Modern Money Theory...and a little debate

Some St. Mark's members have expressed interest in this. I'm posting some information about money in general and more specifically why I encourage ECOS & St. Mark's to endorse public banking, including some specifics about what that bank could do. [ECOS is the "Environmental Council of Sacramento]

Note: A specific measure St. Mark's could endorse is now that Sacramento participate in the study of public banking now commissioned by some East Bay cities. I’ll append my letter to our public officials after installment #2. Note also: Just because we get a public bank doesn’t mean it will be sabotage-proof. I doubt sabotage-proof institutions exist.

Why advocate public banking? The way we allocate resources, rewards and punishments is with money. Money often trumps public process, political power and even laws as written. Banks, not votes, or even political influence, decide public policy, plans, and particularly what actually gets built.

If we're to have an enriched, sustainable public realm, the public needs to take charge of at least part of the money currently controlled by private banking, and one way to do that is with public banks. Currently, private profit directs public policy. If the public is to be in charge and empowered, public purpose needs to balance private profit.

By my lights, what’s posted below is critical path information. To keep the information in manageable hunks, here are the topics covered:

1. Money Technology

2. Public Banking

3. A Non-Issue: Inflation

4. The Real Enemy: Austerity

One final note. Most of this is based on the work of some heterodox economists often called Modern Money Theorists. Their advice is not necessarily partisan. Warren Mosler advised Bush 43, and Michael Hudson advised Dennis Kucinich. Unlike the orthodox economists--from “lefty” Krugman to “righty” Mankiw--these heterodox economists predicted the Great Recession. One of them--Steve Keen--won the Revere prize in economics for that prediction. The economics “Nobel” that Krugman got is issued by (private) Swedish banks, not the Nobel committee that issues the Peace prize. Why did orthodox economics miss one of the biggest bank crises in history? Answer: Because orthodox economics omits analysis of lending and banks. That means conventional economics cannot detect bank crises like the subprime/derivatives meltdown in 2007-8.

--Mark Dempsey

#1: Money Technology

“Only puny secrets need protection. Big discoveries are protected by public incredulity.” -  Marshall McCluhan

Although many people treat it like a commodity--a lump of gold, for one example--money is actually (and historically) a measurement, more like the score at the ballgame. It’s a way to keep track of obligations. It evaluates debt; it is an IOU amount and marker.

If, rather than cash, you accept an IOU from a neighbor who is buying your lawn mower at your garage sale, then use the IOU to satisfy a debt with another neighbor, that IOU amounts to a “money thing.” It has both purchased goods and paid off debt. The IOU measures or tracks the obligation(s) throughout the process, and makes the transaction more precise. As economist Hyman Minsky used to say: “Everyone can make money; the problem is getting it accepted.”

Perhaps the most common money technology is checking accounts. When we have such an account it is our asset, but to the bank, it is a liability (an IOU or a debt). When you write a check, you’re assigning a portion of the bank’s liability to the payee. The assets and liabilities are exactly the same item; which one is which depends on one’s perspective (bank or depositor).

This is true for the currency in your wallet, too. Dollars are, in effect, checks made out to “cash” in fixed amounts, drawn on the Federal Reserve (AKA “the Fed,” the United States’ central bank). The Fed carries currency on its books as a liability just as your bank carries your checking account as its liability. Banks also have liabilities for interest-bearing savings accounts and the Fed has an equivalent to such accounts in T-bills and Treasury bonds.

The sum of all dollar financial assets in circulation in the economy therefore equals, to the penny, the national “debt” (a word written in quotes because it is so different from household debt). That statement is not exotic economics; it’s double-entry bookkeeping.

Here’s an illustration of sectoral balances over the years (liabilities are below the line, assets are above):

(This divides the private sector into Domestic and “Capital Account”--i.e. Foreign trade, too)

Clearly assets and liabilities mirror each other. This means, as mentioned above, national “debt” is completely unlike household debt; it’s like bank debt, or household asset.

Even so, the marketing of panic about national “debt” is widespread and well funded. We’re constantly told national “debt” is like household debt. For just one example, Obama compared the federal budget’s deficit to credit card debt.  

But no one ever goes to their bank to demand it shrink the amounts in checking accounts, or to say that the bank’s debt is going to crush their grandchildren, and would the bank please diminish its own liability (i.e. the depositors’ assets in their accounts) by increasing its fees or decreasing the interest paid on savings accounts. That would be crazy.

Nevertheless, Pete Peterson and other billionaires are funding think tanks, “Fix the Debt” speaking tours and the like. Local congressman Ami Bera sponsored a Peterson-funded Concord Coalition “Budget Workshop” to poll participants about the best ways to decrease national “debt”--in other words to decrease the population’s assets we call “savings.”

What happens historically when the population plays the “Fiscal Responsibility™“ con game, and significantly reduces national “debt”? The last time this occurred was the Clinton surplus. The previous time such a reduction occurred was in 1929. Andrew Jackson actually paid the “debt” off in 1835. There are seven such major “debt” paydowns since 1776. What happens 100% of the time is that these fits of “Fiscal Responsibility™“ are followed by Great Depression-sized holes in the economy, the worst of which was the Panic of 1837.

The disastrous economic fallout from reducing the population’s assets makes some sense, too. Creditors don’t say “There are fewer dollars in circulation, so we’ll forgive this month’s mortgage payment.” No, they say “Pay your payment or we’ll take your house.” So diminishing the population’s savings in dollar financial assets crushes debtors, and leads to waves of asset forfeitures and foreclosures. Vulture capitalists like Pete Peterson profit mightily from such events, but most ordinary citizens don’t.

There are two other surprising corollaries to the observation that the money government spends and leaves in the economy (rather than retrieving it in taxes) is the population’s asset, not “debt”:

1. Sovereign currencies (dollar, yen, pound, but not euro) do not provision the governments that issue them. They can’t. Where would taxpayers get the dollars with which to pay taxes if government didn’t spend them out into the economy first? The notion that currency creators must wait for tax revenues to fund programs is really just deflation and austerity promoted in service to vulture capitalists. “Pay as you go” is plausible for households (currency users), but not for governments who are currency creators. It’s practically a logical tautology that you can’t pay taxes until you have the dollars spent by government, but you’ll hear “tax and spend,” rather than the more accurate “spend, then tax” whenever you listen to mainstream pundits.

2. While taxes don’t pay for (federal) government programs, they are necessary, however, to make the money valuable. The promised payoff implied by currency is that it will retire those inevitable future tax obligations. Taxes make the money valuable; they don’t provision the (federal) government.

The Federal government makes the money and does not need yours. If you went to the Treasury building in Washington D.C. and paid your income taxes in cash, after marking your bill “paid,” Treasury would shred the dollars. They don’t need your money, and make as much as they need whenever policy makers ask for it. Witness the aftermath of Lehman’s bankruptcy when, according to its own audit, the Fed pushed $16 - $29 trillion out the door in 2007-8.

No one ever says “Hey, we’re out of money” when it comes to a war or bank bailouts, public officials only say that for social and environmental programs.

For more information:

• See Randall Wray’s piece about the status and history of U.S. Federal “debt” here.
• For a comprehensive look at the clever way Italians are side-stepping their monetary non-sovereignty as part of the European Union, see an account of how they are paying people with tax credits. (Never underestimate an Italian!)
• For even more details, try Warren Mosler’s Seven Deadly Innocent Frauds of Economic Policy, a 35-page pamphlet that’s available free online. 
  
  
  J.E. replies:
• Several assertions here seem to go beyond the evidence, but I'll just note that the Panic of 1837 was not caused by Andrew Jackson paying off all Federal bond debt.
  
  
  The far larger part of the US debt universe then was bonds issued by southern states and backed by mortgages on slaves. Many enslavers borrowed essentially without limit to buy labor for the cotton fields. After too many individual enslavers defaulted on mortgages, the states bought those mortgages on people's lives, bundled them into bonds backed by the full faith and credit of, for example, Mississippi, and sold those "derivatives" to European investors. But the whipping machine stealing lives and the expansion of cotton agriculture into stolen Indian lands (remember the Trail of Tears?) so greatly expanded production of raw cotton that it outstripped global demand. The raw-cotton inventory carried over into 1837 was something like 60% of annual production and the futures-market price for the new crop crashed. Enslavers defaulted on their mortgages to the states, the states defaulted on their bond payments, and the Panic of 1837 was off and running. It was a classic bubble collapse. The southern states couldn't find buyers for any bonds for about 20 years.
  
  
  Federal debt had nothing to do with it. Please don't over-interpret the data. For details at great length, see The Half Has Never Been Told—Slavery And The Making Of American Capitalism, by Edward Baptist. 
  
  
  My reply to J.E.:
  
  
  After a little further thinking, I've come to the conclusion that there's not much daylight between your interpretation of what caused the Panic of 1837--or really, any series of debt defaults like, for example, the sub-prime mortgage debacle--and professor Wray's assertion that the "debt" reduction was at least instrumental in triggering the economic downturn.
  
  Consider the 1837 bubble collapse you cite: Southern planters borrowed to expand their slaveholdings, and with the increased cotton production available because Andy Jackson stole all that Indian land, cotton prices collapsed. The cotton income anticipated to pay off the planters' debt didn't materialize, and lenders were unwilling to "extend-and-pretend" (lend more to cover the payments due). That left the planters with two alternatives: 1. Pay their payments out of savings, or 2. Default on their obligations.
  
  Since Jackson retired national "debt," this also impaired citizens' savings. It's at least reasonable to assume this added fragility to an economy already on the brink and was instrumental in making a bad situation worse, even if it was not a direct cause of the downturn. So the planters were increasingly forced to choose #2, and the bubble collapsed.
  
  Hyman Minsky is the economist who insisted economics explain how Great Depressions happen. He noted conventional "neo-classical" economics (Mankiw to Krugman) assumed economies have a tendency toward equilibrium--an assumption clearly belied by actual, historical events--so that kind of economics was at least limited in the guidance it could provide policy makers. I'll add that no field is more prone to exaggerated claims unsupported by evidence than economics. You can read How Economcis Became a Religion, and see the terrible fallout. The heterodox economists are often punished as heretics, denied access to publications, etc.
  

  
  

  Minsky's hypothesis was that people tend to borrow to take risks, at first prudently, then--after risks taking proves itself profitable because of the borrowing--more boldly. This process of taking more and more risk with borrowed money ends in Ponzi capitalism, when borrowers are borrowing the payments on the obligations they already have. This is a bubble--a house of cards that eventually collapses.
  

  I mention Minsky because Wray was his student. Steve Keen, another heterodox economist, has made an open source economic simulator to model the bubble-and-bust phenomenon. His name for it: "Minsky." There are Youtube videos of Keen demonstrating this complex software, if you're interested.
  
  The problem of ascribing causality to any element in an economy is what modern mathematicians call the "Butterfly Effect." The story is that a butterfly in China flaps its wings, and through a series of subsequent events, triggers a hurricane in the Carribean. Tiny changes to initial conditions can lead to massive swings in complex systems like weather, or the economy. The Minsky software actually models this, and predicts probable outcomes. I'd suggest "debt" paydowns is one of those initial conditions that increases economic fragility and encourages collapse. The Panic of 1837 qualifies as an example, by my lights.

  
  

  Meanwhile, here's from the Methodists' Social Principles:

  
  

  The huge budget deficits produced by years of [government] overspending  [and] wanton carelessness cannot continue. [Governments must] reduce budget deficits and to live within their means. …. if deficits are not brought under control, future generations will be shackled with a burden of public indebtedness

  
  

  Exactly the opposite of true.