build affordable housing in the first place? As this post explains, they don’t.

            One of the things that really gets my goat is the notion that private contractors won’t build affordable housing if they can’t turn a profit. Well no kidding. That isn’t even the right argument. Why should we expect private companies to serve the public good in the first place?

            If you want affordable housing for the public, then use public spending. The only reason we don’t is a question of will.

            And here’s my theory as to why there is no will to spend on housing or any much needed infrastructure upgrades – the money that would be needed to be pumped into the system won’t necessarily cause inflation, but it will make the squillions that rich people already have squirreled away worth a lot less.

            It was quite the trick the Fed pulled off a decade ago, using quantitative easing/ZIRP to goose asset prices so that rich people wouldn’t lose their fortunes. But someone is only rich compared to someone else with a lot less money. Start pumping money into the economy that makes its way into the pockets of people who work for a living, and then who will the squillionaires have to lord it over?

            If you want to understand why bankers and the elites won’t ever spend government dollars to truly help the working class, you could do worse than reading William Jennings Bryant’s ‘Cross of Gold’ speech, which explains why inflation to a point is a boon to the working class.

            Reply
          5. Grand

            John, you do realize that inflation and the value of a country’s currency is very complex, right? How much the money leaks out of the economy, how much is hoarded or retained by companies, who it goes to, whether or not an economy is at full productive capacity and fully employment, the ability of a government to pay its bonds (no issue with the US of course, Greece is another story), monopoly power within markets, among other things, will go a long way towards impacting the value of a currency and inflation, and inflation is majorly impacted by how much credit money banks create too.

            “One question, who wants to borrow to build knowing they can’t make a buck?”

            Well, I got a question for ya; why does society need to kiss up to private interests in order to build housing? It doesn’t. I think the social benefits of housing done in such a way to secure profits for private developers is at least open to debate. I just don’t get why people think that we should assume that private interests will be at the center of healthcare, housing, a national pension system, education, utilities, or much of anything else. They have to prove that they can do the job well, better than public alternatives, and that the social benefits (not just the market values) are greater from their activities than the social costs, and how those costs and benefits are distributed matters too. Maybe they can, but it isn’t as if we are just stuck with what they want to do or what is best for them. There should be no assumption that if private developers are happy, that society will be better off. The interests of the two might be polar opposites.

            “So who ponies up the dough to build new ‘affordable’ units? Not me. Will you?”

            Who is asking you to? You paying taxes has nothing to do with whether the state can or will spend on something. It impacts how much new money is created to fund a given level of spending, but they don’t actually need your damn money to spend on stuff. Lots of problems in regards to housing are the NIMBY types that make local planning and increased density very difficult in many contexts. Again, no harmony of interests there, and what is good for low income people isn’t necessarily good for relatively well off home owners.

            Reply
          6. David May

            Wow, John, what a splatter-gun of points, a real gish gallop. All the points you make have been debunked or otherwise addressed here numerous times. Anyway I hope you stick around and pay attention. You will learn a lot if you are willing.

            Reply
        2. Fibblewocky

          Yes you’re essentially correct. The one thing I’d clarify is that China purchases US bonds with US currency. This is why the Government can never default on it’s debts. It would be a different story if it had borrowed in a foreign currency since it only has the power to create the US dollar.

          Reply
        3. jsn

          Richard, a good summation.

          The reason our trading partners never attempt to unload all their Treasury holdings is that should they do so their own currencies values relative to the dollar would go up to the point they could no longer profitably export their goods to the US. By purchasing Treasuries, they essentially purchase demand for their products by keeping their own currencies cheap, bidding up the dollar which is beneficial to their domestic economies in maintaining export demand and with that manufacturing employment.

          On aggregate, the world cannot export more to the United States than there are dollar reserves, also known as “the deficit”, created in a given year. Each year the world continues to export more to the US than the US exports to the world, “the deficit” will grow by that amount, but our trading partners cannot get anything but US dollars in exchange for their reserves, so for them to unload the dollars they would need to find something of equal value to purchase in the dollar denominated economy.

          This has resulted in rampant asset price inflation that has encouraged a liquidationist mind set in the American corporate sector where, rather than investing in new tech or capacity, our Lions Of Industry are self financing their own profitability with share buy backs. They are liquidating financial assets, returned to share holders in the form of inflated share prices that can only be beneficial if shares are sold before the collapse, while hollowing out and dismantling the actual productive constellations of the corporations.

          Reply
        4. terrymcneely

          as i understand it, we can’t just print dollars to spend cause treasury’s hands are tied
          and you have to go to the Fed to hold an auction of treasuries first to print the money
          to pay off the old treasuries, in essence the debt rolls over. It looks like, if my understanding correct, you can’t pay off the “national debt’ because the Fed Reserve Act prevents it.

          Reply
          1. Grand

            My understanding is different, although I may be incorrect. My understanding is that the Treasury can create however much money it wants to, which is what that trillion dollar coin debate centered on before. The Treasury can mint coin with any denomination and can, and has in the past, created paper money too. Am I wrong? Anyone?

            Reply
            1. terrymcneely

              Grand, i think your understanding is also correct. What i said above, is also how the national debt was created in the first place, if my thinking on this is correct/
              Wray in his book on modern monetary theory states that the Treasury has its hand tied by the FRAct in the first place; any spending has to be preceded by going into debt, selling a treasury bond; an unnecessary and complicating step, except lots of people do want to own treasuries as a safe place to park their money.

              Reply
    5. Todde

      If little Mikey owes you 1000 dollars and you need it bad, little Mikey has a problem.

      If Mike Tyson owns you a 1000 dollars and you need it bad, you have a problem.

      Finnlewookey describes what would happen ‘irl’.

      Reply
      1. Lee

        Let’s see, the guys ‘n gals with the guns (state monopoly on violence) owe the guys ‘n gals with the monopoly money. I know who I’m putting my money on.

        Reply
    6. Darius

      Not in their interest to do so. Treasury bonds are money. If Treasury bonds ever lost their appeal, that would show the US already is in crisis. The US still has the world over a barrel. Sorta kinda like Donald Trump has had banks over a barrel so they keep lending him money.

      Reply
    7. Richard Kline

      “. . . [M]ore often than not, they are rolled into a new Treasury bond.” This is the key phrase in the entire article. Any bond that is cashed in acts like an actual debt; the money has to be found to pay out the principal. But the vast majority of issued bonds are not cashed in but rolled over. Why? They are an asset to the holder in terms of their relative stability, and they have the premium of definitely-absolutely paying interest over their term.

      Think of US government debt as a large column of hot chocolate. A skin cools on the top and is removed from further circulation. That is the portion of the debt that is not rolled over, but whose holders cash out their bonds on maturity. Real money has to be found to pay them, but its a small fraction of the total volume. Real money has to be found to pay the interest on the pile too, a much more significant problem. The US once upon a time paid that out of government receipts—taxes, customs, fees, etc. Now by and large, that interest is paid by . . . issuing more debt, the receipts of which pay the interest on the rest. That fringes upon Ponzi practice, but isn’t necessarily there yet. Why? As long as the appetite for US bonds continues to grow at a modest but definite rate, new money can be found to throw and old money’s cost. The trick is not to have too much of a dip in that demand growth for treasuries, because when demand dips, not even declines, but grows slower, Big Guv has to pay more to attract buyers, which compounds that interest service conundrum. Failing anything else, the Federal Reserve just ‘buys’ Guv Debt until ‘things stabilize.’

      The rest of that hot chocolate is rolled over, old bills handed in for new bills. Why? Because they are an asset to the holder, and a prize asset. US Guv Debt is (forcibly held) stable. It is highly convertible to other assets, i.e. you can swap it readily. It pays interest, which is nice for suckers who are only going to sit on it in a digital mattress. More importantly, because it is a good asset you can borrow against it at a significant multiple, using is as collateral; then, you play Market Craps with the borrowings for real money in profits. If you cashed out the bond, you wouldn’t have collateral nearly as good. You might even have to play Market Craps with your own actual money that you would otherwise swap for Guv Debt. Not good.

      Guv Debt = Private Asset. Yves and innumerable commentators less fluent have made this point ceaselessly for years. Now, if you are a small country with a small amount of government debt in circulation (or small relative to capital markets), and you can’t keep your trash stable in value, people get out, call in all your debt or threaten too, and The Game Is Up. There is absolutely no incentive to do that with US Guv Debt because it is everybody’s best fallback asset. You could burn down your house and try to collect the insurance, in a poor metaphor, but it’s much easier to take a second mortgage on the thing and then sell it to a double sucker at an inflated topline number. Small countries are like small banks; big countries are like big bans—too big to be failed without everyone else getting caught in the fire.

      Why wouldn’t Russia, China, putative terrorist state of your choice try to cash out all their US Guv Debt at once. a) There is so humongously much of it out there as the entire world’s primary asset class that to do so would crash world markets period. Those could be rebuilt, but everybody losses enormously in the short and mid-term. b) Two can play at that game. While the exposure of many states to retaliatory bond dumping is comparatively slight, who is going to trust them in the future? The ability of any state to function in international markets will be heavily impairedwho has previously dumped an asset class in a way that destroys it. They are unlikely to be trusted for handling bonds of any origin, and would have to pay in gold, diamonds, microchips, or the like, the volume of which is a single digit percentage on the volume of government bond debt. c) The US would simply refuse to pay, and ‘negotiate.’ The alternative of China or Russia in that hypothetical would be to try to dump their US Guv Bonds on the capital markets. Those markets couldn’t absorb the volume involved, and the price on the asset would absolutely plummet. At that point, having set their own asses on fire, the perpetrators would have other things to worry about beyond the fact the Uncle Sam’s hair was on fire too.

      Debt = Asset. If you issue enough of it but not just a scintilla too much. MMT without reigning in, say, bankster bailout Guv Debt would be more than a scintilla too much. That will be a major political-economic conundrum of any actually progressive government that might manage to get itself into power. I wouldn’t count too heavily on the right balance being found for all those accounts, human error/dumbkoffproneness being what it is. A mighty fine rollover the falls that will all be if we see it. Still, progress may be made . . . .

      Reply
        1. tegnost

          you should have kept going until this…
          It pays interest, which is nice for suckers who are only going to sit on it in a digital mattress. More importantly, because it is a good asset you can borrow against it at a significant multiple, using is as collateral; then, you play Market Craps with the borrowings for real money in profits. If you cashed out the bond, you wouldn’t have collateral nearly as good. You might even have to play Market Craps with your own actual money that you would otherwise swap for Guv Debt. Not good

          Reply
    8. redleg

      I believe Russia just completed selling off their US treasuries last month.
      Since this didn’t make the (mainstream) news, it was pretty much had no effect.

      Reply
  2. Tomonthebeach

    This essay is a keeper. Alas, I wish you could dumb it down even more, you know, so a Congressional Representative or Senator could understand it – maybe even a president… no, that would require stick figures and crayolas. Never mind that.

    Reply
    1. Olga

      They may very well already know all this (or at least have some sense that the “debt” does not need to be repaid). Maintaining the illusion of “debt” is an ideological exercise. As the author asserts, this “second money-creation process” is used for “collective needs” – and we cannot have that, of course. In the US capitalist system, private profit reigns supreme.
      In fact, now that I think about it more, the “debt” obfuscation national conversation is likely a deliberate attempt to muddy the waters precisely so that the people would be spooked and not ask more of their government! If the plebes get the sense that they can use the govt. and its resources for their betterment – who knows what might come next!
      And then this book – https://bostonreview.net/class-inequality/j-w-mason-market-police – makes even more sense.
      Thanks for posting this, NC team!

      Reply
      1. Boomka

        Maintaining the illusion of “debt” is an ideological exercise.

        IMO terminology is fine, and there is more to it than ideology. Hypothetically, if there are no checks at all on money creation (via bond issuance or otherwise) then you can slide into (hyper)inflation. Once you start putting constraints in place on money creation, bond issuance starts looking more and more like borrowing. In the extreme, where you don’t want any new money creation at all, the two become more or less equivalent.

        The real crime here is that there is no discussion at all about balancing money creation for private gains (banking) versus money creation for public gain (govt spending). As you rightly say, the conversation is skewed to make the second way of creating money look dangerous, so that banks are the only beneficiaries of money creation.

        If all you do is simply tell Congress that they can spend as much as they want and increase budget to any number, do you think you will have solved the social problems? I think more likely, instead of throwing this new money at Medicare or jobs guarantee, they would start 10 new wars and funnel all the money into military contracts.

        Reply
        1. Olga

          “If all you do is simply tell Congress that they can spend as much as they want and increase budget to any number,…”
          Yes, if that is all you do… but my comment was not meant to imply a free-for-all. Painting an extreme scenario does not negate the fact that the national conversation on this theme is sorely needed, but has been (likely) deliberately avoided. If an honest conversation were to be had, reasonable constraints on spending could be developed. In fact, it would be a necessary part of the conversation.

          Reply
        2. jsn

          Real resources are constrained, money is not. By trying to use constraints on money to manage real resource constraints, all the politics of distribution is abdicated to financial arbiters. This is the fundamental problem with the “debt” framing.

          Money needs to be viewed as a public utility, not a personal goal, but to create that perception, society must first offer some possibility of reasonable security to ordinary people. This is the core function of politics which “market fundamentalism” was invented to suppress and hide behind arguments about “hyperinflation” and fears about money which is the only security “markets” offer.

          Reply
        3. False Solace

          Hyperinflation doesn’t “just happen”. You don’t just “slide” into it. It’s seen in countries that suffer widespread industrial collapse or issue tons of debt denominated in a currency they don’t control. It doesn’t happen to countries that do stuff like universal healthcare or rent control. Numerous non-insane countries do those things, and more, and carry on just fine.

          We already have MMT for war and Wall Street bailouts. When those industries want money they get it, consequence free. Congress votes to give the DOD increases the DOD didn’t even ask for. The same money could have funded free college for all. We already have MMT. What we don’t have is a lick of common sense when we let “our” politicians do those things instead of improving our lives. And then we worry about giving our citizens “free stuff”. Third World USA.

          Reply
          1. Boomka

            Hyperinflation doesn’t “just happen”.

            Okay I will bite. If fiscal spending really is free lunch, what would happen if USA immediately instituted Universal Basic Income and set the yearly payment at 500,000$ (I hear this is what it takes to have a decent living in California)?

            Reply
            1. Tony F

              Well, in that very specific scenario, it could lead to people quitting their jobs. Which leads to factories cutting back capacity, farms reducing harvests, overseas goods sitting on ships waiting to be unloaded. This indeed could be quite hyperinflationary. However, it is the supply shock that causes the Hyperinflation. Not the act of creating money. If the people decide to save the $500,000, or use it to pay off debt, and keep working their jobs and others use the money to increase demand and that leads to an increase in supply. Which answer I find more likely, depends on how cynical I am feeling on any given day.
              But likewise, if the Government decided to suddenly subtract $500,000 per year from every citizen, even those that could not afford it, closing factories, destroying farms, shutting down ports so overseas goods cannot be unloaded. This could also lead to hyperinflation, if the supply crash is rapid and significant.
              Either way, policy is key, the size of the debt and the amount of money being created is not. If there is a bridge needing repair and there is enough concrete, steel and labor to repair it and the only thing standing in the way is the Federal government creating money. Then there is no excuse for that bridge being left unrepaired.

              Reply
  3. RW

    HW bush voice (think: ‘I will never apologise for the United States of America, I don’t care what the facts are’.)

    ‘America does not owe anyone a debt, we can create all the wealth we need’

    Reply
  4. Boomka

    The issuing and auctioning of U.S. Treasury bonds, as we’ve just discovered, is not “borrowing” money at all, but creating

    To a zeroth order, creation of money ultimately leads to inflation. So if process of issuance and expenditure is completely uncontrolled, you can easily slide into high inflation zone. If your goal is complete absence of inflation, then you don’t want any money creation, and it becomes perfectly okay to start thinking of treasury bonds as borrowing.

    The article fails to address this point completely, and by trivializing a complex matter it looks like another piece of lefty propaganda. Now I am a lefty myself, and I am all for more fiscal spending, but I don’t like propaganda, even if it comes from my camp.

    A slightly more rigorous argument for why bond issuance cannot be equated with borrowing is because injection/creation of certain type of money into circulation does not have direct relationship with inflation. In fact, the exact relationship between different types of money supply and the inflation is highly non-linear, very poorly understood, and muddled by interference from multiple other factors like money velocity. But this line of thinking does not offer any easy policy prescriptions (and among other things it does not give you a license to spend like there’s no tomorrow, like this article seems to suggest) so nobody likes to talk about it.

    Reply
    1. TroyMcClure

      “To a zeroth order, creation of money ultimately leads to inflation.”

      False. As such so is everything that follows. Money is not a commodity and is in no way devalued when nominally more of it is available.

      Reply
    2. False Solace

      > To a zeroth order, creation of money ultimately leads to inflation.

      The Fed created $17 trillion and sent it over in wheelbarrows to Wall Street and there was zero inflation for a decade.

      Reply
      1. Boomka

        We could go into a whole argument about this but given that this argument is already being actively played out in the academia and financial blogosphere, let’s not.

        Although I suspect we agree more than we don’t. If you re-read my post, I did admit that the relationship between money supply and inflation is highly complex. I hope you are not implying with your comment that this relationship is non-existent.

        And to answer your direct point, Fed was battling credit contraction, which is destruction of money supply, or deflation. You have to subtract destroyed money from your 17$T figure. Also, I would argue that we saw quite a lot of inflation in the last decade, but that gets us into a whole other discussion about how inflation should be measured, whether it could be measured, etc…

        Reply
        1. Blue Pilgrim

          If I gathered together $50 trillion and put it under my mattress I would not destroy any money at all — and yet there would be deflation and credit contraction. These are not the same things. What is needed is an amount of money in circulation commensurate with the goods and services people reasonably want to engage with. I.E., have enough gas to drive to where you need to go.

          Reply
        2. Yves Smith Post author

          You missed that the US also has the $21 trillion over time of off the books defense spending that has not been accounted for. That was only about $3 trillion when Cynthia McKinney went after it in the early 2000s. So we’ve had $18 trillion of spending in less than 18 years…direct spending because not done through Treasury bonds (that would be on budget…and pray tell, where’s the inflation?

          Reply
  5. Distrubed Voter

    If a customer hocks something in a pawn shop, and they don’t come back in the agreed time period, then the pawn shop gets to sell the item to recoup their money they traded them, as best they can.

    If the pawn shop refuses to return my item, even if the customer has the money to get it out of hock, then it is in violation of contract.

    If they trade something that didn’t belong to them, then they are a criminal. If the pawn shop sells the misbegotten item, then they are a fence. In Babylon both were punishable by death. The question hangs on legitimacy and the ability to fulfill contract.

    So the US can hock bonds (that they issue) to the public. The US can redeem the bonds with dollars (they also issue). The public can sell the bonds at any time, or redeem them … there is no specified holding period unlike a pawn shop.

    Is the US the pawn shop or the customer? I would say that the US is the customer, and the bond holder is the pawn shop. If a private party counterfeits the bonds or the money, then it is clearly misbegotten.

    If the government counterfeits their own bonds or their own money, is it a crime? Is it even a breach of contract if the government refuses to redeem their own bonds for money or just a one-way renegotiation?

    Can a government which is sovereign in a way private parties are not, even commit a crime? Since the bonds and the money are intangible and fungible, does this comparison even work?

    In the Babylonian case, the temple issued IOUs for the grain tax that the farmers brought in. The grain was fungible but not intangible. However the IOUs were intangible but not fungible, because they were issued to a particular family.

    Our situation is like the farmer bringing IOUs of future grain harvests, to the temple. And the temple issuing a fungible IOU. Hence debt slavery (future taxation on top of present taxation). Is it a competitive kiting of fungible IOUs by one side only? And given international markets, there is the problem of these IOUs not being recognized by a different sovereign.

    The only limit seems to be the capacity of the market to buy bonds, and the willingness of the sovereign to issue fiat money. You can overtax the present, but can you overtax the future? What if you can simply keep rolling over your future obligations as they come due?

    Reply
  6. voteforno6

    Decent overview, I do have a few questions, though:

    – This post implies that there are only two ways that money is created – through bank lending, and through Treasury auctions. Is that really correct? My understanding of MMT is that federal government spending is one of the ways that money is created. It seems that Treasury auctions could be considered to be a subset of that.
    – It’s my understanding that Treasury auctions are required by law, to account for the difference in federal revenues and federal spending. Is that correct?
    – If these Treasury auctions are required by law, what would be the impact if that law was changed?

    Reply
    1. Samuel Conner

      Treasury could simply print large denomination currency (zero interest bearer bonds — Federal Reserve notes are also zero interest bearer bonds), transfer them to the Treasury reserve account at the Fed, and spend the reserves to fulfill appropriations. (This is essentially the same thing as “the Coin” concept, first noticed by Beowulf a few years ago, that is possible under an obscure provision of a ’90s era law) .

      It’s not clear to me that one even needs the fig leaf of printing a large denomination zero-coupon bearer bond, or minting a large denomination coin. I think the Fed could simply create reserves in Treasury’s reserve account without receiving anything from Treasury in exchange. The Fed does not have a solvency constraint, though a lot people seem to think that it should behave like it does.

      Reply
    2. Fibblewocky

      – This post implies that there are only two ways that money is created – through bank lending, and through Treasury auctions. Is that really correct? My understanding of MMT is that federal government spending is one of the ways that money is created. It seems that Treasury auctions could be considered to be a subset of that.

      The high level answer is that whenever the Government spends, it creates money. Always. Issuing bonds doesn’t stop this from happening.

      So no, the Government doesn’t need to sell treasury bonds to create money. Conventional wisdom says that the Government isn’t creating money if it sells bonds but MMT shows that isn’t correct. It still happens.

      – It’s my understanding that Treasury auctions are required by law, to account for the difference in federal revenues and federal spending. Is that correct?

      That is the conventional explanation but as stated above, it doesn’t actually stop money creation. The real reason for this policy is related to the impact Government spending has on interest rates. Government spending floods banks reserve accounts and puts downward pressure on the interest rate. The Government sells bonds as a way to neutralize that impact and maintain whatever interest rate the FED is currently targeting.

      – If these Treasury auctions are required by law, what would be the impact if that law was changed?
      If the Government no longer followed this process, the FED would not be able to control the interest rate. This isn’t necessarily a bad thing.

      Reply
      1. djrichard

        The Government sells bonds as a way to neutralize that impact and maintain whatever interest rate the FED is currently targeting.

        Currently the Fed Reserve is increasing their Fed Funds rate. The Fed Funds rate in turn correlates to the 3 month treasury. If the Fed Gov is using issuance to “maintain” the Fed Funds rate, are they then increasing their issuance of 3 month treasuries in order to maintain the higher Fed Funds rate? In particular, will the Fed Gov be increasing their issuance of 3 month treasuries going forward, assuming that the Fed Reserve will be increasing their Fed Funds rate?

        Reply
  7. Samuel Conner

    A minor but important nuance that might be worth appending to this excellent essay is that bank-created money (“horizontal money” in MMT jargon, in constrast to the “vertical money” that monetary sovereign governments create) does need to be repaid because the issuing banks have solvency constraints. They cannot give away reserves without limit because of the legal constraints under which they operate. These constraints are necessary for obvious reasons of moral hazard.

    The fact that borrowings of bank-created money must be repaid probably contributes to the widespread false belief that Treasury “borrowings” must also eventually be repaid. The essay makes an important point that the Treasury is not actually borrowing — it is exchanging interest bearing notes of its own creation for non-(or very low)-interest bearing reserves which are deposited into its reserve account at the Fed.

    The US government, being a currency issuer (unlike the European examples mentioned in the essay) does not face a solvency constraint. It does, of course, face an inflation constraint. Under present conditions (and most prior periods too, I suspect) there is plenty of underutilized capacity so that additional spending need not be inflationary.

    (A final small nuance, probably not worth elucidating in the essay as it may confuse matters, is that in practice, if one wants to “spend” a Treasury note, one has to first trade it in the secondary market for spendable vertical money, or else one has to borrow horizontal money (from a bank, formal or shadow).

    Reply
    1. Eclair

      “It does, of course, face an inflation constraint.”

      And, it is my understanding that taxing income/wealth (which is not really necessary to fund sovereign government spending) is a method of keeping inflation in check. Taxation (at least of high levels of income/wealth) removes ‘excess’ dollars from the system, and returns them to the government.

      Reply
      1. Samuel Conner

        That is exactly right. A nuance is that the “excess” dollars in possession of the most wealthy aren’t all that inflationary in the “consumables” economy because of the low marginal propensity of high earners to spend additional income on consumption goods.

        It has been pointed out repeatedly that tax cuts for the wealthy don’t do much to boost consumption (and thereby to boost production) because of this “low marginal propensity” issue. The flip-side of that reality is that tax hikes on the wealthy don’t do much to restrain inflation of consumables prices.

        There is also the issue of asset-price inflation, and that IS affected by tax policy toward the wealthy (and also by monetary policy on the part of the central bank). Some proportion of the unspent “excess” funds end up chasing returns in the financial markets, and this bids up the prices of financial assets (and also of things like real estate, which can be highly problematic for the non-wealthy as they are priced out of the ability to live near their workplaces).

        Reply
        1. Eclair

          Re: ‘… the low marginal propensity of high earners to spend additional income on consumption goods.’

          OK, so I get the distinction between ‘consumer’ and ‘capital’ goods. The former disappear almost immediately (food, clothing, I-phone batteries), while the latter have a life-span in years and are used for further production (trucks, machine tools, manufacturing and office facilities.) And, even the obscenely wealthy can not eat too much (they would become fat, a class marker) or wear more than one outfit at a time.

          But, what about ‘non-productive’ capital goods: personal yachts the size of shopping malls, five 10,000 sq ft houses that are empty for 11 months of the year, gold-plated toilet seats, private jets, fleets of giant SUV’s? The production of these capital goods use up increasingly scarce resources, to say nothing of the time of workers (try finding a carpenter, electrician or painter in Seattle, for a small domestic project).

          The wealthy suck up a disproportionate share of limited resources through their unchecked demand for what are basically useless capital goods. I would call it ‘The Versailles Syndrome.’ So, income tax policy should kick in when the super-rich start to hog all the resources, raising prices and making basic stuff like housing and transportation unavailable for the masses?

          Reply
          1. Samuel Conner

            I think that’s right — if spending by high earners in the real economy were to lead to significant shortages of real things, and thus to inflation, then there would be an inflation argument for tax hikes targeted to restrain that spending.

            My perception is that MMT theorists are most concerned that it be understood that tax policy is not (in principle at least; under current self-imposed constraints it is functionally) for the purpose of funding government spending. The government has the power to create financial assets (whether by issuing T-Notes [current practice] or by the Fed simply creating reserves and crediting them to the Treasury gratis [operationally possible but currently, I think, forbidden by law]) and spend them into the economy to recruit real resources for its policy purposes.

            Reply
        2. Jamie

          Taxation (at least of high levels of income/wealth) removes ‘excess’ dollars from the system, and returns them to the government.

          That is exactly right.

          Is this exactly right? The sources I read on MMT say the dollars are “taxed away”… they simply cease to exist and therefor shrink the money supply. The government has no “pool of dollars” which taxes increase. I don’t know. Does the IRS write a check for the sum of taxes collected which is deposited into some general treasury account which is the “funds” available to congress to spend? It is sometimes hard to discern when MMTers are talking about what actually happens v. what is logically necessary. I get that there is no logical necessity for tax dollars to be “returned” to the sovereign. I’m not so sure what actually happens.

          Reply
          1. Todde

            The money held in federal government bank accounts dont exist in the money supply calculation.

            The money sitting as cash in a banks vault doesn’t ‘exist’ as money either.

            Reply
          2. Samuel Conner

            When someone pays taxes to USG by writing a check, the taxpayer’s personal bank account is debited, and the taxpayer’s bank’s Fed reserve account is debited the same amount, and the Treasury’s Fed reserve account is credited by that amount. I think this is the mechanics of the transaction — I welcome correction if I have missed or mis-stated something.

            Is the money extinguished? Sort of in the sense that the spending power by the former holder is reduced by that much. Is it “returned”? Sort of in that digits are adjusted down in one memory location (a non-government Fed reserve account) and adjusted up in another (a government reserve account at the Fed).

            I have read it claimed that if you paid your taxes by delivering physical currency to a Treasury office (assuming they would even accept it), the received currency would simply be destroyed.

            The thing I was most concerned to affirm was Eclair’s point that taxes have the effect of restraining inflation.

            Reply
    2. Mel

      in practice, if one wants to “spend” a Treasury note, one has to first trade it in the secondary market for spendable vertical money, or else one has to borrow horizontal money (from a bank, formal or shadow)

      For almost all of us, yes. A couple of days ago another commenter discovered that Harley Davidson (maybe because of some government assistance deal) has an account at the FED and therefore has a little vertical money to spend. Who’d have thought?

      Reply
  8. Steve

    I must be dense.
    I invest in a treasury bond. The government spends my money, I have a bond with value. Fine so far. There is an increase in spendable funds.

    The bond comes due, I get paid back. There is a decrease in spendable funds.

    Is the piece left out of this post that the money is printed, it is not a limited quantity? If so, that would make it far less confusing.

    Reply
    1. diptherio

      The USG does not have a stockpile of “spendable funds.” Therefore, converting a treasury note to US currency does not have any effect on the USG’s ability to spend. The USG gets dollars from the same place the score-keeper at the football game gets points. Just like the score-keeper doesn’t need to worry about running out of points, so the USG doesn’t need to worry about running out of “spendable funds.”

      Reply
        1. Samuel Conner

          It’s a good question, and I don’t have a clear answer, but IIRC from reading at the MMT Primer

          http://neweconomicperspectives.org/modern-monetary-theory-primer.html

          Treasury is obliged to do this by laws passed long ago. These laws were created during a time when US was not a monetary sovereign (Gold-convertibility era) and so the arguments in Alt’s essay were not fully applicable.

          It’s also probably the case that our elites actually do not want the USG to employ its fully monetary sovereign power on behalf of public interest. The current state of affairs works to their advantage in terms of hierarchy and control and relative wealth. A more fiscally activist USG would make the elites wealthier in absolute terms, but in relative terms it would disproportionately benefit the less wealthy, thus flattening the income distribution and narrowing status distinctions.

          That’s a self-defeating posture, but it seems deeply embedded in human nature (or in the natures of the majority of the people who become very powerful and wealthy; power and wealth tend to change you and to diminish empathy, something that has been proved in medical research. I am reminded of a famous saying: “It is very hard for the rich to enter the kingdom of heaven”)

          Reply
        2. Samuel Conner

          USG is not compelled by necessity to swap T-Notes for Fed reserves in order to fund appropriations. It once was (during the period prior to ~ 1973 when US left the gold standard) and the current practices were adopted (through laws passed by Congress) during that era.

          So the quick answer is “institutional practice and long-standing law”, neither of which are relevant or necessary at the present time.

          MMT theorists reckon that there could be a public-policy interest in continuing to issue interest-bearing T-Notes for the purpose of providing reliable interest income to people and entities that need the ability to invest in low-risk income-earning assets (such as retirees and insurance companies). But there is no necessity to issue T-Notes to fund appropriations. The Federal Reserve Bank could credit Treasury with reserves by creating them out of nothing; the Fed has no solvency constraint.

          (Another reason to continue to issue some level of T-Notes would be to preserve the ability of the Fed to control interest rates across the yield curve. However, monetary policy is a weak tool of economic stabilization; fiscal policy is much more effective tool and is also under more direct influence of the public since Congress is at least notionally accountable to the voters)

          Reply
        3. Todde

          The debt creates a demand for you money.

          Anyone can print money, the trick is to get others to accept it.

          If i have to pay a loan back in dollars, I will accept dollars in paymemt

          Reply
        4. TroyMcClure

          One key part of issuing T-bills is that it sets an interest rate floor for banks. Without it they would compete for loans pushing the interest rate down to 0.0%

          Bonds have been so low for so long that major investors have spent the last several years turning to junk bonds as a base of investment. Junk is the new treasury. That’s how cash burners like Tesla, Uber and Netflix keep getting money despite their inability to make a single dollar in profit. They’re floating on an ocean of junk!

          Reply
        5. redleg

          Mark Blyth explains this well in his book about austerity. I’d recommend searching for his lectures about this, as they are simultaneously insightful and funny. His description is something like “so the rich will accept the legitimacy of government”.

          Reply
    2. Samuel Conner

      When your T-Note matures, you get electronic money (not paper bills, though you can exchange it for paper money if you wish) in your bank account, and Treasury obtains that electronic money by issuing another T-Note in exchange for some other non-government person/entity’s electronic money (in principle, the Fed could directly monetize new Notes, but that is frowned on by conventional wisdom; one of the points of the essay is, of course, that the conventional wisdom at this point is actually ignorance).

      That was the point in the essay of the mention of the fact that, almost invariably, maturing T-Notes are “rolled over” into newly issued T-Notes. The rollover takes place not necessarily by re-issuing a new T-Note to the holder of the maturing T-Note, but by swapping a newly issued T-Note for reserves (the electronic money mentioned above) from the purchaser of the new Note. It probably often happens that the holder of the maturing T-Note would like to continue to receive interest, and so deploys the funds he receives at the maturation of his Note by purchasing another Note (probably not directly from Treasury, but in the secondary market).

      Reply
      1. Steve

        It doesn’t matter to me if it is electronic or actual notes–they are fungible. If the funds for payment come from a new issue T-note, then I’m right, this is the same thing as printing money (in electronic form). I have no problem with printing money in this context.
        My complaint is that the post does not say this, making the explanation harder to understand.

        Reply
  9. Bruce Walker

    The only one that got it right is the analogy of Mike Tyson owing. If you got the guns and the muscle you don’t have to pay back.

    Reply
  10. Unfettered Fire

    So now that we’re all on the same page about how government finance actually works, the next logical step would be to remove all the market ideology private bankers from USG and replace them with central planners, like it was before neoliberalism began, yes? Having the Foreclosure King, Steve Mnuchin, as Treasury Secretary is just asking for more fraud, waste, abuse and betrayal of the American people and we can all agree that 40 years of that is enough. Mixed economies, both market and central planning, work best. Now, who would be the best, most reliable central planners? How about the whole UMKC group?!

    Reply
    1. Unfettered Fire

      “The [West’s] first error was to regard capitalism as an ideological good, not as a pragmatic instrument to improve human welfare. Alan Greenspan was probably the greatest victim of this ideological conviction that markets always knew best … As Mr Greenspan … believed that market traders were smarter than government regulation, and he failed to regulate them vigorously … But no Asian society, not even Japan, fell prey to this ideological conviction. Instead, Asians believe that no society can prosper without good governance … For capitalism to work well, governments have to play an essential regulatory and supervisory role.”

      http://business.time.com/2012/03/25/can-asian-style-capitalism-save-the-west/

      Reply
  11. Steve Ruis

    I have to comment that the politicians who do not understand this are being paid to not understand it. They are the politicians who are using the National Debt as a political weapon. Upton Sinclair was right. The debt pols will not accept this understanding as it removes a weapon from their arsenal. Remember the Republican’s strategy is “Starve the Beast” which is to cut taxes to force cuts in spending (of course they never do this themselves, but it is their strategy nonetheless). So, an entire party is committed to not understanding this and, they, if you haven’t noticed are running the government right now.

    Reply
  12. DavideG

    I get what the author is trying to get at, but I think s/he oversimplifies things a bit. I share the view that the US government is not really constrained by its outstanding debt, but there are a few points in the article that I would articulate differently, for example:

    – Treasury notes aren’t another form of dollar, they are dollar-denominated debt securities that are traded in a higly liquid market and can thus be asily exchanged for dollars with very low transaction costs.

    – holders of Treasuries do expect to be paid back. Of course, when a T-note reaches maturity, they might want to renew their position and reinvest the same amount in US debts. In fact, with the USD being the main reserve currency, there’s a lot of demand for dollar-denominated debt (and especially Treasury bonds), so the US governement has no trouble with indefinitely rolling over its debt or issuing new debt.

    – lastly, a bit of a boring remark – since the Federal Reserve can only buy government debt on the open market and can’t monetize directly newly issued debt, money creation is only carried out by primary dealers banks (which will then resell the T-notes or use them as collateral to borrow from the Fed). So technically the money-creating process always takes place within the banking/financial circuit.

    Reply
  13. Peter VE

    This assumes that the US will always be in the current position of having a currency valued by other countries. I inherited a series of Imperial Russian bonds, with the second coupons from 1917 onward still uncashed. When my great grandfather bought them, they were as good as US Treasury bonds….
    The day will come when no one will want US Treasuries except as mementos (and the bonds are not even being printed any more).

    Reply
    1. rd

      Two lessons out of this:

      1. Massive inequality in a system is unstable and the old order can vanish in a heartbeat when the peasants revolt.

      2. Wars without a specific economic purpose are expensive and also frequently cause angry populations. WW I was ruinous to many nations, including Russia. France supporting the fledgling US in the American Revolution led to massive debt that caused the French Revolution a few years later. The colonial wars for economic gain (e.g. Spain occupying Central America, Britain occupying India) can make lots of money for a long time until the peasants revolt and overthrow everything. So the high point of Britain was the early 1900s but WW I and WW II destroyed much of what they had gained economically in the previous 150 years.

      Reply
    1. Blue Pilgrim

      One quibble:
      “print the necessary money. This increases the amount of money in circulation and thus slightly lowers the value of money overall”
      Not necessarily. If the money is used to invest in something productive (better educated or healthier) worker, better roads to transport goods on, new small business loan, etc.) that the amount of goods increases, which will drive the price down. It depends on how the new money is used and invested.

      Reply
  14. California Bob

    Yves, you failed to point out that the ‘national debt’ is only an issue when Democrats are in power.

    Reply
  15. Gary

    Check my thinking, please: Privately held cash is exchanged for a highly liquid piece of paper called a T-bill. No increase or decrease in total money supply occurs. OK, got that. But what if instead of privately held cash, the buyer (loan-maker) simply prints the cash, or a bank creates the cash (as discussed above) and buys the T-bill? Now, money has been created, and if done too much, the money supply becomes inflated and prices will rise in response. If the buyer is also the borrower, then why create a T-bill at all? Just print the cash.

    Reply
    1. Samuel Conner

      It’s not the amount of money in circulation per se that causes prices to rise, but spending in excess of productive capacity. A massive monetary base with very low velocity could actually lead to deflation.

      I agree that it is not in principle necessary to issue T-Notes to recruit reserves from the non-government sector. In principle, the Fed could create them and credit them gratis to the Treasury. In practice, this doesn’t happen because of institutional practices (and I think some laws that require Treasury to issue Notes to fund Federal deficits; there may be laws that forbid the Fed to fund the deficit directly, without even the fig leaf of receiving Treasury Notes).

      Reply
  16. K T

    If this is truly the full reality of the situation (and I’m sure there are many unsaid factors entwined in this), then the Government could simply issue dollars directly by spending them rather than getting them in exchange for Bonds. They are the ones who, supposedly, print money anyway. Why go to the trouble of using bonds instead of doing this? Presumably they are already issuing these bonds out of thin air, why not then issue dollars out of the same thin air? Is it because the government is actually “borrowing” dollars at interest which benefits the banks which “loan” it to the government (thus necessitating the income tax)? Does the government pay that interest also in bonds? Or is that how new dollars enter the economy, that is, they pay the interest on their “debt” with newly printed money? Or do they just issue dollars to banks as needed based on some arrangement? Or is that debt interest paid by tax dollars? There seems to be a great deal hidden from view still that complicates this situation.

    Reply
    1. Yves Smith Post author

      Issuance of bonds is a holdover from when the US was on the gold system. It’s a legal requirement that could be changed, as opposed to “This is how it has to work”.

      Reply
  17. Blue Pilgrim

    I want to argue that banks do not create money (endogenous), because it has to be paid back at some point and then the double entry books are balanced at zero: the ‘money created’ is then destroyed. Maybe we can say the banks created not money, but debt to the future, velocity, or liquidity. This goes along with the problem of the huge private debt overhang, with bubbles popping and recessions or depressions — because that broad private debt does need to be repaid, and this borrowing from the future can’t be expanded and extended indefinitely. (What happened to Ponzi.)

    Reply
    1. Mel

      I don’t see that’s a useful distinction. Say you borrow money to buy, oh, a shed for the back yard. For you that’s debt, but for the people who sold the shed, once the check clears, it’s money in their account, and they’ll use it as such.
      Somebody on Bill Mitchell’s blog gave a very interesting foreign-exchange flavored description, which I have stolen:
      Money lent by a private U.S. bank is that bank’s own fiat. Banking law requires that the bank peg its fiat dollars to the U.S. dollar, so when anyone comes around to the bank to redeem the fiat, the bank has to make good in U.S. dollars, usually from their reserve account. This description seems to be a good fit with operations.

      Reply
      1. Blue Pilgrim

        I’m an anvil salesman, and the people who sold me the shed use the money to buy shovels from the blacksmith, who uses that money to buy an anvil, and I use the money to pay back the bank — it’s like an extended barter system — but at the end of the day all accounts balance out and the money supply is not increased when it does.
        It’s something like AC current which can do work but, always has a net electron count of zero (unlike a battery or capacitor — sort of). Tides go in and out, but the overall ocean level stays the same.

        Why the distinction is important is that it often leads to bubbles of huge private debt and crashes, in a ‘business cycle’, and it’s chaotic. There is no natural equilibrium (and Minsky was right about stability).
        Government debt can be termed ‘private sector money supply’ but not bank debt when it must be repaid. Private debt is called upon to make up for government surplus = private sector deficit (and the interest shifts money towards the rich). Private puts off the little problems solvency until they accumulate into a huge deleveraging crisis, which the private lenders resist writing down, but which the government can do easily (QE, for example).

        Exogenous and endogenous money are two different animals.

        Reply
        1. Mel

          At the end, no. But in the middle, there’s more money around than there used to be. I bought my car on a five-year term, the dealer got paid by the bank right away, so for five years, the supply of circulating money is increased.
          One of the complaints heterodox economists have against neoclassicals is that the neoclassicals ignore this time element, ignore that entire Merger/Acquisition takeovers can be done on the nick.

          Reply
          1. Blue Pilgrim

            Question is, do we want to call it money, or debt, from a macro perspective, and in terms of crashes?
            If we say there is synthetic inflation from bank debts, then the cyclical deflation is not the same as too much high powered money in circulation — and is not easily remedied by taxation because of the private sector overhang. The government can afford getting stiffed but the banks can’t, and the banks emit money to make short term profits without regard for the overall economy and employment as the government is charged with. I think calling it money instead of ‘debt’ or something else leads to misunderstanding the problems with it (which reared up in 2008).
            Trying to fix the crash is like hunting for bear and encountering a tough hided rhinoceros or elephant. QE bypassed the consumers and manufacturers, and encourage financial speculation, and did not lead to much real economy growth, or less private debt creation. Even a helicopter drop will have less effect than expected because people will pay off debts instead of buying stuff.

            So I”ll say buying your car did not result in more money circulating for 5 years, but more debt for that time. Money supply is ‘wider’ but not greater or ‘deeper’. I think the economy is fragile because of so much endogenous money.

            Reply
  18. rd

    My basic rule on spending (or not collecting taxes) leading to an extra dollar of debt is whether or not that extra debt is likely to end up with a long-term money velocity greater than 1.

    Wars lead to a short-term spike but in the long run are generally not a good investment unless they provide or restore major trading partners (e.g. WW II, Marshall Plan, and Europe/Japan). None of the current wars appear to be in this category.

    Prudent infrastructure (not over-expensive pork barrel) generally provides good incomes to middle-class people who spend it immediately and also provide for future economic growth by businesses. I have rarely seen solid infrastructure spending not provide a sound basis to an economy. Eventually the increased economic activity can pay off that debt (often by holding the debt/GDP ratio down instead of direct repayment).

    Once marginal tax rates are lower than 40-50%, tax cuts for the wealthy just lead to increased debt and little economic growth because the tax cut gets saved with a money velocity much less than 1. I suspect the repatriation of offshore profits will also be neutral for GDP because that money appears to largely going to stock buybacks that benefits primarily the wealthy by increasing EPS but not necessarily total earnings.

    Payments like Social Security etc. get circulated immediately into the economy so that money velocity is likely to be much greater than 1. While I think things like SS should get balanced in the long-run (like any good insurance program), temporary support of that would likely yield economic dividends both monetarily and psychologically among consumers.

    Reply
  19. templar555510

    This is really simple. The US government spends and taxes . Tax collected pays for nothing . It gives value to the currency which would be worthless without taxation taxation like it or not. There is no ‘ tax dollars pay for this or the other ‘ . It’s a complete fiction , but a useful one to beat up the plebs, for all those who benefit from the rigged system . The national debt is no more than some people’s savings . This is the reality, but it isn’t about reality ( yet ) it’s about politics and the politicians who’ve been bought. Unless and until that can be changed the reality of money creation and taxation will never become real and potentially benefit the many and not the few.

    Reply
    1. MyLessThanPrimeBeef

      The Nation Debt is not some people’s savings.

      Unless corporations are people or persons…corporations own a big chunk of that National Debt.

      In today’s world, the Little People have very little money saved. So, a bigger National Debt = more money saved by corporations and rich people.

      Reply
  20. Eclair

    I just came back here and speed read all the comments that have been added since this morning and I think I feel like an inhabitant of 16th century Europe, reading Copernicus and trying to get one’s head around the notion that the Earth revolves around the Sun, rather than the other way round. Understanding MMT upsets the notions that one has lived with: the ideologies, the hierarchies, the status quo. Or course, we the people are not nearly so discombobulated as are our rulers who have built their careers and carved out their fortunes by convincing us that sovereign debt DOES matter and because of that debt, we must live miserable gray lives without education, health care or housing.

    Reply
    1. MyLessThanPrimeBeef

      One difference between what Copernicus was describing and what MMT describes.

      The former was a natural world not designed by anyone, except maybe the Creator, one might argue.

      The latter, our present monetary system, was designed by some humans, maybe very rich people, and you can change it if you like (you, meaning the people of the nation).

      Reply
      1. eg

        The similarity is that the keepers of the prevailing orthodoxy will deny the truth because it is in their selfish interest to do so.

        Reply
      2. Eclair

        A better analogy might be the belief in the ‘divine right of kings.’ A bunch of peasants (or, more probably, a bunch of academics and well-off traders) have an epiphany after reading (the printing press has just been invented) about small groups of people who think they can actually rule themselves. And, maybe, they are doing just that. And have not been struck by a lightening bolt from above. The group goes, ‘Whoa, ya mean we don’t need the King (who, along with his Queen and his numerous Royal Castles with their gold-plated privy seats and well-compensated Wipers of the Royal Butt, are demanding more and more tax revenues?’) The King and all his courtiers, of course, keep right on believing in his Divine Right. Until they lose their heads over it.

        Reply
  21. ewmayer

    Alt’s piece alas contains a glaring logical fallacy – let’s follow the little nut as it’s being whisked around between the 3 covering shells:

    Specifically, the government borrows a dollar from the economy, and replaces it with a “Treasury bond or note” which is, in effect, a special form of “dollars” that earn interest. The Treasury bond or note has the same liquidity/tradability in the economy as the regular dollars it has replaced; therefore, the amount of “money” in the private sector doesn’t fall by the amount taken out by the “borrowing” but remains the same as before the “borrowing” occurred.

    So far, so good.

    The surprising result of this transaction is that when the government subsequently spends the “borrowed” dollars back into the economy, there is a net increase in the monetary assets in the private sector equal to the number of dollars “borrowed.” In effect, the Treasury bond auction process creates “new” dollars that previously did not exist—dollars which the U.S. government now has possession of and authorization to spend. And that’s exactly what it does: it spends the new dollars to pay for things that Congress has determined will benefit American society.

    But Alt does not complete the circle – the bond matures, the Treasury pays back the money, and the above-described increase in the monetary assets is extinguished. “Aha!” you say at this juncture. “The missing piece is that the Treasury pays back the original lender with interest.” OK, but where does it get the money to do so? “Why, by issuing new T-notes in the amount of the original, plus the interest”, you reply. But per Alt this requires the government [to borrow dollars from “the economy”, i.e. to tap into the same pool of “money n the economy”, the same “U.S. dollars which already existed in the private sector” as before. (Nor does Alt explain where said dollars originally came from.) After a few cycles of this, the accruing interest would suffice to “drain the pool”. IOW Alt does not actually explain where “new net money” to match a growing economy (or a growing war budget) comes from.

    Reply

Leave a Reply

Your email address will not be published. Required fields are marked *