The Political Genius of Supply-Side Economics

Where am I wrong, if at all?

I agree with the political analysis.

I know Bruce Bartlett and he’ll be the first to tell you he does NOT understand monetary operations. Even simple statements like ‘China keeps its dollars in its reserve account at the Fed’ seem to cause him to glass over. He can only repeat headline rhetoric and has no interest in drilling down through it.

Krugman’s column a week ago, however, may have been a major breakthrough. He conceded the issue of long term deficits was inflation and not solvency. And while his maths and graphs disqualified him from participating in the inflation debate, it so far seems to have shifted the deficit dove position to much firmer ground.

A Congressman might vote to cut Social Security due to fear of Federal insolvency, with all ‘noted’ economists arguing only how far down the road it may be, along with dependence on foreign creditors.

However, I doubt most Congressman would vote to cut Social Security based on some economists predicting possible inflation in 20 years.

So even though Krugman’s reasoning was simply ‘they can always print the money’ followed by highly suspect graphs and statements about how someday that could cause hyper inflation, hopefully it did shift the discussion from solvency to inflation, where it belongs.

So now the hawk/dove question is, as it should be, whether long term deficits imply long term run away inflation. And while the correct answer is: depends on the offsetting demand leakages/unspent income like pension contributions and other nominal savings desires. Just the fact that the debate shifts away from solvency should be enough for a change of global political attitude.

And, if so, this opens the door to a new era of prosperity as yet unimagined.

The political genius of supply-side economics

By Martin Wolf

July 25 (FT) – The future of fiscal policy was intensely debated in the FT last week. In this Exchange, I want to examine what is going on in the US and, in particular, what is going on inside the Republican party. This matters for the US and, because the US remains the world’s most important economy, it also matters greatly for the world.

My reading of contemporary Republican thinking is that there is no chance of any attempt to arrest adverse long-term fiscal trends should they return to power. Moreover, since the Republicans have no interest in doing anything sensible, the Democrats will gain nothing from trying to do much either. That is the lesson Democrats have to draw from the Clinton era’s successful frugality, which merely gave George W. Bush the opportunity to make massive (irresponsible and unsustainable) tax cuts. In practice, then, nothing will be done.

Indeed, nothing may be done even if a genuine fiscal crisis were to emerge. According to my friend, Bruce Bartlett, a highly informed, if jaundiced, observer, some “conservatives” (in truth, extreme radicals) think a federal default would be an effective way to bring public spending they detest under control. It should be noted, in passing, that a federal default would surely create the biggest financial crisis in world economic history.

To understand modern Republican thinking on fiscal policy, we need to go back to perhaps the most politically brilliant (albeit economically unconvincing) idea in the history of fiscal policy: “supply-side economics”. Supply-side economics liberated conservatives from any need to insist on fiscal rectitude and balanced budgets. Supply-side economics said that one could cut taxes and balance budgets, because incentive effects would generate new activity and so higher revenue.

The political genius of this idea is evident. Supply-side economics transformed Republicans from a minority party into a majority party. It allowed them to promise lower taxes, lower deficits and, in effect, unchanged spending. Why should people not like this combination? Who does not like a free lunch?

How did supply-side economics bring these benefits? First, it allowed conservatives to ignore deficits. They could argue that, whatever the impact of the tax cuts in the short run, they would bring the budget back into balance, in the longer run. Second, the theory gave an economic justification – the argument from incentives – for lowering taxes on politically important supporters. Finally, if deficits did not, in fact, disappear, conservatives could fall back on the “starve the beast” theory: deficits would create a fiscal crisis that would force the government to cut spending and even destroy the hated welfare state.

In this way, the Republicans were transformed from a balanced-budget party to a tax-cutting party. This innovative stance proved highly politically effective, consistently putting the Democrats at a political disadvantage. It also made the Republicans de facto Keynesians in a de facto Keynesian nation. Whatever the rhetoric, I have long considered the US the advanced world’s most Keynesian nation – the one in which government (including the Federal Reserve) is most expected to generate healthy demand at all times, largely because jobs are, in the US, the only safety net for those of working age.

True, the theory that cuts would pay for themselves has proved altogether wrong. That this might well be the case was evident: cutting tax rates from, say, 30 per cent to zero would unambiguously reduce revenue to zero. This is not to argue there were no incentive effects. But they were not large enough to offset the fiscal impact of the cuts (see, on this, Wikipedia and a nice chart from Paul Krugman).

Indeed, Greg Mankiw, no less, chairman of the Council of Economic Advisers under George W. Bush, has responded to the view that broad-based tax cuts would pay for themselves, as follows: “I did not find such a claim credible, based on the available evidence. I never have, and I still don’t.” Indeed, he has referred to those who believe this as “charlatans and cranks”. Those are his words, not mine, though I agree. They apply, in force, to contemporary Republicans, alas,

Since the fiscal theory of supply-side economics did not work, the tax-cutting eras of Ronald Reagan and George H. Bush and again of George W. Bush saw very substantial rises in ratios of federal debt to gross domestic product. Under Reagan and the first Bush, the ratio of public debt to GDP went from 33 per cent to 64 per cent. It fell to 57 per cent under Bill Clinton. It then rose to 69 per cent under the second George Bush. Equally, tax cuts in the era of George W. Bush, wars and the economic crisis account for almost all the dire fiscal outlook for the next ten years (see the Center on Budget and Policy Priorities).

Today’s extremely high deficits are also an inheritance from Bush-era tax-and-spending policies and the financial crisis, also, of course, inherited by the present administration. Thus, according to the International Monetary Fund, the impact of discretionary stimulus on the US fiscal deficit amounts to a cumulative total of 4.7 per cent of GDP in 2009 and 2010, while the cumulative deficit over these years is forecast at 23.5 per cent of GDP. In any case, the stimulus was certainly too small, not too large.

The evidence shows, then, that contemporary conservatives (unlike those of old) simply do not think deficits matter, as former vice-president Richard Cheney isreported to have told former treasury secretary Paul O’Neill. But this is not because the supply-side theory of self-financing tax cuts, on which Reagan era tax cuts were justified, has worked, but despite the fact it has not. The faith has outlived its economic (though not its political) rationale.

So, when Republicans assail the deficits under President Obama, are they to be taken seriously? Yes and no. Yes, they are politically interested in blaming Mr Obama for deficits, since all is viewed fair in love and partisan politics. And yes, they are, indeed, rhetorically opposed to deficits created by extra spending (although that did not prevent them from enacting the unfunded prescription drug benefit, under President Bush). But no, it is not deficits themselves that worry Republicans, but rather how they are caused: deficits caused by tax cuts are fine; but spending increases brought in by Democrats are diabolical, unless on the military.

Indeed, this is precisely what John Kyl (Arizona), a senior Republican senator,has just said:

“[Y]ou should never raise taxes in order to cut taxes. Surely Congress has the authority, and it would be right to — if we decide we want to cut taxes to spur the economy, not to have to raise taxes in order to offset those costs. You do need to offset the cost of increased spending, and that’s what Republicans object to. But you should never have to offset the cost of a deliberate decision to reduce tax rates on Americans”

What conclusions should outsiders draw about the likely future of US fiscal policy?

First, if Republicans win the mid-terms in November, as seems likely, they are surely going to come up with huge tax cut proposals (probably well beyond extending the already unaffordable Bush-era tax cuts).

Second, the White House will probably veto these cuts, making itself even more politically unpopular.

Third, some additional fiscal stimulus is, in fact, what the US needs, in the short term, even though across-the-board tax cuts are an extremely inefficient way of providing it.

Fourth, the Republican proposals would not, alas, be short term, but dangerously long term, in their impact.

Finally, with one party indifferent to deficits, provided they are brought about by tax cuts, and the other party relatively fiscally responsible (well, everything is relative, after all), but opposed to spending cuts on core programmes, US fiscal policy is paralysed. I may think the policies of the UK government dangerously austere, but at least it can act.

This is extraordinarily dangerous. The danger does not arise from the fiscal deficits of today, but the attitudes to fiscal policy, over the long run, of one of the two main parties. Those radical conservatives (a small minority, I hope) who want to destroy the credit of the US federal government may succeed. If so, that would be the end of the US era of global dominance. The destruction of fiscal credibility could be the outcome of the policies of the party that considers itself the most patriotic.

In sum, a great deal of trouble lies ahead, for the US and the world.

Where am I wrong, if at all?

This entry was posted in Deficit, Financial Times, Government Spending and tagged , , . Bookmark the permalink.

471 Responses to The Political Genius of Supply-Side Economics

  1. beowulf says:

    Warren, can’t disagree with you about FICA’s regressivity and there’s never a good reason to run a budget surplus (especially when we’re also running a trade deficit).

    I’d just suggest that there’s no way for Congress to fine tune the economy by fiscal adjustment on an ad hoc basis; and politically, Congress would be far more willing to go to an automatic fiscal adjustment system than to delegate discretionary authority to the President.

    Just as the the Fed learned to stop targeting quantity of money instead of price, Congress should top targeting fiscal adjustments by quantity of revenue and instead target unemployment rate. Seems to me the easiest way to do that is to adjust tax rates inversely to the monthly change in the U3 rate. Think of it as the Ultra ProFund version of automatic stabilizers. :o)


  2. Tom Hickey says:

    Warren: fiscal policy can sustain domestic full employment and not worry about the current account per se.

    How do you answer the argument that by running a persistent CAD, the US is exporting jobs, and if government supports the unemployed with a JG or welfare after unemployment insurance runs out, then it is also promoting underemployment as people get pushed down the job and pay ladder. The claim is that this reinforces labor arbitrage, undermine US workers’ bargaining power, and inequitably enriches the people that profit from global trade at the expense of workers, both in the US where they are being crammed down and also in emerging countries where they are being held down.

    While this argument is heard on the left explicitly, it is also a growing perception among US workers, even if they don’t always articulate it clearly. But there is considerable emotion behind it, and this is shaping the political debate about trade, especially with China.



    we might be exporting jobs, but creating better jobs as replacements, by definition.

    as the jg pool grows that’s the signal to cut taxes until it gets down to desired levels for price stability. probably 3% of the work force or less.


    Tom Hickey Reply:

    but creating better jobs as replacements

    I think that this is the sticking point. Without being highly visible, it not credible. The widespread perception is that people are getting laid off and then crammed down the ladder. Case in point, I was talking to an employee at IKEA in the Boston area who had lost his $50 plus an hour tech job and was forced to take a job paying less than $10 an hour to stay alive. This is not new. I have acquaintances that were downsized” back in the ’80’s, when middle management was cut out. They went from 100K a year down to ? One friend finally started painting house for his son, who was a painting contractor. Bizarre. Hard to convince people like that we are creating better jobs here.


    ESM Reply:

    Three points to make:

    1) Our government is not acting responsibly, and therefore we have 16% unemployment or underemployment; that’s not the fault of the trade deficit;

    2) Anecdotes aren’t very helpful; I could also give you anecdotes about high-paying jobs that have been created because of global trade;

    3) There are dislocations that happen; just as the value of your stock portfolio or your home can go down 50%, so can the value of your skills to the marketplace; also, there are many high-paying jobs which are rentier-like (e.g. unionized auto assembly line work); some of these jobs naturally become lower-paying as the labor market becomes freer.

    Tom Hickey Reply:

    ESM, I’m concerned about the politics. The perception is getting ugly out there with many of the people that I talk to that either have seen their house value and their stock portfolio, which they consider their primary savings for retirement sink in nominal value by half or else have lost good paying jobs or fear losing them. The other huge factor is the perception that “the American dream” is no longer going to be available for their children and grandchildren as it was to them.

    The problem with much of economics in people’s eyes is that deals with quantity rather than quality, treating individuals as numbers and overlooking what is most important to them. According to economists, the recession is over according to the definition, for example, but a great many people think that the US is in a depression instead. Economists seem comfortable redefining NAIRU to a new normal above 8%. Politically, it’s suicide to allow high unemployment and the uncertainties that come with it to continue much longer.

    What I hear is that Obama “doesn’t get it,’ is “clueless,” and is “living in the Washington bubble,” and this is from people that supported him. This doesn’t bode well for Democrats and if the GOP gets back in, it will be back for another round of Reagan and Thatcher, and a bigger financial crisis next time. I have actually heard people say that they voted for Obama and the Democrats last time, but they couldn’t handle it so they are going to vote for the other guys instead. No matter what the other guys would do. May be crazy, but that’s how a lot of people think.

    What I am saying is that you can’t be cavalier about this economically. People want to hear a real solution that meets their real needs. Right now, they are basing their thinking on the erroneous household-government finance analogy, not realizing that such a policy would sink the ship. The deficit hawks have a leg up in this argument because they seem intuitively to be right. Many people also reason that since business provides jobs, making the Bush tax cuts permanent is a good idea, even if it means cutting social spending on the safety net.

    MMT can’t win this argument by focusing on relieving unemployment. People want to know that they can expect to find a good job in a growing economy that will restore their lost wealth so they can retire as they planned and educate their children in the expectation that good jobs will be waiting for them when they graduate.


    hence, a full payroll tax holiday, a $500 per capita revenue distribution to the state govts, and an $8/hr transition job for anyone willing and able to work?

    ESM Reply:

    Tom, I think by now you know which side of the political spectrum I’m on. But putting that aside, how can an MMT-er be frightened of another round of Reagan? Reagan cut taxes and kept up spending (including significantly boosting defense spending – $1T extra over his two terms, which was back when $1T was a lot of money). He came as close to running optimal deficits as any president since WWII.

    Obama is paralyzed because a new round of government spending is not politically feasible, and he is ideologically against tax cuts. At least the Republicans can and will cut taxes, deficit concerns notwithstanding. You might prefer spending increases, but I think you would concede that tax cuts are better than nothing.

    I am truly astonished by Obama’s behavior. Unemployment at 10% is a crisis, and yet he does nothing but talk (and spend more time on the golf course than Tiger Woods).

    Tom Hickey Reply:

    ESM, I am concerned that the bulk of the Bush deficits went into leveraging asset values and Ponzi finance. It sure didn’t trickle down. The middle class went into extreme debt even with those deficits. In addition, don’t get me started on the military spending. That was obscene.

    As far as I can see, Reaganism and Thatcherism took both the US and the UK down by suppressing wages and keeping price inflation low while letting asset inflation go wild, ultimately taking out the global economy.

    Of course, Bill Clinton’s triangulation strategy, including Rubinomics, was central to the debacle, too. Obama is also implementing a triangulation strategy in the attempt to capture the center. I don’t see it working for him. His record as a corporatist is abysmal, and I don’t think that he can fool the middle class into thinking he is on their side again.

    With zero meaningful financial reform and no accountability, I see us heading deeper down that path in any case, but with the GOP in power, it will just be quicker. Randy Wray’s satirical scenario is getting to look more and more prescient.


    If we are sustaining demand at full employment levels- an elr pool of maybe 3%- the dynamics are very different than if we are allowing a demand deficiency.
    With that kind of demand there will be at least as many and most likely a whole lot more good paying jobs.

    And if at the macro level we are consuming all we can produce at full employment domestically plus all the net imports the rest of world wants to send us,
    we have to be better off overall by the net imports, as a point of logic.

    yes, some people may lose, but the gains of others have to be greater. And those hurt probably would have lost anyway in the demand deficient economy.

    Ramanan Reply:

    (Not related to the above)

    Thanks for comments. If you think that interest paid to foreigners keeps accumulating and accelerates and that the public debt/gdp keeps growing over time with no problems whatsover, then thats some view. In that case, the argument is over then and there ;-)


    Tom Hickey Reply:

    f you think that interest paid to foreigners keeps accumulating and accelerates and that the public debt/gdp keeps growing over time with no problems whatsover

    What do you see that makes this problematic or unsustainable? As far as I can tell, most people asserting it just take as obvious. But it’s not obvious unless it goes exponential, it would seem.


    Japan has been doing just that. Maybe 2T in reserves over the last 60 years, including interest, and they haven’t spent a dime. And no interest in doing otherwise.

    Not that it has to happen that way, but it seems to happen more often than not.

    Now don’t you go telling them and ruin it for us, thanks!!!

    beowulf Reply:

    as the jg pool grows that’s the signal to cut taxes until it gets down to desired levels for price stability. probably 3% of the work force or less.

    Warren, I would suggest lashing JG to the mast of Social Security and provide for automatic FICA rate adjustments based on unemployment rate. Any “signal to cut taxes” is worthless without an automatic and immediate trigger, President Kennedy proposed tax cuts to stimulate demand in 1962, they were finally passed by Congress and signed by President Johnson in 1964.

    A Job Guarantee was actually part of the original 1935 Social Security Report, in fact, it was the report’s first recommendation. I’d suggest that Social Security’s term is better, “Employment Assurance”.

    Since most people must live by work, the first objective in a program of economic security must be maximum employment. As the major contribution of the Federal Government in providing a safeguard against unemployment we suggest employment assurance– the stimulation of private employment and the provision of public employment for those able-bodied workers whom industry cannot employ at a given time… it is a sound principle that public employment should be expended when private employment slackens, and it is likewise sound that work in preference to relief in cash or in kind should be provided for those of the unemployed who are willing and able to work.

    As for the automatic FICA tax adjustment, tie it the U3 unemployment rate. The simplest formula would be U3 rate x 10 — reducing FICA taxes payable by that percentage. At its baseline rate, FICA raises $75 billion a month for Social Securit and Medicare. A 95% (9.5 x 10) reduction would collect $3.75 billion instead, leaving $71.25 billion of waived FICA payments would stay in taxpayers’ pockets, ($855 billion annualized). Then, every month as soon as DOL updates the unemployment rate, Tsy could adjust the FICA tax waiver. A 7.5% U3 rate would reduce baseline FICA collections by 75%,a 5% U3 rate means a 50% FICA tax waiver and so on.

    Tsy could fund the SS and Medicare trust funds, and the Employment Assurance JG program, directly. What’s interesting is that the cost of the Employment Assurance program only matters (in terms of necessary tax revenue to pay for it) at the level of full employment. But at full employment, JG costs are at their lowest anyway and the adjustable FICA rates are at their highest. If more revenue is required at the full employment level, $200 billion a year could be raised by simply by uncapping Social Security above 106K, another $100 billion by expanding the unearned income Medicare tax (for income above $200/250k) to cover the Social Security of FICA as well.


    beowulf Reply:

    Just to clarify, if the potential $300 billion in additional FICA revenue is necessary to fund a JG, these too would be reduced by the U3 x 10 formula.

    I imagine the lower real tax rates even at full employment (since a 3% U3 rate would still means a 30% reduction from the baseline FICA rate) would be canceled out by the larger GDP and tax base generated via Okun’s law, each one point drop in unemployment rate increases GDP by 2 to 3 points.


    point taken, but fica is a bit too regressive for me.

    also, without fica the full employment deficit is probably just about right so that when we do get to full employment the budget won’t be in surplus and shut it all down as in the late 90’s

  3. Ramanan says:

    The reconciliation happens because prices of equities change during an account period. Since

    Change in e.p = (change in e).p + e.(change in p)

    In the example p doesn’t change so no need for reconciliation.


  4. anon says:


    Started reading that New Cambridge paper and it looks really ugly.

    They calculated net financial balances for an entity by including the market value of stocks on the asset side of the balance sheet and the book value of issued equity on the liability side (they don’t even include retained earnings let alone the market/book differential). I don’t see how that can be stock consistent let alone SF consistent.

    A real headache just to get through that part.


    Ramanan Reply:

    Not sure.

    Firms as a whole may hold stocks of other firms.

    In stock flow consistent models, there are three things. A balance sheet matrix, a transaction flow matrix and a revaluation matrix.

    In the balance sheet matrix, there is no retained earnings. That appears in the transactions flow matrix.

    The balance sheet matrix uses market values of “equities issued” as liabilities. Book value is not used.

    Its an art doing stock-flow consistency!

    Flow of Funds – the Z.1 accounting does not include retained earnings in the L.tables.

    My point of referencing it however is that there are many things happening with sectoral balances. Even neoclassicals use it – though rarely but then they end up using Ricardian equivalence etc. There is a bit of history as well and its important to get assumptions correctly.


    anon Reply:

    Trust me, I know how this stuff works.

    Flow of Funds definitely incorporates retained earnings wherever it includes equities in portrayal of stock financial claims, and uses market value to reconcile all balance sheets where equities are referenced.

    I’m referencing table 1 in the Levy paper (page 7). It is a disaster. It excludes retained earnings in the calculation of the financial balance. That is completely useless.

    The household balance sheet in table 2 looks OK.


    anon Reply:

    One of the problems is that the paper doesn’t even define financial balances in terms of constituent accounting components.

    Really badly written.


    anon Reply:

    I think the authors have no accounting training.


    anon Reply:

    It always comes back to accounting.


    Ramanan Reply:

    Gawd! Patience Patience!

    (Incidentally I note that Z.1 uses market value of equities issued see table L.102)

    Its perfectly consistent with national accounting.

    The table 1 just presents two different snapshots of the flow of funds.

    Okay lets do the math.

    In every accounting period, firms have assets as well as liabilities. Table 1 A states the assets and liabilities in the beginning of the accounting period. And Table 1 B states it at the end. Causes are slightly different.

    Just like Z.1 – it just states these are my assets and these are my liabilities.

    So in table L.102 of Z.1 you see different numbers for different period. So there is a table for 2008 and there is one for 2009.

    L.tables do not have retained earnings or flows such as that. It may have caused balance sheet changes but that is a different thing!

    Its perfectly consistent with L.102 of Z.1

    Incidentally I note that Z.1 has the market values of equities in liabilities. (Item 37 of L.102)


    anon Reply:

    Sorry, you’re missing my point.

    The flow of funds includes market value of equities, which by construction means the market valuation of the combination of the book value of equity issued plus the book value of retained earnings – which means it includes the value of retained earnings – which means it includes retained earnings.

    Ramanan Reply:

    The flow of funds number is just the market value of equities. If there is only one firm and it has 100 shares issues valued $2 each in the stock market at the end of the period- the entry “equities issued” in liabilities will be $200.

    anon Reply:

    That’s right and that’s what I’ve been saying.

    The Levy paper misses that entirely.

    Ramanan Reply:

    Don’t think so – initially it was $450 and then $490. It just means that stocks traded in the market changed such that the number $450 became $490.

    I have read their papers well to know that they won’t make any such mistake.

    Ramanan Reply:

    Now I understand your point. I think the paper is still right. Remember there is retained earning and there is also new issues of equity.

    Ramanan Reply:

    Actually I don’t see anything wrong.

    $40 of new equities was used to finance and it was assumed that the stock price didnt change so $450 became $490


    anon Reply:

    No, you missed it again.

    The point is that they do a calculation of the financial balance of the firm as a memo item at the bottom of that table, and they exclude the 40.

    That will not work on a stock (versus flow) reconciliation basis. It can’t. Balance sheets do not record the value of marketable equity claims held as assets as the internal book value of the issuer’s equity (issue equity plus retained earnings), absent the market premium over book. And note that this is not the same as the difference between book value and market value accounting for the asset holder. A few balance sheets may do book value accounting for the value of equities they hold as assets, but if they do, it’s by recording the historic purchase price of the equity – which is completely different than the internal book value to the issuer. Nobody records the value of an equity asset (using either book or market value accounting) according to the internal book value of the issuer. The internal book value of the issuer is completely different than the book value to the holder. The fed flow of funds reconciles consistently at the stock (versus flow) level by using market values.

    anon Reply:

    Sorry, I got the missed numbers wrong.

    It’s the $ 50 and the $ 140 that are missed in the financial balance calculations. Those are the market premiums over the internal book value of equity.

    anon Reply:

    Sorry again. Those are the retained earnings numbers that are missed.

    So there are two errors: using internal book, and missing retained earnings.

    Ramanan Reply:

    There is no book value of equity that has been used. Only market values. No book value used for equities at all.

    Initial bank loan was $250 and new bank loans is $150 so in the end the bank loans in liabilities is $400

    Initially bonds in liabilities was $150 and $50 of bonds were issued in the period, so in the end it is $200 which you can see.

    Intially equities owed to others was $450, new issues totalled $40 and you see $490 in liabilities at the end of the second period.

    $400 = $150(new loans) + $ $50 (bond issuance) + $40 (equity issuance) +$70 (selling some financial assets) +$90(retained earnings).

    Each one adds deposits in the bank and it was used to purchase physical capital worth $400 and hence $600 worth physical capital became $1000.

    I think it didn’t care to explain the part where wages are paid and there is an inflow of money from consumption, which added to profits and lets assume no dividends are paid out.

    The important thing you are pointing out however, is that initially the market value of liabilities is $450, and since $40 of new equities were issued, at the end of the period, it is $490.

    Again no book values of equities here.

    Let us say that each stock is valued $1 by the stock market which doesn’t change. Initially the total outstanding was 450 shares and in the period 40 new shares were issued at $1 and hence the the equities issued in liabilities at the end of the period is $490.

    You can redo this by forgetting bonds for a moment and looking at a much neater table – table 1.2 – page 15 of the pdf. Thats a transaction flow matrix, shows retained earnings, new equities issued, bank loans, no bonds. There are two accounts for firms – current account and capital account. (There is a typo in the table 1.2 for the central bank but irrelevant here)

    anon Reply:

    Nope. It’s all book value for the issuer’s balance sheet, which is what I’m talking about. E.g. a new equity issue sets the issue price as the book value for that entry on the issuer’s balance sheet, which will never change as a contributed equity component.

    That will never reconcile with the asset holder’s balance sheet.

    Ramanan Reply:

    There are two things – the way firms do accounting and the way national accountants do the accounting. The latter is different. In some places equities are set to zero as liabilities and in some places added as a memo. In other cases it is included in liabilities – but market values.

    Ramanan Reply:


    Page 226 – Understanding National accounts OECD

    The systematic valuation in the national accounts of assets and liabilities at market prices is also open to discussion. For one thing, this “wealth” may be only potential. For example, the mere suggestion that a large holder of shares in a firm might dispose of
    his holding can lead to a fall in the price of the shares capable of reducing this same holder’s potential realised holding gain. Much the same is true of the sale of property by a large institutional owner (an insurance company or a bank). For this reason, company accountants are more cautious than national accountants and apply the principle of valuation at the purchase price (except in the case of some quoted shares, for which the potential holding gain is practically certain to become a real gain). This caution leads to difficulty in interpreting total assets and liabilities in company accounts. These totals do not reflect economic reality since they add together assets or liabilities valued at very different dates. This difference in relation to the national accounts makes it difficult to
    use company balance sheets in the calculation of the balance sheet accounts. However, it is possible that the two sets of accounts could come into line in the near future with the application of the principle of “fair value” in company accounts. This “fair value” puts the prices at which valuation is made on the same footing as in the national accounts. This new approach is being recommended by the International Accounting Standards Board.

    anon Reply:

    change of topic:

    did you see Bill’s comment in his latest?

    “I will come back to open economy issues in a later blog seeing as there has been some consternation from some commentators recently.”

    ha! ha! ha!

    Ramanan Reply:

    He he he !

    Didn’t see – should really go into hibernation now.

  5. Ramanan says:

    I know the usages of the three financial balances and how different people use it.

    You may be interested in the history and the usages here:

    Revisiting “New Cambridge”: The Three Financial Balances in a General Stock-flow Consistent Applied Modeling Strategy


  6. Ramanan says:


    Here is some sustainability stuff from Wynne Godley. (March 2003)

    The central argument of this analysis can be simply
    stated. The primary balance of payments in the fourth quarter
    of 2002 was equal to about 5 percent of GDP—easily a
    postwar record. If, as all official documents assume, the U.S.
    economy grows fast enough during the next six years to generate
    some reduction in unemployment, there is a presumption
    that the primary balance will deteriorate further, to at
    least 6.4 percent, causing U.S. foreign debt to rise to nearly
    $8 trillion or 60 percent of GDP. And if, as the ERP assumes,
    the stance of monetary policy reverts to neutral so that short-
    term interest rates rise to 4.3 percent, the net flow of interest
    payments out of the country could well rise to $200 to $300
    billion per annum, thereby raising the deficit in the overall
    balance of payments to about 8.5 percent of GDP. As the
    private sector’s financial deficit is likely to revert toward its
    usual state of surplus, it follows as a matter of accounting logic
    that the government would have to run a deficit at least as
    large as the balance of payments deficit—that is, the budget
    deficit would have to rise from some 3 percent of GDP as now
    projected for 2003 to perhaps 9 to 10 percent of GDP in
    2007–2008. For a number of reasons this is not a credible
    scenario—if only because such a position would not itself be
    a stable one; the rate at which foreign debt would be accumulating
    would be such as to generate a further, accelerating, flow
    of interest payments out of the country, requiring even larger
    budget deficits in subsequent years.

    The man is superb in his accounting calculations and used to do all kinds of stock-flow consistent models. I recommend his book with Marc Lavoie

    Of course a lot of things happened between 2003 and now – but thats the dynamic. There is no mechanism to stop this process from continuing. Right now, if one includes agencies, the net liabilities of the government sector (which cancels debt owed to each other) is 110 per cent of GDP or so.

    You must have read about the US trade deficit report yesterday. Even Ben Bernanke thinks that the public debt is heading toward unsustainable levels. His solution – reducing the fiscal deficit is silly of course. But the US public debt will keep growing with no limits. If the Fed and the Treasury set the interest rates to zero permanently or so, the foreigners will purchase other securities. Won’t the citizens of the United States be indebted to the rest of the world then ?

    Increase fiscal policy and the trade deficit widens even further.

    Solutions ? A zillion dollar question.

    One is to just let the US public debt keep growing without limit (i.e, debt/gdp keeps increasing till the end of time – and interest payments to foreigners too) and hope that there markets take care of it. Do you want to analyze the scenario ?

    The other is to use protectionist measures. Ban imports. But that is politically and economically unwise. If the rest of the world cannot sell their products to the US, will they be willing to grow domestically ? Or use import certificates as Beowulf keeps reminding us.

    Or ask other nations to devalue their currencies. Will they agree to become net importers ? What happens if they keep losing foreign reserves ?

    Don’t you see the cracks in the foundations of growth ?


    Ramanan Reply:

    Sorry I meant – strengthen their currencies and not “Or ask other nations to devalue their currencies”


    Ramanan Reply:

    Not sure of the number 110 here is a reference


    anon Reply:

    Fair enough for Lavoie to point out the nature of unsustainable deficit trajectories.

    But equally fair for MMT to point out the nature of sustainable deficit trajectories.

    Both are based on mathematics of GDP growth versus debt growth – unsustainable versus sustainable.

    Lavoie hasn’t been the only one predicting doom. Nouriel Roubini and Brad Setser did a lot of work about 5 years ago making similar forecasts that turned out very wrong.


    Ramanan Reply:

    Yep .. its Wynne Godley who made all the projections in the US strategic analysis at Levy, not Marc Lavoie. Roubini used to quote Wynne Godley often.

    I think Wynne Godley’s logic was quite right – external sector deficit reducing demand and on top of that private sector debt going into an unsustainable path. He himself knew that the timing of the recession was difficult to predict.

    Roubini is neoclassical and keeps worrying of debt monetization causing inflation. And things like crowding out. But he is right about trade deficits. Haven’t read Brad Setser to comment.

    But the logic is tight here. Wynne Godley had stock flow consistent models where every sector’s behaviour is modeled and there are cases where the public debt keeps increasing – there is no correction mechanism to have any adjustment.


    anon Reply:

    You haven’t talked about R&R. This is interesting:

    anon Reply:

    From the above:

    “R&R have it backwards: they are looking for broad generalizations that might be identified over large samples but have uncertain application to any particular case. A better kind of economics would be one that identified processes that, while they generate diverse outcomes with no discernible central tendency over large samples, can be applied precisely to individual cases.”

    I think the MMT approach to current account deficits actually corresponds to that “better kind of economics”.


    marc fully agrees with me last we spoke a year or so ago, and the time before that as well



    the right size deficit is the one that coincides with desired levels of domestic employment


  7. anon says:


    You referenced this at Bill’s:

    On re-reading, this is an incredibly good post on the nature of current account deficits, and I can’t imagine how it doesn’t address your various concerns.


    Ramanan Reply:


    Just found this:

    Try this Modern monetary theory in an open economy a year back – It was my first intro into open economy macro. A lot of it is common to the link in your comment.

    Somewhere in the middle:

    “MMT recognises this problem, but doesn’t recommend the mainstream solution.”

    I liked the post (you can see my comment) as it was a great intro.

    So you see that some of the things I have been saying is in that post.

    Now, a year later, I have a slightly better view – my obsession has helped my understanding. There is a genuine issue here – you have to put yourself in the policymakers shoes to see it.


    anon Reply:

    Just read it again – excellent.

    This seems key:

    “Is there evidence that budget deficits create catastrophic exchange rate depreciations in flexible exchange rate countries? None at all. There is no clear relationship in the research literature that has been established.”


    “As the global economy grows, there is no reason to believe that the rest of the world’s desire to diversify portfolios will not mean continued accumulation of claims on any particular country. As long as a nation continues to develop and offers a sufficiently stable economic and political environment so that the rest of the world expects it to continue to service its debts, its assets will remain in demand…Therefore, the key is whether the private sector and external account deficits are associated with productive investments that increase ability to service the associated debt. Roughly speaking, this means that growth of GNP and national income exceeds the interest rate (and other debt service costs) that the country has to pay on its foreign-held liabilities. Here we need to distinguish between private sector debts and government debts.”


    Ramanan Reply:

    Well its how it is presented. Don’t know what “clear relationship” is. It also means that its possible.

    As I said its about currency falls and not about currency falls.

    In 1991, India almost had a near death experience. The FM – now the PM – liberalized the capital account and this led to a relief to the balance of payments problems. India also started the export-led growth path and this was another reason the nation could solve some of its problems and change the foundations of growth.

    Some nations – their export sector in particular – would have benefited from the depreciation of the currency. But they grew because of exports! So how is export a cost ?

    I do not agree on the debt servicing versus growth. Not so straightforward. Whats the proof ?

    The fact that I do not carry a lighter in my pocket reduces the chances of fire. Since I want to prevent fire, I don’t carry a lighter. Similarly, nations do not spur growth by fiscal policy because while it spurs demand, it widens the trade deficit as well. It will depreciate currency and the nation has to pay higher interest rates to foreigners while they are targeting some foreign reserves to gdp ratios and such numbers. Because they don’t want to go there, you see weak demand everywhere in the world.

    I am pointing out the ironies instead of making any suggestions. Inflation is one issue which MMTers see as a limitation of fiscal policy. Well .. the external world is a BIG factor.

    Doesn’t mean that I am saying fiscal policy is not good. Not at all. But if the reply to one’s statement that fiscal policy worsens trade balances is that imports are benefits that is not satisfying.

    A nations assets can remain in demand of course. However, note the causalities. If some sovereign fund invests in a country, it doesn’t increase trade deficits. It gives it more room to improve demand and tolerate some amount of trade deficits. The trade deficit would arise if incomes grow because of increase in demand due to the government’s policy – not automatically because foreigners desire to net save in your currency.

    From the blog post :

    “Clearly, when an economy that experiences a depletion of foreign exchange reserves has to take some hard decisions in relation to its external sector, especially if it is reliant on imported fuel and food products. In these situations, a burgeoning CAD will threaten the dwindling international currency reserves.

    In some cases, given the particular composition of exports and imports, currency depreciation is unlikely to resolve the CAD without additional measures.

    The depreciation, in turn, raises the relative costs of imports, and imparts an inflationary bias to the economy. Moreover, depreciation leads to expectations of further depreciation and fuels the run out of the currency. There may be no interest rate that is high enough to counter expectations of losses due to depreciation and possible default.

    In the short run there is probably no alternative but to urgently restore reserves of foreign currency either through renegotiation of foreign debt obligations, international donor assistance or default.”

    anon Reply:

    Exports are a real cost and a monetary benefit. That is operationally tautological.

    “If some sovereign fund invests in a country, it doesn’t increase trade deficits.”

    That is operationally correct. The only capital account transactions that are net capital account transactions are those directly offsetting net trade account transactions.

    anon Reply:

    i.e. the only capital account transactions that are net capital account transactions are money for trade transactions – not financial portfolio allocation flows

  8. Tom Hickey says:

    Ramanan, good summary of your position. I’ll hold off and see what the MMT’ers say regarding specifics, but, speaking genrally, it seems to me that it’s pretty similar to the confidence argument about the bond vigilantes and the conclusion drawn from it that “we had better not do what we know needs to be done because ‘the market’ might suddenly lose confidence in us and upset the whole apple cart.”


    Ramanan Reply:


    A bit but not exactly because the currency markets is not in the control of the State. I make no recommendation. Its truly enjoyable to learn something when one is freed of making any recommendation or proposal. As far as viewpoint is concerned – yes of course, don’t torture people by going into an austerity and set examples for others. However, long term solutions are complicated!

    More importanly, its the specifics about MMT thoughts on trade balances and the dynamics associated with it which I strongly oppose. I *exactly* know the arguments that is going to come my way and the fact that it will be really difficult to resolve. But an attempt – helped me clear a few things myself – increasing my confidence on my position!


  9. Ramanan says:

    Dropped a longish comment here – if someone’s interested. My continuous attack on MMT :-)


    ESM Reply:


    You write:

    “Its easy to see now how interest paid to foreigners is a burden even though interest income paid by the government to its citizens is not!”

    It isn’t easy for me to see. Can you explain? Why is it not a burden for the government to pay interest to Bill Gates, but it is to pay interest to Li Ka-Shing?


    Ramanan Reply:


    Complicated I think. When interest is paid to citizens, they consume a part of it keeping the circular flow of income in good shape. Of course, rentiers may hoard a lot of money and hence you see a lot of talk about taxing the money hoarders.


    oliver Reply:

    I think that’s getting closer to the actual problem – if indeed it is a problem. It isn’t nationality but propensity to spend and savings preferences that influence the path of debt issuance. The question is, how can one target specific large lumps of hoarded money, black holes as Tom Hickey likes to call them. without impeding savings desires of others? I have a feeling there is no ‘one size fits all’ solution. One would probably need something like a progressive savings tax on govt. papers on a per person / legal entity basis. Probably complicated and I guess Warren would prefer taxing consumption / hoarding of real resources instead.

    anon Reply:


    I’m still having problems in understanding exactly what you’re criticizing.

    Can you point me to a particular MMT blog that says fiat currency issuers can’t experience foreign exchange crises?

    (as far as I can tell, that seems to be the implication of your criticism)

    anon Reply:

    There’s no difference in the “burden” of government interest paid to domestics and foreigns. Both represent non government saving. That IS just accounting.

    Ramanan Reply:

    Isn’t coupon payments a burden for a corporation ? Its saving for some other sector, if one wants to look at it that way. That logic can be used to argue that there is no such thing as burden. Growing external debt matters for a nation matters for the same reason as it matters for an organization – it generates a growing debt burden.

    Of course, you can argue – if the debt is in its own currency – whats the problem ? In other words, one can service the debt by being more indebted. And the creditor is bound to accept payments in the debtor’s currency because that was in the contract. But such things cannot continue forever because there is an assumption that nothing happens to the value of the currency or that it changes smoothly.


    anon Reply:

    The reason the coupon payments are a burden for a nation is because they include private sector payments in addition to government payments. In other words, there would be no burden if the government were the only issuer of debt to the foreign sector – no burden in the sense that insolvency or default to the foreign sector would be a voluntary choice – and that would show up in the exchange rate. It is the mix of government and non-government liabilities that introduces the risk problem for the foreign sector.

    That’s reality, but again, where does MMT deny this? Who is saying what specifically that you are criticizing?

    anon Reply:

    And who is saying that the currency always changes smoothly? Where’s the blog on that?



    I always say it changes continuously.

    Ramanan Reply:

    My bringing in “organization” is for analogy purposes only. I am saying that interest payments to foreigners on government debt is also a burden :-)

    anon Reply:

    Why? How? How can you possibly say its a problem without referencing the portfolio effect of private sector liabilities to foreigners? In other words, in my imaginary scenario where foreigners only hold government liabilities, how could it possibly be a problem?

    anon Reply:

    MMT allows that fiat currency issuers can default voluntarily under hyperinflation.

    So it should allow for that default as well if foreigners only hold government bonds. And the hyperinflation risk will show up both in bond yields and the fx rate.

    It’s consistent. Where’s the problem?


    fiat currency issuers can default voluntarily anytime. the US congress voted to default in the mid 90’s and only Ruben’s ‘finding’ some funds somewhere prevented it.

    and under hyper inflation govts rarely default and investors don’t care anyway as the debt isn’t worth enough to fool with.

    Ramanan Reply:


    Okay, one can come up with “where did we say that?” However you keep finding statements “exports are a cost” etc.

    Its about the whole dynamics. There is no statement anywhere that a nation cannot keep running trade deficits and that it has to return to balance. It sounds neoclassical, but I suspect the opposition is simply because it sounds neoclassical. Yes MMTers would say that they never said that the currency moves smoothly, but they haven’t described the dynamics either. It moves in complicated ways of course, but a result of imbalances is a depreciation of the currency someday or the other. That brings in imported inflation but MMT says one time price rise.

    In the case of the US, the current account is never blamed – just the government policy on fiscal deficits with statements such as imports are benefits.

    Interest on government debt is a burden because as a nation, the income is less than the expenditures. Of course, the argument there would be – government can increase the income through fiscal policy etc. Such a strategy leads to an increase in national income of course, but because it widens the trade deficit, and leads to a greater indebtedness to the rest of the world. But then there is an argument that its saving for the rest of the world and that imports are benefits and that the government just credits the bank account :-)

    No attention is paid whatsoever to what happens to the value of the currency. Try to imagine the above situation in your head and keep track of all the variables. Difficult, but worth the try.


    for the US the real burden is when foreigner’s income is spent on US goods and services.

    like servicing all those foreign tourists.

    a long time ago i remarked that it’s all over when US peasants are selling trinkets to foreign tourists.

    anon Reply:

    “that it has to return to balance”

    well, that’s just outright false as a generalization

    there’s nothing preventing a nation from running a perpetual current account deficit of sufficiently modest arithmetic proportions in comparison to its economic growth rate

    one works specific nation cases and specific arithmetic proportions and specific combinations of trade and service deficit back from that generalization

    but there’s nothing sacrosanct in general about returning to balance per se

    btw, exports are a real cost is just the tautological inverse of exports are a monetary benefit

    Ramanan Reply:


    I will take a break on this because our hosts will be seriously upset because i) It diverts attention from other discussions & ii)they may think that I have gone crazy.

    Yes I agree with you about “perpetual current account deficit of …”. If you see the discussions above, there was a G&L paper which showed this. However, I think that these examples are exceptional. It does not happen with numbers we see in the real world. Don’t ask for a proof. In their paper as well, they have made some assumptions, which of course, they are aware of very well.

    anon Reply:

    “they may think that I have gone crazy”

    a little late to be worried about that isn’t it?


    OK, break quite understandable

    Although I thought you might be turning this into “Ramanan’s longest”

    Bottom line is I think there are some basic generalizations that are specific to CA deficits, but far more specificity is required beyoind that than is the case for closed economy budget deficits. So I agree with the thrust of your thesis; just that one can still extract some basic MMT tautologies in the case of CA deficits as well, which must then be put in context of economy specific details.

    Tom Hickey Reply:

    Anon: Bottom line is I think there are some basic generalizations that are specific to CA deficits, but far more specificity is required beyoind that than is the case for closed economy budget deficits. So I agree with the thrust of your thesis; just that one can still extract some basic MMT tautologies in the case of CA deficits as well, which must then be put in context of economy specific details.

    Here is what I posted over billyblog on this:

    In defense of Ramanan, he has been investigating this for some time and has brought some interesting points to the table in previous posts. I believe that he has legitimate questions. They are not unique to him, although he has ferreted them out.

    A basic question is over the contention that floating rates function automatically to adjust currency relationships without creating “stress” that can manifest in a variety of ways. “Stress” is intended here in the broad sense of economic, financial, or political difficulties. Ramanan has specified previously that he regards this eventuality as unlikely in the case of a country like the US in the near term, but it is a constant concern of more weakly positioned countries, which have to obtain foreign reserves to pay for vital imports, for example, and therefore they have to defend the exchange value of their currencies. Consequently, their internal policy is limited by external concerns even though they may be monetarily sovereign issuers of a nonconvertible floating rate currency.

    I have also questioned whether fx markets adjustments are always automatic and orderly. This seems to me to be akin to the neoliberal assumptions about “free” markets clearing seamlessly. This is basically the neoliberal claim about “free” trade and “free” capital flows being guided by “the invisible hand” of the market.

    I am not claiming that adjustments aren’t always automatic, but it seems to be a theoretical assumption that they are, since it is neither contradictory to hold that they are not, nor a tautology to hold that they are, at least as far as I can tell. What is the justification for these assumptions? The international asepct of MMT is something that I don’t understand sufficiently and would appreciate an explanation, or being pointed to a reference.


    more important, you have all more than held your own and clearly prevailed against the most intense inquiry possible.

    it’s all downhill from here!


    anon Reply:

    Tom Hickey,

    Seems like a very fair summary, thanks.

    “I have also questioned whether fx markets adjustments are always automatic and orderly.”

    Is that in fact an inherent MMT assumption? Does MMT in fact deny that currency markets may exhibit disorderly discontinuities? It doesn’t seem realistic or even necessary for MMT to assume that. And that’s what I’m not clear on.

    Ramanan Reply:


    Back from hibernation on this issue :) Else someone may say “Ramanan is assuming that we think …”

    However, it is precisely my problem – just when there are “disorderly discontinuities” – fiscal policy has to go in reverse gear. This is because of the “stress” Tom has highlighted. And the debtor nation has to make promises to its creditors whether MMT recommends it or not.

    There is nothing called “pure float”. One way or the other you are indicating something.

    Tom Hickey Reply:

    Raghuram Rajan addresses global imbalances here. He sees the present imbalance as resulting from imbalanced domestic policy is the various countries, which they need to get in order. The problem is that these policies are not simply ill-conceived, they are designed to favor special interets in those countries.

    What he doesn’t say is that this results in extending dollar hegemony, which has been benefitting the elites in the countries involved. While it has been enriching Chinese and Western elites, it has come at the expense of hollowing out the US economy and turning Chinese workers into serfs.

    The current world situation is the result of the GFC; hence, I don’t think that domestic economies can be looked at separately from the global economy anymore. This is becoming an increasingly interdependent world, and what happens in one country or region affects everyone else, often profoundly.

    When we speak of deficits and debt, we are speaking about numbers. But behind those numbers are data relating to real resources and real people. MMT is correct in saying that it is not the numbers that are concerning, it is the effect on real real resources and real people that is concerning.

    When domestic economies are running effectively and efficiently, then their economic relations sum to the global economy, which is also running effectively and efficiently in advancing human purpose, i.e., survival and progress.

    I think that we need to spend less time being concerned about the numbers and ratios as such and more about what they imply about real situations affecting people, especially when policy decisions affect people that are far-removed from the decision-making process and have no recourse. For example, when the world price of wheat increases quickly and dramatically, millions of people go hungry and many starve to death. As far as I can see economists, politicians, business and financial leaders, and the media pay scant attention to this, but instead argue over numbers, the implications of which are hypothetical at best.

    The question is not so much whether US deficits or Chinese surpluses are sustainable long-term but rather what this implies for the Americans, Chinese, and the world relative to other relevant data. Where is this leading?

    I don’t think this is sustainable too much longer even for the US. Americans are now perceiving the US as exporting jobs. That perception is politically unsustainable at a time of persistent high unemployment and underemployment, with the participation rate falling. Moreover, there is no way to go back to the status quo ante without generating another crisis, which will be a larger and messier one. Adopting austerity will just exacerbate the situation. There is no comprehensive economic policy on the table that shows the way of this, as far as I can see. While I agree with MMT proposals for relieving unemployment by stimulating demand, then what?

    anon Reply:

    Tom Hickey,

    “Americans are now perceiving the US as exporting jobs. That perception is politically unsustainable at a time of persistent high unemployment and underemployment, with the participation rate falling.”

    You’re right. It’s a tragedy, but it’s going to be interesting to see how a worst case unemployment outcome will weigh politically and heavily on trade policy. Your previous comment regarding “neoliberal assumptions about “free” markets clearing seamlessly” applies to international employment tradeoffs as well as exchange rates.

    anon Reply:


    That was a short break.

    I thought the first response to an FX crisis was FX reserve intervention rather than fiscal policy.

  10. Tom Hickey says:

    Ramanan: “The MMT argument about trade deficits interprets the sectoral balances identity as govt deficit = domestic private sector net saving + saving of the rest of the world in that currency and gives it the behavioural dynamic – trade deficit (the second term) is because of the net saving desire of the rest of the world in that *currency*. The foreigners may not be net saving in your currency. The adjustment may happen because you lose foreign currency. Even at this accounting level there are some ambiguities. Add behaviour and you end up meeting all kinds of complexities.”

    This is the crux of it. The accounting identities are not in question. It’s what happens in the real world with real resources involving real people.

    While the accounting identities are universal, data differs widely different over time and space. Data is condition-dependent, and it is not possible to generalize about shifting conditions over time in one place, let alone in different areas.

    The relevant accounting identities force certain changes relative to conditions, so that it is not possible to prescribe a universal solution or to assume that the change that accounting identities force will be practical. Countries have gone to war because of “accounting identities.”

    It seems to me that assuming the fx market will maintain equilibrium at optimal efficiency is naive when it’s obviously not happening. One can say that it’s an imperfect market because not all countries are running floating currencies or are otherwise gaming the system.

    But that is pretty smilar to the neoliberal claims about free markets as the equilibrium solution when markets are imperfect. Why would one ever presume that markets will become perfect at some time in the future? We have to deal with existing conditions. Indeed, when government are involved, as they necessarily are, markets are never perfect. So why go on about in-built automatic self-correction? Am I missing something here?


  11. Ramanan says:


    Still deciding if I should appreciate your sense of humor


    strawberry picker Reply:

    All I know is a couple years back the chinese tried to buy some interests in an american oil company and was told no, I think it had something to do with national security. So what good is all these US notes and IOU’s and promises to pay, when you go to buy stuff they say nope, we aren’t taking your cash? Now if the chinese had been smart, they would have used thousands of shell companies and organizations to accumulate the control they were wanting and then staffed it with chinese loyalist businessmen.

    I mean really, think about it, folks like bernie madoff had whistleblowers exposing him left and right and nobody did anything, he was able to sucker lots of government types, but the chinese try to go in and buy some oil company and the national alarm bells go off everywhere, they could have been much smarter about that and employed more deception and subterfuge, pathetic, a nation of 1 billion people trumped by madoff :( The chinese and saudis can accumulate hundreds of trillions of our IOU’s, but that does not gaurantee that the future purchasing power of that stash will buy a bridge in brooklyn does it?

    As Warren has repeatedly pointed out, it is the guy with the gun to your head wanting warren’s business cards that is your real problem, and I don’t see any chinese or saudis holding a gun to my head, no matter how much of a sucker I make out of them with IOU’s they will never collect on. Until our military is dwarfed by the sauds or the chinese, I am gonna sit back and take it easy.


    strawberry picker Reply:

    Ramanan, it doesn’t look so bad. If we are gonna leave those Russia, China guys holding the bag, we got to get them to buy more paper from us than it looks like they have.


  12. Ramanan says:

    Randy Wray on some of the things I raised in #7

    I am not arguing that the current situation will go on forever, although I do believe it will persist much longer than most commentators presume. But changes are complex and there are strong incentives against the sort of simple, abrupt, and dramatic shifts often posited as likely scenarios. I expect that the complexity as well as the linkages among balance sheets ensure that transitions will be moderate and slow-there will be no sudden dumping of US treasuries.


    Ramanan Reply:

    Also links to this article on Marshall Auerbach’s article on CBO’s recent paper on a fiscal crisis


    Ramanan Reply:

    My comment @Newdeal 2.0

    Hi Randy,

    Nice article!

    However, one doesn’t need to be a deficit hawk to make a “A Cri de Coeur” which the late and great (and your friend) Wynne Godley himself did.

    The US is in a very special situation because of the “hegemony” but it should be made clear that other countries cannot go on such a growth path.

    Countries are severely constrained by problems with the external sector and the sadist IMF solution of going into fiscal austerity is actually “helpful” because it reduces demand and hence imports. A country cannot relax fiscal policy even if their leaders understand that the G-secs issued will not default.

    As far as the US is concerned – here is what I have to say. Fiscal policy will rescue the US in the short term (the more relaxed, the better) but it will worsen the external imbalance in the long run. Another way of saying this is that “the New Cambridge approach holds in the long run”.

    The more the external problems are allowed to detiorate the more painful it will be later. While there is no debate about the accounting identity, the numbers for the US suggests that sooner or later it will go on an unsustainable path. That is because the deficits should be atleast equal to the current account deficit if the private sector is to be in surplus. Of course that is also not debatable but that puts the public debt on a path where it grows faster than national income if the trade is allowed to be deficit

    Here is quoting Wynne Godley and Francis Cripps from their 1983 book Macroeconomics.

    “As a long-term proposition the hypothesis of ever-increasing government deficit relative to income accompanied by continuous external deficits is implausible. A full steady state could be restored by a reduction in the fiscal policy or by a rise in trade performance ratio. These are two, related sets of pressures which might cause such adjustment to occur. One is the potential difficulty in financing the government budget when increases in government debt much directly or indirectly be taken up by foreigners. The other is the probability that continuous external deficits will make the national currency less and less acceptable in currency markets, provoking rapid falls in the exchange rate for the currency”

    Several thinks can be debated about the above quote. Why does the US need the foreigners to finance its budget deficit etc. A long term bet that the rest of the world will remain weaker than the United States is finally a bet.

    I recently read your comment on a blog post that taxes grow fast enough because of “automatic stabilizers”. That is true in a closed economy. However, in the situation where the trade balance is endemically imbalanced the automatic stablizers are not fast enough to put the public debt within the sustainable limits.

    The short term solution to solve the problems of the world is indeed through fiscal policy but let me make a statement. The world is not moving into a sustainable growth path. There is a desperate need to have a concerted action and redo everything about international trade.

    As far as the currency markets are concerned, there is no need for the Chinese to dump US Treasuries for a currency fall to occur. The international money market is deep enough for any big player to cry “fire”. There is also an argument that if the dollar falls what’s the worry – exports will improve. But those processes are complex. The trade balance may worsen initially because of slow quantity adjustment of imports leading to a further fall. During these times, fiscal authorities will go into an austerity which is not really a bad policy because it is an attempt to improve trade balances and resolve the problems with the currency fall.

    Then there is the question “how come you want a strong dollar and a weak dollar at the same time, why do you want devaluation?” This is a brilliant question because it brings all the dynamics in one go. The short answer is that the diplomatic talks the US Treasury is trying to have with the rest of the world is an attempt to protect a deeper fall in the future.

    Devaluation will be hurtful of course because of exchange-rate pass-through effects. But it is a small step in the right direction – will allow the US to be more competitive and improve the trade situation.

    However there are definitive cracks in the foundation of growth and fiscal policy alone will help short term but worsen the global imbalances.

    (PS: I know the Modern Money views in reasonable detail and am neither a hawk nor a dove).


    Ramanan Reply:

    More comments:


    I am fully supportive of full employment. I do not believe that there is anything in this world preventing full employment except lobby groups and neoclassical economists.


    Ramanan Reply:

    One more comment at ND2.0.

    This brings to me grandchildren.

    For a closed economy public debt is unlike a household debt and is not a burden. The public debt is the result of an accounting fact.

    For an open economy however, the interest paid to foreigners is indeed a burden.

    For a nation running trade deficits for a long time, imports are no benefits. Imports reduce employment. For a given fiscal stance, budget deficits endogenously expand but not enough to bring employment back to levels in the absence of the trade deficit. Fiscal policy has to be relaxed to achieve that. In a world where the governments do not relax fiscal policy so easily, imports are bad.

    When a country is running a trade deficit endemically, the interest paid to foreigners is a burden because the proportion in the national income may keep growing. Implicit in the statement that the interest payment is not a burden is the assumption that policy makers do not target public debt/gdp ratios. There are some situations where a nation can run trade deficits and grow fast enough so that public debt is sustainable but those situations are texbookish. In the real world, these situations do not arise. For a country to have its public debt to gdp ratio in the sustainable territory, interest paid to foreigners needs to be thought of as burden.

    I think a lot of this has to do with how one views money and whether taxes finance the foreigners or if one views taxes being “destroyed” and interest paid to foreigners are “created”. There is a danger in the second viewpoint because if taken literally one can have many disagreements.

    Also, foreigners hold a lot of private sector assets such as corporate bonds, equities and mortgage backed securities. The interest/dividend paid on this is more intuively a burden.


    strawberry picker Reply:

    “For a nation running trade deficits for a long time, imports are no benefits. Imports reduce employment.”

    Blasphemer! May your heart be run through with an MMT stake! Explain to me, the man out fighting snakes, heat stroke, skin cancer, and herbicide exposure out in the strawberry field why it is better for ME to pick the strawberries than some sucker in china while I sit down and chat on MMT blogs? Why is employment and exports of my strawberries something I should desire when it will kill me much faster. I think it imports of strawberries is the goal, I will live longer and get to chat on this blog more, you don’t make sense to me.

    strawberry picker Reply:

    “Also, foreigners hold a lot of private sector assets such as corporate bonds, equities and mortgage backed securities. The interest/dividend paid on this is more intuively a burden.”

    Look here is the operational reality, right now SUCKERS in asia are picking the strawberries and dying young, while accumulating numbers on a spreadsheet. When the time comes, the computers that the spreadsheet are on will accidentally (on purpose) reboot and lose all thier interest payments, dividends, etc etc – Why do you want me to get up and start dying by picking strawberries when there are still suckers who will do it for me thinking all the while they are going to have some claim on me or my children to FORCE me to do work! LOL! How is that china man in the strawberry field gonna take his treasury bond and come over here and make me pick strawberries for him when I reboot the computer all his data is on? You don’t make any sense padawan! The force is not strong in you sucker!

    Matt Franko Reply:

    May 2010 Trade Deficit w China: $22B
    x 12 mos = $264B annual /14.8T US GDP = 1.78% >>> BFD

    Two micro transactions I participated in lately:
    1. Front brakes and rotors for our 2001 Honda van.
    Dealer Quote: $475 Rotors: $145 each Pads: $25 Labor: $160
    My friend (mechanic) has a wholesale account at Advanced Auto Parts. He called and checked his price for me Rotors (China): 37.50 each, Pads: $10.
    So US wholesale price of pads & rotors is $85, what are the Chinese getting for them….25 bucks? 25/475=5% of US GDP. (btw im doing them myself next month while listening to NCAAF!)

    2. HVAC rubber fan belt broke on air handler. Emergency (100 deg F)Service call $190 Minimum, Called R E Michel HVAC wholesaler for price of belt (China):$3.87 w tax. My contractor: 190 + 25 for belt = 215. What is China getting for the belt? 1 buck? 1/215 = 0.5% US GDP (btw did it myself!)

    Average a bazillion of these types of transactions across the US and you get China getting about 2% of our US business. Rubber fan belts have been around since probably late 1800’s, auto brakes since the Model T 190?.

    Continue this for 10 years with the Chinese CB changing out the currency and just sitting on it and you get China govt with USD NFA of less than 20% of 1 years US GDP, I think they have amassed about $1T/1B Chinese population = 1,000 per person or about 3 weeks of Social Security payment to one of our Seniors after their (China’s)past 10 year effort.

    They want this type of USD based business from us, they have noooo problem accepting our currency for their industrial components business like this, I have not figured out why other than it is part of their Job Guaranty program (idle hands).

    Perhaps this would be a good question for Sec of State Clinton to ask them next time she goes over there, vice ‘will they ‘lend us’ more money’…Oye!….hang in there!
    PS the rest of our trade deficit is oil.

    strawberry picker Reply:

    I just had to replace my mom’s front brakes on her 2009 chrysler minivan (supposedly made by mercedes – so you think they would have some quality), 400 dollars, you are right, the china price is much cheaper. I would have done it myself, but it is easier for me to click buttons on a trading terminal and make 10K a day than take that time to do greasy work and sweat. So even though I know I am grossly overpaying, it still better for me to let some overpriced american worker do it.

    Also HVAC problem, air handler running too hot, technician wanted 90 per hour, energy company did FREE energy audit and decided momma needed more insulation, they offered to pay the first 150, it cost 175, so winds up costing me 25 bucks.

    I cannot understand why we are not importing lots of chinese to places like destroit (destroyed – get it – haha) before they bulldoze all the infrastructure, it is a win win for everyone except those overpriced 100 per hour jobs that no one is going to pay for anyways, we will all just DIY.

    I tried to tackle this problem personally, because I am a patriot like that, and marry and import lots of women and thier families to help my country, but now the USA state department gives me problems and say that there is a lifetime limit of 2 wives now, that is BS!! I am so ANGRY, I am trying to help my country and am being told I can only marry so many people in my lifetime from overseas and get them citizenship, who da frak does uncle sam think he is? Getting involved in my personal life like dat?!?!?

    I went to my local city commissioners meeting where they are bulldozing some good houses and storefronts and said if you would tell uncle sam to get off my back about how many people I can marry, I would bring lots of smart, hard working people over who will be good taxpayers and work for cheap. No one ever listens to me.

    But I am very suspect of those latest GDP numbers, I think they are garbage and not to be trusted.


    US dollar payments to foreigners are not a real burden. the real burden/reduction in real terms of trade is when they spend those dollars and we export to them.

    Ramanan Reply:

    “US dollar payments to foreigners are not a real burden.”

    That is true if the “public debt/gdp ratio is just a number”.

    The MMT argument for imports being benefits is that when you import, you enjoy the import and have the option of relaxing fiscal policy without hitting capacity constraints. My stand is exactly the opposite. To defend your currency, you have to do the opposite. There are more complications – the currency markets may not move much if you expand fiscally, but that is not sustainable. The later the adjustment, the more painful it is. The strategy to import and compensate it with fiscal expansion is equivalent to saying that public debt/gdp can be allowed to go to whatever value. Except the US, no other nation can even think of such a strategy, however brilliant their economic advisors maybe. And the US … cannot keep doing it forever and bet on the hegemony.

    The lateral thinking – “taxes do not finance anything and taxes are destroyed” is too dangerous :-)

    The closed economy analogy that interest paid on government debt is not a burden does not carry in such a straightforward manner to the open economy.


    it’s not that you import more, it’s that they export more.

    seems we differ on causation?

    it’s the nation that desires to export that has to net save your financial assets to do that.

    you can’t decide to run a trade deficit if no one wants to net save your financial assets.

    it’s only when they want to save your financial assets that you get the opportunity to run a trade deficit.

    Ramanan Reply:

    Thanks for engaging Warren.

    Yes we differ in causation.

    My decision to buy an iPod is not due to the desire of Americans to save in rupee. Its because the nation is not competitive enough to manufacture an iPod. Likely Citibank reduces its rupee liabilities and hence doesn’t “desire to net save”. The trouble is with the word save itself :). If the Indian government goes into a fiscal austerity mode, it very reduces the trade balance without any decision of the external world to save in rupee.

    On the other hand, capital inflows into a country could be a bit beneficial because it improves the balance of payments position and the government can push demand a bit to allow more imports.

    This debate of trade balances is incredibly difficult to resolve. It involves almost everything from behaviour of various actors of the economy to the ultimate question “What is Money” to questions about sustainability and value of the currency and the dynamics of currency movements. It also has to do with the word “borrowing”

    Here is Wynne Godley in 1995:

    Refuting the “All Investment Is Good” Argument

    It is sometimes said that the external deficit is harmless because it is nothing other than investment in the United States by foreigners and that this can only do good. Indeed, Table 4.1 of the NIPA labels the balance of foreign transactions as “net foreign investment.” (This argument was used extensively in the United Kingdom during the ill-fated “Lawson boom” of the late 1980s when a rapid expansion of demand, as a result of tax cuts and credit deregulation, led to a large external deficit.)

    This argument has no substance. A decision by foreigners to invest in the United States is beneficial to the extent that it creates productive assets here that would not otherwise have been created and that have the effect of raising productivity, thereby generating additional exports at least large enough to cover any addition to profits flowing abroad. But the U.S. deficit in goods and services, which accounts for the bulk of the overall current account deficit, cannot possibly be said to have been caused by decisions of foreigners to invest in the United States; rather, the deficit was caused by decisions of U.S. residents (individuals and corporations) to purchase imported rather than domestically produced goods and by the relative weakness of US exporting industries. Of course, an external deficit, generated in this manner has to be financed, which means that, by hook or by crook, foreigners have to be induced—perhaps by higher interest rates or by depreciation of the dollar to the point where the expectation of subsequent appreciation brings the money in to lend on a sufficient scale. But it is misleading at best vacuous – to call such inflows “foreign investment.” Indeed, as shown in Figure 5, the net value of direct foreign investment in the United States has been more or less stable in recent years, so the whole recent deterioration in the net asset position has taken the form of increased ownership by foreigners of financial assets. Such assets (that is, equities and bonds) do nothing at all for U.S. productivity, but do generate negative income streams in perpetuity.

    Footnote: This point is an answer to those who quibble that the United States should not be called a “debtor” nation just because the net asset position is negative.

    Before someone even takes offence about higher interest rates and so, I refer him/her to Wynne’s 1983 text where he is seen to assume the central bank setting the whole yield curve (of govt securities) in many of his models.

    Of course a criticism of the phrase “net foreign investment” but one can replicate this.

    A nation cannot be assumed to be in trade deficit forever. Sooner or later, it leads to exploding interest payments to foreigners leading to a currency fall. Only in a laissez-faire economy can one assume the currency to adjust smoothly. To defend the currency, you need to increase interest rates in order to save your currency, whether that works or not.

    That brings me to the question – if you are worried about a fall don’t you think that exports will increase when the currency falls ? Doesn’t work in practice. Secondly you have imported inflation as well. Thirdly, however brilliant the economic advisor or policy makers may be, the nation has to go into a fiscal austerity – in order to bring down the trade deficit.

    The other question is if you are really worried about the currency then why do you want your currency to depreciate etc. I have answered that point elsewhere.

    There are various things which can be said about “the central bank sets the rates”. It doesn’t mean that it can set it to anything it want independent of whatever is happening in the other sectors. It can decide whether it is 5% or 6% or some basis points here and there. In normal circumstances it is more flexible of course.

    A finally a funny question – if economics were so simple, how come people missed it. Surely there must have been countries which understood that fiscal policy can do good and overdone that!


    “My decision to buy an iPod is not due to the desire of Americans to save in rupee.”

    That’s a micro point, of course. The macro point remains- India won’t be net exporting unless it is net accumulating fx financial assets, one way or another.

    “A nation cannot be assumed to be in trade deficit forever. Sooner or later, it leads to exploding interest payments to foreigners leading to a currency fall.”

    Only if those interest payments are spent might that be the case.

    anon Reply:

    Americans can swap their net rupee assets for dollar assets. No shortage of dollars out there. It’s still a desire to net save.

    Ramanan Reply:

    Not sure what you mean. If you mean increase in saving of Americans in the accounting period, yes it increases because of the export. No debate about that.

    The point of debate is “net saving in the foreign currency”. If the Americans reduce their rupee liability because of an export, would you call it a desire to save in rupee ?

    The Saudis export oil to India and India pays in USDs. Who is “desiring to net save in what currency?”

    The debate is not about S in the identity G – T = . . . if you think that is what it is.

    anon Reply:

    An exporter net saves in the currency in which the export is invoiced in, e.g. rupee.

    The exporter can then adjust the currency composition of that net financial asset by using the foreign exchange market, e.g. rupee for dollars.

    The exporter chooses the invoice currency and his subsequent portfolio strategy.

    Net saving in the currency of invoice becomes a net financial asset in the subsequent currency of his choice.

    Who’s saying otherwise?

    I don’t see what your issue is here.

    Ramanan Reply:

    I do not disagree at all. But you may ask “what is the debate then”

    If I buy a book from, here in India, amazon doesn’t “exchange it” -its automatic. Citibank (a US firm) passively reduces its rupee liabilities. It doesn’t “allocate” rupees.

    How about seeing it that way instead of a US citizen buying a Chinese car where the Chinese exporter gets paid in dollars itself. The Chinese exporter may purchase US assets or exchange it at the PBoC (indirectly) in which case the PBoC purchases more US Treasuries. There is a great relation here between the US and the Chinese, except that it leads to unemployment in the US and a weakening of some industries. (The MMT argument/solution/demand is relax fiscal policy etc).

    If I do not use a multinational firm’s debit card and if the transaction with amazon happens through a correspondent banking system, then my bank’s dollar assets fall and its rupee liabilities decrease.’s income has increased. It doesn’t care to net save in rupees.

    Now you may not disagree with this, you may ask “what are you debating then ?”

    In all these transactions, it is important to keep track of the decisions of every actor in the economy. For example, a poor African nation doesn’t run trade deficits because foreigners want to save in their currency. They end up saving in their currency, say by purchasing government bonds. (Accounting transactions flows must finally ‘add up’). Do the foreigners readily purchase government debt of the African nation ? Can an African nation running continuous current account deficit set the interest rates at any level it wants ? No worries about the exchange rate? Fiscally expand to increase imports ?

    The MMT argument about trade deficits interprets the sectoral balances identity as govt deficit = domestic private sector net saving + saving of the rest of the world in that currency and gives it the behavioural dynamic – trade deficit (the second term) is because of the net saving desire of the rest of the world in that *currency*. The foreigners may not be net saving in your currency. The adjustment may happen because you lose foreign currency. Even at this accounting level there are some ambiguities. Add behaviour and you end up meeting all kinds of complexities.

    anon Reply:

    “Citibank (a US firm) passively reduces its rupee liabilities. It doesn’t “allocate” rupees.”

    It’s not passive.

    Citibank doesn’t run a short rupee fx position in anticipation of trade flows that give it offsetting longs.

    Global banks actively manage their fx positions. They’re not passive.

    And I think with respect you’re making the mistake of confusing liability management transactions for passive flows. That’s not the case any more than it is for asset transactions. There is an allocation in both cases, to use your word connoting activity.

    anon Reply:

    BTW, a good deal of the CA deficit issues you’re interested in may be confirmed by operational understanding of international accounts in banking.

    Ramanan Reply:

    Not sure what you mean here Anon. The whole point I am making is that there are accounting transactions and behavioural aspects. If one neglects behavioral aspects, its really difficult to see many things.

    If Citibank reduces its rupee liabilities when I purchase an import, what happens next, can you tell me?

    Yes global banks manage their fx positions – never denied that. But my points also illustrate the complexities in all this. If you do not like the Citibank transaction, you can forget that and consider the transaction which involve Indian banks only.

    Since you talked of liability management, you can then maybe see that. The foreigners do not wish to purchase Indian IOUs. If the banks want them to go into Indian IOUs, they have to induce them into it. Indian banks regularly induce Non-resident Indians into term deposits because they acquire dollars or the central banks asks them to do so. (Some banks are State owned).

    The most important point I am trying to make is the volitional decision of citizens to purchase imports rather than domestic products.

    You are arguing the way because you are conditioned in this blog to think like that.

    The whole thing is a bit similar to government borrowing. No attention is paid to the lender and the demand for government bonds. It is perfectly possible that the Public Sector Borrowing Requirement is growing faster than incomes causing increase in rates/yields. However it fortunately doesn’t happen.

    I am really not arguing with you on CA deficits. Its an argument against MMT. There are complicated things happening out there from a behavioral perspective. I haven’t disagreed with things you said, but I am just asking you to consider the complications.

    On the other hand, the questions is not if CA deficits are a problem. Its an argument about sustainability of CA deficits. Its an argument against the MMT stand that fical policy can resolve problems associated with CA deficits.

    I have brought the transactions a couple of times to highlight the con trick with Americans buying a Chinese car. There are zillions of assumptions there.


    fiscal policy can sustain domestic full employment and not worry about the current account per se.

    Ramanan Reply:


    You noted at Billy Blog during Marshall’s Longest that:

    “Many institutions issue US dollar money liabilities – the Federal Reserve, US domestic banks, and foreign banks issuing US dollar credit. The focus on “monopoly issuer of currency” obscures the breadth of these sources.”

    I am actually trying to go in that direction!

    When I thought about my arguments, it appeared to me that those are very close to arguments around the MMT description I summarized to which you rightly pointed out “…it begs the question” You then descibed the details on balance sheets of banks and non-banks and the points about nonbanks’ lack of information about the HPM position and their indifference toward it. Similarly, households do not care about banks. The exporter got paid in dollars and is happy. The bank may react to its reduction of rupee liabilities and an increase in dollar liabilities. I have not denied it. It comes after I have done the book purchase.

    Now the comparision to the case is different because in the case of government bonds, the transaction is financial and in the case of trade deficits, it is on the current account but I do see a few analogies.

    I have nothing against trade deficits – but many things to say about endemic trade deficits. To exaggerate a bit, MMT stand on the sectoral balances is that the domestic private sector and the foreign sector lust to net save in the currency and hence the numbers and Treasuries are alternatives to HPM. Of course, you more than anyone knows the trouble with this and know that it is important to make slices in the private sector instead of treating them as one.

    A country is said to be not borrowing from foreigners because … “where did the dollars come from in the first place”. It is this point which sounds intuitive but it leads to a conclusion that a nation cannot be a debtor to the rest of the world if the liabilities are in the same currency. On the other hand, poor nations have to INDUCE foreigners to purchase their IOUs in order to obtain foreign currency to buy some imports. Its also similar in nature to the points about HPM and there being something automatic about the private sector exchanging HPM for Treasuries. Some amount of causalities are also involved. Money is created at the banks but then you have someone mentioning “public private partnership”.

    Going back to imports, it may happen that the local bank goes into an overdraft position or is targeting some amount of foreign currency and hence has to induce the foreigners to be offered deposits.

    “Alluring foreigners by hook or crook” is not discussed. Instead it is seen as automatic. Similar to the case where the private sector purchases Treasuries.

    Ramanan Reply:

    When I used the phrase “passive”, I did not mean passive in the broad sense. What I meant was that the bank did not have a say in my decision to import. My decision depends on my income and the choices available in front of me. Whatever the bank does happens after that. Amazon is open to sell me the book but its decision was not due to its desire to save in my currency. It got paid in dollars.

    It is similar to government bond purchases. If you live in the US and purchase government bonds, neither the HPM nor the bank induced you to purchase government debt. You purchase it and the bank acts passively. It has to do something of course, but it comes later. (Comparing financial transactions with sales and purchases of real goods, but there are some similarities)

    anon Reply:


    Thanks for your thoughtful response. You put much effort into thinking things through, and I appreciate your references to my earlier comments.

    I’m not disagreeing with you so much as probing.

    I think MMT describes operations mostly correctly – either as they actually are, or as they might be :)

    These operational descriptions apply to domestic and international transactions.

    There is behavioural complexity beyond that as you say.

    “You are arguing the way because you are conditioned in this blog to think like that.”

    Yikes. Hope not.

    “When I used the phrase “passive”, I did not mean passive in the broad sense. What I meant was that the bank did not have a say in my decision to import. My decision depends on my income and the choices available in front of me. Whatever the bank does happens after that. Amazon is open to sell me the book but its decision was not due to its desire to save in my currency. It got paid in dollars.”

    Well, the bank offered you the exchange rate. And in return, it took on a long rupee/short dollar position. You’re happy, and Amazon is happy, but the bank does have a foreign exchange exposure at the margin. It really doesn’t matter if it has a pre-existing gross rupee liability that it offsets. It’s still a net foreign exchange exposure at the margiin. And so it has to pass that hot potato on or absorb it.

    Which brings me to another point – it appears in this example that the bank itself is the one doing the “net saving” in the foreign currency, so long as it holds on to the FX exposure. But that’s not the case at all, of course. The bank isn’t saving or net saving. It’s doing financial intermediation, which is not saving. The corollary to this is that, given the correct economic definition of saving, I’m not even sure it’s right to talk in terms of currency specific net saving. The currency specificity shows up in the follow up portfolio adjustment via various types of FX transactions. Those are not net saving transactions per se; they are follow up net and gross portfolio adjustments. And the idea that net saving per se is not currency specific is consistent with the idea that the GDP identities that give rise to the net saving concept ignore the substance of finance and financial intermediation.

    anon Reply:


    You probably noticed this elsewhere from Wray:

    “Does MMT apply only to the US–the issuer of international reserve currency? NO. Does US enjoy an advantage? YES. It is not likely that many other nations can run current acct deficits on a sustained basis at 8% of GDP with little impact on the currency. But the analysis I presented still holds. It still takes two to tango. If Mexico runs a trade deficit it supplies pesos to someone willing to hold them. That will continue as long as both sides want to tango. Many currencies have been added to international diversified portfolios (pension funds, sovereign wealth funds)–creating external demand for them that is somewhat similar to demand for the dollar as reserve currency. Those nations can conceivably run persistent trade deficits.”


    (Not necessarily an endorsement from me; just fyi)

    anon Reply:

    Sorry, wrong link above.


    Ramanan Reply:


    Thanks for some nice words.

    “Yikes. Hope not.”

    Okay maybe that was about myself till recently :)

    “The corollary to this is that, given the correct economic definition of saving, I’m not even sure it’s right to talk in terms of currency specific net saving. The currency specificity shows up in the follow up portfolio adjustment via various types of FX transactions.”

    Yes – its a bit close to what I was trying to argue.

    The reason that arguments such as Chinese saving in the US currency is used to defend the dynamics behind the external world is that its the best example of trade deficits and the US doesn’t have to induce the Chinese. Its forgotten that “alluring foreigners” is important in the discussion, someway or the other. Instead of saying the trade deficit is financed, it is said that Chinese are net saving.

    I have some issues with some MMT statements. Its difficult to disagree with the statements but the implications may be differently interpreted. For example, “two to tango” is difficult to disagree with and so is “imports are benefits”… It makes one feel like saying “Yes, but wait … ” .

    Yes saw the comment on ND2.0 – the US can run trade deficits for long, but as long as the government doesn’t reduce its fiscal policy, demand will be low. So are imports costs or benefits ?

    It’s a bit like saying house prices will increase as long as people keep speculating. But you don’t want it to happen. When it falls its painful. Similarly, the external debt position of a country increases its financial fragility. If it is denominated in foreign currency, the fragility is high. If it is in its own currency, its lower but still there.

    Back to your point about currencies. The debate about currencies can go into all debates possible – public debt to central banks to “What is Money”. My definition of the last question is the value is driven by “international acceptance”.

    Btw, digression. I found a comment of yours interesting. It was about debt issuance at all maturity instead of issuing 3m T-bills in as much quantity as the public demands and letting the rest remain as reserves. You said that such a strategy was not prudent. I found something on it. It maybe a bit neoclassical but interesting. It is usually said that the government pays a term premium etc. There are many things going on if you think carefully. The government may deflate its public debt because of growth and/or inflation.

    This Fed article
    Accounting for the federal government’s cost of funds

    Not sure what the paper says. But my intuition is somewhat like this. As the nominal numbers increase – both gdp and debt, the government is paying coupon on its previous debts but that debt was smaller. Something like that.

    Ramanan Reply:

    …government doesn’t reduce its fiscal policy

    should be

    …government doesn’t relax its fiscal policy.

    oliver Reply:

    the US can run trade deficits for long, but as long as the government doesn’t reduce its fiscal policy, demand will be low. So are imports costs or benefits ?

    It’s a bit like saying house prices will increase as long as people keep speculating. But you don’t want it to happen. When it falls its painful. Similarly, the external debt position of a country increases its financial fragility. If it is denominated in foreign currency, the fragility is high. If it is in its own currency, its lower but still there.

    I guess the MMT point is there is no reason for govt. not to relax it’s fiscal policy. Under that stance, and by assuming it is sustainable indefinitely, imports are only benefits. That also means that the debt position of a country, no matter whether external or internal (ESM’s point), but so far as it’s denominated in local currency (MMT prerequisite), does not increase the fragility of the system. Government is speculator of last resort :-). But, as you said before, adjustments may not be smooth and increase in severity. Maybe potentially even more so for the US than for smaller countries that continuously import inflation.

    oliver Reply:

    Not that you need any explaining on MMT matters – and certainly not by me. Just a quick recap for my own understanding…

    Tom Hickey Reply:

    I think the idea is that due to the accounting identity relating the government sector, domestic sector, and external sector, running a persistent imbalance (deficit or surplus) in any of these is eventually going to have consequences in at least one of the others that may lead to instability if this is not corrected by policy changes.

    MMT simply says that the consequences depend on conditions relating to real resources and participants’ interests (desires/aversions), as well as shocks and surprises (uncertainty). MMT holds only that accounting identities, which are tautologies, predict the future only insofar as sectoral balances must adjust accordingly.

    Government has some control over these changes through monetary and fiscal policy. While a great deal of attention is often paid to cyclical effects like unemployment/price stability, MMT is also concerned with structural effects of economic policy that affect real resources and sectoral balances.

    Ramanan Reply:

    “Under that stance, and by assuming it is sustainable indefinitely, imports are only benefits.”

    Big assumption if you are assuming it is not balanced by exports.

    The public debt accounting can be manipulated to arrive at an equation.

    d(t) – d(t-1) = def(t) – g/(1+g)d(t-1)

    This can be refined further to include interest payments to foreigners.

    When the public debt/gdp hits 1 or 100%, any deficit above growth rate implies an ever increasing debt/gdp ratio. When a country is importing, it puts a downward pressure on demand and the deficit should atleast be equal to the external imbalance.

    So we have a situation where the government does not have enough fiscal room.

    An ever increasing public debt/gdp ratio can be sustained as long as the currency markets allow it. At some point however – because debt/gdp ratio keeps increasing – a crisis is likely to be triggered.


    again, it matters a lot whether the interest is spent or not spent.

    Scott Fullwiler Reply:

    OK, so we have a scenario drawn up by you where the domestic private sector is a perennial net saver (since the deficit is larger than the external balance). So, we have little risk for a Minsky-style crisis in the domestic private sector.

    We also have the fact that the govt, as currency issuer under flexible fx, can set the interest on its own debt service, which therefore doesn’t have to rise with the debt ratio. This is the criteria for fiscal sustainablity even in the neoclassical sense. And it holds.

    Let’s also assume that these govt deficits have been run in a “functional finance” style, where the economy is maintained at full employment and there is domestic price stability at least to this point, as that is the only type of deficit MMT’ers would be in favor of in the first place. Note also that the fact that imports and interest on the external balance are endogenous simply reduces the multiplier effect of govt deficits–as long as the multiplier effect of govt deficits is >0 there is a finite deficit that would be run in a given year to achieve full employment (that is, Detroit Dan’s comment at the end of RAndy’s ND20 blog is incorrect).

    Given those assumptions about the nature of the scenario, you want to now make the assumption that currency markets will “likely” trigger a currency crisis because of the spiraling debt/GDP ratio.

    To that we would say, “maybe,” but there would seem to be ample possibility for this not to be the case. The domestic private sector is net saving. The govt’s fiscal position is sustainable even by neoclassical standards. The economy is at full employment with price stability to this point, and absent a crisis like you are suggesting there wouldn’t seem reason for this to change. Given these, it would seem that there is a range of possible outcomes that could rather plausibly include a far more gradual adjustment of the fx in the eventual case that int’l net savings desires change (particularly given flexible fx, so there would be no artificially pegged overvalued fx in the first place to speculate against).

    Tom Hickey Reply:

    Scott: “ Given these, it would seem that there is a range of possible outcomes that could rather plausibly include a far more gradual adjustment of the fx in the eventual case that int’l net savings desires change (particularly given flexible fx, so there would be no artificially pegged overvalued fx in the first place to speculate against).

    Yes, the way I understand the twin deficit (budget and external) hypothesis is that the resulting domestic surplus will necessarily be inflationary or that currency markets will gag on the debt/GDP ratio, and the correction is liable to be sudden, resulting in crisis.

    As Scot observes, with the knowledge of MMT provides, there are no good reasons to expect this, and there are good reasons tthat it is implausible.

    Ramanan Reply:

    Not suggestion that a crisis will be triggered with certainty equal to 1.

    Nothing neoclassical really about the equation, though you also say that.

    There is price competitiveness as well as non-price competitiveness.
    Simply because the exchange rate devalues doesn’t mean that a nation will automatically start net exporting. The monetary dynamics is demand-led but there are supply factors such as wage rate etc. Exports or competitiveness of a nation is a supply factor. During the currency adjustments, quantity adjustment of imports may not be so fast (the J-curve) – people still need to go to the office for work. It detiorates the current account and then you have another round of nervousness in the markets.

    Yes there are many possibilities which may happen.

    The fact that the central bank can set the interest rates at its discretion doesn’t mean it can set it to anything it wants. Other central banks’ rates are also important. Even in the present world, as opposed to a hypothetical world, the Treasury issues debt at maturities till 30 years in the US and in some nations it is even higher. You cannot expect a central bank to set the interest rates to zero when there are currency problems.

    Yes I understand the MMT style argument that import is just a demand leakage and reduces the multiplier effect of the government expenditure. However, increase government expenditure ends up increasing imports as well. This is because imports are reasonably proportional to the national income. The exports – can’t be expected to move if the rest of the world demand isn’t high. When there is some sort of problem, the government has to go into austerity, however brilliant its economists may be.

    Here is from Mccombie and Thirlwall’s 1994 book: (Page xxiv)

    It has been argued by some commentators that there is no need to be concerned about the current account deficit since the level of overseas borrowing is now determined by the private sector on the basis of commercial calculations about the costs and benefits of such a course of action. The only difference between borrowing domestically and abroad is that a risk premium is attached to the latter because of the volatility of the exchange rate. Any excessive borrowing overseas will be self-correcting as the cost of borrowing rises with an increasing risk premium as the deficit grows. The problem with this argument is that the resulting adjustments are neither smooth nor gradual. As the overseas debt to GDP ratio increases, the world financial markets become increasingly nervous about a collapse in the exchange rate with the consequent capital losses; once the exchange rate starts to fall, speculative actions are likely to be destabilising, leading to a rapid fall in sterling with the possibility of a vicious inflationary-depreciation circle occurring. The use of high interest rates to defend sterling has an externality effect of pushing the domestic economy into recession with adverse effects on investment and employment, even when there is existing unemployment. The Period of floating exchange rates from 1971 saw a number of spectacular examples ot the balance of payments constraining domestic macroeconomic policies. The sterling crisis of 1976 comes readily to mind, when the Labour government’s attempt to reduce unemployment in the face of excess capacity foundered on the balance-of-payments deficit and the collapse of sterling. Between early March and early June 1976, the effective value of sterling fell by a little over 12 per cent. Nevertheless, the government tried to keep interest rates low to encourage an increase in investment. As a result, sterling fell by a further 9 Per cent between early-September and mid-November. The fall in the exchange rate eventually caused a volte-face in economic policy; the minimum lending rate was raised from 9 Per cent in April to 15 Per cent in November 1976 and severe cuts in the PSBR were agreed with the IMP. Other examples include the failure of the ‘Mitterand experiment’ in 1982 at boosting growth, and the problems of the Italian economy during 1980-1981. The 1980s have also shown that even the US is not immune from pressures engendered by a balance-of-payments deficit.

    Also in case there is some confusion if it was fixed.


    the cb has then entire term structure of risk free rates under its direct control. not that it fully understands this

    fiscal policy can sustain full employment through any crisis

    tony seemed to have modified his thinking after I spoke with him, but can’t say he didn’t backslide since.

    Scott Fullwiler Reply:

    “Yes I understand the MMT style argument that import is just a demand leakage and reduces the multiplier effect of the government expenditure. However, increase government expenditure ends up increasing imports as well. This is because imports are reasonably proportional to the national income. The exports – can’t be expected to move if the rest of the world demand isn’t high. When there is some sort of problem, the government has to go into austerity, however brilliant its economists may be. ”

    It’s not MMT. It’s a standard Keynesian expenditure multiplier from most any Econ 101 textbook. Hold exports constant if you like. If “imports are reasonably proportional to the national income” then that’s the same thing as a fixed marginal propensity to import. All that does is reduce the multiplier. And net interest sent abroad reduces it slightly more. But if the multiplier is still >0, then you still have a finite deficit that can sustain full employment GDP in any given year.

    Scott Fullwiler Reply:

    “The fact that the central bank can set the interest rates at its discretion doesn’t mean it can set it to anything it wants. Other central banks’ rates are also important. Even in the present world, as opposed to a hypothetical world, the Treasury issues debt at maturities till 30 years in the US and in some nations it is even higher. You cannot expect a central bank to set the interest rates to zero when there are currency problems. ”

    Here, again, you are assuming a currency crisis is already occurring when you just agreed it won’t happen with probability=1. And I wouldn’t grant that you necessarily need to raise the cb’s target rate in the case of a currency crisis, at any rate. (And we’ve read McCombie/Thirlwall, as I noted before, and have never found it convincing or even applicable for the scenarios/policies we are proposing. Quoting them won’t help you if you are trying to convince us. Might help convince others, though.)


    Ramanan Reply:

    Maybe Econ 101. A stock-flow consistent analysis and the Harrod Mutiplier is certainly not Econ 101.

    That is okay if it doesn’t convince you or “not applicable to some scenarios”. Good to keep that in mind when you talk about a policy or a proposal to someone. More than a proposal, a lot of people are interested in the description.

    “Here, again, you are assuming a currency crisis is already occurring when you just agreed it won’t happen with probability=1.”

    I said “Not suggesting that a crisis will be triggered with certainty equal to 1.” which means I won’t be betting a farm on a currency crisis. Is not supposed to be taken as “it won’t happen”. Was talking of “in-liers” in that context.

    Scott Fullwiler Reply:

    You’d get the same result in an SFC model. SFC models like Godley/Lavoie have the same sort of multipliers. Fairmodel does, too, just with more variables.

    Ramanan Reply:

    Thats okay. Just saying such things are not Econ 101. And most of the models – including the Keynesian multiplier – assume perfect foresight. So one doesn’t know if they are correct. When you do not use perfect foresight, you get similar results in the long run but there are many differences.

    Oliver Reply:

    Ramanan or to anybody else of similar expertise. It seems I often read that Chinese and other countries who run trade surpluses with the US are collecting their US$ not primarily as potential claims on future US output or equity but to secure access to future energy reserves by the oil producing countries, most of which only export in exchange for US$, although I understand some have changed to Euro lately.

    If there is any merit to this story (is there?), this would mean that oil is a main, if not the main driving factor behind the US CA imbalance. What would change if the oil and gas exporters could be somehow forced to accept more than one currency, say Yuan, Yen, Euro, US$, GBP, etc? Would that work or help? Is that what’s behind the idea to have a basket of currencies as global reserve instead of the US$? Is the word reserve currency actually a euphemism for oil-reserve currency? And if so, is there any plausible way to achieve this and wouldn’t that eliminate the need for a reserve currency altogether? Or am I hallucinating up the wrong tree?



    Ramanan Reply:


    Good points.

    Nations try to run trade surpluses to avoid any issues with their ‘balance of payments’. Many countries have the resources but do not grow well because they run into a balance of payments crisis. To avoid any such issues, developing nations have adopted the strategy of export-led growth. One tends to think of Chinese accumulating US dollars in exchange for their products. However, it is forgotten that it creates higher incomes in their currency as well.

    I do not know international trade well to comment if oil is the main hindrance etc. It is possible. Looks like that to me. If that is the case, alternative sources can be a big driver of growth.


    Oliver Reply:

    I guess if the accumulation of US$ assets is primarily to support employment at home, the oil is less of a factor. Energy exporting nations would have to be forced to accept only the currency of the buying nation to have any effect. Doesn’t sound very realistic to me. Oh well…


    Ramanan Reply:

    Its both. The developing nations acquires dollars and improves employment. There is a catch however, the government keeps the demand low and its not so straightforward.

    Tom Hickey Reply:

    Henry C. K. Liu thinks that this is a pillar of dollar hegemony. It also is a feature of Petrodollar warfare. Trouble with this rationale now is that according to it the US should be pursuing a strong dollar to keep petro-import cost low. But the Bush administration jawboned a strong dollar and instead weakened it and left the Obama administration no wiggle room to strengthen it by decreasing deficits.

    Increasingly scarce vital resources are an important supply-side factor in the structural problem that the global economy is facing, although the chief factor is demand. Stirling Newberry looks at this here.

    The world is also growing short of formerly abundant natural resources like water and land owing to climate change. This is going to have as great an impact as shortages of vital resources. For example, in the not to distant future it is projected that 10% of Mexicans will have to emigrate to the US to survive. Similarly, a lot of nations in the area of the Sahara will have to emigrate, too. This will put pressure on the both North American and Europe to absorb them.

    From what I can gather, technology is not yet available to deal with the scale of the problem. So something’s gotta give, and that often means war.

    Not to worry, though. The Pentagon is out in front on this and has been gearing up. I kid you not.


    ESM Reply:

    Thanks for the Newberry link, but it’s nothing more than a rambling screed. I still don’t understand why liberals are so upset with Bush’s budget deficits. We’re running deficits 3x higher currently, and they’re still not high enough. Well, actually, I do understand. They didn’t like the modest tax cuts for the “wealthy.” But continuing to frame the tax cuts as causing irresponsibly large budget deficits is completely dishonest.

    Tom Hickey Reply:

    The point that I was interested in is the relation between the value of the dollar and the price of oil in dollars. For example, as the US allowed the dollar to fall, the price of oil doubled, raising the cost of fuel in the US, which ate up the stimulus. If the price of oil had remained where it was while the numbers were being computed, the stim would have been a lot bigger in real terms. What Newberry is claiming is that deficits do matter with respect to the value of the dollar relative to oil, since the Saudis control price and set price in relation to changes in the value of the dollar. As long as the US remains petro-dependent with a suburban commuting economy, then domestic fiscal policy is affected by deficits, which affect the value of the dollar relative to oil.

    zanon Reply:

    “The world is also growing short of formerly abundant natural resources like water and land owing to climate change. This is going to have as great an impact as shortages of vital resources. For example, in the not to distant future it is projected that 10% of Mexicans will have to emigrate to the US to survive. Similarly, a lot of nations in the area of the Sahara will have to emigrate, too. This will put pressure on the both North American and Europe to absorb them.”

    what a load of crap

    Tom Hickey Reply:

    Life is a crap-shoot. Place your bets. Those who see inflation as imminent are short long bonds and long gold/equities. Those who see deflation coming are long cash/bonds and short equities.

    Similarly, if you think climate change is in the cards, you are getting out of places where water shortages are predicted and buying where water will still be available. If you think that’s crap, you are buying up all that cheap RE in Phoenix.

    zanon Reply:

    that’s right toms hickey. tribespeople who scratch together living in saharan africa are saying “oh global warming so bad! sahara was verdant field just two years ago”.

    And those poor mexicans. never mind that mexico is run like crap, and has huge murder rate. it is warmer summer that will make them move to US or they will die.

    I guess this mean that anyone who move from Boston, where it is cold, to Arizona where it is warm, instantly dies as well, because if temperature goes up by 2 degrees it becomes uninhabitable by humans.

    Tell me Tom, can people who live in chicago live in Boston, or will they die the minute they step off plane into Logan because heat kills them?

    Tom Hickey Reply:

    Zanon, there are two major effects to consider if the planet warms. One is the effect resources such as water as glaciers that supply the major rivers melt and water sources decrease and eventually dry up.

    Secondly, the temperature quoted is a mean, and swings can be large. Humans cannot survive if the temperature rises too high. The elderly, frail, and children are affected first, then everyone.

    zanon Reply:

    Toms Hickey: Please go live in Chicago in February and then take plane to Mexico. You will see dramatic temperature swing but I think you will survive experiene.

    Or go live in Chicago in February and stick around until August. Once again, temperature swing will be dramatic and people seem to survive it just fine.

    I believe both old people and young baby are alive and well in both Chicago and Mexico. Some even travel between them and manage to not die as they go from -20 to 90 degrees.

    As for water being scarce resource, sure it is. So price it higher and conserve it more. It is wasted big time now. And we have no idea if global warming net make planet wetter or drier.

    i have lived in places very abundant with water and places that are very dry. they are different but both perfectly habitable.

    Tom Hickey Reply:

    Zanon, this is about the science, not anecdotal evidence. But if you want to focus on anecdotal evidence, what about the glaciers that are melting worldwide. I’m quite sure that Ramanan will tell that India is acutely aware of this, and the water shortages that are already in evidence there.

    zanon Reply:

    Tom Hickey:

    If global warming was about science i would take it more serious. it is about 1) money, 2) computer model, 3) fake data. I guess you did not hear about “scientist” using “tricks to hide the decline”.

    i know what science is from personal experience unfortunate for you. it is something that you can do experiments to falsify. Global warming fails this simple thing. it is cargo cult.

    And I am very well acquanted with probelsm subcontinent has with water. pakistan is in generation flood right now. Some of us have traveled farther. Ramanan would also tell you india has all sorts of problems for quite some time and currently have bigger issues than whether temperature 0.5C hotter in 50 years.

    i point out very simple fact which is, human being happily exist at vastly different temperature. Chicago, Boston, DC, Miami all have human.

    The guess for global warming is smaller than flight from Chicago to Boston. But for some reason, activity that people do every day with no issue becomes fatal when 1) simulated on garbage computer and 2) made much smaller

    it is nonsense. it also has nothing to do with MMT but you are just one brainless gusher of noam chomsky regurgitation. can you use bathroom without screaming “dollar hegemony” as you seem incapable to doing anything else without it? why don’t you save this drivel for kos

    beowulf Reply:

    Tom, North America has sufficient energy and water resources, the constraints are solely political. It means taxing gasoline and subsidizing synthetic petroleum production. At least a third of US oil imports could be replaced simply by the US Government retrofitting existing coal plants with the same Fischer-Tropsch technology used by Nazi Germany and Apartheid South Africa (there are newer, less water-intenstive technologies such as Global Resources Corp.’s microwave process).

    Electrifying the US rail network and cutting petroleum use with a 55 mph speed limit, expanding mass transit, car pools usage,telecommuting increasing auto fuel efficiency and alternative fuel usage could fill the other two-thirds of oil imports. Of course, the more nuclear plants we have (the Navy could build them out and sell the power just as the Army builds dams and sells the hydropower), the larger fraction of coal that can go to synthetic fuel.

    The other key resource is water and the political constraint involves our neighbor to the North. The greatest infrastructure proposal of the 1960’s (oh who are we kidding, of all time!), The North American Water and Power Alliance, would provide Canada, the US and Mexico more fresh water than what we’d know what to do with (but we can leave that problem to our children and grandchildren to figure out). To get from here to there will involve bribing our Canadian friends into cooperation. I direct your attention to the most awesome youtube video ever.

    Tom Hickey Reply:

    “I guess you did not hear about “scientist” using “tricks to hide the decline”.”

    You are behind the times. That was investigated and debunked.

    Tom Hickey Reply:

    Beowulf, I am not saying that the world will end. I am saying that the world as we know it will end. There are deep resource constraints that will force profound structural changes.

    Americans, especially on the right, hate the idea of conservation, for example. They think that the world has unlimited resources that human can use as they want without consequences. That is not true, and prices will begin reflecting it. Americans can adapt to higher gas prices, but that will have a wide-reaching effect on nominal aggregate demand, with less left for discretionary spending and saving. Of course, the economy and lifestyles will adjust, but even $5 gas would mean big changes. There is a reason that all available tankers are filled with crude, waiting for the price to rise. There is also a reason that China is buying up prime farmland in Africa. The handwriting is on the wall.

    I am a proponent of Bucky Fuller’s idea that there are plenty of resources to go around and make life plentiful if humanity uses them wisely, IAW existing knowledge and technology, and continues to innovate as population grows. Of course, this would involve eliminating waste, too.

    The US (5%) cannot continue to use a quarter of the world’s energy permanently. BTW, the Chinese just surpassed the US as the #1 energy user. Now we have two US’s. This is going to lead to pressure that will induce change economically and politically. The Pentagon recently announced that the Chinese have developed a missile that is precise enough to take out super-carriers, and this has denied the US of control of the seas. Lots happening these days. And then there is India coming on line very quickly, too.

    I am not saying that we cannot work this out. I am just saying that it is unlikely that we will do so in a way that doesn’t change present practices dramatically. I also think that this is going to happen in fits and starts, and there will be a lot of challenges on the way, since old patterns will be difficult to break and vested interests will stand in the way of change. But we are headed toward “one planet, one people.”

    zanon Reply:

    debunking has been debunked

    ESM Reply:

    As I pointed out elsewhere on this thread, the currency in which a product is denominated (oil was my example in fact) is of no consequence. Changing the payable currency only means that fx trading desks will end up dealing with different people.

    I think that a lot of people here are missing the forest for the trees when discussing foreign trade. Expanding a closed/domestic economy to include another person who we will call ROW doesn’t really change any of the MMT analysis. ROW may be big, he may be very productive, he may have large savings desire, and he may have an easier time avoiding tax obligations (although maybe not since he can be taxed on anything he sells or anything he buys), but I can’t see any way in which he would affect the situation in a fundamental way.


    Tom Hickey Reply:

    In its deals with ROW the US finds its currency value rising, falling, or remaining stable relatively, depending on changes in trade balances. When the dollar falls, petroleum rises and, since energy is the motor of the economy, all petro-dependent prices rise eventually, but fuel price increases almost immediately. This is the present fear about a fragile recovery that will be strangled by rising fuel costs. As far as I can tell, economists are chiefly concerned by deflation, on one hand, and fuel prices strangling recovery, on the other.

    The status of the dollar as global reserve currency and de facto global numeraire is also a factor that distinguishes it from other currencies. While it is true that everything is immediately exchangeable into everything else in the highly liquid fx markets, the dollar does play a special role in the current monetary system, entailing advantages and disadvantages.

    Even granting that there is no great monetary/economic difference among currencies, global politics thinks that there is, and right now it is becoming a hot button issue that is leading to dissension and calls for change.

    So I don’t think that this is something that can be shrugged off as irrelevant.

    ESM Reply:

    Suppose that the only country in the world is the US. And then suppose that we let Texas and Alaska secede from the union and create a new country called ROW. How would things change economically? Would things change economically?

    Tom Hickey Reply:

    Well, ROW would not be using all the petroleum that the US is now, so we are presuming an economy running on a different source of transportable energy. Texas is out of oil and Alaska doesn’t have enough. That would mean that the US would likely be using some combination of natural gas, coal, solar, wind, tide, geothermal and nuclear energy, and petroleum would be scarce and expensive, used only for high priority reasons. Some natural gas would be have to be imported, too, since TX now supplies about 30%. AK and TX would have to survive largely by exporting oil and natural gas, so it would be necessary for them to keep prices as high as possible by regulating supply.

    Things would definitely change economically, since suburbia depends on abundant, cheap transportable energy. The trend would be toward higher prices and greater conservation of transportable energy through a variety of measures. For one thing, a lot more people would not be commuting to the office with one or two people in the car.

    There would be deep structural changes in the economy to adjust to energy needs and pricing. This could be accomplished wisely through the development and deployment of alternative energy technology, or not so wisely, by relying mostly on carbon, chiefly coal, and nuclear.

    zanon Reply:

    ESM: This is excellent example.

    Terms of trade between US ex-TA, T, and A may get better or worse depending on bargaining power of those two against US ex-TA.

    For example, of T and A collude, they can do better. If US ex-TA can play T and A against each other, the maybe US ex-TA do better.

    Also, movement of dollar by itself tell you nothing about oil price in dollar. Dollar may fall because economy go to hell, oil consumption fall, oil price fall. or dollar may fall but oil price go up. Or Saudi change plan, dollar stable, oil go up or down depending. There are many factor.

    I am with ESM.

    ESM Reply:

    Let me a bit more specific about my hypothetical. The world consists of the United States and some oceans and that’s it. There is enough oil and other stuff being produced such that our standard of living is roughly equal to that which we currently enjoy (perhaps it is 10% lower because we don’t have hundreds of millions of workers in developing countries slaving away on our behalf — but it’s comparable). Most of the oil being produced, however, comes from Texas and Alaska. Of course, most of the wheat and corn being produced comes from the Midwestern states, cheese mostly comes from Wisconsin, and most of the cranberries come from Massachusetts.

    Texas and Alaska secede from the union, form a country, and call themselves ROW. They form a republic and perhaps even create their own fiat currency. My question is, what has changed from an MMT perspective for the rump United States? My claim is “not much.”

    Alaskans and Texans aren’t subject to income and property taxes imposed by the US, but the US dollar is still valuable to its residents/citizens for the same reason that tax-exempt people in the US still find the dollar valuable. They will still trade goods and services for dollars. So has anything changed? Do we care about the trade deficit the US runs with the new country of ROW any more than we cared about the trade deficit run between the other 48 states and Texas and Alaska prior to secession?

    Tom Hickey Reply:

    And I am contending that this doesn’t have as much to do with price as it does with the availability of real resources.

    zanon Reply:

    Toms Hickey: Yes

    ESM: So, what will negotiating position of ROW be vs US? What terms of trade will there be? Will ROW collude and jack up price? Or will it be divided and conquered?

    That is the dynamic that changes.

    But trade deficit is just as it is now — demand leakage that should be plugged up by less taxes/more spending

    Oliver Reply:


    Currently, the US as I see it, faces 2 opposing forces within the ROW. There are the competing producers who are trying to sell the US manufactured goods to prop up their domestic labour markets and / or hoard petrodollars. Among these, especially China has been accused of keeping its prices artificially low. This puts pressure on the US to keep its own currency cheap, if it wishes to counteract that tendency. The other group consists of those countries that run the monopoly racket of selling their carbon resources. Since the US is dependent on them, it is in its own interest to keep the US$ high. The question is, if the need for the exporting countries to accumulate $ were reduced because they could use their own currency to buy oil, could the US then focus on raising their purchasing power without constantly driving up the trade deficit? The answer depends on the exact motives of the exporting countries to accumulate US$. And a further question, possibly the more important one, is whether the demise of the status as global reserve currency would not put stronger downward pressure on the US$ than all others factors together?

    I may be missing 99% of everything that makes up the fx business, but just lumping the ROW into one big black box and saying it doesn’t matter seems very crude (pardon the pun) to me.

    ESM Reply:

    “I may be missing 99% of everything that makes up the fx business, but just lumping the ROW into one big black box and saying it doesn’t matter seems very crude (pardon the pun) to me.”

    Well, that’s what I’m driving at Oliver. I’m using my “crude”/toy example to determine why or how the ROW is different from Texas, or from Bill Gates, or from the Mashantucket Pequot tribe that runs Foxwoods casino. Ramanan keeps arguing (without any evidence that I can see) that a closed, domestic economy is different from an open economy that has foreign trade.

    When you and Tom and even Zanon talk about terms of trade and oil this and oil that and dollar hegemony, I think it is missing the forest for the trees.

    Let’s try to simplify ROW into a single entity that is part of our domestic economy. ROW is very, very rich. ROW is very, very productive. ROW produces $1.7T of goods and services a year and sells them to other people in the US, and ROW purchases $1T of goods and services from other people in the US. ROW is happy (for his own reasons — perhaps he wants to be #1 on the Forbes 400 Richest People List) to accumulate $700B of net financial assets per year.

    Does it make you feel any better if ROW is a United States resident? A citizen? A person, corporation, or a state subject to the jurisdiction of the US? If so, why? If not, then why aren’t we worried about the various trade deficits among and between US states, or US cities, or US neighborhoods, or US families?

    I just wanted to address your comments on oil briefly. As Warren has pointed out many times, Saudi Arabia has modest control over the world price of oil (not total control — they couldn’t make it $300 per barrel or $30 either). It is not a monopoly producer, but it is a swing producer. This situation arises in many areas of the economy, and there is nothing special about the oil market. Oil is an extremely versatile commodity. Almost any kind of oil can be extracted, transported, and refined (for a price!) and the refined products can be uses in thousands of different ways (with varying opportunity costs). As such, oil is an elastic commodity, and world demand and supply will adjust fairly quickly to create balance and alleviate shortages. I am not concerned one iota about running out of oil. We will not run out. The price instead will rise and new (now economically feasible) methods of extraction will be employed, and on the demand side there will be (now economically feasible) substitution. Sure, our standard of living will decline as the price rises, but oil consumption is less than 5% of our GDP, so how big an effect can it really be?

    I am no fan of the Saudis, but I do not begrudge them their swing producer status. I only wish that we would tax oil appropriately to pay for the free protection our navy is giving the super oil tankers as they ply the Persian Gulf.

    ESM Reply:


    Didn’t mean to lump you in with the others as missing the forest for the trees. The collusion aspect is an important consideration for the secession example. Presumably, the US government has the power to prevent collusion for residents under its jurisidiction, although I believe that power is limited. In any case, in the real world ROW is made up of hundreds of different countries, so collusion is probably impossible, although obviously legal. In reality, ROW is colluding to keep the dollar strong, so in fact they are colluding to give us better terms of trade. I doubt that Texas/Alaska would be quite so dumb.

    Ramanan Reply:

    “Ramanan keeps arguing (without any evidence that I can see) that a closed, domestic economy is different from an open economy that has foreign trade.”

    The point is if I give out examples, someone will drop a news item showing that the central bank tried to intervene etc and it was not a floating currency.

    The point is that if I give out example, it will be told that the government didn’t relax its fiscal policy etc.

    The economic system is not so straightforward. There are a lot of smart people out there working in central banks who haven’t figured out things.

    The point is that I will be told that its gold-standard thinking. Here is something to surprise you – money was not exogenous in the gold-standard era!

    zanon Reply:

    ESM: I brought up collusion simply because negotiating power alters terms of trade, which is real consequence of what is in US and what is in ROW (in your example).

    In real life, this is reflected by questions like — how powerful is OPEC? ASEAN? Eurozone vs individual europe state? All may impact real ToT.

    But, it is the real ToT channel that is material, not anything else. We are agree.

    ESM Reply:


    My central point is that the consequences of the US trading with a foreign country which behaves in a mercantilist fashion is indistinguishable from an increase in savings desire from people in Texas because, for example, Texas created tax-advantaged retirement accounts, or because it enacted a hefty sales tax.

    You care if the Chinese create aggregate demand leakage for the US economy, but you don’t care if Texans do. Why is that?

    Zanon has pointed to the fact that the federal government can at least stop people in Texas from colluding in order to raise the prices of goods and services they offer to people in the rest of the US. This is true to some extent, but that hasn’t stopped states from subsidizing the purchase of certain goods and services by its own citizens (which is equivalent to raising the price for goods and services for out-of-staters). Also, I think it is hard for the ROW to collude in such a way to hurt our terms of trade. It is somewhat easier for them to collude to help our terms of trade!

    Another possible point you can make is that there is freedom to relocate within the US. So people are free to move from Michigan to Texas if Texas is running a big current account surplus and all of the jobs move there.

    Are those the distinctions you think are important?

    As to the existence of endogenous money under a gold standard, of course, money is credit and anybody can create credit. I even think Warren makes too much of the insolvency vs inflation distinction.

    Under a gold standard, the risk is that the ability or the will of the government to maintain a fixed ratio between a dollar and an ounce of gold will be undermined. As the government’s creditworthiness decreases, the value of a dollar drops versus gold. We say that the dollar is dropping because of the risk of insolvency, but is that really distinguishable from the risk of inflation from the government spending too much and taxing too little? The really important difference, of course, is that under a gold standard the value of a dollar is tied to the supply and demand of a stupid, useless, yellow piece of metal rather than the aggregate demand for goods and services and the capacity of the economy to produce those goods and services.

    Tom Hickey Reply:

    But, it is the real ToT channel that is material, not anything else. We are agree.

    Yes, this was Newberry’s point in the post I cited.

    Availability of resources in not growing proportionally to global demand, especially when the global economy begins to recover. China and India are already coming on line and other large countries will follow in the not distant future.

    This is has three significant effects. First, when supplies are tight, even marginal producers have price-setting power. Secondly, China is cornering supply for its own use through ownership contracts, and restricting exports of vital resources like rare metals necessary to technology. Thirdly, the existing structure of the US economy is dependent on vital resources, like oil, that must be imported. As far as the US goes, this is going to mean profound structural changes, involving reduction or standard living, drastic change of lifestyle away from the wasteful consumer society, or technological innovation that produces less expensive resources, especially energy.

    This is not just an adjustment in the fx market, where altered prices of resolve the distributional problem. The US cannot afford to run a consumer-oriented, suburban-based society on $10-15 per gallon gasoline without making drastic and wide-spread changes. Rare metals are essential to much of the cutting edge consumer electronics. Etc.

    This is not to mention the externalities associated with carbon-based fuel. Leaving climate change aside, air pollution is becoming increasingly menacing and costly to health. When this is included the true price of carbon-based fuels are much higher. And that’s not considering the cost of the free protection service that the Pentagon provides to US industry, especially the energy industry, either.

    ESM Reply:

    “Thirdly, the existing structure of the US economy is dependent on vital resources, like oil, that must be imported. As far as the US goes, this is going to mean profound structural changes, involving reduction or standard living, drastic change of lifestyle away from the wasteful consumer society, or technological innovation that produces less expensive resources, especially energy.”

    No offense, but this is just completely wrong. The US economy isn’t dependent on anything except the Constitution, the rule of law, and competent government. And two out of three ain’t bad.

    Our standard of living is not going down. It is going up. It would go up faster if somebody in power understood the slightest thing about MMT and if Congress would pass a payroll tax holiday and then go on holiday itself, but it’s still going to go up fairly rapidly over time. The fact that 400MM formerly unproductive Chinese are now extremely productive is a blessing for them and for us.

    “The US cannot afford to run a consumer-oriented, suburban-based society on $10-15 per gallon gasoline without making drastic and wide-spread changes. Rare metals are essential to much of the cutting edge consumer electronics. Etc.”

    I think as little as five years ago, most people thought the US couldn’t tolerate $3.5/gallon gas either. Go figure. Gasoline isn’t going to $10-15/gallon any time soon, but you know what, it wouldn’t even be that big a deal. We’d drive less, use more public transportation, bicycle and walk more, and within a few years you would start to see articles in the NY Times about how much money we’re saving on health care costs because everybody is so much healthier.

    Your pessimism reminds me of the people who fretted about overpopulation in the 1960s or global cooling in the 1970s or global warming in the 2000s.


    with $15 gas is the govt would scream ‘inflation’ and the ‘cure’ would be the real problem

    Tom Hickey Reply:

    ESM, I admire your optimism, but obviously I think you have your head in the sand. We’ll see.

    ESM Reply:

    I do have my head in the sand. I’m expecting to find oil. :^P


    and wind up eating the sandwiches (sand which is) there…

  13. Tom Hickey says:

    Both of these are different from formal rules today.
    Whether they are different from actual informal rule (aka reality) is different question that people can debate on.



  14. anon says:


    Good description, but it doesn’t address the issue; it begs it. The argument that the government (central bank) supplies the HPM necessary to pay for bond auctions doesn’t address the ambiguity of MMT’s operational description at all. In fact, it hoists it on its own petard.

    One way of expressing the ambiguity of the MMT operational description is through the example of a catastrophic bond auction failure. A bond auction failure is consistent with the idea that potential purchasers are afraid of the risk of capital loss inherent in a fixed term instrument, due either to the misplaced fear of involuntary government insolvency, or the not entirely misplaced fear of voluntary default, or the more real immediate fear of higher term interest rates, given the presumed circumstances of high deficits and/or debt coupled with the high inflation that would be consistent with such an auction failure.

    The additional supply of HPM does nothing to prevent such a scenario of failure. First, most bond auction volume is bought by non-banks. Even if non-bank deposit balances were increased as a corollary effect of central bank HPM injection, non-banks don’t care about the HPM position of banks. It doesn’t affect their decision making. Second, there is absolutely no guarantee that increases in associated broad money balances held by non-banks will necessarily be used to purchase bonds under the circumstances described. Non-banks may well prefer to hold short term money balances with virtually no risk (i.e. bank deposits) than securities with capital risk due to potentially higher term interest rates (treasuries). Third, even if bank HPM balances have increased, this isn’t categorically enough to induce banks (instead of non-banks) to purchase term securities under the conditions described. Similar to non-banks, banks may well prefer to hold HPM balances with no capital risk (reserves) than securities with capital risk due to potentially higher term interest rates (treasuries). Fourth, if the policy rate is greater than zero, and HPM injections put downward pressure on short rates, and the central bank then confirms that with a policy rate change, so be it. But that also won’t necessarily be sufficient to induce banks to buy term securities under the conditions described. That’s wishful thinking as opposed to a required logical result.

    So the risk is that nobody will buy the bond auctions under presumed catastrophic risk conditions. And HPM injections won’t necessarily be sufficient to change this. The only way the government will be able to deal with the deficit under those conditions is to monetize deficit expenditures without bonds (or equivalently have the central bank buy newly issued bonds directly, or undertake some other internal bookkeeping finagle that effectively monetizes the deficit without publically issued bonds). So the entire scenario and the entire MMT proposition about government not being revenue constrained boils down ultimately to presuming the fall back position of no-bond monetary operations, which is an institutional change from today’s monetary system.

    The HPM injection argument is a weak one, because it uses the very mechanism MMT insists is the one necessary for short term interest rate control to develop an argument that depend on interest rate risk factors that are beyond its control, given the actual operation of the monetary system as it exists now, with bonds and with associated term interest rates determined by the market. And here there is another internal contradiction in the MMT position. The described scenario taken to its logical limit could mean that the government injects HPM to the maximum by buying all market bonds, in an effort to pump prime the system just to absorb new bond issues. But that just results in full monetization and a no bonds result, thereby ravaging the objective of temporary HPM injections as a pump primer. The HPM injection argument is a failed response to the question of fundamental ambiguity that was raised in Marshall’s latest/longest.

    BTW – since acceptable vocabulary apparently now includes the notion that “no bonds” monetize government expenditure, clearly the purchase of bonds by the central bank must also be effective monetization. This is because government bond issuance + central bank bond purchase = no bonds = effective monetization. The transitive property is operative here.


    zanon Reply:


    I do not understand MMT pushback on this anon. If Govt spending is operationally unconstrained, then either you have CB make purchase, or you have Treasury account that can overdraft.

    Both of these are different from formal rules today.

    Whether they are different from actual informal rule (aka reality) is different question that people can debate on. It is clear in my mind, but it is OK for other people to have other opinion.


    Oliver Reply:

    Both of these are different from formal rules today.

    Whether they are different from actual informal rule (aka reality) is different question that people can debate on. It is clear in my mind, but it is OK for other people to have other opinion.

    I think there is agreement on that.


    Ramanan Reply:


    Great points. In fact the tone of my comment (to which you replied) was intentional – to make it look like it begs the questions you have raised.

    Will come back with more points.


    Ramanan Reply:

    In fact I am 100% with you on your description in Marshall’s Longest :

    Here’s the operational sequence in the current system:

    – Government borrows

    – Non government deposits and reserves are debited

    – Treasury general account is credited

    – Central bank injects required system reserves via system repo

    – Government spends from treasury general account

    – Non government deposits and reserves are credited

    – Treasury general account is debited

    – Central bank withdraws excess system reserves via system reverse repo

    (though I will replace the last by “allowing repos to mature” instead of reverse repo)


    Tom Hickey Reply:

    Ramanan: Here’s the operational sequence in the current system:
    – Government borrows (should read “Treasury issues securities and Fed sells to primary dealers at closed auction?”)
    – Non government deposits and reserves are debited
    – Treasury general account is credited
    – Central bank injects required system reserves via system repo
    – Government spends from treasury general account (“spending” should read “disburses.” Not all government disbursements are spent on government purchases, correct?.)
    – Non government deposits and reserves are credited
    – Treasury general account is debited

    – Central bank withdraws excess system reserves via system reverse repo

    Ramanan Reply:


    I don’t really agree about the change of language. What is wrong with “government spending” ? Usage of a different language will be a hindrance on how you explain these things in a more axiomatic framework.

    There are genuine advantages of using phrases such as “deficit” because the usage of that phrase allows one to explain things such as “one sector’s deficit is another’s surplus”.

    Tom Hickey Reply:

    Ramanan, “government spending” is very pejorative in the US. It lies at the basis of the neoliberal criticism of Keynesianism, and the GOP tarring of the Dems as the party of “tax and spend liberals.” Government disbursements cover interest payments (a subsidy for the rich) and Social Security disbursements, which are very popular. “Spending” mischaracterizes a lot of what government does with its funding.

    Ramanan Reply:

    In fact I do not accept that debt monetization is “out of paradigm”. It is done in Japan plus I am sure there are developing nations where auctions fail – leading to central bank monetization of the government debt. Reserves increase and overnight rates may fall to zero but the central bank is forced to abandon targeting overnight rates to prevent a mini-crisis. And banks – they are not sure about what is happening and the overnight rates may not really fall to zero.


    Tom Hickey Reply:

    We have already discussed auction failure in terms of US operations. Primary dealers are required as primary dealers to take the auction, or resign as primary dealers if they don’t want to participate. From its side, the Fed buys back the bonds soon after the auction. It’s perfectly legal. The Fed just can’t purchase the bonds directly from the Treasury, but it can do so indirectly through OMO. No problem.


    anon Reply:

    Under the conditions of catastrophic failure as I have described, what you have described falls under my definition of “finagle”. It’s an absurd deception away from the operational reality of last resort monetization. The catastrophic conditions I describe mean dealers have no client bids for securities. There’s no way the dealers themselves are going to take the associated bond risk on the basis of some moral commitment to buy bonds. The central bank must guarantee a full buy back of the bonds in this scenario. This is effectively monetizing the deficit, notwithstanding such circuitous deception. This scenario represents a complete breakdown of the monetary system as it is currently intended to function, and defaults its operation into the no bonds contingency that is required by implication but not admitted explicitly in MMT descriptions of operations. That’s a big problem for effective MMT communication of its analytical framework.


    Tom Hickey Reply:

    This is similar to what happened during GD I. FDR got Congress to end the gold standard and even order confiscation of hoarded gold. All bets are off in the scenario you describe. Could something like this happen if there is a GDII? We may get to see if we stay the present course or tighten, and deflation sets in as some (Krugman) are predicting. In that case, I would assume a “Keynesian” solution, and if we are fortunate it will be along MMT lines. Of course, the liquidationists could prevail instead, and then we would be in the really deep doo-doo of spiraling debt-deflation as asset value plunges into the abyss, causing a massive wipe-out.

    Sergei Reply:

    Dealers finance themselves at ON and invest long-term. This stuff is risk free so no capital costs. They will be happy to buy bonds as long as Fed is ready to repo them. Which is a different issue. However at interest rate policy being a main instrument it is not an issue at all.

    beowulf Reply:

    Amazing then that during World War II, short term bond rates didn’t move up above 0.375%, long-term bond rates never got above 2.5%, and yet there was never a “catastrophic bond auction failure”, even when the US Government was running 15% to 30% of GDP ($2 trillion to $4 trillion a year in 2010 terms) in budget deficits year after year. Go figure.

    Ramanan Reply:


    During the time, the Fed and the Treasury decided to set the yield curve and there was debt monetization. Describe it is debt monetization instead of calling it gold standard.

    I am sure Anon understands this. Don’t know why it is so difficult to miss Anon’s point.

    Ramanan Reply:


    Completely agree on non-banks buying most of the debt and discussions around HPM and your usage of the phrase “wishful thinking”

    The only explanation I am comfortable is the one which talks of private sector income and increase in income due to government spending and this leading to chasing government debt as a form of saving.

    There are many other things related to auctions – such as the point in your “b)” plus markets assuming that “b)” can be used anytime plus they incorrectly assuming that governments can “print money” and/or use the seigniorage powers hence cannot default.

    The reserve accounting is insufficient to prove that all auctions will be successful.

    Also, as you correctly pointed out, the non-banks do not have any information about the HPMs banks hold and more importantly simply do not know about it.


  15. Sergei says:

    MMT is a theory which aims to describe an abstract concept which applies in the broadest possible range of cases in reality. So while governments are definitely not constrained there still should be someone who has to push the button when time comes. Whether there is someone or button is irrelevant from the theory point of view.

    Pretty much to the same extent as it is irrelevant for the relativity theory to really see that time slows down as one approaches the speed of light. If we get there then we can clearly say whether the theory is right or not. But the fact that _operationally_ (i.e. from current practical positions) can not get there does not mean that relativity theory is wrong and any mentioning of speed of light and time slowing down should be purged from the theory because it is not what our current practice tells us. No, speed of light and its effect of time is the _crucial_ point of the theory.


    Paul Andrews Reply:

    “MMT is a theory which aims to describe an abstract concept which applies in the broadest possible range of cases in reality”

    On the contrary, MMT makes specific recommendations and is being used to try to justify increased government spending, here and now.

    The theory of relativity doesn’t recommend that we do anything. It merely says what would happen if we did do something. (By the way, please take my recommendation and do NOT attempt to accelerate yourself to the speed of light – doing so will definitely have unintended consequences).


    Sergei Reply:

    This is an extremely wrong conclusion.

    MMT-people have always recognized and emphasized that it is up to political consensus to come up with specific policy recommendations. MMT is policy neutral but MMT-people are not. Please do not forget it.


    Paul Andrews Reply:

    “MMT is policy neutral”.

    This is from “Soft Currency Economics” by Warren Mosler, claimed to be one of the seminal MMT works.

    The conclusion states:

    “It is to say that the full range of fiscal policy options should be considered and evaluated based on their economic impacts rather than imaginary financial restraints. Current macroeconomic policy can center around how to more fully utilize the nation’s productive resources. True overcapacity is an easy problem to solve. We can afford to employ idle resources.”

    This is clearly not policy neutral. The mere assertion that financial constraints are imaginary is in itself a policy prescription.

    I am ready to accept that this document misrepresents the theory. If so, please point me to a definitive work that describes the theory and is policy neutral.

    Sergei Reply:

    It is a pointless and time-killing debate to prove that round is square.

    MMT is 100% happy with 10% or any other arbitrary number of unemployment rate as long as political consensus is happy.

    And as a proper theory MMT can also objectively tell you what you should do to get to this number.

    Tom Hickey Reply:

    MMT is 100% happy with 10% or any other arbitrary number of unemployment rate as long as political consensus is happy.”

    I don’t think that is quite correct, Sergei. Economics is about efficiency and effectiveness. MMT points out that running an economy below its potential when that is unnecessary is inefficient (costly in terms of foregone opportunity and wasted/degraded resources) and ineffective (relative to both public and private purpose). MMT recommends certain courses of action based on purely economic criteria that virtually all economists generally accept as applicable standards for evaluation.

    Sergei Reply:

    Tom, “virtually” all does not mean all and neoliberals (quite a big lot today) do not accept it ;)

    So “recommends” is different from being able to explain or guide in case of recommendations driven by external considerations which contradict internal logic.

    Tom Hickey Reply:

    Tom, “virtually” all does not mean all and neoliberals (quite a big lot today) do not accept it ;)
    So “recommends” is different from being able to explain or guide in case of recommendations driven by external considerations which contradict internal logic.

    Sergei, this is why I claim that economics is not a science, nor even scientific. It is “prescientific” in Kuhn’s terminology. It lacks a normal paradigm and is a hodge-podge of competing ideologies with different norm that determine criteria. Where criteria are in dispute, rational debate stops.

    Economics is not pure science like theoretical physics. It is not even an applied science like engineering. It is a branch of social and political philosophy, with all that implies about reliance on arbitrary foundations that are not empirically testable. Moreover, economic models are insufficient to handle complexity.

    Economics is used to justify policy positions, largely on ideological grounds, buttressed by economic reasoning, which as an epistemologist, I can tell you is severely deficient because virtually none of it looks sufficiently outside the field for relevant information about human knowledge and behavior. The various ideologies ares also insufficiently informed about debate on key issues that has been talking place for millennia.

    As far assumptions go, economists mostly just make things up.

    Sergei Reply:

    Tom, I do not agree with this approach.

    We should split, as Putin once said, flies from meat. I believe we try to charge and load economics too much with our values so that we ourselves render it useless. Economics is a science because it gives you answers to questions which one can ask or solutions to tasks one can have. It is exactly in the same way as nuclear physics shows how to build nuclear weapons but nobody expects theoretical physics to say whether it is good or bad to employ these weapons. Why do we expect and even require economics to do it?

    Make it impartial. And then it will be too difficult to argue against it. That is precisely the way neoliberalism developed itself into mainstream. It is extremely mathematical which puts any human judgement out of equation. And that is why it is so difficult to argue with it because, you know, 2+2 equals 4. Or are you crazy?

    Tom Hickey Reply:


    There are two problems with neoliberalism. First, the assumptions are arbitrary and not empirically justified. In fact, knowledge gained from other fields speaks against these assumptions. Secondly, the math may correct but the models don’t fit reality. This is an indication that neoliberalism is an ideology more than a science. If it were a science, all economists would be arguing within this paradigm as the normal paradigm, but they are not. MMT’ers such as Bill Mitchell have copiously articulated this position. Other heterodox economists such as Michael Hudson have, too. Even New Keynesians like Paul Krugman and Brad DeLong severely criticize neoliberals for not knowing their economic history and making the same errors that were refuted long ago.

    Sergei Reply:

    Tom, argument was not about neoliberalism. I used it as an example of good strategy and good implementation despite shaky grounds. Why did they succeeded?

    I also do not agree with Bill though I completely share his values. And the key word here is values. Once you share common values you already agree on them and do not need any theory to justify your position.

    If economics wants to become a science it should get rid of values which are by definition subjective. What is correct for Christians can be wrong for Japanese however economics in both countries does comply with the same set of laws as we all know. So if people in the US dispute full employment that is fine but it does not mean that they live in the different universe in terms of economic reality.

    In physics there is theoretical physics and practical physics (sometimes referred to as engineering). In mathematics there is mathematics and applied mathematics. So maybe we should do the same in economics and split it into theoretical and applied economics? Different topics, different universities.

    Tom Hickey Reply:

    Sergei, about the only thing I see economists agreeing on is accounting identities. But then they disagree about what these identities imply, as well as over the data that is input.

    When there are disagreements in the hard sciences, there are criteria that all agree on as the arbiter. Yes, there are disagreements even in the hard sciences, but they are within the normal paradigm. Anomalies also arise in the hard sciences, and these ultimately provoke questioning that leads to a different way of seeing the problem.

    That’s not happening in economics. The mainstream is now acting as if the GFC never happened and nothing went amiss with their models.

    As far as constructing economic theories that are independent of norms (values) goes, the result is amoral, and when this is applied as social and political policy the result is amoral. For example, when efficiency is taken to be the overriding criterion, human rights often get violated. That is unacceptable legally, ethically, and morally.

    “Efficiency is doing things right and effectiveness is doing the right thing.” (attributed to Peter F. Drucker, although I have not been able to run down a citation to his work)

    The key question is the meaning of “right.”

    Tom Hickey Reply:

    I should have added that effectiveness implies purpose and purpose implies ends. Macro includes public purpose, for example, and social and political thinkers generally agree that an economy operates for a society’s benefit, not a society for the economy’s benefit.

    However, neoliberals and Austrians often presume that public purpose is limited to security of person and private property, that that societies exist for economies, especially when they argue based on efficiency as the chief criterion.

    strawberry picker Reply:

    Tom Hickey, you will like this article.

    Are the American people obsolete?

    The richest few don’t need the rest of us as markets, soldiers or police anymore. Maybe we should all emigrate
    By Michael Lind

    Salon Have the American people outlived their usefulness to the rich minority in the United States? A number of trends suggest that the answer may be yes.

    Tom Hickey Reply:

    This is what all aristocrats have thought, often with surprisingly dire consequences for them. Financial capitalism could easily backfire on them, since they are greatly in the minority. It takes a bit to get the people fired up, but when they get fired up, watch out. They will take down the current government and replace it with another and another until they get something that works for them. The one thing that trumps corporate cash in politics is voter wrath and nothing provokes voter wrath more than hard times in which the rich are doing well. Schumpeter could turn out to be right in the end about capitalism, socialism and democracy. But the proximate cause won’t be the failure of productive capitalism, but rather financial capitalism.

    strawberry picker Reply:

    Tom I used to ask mish 10 years ago if he was so upset with the government and the GINI coefficient, what would it take for him do to what the founding fathers did? And by that I would ask how much slavery, oppression, financial ruination would he have to personally experience before he would pick up a gun and start shooting? He couldn’t even define at what point he would pick up a gun. I know you are more intellectual than mish though and have defined for yourself at what point you will pick up a gun and start refreshing the tree of liberty with the blood of patriots right? But you are unique, I think the vast majority of americans are satiated to just go home and surf the net and chat on finance blogs, or watch some tv, and the thought of EVER picking up a gun to revolt has never seriously entered thier heads, we are a LONG way from revolution. I think the aristocracy can squeeze the middle class far more than they have, we aren’t even at the tip of the iceberg I think. I don’t it matters how many times we vote out incumbents, the system is so corrupted, new politicians will quickly be corrupted, and I don’t see the government being restructed to having 5000 seats in the house and senate to be more beholden to each voter.

    Matt Franko Reply:

    They might be smug right now that the ugly stabilizers have kicked in and helped the SPs recover from 666 to 1200 or so, got their portfolios out of the toilet, and they got Paulson to bail them out so they didnt immediately get thrown out of their jobs…but they are in deeeep do-do now. Their future is indeed cloudy.

    The May adjusted 267,000 housing start number is absolutely pathetic, it is probably Great Depression numbers and I dont think Im exaggerating. At 200k per home that is a measley $53B annual mortgage debt origination level. We absolutely dont need at least half (or more) of Wall Street/Banking Sector if this is all we are going to do. This has backfired on them. If they dont get the govt to divert to a balls-against-the-walls employment/income policy and pronto, they themselves are going to have to start looking for new employment soon imo.


    Tom Hickey Reply:

    Straw, I have experienced a lot of angry people on the Mall in DC, complete with tear gas, illegal detention, and the rest of what happened. People were shot at Kent State. It can and does happen here. The draft and Vietnam did it then, but a GD II would have a similar effect, I think, if conditions get really bad for a lot of people. The Tea Party folks are an early symptom.

    There is already social unrest in Greece, and the radical fringe has declared war on the government, threatening anarchy and warning tourists not to come to Greece. This, too, is a harbinger.

    I really don’t think that the people at the top, or even those that are doing well, get the anger that is rising across the land and around the world. A lot of people are fed up with business as usual. The tinder is there, all it is going to take is some sparks. I don’t think that the ruling class realizes yet that it is playing with fire.

    Sergei Reply:

    Tom, I do not agree. Every science is what we make it to be. A while ago physics said that Earth is flat and people could not agree what would happen once you get to the edge. And chemistry was making artificial gold. It was all full with ideology and values. Same things applies now to economics.

    I completely agree with you and Bill when you say that accounting identities are the basis but I disagree when Bill said that there is not much to add. If economics really wants to become a science it should get rid of such judgements. We all now know that some people favour unemployment. So why don’t economics study what one has to do to get unemployment? We also know that MMT has strong focus on inflation. So why don’t it study what we should do to get inflation and hyperinflation? Yes, economics is a special science in the sense that future is difficult to forecast but economics could study, for instance, different institutional structures and their effects on unemployment and inflation. And then once someone jumps out screaming hyperinflation and unemployment economics could say this is the most efficient way to get there. I.e. you want 10% inflation? Here is the best solution. You want 2% unemployment here is another best solution or even two.

    How can you argue then with these propositions? Your theory is free of values and offers objective solutions to any requirement. This also means that your theory does not fight against anybody. On the contrary it makes everybody happy.

    So just call economics a young and pre-mature science but the goal should be to become mature and not just to fight with other paradigms.

    Tom Hickey Reply:

    SErgei, I think that the disagreement is semantic. When you say,

    “A while ago physics said that Earth is flat and people could not agree what would happen once you get to the edge. And chemistry was making artificial gold. It was all full with ideology and values. Same things applies now to economics.”

    I would say that at this stage physics and chemistry were “prescientific” in Kuhn’s sense. There was no normal scientific paradigm. They had not yet branched off from “natural philosophy” and were stil under Aristotelian influence. That is about where economics is now. It is proto-science mixed with superstition and dogma. See Robert H. Nelson, Economics As Religion: From Samuelson to Chicago and Beyond (2002).

    However, I would also say that the physical and life sciences are essentially different from the social “sciences,” including economics. Efficiency in the physical and life science is reducible to the law of least action. Not so for the social sciences, science as yet there is no bridge that closes this gap.

    The physical and life sciences are unable to explain human behavior in terms of physical processes. Cognitive science and consciousness studies are still in their infancy. As a result there is not yet a science of psychology with a normal paradigm. Without a developed science of psychology, there cannot be a developed science of economics.

    When it comes to human functioning, economics makes assumptions. Many of these assumptions are just made up. They have no empirical basis, and they do not accord with what research in other fields suggests. This is a deep problem.

    Richard Feynman wrote a book about this entitled Every science is what we make it to be. A while ago physics said that Earth is flat and people could not agree what would happen once you get to the edge. And chemistry was making artificial gold. It was all full with ideology and values. Same things applies now to economics.. In it, he states what he sees as a physicists. His conclusion is that humanity is still in the dark about most of what really matters.The chapter headings give the idea: “The Uncertainty of Science,” “The Uncertainty of Values,” and “The Unscientific Age.”

    Similarly, David Sloan Wilson is in the process of writing a series of blog posts on evolution and economics, in which he severely criticizes economics as a pseudo-science. Economic anthropologists points out similar things. Economists just make things up. That’s ideology, not science.

    Sure, there are a lot of attempts to be scientific (empirical) and rigorous (math). But overall, there is no overarching view of how things work that is able to describe, explain, and predict with any great degree of accuracy. A broken clock is correct twice a day.

    Should economists be trying to do better? Of course, but without a better understanding of how human beings function and the ability to model this, it is going to be very hit and miss, and the misses are gong to exact a lot of dissatisfaction and even suffering when these ideas are applied to policy as through they were dogma.

    This is the real problem with contemporary economics. The various schools are dogmatic, and the one that gets the politicians’ ear is the one whose dogma gets enacted as policy. So far, none of what has been tried has worked very well at all, and the crises get bigger and bigger. What is worse, we don’t seem to learn that what doesn’t work, doesn’t work, and we keep on repeating the same or similar mistakes, often not even because of ignorance but because of “institutional effects,” meaning because certain powerful people profit from it.

    Tom Hickey Reply:

    Ooops, Feynman’s book is entitled, The Meaning of It All. It’s a quick read.

    Sergei Reply:

    Tom, I am very much with you on difficulties but my argument was rather skewed towards future and not past or present. In this sense the question is “Why should MMT play the typical economics story and not change the playing field?”. At the end of the day MMT does change the playing field of economic theory. So why not target a bit higher? Why should MMT limit itself to changing just playing field and not the whole landscape? Only by charging higher MMT has a chance of becoming a science which it will become very difficult to argue with. Otherwise one can forever be doomed in discussions of what is operational constraint and whether some unemployment is a good thing. I do see that MMT has potential to shift gears in any economic discussion. But at the same time I do not understand why MMT deprives itself of this opportunity.

    An example: many people are scared of debt ratios and want inflation. Fair enough. And this is what MMT has on offer. And as soon as majority of population becomes scared then this solution can be implemented.

    Another example: many people think that a fair share of unemployment is beneficial because it makes people do this and that. Great! Here is what MMT can offer. Ready to execute?!

    Yes, there are complexities and uncertainties with economics as a proto-science and MMT is no exception. But economics will never become a real science if it does not try to. And because MMT is flexible enough to accommodate any given or broad enough political requirements I am sure it can lead this charge. It is in this sense that I argued that MMT is policy neutral. It can easily become if it wants to but for some reason it does not want to. However with the academic firepower of neoliberals I am sure it will become it simply because there is not much to study in the accounting identities.

    And thanks for the reference to the Nelson book. Looks like I have to read it.

    Tom Hickey Reply:

    Sergei, I agree that MMT is on the right track by minimizing assumptions and emphasizing operational description and stock-flow consistent macro models. But even with that there are problems. One of the chief problems is with data. Globally, economic data is not so good. Even in the US, where there is a lot of effort spent on data collection and processing, there is a way to go. One of the difficulties is that economists don’t collect and process data themselves. It is too expensive, for one thing. They are dependent on governments to do this.

    The largest problem facing MMT is that is depends on fiscal policy, which is in turn dependent on politics. For example, in the US now the Bush tax cuts are coming up for expiration and there are almost no economists willing to say that they should be extended because they will be beneficial and essentially pay for themselves. The only one I know of is Art Laffer, who we know from Warren, understands the MMT operational descriptions. So this knowledge can be perverted ideologically, too.

    Their will be no real change in the US as long as both parties are wholly owned by the plutocratic oligarchy, and this situation has just worsened exponentially by the Supreme Court’s Citizens’ United decision, giving corporations the right to fund political campaigns since they have first amendment protection of free speech as legal persons. There is a reason that mainstream economists are in power. They carry the water and tow the line, and are handsomely rewarded for their trouble.

    There are two other problems with the MMT view also. One is that it does not sufficiently address what I believe are the fundamental problems facing the world today — externalities, energy constraints, and financial capitalism. Scientists are now saying that we have until 2015 to get control of carbon emissions; if not, catastrophe is coming to a place near you. Here is an article by Stirling Newberry laying out the energy contraints here. (Warren admits that the Saudis control the price of petroleum.) I have already provided links above to MIchael Hudson on financial capitalism’s parasitic extraction of economic rent.

    I don’t see any real forward motion until all these problems are solved. Full employment with price stability is a great goal that I wholeheartedly support, and I commend MMT’ers for their solution, even though I see it as politically impractical at present. But there are a lot of other pressing economic problems, too. We need a comprehensive economics for dealing with the problems we face arising from the challenge of globalization.

    If we had a normal paradigm for economics that fit with a normal paradigm for the social sciences, which is also lacking, that fit with the normal paradigms of the physical and life sciences, then I would say that a scientific solution is possible. Humanity is still a long way from there, and right now we are flying with blinders on.

    Sergei Reply:

    It is like a horizon. Humanity will always be a long way from there. But I am optimistic :)

    Tom Hickey Reply:

    I agree, humanity has come a long way and has a long way to go. It has not even eradicated slavery yet.

    Ramanan Reply:


    Since we do not know our future, some decisions have to be taken which have an effect both in the short run and the long run. If one truly believes that fiscal policy has a tremendous impact on growth, what is there to prevent him/her from giving views about policy decisions ?

    Economics is also a theory of employment and if decisions taken are not consistent with providing full employment and price stability, someone has to speak out.


    Paul Andrews Reply:

    I didn’t say one should not give views. I was pointing out a flaw in Sergei’s analogy.

    Oliver Reply:

    This is clearly not policy neutral. The mere assertion that financial constraints are imaginary is in itself a policy prescription.

    Every theory asserts something and therefore implies certain policies if one assumes the same underlying political aims (say full employment and price stability). And while mainstream practise boils down to ‘ya can’t have it both ways so let’s settle for maximum price stability because even small amounts of inflation will lead straight to Zimbabwe’, MMT asserts, that under realistic political and economic assumptions this will not happen, neither now nor in future so there is no excuse for muddling around.

    Basically, what MMT says is that mainstream theory unwittingly deprives itself of the possibilities at hand by shrouding empirical and logical evidence with vague imagery of Sodom and Gomorrha lurking around the corner, that its simplistic models predict and its anachronistic choice of words reinforce. It is therefore neither more nor less prescriptive than any other theory, but, so the story goes, more realistic in its predictions and therefore less ideologically biased and less corruptible in outcome.


    VJK Reply:

    Paul [August 2nd, 2010 at 8:14 am]:

    A very thoughtful exchange. You are making a number of interesting points.

    It looks as if some MMT proponents make truly bizarre statements, such as “Treasury Bond issuance is not borrowing”, or mixing “current operational realities” with “potential operational realities”, or ignoring liquidity importance for bank operations and going as far as to say that deposits are not needed for commercial bank operations. I tried to discuss the dangers of ignoring liquidity importance, especially in the light of the ongoing financial crisis, at another MMT site, , with little success.

    Initially, I became interested in mmt’ers works that tried to analyze IOU flows as in Godley&Lavoie’s SFC matrix , but as I tried to discuss some, in my opinion, controversial MMT claims, I became quite discouraged by the sort of cavalier attitude I briefly referred to above and the defensive position my interlocutors assumed at the slightest attempt to question those claims. I am not sure why some MMT folks are saying what they are saying and then try to tap dance around it. Whatever their reasons are, good luck to you in trying to clarify their positions !


    Oliver Reply:


    I’m not sure why you’re so disconcerted with the MMT folk. Your discussion over at Bill Mitchell’s seemed fairly civil to me. And don’t forget that you are in blogosphere where anybody can join in the discussion, regardless of his or her professional background or manners. You can’t dismiss a whole line of macro research on the basis that the occasional blogger may resort to hyperbole to make a point.

    As regards the eternal discussion on ‘borrowing’ I think the main concern by MMT is that the term itself has a meaning in common usage that goes far beyond what it represents technically for a country with a non-convertible, floating fiat currency. It would therefore be better to give it a new name to avoid the negative connotations associated with ‘borrowing’ that in the opinion of many here are being misused to scare the public and protect vested interests.

    As an example, there are various songs that have coined the term ‘beg, steal or borrow’. Begging or stealing aren’t the kind of actions one wants people to associate with central bank operations, but that is precisely what is being achieved by insisting on the term.

    Much of economic language, and I can assure you it’s far worse in German, has a very strong moral and moralising component that is not representative of current operational realities (for lack of any other term) or of modern societal values. Economics is a social science, that is if it’s a science at all, and must therefore always be thought of in a societal context. The correct frame is important, which is why we’re seeing so many discussions on this subject here.

    But that’s just my view as a non-professional.

    Ramanan Reply:


    You should keep the discussion about the government debt and bank loan making separate.

    I don’t think anyone said that deposits are not needed.

    Tom Hickey Reply:

    Ramanan, as I understand it, technically deposits are not needed for banking. Some of the largest institutions that are chartered banks under US law are not “retail” banks but they have all the privileges of banks a public/private partnerships.

    Ramanan Reply:

    Well some banks may do away by funding themselves with CDs once they issue loans and have an outflow of deposits to other banks. However, you can’t make such statements about the banking system as a whole. In fact, banks take term deposits and pay more interest on these deposits :)

    zanon Reply:

    It is true that deposits are not needed for individual banks. They are not.

    Deposits are required at system level of course.

    VJK thinks deposits are needed for individual banks to be able to make loan, this is not true.


    loans create deposits so they can’t be avoided

    VJK Reply:

    Ramanan [August 3rd, 2010 at 12:19 pm]:

    In the current ‘operational’ reality, T-bonds are no different from commercial bonds insofar as the government needs to borrow in order to pay for its activity in the same fashion a company does. E.g. with 10-year bonds the government and the company go to, beg and compete at the same market and thus are choices for the private investor to make who wishes (or not) to make them parts of his/her portfolio with identical effects on deferred household consumption aka savings (minus the credit risk in the case of T-Bs).


    The Treasury needs to pay, not the ‘government’ as ‘the government’ sets the rules for the treasury.

    the government does not need to borrow dollars, and does so only because it decides to do so, and it can alter that decision continuously as desired

    Ramanan Reply:


    Yes in fact if you look at my comments on “operational realities” you can see that. Markets are happy to ‘finance’ the government. Government spending post borrowing raises incomes through the multiplier effect (not the money multiplier btw) and higher incomes lead to chasing government debt.

    Please note however, that unlike the corporate borrowing, there are a lot of differences. The government can borrow in a much bigger scale than corporates. The Kaleckian principle of increased risk applies to corporations, but not so for the government because it has the lender of the last resort – itself.

    zanon Reply:

    VJK: In current reality t-bills are different from corporate bonds because their default profile is very different.

    It is so funny — people are so busy focused on reality that they miss Reality

    zanon Reply:

    Warren: Yes, loans create deposits and so cannot be avoided at system level.

    But, individual bank can make loan and not keep deposit. They can swap deposit liability for some other kind of liability.


    In which case some other bank has the deposit.

  16. anon says:

    Paul: “It seems clear from the 600 comments that when MMTers talk about “current operational realities” they really mean “potential operational realities if the law was changed”.


    Paul gets it.


    Tom Hickey Reply:

    There is an ambiguity in the use of “current operational reality.” It can mean operational reality under the current fiat monetary regime, independently of politically imposed restraints of various countries, and it can also mean how the existing system functions in a country with the political restraints that are presently imposed, as in the US at this time.

    These meanings are not the same, this is not always clear the way “current operational reality” is used. It needs to be specified to obviate ambiguity.

    On one hand, MMT’ers hold that it would be more efficient and effective to remove the political restrictions and use the potential of a fiat currency. On the other hand, they argue that even with restrictions, it is possible to use the potential of a fiat currency to better advantage than is being done under present policy or is presently being contemplated in the mainstream.

    Moreover, as Marshall’s Latest discusses, there are also workarounds available, and people like Alan Greenspan have admitted as much. For example, there is no financial reason for the US to default under the present system; a US default would have to be a political choice. That would not the case were the national debt actually borrowed, e.g., under a gold standard, where the government had to pony up in specie instead of currency issuance.


    anon Reply:

    Well said as usual, but I don’t think there is any ambiguity in the phrase “current operational reality”.

    The ambiguity arises when one fails to distinguish between the following:

    a) current operational reality (e.g. bonds)

    b) potential operational reality (e.g. no bonds)

    c) a complex characterization that positions a) operationally distinct from b), but acknowledging that an operational switch to b) is the ultimate backstop for the operational failure of a); i.e. that reflects the strength of the underlying power of the government to invoke the contingency of b); (e.g. “to use the potential of a fiat currency to better advantage than is being done under present policy or is presently being contemplated in the mainstream”; and the workarounds are largely a reflection of this – e.g. default is always voluntary because the government doesn’t have to deliver gold to pay for bonds but also because it can default in a different way by switching operationally to b) if there is a ‘catastrophic bond auction failure’ for example

    – c) is another way of saying what I said in the 600


    anon Reply:

    meant deliver gold to pay for bond maturities

    anon Reply:

    Once you admit that a) and b) are operationally different, you begin to question some of the very fundamental propositions of MMT for their operational accuracy; e.g. “governments are not revenue constrained”; otherwise you come to a contradiction in attempting to describe the operational differences between a) and b); either that or you revert to claiming a) and b) are operationally identical, which is obviously wrong; with either route you’re in trouble

    Tom Hickey Reply:

    Once you admit that a) and b) are operationally different, you begin to question some of the very fundamental propositions of MMT for their operational accuracy; e.g. “governments are not revenue constrained”; otherwise you come to a contradiction in attempting to describe the operational differences between a) and b); either that or you revert to claiming a) and b) are operationally identical, which is obviously wrong; with either route you’re in trouble

    I see it differently. MMT describes operational reality under a fiat regime. It admits that governments can restrict this to whatever degree they wish politically. For example, a constitutional balanced budget amendment (which some would like to see in the US) would preclude any budget deficit, hence any creation of nongovernment net financial assets. That is a political choice, not a financial necessity. Different countries have instituted different restrictions and also relaxed them.

    So it is correct to say that under the present monetary regime, monetarily sovereign government that are the monopoly providers of a nonconvertible floating rate currency are not financially (operationally) constrained and do not need to fund themselves with taxation or finance themselves with debt issuance, although they may adopt political restrictions for ideological reasons that alter what they could otherwise do, given the existing monetary system.

    Where’s the problem here?

    MMT correctly points out the potential of operational reality under a fiat system and shows how differently countries have chosen to use this. MMT’ers agree on this. Different MMT’ers may make different policy recommendations based on MMT principles depending on their political proclivities.

    Ramanan Reply:

    Good points Anon as always.

    I think I can summarize (right or wrong) the MMT description as follows:

    The public sector is defined as the government and the central bank. Its liabilities are currency notes, HPM, Treasury securities. These appear as net assets for the private sector.

    -When the government needs to spend, the central bank does an open market operation
    -This increases the HPM of the private sector and due to this transaction, it is in the lookout for an interest earning asset.
    -The government offers a Treasury security as an alternative to the non-interest earning HPM. (Assuming interest paid on reserves is 0). The private sector will automatically buy the Treasuries using HPM balances since it is interest earning. If they don’t it’s a loss for them. Also if the government doesn’t offer the securities, it leads to a crowd-in and hence it is an interest rate maintenance.
    -The government can spend without bounced cheques.
    -The HPM to purchase the government securities came from the government sector itself.

    Oliver Reply:

    I think the confusion comes from the term ‘operational’. MMT distinguishes between an operational reality (an underlying necessity or minimally required framework) and a politically motivated add-on which guides or limits the potential of the underlying ‘operating system’. Bonds are such an add-on (i.e. they are not operationally necessary). Personally, I think e.g. the Maastricht criteria, fixed exchange rates and indeed to some extent the gold standard can be considered add-ons, albeit rather a rigid ones. Tinkering with the gold standard rather defeats the point of calling it so. One could rename it the gold substandard, I guess. ‘Operational’ describes the basic framework without the voluntary legal edifice stacked on top.

    It’s a bit like describing human operational reality as possessing a ‘free will’ to choose ones path in life. The gold standard or bonds are comparable to a religious belief that forbids certain behaviour, formerly believed to be harmful. Which isn’t to say that any such human could not shed his/her belief and become ‘free’. MMT asserts that bonds are hold-overs from more religious times which are not essential to the functioning of the system. It also asserts that the terms ‘bonds’, ‘debt’ and ‘borrowing’ are misleading because they signify operational necessity and are moralising. Renaming them is a first step to leading a more fruitful and less fear-guided discussion about the pros and cons of their existence.

    An example from the human world would be monogamy. It is not technically necessary for us to lead monogamous lives, and as soon as we can agree that there is no god who will punish us if we don’t, we can talk about the virtues of upholding it as a standard and the possible consequences of abolishing it, morally, legally and in practise.

    Oliver Reply:

    … Operational reality is such that we can and do rid ourselves of this moral constraint occasionally at will and the world has not come to an end because of it.

    Oliver Reply:

    But then maybe I’m misrepresenting the MMT case…

    Ramanan Reply:

    The point is to argue with mainstream in their own language. Use language such as “borrows”, auctions etc. Tell them that the price in auctions is independent of the size etc. (those words are used by MMTers themselves) but at the same time clarify the difference bewteen “a)” and “b)”

    Paul Andrews Reply:

    “… Operational reality is such that we can and do rid ourselves of this moral constraint occasionally at will and the world has not come to an end because of it.”

    It is not a moral constraint but a legal one.

    We have never rid ourselves of it. Reserves are created then soaked up soon after, as the law requires, and this has never been contravened.

    Paul Andrews Reply:

    I think MMTers should stop talking of the “current operational reality” as it implies that what they are recommending is already taking place.

    It seems clear that MMT is recommending that the key constraint of Central Banking be removed. I characterize this as moving from a debt-backed fiat currency to a pure-fiat currency. The Central Bank under this system would be a mere facade.

    MMT should come straight out and say this rather than hiding behind ambiguous assertions.

    Oliver Reply:

    Ramanan: it is the change in language that needs to be attained more than anything else. The word ‘borrowing’ in its colloquial definition implies that government has a shortage of money and therefore has to borrow from willing lenders. This moral implication is false and is being misused by the fear-mongers to have it their way, no matter the consequences! Language is vital in changing the perception of underlying issues. It would feel strange if a GOP politician addressed the crowd with ‘comrades’ for example just as it is wrong to speak of ‘sodomy’ because the implications have biblical proportions and are moralising to the bone. Language matters!

    Paul: I was referring to my monogamy example when I talked about moral constraints, although there are numerous legal constraints to enforce it as the norm too.

    It seems clear that MMT is recommending that the key constraint of Central Banking be removed. I characterize this as moving from a debt-backed fiat currency to a pure-fiat currency. The Central Bank under this system would be a mere facade.

    All fiat money is a form of debt, whether accompanied by the issuance of securities or not. There is nothing to back fiat but more fiat! And if not, it ain’t fiat… All MMT is proposing is, that this be acknowledged and applied appropriately to maximise what it defines as public purpose.

    Tom Hickey Reply:

    While I am not an economist and can’t claim to be an MMT’er, I am recommending not only no bonds but no independent cb setting interest rates for social and political reasons. Interest is a pillar of economic rent.

    These are the some of the tools that financial capitalism uses to dominate the globalization and extract disproportionate wealth parasitically. I’m not exaggerating here. Read Michael Hudson on this, e. g., the links I cited above.

    While Hudson is an MMT’er, he is an ally and teaches at the center of MMT in the US, UMKC. Hudson is carrying on in the tradition of Minsky, and MInsky is one of the chief influences in MMT. Randy Wray studied under Minsky. So I would definitely lump this in broadly with MMT.

    Oliver, I like your religious analogy, too. Bill Mitchell often criticizes the neoliberal ideologues as moralizers — I mean, “moralisers,” of course. There is no economic substance to such arguments and portrayals.

    Tom Hickey Reply:

    “It Seems Clear That Mmt Is Recommending That The Key Constraint Of Central Banking Be Removed. I Characterize This As Moving From A Debt-Backed Fiat Currency To A Pure-Fiat Currency. The Central Bank Under This System Would Be A Mere Facade.”

    The key purpose of the cb under a fiat system is to act as the lender of last resort by providing liquidity for settlement. It really the only thing that it actually needs to do.

    Treasury securities do not “back” the currency. LIke currency, they are paper issued by the government. The only “backing” is that one from of paper can be exchanged for another form of paper of equal amount, like making change. Fiat currencies, by definition, are not backed by anything other than themselves, i.e., you can exchange one form for another, and it amounts to the same thing, because there is no independent backing. A failure of one form is a failure of the other.

    Read the Michael Hudson articles I cited above and you will see that the real façade is fictitious capital. Financial instruments are at the core of this. If fact, it is often called “funny money” on account of the way it behaves both on the upside and the downside, and also the tricks that can be done with it.

  17. Tom Hickey says:

    Paul: “It seems clear from the 600 comments that when MMTers talk about “current operational realities” they really mean “potential operational realities if the law was changed”. When they say “all a government needs to do to spend is change a number in a database”, they really mean “change a number in a database which will then force them, by law, to borrow from the private sector”.”

    As you saw, it is hotly debated whether the government “borrows” from the private sector, in that it does not finance itself with Treasury issuance. The current issued by deficit spending increases nongovernment net financial assets, which are then saved as Treasury securities. There is no “borrowing” in the sense that occurs under a convertible fixed rate regime, where the government competes with the private sector over a fixed amount of loanable funds, crowding out the private sector with its borrowing. That doesn’t happen when the government increases nongovernment net financial assets and they requires that they be saved as tsy’s. Total different in the macro accounting.

    Paul: “It seems so simple – just change the law and all will be well, we can spend our way back to prosperity. But what if that law is what holds the whole financial system together? Has that been sufficiently considered by MMT people? Has the lure of an easy fix blinded MMT people to the potentially fatal consequences?

    Sound money people hold that the law holds everything together. MMT gives good reasons why that is not so. The presumption of conservatives is that without the brake of the bond vigilantes, the politicians will go wild. MMT holds that there are real brakes in the form of inflation versus economic contraction domestically, and floating rates externally. Well-managed money creation is evidenced by an economic that runs efficiently and effectively, with full employment and price stability.

    Paul: “The second sentence echoes what I wrote, that the Deficit Spending, together with the fed mandate (to hit target rates), results in the need to drain reserves. In other words, until the fed mandate is removed, Deficit Spending causes the need to drain reserves.

    From what I understand of existing law/regs, the Fed doesn’t need to use bonds to drain reserves. It could accomplish the same thing. by paying interest on excess reserves equal to its target. In fact, it is already paying interest above the FFR on excess reserves.

    Paul: “If the US changed the law to enable them to issue currency without issuing Treasury Bonds, demand for Treasury Bonds would decline, lowering the value of existing Treasury Bonds. Many banks and businesses world wide hold vast quantities of US Treasury Bonds on their balance sheets. A sudden decline in the value of these bonds would be disastrous.

    It can just as well be argued, and it is more likely, I think, that if the Treasury announced it was no longer issuing bonds, the present bonds, becoming scarce, would increase in value. I don’t see that ending Treasury issuance would have that much of an effect other than ending a subsidy.

    It can be argued that Treasury issuance is just soaking up funds that would be better employed in the economy in productive investment. It can also be argued that government intrusion into capital markets is anti-capitalistic, and that its interest payments are socialistic.

    The real disaster is financial capitalism run amok. Michael Hudson it explains it in simple terms to the Chinese hereand here. Must-read. This is where the real problem is, and if it is not solved, then we, our children, our grandchildren and their children will be living in a society dominated by debt peonage. MMT is a key element of that solution, IMHO. It’s not just the subsidy from Treasury issuance. It’s economic rent, as Hudson explains.


    Paul Andrews Reply:

    “As you saw, it is hotly debated whether the government “borrows” from the private sector, in that it does not finance itself with Treasury issuance. The current issued by deficit spending increases nongovernment net financial assets, which are then saved as Treasury securities.”

    If it increases nongovernment net financial assets then it increases government net financial liabilities.

    “It can just as well be argued, and it is more likely, I think, that if the Treasury announced it was no longer issuing bonds, the present bonds, becoming scarce, would increase in value”

    See my explanation above of why this is incorrect.

    “Sound money people hold that the law holds everything together. MMT gives good reasons why that is not so. ”

    I have pointed out some fundamental flaws in one of the seminal MMT works. If there are other definitive works that do not contain these flaws I would be interested to read them.


    Ramanan Reply:


    Too immature of you to have made this conclusion. You don’t know what you will miss if you continue thinking like that. Let me recommend this paper by Scott Fullwiler who is in the MMT camp.

    “Setting Interest Rates in the Modern Money Era”


    Tom Hickey Reply:

    If it increases nongovernment net financial assets then it increases government net financial liabilities.

    In a fiat system all money, including saved money as securities, is a government liability. That just means that the government accepts its liabilities in payment of obligations to it, i.e., taxes, fines, fees, etc.

    See my explanation above of why this is incorrect

    Your explanation is not sustainable.

    “I have pointed out some fundamental flaws in one of the seminal MMT works. If there are other definitive works that do not contain these flaws I would be interested to read them.”

    You have pointed out one instance of possible ambiguity. No “flaws.”


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