Hooverprintingpresses asks:

“People will be offering their possessions and their labor for sale to try and get the cards to pay the tax”

Says who? Thomas Paine? Didn’t he go to jail for awhile?

Warren, so ultimately I am being told that I will have some thug with a gun lock me up in a small room if I don’t play ball with the “rules” some other human being has made for me. Heck like my friend in prison said – three meals, free AC, TV, free medical, nice gym and library, no taxes. He encourages everyone to sit down and get arrested – since I know you are a big thinker – what percentage of the population can you “allow” to develop this mindset and be locked up before the model breaks down? You assume all your agents will WANT to pay taxes and sell their services/labor to avoid jail, but I know more and more people who are just choosing to sit down and are tired of the treadmill and jail is not a big enough deterrent to motivate them to run on your treadmill.

I went to the local court last year and watched the judge look at the 200 or so people that day who did not pay lots of things, taxes, child support, alimony and he told one of the non paying mothers who owed child support that she was going to jail, and she said Judge, you can’t lock us all up, there isn’t enough resources to imprison everyone.

You are correct.

The currency is only as good as the government’s ability to enforce tax payment.

Some taxes are easier to enforce than others, which is why I keep coming back to a real estate tax as the base case. If you don’t pay the tax, the government sells the house. They don’t even have to know who owns it.

I don’t like income tax because of the high compliance cost. I know it sounds high, but those costs might be 10-15% of GDP when you include all of the time spent in record keeping, laws, contracts, and enforcement.

And the fact that there is so much money in tax law means that the brightest and the best gravitate to those positions. So instead of having our brightest and best cure cancer, they are working in difference places in tax law and, of course, other places in the financial sector.

It is the biggest brain drain in human history, and it’s getting larger everyday.

Also to your question, if we legalize most of the drugs and take the money out of that sector, there should be plenty of room in the jails at least for the near future. But with the real estate tax, of course, there is not jail, apart from the odd case of fraud; the property just gets sold if the tax isn’t paid.

One last thing, we already have a national real estate tax at the local level. So, switching over from all the federal taxes to a federal real estate tax should be relatively simple and add substantially to our real standard of living.

Russel asks:

Any reason why the Saudi’s are allowing the price of oil to slide?

Just a guess. The futures liquidations were large enough such that holding spot prices up and letting futures free fall would have made it obvious the Saudis are price setter.

There also could be some liquidation of physical inventory going on in which case they would have to let inventories fall before resuming control of prices, or else actually buy in the spot markets which is out of the question of course.

It’s like if some pension fund had a hoard of NYC subway tokens and decided to sell them ‘at the market’. The price would go down from the current $2 price until that selling pressure abated. Then the price would go back to whatever NYC was charging.

So most likely they just let this inventory liquidation run its course, and then work prices higher again.

Much like happened in Aug 2006 with the massive Goldman liquidation and again in a smaller way at year end back then.

Jim Baird asks:

Hey Warren,

I noticed the crude spreads have slipped back into contango today. Are the ETFs up to their old tricks?

For sure inventory conditions have shifted, but they always seasonally shift up around this time. Could be ETFs to some degree.

More interesting, if the Fed is still up to their old ways, this would signal to them that markets are anticipating higher prices down the road, rather than elevated inventories, and may nudge them to hike sooner than otherwise.

Hi Warren,

Do you think there is any chance that the Fed ever puts us into a steeply inverted curve, say something like 10% short rates with 6% long rates? Hard to imagine that happening with the housing market weak, but what do you think?

Very high probability – I’d say 85% chance if, as I expect, crude stays here or goes higher. maybe a lot higher.

Hiking causes inflation to accelerate via the cost structure of business, so when they start hiking, inflation accelerates. Guaranteed!

Only a major supply response will break the inflation. Like pluggable hybrids in 5-10 years or cutting the national speed limit to 30mph, which is highly doubtful.

Why would shareholders approve the sale of Bear Stearns at $2 per share?

Answer, they may not. They may take their chances with getting more $ in bankruptcy.

Or a higher bid might surface.

The Fed has turned Bear Stearns into a ‘free call’ with their non recourse financing,

And the Fed has moved spreads of agency and AAA paper back towards ‘fair value’ with their open-ended funding lines. This removes ‘liquidity risk’ and allows the securities to return to being priced on ‘default risk.’

This has dramatically increased the business value of Bear Stearns.

The large shareholders can now say no to the sale, maybe add a bit of capital or take on a ‘business partner,’ and outbid JPM for the remaining shares (if needed).

Might even start a bidding war.

There could still be well over $60 per share of value for the winner.

And there’s a reasonable amount of time for them to put something together.

And maybe this was Bear’s plan all along.

They knew they needed Fed funding to maximize shareholder value, and the JPM involvement to stabilize their client base and buy the time to find a real bid.

(CNBC now showing a chart showing $7.7 billion in breakup value.)

Seth asks:

For 2 a share is Chase getting a boat load of non prime paper that over time is worth a lot more than 2?

From what I’m hearing it’s already worth maybe 75 or more.

And the Fed gave JPM a free call.

The $2 is the least that it’s worth, as the fed is providing non recourse funding for the assets at prices that support the $2 price.

And at the same time the Fed took action to restore pricing of agency and AAA assets to more accurately reflect their actual default risk, which is near zero.

This is different. In this case the moral hazard is in not funding the primary dealers. It’s too easy for the predators (other dealers, hedge funds, etc.) to first get short the stock and then start a run on any broker that has to have any non tsy inventory financed and drive them out of business.

By funding the primary dealers who are in good standing (they report their finances to the fed) and regulating capital requirements and haircuts predators are kept at bay and shareholders continue to assume the business risk of the primary dealers.

Steve asks:

And the Fed has said in times of crisis they will not punish the many for the few.

Moral hazard is not a fixed doctrine. It requires flexibility and in times of crisis they accept that their action (the Fed’s) will not address the doctrine. On balance it is a price (overlooking moral hazard) they must pay for the greater good.

They have done it in the past so doing it again reflects a degree of consistency not a change in policy.

Paul asks:

How do you respond to the moral hazard argument of the Fed bailing out Bear Stearns?

I’ll let the word ‘bailout’ go for now, and begin by saying the liability side of banking is not the place for market discipline, and it’s also probably not the place for market discipline for the Fed’s appointed (anointed?) ‘primary dealers.’

(I will also not here question the idea of having primary dealers in the first place, but don’t take that mean i approve of that setup, thanks!)

So given the Fed wants primary dealers, it then follows there are specific securities they go along with this assigned role.

Presumably those would include the likes of tsy secs, maybe agency paper, maybe AAA rated mtg backed securities, etc.

Presumably also are functions the Fed wants its primary dealers to perform, like being market makers, providing some notion of liquidity, etc. etc.

And, presumably, the Fed has some notion of public purpose behind this entire creation.

So, given all that, to support this ‘institution of public purpose,’ it behooves the Fed to ensure the primary dealers themselves have the available lines of credit to perform this vital public function (almost hurts to write that”¦).

The bank primary dealers do have ‘guaranteed liquidity’ and so are safely able to function as primary dealers, knowing they can always finance their inventory positions. This can be done via raising fed ensured bank deposits, and borrowing from the fed by using their inventory as collateral, etc.

The non banks were at a disadvantage to the banks in that they relied on the banks to fund their inventories.

Bear Stearns got shut down when the banks said ‘no’ for non credit related reasons. Bear had perfectly good collateral that they held as part of their primary dealer function (as defined by the govt regulations), and the banks said no, perhaps because they had their own internal issues.

The same would happen to the banks, and the entire economy, if the Fed simply said no to the banking system and one morning and didn’t open the payments system.

It’s just one of countless flaws in the institutional structure that doesn’t get noticed until it’s a problem, no matter how many times I’ve pointed it out to ‘authorities.’

So to your question, while I do see a lot of other moral hazard issues, I don’t see this as one of them.

The Fed simply told JPM to deal with Bear in the normal course of business and lend vs qualifying collateral as has always been the case, and as is the case when the Fed lends to JPM.

Let me know if I’m missing something, thanks!

484 Responses to Q&A

  1. Peter D says:

    Warren and others. Since now Fed is paying interest on reserves, debt monetization can occur, correct? In fact, QE is debt monetization? Now we can expect the Fed Funds Rate to fall to the support level because there are excess reserves in the system due to QE2. Correct?
    If so, what to make of the following:
    – Fed funds rate is at about 0.14 (http://www.newyorkfed.org/markets/omo/dmm/fedfundsdata.cfm)
    – The interest on reserves is 0.25 (http://www.federalreserve.gov/monetarypolicy/reqresbalances.htm)
    How come the FFR fell below the support?

    Sergei Reply:

    Not everybody who has account at Fed has access to deposit facility. You can start with GSE.

    Peter D Reply:

    So, you’re saying the FFR can fall below the support since not everybody trading reserves has access to support? This seems to be a point Warren should incorporate into his papers then. Because it looks like the Fed may not have total control over FFR, right?


    nothing they can’t deal with if they want to with ‘normal’ open market operations, term fed deposits, etc.


    by definition that’s called ‘debt monetization’

    any reason to care?

    the ffr fell below the support rate because the fed doesn’t pay it to the agencies that have fed accounts, last i checked

  2. Peter D says:

    Warren and others.
    What do you think of this assertion in in this post by Michael Hudson:

    The Fed and Congress have told China to revalue its currency, the renminbi, upward by 20 per cent. This would oblige the Chinese government and its central bank to absorb a loss of half a trillion dollars – over $500 billion – on the $2.6 trillion of foreign reserves it has built up. These reserves are not merely from exports, much less exports to the United States. They are capital flight by U.S. money managers, Wall Street arbitragers, international speculators and others seeking to buy up Chinese assets. And they are the result of U.S. military spending in its bases in Asia and elsewhere – dollars that recipient countries turn around and spend in China.
    If Dr. Hudson is right, then our trade deficit is not only the foreigners willing to exchange real output for $US, but $US dollars chasing Chinese assets, by which I guess he means financial assets?


    china only loses ‘value’ for it’s dollars if they buy fewer real goods and services, aka ‘inflation.’

    Peter D Reply:

    OK, I just wonder if the point about their holdings of dollars being in large part as a result of “U.S. money managers, Wall Street arbitragers, international speculators and others seeking to buy up Chinese assets” is true.


    yes, foreign investment is a factor. but at least anecdotally it’s no longer as profitable as it was and companies like GE are moving production elsewhere

    ESM Reply:

    Investments in assets abroad do not increase our trade deficit. In fact, they either have to be balanced with a trade surplus or by investments back in US dollars (which could be passively holding on to the dollars that foreigners received in the sale of the assets). In China’s case, the investments by US entities end up for the most part as dollar reserves owned by the Chinese central bank.

    Peter D Reply:

    Thanks, Warren, ESM, would be interested in some hard numbers. Because seems to me if we continue to claim that CAD is a result of foreigners exchanging real output for $US, then this claim needs to be countered with more than just anecdotal evidence.
    “Investments in assets abroad do not increase our trade deficit”
    “In China’s case, the investments by US entities end up for the most part as dollar reserves owned by the Chinese central bank.”
    I agree about trade deficit but I guess it has to contribute to the Current Account Deficit, right? And CAD is what enters the sectoral balances equation on the opposite side of government deficit? In which case this flight of capital from the US causes our deficit to grow?

  3. Dan F says:

    So my question now does M2 include these new reserves because they are really just deposits?

    Dan F Reply:

    So in conclusion;

    “Anyone who suggests that last week’s ballooning reserve deposits represent inflationary pressure or the Fed monetizing the deficit simply doesn’t know what they’re talking about. Banks are sitting on the reserves, not withdrawing them as cash. When markets settle down, the Fed can and will absorb those reserves back in with sterilizing sales of Treasury securities, just as it did in 2001 or after the more modest spike in August 2007. Providing new reserves aggressively is absolutely and unquestionably the way the Fed needs to respond to this kind of development.”


    Dan F Reply:

    Can you not add a link from the Econbrowser? Every time I try it does not take the posting.

  4. Dan F says:

    Any comments about this from Zero Hedge (and circulated around the web)?

    By Rocky Vega, Guest blogger / March 5, 2010

    Is annualized M1 money supply growing at three times the rate the Federal Reserve is reporting? This is a critical question recently explored by Zero Hedge, which believes the actual growth rate of US dollars “is approaching hyperinflationary levels.”

    Rocky is publisher of The Daily Reckoning (dailyreckoning.com). Previously, he was founding publisher of UrbanTurf and RFID Update, which he operated from Brazil, Chile, and Puerto Rico, and associate publisher of FierceFinance. He specialized in direct marketing at MBI, facilitated MIT Sloan School of Management programs, and has been featured on CBS.

    “For historical reasons unimportant to the point of this analysis, the Federal Reserve in the past has only created cash currency. However, the unprecedented changes it has engineered over the past two years have resulted in a vast amount of deposit currency being created by the Fed. Instead of purchasing paper from the banking system solely with cash currency – its traditional form of payment to ‘monetize’ assets by turning them into currency – the Federal Reserve since the start of the financial crisis has increasingly relied upon deposit currency to purchase paper.

    “Regardless how the Federal Reserve pays for the paper it purchases – cash currency or deposit currency – it is creating dollar currency and perforce expanding the money supply. But the traditional definition of M1 does not accurately capture this process when the Fed uses deposit currency to pay for its purchase. In fact, it is totally excluded. Because the Federal Reserve did not create deposit currency in the past, none of the Ms take it into account.

    “Consequently, the traditional definitions of the Ms are outdated because they do not capture the total quantity of dollars in circulation. Because M1 is underreported, so too is M2.

    “Unprecedented Deposit Currency Creation by the Fed

    “There has been an unprecedented amount of deposit currency created by the Fed over the past two years. This chart illustrates this point. It shows the quantity of demand and checkable deposits, i.e., the amount of deposit currency, at the Federal Reserve since December 2002.

    “From December 2002 until the collapse of Lehman Brothers in September 2008, the quantity of deposit currency created by the Fed averaged $11.8 billion, an amount that is relatively insignificant compared to total M1. Presently, it stands at a record high of $1,246.2 billion, which of course is highly significant.

    “More to the point, none of this deposit currency is captured in the traditional definition of the Ms. The quantity of dollar currency is therefore significantly underreported…”

    Dan F Reply:

    This is a good understanding of the why and how:


    Dan F Reply:

    This looks to be the program:


    Dan F Reply:

    A paragraph from the Reserve Maintenance Manual:

    It read to me that a reserve is nothing more than retained savings deposits?

    “A reserve requirement is the amount determined by applying the reserve ratios specified in Regulation
    D to an institution’s reservable liabilities (comprised of net transaction accounts, nonpersonal
    time deposits, and Eurocurrency liabilities) during the relevant computation period. The institution
    must satisfy its reserve requirement in the form of vault cash or, if vault cash is insufficient to satisfy
    the requirement, in the form of a balance maintained either directly with a Reserve Bank or in a passthrough
    arrangement. The portion of the reserve requirement that is not satisfied by vault cash is
    called the reserve balance requirement. (See Chapter V, Calculation of Reserve Requirements.)
    Balances held to meet a reserve balance requirement are paid interest at a rate determined by the
    Board of Governors.”

    Dan F Reply:

    And here is the FED graph on reserve balances:



    don’t care
    the fed doesn’t create net financial assets,
    except when it buys real goods and services

  5. Peter D says:

    If there is a shortage of reserves in the banking system the Fed accommodates by opening the discount window. I guess this is a loan to the private sector (to the banking sector in particular) but it seems to me that this can become permanent?
    Another question: do these funds from the Fed count towards government spending? It seems to me that in the sectoral balances identity (G-T=S-I+M-X) they belong in G, but I am not sure the published deficit numbers include them.

    Peter D Reply:


    Tom Hickey Reply:

    The cb manages the interbank settlement system in such a way as to ensure that sufficient reserves are always available for settlement at the overnight rate it targets.

    The discount window carries a penalty rate and is not used in general management of the system. The Fed did encourage using the discount window to manage liquidity problems at the time of the freeze up, but that is an unusual situation. In such a situation, the cb can lower the discount rate if it chooses.

    Matt Franko Reply:

    Perhaps think of it as sort of: ‘the Fed runs that equation for us’, but the Fed doesnt participate in it. The Fed keeps track of the numbers that go into that equation the way I look at it, by maintaining the bank accounts of the real participants in the economy. I believe that loan is only made for regulatory purposes. ‘Reserves’ solely imo are a regulatory construct of accounting for banks and monetary policy.

    JKH said once to paraphrase: the only entities that should even talk about “reserves” are bankers (that would include both depository bankers and central bankers, and maybe only the compliance people at those banks).

    Even we shouldnt have to discuss them here if the morons in charge of the system were operating it correctly…. we shouldnt have to worry about these things called ‘reserves’, but rather focused on our own bank accounts and economic outcomes but here we are.

    We should be concerned about that equation you posted though, as that would be one data point for us to tell if our elected reps were doing their job. Resp,

    Tom Hickey Reply:

    The key is the final settlement of all transactions except intrabank transfers takes place in bank reserves and cash. Cash settlement occurs on the spot. Transactions that involves banking (checks, credit cards) involve the exchange of reserves among banks in the FRS. The public never sees this.

    The Fed manages the FRS so that interbank transactions settle, while maintaining its target rate. This involves either controlling the quantity of reserves through open market operations (OMO) after excess reserves have been drained with tsy issuance, paying a support rate on reserves, or setting the overnight rate to zero.

    Peter D Reply:

    Thanks, Tom and Matt but I don’t think I understood this. The banks get money (reserves) from the Fed at the Fed’s discount rate. Do they ever have to pay it back or they can simply continue paying the discount rate and earn the spread between that and the rate they charge the borrower? Does this have any impact on sectoral balances? After all this is new money injected into the economy (although with strings attached, unlike regular government spending.) What if the discount rate was zero – wouldn’t it be exactly like government spending?

    Tom Hickey Reply:

    Peter, the reserves are borrowed. A bank going to the discount window has to put up collateral, ordinarily tsys, although during the liquidity crisis the Fed accepted other securities IIRC.


  6. rvm says:


    So government sets the quantity of the bonds, interest (coupon) rate and it will know exactly the total amount it will pay in interest till maturity, and bond market can’t change this amount of interests?

    Tom Hickey Reply:


    When prices fluctuate in the bond market, market price shifts away from par value (although par value is still the amount paid at maturity), and the yield on the traded bond is then different from the coupon rate. For example, if inflation threatens, then the market price of bonds will fall and the yield will increase to reflect inflationary expectations. If deflation, then the opposite.

    rvm Reply:

    Thank you.

  7. rvm says:

    I have to read a lot about this bond market thing. :-)

    Guys, tell me please if I am wrong in my understanding so far.

    1. When US government initially sells bonds (all kind of terms – long term, short term), it solely sets the interest on that bond (coupon rate) – the interest the government will pay per year for the entire time till the bond matures and it doesn’t compete with any other bond issuers when determining that coupon (interest) rate?

    2. Bond market (supply and demand for that bond) sets the price of that same bond, so for instance when government sells bond with face value $100 and 5% coupon rate, it could be sold for more, less, or even $100, depending on the demand for it?

    Matt Franko Reply:


    irt your #2, here’s a link to recent results where it looks like yes some issues in the end went for less than par (100) :



    Tom Hickey Reply:

    1. Only government can determine quantity of securities offered and the interest rate.

    2. Buyers bid for bonds carrying a particular rate based on a variety of factors. Price, and therefore yield, are determined in the bond market. Yield fluctuates with price.

    rvm Reply:

    Thank you both!

    Jim Baird Reply:

    It’s important to differentiate here between what happens wit the market as currently constituted and what could happen with a government that understood MMT.

    Currently, the U.S. gov must sell treasuries to “fund” it’s operations, $-for-$. It sells mostly longer term (5 and 10 years) along with shrot term (3 moth t-bills) to do this.

    The Fed (under normal circumstances) sets the overnight rate by intervening in the FF market. Absent it’s intervention, the rate would drop to zero (as it has in the past few years). Since a set quantity of bonds are issued by the monopoly supplier, the market sets their price – but unlike normal bonds issued by currency users (which are priced by the market with an eye toward the creditworthiness of the borrower, since they can move their money someplace else), t bonds are priced mainly by the market’s estimates of where the Fed will set future rates (because dollar holders, collectively, cannot “take their money someplace else”).

    from 1941 to 1951, the Fed set short term rates at 3/8% and long term at 2.5%, by stepping in to buy or sell any quantity required to maintain that yield. So the govt could, of course, set rates all along the yield curve, but it does not currently.

    rvm Reply:

    For the time till the maturity of the bond government will be paying regularly the set by itself coupon rate (interest) on the bond’s face value or bond’s current market value?

    Otherwise said, government doesn’t know how much interest in absolute value it will pay for its bond because market will dictate the price of the bond?

    Tom Hickey Reply:

    Rvm, the issuer of a bond sets face value (par value), maturity, and coupon rate and these do not change over the life of the security.

    Market price and yield fluctuate in the bond market based on comprehensive conditions affecting markets.

    This is true of all similar financial instruments that function as IOU’s, whether they be government bonds, corporate bonds, or mortgages sold on the mortgage market. The market value is based on the present value or “discounted” value, and it is influenced by other factors as well, e.g., likelihood of the IOU being honored on time in full.


    the tsy holds an auction. the secs go to the bidder willing to take the lowest interest rate.
    the tsy then sets a coupon pretty close to the average winning bid.

  8. rvm says:

    In a private message board I was fighting with deficit terrorists.

    The point is that I don’t understand very well how the market for government bonds functions.

    I think that US government as monopoly issuer of USD sets the interest rates it pays to all bonds it issues, especially that we know very well it doesn’t need loans from private sector so it can spend, and it is only to drain reserves and maintain its targeted interest rate.

    A guy with handle “bond trader” on that forum insists that the market sets the interest for US government bonds.

    Could you please elaborate

    Thank you

    Tom Hickey Reply:

    Interest rate is different from yield. Treasury sets the coupon rate and the fluctuating market price determines the yield at that rate. The government can set the coupon rate at whatever it chooses and let the market set the yield by adjusting the price of the bond accordingly. This is what the bond market does all the time. Yields change relative to price, but the coupon rate is fixed for the life of the bond.

    Bond Trading 101-How Bond Prices Fluctuate

    Bond Trading 201-How to Trade the Curve

    MMT- Market Discipline for Fiscal Imprudence; Term Structure of Interest

    rvm Reply:

    Thank you, Tom!

    Peter D Reply:

    Tom is right but just setting only the coupon would imply selling the bonds at discounts (if the market wants yield>coupon) or at a premium (if the market can take lower yield than coupon.) I think the government can also adjust the quantity of bonds to meet the demand exactly at the interest rate (coupon) it desires – so the bonds get sold at par.

    Matt Franko Reply:


    Here’s a link to a calculator:


    Also, with the QE2 now, I have to think there is some unique pricing dynamics going on between the govt and the Primary Dealers of US Treasuries currently.

    Here is another post at ZeroHedge (out of paradigm) about the latest QE2 purchases this AM: this time 3 year maturities that were just auctioned several weeks ago:


    This has to be far from a “free market” in operation…. Resp,

    Peter D Reply:

    Matt, what is this Zerohedge link saying exactly? That some PDs got their hands greased, I guess?
    By the way, if FFR were at zero, we could really have debt monetization, right? Not that it matters for MMT.

    Matt Franko Reply:

    I believe ZH thinks the PDs are buying at the auctions and the Fed is paying them more than they paid thus a quick profit but I dont think so. The prices the Fed pays under the QE2 are not released in a timely fashion so ZH is I believe conjecturing. And bond prices have generally been falling so PDs are probably selling at a discount to what they recently paid (I assume they hedge).

    Yes also ZH is claiming “monetization” due to the quick turn. I dont think the FFR may have anything to do with it, I believe monetization would be if the Fed bought directly from the Treasury, the Fed is not doing that they are going to Dealers albeit very quickly.

    Trying to analyze it within MMT paradigm. It looks to me that the QE2 operation is possibly/effectively the PDs and the Fed are “market making” and leading bond prices downward, ie raising interest rates assisted by monetarist speculators. Fed lowers it’s bid and the PDs lower their offers, etc… speculators sell, etc… down we go. PDs may not care if they are effectively hedged. Resp,


    the govt. does allow market forces to set rates on US tsy secs.

    market forces express opinions of where the fed will be setting the ff rate over the years

    rvm Reply:

    Why should US government allow market forces to set the rates?
    Can’t it just say take some interest I decided to give you or go away and take 0 interest on your reserves?


    yes, but it doesn’t understand that

    Vincent Cate Reply:

    @rvm, The Fed can decide that it will buy up any bonds that yield over 0.25% and put a floor on bond prices and a cap on yields. They seem to be doing this now. The problem is that they then can not at the same time limit the amount of money they make. If inflation is 5% and you can borrow money at 0.25% it is really easy to make money. You just borrow from the Fed and buy anything (canned Tuna, gold, oil, whatever). So they make have to make huge amounts of money. But all this buying/hoarding contributes to price inflation. So the longer the Fed tries to peg interest rates the higher inflation will probably go. Eventually they will decide that they need to do something about inflation and raise interest rates.


    what do you do exactly right now to ‘make money’ borrowing at .25%. I have a bank that can do that and it’s not obvious to me.
    Gold is down from 1900 to 1650, and don’t know about canned tuna as an investment. seems hard to sell? and the cost of holding oil is pretty high- check out the front month rolls- which why the passive commodity funds have been frustrated. And buying houses hasn’t worked so well over the last 4 years either.

    Vincent Cate Reply:


    Also, there are “long and variable delays” between when the new money is created and when the inflation hits. So it can look like we are fine and then boom, lots of inflation. Then when they raise interest rates it can take years to get the inflation under control. These are very painful years with high interest rates and high inflation rates. This will result in another recession.


    tell me when we’ve ever had an inflation problem that wasn’t supported by saudi price hikes

  9. Peter D says:

    MMTers like to say that no inflation (other than demand-pull) should occur when economy operates under capacity. How does MMT deal with stagflation? How are stagflations explained and what are the proposed remedies?

    Tom Hickey Reply:

    Peter D., stagflation is generally the result of supply side price increases due to shortage of real resources, e.g., in recent times, petroleum due to the ability of the oil cartel to increase price by affecting marginal supply.

    Therefore, the shortage has to be addressed at the source, e.g., through pressuring marginal suppliers, accessing alternative supply sources, innovation, conservation, substitution, or rationing. Moreover, the burden needs to be distributed by government action, so that some parties do not profit unduly from the situation while others are severely disadvantaged. Those disadvantaged include those that are affected by business contraction due to the supply crisis, losing either jobs or hours employed.

    In addition, rising prices of scarce resources encourages speculation and hoarding, which drive prices higher. Speculation and hoarding have to be addressed through government action.

    Injection such as would be appropriate to address demand side inflation is inappropriate to address supply side, since it is likely to drive already high prices higher and encourage a wage-price spiral.

    The world is facing just such a circumstance with climate change affecting food supplies and the prospect of peak oil looming. Engineers know that systems involving dangerous conditions or vital needs require that redundancy be built in. That’s why cars have emergency brakes in addition to the regular braking system. The global economy needs more redundancy wrt vital resources like food and energy, or there are going to be enormous social and political problems arising out of economic ones.

    There is evidence that rising food prices were a catalyst for the revolutions in North Africa, for example, and there is little doubt that rising oil prices played a catalytic role in the recent recession in the US. Presently, food and petroleum prices are rising, along with persistent unemployment in the US. It is entirely possible that stagflation will develop here if emerging countries bid up the price of scarce resources before the US recovers from this recession.

    I suspect that stagflation is likely to become a hot topic again for these reasons. The neoliberal solution is to raise interest rates and bust wages, but those just exacerbate unemployment without addressing the shortage. However, that will not deter neoliberals from pursuing this failed ideology. Austrians, of course, will call for returning to “sound money” and liquidating malinvestment. This is a killer combo. Best be ready with an alternative solution.

    Peter D Reply:

    Tom, thanks a lot, but what about stagflations which are not a result of demand-pull inflations? Are those impossible, in MMT view? Have we seen one like this in history? Or, if they are, then what do we do?

    Tom Hickey Reply:

    Peter D, I am not an economist and am not up on the historical data, but I don’t believe that there has been recent stagflation that doesn’t involve supply side. What happens is that supply side inflation occurs, there is pressure to increase wages to keep up, the Fed steps in with higher rates, resulting in recession, but key supply shortages continue to persist keeping prices high while people at the bottom get squeezed.


    stagflations are from supply shocks and not excess demand.

    unemployment is evidence of a lack of aggregate demand

  10. Dan F says:

    Looks like someone is starting to gain a much better understanding of the monetary system. Although the Brazil story I don’t think is complete.


    Free on iTunes podcast.

  11. MamMoTh says:

    “unemployment is the evidence that there isn’t enough govt spending to satisfy the need to pay taxes and net save
    if tax cuts triggered higher savings desires then taxes are still too high”

    If we all agreed with you, then tax cuts should trigger higher
    savings desires, since by your own logic saving the totality of
    the tax cuts will trigger another tax cut by the government.
    Which we should save, and so on…

    Peter D Reply:

    Other will probably have a better reply, but it is easy to spot a flaw in your logic. You save until you’re comfortable with your savings “for the rainy day” after which you start spending.

    Tom Hickey Reply:

    This is the problem about not taxing away economic rent, most of which is saved. Savings are claims on real resources that can be exercised at any time. Transfer of financial wealth to the top amounts to transfer of real wealth in terms of claims. In addition, saving is a demand leakage. When saving results from extraction, the leakage is magnified.

    IMHO, for MMT to be credible from the Minskian vantage, it is essential to tax away economic rent.

    Neil Wilson Reply:

    A claim is one thing. Exercising it is another.

    There are massive claims on the currency reserves of a country due to the number of bank deposits, yet bank runs are exceptionally rare events.

    There are massive potential claims on insurance polices yet insurance companies rarely go bust.

    It may very well be that you can sustain a system with massive financial wealth and very little actual real claims coming from it.

    Net private sector savings are the economic equivalent of methane clathrate – inert until triggered by events.


    bank liquidity is unlimited

    Tom Hickey Reply:

    It’s the flow. Extraction takes funds out of flow and parks them in savings, driving up assets prices, which eventually prices the little people out of key markets like RE and puts entrepreneurship out of reach for them.

    Societies in which the upper echelon controls the bulk of wealth are plutocracies controlled by the investor class aka rentiers aka oligarchs while the working class has to poke sticks in the ground to grow beans.

    Neil Wilson Reply:

    Extraction takes funds out of flow and parks them in savings, driving up assets prices,

    Only if the government header tank isn’t topping the flows back up.

    Are you talking government capture here?

    Tom Hickey Reply:

    “Are you talking government capture here?”

    Exactly. As Michael Hudson observes, what is extracted goes into savings for the top of the town that has captured government and is in the process of cramming down social expenditure while increasing military spending to preserve and extend the empire.

    As Michael Hudson further observes, any of the surplus that is not taxed away and recycled to flow is extracted as economic rent and consigned to the top of the town since they have the franchise.

    That’s the plan. Keep taxes low or non-existent on economic rent low while taxing worker income, and keep military spending high while keeping social spending low. Does “small government, low taxes, strong military” sound familiar?

    And, as Bill Black points out, when economic rent is enough or fast enough, there is always control fraud to fall back on. And if everything blows up, well, just hold the contry hostage to your demands.

    It’s working pretty well, actually.

    beowulf Reply:

    Net private sector savings are the economic equivalent of methane clathrate – inert until triggered by events.

    Number 8 on the Global Risk threatdown, see “An Indicated Costed Plan for the Migation of Global Risk”.

    Any plan that comes with a $67 trillion (over decades) price is worth reading. :o)

    MamMoTh Reply:

    It’s not my logic but Warren’s (or MMT?) logic.
    If we ALL accept that unemployment because taxes are too high
    (or govt spending too low) and expect the gvot to lower them then the most sensible course of action from the private
    sector is to keep saving so the govt will need to cut taxes to 0. And unemployment will still be the same.

    Neil Wilson Reply:

    You’re learning. In a minute you’ll realise that net private sector savings have precisely the same effect as excessive taxation – they leave real output unsold, which is an indicator to business that there is insufficient demand and they should contract production.

    And of course the private sector cannot save unless it has received an income in excess of taxation? Where did the money to pay the income come from?

    I always find it amusing that people want to play about on edge cases that would never happen in the real world.

    Peter D Reply:

    Or we could all be worried that our current savings are too low to afford a new car or a new iPad or whatever. Once we receive a tax rebate, we can be satisfied with our savings enough to decide to spend (which will send signals to businesses etc as Neil indicates).
    I don’t think there are a lot of people who are willing to postpone consumption indefinitely and game the system in the way you propose. Yes, there are misers but we cannot be ALL misers. Or even a majority of misers.


    remember, most of the increase in savings is in pension funds and the like.
    from a personal level, savings is largely a matter of debt, where consumer debt expansion is a reduction in savings.

    MamMoTh Reply:

    Neil, I’m not learning. I am asking a very simple question.
    What happens if we know the govt will cut taxes as long we have not yet reached full employment? (since Warren says it means taxes are too high or govt spending too low)

    It’s a very simple game theoretic problem. If the private sector know the govt move will be to cut taxes, the it should save all the taxes, and push the govt to keep reducing taxes until 0.

    The fact that we don’t do it is because we don’t expect the govt to keep cutting taxes. That’s why my question is what if we ALL know it will. And I give you my answer, we should save them all. What for? Who cares, let’s get all the free money we can first. Or an entry in a spreadsheet as high as possible if you prefer.


    if i knew the govt was going to cut taxes to 0 i’d spend what little liquidity i have left before it became worthless.

    however, expectations theory doesn’t apply here. individuals are compelled to save because they think that contributes to lower taxes.
    and even if they did, and taxes were cut that much, they know that at the point spending resumes funds will be taxed away if the spending is too large


    “If the private sector knows the govt move will be to cut taxes, the it should save all the taxes, and push the govt to keep reducing taxes until 0.”

    why would this matter, unless taxes actually got to 0 and everyone refused to spend.

    in that case, which has a near 0 probability, govt can simply hire people directly.

    as i’ve written many times, if people desire to work for pay and not spend it on private sector goods and services, the output should be public goods and services.

    beowulf Reply:

    The fact that we don’t do it is because we don’t expect the govt to keep cutting taxes. That’s why my question is what if we ALL know it will. And I give you my answer, we should save them all.

    Smugness may warm you but it won’t feed you. People will still need to spend money to put food on the table, a roof over the head and clothes on the back.

    MamMoTh Reply:

    “Smugness may warm you but it won’t feed you. People will still need to spend money to put food on the table, a roof over the head and clothes on the back.”

    I’m suggesting saving all the tax cuts, not cutting spending.
    The point is, if you follow Warren’s logic: the less you spend the extra income from the income, the more you earn from further tax cuts.

    Peter D Reply:

    MamMoTh, I don’t believe in your construct – people have needs and wants and they won’t postpone consumption indefinitely; businesses will earn more money from increasing output than from saving the tax breaks. It sounds like a twisted form of Riccardian equivalence: people depriving themselves of life’s goods in expectation of additional tax cuts? Even less plausible than the original Riccardian equivalence, seems to me.
    But even if we accept your construct as true, and EVERYBODY saves ALL the tax cuts then, while these tax cuts won’t help with unemployment, they won’t hurt either, since they definitely do not cause inflation (nobody spends, right?). In such perverse case I think the government can just start huge public works program and employ all the unemployed.


    right. any tax cuts not spent means there is no reason to have them there

    taxes serve to reduce aggregate demand, etc.



    MamMoTh Reply:

    Peter, my construct is pure logic from the premise that govt will cut taxes as long as there is unemployment: the private sector should save them all until there are no more taxes.
    Of course the govt could always increase spending any time.
    Can you imagine that, a world with no taxes and high govt spending to employ the all the unemployed? We can make it true if Warren wins the presidential election in 2012.

    Peter D Reply:

    MamMoTh, I still fail to see how your logic deals with a person who wants to buy a widget today and get the opportunity to do so by getting a tax break. You’re saying the person will deprive himself of the widget today in order to get an additional tax break tomorrow. You may think it is pure logic and I think it is contradictory to basic human nature.
    And by the way if you treat spending as negative taxation, then your society of misers will continue to postpone consumption indefinitely, because after the government cuts the taxes to 0, they’ll expect it to continue into negative taxation territory. Is this the way you think the world works?
    Maybe I really misunderstand your argument, sorry.

    MamMoTh Reply:

    The logic deals with that person by making him realize
    that if he doesn’t buy the widget today, then he will be
    able to buy two tomorrow by getting another tax break.

    Of course I don’t think this is how the world works now.
    But we don’t live in a world where taxes will be cut
    as long as there is still unemployment – as a self-imposed
    rule – too right?

    So what I am saying is what will happen if we were leaving
    in such a world. Maybe we should work hard to get Warren
    elected president in 2012 to run the experiment.

    Peter D Reply:

    Even if we did “live in a world where taxes are cut
    as long as there is still unemployment”, I still believe your construct fails, because if we to believe in it, then people would NEVER buy anything beyond their most basic needs in anticipation of further funds coming from the government. This is not human nature. Human nature values today’s consumption over future at some point (there is of course an indifference level etc.) At some point the gratification of today’s consumption outweighs the potential of more consumption tomorrow.


    right, if we all agree never to spend we can have all the dollars we want without creating inflation.


  12. Tom Hickey says:

    Ramanan: “How come you changed your language from “imports are benefits” to wishing for trade balancing ?”

    I agree with Marshall that imports are benefits at full employment. At under full employment a persistent CAD means that the country is exporting jobs. That the is the real problem for the US, much more than the CAD, the deficit, or the debt as absolute numbers or ratios of GDP, etc. All real problems are real rather than financial, although financial problems can lead to real problems, i.e., problems in the real economy.

    I have been consistently arguing that the overall approach needs to be one that approaches the global economy as a closed system. I see the problem as being one of lagging global effective demand. If the world approached economics in terms of balancing supply and demand sustainably, then the trade balances would simultaneously be resolved by getting to full employment (redefined). Imports are benefits at full employment. The problem now is that nations with CAD’s are exporting jobs and nations with CAS’s are importing inflation leading to social unrest. Those conditions result in trade imbalances with real consequences.


    at under full employment it means for the given size govt taxes are too high. don’t blame the imports!

    beowulf Reply:

    Well, don’t blame the imports but we should recognize them as a demand drain that must be sterilized (to use Fedspeak) with lower taxes. But I take your point, for an economy at under full employment, the same response would be warranted (cut taxes!) whether trade is in deficit, balanced or in surplus.

    Tom Hickey Reply:

    Agree about taxes, if we were running iaw functional finance wrt sectoral balances. But under present political circumstances in the US, cutting taxes means reducing expenditure proportionately (deficit-neutral) iaw pay-go, which results in reduced social safety net since the military is not going to be cut during wartime. So we would be cutting taxes but not changing the deficit; therefore still exporting jobs. :(

    Neil Wilson Reply:

    You can force co-ordination via the fallacy of composition once you understand that imports are a real benefit.

    What you do is exploit the hell out of the importers who are prepared to accept your currency, while at the same time discouraging exports other than those absolutely required to obtain needed imports that aren’t priced in your own currency.

    That gets you a huge benefit in real resources until the other guy wakes up an implements the same policy.

  13. beowulf says:

    Should an economy ever reach stationary equilibrium, all stock variables as well as all flow variables would be constant; and that if all stock variables, including government debt, were constant, government receipts would have to equal government payments… A necessary condition for the expansion of the economy is… If the tax rate were held constant, government expenditure would have to rise… if government expenditure were held constant, the tax rate would have to fall… obvious shortcoming to the original [Carl] Christ formula in that it applies only to a closed economy. This defect is easily remedied by adding exports to government expenditure (injections) and imports to taxes (leakages).

    Our fiscal stance is too low to sustain full employment and should be adjusted up by either reducing demand leakages (taxes, imports) or increasing demand injections (govt spending). Per Wynne’s quote above, our fiscal stance should reflect the 4% of GDP (close to $500 billion) trade deficit, which has the same fiscal impact as a tax of like amount.

    Peter D Reply:

    So, Beowulf, if I understood you correctly it is US trade deficit (and the demand leakages associated with it) that make the current level of taxation (relative to spending, naturally) inadequate to sustain the right level of AD? The other countries have either lower trade deficits or higher spending?

    beowulf Reply:

    If I had to pick one factor, yes it’d be trade. South Korea for example has (IIRC) a 3% of SK GDP trade surplus, exports are added to govt expenditures as demand injections.

    In US terms (since SK is much smaller), 4% of US GDP of$14.5 trillion, trade deficit is -$580 billion, but if US instead had (like SK) a 3% trade surplus, it’d be +$435 billion. In other words, a shift towards $1.015 trillion AD.

    Now you see why the President is so rah rah for increasing exports. Once he boxed himself him with the deficit hawk rhetoric, he took fiscal stance adjustments off the table. Except for reducing the trade deficit (I’ll believe it when I see it, he should just cut taxes by like amount). I’m not sure how else he can gin up AD without increasing the budget deficit.

    Matt Franko Reply:

    for instance, if the US Military would let them, the Chinese military would airlift laborers across the Pacific Ocean complete with midair refuelings and 35 hour flights and paratroop in laborers to cut our lawns for $15, with a tweezer if necessary if we wouldnt let them bring mowers. That is what US labor is up against. Resp,

    Peter D Reply:

    Beowulf, Tom, ESM, Matt, thanks!
    It all becomes much clearer now that we can put the finger on CAD as the major factor.
    Do our uniquely high health care costs play a role here to? I guess yes, from the side of spending, making the deficit bigger.

    Tom Hickey Reply:

    Peter D, problems arise from lack of inefficiency or effectiveness. “Efficiency is doing things right, and effectiveness is doing the right thing.” (attributed to Peter F. Drucker)

    Effectiveness trumps efficiency socially and therefore politically. Economics is chiefly concerned with efficiency. Efficiency is positive and non-normative. Social and political effectiveness is both positive and normative, because society is norm-based, that is, ordered by rules rather than natural (purely positive) outcomes.

    Modern society, being based on polity, is governed by policy and policy is determined by politics in systems involving choice. In a liberal democracy different views of governance compete, based on differing norms and visions, which determine different worldviews.

    At times, the competition is between different paradigms, e.g., capitalism v. socialism as a guiding economic idea. In other circumstances, the competition is within an overarching paradigm.

    The overarching paradigm in the US today is economic neoliberalism (free markets, free trade, and free capital flow), and political neo conservatism, i.e., exporting democracy American style, which is really plutocratic oligarchy, and neo-imperialism, which is really neo-colonialism with client states instead of colonies. The establishments of both parties are committed to this paradigm and argue around the edges of it, which is a reason that most politics is a distraction from real issues.

    For example, if the CAD is the problem, then China is the problem, and the solution is beating China, either by “out-competing,” which means a race to the bottom in wages, or else instituting a new Cold War, which is beneficial to the military-industrial-governmental complex.

    The solution in my view is approaching the world as a closed system in which all are interdependent and designing a system based one, “One for all and all of one.” (The motto of the three musketeers — actually four — of Dumas’ novel of that name.) This is not difficult to do. We already know how to do it. It just requires coordination and cooperation (integration) instead of chiefly competition and control, which are the basis of neoliberalism/neoconservatism/neo-imperialism as a global model.

  14. Peter D says:

    Found this comment on Ezra Klein’s blog:

    “tax receipts are currently running at around 15% of GDP.
    Also, corporate tax receipts are at 2% of GDP, and they’ve come down steadily from 6% in the 1950s.
    And the total tax burden (federal, state, local) at under 27% in the US is the fourth lowest in the developed world, just behind South Korea (in first and second place are those economic powerhouses Mexico and Turkey).
    The bottom line: our taxes are very low compared with how much we spend, compared with the rest of the world, and compared with our own history. Any talk of further tax cuts is the height of irresponsibility.”

    What would be a good counter-argument to this? So, we are paying relatively low taxes (compared to the rest of the world) but those are still too high to sustain the AD we need. Is it the consequence of our high standard of living?

    Tom Hickey Reply:

    The balance sheet recession and its causes arising from financial instability are not being addressed. Deficits are too low given the output gap/employment rate, and taxation is not well targeted. Moreover, QE is a fiscal drain, too. Finally, the causes of the financial crisis that spilled over into the real economy not only remain in place but have been augmented through lack of accountability and reform, and bad policy.

    Peter D Reply:

    Can you elaborate on
    1) “taxations is not well targeted”
    2) QE
    3) what about taxation prior to the crisis? It was still low but adequate to the conditions then?

    I’ll get back to beowulf’s comment, it could also explain much, thanks!

    Tom Hickey Reply:

    1. Taxation should chiefly be targeted at economic rent, which unproductive and parasitical, instead of at factors of production.

    2. QE removes the interest that would have been paid on tsys from nongovernment. QE also takes risk-free assets off the table and encourages increased risk assumption, running the risk of blowing more bubbles.

    3. The trend for a long time has been to reduce taxes on economic rent and shift taxation to worker income. Pursuit of economic rent instead of productive activity creates perverse incentives. Moreover, since the inception of monetarism and NAIRU, full employment has been redefined to provide a buffer stock of unemployed “to control inflationary expectations.” This has disadvantaged workers by undermining their bargaining power and driving them into unsustainable debt. The dual factors of unsustainable private debt and excessive leveraged speculation resulted in financial instability that became unsustainable and the financial system collapsed, taking down the real economy with it.

    Peter D Reply:

    But are all those unique to the US? What is unique to the US that makes the relatively low taxation to be still too high?

    Tom Hickey Reply:

    “What is unique to the US that makes the relatively low taxation to be still too high?”

    The problem is not taxes too high but the deficit too low for the combination of domestic propensity to save and the CAD, as indicated by the output gap/employment rate. The deficit can be increased either through increased budgetary expenditure or lower taxes, or some combo of those.

    ESM Reply:

    ““What is unique to the US that makes the relatively low taxation to be still too high?”

    Tom alluded to this in his second attempt to answer the question, but the unique factor is that the rest of the world wants to accumulate dollars. In order to accumulate dollars they net sell us goods and services in exchange. Thus, much of US aggregate demand is satisfied by production abroad, leaving excess production capacity here. To put it more succinctly, the US government has to run large enough deficits to satisfy domestic savings desire AND foreign savings desire (in dollars), and the foreign savings desire is significant.

    Nobody outside of South Korea, Turkey, or Mexico particularly wants to accumulate significant savings in won, lira, or pesos, respectively, so government debt and deficits in those countries will need to be lower to maintain the value of the currency.

    Tom Hickey Reply:

    To follow up on ESM, theoretically trade imbalances are supposed correct through an adjustment of exchange rates. However, governments purposely depress their currencies in order to maintain export advantage, as well as erect barriers to imports is so far as they can within WTO rules. This distorts the international marketplace, resulting in persistent trade imbalances that should in theory correct automatically through rate adjustments.

    This is an other instance of the fallacy of composition. While countries try accumulate trade surpluses in order to import jobs, It is not possible for all countries to run trade surpluses simultaneously. The actual problem is insufficient global demand owing to dumb fiscal policy worldwide as a result of neoliberalism’s dominance.

    Ramanan Reply:


    “Nobody outside of South Korea, Turkey, or Mexico particularly wants to accumulate significant savings in won, lira, or pesos, respectively, so government debt and deficits in those countries will need to be lower to maintain the value of the currency.”

    If you read a bit of MMT, they argue that Turkey’s current account deficit is “indefinitely sustainable” and there is another on the Mexican Peso with assumption that the current account is caused by foreigners’ desire to save in the Peso.

    Firstly neither of these nations import in their own currencies. More importantly, the Mexican Peso collapsed in 2008 and the nation had to be bailed out by the IMF.

    Turkey’s central bank is fighting a battle with the currency markets at the moment and may have to deflate demand.

    Both nations face issues with employment.

    As far as the US is concerned, policy makers do not and _cannot_ boost demand in the way suggested here and that is what Ben Bernanke’s “unsustainable” talk is all about. Though he is far from understanding any PKE.

    US Treasuries have become the modern equivalent of Gold and the fact that the rest of the world ships products to the US is a correlated fact about the US current account. Its partly driven by the Chinese policy of keeping its currency undervalued.

    If a strategy to boost demand through a strategy of increasing government expenditure and/or reducing tax rates is followed, the public debt and the negative net overseas assets rises forever only to be cut off by deflating demand.

    Depending on the “markets” to do the trick – i.e., adjust by change in the value of the currency is like believing in the invisible hand.

    One can say that growth puts the public debt and the net overseas assets on a sustainable path. Unfortunately it does not. In the long run, assume full employment is needed, and is achieved. The growth above the population growth may be difficult to achieve. At any rate, the growth number which prevents the public debt and the net overseas assets from rising forever needs to be large when considering other factors such as income paid to foreigners.

    You give a big license to foreigners to speculate on your currency if such a strategy is followed (just relaxing fiscal policy to achieve full employment and not worrying about the external sector) – because indebtedness to foreigners keeps increasing.


    i respectfully don’t agree with most of the above

    Ramanan Reply:

    “This distorts the international marketplace, resulting in persistent trade imbalances that should in theory correct automatically through rate adjustments.”

    How come you changed your language from “imports are benefits” to wishing for trade balancing ?

    Tom Hickey Reply:

    Ramanan: “US Treasuries have become the modern equivalent of Gold.”

    Would it be more correct to say that the US dollar has become the equivalent of gold in that gold was effectively the numeraire in the Bretton Woods convertible fixed rate system where the rate was fixed by dollar-gold convertibility. When convertibility was removed, the floating dollar became the global numeraire. Therefore, it was considered in everyone’s interest to have a stable dollar.

    Bretton Woods was based on the US being the world’s largest economy and most powerful nation, as well as the largest holder of gold. After Bretton Woods failed when Nixon unilaterally end convertibility, the EZ was designed to challenge US hegemony by creating an integrated economy of comparable size with its own currency.


    for a given size govt, the right level of taxation is that which results in full employment.

    so for the size govt we have, we are obviously grossly over taxed

    Peter D Reply:

    This I understood. The question was what was unique about US that the gap had to be larger than for other countries.

    By the way, Warren, do you think you could score an interview with Ezra Klein? His blog, I think, is widely read. My own exposure to MMT came through his interview with Jamie Galbraith (and I, in my turn, already converted some people). He, unfortunately, doesn’t seem to have gotten what JK was trying to say to him. Maybe it is because Jamie sounded kinda radical (“deficits don’t matter” kinda radical :)). He also did not explain the simple truth behind sectoral balances that make govt deficits imperative.
    I wrote to Ezra urging him to talk to you, but who am I? On the other hand he claims to read all his email. His address is wonkbook@gmail.com


    big trade deficit allows for lower taxes than otherwise, along with other demand leakages like pension fund contributions, etc.

    never heard of Klein but will send an email

    beowulf Reply:

    Good kid, in his mid 20’s, started blogging while an undergrad in California. Heas staff writer/blogger at liberal journal American Prospect and is now a writer/blogger for the Washington Post. I like Ezra, but conservatives were right that Ezra starting the journolist discussion group was a bad idea.

    He and his buddy Matt Yglesias (who started blogging as a Harvard undergrad at about the same time) are two of the sharpest liberal bloggers, though Matt is more in paradigm (or as one reader put it, “Matt Yglesias’ painfully slow odyssey towards Minskyite MMT, Part 11″.

    Oh here’s Jamie Galbraith explaining to Ezra why deficits don’t matter.

    MamMoTh Reply:

    “for a given size govt, the right level of taxation is that which results in full employment. so for the size govt we have, we are obviously grossly over taxed”.

    Is it so? Do you think there is always a right mixture of government spending/taxation that yields full employment however it is defined?

    If the government were to cut taxes, and people saved that taxes, how would that fill the output gap?



    unemployment is the evidence that there isn’t enough govt spending to satisfy the need to pay taxes and net save

    if tax cuts triggered higher savings desires then taxes are still too high

  15. Danf says:

    Another Q. Reading your book. You state a scenario (pg. 43/44) where $100b in treasuries are purchased. Your point is once the money is moved from a reserve account to a treasury account the government can then take the money from the purchase and spend it increasing bank accounts. So result is the non-government sector ends up with both $100b in increased accounts AND $100b of new treasury securities.

    I don’t understand the “AND $100b of new treasury securities”. Once the Fed spends the $100b how are the securities of any value other than a promise to pay?

    Also, I read this commentary “The End of China’s Surplus”


    I am totally confused on how this would happen since I seriously doubt that the US would ever export more into China than it imports?
    And are low interest rates due to selling treasuries?


    Dan F


    the securities are a promise to, at maturity, debit your securities account and credit your reserve account.
    problem with that?

    Dan F Reply:

    Since the “AND” was accentuated I wasn’t sure if there was some other value in the securities that I missed.

    The biggest hang up people have is that they believe that the securities need to be in reserve. I liken it you buying a CD at a bank. You pay for the CD and the bank turns around and uses the deposit to fund other activities. Money is not kept in a vault it is used. Also there seems to be the idea that China can demand payment (or want to be paid) at a point prior to the security maturing.

    Anyhow, thanks for your response.

  16. Dan F says:

    I am understanding much better how the Fed works but I do have a question that I am not sure about.

    With the stimulus spending. Say for this conversation Congress approved 100m to be doled out to the states.

    1) I assume that would increase the debt by 100m. So is the debt made of from both treasuries and government spending?

    2) Is the only way to remove that $100 debt would be through taxation? What happens when if the government makes money, as an example, in interest payments?


    ps Warren are you presenting anywhere in the near future?


    not presenting anywhere in the near future.

    100m to the states would increase what we call the national debt by that amount.
    It also adds that much in net financial assets to the sectors outside of govt.

    yes, taxation or interest paid to govt both remove those financial assets from the non govt sectors.

  17. Andrew says:

    Could a large state with budget troubles create its own currency to help alleviate its problems? Could it, say, pay suppliers and employees partly in dollars and partly in “CalBucks”, and then when it collects tax, demand some percentage of that tax be paid in “CalBucks”?


    operationally, yes, but legally, probably not.

    i do think states can issue tax credits that can be used to pay state taxes, which would do the trick and be much like what you are describing.

  18. Tom Hickey says:

    BTW, when I inveigh against “the evils of capitalism,” please don’t conclude that I am recommending either socialism or feudalism. I am saying that all factors need to be integrated in a balanced way in order to produce a synthesized result that is harmonious and sustainable.

    Also, I don’t believe that land, labor and capital are the only major factors, or labor and capital, if land is included as capital, as some would have it. For example, energy, environment, and human resources are also key factors that are often overlooked. That biases outcomes away from sustainability, for instance.

  19. Andrew says:

    Does money created by the Fed through the purchase treasury securities ever vanish? Is it different than commerical-bank created money in that it isn’t owned to anyone?

    Tom Hickey Reply:

    Andrew, the Fed just switches asset forms, e.g., reserves to tsy’s and back. It does not increase or decrease nongovernment net financial assets in the process.

    The Treasury, following the directions of Congressional appropriation, injects nongovernment financial assets through expenditure, increasing nongovernment NFA through deficit spending. Similarly, taxation withdraws nongovernment net financial assets. This is why MMT focuses on fiscal rather than monetary.

    beowulf Reply:

    “Does money created by the Fed through the purchase treasury securities ever vanish?”

    Well D.D. Cooper disappear with $200,000 in Federal Reserve notes. But that’s the exception, otherwise no.

    In fact, to follow up on Tom’s point, I’d suggest checking out Cullen Roche’s “Understanding Modern Monetary Capitalism” page, he said something worth considering…
    The currency unit created by the state via deficit spending can only be extinguished by payment of taxes. Therefore, a modern monetary system can best be thought of as a system of debits and credits where government deficit spending credits the private sector and payment of taxes debits the private sector.

    It only by Tsy spending that ‘net financial assets’ are created. NFAs can shift between reserve account (bank “checking accounts”) and securities account (bank “savings accounts) but they never disappear. It is only by Tsy taxation that NFAs are destroyed. Which reminds me of another Steven Wright joke, I wish the first word I ever said was the word “quote,” so right before I die I could say “unquote.”
    So spending is quote and taxing is unquote. :o)


    yes, when it sell securities or when operating factors, like tsy balances, reduce reserve balances

    Andrew Reply:

    I understand the first part. Can someone expand on the second part (operating factors)?

  20. Peter D says:

    Another question.
    Suppose you’re establishing a new country. You have a big population willing to work, but not necessarily enough energy resources, such as oil (something like China). Suppose you’re even running an MMT regime.
    You know that exports are costs, so, you want to keep stuff you produce at home, but you still need to buy oil from abroad. You then need to run trade surpluses just to get dollars needed to buy oil. Is that correct?

    Neil Wilson Reply:

    My policy proposal (based on my current understanding) would be that the country can import as much as it likes as long as the importer takes the local currency. These are essentially discretionary imports.

    However if the country has required imports (oil being one) for which it must pay in a foreign currency then these imports must be ‘paid for’ by equivalent foreign currency export earnings.

    So the ‘foreign currency’ external sector should be in balance but the ‘domestic currency’ external sector should ideally be in deficit (as that is essentially economic agents in other countries that have decided to join your currency zone).

    I now await Warren to come along and tell me why my understanding of foreign exchange is deficient and this is unnecessary :)

    beowulf Reply:

    Its fairly simple because you can get dollars selling Uncle Sam long or selling him short (or both as we’ll see). First, You sell Uncle Sam long, you ally yourself with the Pentagon. Defense treaty, basing lease, American intelligence officers need legit passports, a safe place deport Gitmo detainees, a reliable supporter at the UN. Heck, offer to start a military just so you can send your troops to Afghanistan (it’ll be fine that they don’t leave the US airbase that will look just like the one back home). All of these favors will be repaid… with dollars, or if its oil you need, the US will arrange for Saudi Arabia or Kuwait to hook you up. That’s what friends are for.

    Second, you sell Uncle Sam short, that is you take tax revenue out of Tsy’s pocket by passing super strict bank secrecy laws and super lax incorporation law. And of course low or non-existent taxes thanks to steady stream of banking and corporate user fees siphoned off the river of US dollars that flow into tax haven countries. The Pentagon won’t care and the Tsy can’t do much even if they did.

    Anyway, that’s how Bermuda did it back in the day. For over 40 years, it hosted a US Naval Air Station, for which the Navy paid tens a million (of US dollars) a year in rent. It would have been a bargain for free, before the US military built and operated the international airport, the only way a tourist (with their US dollars) could fly in was by flying boat. A pity the base (but not the airport!) was closed down in 1995. But its OK, Bermuda now collect 70% of its tax revenue from user fees (in US dollars I trust) on offshore financial services, and the tourist keep coming.

    So just your typical three sector economy, 1. US air bases (or anchorage if the Pentagon wants to build you a port), 2. US tax evaders, 3. US tourists. I don’t think you have to worry about a foreign currency deficit. :o)

    Tom Hickey Reply:

    See the movie, The Mouse That Roared.


    yes, worst case, you need export revenues to pay for imports.


    worst case, you need to have exports sufficient to pay for your imports