What MMT Gets Wrong, And Monetary Sovereignty Gets Right (Part Deux)

Recently, we wrote an article discussing the theoretical and practical differences between Modern Monetary Theory (MMT) and Monetary Sovereignty (MS).  But still, some may wonder why there is essentially no correlation between deficit spending and inflation, at least not in the post-gold standard era and not even during WWII.

Surely there must be some connection, right?  Well, there technically is, but essentially only at the extremes.  Why?  Because of the "velocity of money", spending (sources of dollars) need NOT be symmetrical with taxes (sinks of excess dollars), only that enough dollars are clawed back in the long run (with the definiton of "enough" being quite elastic).  And as the velocity of money increases along with actual or potential inflation, so too does the tax take, narrowing the gap between sources and sinks.

For example, if the velocity of money factor is 7 (i.e. newly created dollars changing hands seven times on average, before being destroyed), spending can theoretically exceed tax revenues at any given time by up to a whopping factor of seven (!) before the excesses begin to accumulate year after year to the point where inflation increases when demand for goods and services grows much faster than supply, all else being equal.  Of course, the velocity will vary, and all else may not be equal, but that only makes it even more of an automatic stabilizer overall.

(Of course, it sure didn't hurt that during WWII, taxes were collected in real time (i.e. withholding) and the tax base was greatly broadened as well, despite record-high yawning deficits.)

And of course, another major sink is the FERAL Reserve draining excess bank reserves, while raising interest rates increases the demand for dollars and thus the relative value of dollars.  And paying down debts of any kind is another major sink as well.  And of course, a growing economy requires a growing supply of money, just to prevent recession and/or deflation, so the sources can still exceed sinks of all kinds by quite a large margin before inflation begins to bite, and we are currently nowhere near that point.

And of course, banks create money out of "thin air" all the time every time they make loans.  The difference is they don't create the interest that is owed, which must come from somewhere when it is paid back.  And if this were the only method of money creation (which it would be, if federal "deficit" spending money into existence interest-free were zero or negative, that is, a so-called "balanced budget" or "surplus"), then there would NEVER be enough money to pay it back, leading to net destruction and artificial scarcity of money.  And that would be VERY harmful for any economy--it was, after all what turned the mild-at-first 1929 recession into the full-blown Great Depression by the time 1930 had come and gone.

So it's no wonder we don't see any robust correlation between deficit spending  (i.e. money creation) and inflation in either the short or long run.  Thus, another myth bites the dust.

What MMT Gets Wrong, and Monetary Sovereignty Gets Right

Modern Monetary Theory, or MMT, is just starting to break into the edges of the mainstream now.  Progressives from the new rising star Alexandria Ocasio-Cortez to the venerable Bernie Sanders are now (correctly) starting to endorse, whether subtly or not-so-subtly, the core tenet of MMT, namely, that federal deficits don't really matter since the federal government can just print the money.  While few are bold enough to say out loud the corollary that federal taxes do not actually pay for federal spending (and that the "national debt" is literally nothing more than deposits in Treasury security accounts), it is nonetheless implied since it follows logically from the premise that the federal government has infinite money.  And Rodger Malcolm Mitchell's related offshoot theory, Monetary Sovereignty (MS), also contains these same truths as well.

But MMT is also seriously flawed in a way that MS is not, and that is how they deal with the inflation question.  MMT prefers to keep interest rates permanently at zero or close to zero, regardless of how much inflation there is, preferring instead to adjust tax rates in response to inflation.  MS, on the other hand, prefers to use interest rates as a way to prevent and cure inflation, as taxes are too crude, too political, and not quick enough to use for inflation control as it happens.  (Note that even modest federal taxes can still work for automatic inflation control in the background without changing the tax rates, as the tax take automatically increases with the velocity of money.)  MMT, in other words, paints itself into a corner, while MS retains the flexibility to deal with inflation as it happens.  Of course, raising interest rates only works to fight demand-pull inflation as opposed to cost-push inflation, but the former is much more sailent than the latter in regards to the (generally overblown) fear of "what if we print too much money?"  The FERAL Reserve can also drain excess bank reserves (i.e. where all excess liquidity eventually shows up sooner or later) and "sterilize" them, as yet another means of inflation control.

In other words, following MMT to the letter will ultimately take us back to where we started at square one in the same box, while MS represents a genuine way out of the box without the pitfalls of MMT.

Thus, while it is probably good to keep interest rates low or even zero as a rule, the flexibility to raise them as needed still needs to remain on the table.  And some sort of federal taxation would need to remain even if not for revenue-raising purposes.  Aside from a crude but automatic background method of inflation prevention, taxes can also give We the People leverage over the oligarchs by providing a handy "carrot and stick" means of controlling the economy to one degree or another.  So let's not box ourselves in with too pure a version of MMT, or throw out the proverbial baby with the bathwater.

Otherwise we will find ourselves, to quote Paul Krugman, "Running on MMT".

Do Deficits Matter? It Depends On One's Definition

The GOP has basically by word, deed, and especially by omission, admitted to being the party of "deficits don't matter, except when we say they do" hypocrisy.   The same party that excoriated Obama for initially high deficits (albeit inherited from Bush), has, under Trump, pushed the largest tax cut in recent history and blown up the deficit to approaching record levels now.  All while claiming that spending on Social Security, Medicare, and Medicaid, among other important programs, must be cut as a result.  You really cannot make this stuff up.

But is there any truth to the fears about deficit spending?  Not really, since the only real issues are political and psychological, which means they are all psychological.  Allow us to explain as follows:

Earlier this year, we at the TSAP have exposed the Big Lie of Economics, a lie so massive and specious that even WE partially fell for prior to 2018.  The Big Lie consists of the following statement and its corollaries:

• Federal taxes pay for federal spending, and any shortfall in revenues (i.e. "deficit spending") must be made up by the federal government borrowing money to cover the deficit.
• It must be this way, because otherwise the federal government will run short of dollars, which are finite.
• The federal government is literally bankrupt and can no longer afford to keep paying for Social Security, Medicare, and Medicaid, let alone anything more ambitious and progressive.
• Things like Universal Basic Income (UBI), tuition-free public college for all, state-of-the-art infrastructure, a Green New Deal, and single-payer Medicare For All sound like good ideas on paper, but we literally can't get the numbers to add up.  Sorry.  Oh well.
• If the national debt as a percentage of GDP rises above some arbitrarily high level, the federal government will have no choice but to default.
• Thus, we will have no choice but to accept an austerity "menu of pain" at this point, with both large tax hikes and/or deep spending cuts. (Austerity for the bottom 99%, that is.)

Do you still believe these statements? Well, guess what?  Each and every one of those specious statements is absolutely FALSE.  Period.  Not even a kernel of truth in there, except for the completely contrived self-fulfilling prophecy that believing such lies leads to, starting with the very first statement on that list, and it goes downhill from there. Federal taxes DO NOT pay for federal spending, because our federal government is Monetarily Sovereign and creates all the dollars they need to spend into existence on an ad hoc basis.  Tax dollars merely disappear into infinity, and the so-called "National Debt" is literally nothing more than a National Savings Account consisting of deposits in Treasury securities.  Yes, really.   And the only reason why we must currently match spending with taxes and/or "borrowing" is due to the arcane and archaic rules left over from when we actually had the gold standard.

As for inflation, there is essentially zero correlation between deficit spending and inflation, and history bears that out.  And even if there were inflation that resulted, that could be easily cured by raising interest rates as needed.  And due to the velocity of money, federal taxation of any kind, at even a relatively low rate, can to an extent automatically "claw back" any excesses in the money supply that may result, which can prevent inflation before it occurs.

So having established that, we must now note that sustaining the Big Lie, a lie that really only benefits the oligarchs and their sycophantic lackeys of both corporate duopoly parties in government, is now physically and metaphysically untenable.  Especially given the many converging real and contrived crises now facing our nation and world.  Make no mistake, we absolutely must end this Big Lie YESTERDAY or else face extremely painful austerity, recession, depression, or worse in the very near future.

Thus, we should all write letters to our Congresscritters based on the following sample letter written by the ever-insightful Dr. Joseph M. Firestone and disseminated by the ever-insightful Rodger Malcolm Mitchell:

Dear __________________

At one time or another you and nearly every one of your fellow Representatives (or Senators) have expressed great concern, even alarm, at the size of the national debt and the often increasing debt-to-GDP ratio.

Many of you have pointed out that if the national debt were broken down into how much each American owed that would add more than $50,000 to our individual debts, even though the national debt is not an obligation of each American citizen, but of our government.

You and your political allies have also pointed out that in view of the size of the national debt it is important for the Government to either reduce spending, raise taxes or both.

You have said doing this is necessary to be “fiscally responsible”, and, at least, to reduce the annual deficit, and the debt-to-GDP ratio.

You have voted for and supported legislation in order to be “fiscally responsible” in this way, and in doing so you have cut many programs of long standing that were delivering great benefits to people, harming them and their families.

Some of you have expressed regret and sorrow about this, while insisting on the need for sacrifice in order to be fiscally responsible.

I, your constituent, have heard this fiscal responsibility story from you for many years now, including your sentiments about how much you hate “the national debt,” what an evil it is, and how much we have to lighten its burden on our grandchildren.

In view of all this from you, it surprised me greatly to learn recently, that the very existence of the national debt is Congress’s fault, including your own and your colleagues. I say this for a very simple reason.

That reason is that you and your colleagues can, in an afternoon, make it standard legislative practice to include the following clause, or an alternative formulation meaning the same thing, in every appropriations bill or continuing resolution for Federal Spending. The clause is:

Now here comes the key part:

“Upon passage of this appropriations bill, the Federal Reserve is directed to fill the Treasury’s spending account at the New York Federal Reserve with the addition to its Reserve Balance necessary to spend the appropriation.

“In addition, the Federal Reserve is directed to fill the Treasury spending account with the additions to the Treasury Reserve balances necessary to repay all outstanding debt instruments including principal and interest as they fall due for the fiscal year of this appropriation.”

In short, the Federal Reserve would pay off T-securities, making the so-called “debt” disappear.

The Fed simply would create U.S. dollars from thin air, just as it always has been authorized to do, and just as it does when it buys federal bonds with its Quantitative Easing (QE) programs.

The first sentence provides the reserves necessary for the Treasury to spend its mandate from Congress without issuing new debt.

And the second provides the reserves necessary for the Treasury to pay down the existing outstanding Treasury debt instruments as they fall due within the time period of the appropriation or continuing resolution bill.

If this or similar language were included in every such bill it would mean that (1) deficit spending by Congress would no longer involve issuing new debt instruments, so the debt would no longer grow and (2) that all outstanding debt instruments would be paid off as they fall due as long as Congress continues to include the new language in all its appropriations bills and continuing resolutions.

So, it seems to me that the sole reason why the national debt exists at all in 2017 is that when President Nixon took the United States off the gold standard in 1971, the Congress did not adjust to the new reality of fiat monetary sovereignty by funding Federal spending using language like the above.

I believe that Congress made a grievous mistake in not changing its funding language immediately after the change to a fiat currency in 1971, and mandating the Federal Reserve to fill Treasury’s spending account with the reserves needed to spend its appropriations.

That mistake has led to the whole situation of debt terrorism we see around us now, and to all the damaging propaganda and horrible legislative outcomes we have suffered at the hands of Republicans and Democrats alike.

You have all been very wrong about the need to sacrifice. There was no need to sacrifice!

You have been all wrong about all of that for 40 years now, and you should all wear sackcloth and ashes and hang your heads for the damage you have done to America.

Since the Administration of President Carter we have been treated to these meaningless harangues about a faux financial problem that is purely one of politics and messaging and not one of public financing at all.

And this faux problem, solely of Congress’s own making has led to much suffering among most of the American people, including decades of less than full employment, the denial of universal health care coverage, deteriorating public spaces and infrastructure, refusal to deal with a life-threatening climate change problem, increasing economic inequality, a declining educational system, decreasing life expectancy, and a host of other problems too numerous to mention.

Well, I have had enough of all this, and especially of the pretense that the Federal Government doesn’t have enough money to buy any goods or services for sale using US currency.

I know that using the words above or words very like them, you and a majority of your colleagues in Congress can appropriate funds for anything you want to spend on.

So, never let me hear from you ever again that we can’t afford this good program or that good program or any other program that will benefit a majority of the people of the United States.

I now know that is a lie. And I insist that you never tell that lie again in public, and that from now on you advocate for and insist on legislative language similar to the above, being included in all appropriation bills and continuing resolutions passed by Congress.

I demand, that as my representative, you vote against any bill that lacks that language.

And I tell you now that if you fail to comply with this demand of mine, I will do all I can to defeat you in the next election and will work for and vote to elect any opponent of yours who is willing to promise that she or he will include such language in all appropriations bills or continuing resolutions.

In closing, I hope I have made myself abundantly clear. I insist that the lies and propaganda advancing faux fiscal responsibility stop immediately.

I insist that the issue of the national debt be taken off the table by including the language suggested above or a similar formulation, followed by gradual pay-off of all outstanding Treasury debt instruments. And I insist that you represent me in this way going forward and for as long as you serve.

I want Job 1 for you to be seeing to it to the best of your ability that this language is in all appropriation bills or continuing resolutions coming out of Congress. I will want other things from you too.

But, as I say, this is Job 1, and if you want my vote in the future you will see to it that it is well done, so that the various lies and fables surrounding Federal spending are at last ended, and so our nation may move forward to true fiscal responsibility, which is Government spending for public purpose.

Sincerely Yours, Your Constituent,

Granted, this letter is probably TL;DR and should perhaps be more concise, but the part in blue is really the heart and soul of the letter.  As Rodger Mitchell further explains:

The above letter is way too long to send as is. Further, I disagree with two of the points it makes: 

1. I disagree that all “debt” (i.e. T-securities) should be allowed to expire...and not [be] replaced. T-securities serve useful purposes. They help the Fed control interest rates and they provide a safe place to hold large amounts of money.
2. I disagree that “. . . Treasury Reserve balances (are)necessary to repay all outstanding debt.” Maturing Treasuries are repaid by transferring existing dollars from the T-security accounts back to the checking accounts of the T-security holders.  [Only the interest needs to be created anew.]

That said, the fundamental idea of having the Fed buy enough T-securities to reduce the outstanding “debt” would change the dialog, and ease the drive to cut social benefit spending.

And there you have it.  A bit more nuanced, but the same basic idea.  It would probably also be useful to add that there is a federal statute on the books that codifies the aforementioned arcane and archaic rules left over from when we actually had the gold standard.  That statute is codifed as 2 USC Ch. 20, most notably Section 902. Once one gets through the legalese mumbo-jumbo, one can plainly see that this requirement for "sequestration" upon "falling short" of federal budgetary dollars to pay bills is an outmoded contrivance that no longer serves any useful purpose at all.  Amending or repealing this obsolete section, or even the entire Chapter 20, is not just a good idea, but a matter of grave necessity to save our country at this point.  The same goes for 31 USC section 3101, which is the statute that imposes that other outmoded contrivance, the so-called "debt ceiling" as well.  Repealing both of these obsolete laws will permanently make it so the text in blue in the aforementioned letter will no longer need to be every spending bill as a formality to work around such laws each time going forward after the first one--especially if that text in blue were to be inserted in whatever remains of the repealed/amended 2 USC Ch. 20.

And instead of so-called "debt ceiling", which almost no other nation in the world has, we could simply have a spending limit that would be deemed automatically raised each time a new budget, continuing resolution, or appropriations bill is passed and signed into law, NOT by a separate vote. And that limit will only apply to spending on any new obligations taken on going forward, not on outstanding obligations.  The only functional reason for this at all would be as a "safety valve" or "circuit breaker" that would stop feeding the beast of inflation in the (unlikely) event of truly excessive inflation.

In the meantime, if Congress refuses to act, the executive branch does still have one powerful "ace in the hole":  the trillion-dollar coin.  While a pure "Treasury Warrant" idea is of very questionable legality and would likely be struck down by SCOTUS, under current law the Department of the Treasury has the explicit legal authority to mint platinum coins in literally any denomination.  Thus, they can easily mint one or two (or twenty!) trillion-dollar coins, or even a $100 trillion coin, as an effective workaround for the time being and use the resulting seigniorage to pay any bills and preclude default even if Congress plays "chicken" with the debt ceiling as a cudgel to force a default if they don't get their way.

TL;DR version:  Put simply, deficits really DON'T matter, except politically and psychologically.  And even that can be solved via Overt Congressional Financing (OCF).  As for the argument that economic growth must outpace bond yields, that is also just another version of the Big Lie debunked above, as OCF would essentially render it meaningless.

Again, to quote Dr. Firestone:

The national debt exists today because when the nation went off the gold standard in 1971 and adopted its fiat currency system, Congress did not explicitly repeal its mandate (very appropriate when our currency was convertible to gold on demand, at least in theory) requiring that the Government back all its deficit spending with already existing borrowed dollars whose convertibility was covered by our holdings of Gold. This Congressional mandate to borrow funds by issuing debt instruments when the Government deficit spends caused the national debt to persist until 1996. Congress, then, unintentionally, removed the mandate, leaving in its place the perceived compulsion of an old die-hard financial practice supported by the false ideology of neoliberalism, and a real, but unrecognized, option to abandon the practice by using platinum coin seigniorage. 

Had Congress repealed the practice when President Nixon took the country off the Gold Standard, and had we ceased to issue debt at that time, then the Government would have re-paid all of our 1971 debts as they came due, and both our national debt and our debt-to-GDP ratio would be at 0% today.

It's long past time to end the Big Lie already, period.  The very best time to do so was in 1971-1973 when we functionally got off the gold standard and/or 1975-1976 when all remaining nominal ties between gold and the dollar were formally severed for good.  The second best time is NOW.

The Big Lie of Economics

Big Lies have a very long history indeed.  As the infamous Nazi propaganda minister Joseph Goebbels (who knew quite a thing or two about lying) noted, the bigger and dumber the lie is, the more likely people are to believe it.  And you know what, it works. Counterintuitive, perhaps, but true nonetheless.

So what if some politician, pundit, academic, or activist were to make the following claims, which you probably have heard over and over again, ad nauseam?  Would you believe them?  Here goes:

• Federal taxes pay for federal spending, and any shortfall in revenues (i.e. "deficit spending") must be made up by the federal government borrowing money to cover the deficit.
• It must be this way, because otherwise the federal government will run short of dollars, which are finite.
• The federal government is literally bankrupt and can no longer afford to keep paying for Social Security, Medicare, and Medicaid, let alone anything more ambitious and progressive.
• Things like Universal Basic Income (UBI), tuition-free public college for all, state-of-the-art infrastructure, and single-payer Medicare For All sound like good ideas on paper, but we literally can't get the numbers to add up.  Sorry.  Oh well.
• If the national debt as a percentage of GDP rises above some arbitrarily high level, the federal government will have no choice but to default.
• Thus, we will have no choice but to accept an austerity "menu of pain" at this point, both large tax hikes and/or deep spending cuts. (Austerity for the bottom 99%, that is.)

Well, guess what?  Each and every one of those specious statements is absolutely FALSE.  Period.  Not even a kernel of truth in there, except for the completely contrived self-fulfilling prophecy that believing such lies leads to, starting with the very first statement on that list, and it goes downhill from there.  Wait, what?  That's right, federal taxes do NOT actually pay for federal spending, because our federal government is Monetarily Sovereign.   They literally create brand new dollars out of thin air every time they spend money, with no need to borrow any money or raise any tax revenue at all.

So why do they borrow, if they don't really need to?  First, it is due to one of several arcane and archaic rules left over from when we actually had the gold standard, which we haven't had since 1971*, that requires matching spending with either taxes or borrowing.  Secondly, federal government borrowing is simply issuing Treasury securities, which are in practice  really a fancy kind of national savings account rather than "debt" as the term is usually understood.  And those Treasury securities are a safe haven for investors that helps to stabilize the financial system, and also provides a handy platform for the government to control interest rates.  So Congress could simply pass a law changing the rules and implement Overt Congressional Funding instead, thereby completely decoupling spending, borrowing, and taxes, while still allowing investors to park their money in Treasury securities if they so choose.

Oh, and how about taxes then?  Where exactly does all of that money go?  Well, that is where it really gets, um, interesting to say the least.  (Sit down before you read any further.)  For practical purposes, all of those trillions of federal tax dollars each year get....DESTROYED upon receipt.  Yes, you read that right, DESTROYED.  Since the federal government by definition has an infinite amount of money since they can create it at will by fiat, taking money from We the People is like bringing coals to Newcastle only to destroy them.  Of course, due to those arcane and archaic rules, the money does not get destroyed immediately, but rather it first makes a brief pit stop at the privately-owned FERAL Reserve. But the end result is exactly the same nonetheless.   

(In contrast, state and local governments are NOT Monetarily Sovereign, so they must either raise taxes or borrow money in order to spend, and their tax dollars are deposited in private bank accounts prior to spending them.  Ditto for the Euro nations as well.)

That does not meant that federal taxes are entirely useless, however.   For one, they can be used to give the official currency "teeth" by compelling its use to pay such taxes and not accepting any other currency as payment for such taxes.  They also function as a useful tool for social engineering that is difficult or impossible to do otherwise (think vice taxes and Pigouvian taxes, as well as taxes on the ultra-rich) as well.  And they can also act as a (rather crude) tool for inflation control as well, by being a sort of "automatic stabilizer" when the economy overheats.  But paying for federal spending and servicing the national debt?  If you believe that we need to actually take money out of the economy to pay for that which the government can literally just create out of thin air, well, we've got a nice bridge we'd like to sell you.

Thus, it follows logically that the rest of the aforementioned list of lies are, well, lies all the same.  Austerity (which does far more harm than good) need not be on the menu any longer, and we can opt for truly shared American prosperity instead.  And that means that all of the right-wing, neoliberal pack of lies about the economy also falls like the house of cards that it is.  All of those things that both corporate parties claim that we cannot afford can now be ours.  If only our politicians would just be honest for once (as tall an order as that may be).

Bottom line:  Money is really nothing more than a tool.  And like any tool, it can indeed be weaponized--in this case, by the oligarchs and their sycophantic lackeys in government against We the People.  They use the con-tricks of austerity and artificial scarcity to systematically widen the Gap between the haves and have-nots (and between the have-mores and have-lesses).  But it does not have to be this way at all, and in fact We the People can turn the tables on the oligarchs by electing honest representatives that know the true meaning of Monetary Sovereignty. 

So what are we waiting for?

(Hat-tip to the ever-insightful Rodger Malcolm Mitchell, Alan Longbon, and Joseph M. Firestone, for all showing us the wisdom of Monetary Sovereignty and the related Modern Monetary Theory, respectively.  Before first discovering their writings on the topic in 2018, even the TSAP had previously fallen for at least a few of the variations of the Big Lie above.)

*NOTE:  The Gold Standard in the USA functionally ceased to exist when Nixon suspended convertability of dollars to gold in 1971. Though originally intended to be temporary, this "Nixon Shock" was made permanent in 1973, ending the Bretton-Woods System for good, and any remaining nominal link between dollars and gold (along with any restrictions on private gold ownership and trading) was subsequently removed from the law books by 1976. The United States Dollar is now a purely fiat currency and the federal government is now fully Monetarily Sovereign (even if they don't always act like it).