Memo to Moody’s: It’s Accounting 101, Not Economics
Monday, 03/15/2010 - 10:33 am by Marshall Auerback | 23 Comments
Marshall Auerback explains why the rating agency needs a lesson in basic accounting — and how its REAL message is anti-private savings.
It took an accountant to take down Al Capone. Perhaps the accountants will be the ones who finally take down the deficit terrorists? They seem to be the only ones who understand that policy makers cannot coherently examine fiscal policy options without analyzing their implications for the financial balances of other sectors. For all of the talk about Greek “rescues”, or the US reducing its “structural fiscal deficits”, few seem to understand that imposing an arbitrary fiscal deficit to GDP ratio (or fixing an exchange at an arbitrary level) reduces the room available to achieve private sector net saving.
Deficit Hysteria Ignores Basic Accounting
Basically, it all comes down to Accounting 101. Those who continue to rail about “fiscal sustainability” or terrorize us with deficit hysteria are demonstrating phobias relating to private savings (if they truly considered the logic of their position).
And this includes our esteemed ratings agencies, which today issued another blast against both the US and UK. According to Moody’s, both countries have moved “substantially” closer to losing their AAA credit ratings and must bring down their debt. Somehow, the countries are supposed to do this without damaging growth, despite the fact that the very expansionary policies which Moody’s now decries have provided a floor under what could have been a collapse in income and employment similar to that of the 1930s.
Well, to paraphrase the famous baseball Hall of Famer, Yogi Berra, we have a sense of “déjà vu all over again”. The same thing happened to Japan in the late 1990s. In November 1998, the day after the Japanese government announced a large-scale fiscal stimulus to its ailing economy, Moody’s Investors Service began the first of a series of downgradings of the Japanese Government’s yen-denominated bonds, by taking the Aaa (triple A) rating away. The next major Moody’s downgrade occurred on September 8, 2000.
Then, in December 2001, Moody’s further downgraded the Japan Governments yen-denominated bond rating to Aa3 from Aa2. On May 31, 2002, Moody’s Investors Service cut Japan’s long-term credit rating by a further two grades to A2, or below that given to Botswana, Chile and Hungary.
Big deal. Japan today still borrows 10 year money at around 1.3%. Fortunately, deficit hysteria doesn’t translate very well in Japanese.
If our ratings agencies (and the vast majority of economists and market commentators) had a basic understanding of accounting, they might stop embarrassing themselves. To be sure, many do get it. Dean Baker, Rob Parenteau, Scott Fullwiler, Randy Wray, and Bill Mitchell, are conspicuous amongst the profession of those who adopt a coherent stock-flow analysis to macroeconomics.
Most, however, are reluctant to embrace this approach. And not just economists: Politicians and the media often argue that the government must balance its books, just like a household. If a household were to continually spend more than its income, it would eventually face insolvency; it is thus claimed that government is in a similar situation. Randy Wray has demolished this line of reasoning.
Neoliberal Nonsense
Part of the problem is ideological. At the most basic level, the combined income of all three sectors of an economy - the domestic private sector (including households and businesses), the government sector, and the foreign sector – must equal its expenditures. Sectors in the economy that are net issuing new financial liabilities are matched by sectors willingly owning new financial assets. This is not only true of the income and expenditure sides of the equation, but also the financing side, which is rarely well integrated into macro analysis. But the neoliberals hate the idea of placing the government sector on par with the private and external sectors. They view it as an unwanted appendage which adversely afflicts the operation of the private sector in a “free market” economy.
Having established this notional balance sheet, there is no reason why any one sector must spend an amount exactly equal to its income. One sector can run a surplus (spend less than its income) so long as another runs a deficit (spends more than its income). Historically, for example, the US private sector has spent less than its income. Another way of expressing this is that the government’s budget deficits have accommodated the private sector’s traditional proclivity to save. When the latter formulation is used, it helps to understand how irrational is the hysteria surrounding government deficits. As paradoxical as it seems, Professor Jan Kregel’s observation holds true here:
The government can intervene to make private vices into public virtue by encouraging prodigality when the private sector desires to be frugal. Government prodigality is the equivalent of supporting public virtue! This is the fiscal policy of a responsible government, responsible to insure that private sector decisions can be achieved rather thwarted by the law of unintended consequences. (”Fiscal Responsibility: What Exactly Does It Mean?” — Draft of remarks prepared by Jan Kregel for the Will Lyons Inaugural Lecture, Franklin and Marshall College, 23rd February, 2010.)
And the corollary applies as well: during the Clinton years the federal government acted in a manner which would have pleased the greatest Victorian scolds amongst us, running the biggest budget surpluses the government has ever run. This was celebrated by virtually every mainstream economist (much as most decry today’s “explosive” deficits), because it meant that the government’s outstanding debt was being reduced. Of course, in reality what these economists were celebrating was history’s greatest private sector debt binge. Naturally, they didn’t see it this way because they failed to understand the accounting implications of these budget surpluses, which meant by identity that the private sector was running a deficit. Households and firms were going ever farther into debt, and they were losing their net wealth of government bonds, which were being liquidated to offset the resultant loss of private sector savings.
With a few brief exceptions, the US federal government has been in debt every year since 1776. And the cumulative stock of debt which eventuated was not a Sword of Damocles hanging over the heads of future generations of taxpayers which in some way constrained their future freedom of action (or else how did the US become the wealthiest economy on the planet?). Rather this stock of debt issuance simply reflected an accounting expression of the aggregate budget deficits that have been run by the government in past years. The “intergenerational theft” line now trotted out with nauseating regularity is completely bogus. As Kregel notes in the remarks cited above, we cannot simply engage Doc Brown to allow Marty McFly to fly “back to the future” to make the required payments on behalf of the prodigal grandparents. On the contrary:
If the debt is incurred today, but it is to be resolved in the future, the future resources to pay off the debt would have to be transmitted back to the present in order for there to be any burden in terms of lost consumption by the future generation! If it cannot be time-transmitted then it stays in the future, unless our grandchildren decide to engage in a gigantic potlatch and burn the resources and declare the debt to be extinguished.
In fact, talk of “trillions of dollars of unfunded liabilities” due to retirements of the baby-boomers is meaningless unless it is compared to the cumulative size of GDP over the same length of time — another instance where our deficit terrorists compare apples with oranges.
Government Budgets and Political Priorities
A government budget, then, does not simply set in stone government expenditures and tax receipts. It is a document that sets out the political and spending priorities of our policy makers to mobilize national resources for broader public purpose. In essence, a budget is a political statement, which reflects priorities and preferences, not the economic equivalent of a straitjacket which, for example, arbitrarily decrees that government spending shall not exceed a certain percentage of GDP. By definition, a budget cannot do this, because all budget surpluses, or deficits, are largely “endogenous”, or non-discretionary. A government can set out its spending plans, and its taxation plans via legislative fiat, but it cannot determine in advance the level of the deficit (or surplus). The macroeconomic linkages which ultimately establish the budget position are largely determined by the interplay between government and non-government spending. The deficit is as much a reflection of this interplay, as a cause.
Which again brings us back to the government’s fiscal spending and the notion of “fiscal sustainability”: In our view, the only truly “fiscally sustainable” policy is one that delivers full employment at or near current price levels. The notion of government offering a Job Guarantee program, is a very compelling fiscal policy option, but one which has generally been eschewed in response to our growing deficit hysteria. Given that “fiscally responsible” governments which continue to cut spending and try to run surpluses risk locking a generation of their youth into a lifetime of disadvantage, job creation programs are required now which will require further stimulus. That is the only responsible course of action. A Job Guarantee program is vastly preferable to more transfer programs to banks and federal agencies to keep households limping along in their current impaired state.
The real key toward a substantial US recovery, then, is not restrained fiscal activism (which will actually make things worse), but some combination of substantially more government spending and/or tax cuts to offset the implosion of private sector demand. Once the government honestly addresses the solvency issue of a government spending and borrowing in its own currency, there is nothing that could in theory prevent the US Government from offering a job to anyone who applies, at a fixed rate of pay, and let the deficit float. This would result in substantially higher rates of employment, by definition, as well as mitigating the need for such legislation as unemployment compensation and a minimum wage (since the Job Guarantee program would, by definition, constitute the minimum wage).
The federal government’s spending is not constrained by revenues or borrowing. This fact is non-controversial, but very poorly understood, as evidenced by the persistent criticism of the government’s fiscal profligacy. The real question that needs to be addressed is: what constitutes “fiscal responsibility” on the part of the government and on the part of economists? We need to proceed boldly, but can only do so by disposing of a number of traditional bogeymen that no longer apply in a post-gold standard world: public debt burdens, national solvency, and “crowding out”. Above all, it is crucial to understand that the global desire for private sector deleveraging is not going to go away and that government must play a role in accommodating this process. Ironically, the more fiscal austerity is being imposed intentionally, often with conditionality requirements along the way that reinforce the fiscal austerity measures in the transition period -as we are now seeing in Greece (and which is unlikely to end in Greece) — the worse will be the very budget deficits now decried by deficit hawks.
The private sector’s ability to spend less than its income depends on another sector to do the opposite. For one sector to run a surplus, another must run a deficit. This is not high Keynesian theory, but a basic accounting identity that seems to have been lost by the vast majority of economists and pundits. In principle, there is no reason why one sector cannot run perpetual deficits, so long as at least one other sector wants to run surpluses. But certainly for the current environment there is nothing, nor should there be anything, which should stop any government from running large deficits so that the private sector can happily build up its savings again, as was the case in the US in the aftermath of World War II.
Roosevelt Institute Braintruster Marshall Auerback is a market analyst and commentator.
Why should Moody’s have any credibility? They blew it when assessing the safety of holding exotic financial instruments based on subprime mortages. http://www.nytimes.com/2008/04/27/magazine/27Credit-t.html
Posted by kevin | March 15th, 2010 at 11:11 am
“The notion of government offering a Job Guarantee program, is a very compelling fiscal policy option”
I agree, but even better might be a wage guarantee program, which by subsidizing wages for workers would allow employers to hire more.
Hey, wait: we’ve got one already! It’s called the Earned Income Tax Credit. (Shades of Milton Friedman’s negative income tax–but with a work requirement.)
It’s really a great program. We should greatly expand it, funded by a tax system that–considering state, local, federal combined–is actually progressive above $60K/year.
Posted by Steve Roth | March 15th, 2010 at 12:21 pm
A jobs program would result in a bureaucratic determination of what jobs are best suited to be filled and what wages are reasonable for those jobs. Ultimately this would lead to excessive missallocation of resources.
Marshall Auerback makes the dubious statement that the fiscal stimulus has prevented a repeat of the 1930s style depression. This claim can be neither proven or refuted but is interesting to find in an article entitled “Memo to Moody’s: It’s Accounting 101, Not Economics”.
To deny that there is a level of deficit spending that detrimental to a Country is a reckless analysis.
As a side note, I enjoyed the irony of the term “Government prodigality” in this article.
Posted by Alex | March 15th, 2010 at 12:28 pm
Alex,
Tthere’s no necessary requirement for bureaucracy in the JG aside from cutting checks and approving applications by local non-profits for funding to hire at the JG wage–you could have a big bureaucracy or a small one with JG, as the makeup of the program doesn’t have to be any particular way as long as you hire everyone willing and able to work.
On your 2nd point, actually, I can demonstrate the validity of the analysis. Consider what happened in 2008 post the Lehman bankruptcy. The US economy hds dipped into a mild version of Fisher’s debt deflation process as nominal GDP fell, wage and salary income flows collapsed, the CPI and other inflation measures dropped into deflation, and private debt delinquencies and defaults were rapidly spreading. Following the shocks to tangible and financial asset prices, credit availability, and the labor market, the US private sector swung from a 4.5% of GDP deficit spending position three and a half years ago to a 4% net saving position as of Q1 2009. This exceeds the 8% of GDP swing in the private sector financial balance witnessed as the tail end of the 1973-5 recession – it is an enormous adjustment, to put it mildly. In fact, we haven’t seen anything of the sort since the 1930s.
Had the current account deficit (which, remember, is the trade balance plus net income flows related to asset holdings, equals foreign net saving) not shrunk from 6% to 2% of GDP over the same period, while the combined government fiscal deficit increased from 1.5% to 6% of GDP, then the attempt by the private sector to complete such a dramatic swing in its financial balance position would have ended in a very sharp and severe debt deflation, not too dissimilar in fact to what occurred in the 1930s. Again, that’s an irrefutable accounting theory, not High Keynesianism.
On the level of deficit spending, I have NEVER said that there is no level which is not detrimental to a country. Your reading habits are more reckless than my analysis. The constraint, as I’ve repeated ad nauseum, is an inflation or resource constraint, not an absurd gold standard concept linked to national solvency. When we get closer to full employment, you can reduce government spending and, additionally, the automatic stabilisers going into reverse (via higher tax revenues and lower social welfare expenditures) will take care of much of the deficit.
You claim that government budget deficits are unsustainable, that government must eventually pay back all that debt. How, then, has the US government has managed to avoid retiring debt since 1837—is 173 years long enough to establish a “sustainable” pattern? Perhaps we might can go on another 173 years or so without the government going “bankrupt” even though it will run deficits in most years.
Posted by Marshall Auerback | March 15th, 2010 at 2:19 pm
Marshall,
According to latest Treasury Statements, Fiscal Year over Year, the Treasury has paid out about 2.6B more this FY versus the same point last fiscal year (approx 83.7B v 81.2B). This is all with probably about an additional 1T issued. With a near zero interest rate policy, this looks very manageable even with several more $T issued. I wonder if the Ratings Agencies look at it this way….Resp,
Posted by Matt Franko | March 15th, 2010 at 5:40 pm
Here you go again with your constant theme
“manage currency = no fiscal constaints because the issuing gov’t controlls all the chips in the casino, private, public, whatever…. they always sum to 0 so a displacement in one appears in the other blah, blah, blah, so since we can do whatever we want, and the people can’t decide for themselves, I THINK we should….”
you must not be getting sick of folks not getting your message, because you keep repeating the same thing on every subject.
as i’ve mentioned before, your big misjudgement is the assumption that PEOPLE WANT FOLKS LIKE YOU RUNNING THEIR LIVES. THEY DON’T. Isn’t it clear?
you say it very nicely above:
“A government budget, then, does not simply set in stone government expenditures and tax receipts. It is a document that sets out the political and spending priorities of our policy makers to mobilize national resources for broader public purpose. In essence, a budget is a political statement, which reflects priorities and preferences, not the economic equivalent of a straitjacket….”
maybe you should consider the systemic effects of trying to tell everyone what to do by engineering the economy. as you well know the achilles heel of a managed currency (fiat) system is that one day the people might not use the paper anymore. then what? you are certainly right about all the technical arguments, but if the people don’t like the system/currency it doesn’t matter. it would be rash to underestimate this effect. if you don’t see this, you’ve been in the investment business pushing IOUs around too long
you are misinterpreting the meaning of these discussions; they are not technocratic, they are based on a philosphical disconnect between the folks in control and the masses.
What the discussion is telling us is that the people are forming an unwillingness to continue down a path that is being dictated to them by the current “political and spending priorities of our policy makers to mobilize national resources for broader public purpose.” You may need to deal with tje fact that prescriptions like yours are not what the people want. Only time will tell.
Novel concepts for world-improver types, i guess
Posted by Reality | March 15th, 2010 at 7:48 pm
“you well know the achilles heel of a managed currency (fiat) system is that one day the people might not use the paper anymore”–sounds like more Austrian School gibberish. The reason that people like Marshall keep repeating themselves is that wealthy elites are attempting to CONTROL US. Most Libertarians are blind to the fact that the greatest threat to freedom comes from wealthy elites.
Posted by kevin | March 15th, 2010 at 8:14 pm
Marshall, another post brilliant in its simplicity. Keep up the good work.
The tenacity of the current memeplex runs deep in the contemporary mindset owing to all the media programming, and so people need to hear the message again and again from a variety of angles.
The false household-government budget comparison is endemic, and as you point out in this post, the sectoral accounting is basic. This isn’t rocket science. It’s surprising that a lot of people just can’t seem to get these concepts and persist in demanding a policy course that will result in exactly the opposite of what they expect. And this is demonstrable on the basis of the sectoral accounting.
Posted by Tom Hickey | March 16th, 2010 at 12:15 am
Reality -
I am pretty sure, having known the man for over a decade, that the author is not interested in the least in having either sociopathic Wall Street looters or their predatory sock puppet political friends run your life. In fact, if anything, he bristles at authority and tends to take the maverick’s path.
Iif you did read the piece, your might realize the author is indicating ways that might allow you and the rest of the private sector to achieve net saving objectives without perpetrating the next Great Depression. Some might consider that a good thing.
Yes, the over 6 million people who have been unemployed for over 6 months have an extraordinary freedom of choice now, don’t they? They can chose to eat the package of ramen for their day’s ration or pay their utility bill by running their savings account down to, eventually, nothing.
If you’ve got a better solution, and its even remotely plausible, lay your cards on the table. Otherwise, you are living in a libertarian fantasy world, Reality. Wake up before it is too late. You are being used by financial elites and megacorporations that want to be free to choose your future for you by getting you to mouth libertarian nostrums.
Posted by MacroStrategy Edge | March 16th, 2010 at 12:39 am
There’s an excellent post on Moody’s today by Bill Mitchell, which I didn’t actually read until this evening:
http://bilbo.economicoutlook.net/blog/?p=8734&utm_source=feedburner&utm_medium=email&utm_campaign=Feed%3A+economicoutlook%2FFYvo+%28billy+blog%29
Bill has actually tackled the Japanese debt issue before ( see here: http://bilbo.economicoutlook.net/blog/?p=1731), and has written extensively on the Job Guarantee program:
http://bilbo.economicoutlook.net/blog/?p=1541
Posted by Marshall Auerback | March 16th, 2010 at 1:03 am
Reality
So what are people going to do if they dont “like” the currency?
How many people have to “not like” the currency before it matters?
What are their options? Gold?
How do you know how much gold is “worth”?
Posted by Greg | March 16th, 2010 at 7:14 am
A fiat currency system is where the volume of currency issued is dictated by the deficit-financing requirements of the issuing government.
A managed currency system is one where the volume of currency in circulation is impersonally determined by the total effective demands of the public or the amount which meets most closely the needs of trade.
We have a manged currency system, not a fiat one.
What is proposed is a fiat system. You can’t disguise the put & take. And these proponets don’t consider the consequences. The linkages become leakages.
Posted by Spencer Hall | March 16th, 2010 at 10:39 am
Dear Marshall,
There are contradictions we must address.
1. Although there are states that have sovereign authority with their nonconvertible currency monetary systems and flexible exchange rates, they act with volition as revenue constrained public spending agencies. Other States like in a Federal system and in an EMU arrangement are constrained because they do not have currency sovereign authority. Thus the “reality” we must analyze is not an ideal world as MMT presents but as a situation where agencies behave as if they are voluntary and involuntary constrained. This has nothing to do with stock-flow sectoral accounting consistency which still applies as correctly MMT theorists propose.
2. Voluntary/involuntary agency cases of revenue constrain by the conditionality of fiscal sustainability, behave by using non automatic measures(public investment,payroll bill, certain social programs) to impose austerity and reduce spending, reacting to a real or imaginary leverage capacity. This can lead to a deflation spiral as the budget stabilizers raise the deficit prompting the authorities to cut discretionaty spending even more.
3. The role of rating agencies and speculative funds come into play in these cases. Their mission is to calculate this “leverage capacity” even before the state authorities “realize” and believe it. They impose their views with market plays that short public debt, raising interest spread cost prompting the public agency to react with austerity measures and spending cuts, conditional on the opinions of the rating companies and the speculative funds.
4. These are real situations conditioned and supported further by conservative politicians and the media that have an impression effect upon the austerity discretionary policies. For example, the conditional discretionary fiscal policy can be a victim f a) a partial/negative impression effect, and b) an entropy of illusion regarding its posture. This can be explained as follows.
1. When the message from a fiscal stimulus is partially disclosed (the information of its effectiveness takes time), the impression effect that it produces can be either incomplete or negative, constraining the positive economic reaction and lead to adverse situationa such as rising interest rates. In this case, the fiscal policy multiplier can be measured to be less than if full disclosure was made.
2. During the impression process, communication and retrieval forces of information get entangled by the complexity of the situation. Impression is twisted by an illusion entropy so information relesed regarding the fiscal policy and its effects is delayed and disrupted. Conservative politicians and speculators find a window opening to exploit, attacking fiscal policy in the media and in the markets respectively. All this leads to fiscal policy discouraged with an operational shortfall and rationed with behavioral exclusion, a “capture” of public spending/finance projects.
These fiscal drag scenarios are real and they result in a lower GDP that the endogenous budget deficit cannot avoid.Then, conservative economists come and measure the data and declare that fiscal policy does not matter!! These contradictions in a dialectical sense should be included, if thet are not, in MMT analysis.
Posted by Panayotis | March 16th, 2010 at 12:23 pm
Marshall,
Much of what you say is difficult to disagree with. Private savings must equal public dis-saving in the absence of an external deficit. But using the same logic, why does the government have to do anything? It seems there are two paths to the same outcome: the government can let private savings happen, garner less in taxes, and run an off-setting deficit. Or, the government can announce that it will “stimulate” (collect less in taxes), and achieve the same deficit. Somehow, it seems, the latter should produce a higher rate of employment than the former. How? Am I missing some implied incentive effect? Is there a multiplier to planned fiscal deficits vs. unplanned ones? Is there some kind of “stimulus” expectation-setting that results in a quicker recovery in private savings (this would be the Keynesian view)? I’m sure you have answers to these questions, its just that the pure accounting identity approach doesn’t, in my view, provide those answers.
Related to the above, I would say the overall issue you face is explaining how an over-levered economy reaches full employment. By “over-levered”, I mean an economy where the expectation is that, on an aggregate basis, the stream of income produced is insufficient to service debt. One can ignore this consideration by stating that the stock of debt equals the stock of invested savings, such that one’s expense is another’s income. But we know, and you acknowledge, that debt matters, so how does it matter? Why? At what level? Does public or total debt relative to GDP affect investment levels, the NAIRU, growth, and debt servicing capability? Does it therefore impact inflation expectations? Why do you think we are far from those levels on public debt to gdp, and does that imply that private debt to gdp is irrelevant?
I think there is a set of economics thinkers that tends to hold that “debt is irrelevant” almost by necessity: relaxing that premise takes them down a slippery slope of weakening their thesis. A strong thesis is one that can state, “debt is relevant”, but also, “at projected levels it does not influence the equilibrium I describe.”
Posted by David Pearson | March 16th, 2010 at 12:40 pm
Panayotis,
Yes, we have to consider the political self-imposed constraints, but I guess my point is that if we can expose them for the frauds that they are, perhaps we can mobilise sufficient political support to change or eliminate them.
David, I don’t think debt is irrelevant. Nor do I think governments can spend without limit, even though the constraint is very different from private debt. There is clearly a discretionary component that has to be exercised when required but the deficit will fall when private spending recovers. Any serious MMT proponent acknowledges that. BUT trying to engineer a reduction in the deficit via austerity programs (or freezes or whatever else you might like to call them) at a time when private spending is still not sufficient to maintain adequate real GDP growth is a recipe for disaster. IT WILL INCREASE THE DEFICIT, which is presumably precisely one of the “imbalances” you want to mitigate.
Now the government could well do nothing and eventually the automatic stabilisers will kick in and prevent us from going into a Depression, but we’ll simply have the economy bumping along the bottom for several years, a la Japan. I don’t think we want that. I don’t think we have the political tolerance to withstand 2 decades of economic stagnation.
It is highly likely that if the Libertaustrians got their way, then the budget deficit would increase even further as the economy fell further into recession and tax revenue collapsed even more than it has. Or we could spent/cut taxes more rapidly, and bring employment up quicker, get the output gap reduced and likely reduce the deficit at the same time, via the automatic stabilisers going into reverse.
The problem with the conservatives and so-called progressives who talk about the budget position as if it is a standalone entity is that they ignore the macroeconomic linkages which ensure the budget balance is endogenous.
I think what Bill Mitchell says here is invaluable: “At all times, the government should ensure that is net spending (independent of the cyclical components driven by the automatic stabilisers) should be sufficient to ensure full employment and sustainable real GDP growth. Nothing more nor less than that is the only viable and responsible behaviour of a government committed to pursuing public purpose.”
Posted by Marshall Auerback | March 16th, 2010 at 5:17 pm
Dear Marshall,
We should not replace reality with our wishfull thinking. Only a crisis can make such a transition or revolution. A transition like the New Deal or Keynes ideas are the children of the Great Depression.In the meantime we must see and analyse reality as it is, a non-montonic reaction to recurrence conditioned by surprises whose impact is subject to complexity induced excessive and exclusive behaviorand operational shortfall. These are highly unstable conditions that build in stabilizers, norms and discretionary policy control only partially!
Posted by Panayotis | March 16th, 2010 at 6:46 pm
“The completeness of the (neoclassical) victory is something of a curiosity and a mystery. It must have been due to a complex of suitabilities in the doctrine to the environment into which it was projected. That it reached conclusions quite different from what the ordinary uninstructed person would expect, added, I suppose, to its intellectual prestige. That its teaching, translated into practice, was austere and often unpalatable, lent it virtue. That it was adapted to carry a vast and consistent logical superstructure, gave it beauty. That it could explain much social injustice and apparent cruelty as an inevitable incident in the scheme of progress, and the attempt to change such things as likely on the whole to do more harm than good, commended it to authority. That it afforded a measure of justification to the free activities of the individual capitalists, attracted to it the support of the dominant social force behind authority.”
J. M. Keynes
It is the humanity of imagining a tool to save the “contemptable” masses from suffering for their poverty that most offends the money obsessed. To imagine that you deserve your good fortune one must be convinced that others don’t. To appreciate good luck is to look for ways to share it.
Posted by john | March 16th, 2010 at 8:55 pm
Marshall,
I agree that austerity can increase a deficit. This is Greece and Spain’s problem.
Where we disagree is that fiscal net spending could necessarily, “ensure full employment and sustainable real GDP growth.” The scenario which troubles me is one in which the government repeatedly tries to drive the economy to full employment but fails to reach it. In this scenario, it will forever be true that, “trying to engineer a reduction in the deficit via austerity programs…at a time when private spending is still not sufficient to maintain adequate real GDP growth is a recipe for disaster.” This unarguable fact would create a “one way street” for future deficits, one in which they can only grow and never shrink as long as full employment is not reached. Bond markets are not friendly to such “one-way” structural deficits.
Government spending is not guilty of some “original sin”. These are systems that drive towards certain equilibria and should be viewed dispassionately. My problem with the MMT approach is that it assumes full employment is reachable through government actions. Its not that I hate government, its just that I think there are other drivers (leverage, asset prices) that may prevent the government from hitting its goal. What is the solution in this case? A controlled deflation of asset prices combined with deficit spending to cushion the blow, not to the middle class, who must suffer a loss in their standard of living, but to the poor, who cannot suffer that loss without destitution.
Posted by David Pearson | March 17th, 2010 at 12:02 am
David,
Depends on how they do it. A bad deficit is what happens when the automatic stabilisers drive the budget into deficit because unemployment is rising and tax revenue is falling as private demand falters. Then we have very little to show for the deficit position. A good deficit is when the government uses discretionary fiscal policy to ensure that demand is sufficient to support high levels of employment and private saving. They spent on first-class education and health care and other infrastructure which supports private social and economic activity.
So in that sense, the trend to fiscal austerity over the last 20 years (although not always practised as carefully as the rhetoric would suggest) has starved economies of high quality public infrastructure and undermined private employment.
But I agree that using fiscal resources to bail out insolvent financial institutions does complicate the task, which is why I proposed the Government Job Guarantee Program. We who preach MMT have to be honest and acknowledge that sock puppet politicians do have this proclivity and we recognize their proclivity toward wasteful spending and given goodies to their campaign contributors. I would therefore argue IF YOU WANT TO TAKE THIS POWER BACK AWAY FROM THEM you must support an Job Guarantee like mechanism that automatically adjusts to insure the private sector can actually realize its desired net nominal savings position…in other words, our proposal frees the system from political parasites while increasing the freedom of the private sector to achieve its goals.
Posted by Marshall Auerback | March 17th, 2010 at 8:14 am
Marshall,
FDR’s job-creation policies were the best part of his recovery plan. I think some kind of automatic stabilizer, targeted towards low-paying jobs, would bring us closer to an effective solution in the future.
However, the more interesting question is what to do now, and its one that I don’t have an answer for. We have a situation in which asset prices are artificially being held up to prevent de-levering, and this could result in chronically low investment for years. Banking system policy is in the hands of lobbyists, and again, this is not likely to change under any visible political regime. Moving towards austerity, as you say, could result in disaster. So it seems to me a system driven towards structural deficits, chronically low investment, and less than full employment.
The answer is? Run higher, monetized deficits on the back of job creation policies that attempt to achieve full employment? The question is, how big would those deficits have to be? How many jobs need to be created? Its tempting to answer those questions with a “hockey stick” forecast of private job creation: this is Standard Operating Procedure for deficit forecasts. But what if the private economy does not cooperate? Then the problem is, one cannot move away from high deficits — adopt austerity — without tanking the economy. This dependency on government net spending is one which, again, bond markets are relatively sensitive to.
I think what I’m trying to say is, doesn’t every deficit spending solution ultimately assume that private spending will, sooner rather than later, “kick in”? What I would like to see is “Plan B”, where it doesn’t.
Posted by David Pearson | March 17th, 2010 at 11:18 am
I am reading this thinking “Am I high or is the author high, because someone is most definitely high!”
I am stupified, slack jawed, mouth agape at the never before seen levels of cognative dissonance presented here. I am by no means an economic expert yet I can spot the horrendous gaps in logic and information. The author seems dedicted to priting money by any means neccesary to preserve the public sector. I am impresed with the disregard for logic and pure shilling for money printing.
Take this for instance:
Big deal. Japan today still borrows 10 year money at around 1.3%. Fortunately, deficit hysteria doesn’t translate very well in Japanese.”
And from whom does the Japanese government borrow? It borrows from the people. And the high savings, government bond buying Japanese seem to have an unquenchable appetite for their own debt. Is this true for America? You could at least mention the composition of Japan’s debt if you are going to use it as an example…
“In fact, talk of “trillions of dollars of unfunded liabilities” due to retirements of the baby-boomers is meaningless unless it is compared to the cumulative size of GDP over the same length of time — another instance where our deficit terrorists compare apples with oranges.”
What? Meaningless? Social Security is cashing in Treasury IOUs. IOUs that are funded by debt sales. How is the Treasury or the soundness of the dollar supposed to deal with demand destruction? The Fed? Can the Fed buy our debt forever? Do you think exporters will just sit back and take devalued dollars forever? You would have to assume that to beleive that “compared to cumulative GDP” means a thing to our creditors. Maybe that is what America should say to countries we import from. “What you want more dollars? Hey look at our cumulative GDP over time!”
“We are spending more money than we have ever spent before, and it does not work. After eight years, we have just as much unemployment as when we started and an enormous debt to boot”
Treasury Secretary, Henry Morgenthau, May, 1939
Posted by theworldisnotenough | March 17th, 2010 at 5:03 pm
Actually “theworldisnotenough”, Japan doesn’t borrow from it’s people. It seems odd but the government actually borrows from itself. It issues the debt AFTER spending, in effect offering a savings alternative to its citizens instead of cash. The liabilities that a sovereign government such as Japan have are not at all like the liabilities that a private company or a household carries. The latter have to service their liabilities by sacrificing consumption (or investment) because they are revenue constrained.
The former, as Bill Mitchell has noted on several occasions, the sovereign government is not revenue constrained and so we have to conceptualise their “liabilities” differently. Yes they have to repay the debt they issue and service it along the way (according to whatever arrangements are in place in that regard). But that does not compromise their capacity to spend elsewhere except where the economy is at full capacity. And even then the government can just reduce private purchasing capacity (via taxation) if the interest servicing payments plus its desired primary net spending would push nominal demand beyond the real capacity of the economy to absorb it via real output increases for a given level of private spending.
Read this if you really want to understand: http://bilbo.economicoutlook.net/blog/?p=8761
Interesting that you quoted Morgenthau at the end. In 1936, Morgenthau warned FDR that his spending was going to bankrupt the country. FDR duly submitted a balanced budget in 1937 and the economy quickly relapsed into a severe recession because of the resultant withdrawal of government stimulus. Morgenthau clearly didn’t learn anything if the quote you cite in 1939 was accurate. Unemployment was already coming down rapidly and, of course, the US was basically a full employment economy through WWII. During WWII the government’s deficit (which reached 25% of GDP) raised the publicly held debt ratio above 100%– much higher than the ratio expected to be achieved by 2015 (just under 73%). Further, in spite of the warnings issued in the Reinhart and Rogoff book, US growth in the postwar period was robust—it was the golden age of US economic growth, as Randy Wray and Yeva Nerisisya have noted. Further, the debt ratio came down rather rapidly—mostly not due to budget surpluses and debt retirement but rather due to rapid growth that raised the denominator of the debt ratio. By contrast, slower economic growth post 1973, accompanied by budget deficits, led to slow growth of the debt ratio until the Clinton boom (that saw growth return nearly to golden age rates) and budget surpluses lowered the ratio.
Posted by Marshall Auerback | March 17th, 2010 at 9:02 pm
Marshall, great stuff. I’ve watched some of the videos of interviews you’ve been doing and you are great. I think you are the most talented MMT’ er when it comes to media appearances and quick sound bites. The movement needs that because it is very difficult to get this message across without sounding crazy and the public’s attention span is short.
Posted by bubbleRefuge | March 18th, 2010 at 10:19 am