Tag Archives: Deficit

Ed Harrison’s post

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Out of control US deficit spending

By Edward Harrison

April 30 — Regular readers know that, while I have a little of what Marshall Auerback calls deficit terrorism in my DNA, I fully support fiscal stimulus as a means to arrest a deep downturn.

Yes, though I like to say ‘removing fiscal drag’ but same thing.

The horrendous Keynesian nightmare

My move into Keynesian mode came in December 2008 with Confessions of an Austrian economist. In fact, I have argued the ObamaAdministration needed to use more stimulus in early 2009, not less (see January 2009’s Obama’s stimulus bill is a tough sell so far as an example).

Yes, needed to remove more drag.

As early as February 2009, I argued that Obama took a middle road on stimulus and taxes that leads nowhere which would discredit stimulus as a policy tool. And that is indeed what has happened.

Agreed. Which would be ok if they recognized it and opted for further adjustment.

Now, of course many of you don’t feel that way because you share my visceral disaffection for deficit spending.

Given there is a ‘right size’ govt based on public purpose of the public sector, and not revenues, the fiscal adjustments fall on the tax side.

So I feel the visceral disaffection for the over taxation that comes from a too small deficit.

But I laid out where the US economy is headed without stimulus in “The recession is over but the depression has just begun” six months ago. And right now we are heading exactly where I said we would. Witness my last post on the economy “US GDP growth rate is unsustainable; recovery will fade”

Anyway, the point is that the US economy will not be able to sustain recovery for long without stimulus. The likely result of withdrawing stimulus is a recession that is deeper than the last one aka a major depression.

Yes, it sure looks like the shortfall in aggregate demand calls for an immediate fiscal adjustment.

Deficits as far as the eye can see

But right now, a lot of talking heads are trying to bamboozle people with tales of woe about hyperinflation and sovereign bankruptcy in the US to support specific claims about what deficit spending can and can’t do. Deficit hawks, in particular, are on the warpath – a completely predictable outcome since I anticipated it just as Obama was elected in November 2008 (see Beware of deficit hawks).

Agreed!

Of course the US deficits are too large. Come on: 10% deficits as far as the eye can see are unsustainable over the long-term.

I don’t see that. Especially if govt spending isn’t ‘forced’ into the economy which would be evidenced by a closing of the output gap.

Until the output gap closes, deficits are simply offsetting non govt ‘savings desires’ for dollar financial assets.

That is, deficits add directly to non gov savings and until those savings desires are saturated govt isn’t ‘forcing’ financial assets into the economy.

The key word, however, is long-term. However, no one seems to understand the difference between short-term and long-term and the debate has become an ideological free-for-all.

It would help if they realized there is not necessarily a long term problem either.

Earlier this month, I told you I am throwing in the towel on policy makers because it’s clear that Obama has been captured by the deficit hawks and we are headed for a painful recession within the next two years (maybe even as soon as next year).

Agreed!

Policy is exogenous and deficits are endogenous

So let’s stop talking about policy as if we are going to change anything. I started moving away from stimulus happy talk to focus on malinvestment in December of last year.

The policy debates aren’t working because the actual mechanics of a fiat monetary system are being obscured by ideological political debates. So, what I want to do is lay the foundations of modern money with you so we can strip away the politics and ideology from the economics.

The goal is to demonstrate that fiscal deficits and surpluses are endogenous to our economic system and depend on exogenous policy decisions which are inherently political and ideological.

Let me give you an example. What if we allowed the US economy to proceed without making one economic policy decision for the next two years? What would happen? The answer is that the government would have a fiscal deficit of X billions of dollars exactly matched by X billions of surpluses in the non-government sector (remember the sectors must balance). The deficit outcome is endogenous. It is a function of the inputs i.e. of the private sectors desire to save and the government’s spending decisions.

Agreed, as above.

On the other hand, government economic policy decisions are exogenous. They are input variables which alter outcomes. This is an important point because if we know how the monetary system works, then we can get a much better handle on how different policy decisions actually affect deficits and surpluses. And remember, policy decisions are almost entirely political. That is they are driven by ideological positions.

Agreed.

So, if I say to you that I am against government spending and it must be cut, this creates a specific outcome path. On the other hand, if I say I am pro-stimulus, this too creates a specific outcome.

Modern Money

Here’s how I am going to go about this one:

I went to a conference on Modern Monetary Theory (MMT) on Wednesday. Over the next few weeks, I will present some ideas from the Modern Money people (Randy Wray, Marshall Auerback, Bill Mitchell, etc). I’ll start the post titles with “MMT:….”

Yes, good to see you there!

I will take a somewhat antagonistic approach because I think that’s probably going to the best way to introduce this to people who have a more libertarian bent like myself.

Now, my bio says:

From an ideological perspective, Edward calls himself a libertarian realist: a firm believer in the primacy of markets over a statist approach. but not in an ideological way. Often government intervention and oversight is not just wanted but warranted.

What that essentially means is that when I think about government, I view it with suspicion and my inclination is to seek to limit its size and scope.

Yes, there is a right sized govt that serves public purpose that varies from person to person. It’s a political decision.

That means I have an innate disaffection for big government,

Ok, that’s a legitimate political position shared by tens of millions, and maybe a majority.

deficit spending,

That’s the size of additions to net non govt savings which can only come from fiscal balance. The political decision here is the outcome (growth, employment, etc.) Of the level of savings govt allows through its policy.

money printing,

That’s a gold standard term relating to the ratio of paper claims on the gold reserves to the actual gold reserves. It’s no longer applicable as originally defined, so needs to be redefined or otherwise specified.

For example, the fed buying securities is an exchange of financial assets, both of which generally fall under some monetary aggregate, at which level that aggregate remains unchanged.

etc. – but not in an ideological way. It all depends on the circumstances. (For instance, see “A brief philosophical argument about the role of government” and “A few thoughts about the limitations of government” which outline my ideological positioning).

So, my goal in this is to separate the policy and the politics from the mechanics of how our fiat money system operates. That way it will be clear what is actually happening in our monetary system right now and what is pure political posturing. You will also then probably see a lot of congruence between how I see the economic mechanics and how Marshall sees them. The difference, of course, is ideology.

The way I intend to position this is that Modern Money Theory economists are really the True Modern Money Operations economists because they present the true mechanics of modern fiat money operation, which I will show you.

Now, policy decisions are largely political, exogenous decisions about which informed decision-makers can disagree. However, if we aren’t at least informed about the mechanics of how modern money works, it is very difficult to have an intelligent debate about deficits, social security, fiscal stimulus or anything else for that matter.

I know that I have learned a lot from what the likes of Randy Wray and Bill Mitchell have said (remember, I studied economics in a time heavily influenced by the prevailing economic orthodoxy). I don’t ‘buy into’ a lot of what they propose on policy, but on modern money they have it right.

Agreed, though i probably support most of their policies as well. But not always.

The purpose is to present the underpinnings where we can all agree and separate it from the ideological piece. My ideological foil in this will be Marshall Auerback. Afterward, I hope we can have a framework from which to talk about the political piece.

I hope you enjoy the debate and a presentation of the ideas.

Looking forward to it, thanks!!!

Best,
Warren

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The Day Ahead in DC

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A true day of infamy!

Financial reform and fiscal policy…

9:45 am – President Obama speaks on fiscal policy. At the opening of the inaugural meeting of the National Commission on Fiscal Responsibility and Reform.

10:00 am – Permanent Subcommittee on Investigations hearing on the financial crisis. The hearing should run through mid-afternoon.

10:00 am – Fed Chairman Bernanke and OMB Director Orzsag testify on fiscal matters. At the first meeting of the president’s fiscal commission.

12:30 pm – Senate party conference meetings. Following last night’s Senate vote on financial reform, in which Democratic leaders failed to invoke cloture (i.e., close debate) on the question of whether to proceed with debating the bill, both parties must now decide how to proceed. Most observers expect that although Republicans opposed the bill last night unanimously, that unity may not last very long, as many members have a desire to eventually vote for some form of financial reform legislation. Republicans on the Senate Banking Committee and their staffs have been writing an alternative proposal to offer on the Senate floor, though when and even if that comes at this point is unclear. Senate Democratic unity was set back yesterday by one member, Sen. Nelson of Nebraska, voting yesterday with Republicans against moving forward. The ongoing discussions today, and partiuclarly the conference lunches at mid-day, will set the tone for the next steps in the process.

Afternoon – Vote on financial reform? Most observers expect Majority Leader Reid (D-NV) to call for another vote moving forward with Senator Dodd’s financial reform bill as soon as later today, potentially followed by yet another vote tomorrow if today’s vote does not hit the 60 votes required. Following the first cloture vote yesterday, subsequent reconsideration of that vote can be called for at any time.

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Altman is back

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America’s disastrous debt is Obama’s biggest test

By Roger Altman

April 21 (FT) — The global financial system is again transfixed by sovereign debt risks. This evokes bad memories of defaults and near-defaults among emerging nations such as Argentina, Russia and Mexico.

Yes, all fixed FX blowups.

But the real issue is not whether Greece or another small country might fail. Instead, it is whether the credit standing and currency stability of the world’s biggest borrower, the US, will be jeopardised by its disastrous outlook on deficits and debt.

This comp completely misses the fundamental difference between the two. The Fed is an arm of the US govt, while the ECB is not an arm of greece.

America’s fiscal picture is even worse than it looks. The non-partisan Congressional Budget Office just projected that over 10 years, cumulative deficits will reach $9,700bn and federal debt 90 per cent of gross domestic product – nearly equal to Italy’s.

Another apples/oranges comp. This is less than poor analysis.

Global capital markets are unlikely to accept that credit erosion. If they revolt, as in 1979,

There was no ‘revolt’ in regards to the US in 1979.

ugly changes in fiscal and monetary policy will be imposed on Washington. More than Afghanistan or unemployment, this is President Barack Obama’s greatest vulnerability.

His greatest vulnerability is listening to this nonsense, and not recognizing that taxes function to regulate aggregate demand, and not to raise revenue.

The unemployment rate is all the evidence needed, screaming there is a severe shortage of aggregate demand, and a payroll tax holiday would restore private sector sales by which employment immediately returns.

Instead, the admin is listening to this nonsense and working to take measures to tighten fiscal policy which will work to reduce aggregate demand.

How bad is the outlook? The size of the federal debt will increase by nearly 250 per cent over 10 years, from $7,500bn to $20,000bn. Other than during the second world war, such a rise in indebtedness has not occurred since recordkeeping began in 1792.

Point? Govt deficit spending adds back the demand lost because of ‘non govt’ savings desires for dollar financial assets.

The cumulative govt ‘debt’ equals and is the net financial equity- monetary savings- of the rest of us.

You could change the name on the deficit clock in nyc to the savings clock and use the same numbers.

It is so rapid that, by 2020, the Treasury may borrow about $5,000bn per year to refinance maturing debt and raise new money; annual interest payments on those borrowings will exceed all domestic discretionary spending and rival the defence budget. Unfortunately, the healthcare bill has little positive budget impact in this period.

That just means our net savings is rising and the interest payments are helping our savings rise.

In fact, treasury securities are nothing more than dollar savings accounts at the fed. Savers include us residents and non residents like the foreign countries that save in dollars.

Why is this outlook dangerous?

Because it leads to backwards policies by people who don’t get it.

Because dollar interest rates would be so high as to choke private investment and global growth.

There is no such thing.

First, rates are set by the fed.

Second, there is no imperative for the tsy to issue longer term securities or any securities at all.

Third, there is no econometric evidence high interest rates do that. In fact, because the nation is a net saver of the trillions called the national debt, higher rates increase interest income faster than the higher loan rates reduce it (bernanke, sacks, reinhart, 2004 fed paper).

It is Mr Obama’s misfortune to preside over this.

It’s his misfortune to be surrounded by people who don’t understand monetary operations. Otherwise we’d have been at full employment long ago.

The severe 2009-10 fiscal decline reflects a continuation of the Bush deficits and the lower revenue and countercyclical spending triggered by the recession. His own initiatives are responsible for only 15 per cent of the deterioration. Nonetheless, it is the Obama crisis now.

It’s the obama crisis because taxes remain far too high for the current level of govt spending and saving desires.

Now, the economy is too weak to withstand the contractionary impact of deficit reduction. Even the deficit hawks agree on that.

It’s too weak because the deficit is too small. And yes, making it smaller makes things worse.

In addition, Mr Obama has appointed a budget commission with a December deadline. Expectations for it are low and no moves can be made before 2011.

Yes, and then to cut social security and medicare!!!!

Yet, everyone already knows the big elements of a solution. The deficit/GDP ratio must be reduced by at least 2 per cent, or about $300bn in annual spending. It must include spending cuts, such as to entitlements,

Here you go!!!!!!!!!!!!!!

and new revenue. The revenues must come from higher taxes on income, capital gains and dividends or a new tax, such as a progressive value added tax.

Yes, all working to cut aggregate demand and weaken the economy.

It will be political and financial factors that determine which of three budget paths America now follows.

Yes, the backwards understanding by our leaders.

The first is the ideal. Next year, leaders adopt the necessary spending and tax changes, together with budget rules to enforce them, to reach, for example, a truly balanced budget by 2020. President Bill Clinton achieved a comparable legislative outcome in his first term. But America is more polarised today, especially over taxes.

Clinton was ‘saved’ by the unprecedented increase in private sector debt chasing impossible balance sheets of the dot com boom, which was expanding at 7% of GDP, driving the expansion even as fiscal was allowed to go into a 2% surplus, which drained that much financial equity, and ending in a crash when incomes weren’t able to keep up.

The second possible course is the opposite: government paralysis and 10 years of fiscal erosion. Debt reaches 90 per cent of GDP. Interest rates go much higher, but the world’s capital markets finance these needs without serious instability.

Japan is well over 200% (counting inter govt holdings) with the 10 year JGB at 1.35%. Interest rates are primarily a function of expectations of future fed rate settings, along with a few technicals.

History suggests a third outcome is the likely one: one imposed by global markets.

There is no history that suggests that, just misreadings of history.

Yes, there may be calm in currency and credit markets over the next year or two. But the chances that they would accept such a long-term fiscal slide are low. Here, the 1979 dollar crash is instructive.

A dollar crash, whatever that means, is a different matter from the funding issues he previously implied.

The Iranian oil embargo, stagflation and a weakening dollar were roiling markets. Amid this nervousness, President Jimmy Carter submitted his budget, incorporating a larger than expected deficit. This triggered a further, panicky fall in the dollar that destabilised markets. This forced Mr Carter to resubmit a tighter budget and the Fed to raise interest rates. Both actions harmed the economy and severely injured his presidency.

The problem was the policy response to the ‘dollar crash.’ rates went up because the fed raised them with a vote. Market forces aren’t a factor in the level of rates per se. They are part of the Fed’s reaction function, which is an entirely different matter.

America’s addiction to debt poses a similar threat now. To avoid an imposed and ugly solution, Mr Obama will have to invest all his political capital in a budget agreement next year. He will be advised that cutting spending and raising taxes is too risky for his 2012 re-election. But the alternative could be much worse.

So it’s all about avoiding a dollar crash?

So why are we pressing china to revalue their currency upward which means reducing the value of the dollar? Can’t have it both ways?

Altman was in the Clinton admin confirms they were in the ‘better lucky than good’ category.

Feel free to distribute, thanks.

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Email exchange with Dan

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On Thu, Apr 15, 2010 at 12:08 PM, wrote:
Hi Warren,

I must admit that your writing and thoughts have had a significant impact upon me. Interestingly—at least from where I sit—your Soft Currency Economics paper, which I have now read 5 or 6 times, has provided me with an odd peace of mind…not sure if that is a GOOD thing or not. :)

thanks!

KNOWING that—so long as trust and confidence in our fiat system remains—we are always able to mitigate, at least in some manner, the impact of global financial crises through the changing of numbers ‘upward’ in the accounts of men and of institutions, is somewhat akin, I’d imagine, to an alcoholic knowing that, no matter what, an endless supply of Johnny Walker Black always exists in his basement stash.

Actually, as long as we can enforce tax collections the currency will have value.

Problem is the currency can’t be eaten or drunk, so if the crops fail it won’t help much.
All we can insure is enough currency to pay people to work, not enough things to buy

OK, so maybe the analogy is a tad morose…but hence my funny feeling about my peace of mind.

So, my question of the week revolves around the U.S.’s apparent choice to monetize (again, if you will) the IMF coffers. I point to the following from Zerohedge:

“…As we reported a few days ago, the IMF massively expanded its last resort bailout facility (NAB) by half a trillion dollars, in which the US was given the lead role in bailing out every country that has recourse to IMF funding.

We buy SDR’s with dollars which the IMF then loans, so yes.

Yesterday, Ron Paul grilled Bernanke precisely on the nature of the expansion of the US role to the NAB: “The IMF has announced that they are going to open up the NAB which coincides with the crisis in Greece and Europe and how they are going to bailed out. The irony of this promise is that in the new arrangement Greece is going to put in $2.5 billion in. I think only a fiat monetary system worldwide can come up and have Greece help bail out Greece and be prepared to bail out even other countries.

Greece needs euros, so the IMF will sell SDR’s to the euro nations to fund Greece, not the US.

SDR’s are only bought with local currency.

But we are going from $10 to $105 billion… We are committing $105 billion to bailing out the various countries of the world, this does two thing I want to get your comments on one why does it coincide with Greece,

Coincidental.

what are they anticipating, why do they need $560 billion, do we have a lot more trouble, and when it comes to that time when we have to make this commitment, who pays for this, where does it come from?

Seems they anticipate more nations will be borrowing dollars from the IMF?

We buy them by crediting the IMF’s account at the Fed. If and when the IMF lends dollars we move those dollars from the IMF’s account to the account at the Fed for the borrowing nation.

Will this all come out of the printing press once again, as we are expected to bail out the world?

Short answer, yes. long answer above.

Are you in favor of this increase in the IMF funding and our additional commitment to $105 billion?”

No.

Bernanke, of course, washes his hands of any imminent dollar devaluation – it is all someone else’s responsibility to bail out life, the universe and everything else. Bernanke pushes on “I think in general having the IMF available to try to avoid crises is a good idea.”

2 problems. First the borrowers would probably be better off using local currency solutions rather than dollars, and second the IMF terms and conditions can and often do make things worse for the borrower.

Yet Paul pushes on “Where will this money come from? We are bankrupt too.” Indeed we are, but nobody cares – that is simply some other poor shumck’s problem…”

He’s flat out wrong about the US being bankrupt but that’s another story.

best,
warren

Warren, this strikes me as problematic. YES, we can add zeros to the end of accounts and thus ‘create’ more liquidity in the global economy. HOWEVER, at what point does the world choose not to believe that those numbers in those accounts have true value?

As long as we enforce dollar taxes the dollar will have value.

warren

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Counter Conference

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Background

Fiscal sustainability is very much in the News these days because of the activities of the President’s National Commission on Fiscal Responsibility and Reform, The Peterson Foundation’s very vigorous efforts to present a point of view on fiscal sustainability that reinforces and expands the outlook of the National Commission’s statement of purpose, The Washington Post’s continuing expression of the deficit hawkism point of view, and CNN’s “news alliance” with The Peterson Foundation. All this and more is part of a steamroller being formed to ensure that only one point of view on fiscal sustainability, namely a neo-liberal point of view dominates the landscape of public discussion.

When that sort of thing happens, as it did in the health care debate, the people suffer, because any policy, based on an alternative framing of the fiscal sustainability problem, is immediately off the table of policy consideration because it is outside the frame of “legitimate debate.” Let’s not let that happen with fiscal sustainability. Let’s keep a number of frames under consideration, so that we can consider all fiscal sustainability policies that might work. The test we use to determine whether a policy will work needs to be an evaluation of its consequences; not an evaluation of whether it’s outside a dominant frame of ideology. Continue reading →

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Upped my eurozone proposal to 20% of gdp

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“”The backstop package for Greece and the ECB’s climb-down on its collateral rules set a bad precedent for other euro area states and make it more likely that the euro area degenerates into a zone of fiscal profligacy, currency weakness, and higher inflationary pressures over time,” said Joachim Fels, head of research, in a note to clients.””

I agree with the moral hazard theory, however I would counter by saying market is making it in practice impossible (even with backstops and colateral climbdown) for this endgame to occur given the cost/lack of funding it is offering to profligate states??

Yes, under current, limited thinking.

My proposal for the ECB to make an annual payment to each national gov. of 5% of total eurozone gdp on a per capita basis still looks to me as the only proposal that instantly repairs credit concerns and gets to all the problematic issues.

However there is no reason to not quadruple that original proposal to a 20% annual distribution.

Additionally, any nation not in compliance with ‘growth and stability’ requirements would risk losing its annual payment.

This would ensure that national debt to gdp ratios will fall for all member nations who comply with the rules.

It also means any nation who doesn’t comply with the rules risks losing its payment and will be ‘punished’ by markets
while nations in compliance getting their annual 20% payment will be secure in their ability to fund themselves.

Over time the 20% annual payment can be scaled down until it equals their self imposed rules for permissible annual deficits for the member nations as desired.

The 20% annual distribution does not foster increased government deficit spending, apart from removing the ramifications of default and risk of default. In contrast, it provides a powerful incentive to limit national govt deficits to desired levels.

This proposal dramatically strengthens the finances of the eurozone with incentives that are the reverse of what are called ‘moral hazard’ incentives.

This proposal is not yet even a consideration so until then anything short of a dramatic export boom where the rest of the world is willing to reduce its ‘savings’ of euro net financial assets by net spending on eurozone goods and services isn’t going to cut it.

>   
>   (email exchange)
>   
>   On Fri, Apr 16, 2010 at 7:44 AM, wrote:
>   
>   Talked to an ECB guy about this proposal. He says ECB will NEVER agree. Says they can’t
>   by law do what you are proposing as he claims it is “monetising” the debt and will be
>   ”inflationary”.
>   

That’s what happens when no one in charge and no one in the medial understands actual monetary operations.

>   
>   Down we go!
>   

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April 28 Conference

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Looks like it’s on and I’ll be there.
All invited to attend. Will get details later today and tomorrow.
Will be getting a press release out as well.

Fighting Back Against the Drive to Slash Entitlements

By Ian Welsh

April 14 — Back when I was at FDL I had a chat with the Peterson Foundation folks. They struck me as sincere, but off-balance. To the extent that Social Security is in deficit at all any problems are decades out (which they admitted), and while Medicare has issues, the simplest and easiest way to cut medical costs overall is single payer, something they won’t push. More to the point, somehow “entitlements” always get mentioned first, and not things like Defense spending.

But the folks at the Fiscal Sustainability Teach-In Conference have a broader point: that fiscal sustainability, according to Modern Monetary Theory, isn’t based on debt-to-gdp, or how much the private sector will lend. The government can spend a lot more if it needs to, and doing so is a good idea if it leads to full employment and gets economic growth going again. They are having a free counter-Fiscal Summit on April 28th, the same day as the Peterson foundation has its summit.

There’s going to be some interesting speakers and topics at the summit, so if you can make it to DC, it’ll probably be worth going:

– What Is Fiscal Sustainability? (Team Leader: Professor Bill Mitchell, Research Professor in Economics and Director of the Centre of Full Employment and Equity (CofFEE), at the University of Newcastle, NSW Australia, and blogger at billyblog.)

– Are There Spending Constraints on Governments Sovereign in their Currency? (Team Leader: Stephanie Kelton, Assistant Professor of Macroeconomics, Finance, and Money and Banking, University of Missouri, Kansas City, and blogger at New Economics Perspectives)

– The Deficit, the Debt, the Debt-To-GDP ratio, the Grandchildren and
Government Economic Policy; (Team Leader: Warren Mosler, International Consulting Economist, Independent Candidate for the US Senate in Connecticut, and blogger at moslereconomics.com)

– Inflation and Hyper-inflation (Team Leader: Marshall Auerback, International Consulting Economist, blogger at New Deal 2.0 and New Economic Perspectives); and

– Policy Proposals for Fiscal Sustainability (Team leaders: L. Randall Wray, Professor of Economics, University of Missouri, Kansas City, and Pavlina Tcherneva, Assistant Professor of Economics at Franklin and Marshall College, and bloggers at New Economic Perspectives)

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