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Budget Surpluses Hurt the Economy

Updated on October 16, 2013
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What Is a Surplus, Anyway?


"Federal budget surplus" sure sounds good, doesn't it? Surplus. That means, all you need, plus some extra! Bonus! Let's do it!

Well, here's what happens when the federal government runs a surplus - they take in more dollars in taxes than they spend. That means the federal government has a pile of dollars to do with as they wish. But that also means that those dollars have been removed from our economy. Permanently. You and I now have less money to spend, and that's not good for consumer spending, which drives the economy forward.

What Can the Government Do With Their Surplus Dollars?


Well, they can spend them - but if they did that, it would be more government spending, and we would no longer have a surplus...

They can buy back government securities with those dollars, which would lower the "national debt" on paper. But people, banks, and businesses hold treasuries for a reason - they want a perfectly safe place to park their saved dollars - and they would just end up buying more treasuries (which would increase the "national debt"). So that doesn't get us anywhere... (Lowering the number of outstanding securities is just a book operation, anyway, as it doesn't improve the government's position one bit.)

They can save those surplus dollars - but the government does not save or earn interest, in any real sense of the word. They can't put that money into private banks - even if they could, that would just remove more dollars from the economy when the banks paid them interest...

Or, they can put those dollars in a virtual box and just sit on them, waiting to spend them later. So, let's say they save them for next year... but if, including those saved dollars from the year before, they spend more next year than they bring in with taxes, that would still be deficit spending. When the government runs a surplus, those surplus dollars can never re-enter the economy without deficit spending. This illustrates that deficit spending is the only way that net dollars can be introduced into the economy. It also illustrates that government surpluses remove dollars from the economy, permanently.

So there is really nothing at all that the government can do with surplus dollars. They are virtually shredded, subtracted from the total of previously created dollars on the government's ledger. When the government decides they want to add more dollars into the economy, they must spend more than they take in, and new dollars are created at that time.

(In practice, the government does not store all of the dollars they collect. The dollars the government collects through taxes are electronic - with a few keystrokes, the Fed marks the reserve accounts of banks up or down to reflect the total of the checks they receive, and banks mark your account up or down to reflect your check. You don't even have the option of paying the IRS in cash.)

What Happens When Dollars Are Removed From the Economy?


Every dollar the government spends eventually ends up in the hands of people. Direct recipients of government spending include government employees, people on Social Security, welfare recipients, soldiers, etc. Somewhat less direct are the beneficiaries of Medicare and Medicaid payments, grant recipients, and the many businesses that supply and service the government. Cut government spending, and some or all of these people and businesses will suffer. Plus, there will be secondary effects, because consumer spending will go down, causing businesses to contract. More people will lose their jobs, and consumer spending will continue to fall, and the cycle continues. Some people expect that businesses will somehow pick up the slack, but in reality businesses will be competing for fewer dollars, and somebody is going to lose that battle. Austerity never works.

Dollars are also removed from the economy by saving - specifically, when dollars are converted into government bonds. To illustrate, if everybody were to put away more money in the bank, that bank would now have more cash on hand - to a bank, these dollars are excess reserves. Banks don't like excess reserves, because banks only earn 0.25% interest in their reserve accounts at the Fed. So they either loan out those excess reserves at the interbank rate to other banks that need more reserves, or they buy government securities (which pay the same interest rate as interbank loans). A little interest is better than nothing. Anyway, you can see how saved dollars end up as t-bills. And since the pile of t-bills never gets any smaller, you can consider those saved dollars retired from normal use, in a net sense. You can always cash in your t-bills and spend the proceeds, but since more people are buying t-bills than cashing them in, in a net sense dollars are always being exchanged for bonds (i.e. the "national debt" keeps growing).

Deficit spending serves to replace those saved dollars so the economy does not contract, plus the addition of new dollars allows the economy to grow. Government spending also serves to distribute money to the lower end, where it is most needed.

What Would Happen Were We To "Pay Down" the National Debt by Repurchasing Bonds?


The "national debt" is actually savings, extra dollars that have been invested in (exchanged for) government bonds. People/banks/companies with saved dollars have chosen to buy those bonds, mostly because they are looking for a perfectly safe place to park those dollars. (There is actual demand for this safety, because even bank accounts carry a bit of risk, as they are only FDIC insured up to $250,000 per account.) Government bonds are, for all practical purposes, savings accounts. So "paying down" the national debt is done by exchanging dollars for government bonds. It is analogous to a bank removing money from your savings account and crediting your checking account (or simply handing you the cash). Neither party is in a different financial position than before. The government has created, say, $1 trillion in new dollars, and they have destroyed the same $1 trillion in bonds.

The upshot? The people/banks/companies that once voluntarily held bonds are now holding dollars. When this exchange is forced upon banks (as happens in quantitative easing), the banks' usual response is to turn around and repurchase more government securities. Logic tells us that since safe, low-interest government bonds were the investment of choice before, they will be again. If that option is not available, they will be shopping for the safest investments possible. If those people had wanted their money in any other investment, they presumably would have already done so.

Have We Ever Tried To Pay Down the National Debt by Running Surpluses?

Yes. There have been six times in America's history where we have tried to pay down the national debt by running budget surpluses. All six attempts were followed by depressions. Frederick C. Thayer has a nice website on the subject here. http://www.epicoalition.org/docs/thayer.htm

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    • ib radmasters profile image

      ib radmasters 4 years ago from Southern California

      John

      I don't get this one.

      The only time that the US has more revenue than spending is when the country was in dot com, or the housing bubbles.

      The whole FIAT money system doesn't make sense, just cents.

      When there is a surplus there would be no need to increase taxes.

      The problem is that the size of the government keeps increasing, and that is more overhead.

      So, I didn't get this one at all.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      ib radmasters, thanks for commenting again. I'm glad to see that you are interested in MMT.

      First, you have to be open to the idea that the government does not borrow dollars. They create dollars out of thin air, so there is simply no need to borrow.

      It might help to forget about bonds altogether, for now - bonds are not really necessary for the operation of the economy. Instead, think of those bonds as simple savings accounts, full of dollars. The people/businesses/banks that now hold bonds would instead hold either piles of cash or savings accounts; it doesn't matter which.

      How did all of those trillions of dollars get there in the first place? Well, the sum of all deficits and surpluses over the years would be exactly equal to the number of dollars out there in the world (not counting those held by the government, of course). That is how money is created - deficit spending.

      Now, add bonds back into the equation. People wanting a safe savings account would buy them up. The government trades them bonds for dollars. Now, the sum of all deficits and surpluses since America introduced the dollar is equal to the dollar value of bonds plus all of the other dollars out in the world. This should illustrate that bonds are not debt any more than your savings account at the bank is a debt of the bank's.

      When the government spends new dollars into the economy, it is able to absorb some amount without causing demand-pull inflation.

      I learned MMT mostly from a fantastic thread over at America's Debate: http://www.americasdebate.com/forums/index.php?s=a... It's a monster, but you won't have to wade through the whole thing to hit all of the important points. There is a lot of repetition, because it really is hard for people to let go of the idea that we are in debt. I highly suggest looking at that.

      John

    • ib radmasters profile image

      ib radmasters 4 years ago from Southern California

      John

      Isn't it more likely that the problem is FIAT money, and not Gold Backed money that causes the problem.

      The government is loaned the money through the Federal Reserve which takes government bonds and auctions it to the world. The treasury then prints the amount of the loan in new paper money.

      The government spends the money and can't pay back the interest much less the loan, and then they go through another cycle, and another.

      This system could collapse at any time, because it only works when someone is willing to accept paper money based on the credibility of the US Government. As the credibility of the US government diminishes so do the worth of the paper money. As most countries are tied to the American Dollar, there could be a domino affect.

      Thanks

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      ib radmasters - fiat money is in use all over the globe. America, Japan, Canada, Australia, etc. all use fiat money. Nobody backs their money with gold anymore.

      Gold was an artificial constraint, anyway. Your real economy could grow by 50%, but if you didn't procure 50% more gold, you couldn't print up the dollars to reflect that growth. It was illogical. And it inhibited growth.

      The government (I lump the Fed, the Treasury and the government together) creates dollars first. Then bonds are created, allowing people to exchange their (previously created) dollars for bonds. It can be no other way. The only entity that can create dollars is the U.S. government - not banks, not China. The system is in zero danger of collapsing. If you were correct, we would have massive demand-pull inflation. But we don't.

      There is nothing preventing the government from printing up new dollars, so there is no danger of default. The only danger is inflation. If every bondholder on the planet decided to cash in their holdings tomorrow, the gov't would have no problem coming up with the dollars.

      Look around you - do you see a country on the brink of collapse, or do you see wealth all around you? If you don't see wealth, just move a mile in any direction and look again.

      John

    • ib radmasters profile image

      ib radmasters 4 years ago from Southern California

      John

      I understand FIAT money, and I have to disagree with your analysis.

      If for example, China refuses to accept American Dollars the FIAT money cannot satisfy our debt to them.

      Also, if the rest of the countries decide that the Euro is a better currency than American Dollars this would also cause of problem.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      ib radmasters - we own no debt to China. We only do business in dollars - China gives us radios, we give them dollars in return. Since we obviously run a trade deficit with China, they have a large pile of earned U.S. dollars on hand. The Chinese have a limited number of options - they can trade those dollars for other currencies on the forex market, which just means that their trading partner now holds those dollars; they can buy dollar-denominated goods and services, to which American businesses would be happy to oblige; they can save them as dollars; or they can buy government bonds to earn a small bit of interest. In practice, they buy lots of bonds, plus they also spend a lot of dollars to peg the renminbi. If they chose not to buy bonds, it would not affect us at all. The U.S. government can (and does) buy up bonds when necessary. It costs them nothing - it's purely a book operation.

      As for the Euro, they are the ones in danger of going south. Currently dollars represent 62% of the world's reserve currency. The Euro is at about 25%. All others are far behind. There are some advantages in being the world's main reserve currency, but our economy is not dependent on it.

      John

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      It is thinking like this that has turned the dollar into an almost worthless piece of paper. A little over 50 years ago, by weekly allowance as a kid was 25 cents. That got me into the Friday night movie, bought some popcorn and a candy bar. A few years later, when I got my dad's car for the evening, the four of us would dig out pocket change and for a buck or so, we could get enough gas to drive around all night and return the car with more gas in it than when we started. I put myself through college on an hourly wage that never was above $1.50/hour for the 4 1/2 years I was in school. A brand spanking new T-bird (the sporty little two seater) could be had for $3,000 when it first came out.

      You're nuts if you think that spending like we do is a good thing.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Davesworld - thanks for commenting.

      People also make a lot more money, too. It's not like incomes haven't gone up to match (more than match) inflation. Are your dollars really worthless, Dave? Relative to income, the price of a lot of things has come way down, while quality has gone up. The cheapest car built today is more reliable than the 1955 T-Bird ever was.

      Besides, government spending isn't to blame for inflation. Pretty much all of our inflation lately can be blamed on oil prices, which are out of our control. Inflation was way worse in '79-80, before spending shot up. If you check it out, you will find no correlation between government spending and inflation rates.

      John

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      Inflation occurs when too much money is chasing too few goods and services. An increase in the money supply must naturally result in higher prices and a corresponding devaluation of the monetary unit.

      Also, as you should well know, the current measures of inflation, such as the CPI, do NOT include oil and food prices in their calculations. This was done to reduce volatility in the CPI not because it makes sense to remove them from the process. It's a similar story with housing prices though more complex to describe. As a result, the data available which is based on the CPI calculations doesn't really reflect the conditions on the ground at any one moment - ask anybody on Social Security about how well the last few years COLA allowances (based on the CPI) worked for their budgets.

      Inflation marched along in lock-step with Federal Deficit spending up until some time in the 1980s when the CPI was re-defined once again. (This re-definition, I believe, is when they started gaming the housing prices portion of the index.) I suspect that if we counted it the same today as we did in the Carter and early Reagan years, inflation would still be in lock-step with deficit spending and the corresponding manufacturing of money out of thin air.

    • CHRIS57 profile image

      CHRIS57 4 years ago from Northern Germany

      I couldn´t agree more with the comment of Davesworld. This type of thinking seems to neglect that the USD is not the only currency on this planet. The price for printing money is devaluation, inside of an economy known as inflation, outside of the economy known as value depreciation of the currency.

      Just look at the value of the Dollar compared to the Euro. Even with all the betting against the Euro and all the failing economies in the Eurozone periphery the Euro stands much stronger than the Dollar. The Euro appreciated 40% since its introduction. The reason is simple and holds two explanations. Firstly, when in 2001 the Euro was introduced, the US was still under positive influence of the "Golden" years of balanced budgets under Clinton. Of course there was thin air on the private and corporate side with all the dotcom and housing mess. But not on the public side. So there was no need to print money. 0,90 Dollar bought 1 Euro in 2001.

      Secondly the Eurozone was and is in much better shape when it comes to real economy. So at the end every newly printed Euro was and is backed by real stuff, by real value.

      This is no more so in the US. And as much as i agree that there is little correlation between government spending and inflation rates, there certainly is a correlation between printing money without creation of values (collateral) and inflation rate.

      No monetary action will ever be able to do more than short time camouflage the real economic situation.

      As part of the MMT reflects on the dampening effects of aggregated money accumulation over long periods of time, isn´t it a little frightening that it took the Euro only some 10 years from nothing to 25% of world reserve? The 60% of the US are very much at stake if more Dollars are printed without backing through real values and assets.

      Don´t take the last sentence too serious: The only weapon of mass destruction that Saddam Hussein had in 2003 was that he started trading his oil in Euro. So at the end money does make a difference.

      Chris

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Dave - Yes, inflation occurs when too much money is chasing too few goods and services - but why do you assume that the number of goods and services stays steady? It grows in response to demand. So adding a few more dollars into the economy basically results in more business. But since we aren't running short of any goods or services, prices don't go up in response to increased demand. Now, if you double the number of dollars overnight (and distributed them), then demand would outstrip our ability to produce enough to meet that demand, and prices would go up.

      If you are a business owner, chances are that you are not stretched to capacity right now. If demand rose, say, 10% (which would be huge), most businesses would be able to meet that demand with no trouble at all. Detroit could produce 10% more cars, the baker could bake 10% more bread, the farmers could produce 10% more wheat for flour, etc. That's why prices don't rise when the government deficit spends.

      As far as CPI goes, the price of oil affects everything, directly or indirectly.

      John

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      If you flood the market with dollars and demand rises there is some time lag between the influx of money and production catching up. Using your examples, several months for cars, almost immediately for bread but prices will rise faster because it takes a year to get wheat production increased and because you are now baking more bread you are consuming more of a limited resource and that secondary demand will force prices up as well. If you continue to flood the market with dollars, the process continues ad infinitum and prices do not stabilize nor do they recede to their levels prior to the influx of brand-spanking new money.

      It may be possible to absorb a few dollars generated this way. In fact governments probably have to constantly generate some money in order to compensate for hoarding (savings) and loss in order to keep enough in circulation to make the economy work. However, massive amounts of manufactured money cannot have anything but a negative effect on inflation. So I guess it comes down to what constitutes a "few" dollars and what constitutes a "massive influx" of money into the economy.

      Currently, deficits are running about 1/15 of the GDP EVERY YEAR. That is an annual increase of 6.7% to the money su0pply and I hardly consider that to be a "few" dollars added to the economy,. This rate of increase will double the money supply in less than eleven years. It is unsustainable.

      Even discredited Keynesian Economics called for surpluses when times were good, not deficit spending as far as the eye can see in either direction you look. Can't possibly work.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, Chris -

      What people need to realize about the creation of new money is that a large part of that goes toward the replacement of saved money that is basically taken out of circulation. Saved dollars ultimately end up in the form of government bonds - that's where banks stash their excess reserves, and other large entities (countries, businesses, hedge funds, etc.) store their piles of dollars. And since the number of t-bills (the national debt) never gets any smaller, those dollars (taken collectively) never re-enter circulation. It is no different than if they were locked in a closet. And if they don't get spent - how can they affect the economy? They are no longer chasing after any goods.

      Say the government printed up another $50 trillion, and they handed them over to Bill Gates. Mr. Gates already has more money than he can spend, or even invest, so what does he do with it? He either saves it in a box, or he exchanges it for bonds (which is safer than carrying cash). Either way, that $50 trillion isn't out there chasing goods. It's not affecting the economy one bit. The mere existence of more dollars is not enough to drive up demand and cause inflation - they have to be spent to do anything.

      ***********************

      I don't see what the value of the dollar compared to the Euro has to do with anything. The American economy is in fine shape - I believe we are still the number one manufacturing economy on the planet, and by a pretty wide margin. Our problem is the uneven distribution of income - there is plenty of money, but more and more of it is going to people at the very top. So we have plenty of production to back those new dollars. And I believe that this is reflected in the lack of inflation. What little inflation we have is due to oil prices.

      As for reserve currencies, I see nothing to be alarmed about. The U.S. dollar's use peaked in 1999, when you transitioned to the Euro, then the Euro, as expected, gained a bit more of a share when people got used to them. The marc had a pretty large share before the Euro.

      John

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Dave -

      If you really flood the market, it can have some bad effects. But think about how the government spends money - Salaries get paid like everyone else's, every week or two, departments get funded and spend their money over the course of the year, etc. It's not like $3 trillion is dropped from a helicopter every January 1st - it is introduced gradually. So there is plenty of time for the economy to respond to the new money. By the same token, savings leave the economy gradually as well.

      The spike in net money creation that we have seen lately is, I believe, due to the increasing disparity in income between the very rich and the rest of us. Over the past 30 years or so, the rich have captured an outsized share of our production gains - money that used to filter through the economy starting with wage earners increasingly goes straight to those who own the means of production. And the rich are the ones who do the vast majority of the (permanent) saving - hoarding, as you said. (How many of us are accumulating a pile of savings that won't be completely spent by us or our immediate heirs? Not many.) So permanent savings, in the form of t-bills, has increased as the income share of the rich has increased. More dollars have had to be created to fill that void, and the redistribution of dollars to the bottom end has had to be more pronounced.

      ******************

      Keynesian economics has only lost credibility due to the incorrect assumption that the creation of money necessarily entails a corresponding debt. Remove that from the equation and Keynesian economics starts to make more sense. A federal surplus, in both Keynesian economics and MMT, is actually a tool to cool down an "overheating" economy, as measured by inflation. But we obviously haven't seen many (any?) such periods, as there are other mechanisms that keep the economy in check.

      John

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      You speak as if the only option a rich person has is to purchase t-bills and that simply isn't true. In fact, it's unlikely that a large part of a wealthy individual's portfolio is in t-bills since the yield is unattractively low. You are more likely to find them invested in high-dividend stocks and likelier still to see them buying and selling things to avoid confiscatory income taxation in preference to capital gains taxation.

      Likewise, while banks are required to invest their reserves in safe securities such as t-bills, only a fraction of what I save goes into the reserve. The rest is used to finance car loans, home loans, businesses, etc. all of which pay back much much better than the paltry rates available from t-bills. Banks are all about profit and profit cannot be made on a portfolio which is heavy in t-bills.

      The notion that the banks and the rich are keeping money out of circulation by their investment choices does not hold up against reality.

      The reason manufacturing money out of thin air doesn't work is that prices climb just as fast, or possibly even faster than the money supply is increased. QE I didn't work. QE II didn't work. And Lord help us, QE III isn't going to work either. If anything makes the rich richer and the poor poorer it's the continued generation of money out of thin air in order to maintain profligate government spending, and eventually this house of cards will tumble down.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Dave - thanks for all of the great responses.

      I wasn't suggesting that people go right out and invest in t-bills straight away, just that t-bills are where saved dollars eventually end up. Dollars invested in stocks and such are still circulating - when you buy $1000 worth of stock, you take the stock certificate and the seller is now holding that $1000. Those dollars stay in play.

      But when you invest in t-bills, you are exchanging dollars with the government, not another private party. The government does not spend those dollars, so unless and until the sum total of t-bills gets smaller (meaning, more t-bills are cashed in than sold), you can consider those dollars out of circulation.

      In the aggregate, there are currently about $9.47 trillion dollars invested in t-bills by the non-governmental sector. The Fed holds $1.8 trillion, and the rest of the government holds $4.74 trillion. The government-held debt (including the Fed) is meaningless, because you can't owe yourself money. $5.18 trillion is held by foreign investors, $3.61 trillion is held by American investors, and $0.68 trillion is held by state and local governments. That's $9.47 trillion dollars that aren't being spent and therefore aren't affecting the economy.

      *********************************

      Yes, of course banks do make more money in loans than on t-bills. But banks have more reserves than they can loan out, so they have to do something with those excess reserves, and that's when they buy t-bills. I have a couple of articles on QE that go over the problems in more detail, but in short the main reason that QE doesn't work is because banks don't make loans depending on how much cash they hold, they make loans based on the number of creditworthy borrowers that want to borrow.

      But QE is not new money, it is an asset swap, so it makes the books look bad, but it does not increase the total amount of assets in play.

      John

    • CHRIS57 profile image

      CHRIS57 4 years ago from Northern Germany

      John - it is definitely much fun to participate in your hub discussion. So let me jump into the pool again.

      You wrote in response to Dave that $9.47 Trillion aren´t being spent and therefore aren´t affecting the economy. Well, it is a little different. Those $9.47 Trillion were already spent, so certainly the can´t be injected again into economy.

      They were spent within the economy over a period of time to purchase goods, products, resources that had/have to be imported and can not be balanced by exports. Just think about what would happen if trade returned to bartering, meaning value traded for value. The US would immediately loose 25% to 30% of the products the economy needs to maintain status quo. The US simply doesn´t produce enough itself. It is not important if that deficit is accumulated on the household, corporate of public side, at the end it is the public printing press that hands out placebo Dollars to keep the friendly world in the neighbourhood in product supply mode. The figure $5.18 Trillion from foreign investors says enough. If you look at it from a world perspective, then this money is missing to support the economy in the producing countries. In other words i can´t buy a new car because i had to pay for my brother´s new car which he needed but couldn´t afford.

      All is built on trust. If sovereign economies exceed a total debt of 50% of available assets, then things get dangerous. IMHO there is no difference between a company going bankrupt or an entire economy going bankrupt. At the moment of Chapter 11 approaching, it is amazing to watch how fast solid assets on the balance sheet are evaporating. The US has reached the 50% mark, so what now? Monetary action can buy a little time, but doesn´t change a bit. As you wrote "QE is not new money". That is certainly true, it only cleans up the multiple balance sheets of private, corporate, household participants of economy, shifts all debt to the public side and thus makes counting easier.

      Chris

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      Lets look at a hypothetical scenario here. Assume for the moment that I have the scratch to purchase 1 $1,000,000 T-bill (I don't know if you can actually get one for that small an amount but lets assume I can).

      What does the government do with the million bucks I paid them for the T-bill? - they spend it immediately. So the money is gone, it does not exist anywhere because it's out in circulation somewhere. Now you say this is a good thing, and for now I will not argue about it other than to reserve the right to question governmental spending priorities at some time in the future.

      I'm happy with my scrap of paper that says $1,000,000 on its face, and a year later I'm content with my one percent return of $10,000. Except where does the government get the ten grand they just shelled out? They either manufacture it out of thin air, or they get some other sucker to purchase another T-bill so that I and nine other people can get our taste. So at the very least, the T-bill represents future debt of its interest rate every year since the government has to find the money to pay the nut.

      Two years later I discover an attractive investment that has the potential to yield me 20% interest with only a minimal risk so I decide my million is better spent in that manner. So I sell the T-bill back to the government. The government needs to come up with a million dollars on demand. Where does the government get the money? How is this possibility not considered a debt for the preceding two years?

      You can only discount the debt implicit in T-bills if you attempt to redefine the word "debt" to mean something other than the common everyday understanding of indebtedness. Which is just words and doesn't change the reality that when the government borrows money through the auction of T-bills it assumes a future obligation to repay that money and that by any other name is still debt.

    • JohnfrmCleveland profile image
      Author

      John 4 years ago from Cleveland, OH

      Chris – thanks again for your excellent responses.

      First, I think you need to separate public “debt” from private debt. Private debt comes from bank credit, which is completely different than government-created dollars. If you or I borrow money on a credit card or default on a mortgage, it is the loaner of money (probably a bank) that loses out. But that transaction does not change the number of government-created dollars in the economy at all, whether we default or we pay off the loan with interest. (One of my articles talks about the difference between government-created money and bank-created credit, but the subject probably deserves its own article).

      ************************

      The value of imports and exports is determined on the foreign exchange market, as the value of our currency floats. And that is simply determined by a seller's willingness to accept U.S. Dollars as payment. The Chinese certainly have no qualms about the dollar, as they continue to sell us radios, and they continue to be very inexpensive. So while the value of a currency is backed by that country's production, the actual value of that currency is whatever people are willing to trade you for it. Is it an advantage that the dollar is the world's main reserve currency? Sure. But it wouldn't be the world's main reserve currency if people didn't choose it over the Euro, the Yen, and the Franc. And I don't see any of those currencies threatening to take over anytime soon.

      ****************************

      Trade deficits don't mean a country is losing, and trade surpluses don't mean a country is winning. Take America's trade relationship with China – on balance, they have sent us tons of useful stuff, and in return they hold paper. The paper is not worthless, but until they decide to spend it, it does nothing for them. And when they do decide to spend it, it will be on dollar-denominated goods and services, and American businesses will be just as willing to accept those dollars as they would from anybody else. We want holders of dollars to spend them – that drives the economy forward. But until that time, we will enjoy watching our free Chinese TVs. ;)

      *******************

      You are still making the mistake of treating money like it has some intrinsic value. Instead, dollars are like points on a scoreboard. They are just pieces of paper to keep score. And since they have no intrinsic value, it follows that a government does not need to pay for them (borrow) to produce them for the use of its populace. (The Euro is a bit different – I will eventually write an article about that.)

      The realization that we don't borrow to produce dollars was the key for me. Once the actual mechanics of money creation was explained to me, the rest of the understanding came very easily. It's that national debt misconception that is really getting in the way of sound policy.

      John

    • JohnfrmCleveland profile image
      Author

      John 4 years ago from Cleveland, OH

      Hi, Dave -

      "What does the government do with the million bucks I paid them for the T-bill? - they spend it immediately."

      No, they don't. If it's paper, they shred it, and if it's an electronic transfer, they zap it to zero. It does not get spent again.

      The government issued that t-bill, along with others, in the same amount as deficit spending, by law. If they deficit spend $1.2 trillion into the economy, they have to issue $1.2 trillion worth of t-bills as well. So they spend it into existence once, then the dollars circulate through the economy until they eventually get sucked back into t-bills through savings. The government doesn't just throw money out the window, they have a budget, and those budget expenditures are how money enters the economy.

      To pay the interest on your t-bill, the government simply prints up another $10,000. And they enter that on their ledger (interest is part of the budget). Earlier, you exchanged $1,000,000 dollars with the government for a t-bill, and now they are exchanging $1,010,000 dollars with you for your mature t-bill. A tiny bit of new money has been added into the economy. You can spend it, which is fine, or, more likely (as you probably have more money than you know what to do with, or else you wouldn't have invested at 1%) you just buy another t-bill and keep your pile intact. This is what happens most of the time, which means the interest, like the principle, is going to reside permanently in savings and it, too, will never be spent.

      It's all double-entry accounting at heart. And the big ledger at the top is the government's. On one side are assets - the dollar bills they create - and on the other side are the liabilities - the number of dollar bills they created. They merely keep track of the dollars that are out there, and they do that very well. Of course, not all of the dollars ever created are still in play - the great majority of them have ended up invested in t-bills. And that, too, is reflected on the ledger.

      What is the government's liability on a dollar? If you bring them a dollar and demand payment, they owe you... another dollar. Or four quarters, take your pick. ***That's your "debt." *** It used to be that you could demand a tiny bit of gold, but those days are over, thankfully. Even in the gold standard days, nobody traded their dollars for gold. There was no need, as dollars could buy stuff just fine. And that's why people continue to hold them today.

      John

    • ib radmasters profile image

      ib radmasters 4 years ago from Southern California

      Cash me in.

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      ""What does the government do with the million bucks I paid them for the T-bill? - they spend it immediately."

      No, they don't. If it's paper, they shred it, and if it's an electronic transfer, they zap it to zero. It does not get spent again."

      In your dreams, buddy. That is simply NOT TRUE. And you know better - or at least you should know better.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Dave -

      It's absolutely true. Where on the budget do you think they re-spend all the dollars that come back to them? I mean, if you like, you can say that the government "recycles" dollars, but then you would have to subtract that amount from the new dollars they created. It doesn't really make any difference which way you look at it.

      Look at the logic: The government has a budget of, say, $3 trillion and tax receipts of, say, $2 trillion. They "recycle" the $2 million in tax receipts, print up $1 trillion in new dollars, and issue $1 trillion in new t-bills. That accounts for the $3 trillion in spending right there. The $1 trillion that comes back to them from the sale of t-bills CANNOT be spent, because they have already spent the $3 trillion approved by Congress. It is, as I have held all along, a simple asset swap - t-bills for dollars. If you wish, you can imagine that the government hangs on to those dollars for future use, but in reality they are just numbers on a ledger, and they get subtracted from the number of total dollars outstanding.

      Right now, there are about $1.1 trillion dollars in circulation. ( http://research.stlouisfed.org/fred2/series/WCURCI... ) If what you said was true, there would be 2x the number of deficit dollars put into circulation *from this year alone* (the original deficit dollars, plus the dollars from the sale of bonds that they allegedly re-spend), almost $3 trillion. That's way over, and it's not even counting dollars from years past. The math is on my side.

      To put it another way, if bond sales didn't have the effect of removing dollars from circulation, we would have the sum total of all deficits + surpluses in play right now, somewhere around $9 trillion (not counting dollars held by the government) floating around in cash. And as the link shows, that number is actually about $1.1 trillion.

      John

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      Nice try. You are trying to talk yourself into something and I appreciate the effort.

      It makes no difference if the government manufactures money and then sells a T-bill to cover it or if the government sells a T-bill and then spends the money generated from the sale. The net result is government DEBT added to the bottom line. You are trying to make a distinction without a difference. No matter which came first, the money is spent - immediately, if not sooner.

      It amazes me no end that you and people like you seem to think that government can successfully borrow from itself to cover its foolish spending spree. The only way that can happen is through the manufacturing of money out of thin air - and that happens regardless of which came first, the spending or the T-bill. Again, a distinction without a difference.

      Dollars, as in little pieces of paper printed with green ink, are not the issue because, quite simply, the government can only print so many of them in any one calendar year. These pieces of paper are also just a fraction of the money that is circulating in the form of, among other things, bits on a computer file someplace. This is again is something you know already - or at least you should know. You could not possibly have a 15 trillion dollar economy with only $1.1 trillion in money floating around, and again, you know this.

      It is not necessary to print brand new paper dollars to grow the money supply. It hasn't been necessary to do that since the invention of banking a couple thousand years ago and the corresponding development of the fractional reserve system - again something you should know.

      The issue at hand is whether the U.S. economy can continue to sustain this increase in the money supply at the current rate to accommodate run amok government spending. And the answer is clearly no. Just take a look at the financial mess that is Europe to confirm that observation.

      But enough of this, as we are at logger heads here. Your hub suggests that surpluses will harm the economy. Just out of idle curiosity I ask, on what factual basis to come to that conclusion? Do you have in mind a period in U.S. History where there were surpluses and where the economy was harmed by them? What period, or periods, do you have in mind to put forward as an example(s)? Or is this too, just a bunch of word games and empty theory?

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, Dave – I sense a bit of anger in your post I hope I am mistaken.

      “Your hub suggests that surpluses will harm the economy. Just out of idle curiosity I ask, on what factual basis to come to that conclusion? Do you have in mind a period in U.S. History where there were surpluses and where the economy was harmed by them?”

      The last section of my article goes over this and refers you to a website. As the research is not mine, I chose not to say too much about it, but America has had six depressions, and each has been preceded by a period of sustained budget surpluses. As surpluses, by definition, remove dollars from the economy, I think the causation, while impossible to prove, is pretty clear.

      ****************************

      As for the distinction between paper dollars and electronic dollars, there is none. But I use the term “print” as shorthand for the creation of either form. I have written it out the long way at some points, and I assumed that readers would pick that up. Also, it is very possible to have a $15 trillion economy with only $1.1 trillion in currency, because dollars are spent more than once a year.

      ******************************

      The fractional reserve system does not work the way you think it works. I wrote about how banks actually operate, and there is no “money multiplier.” Banks don't lend based on the reserves they have on hand. It was a banker who clued me into that. There is a very fundamental difference between government-created dollars and bank-created credit – again, I went over this in an article.

      ********************************

      Finally, our economy is not comparable to that of Europe, as Eurozone countries are no longer sovereign in their own currency (i.e. they cannot print their own euros, but must (actually) borrow them from a central bank). Eurozone countries are much more comparable to our states – users of money, but not creators of money.

      ****************************

      I have tried to address your points as you raise them, but you seem very attached to the idea that a sovereign government that is the sole creator of it's currency must somehow owe a debt for creating those dollars. Let's attack this from a different angle – what, exactly, makes you believe that this is a debt? Where does America borrow dollars from when they are the only entity that can create dollars? And why do these creditors allow the borrower to set the interest rate?

      John

    • CHRIS57 profile image

      CHRIS57 4 years ago from Northern Germany

      Once upon a time there was German tourist. He had come to a remote Greek village. It was easy for him to spot one of the few hotels in town. He entered the lobby and asked for a room at the reception. The hotel manager was able to offer a variety of rooms and the tourist decided to have a look first to find out which room suited him best.

      “No problem”, said the hotel manager, “just give me a safety deposit of 100 Euro” and you are free to look around and make your choice.” The tourist agreed, took the 100 Euro bill out of his wallet and handed it over to the clerk. In return he received a couple of room keys together with instructions of how to find the rooms.

      As soon as the tourist had left the lobby, the hotel clerk left his office and rushed over the butcher shop. The hotel had not paid the last bill for meat and so the 100 Euro came very handy. The butcher was kind of surprised to get the payment but didn´t wait long to jump on his motorcycle to meet the cattle farmer who had sold him some cattle. The 100 Euro bill changed ownership again and the butcher was relieved from 100 Euro debt he owed to the farmer.

      Now, the farmer´s wife had died some years ago. But what is a grown man to do if he feels certain desires. He goes to the lady with the oldest profession on earth. And he pays for the service – normally, but as it had happened, he was short on cash and owed 100 Euro to the lady. So the farmer immediately went over to the lady and paid off his debt.

      Guess what happened next: The lady had rented a room in the hotel for her delicate services. As her customers were late in paying, she also was late. Quickly she took the 100 Euro bill and went to the hotel clerk to pay her bill.

      At the very moment, when the hotel clerk held the 100 Euro bill again in his hands, the tourist came back from his inspection tour with a sad face. No room seemed to be really acceptable for him. Before he left the hotel, he got his 100 Euro bill back.

      John: Forget about the German tourist and the Greek village. I put that in for stereotypes. But can you give me an explanation of what happened the MMT way?

    • Davesworld profile image

      Davesworld 4 years ago from Cottage Grove, MN 55016

      For a better critique than I can give on Thayer's silly assertion, see http://www.econdataus.com/thayer1.html

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, Chris -

      "But can you give me an explanation of what happened the MMT way?"

      Sure. This is private sector (bank-created) credit, but with no banks.

      The butcher extended credit to the hotel.

      The cattle farmer extended credit to the butcher.

      The prostitute extended credit to the farmer.

      And the hotel extended credit to the prostitute.

      $4oo euros worth of business took place, and it could have been completely satisfied had the $100-euro note (government-created money) been spent - plus, the hotel would have made $100 euros by renting the room to the German. (Or, as this was a rare perfect circle of debt, all parties could have decided to cancel their respective debts and call it even.)

      This is a good illustration of why you need government money for an economy to operate. Bank-created credit can ultimately only be satisfied by government-created money, because only government-created money comes without an attached liability. Banks, at the end of the day, have to settle up with real money, not credit.

      John

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, Dave - thanks again for commenting.

      "For a better critique than I can give on Thayer's silly assertion, see http://www.econdataus.com/thayer1.html"

      This author's position seems to be that you can safely run surpluses if you have previously run up large deficits, as often happens during wars. The problem with that reasoning is that it doesn't matter what preceded the surplus years - economies don't have a store of fat that they can live off of in hard times. A country is not like an individual - you or I could save money to get through bad times. Economies cannot. When consumer spending goes down, companies don't reach into their savings and continue to pay their employees. They cut back and minimize their losses.

      When governments run surpluses, they are removing more dollars through taxation than they are spending back into the economy. And the government is our economy's biggest, most important consumer. When they make the decision to cut back, the beneficiaries of government spending suffer.

      There is only one way to prosper when the government removes money from the economy long term, and that is to make up for that loss by being a net exporter.

      I like Thayer's reasoning in general, and I believe it to be correct. But I think there is limited value in discussing the 19th century economy in detail, as there are too many differences and complications to make easy comparisons to the present day. There were a number of issuers of money, the government banking system was different, plus you cannot just assume (as we can today) that we were net importers in any given year. Honestly, it's too much work for a simple blogger to bother with. But the generalities remain true.

      John

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      I'm a johnny come lately to these comments and maybe I missed the reason because I just skimmed the hub page and comments but can you tell me why you say about retiring debt

      "But people, banks, and businesses hold treasuries for a reason - they want a perfectly safe place to park their saved dollars - and they would just end up buying more treasuries (which would increase the "national debt"). So that doesn't get us anywhere... "

      when it would reduce the payments the government has to make in interest and if the government controls spending and/or continues to have surpluses more bonds don't have to be issued. Debt is not issued to meet demand for safe investment - it is issued to fund government spending is it not?

      And when you say "When the government runs a surplus, those surplus dollars can never re-enter the economy without deficit spending."

      ...sure they can, through reduced taxation and/or tax credits. All the government has to do is not increase spending and reduce taxes so the decline in tax revenue equals the previous year's surplus.

    • profile image

      kendonhank 4 years ago

      John is very good with the mechanics of money, but he is just chasing his tail through meaningless accounting details. The fact is, when the government spends money, either by printing it or issuing bonds, it must take real production from the economy, either through taxation, or debt. If you don't want to call it debt fine, but the money it prints has the same impact as debt because it devalues all existing money. There is no way around it. The government cannot spend without taking it from taxpayers in some form, taxes, debt or inflation. It doesn't matter how many physical dollars are in circulation. Dollars are just one form of money. The accounting for the money the government takes from the free economy for its spending amounts to a difference without a distinction, as Dave has explained in previous posts.

    • profile image

      kendonahnk 4 years ago

      "And the government is our economy's biggest, most important consumer. When they make the decision to cut back, the beneficiaries of government spending suffer."

      Government is the biggest consumer, but not the most important, because relative to the free economy, government is an inefficient spender of money. The government produces less for each dollar it spends, thereby slowing overall economic production and new technology development. While its true that the dollars government spends eventually make their way to the free economy, they produce very little on their way. The same money left in the hands of private companies not only makes it way to the free economy, but it produces something useful along the way.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, tsadjatko, thanks for your comment -

      You said: "Debt is not issued to meet demand for safe investment - it is issued to fund government spending is it not?"

      By law, debt is issued in the same amount as deficit spending. This law is a holdover from the gold standard days, when we couldn't (officially) just create more dollars without increasing our gold holdings. Now, the sale of bonds is used to set the interbank lending rate. For a more detailed explanation of this, please read my article on why interest rates won't go up.

      Govt. bonds are purchased by people/businesses/banks/countries that have large piles of dollars that they wish to simply save. There is obviously a demand for them, even at very low yields, because the govt. has little problem selling them at auction. Bonds therefore act as a sop for excess dollars, which are, in effect, removed from play. If the owners of those dollars had any better immediate plans for them, like buying stuff or investing, they would not have chosen to buy low-yield bonds. They can always cash them in later if they like, and many do - but taken as a whole, more people are buying bonds than cashing them in. Interest payments are not a problem - they are just more dollars added into the economy, and interest is an on-budget item.

      In a fiat economy, the government never needs to fund its operations with debt, as it can simply create the dollars needed. If you are sovereign in your own currency, you can always pay your bills; any constraints on the creation of money are self-imposed. Our self-imposed restraint happens to be the debt ceiling.

      In response to this: "When the government runs a surplus, those surplus dollars can never re-enter the economy without deficit spending."

      ...you said: "...sure they can, through reduced taxation and/or tax credits. All the government has to do is not increase spending and reduce taxes so the decline in tax revenue equals the previous year's surplus."

      Reduced taxation and/or tax credits wouldn't show up on the federal budget. When we talk about deficits and surpluses, we are talking about a particular year, so there is no carryover. If you run a surplus in 2010, it doesn't matter how big that surplus is; if you spend more than you take in in 2011, you have still run a deficit. Now, you can aim your tax policy so that you don't risk running a surplus in 2011, but those are dollars that were already in the hands of taxpayers, not the ones that constituted the surplus. The surplus dollars collected by the government in 2010 cannot be spent without showing up as spending on the 2011 budget. And you cannot add that (or any other) money back into the economy without deficit spending. That's why I said that surplus dollars can never re-enter the economy without deficit spending.

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      That's odd, I swore you wrote in the hub page, and I quote "...debt is issued to meet demand for safe investment" But now I can't find it in the paragraph where I saw it. Did you edit it out of your writing before answering my question?

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      tsadjatko - no, I haven't edited any of my articles. Plus, I try to avoid using the term "debt" when I'm talking about govt. bonds, because I don't want to reinforce anybody's misconception that America is in debt. But what you think I wrote is not untrue - the government does offer bonds for people who want to save that way. Did you have a question about that?

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      No, just my mind playing tricks on me I guess. This stuff is too tangled for me to follow - I am a simple man.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      tsadjatko - MMT is actually much simpler than other economic schools of thought. For me, the trick was letting go of the idea that a government has to borrow money. After that, the rest just falls into place.

      Think of it in terms of the banker in Monopoly - the banker, like the government, just supplies paper for use in the game, so players can keep score. If a player or two makes so much money that they collect and stash most of the $500 notes under the board, the banker needs to supply the game with more bills. Conversely, the banker can write out IOUs and trade them for the bills.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Hi, Ken -

      You said: “Government is the biggest consumer, but not the most important, because relative to the free economy, government is an inefficient spender of money. The government produces less for each dollar it spends, thereby slowing overall economic production and new technology development. While its true that the dollars government spends eventually make their way to the free economy, they produce very little on their way. The same money left in the hands of private companies not only makes it way to the free economy, but it produces something useful along the way.”

      The government is not in the business of being in business. You shouldn't want the government to be “productive,” because then they would be in competition with businesses. The govt. does plenty of useful stuff with those dollars, stuff the private sector doesn't do – infrastructure, environment, etc. I put government work in a different category, because they do not contribute value to anything with a price tag on it, yet what they do has value anyway.

      The more important aspect of government spending, in my opinion, is the redistribution of dollars to the lower end. It not only gets necessary work done that wouldn't get done by the private sector, it also serves to employ quite a few people, keep seniors and others afloat, pays for quite a bit of health care, and generally takes care of those that the private sector cannot or will not take care of. Plus, the money that pays low government salaries, Social Security and welfare is almost completely spent (because the poor have to spend everything they have just to live), whereas taxes are taken mostly from the high end, and the high end saves quite a bit of their money. Logically, that redistribution increases consumer spending.

      You said: “...The fact is, when the government spends money, either by printing it or issuing bonds, it must take real production from the economy, either through taxation, or debt. If you don't want to call it debt fine, but the money it prints has the same impact as debt because it devalues all existing money. There is no way around it. The government cannot spend without taking it from taxpayers in some form, taxes, debt or inflation...”

      Government spending doesn't “take” production away from the economy; if anything, it redirects it. Taxation takes money out of some peoples' hands and puts it into others, but the recipients, as I have said, are even better at spending that money than the relatively well-off people who were taxed. Plus, the new money spurs increased production.

      The danger is demand-pull inflation. But inflation is not a given, either – it hasn't been a problem so far, and we've been hearing conventional-wisdom alarmists warn about deficits and the national debt for decades now. You won't get demand-pull inflation until the government creates so much new money that your economy's production can't easily increase to meet the increased demand. That has not been a problem for America, not even close. I suspect that if we were to give $10,000 each to the poorest 10% (30 million x $10,000 = $300 billion), our economy would have absolutely no trouble meeting that demand.

    • profile image

      kendonhank 4 years ago

      "Taxation takes money out of some peoples' hands and puts it into others, but the recipients, as I have said, are even better at spending that money than the relatively well-off people who were taxed. Plus, the new money spurs increased production."

      I see, so taking money out of the hands of the most productive people, the ones who provide the capital for all new technology investment, and giving it to the least productive people is the best way to increase wealth. So what you are saying is that the government is better at directing capital to its most productive end than the free market.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Ken - if you keep on sequestering dollars in the hands of the rich and starving the poor, consumer spending will dwindle, and the economy will contract. It's that simple. Rich people save a high percentage of their money, poor people spend all of theirs. Business needs consumer spending - without it, nothing else works. When people are buying their goods and services, businesses will have no problem finding all of the money they need to invest, expand, or whatever. Without people spending money, all the capital in the world won't keep a business afloat.

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      How can you right off the wealthy as savers and not spenders, actually aren't they BIG spenders? The poor can't buy businesses, they don't buy expensive cars, boats, planes, spend millions on real estate, travel and entertainment. How often do we hear of the Hollywood stars and athletes who spend their millions 'til they are broke...I'm not so sure your reasoning that the wealthy are bigger savers than spenders holds up...can you site data to support the idea that the poor in aggregate spend more than the wealthy as a whole?

    • pjmeli profile image

      Paul Meli 4 years ago from Mount Dora, Florida

      "I'm not so sure your reasoning that the wealthy are bigger savers than spenders holds up"

      Saving is income not spent. How would a person become wealthy if they spent all of their income?

      The poor and lower-middle-class (65% of the population) have no savings. They spend 100% of their income.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      tsadjatko - thanks for your comment.

      You said: "I'm not so sure your reasoning that the wealthy are bigger savers than spenders holds up...can you site data to support the idea that the poor in aggregate spend more than the wealthy as a whole?"

      I'm going to have to fall back on common sense here and just point out that rich people have money and poor people do not. I didn't say that the rich were "bigger savers than spenders," I said that rich people save a high percentage of their money, and the poor save almost nothing. What pjmeli said is absolutely correct. There isn't a lot of good data on savings - who saves, how much, etc. - but the only form of savings that I am terribly concerned with is govt. bonds, because to purchase govt. bonds you exchange dollars with the government, not a part of the private sector where those dollars would stay in play.

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      So basically I am to understand that although there is no statistical evidence to support your assertions money must be redistributed to the poor from the wealthy because pimeli says the poor and the middle class will spend all they get and not save a cent while the wealthy will save more than they spend and will spend less than the poor because the poor are who fuel the economy. Since there is no statistical evidence I am to use a faith in common sense to ascribe to this theory? I'm sorry but I wasn't born yesterday and I don't know anyone who would buy what you are selling. Try again.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      tsadjatko - I'm not trying to sell anything, I'm just trying to explain how the economy works in real life.

      Do you seriously not understand the reasoning here? Do you really think the poor are saving money? Do you really think that the rich *don't* save money? If not, how do they accumulate so much of the stuff? Where are we losing you? Which part of that do you find hard to believe?

    • pjmeli profile image

      Paul Meli 4 years ago from Mount Dora, Florida

      tsadjatko

      Common sense…in a closed economy the NET flow of dollars is from consumers to businesses … from the bottom-middle to the top of the wealth distribution.

      It can be modelled as an hourglass.

      What happens when all of the sand is at the bottom?

      Without redistribution - government induced flow that accounts for at least a third of GDP, the economy would be very small. Only a very few would be able to participate.

    • tsadjatko profile image

      TSAD 4 years ago from maybe (the guy or girl) next door

      Now. this is going nowhere when you start putting words in my mouth - I said nothing like you just said I said - Is see what your problem is - you are a liberal and when liberals can't provide provable facts to support their theory they twist what is said or belittle the messenger. as demonstrated by your reponse.

      "Do you seriously not understand the reasoning here? Do you really think the poor are saving money? Do you really think that the rich *don't* save money? If not, how do they accumulate so much of the stuff? Where are we losing you? Which part of that do you find hard to believe?

      You have lost me when you say I think things I never said. Instead of using tactics to paint me as stupid try supplying some proof of the nonsensical, unprovable "beliefs" you are espousing as I correctly summed up in my previous comment.

    • JohnfrmCleveland profile image
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      John 4 years ago from Cleveland, OH

      Tsadjatko – the reasoning here is pretty airtight. I honestly don't see how anyone who knows the definitions of “rich” and “poor” can come to any different conclusion. Yet you are rejecting this very simple, straightforward reasoning because I didn't present data on it.

      Here's some data, lots of it, if it will make you happy. http://research.stlouisfed.org/publications/review...

      The problem with savings data is that it is calculated nationally: total income – total spending = savings. That gives a pretty accurate number. But the data that attempts to break that up by income level is terrible, as it is based on surveys, and the survey answers, totaled up and extrapolated out, have been shown to be horribly inaccurate, and nowhere near the calculated total for the nation as a whole. Not surprisingly, people tend to overestimate how much they save. So some common sense comes in very handy when looking at savings. And common sense tells us that rich people save more than poor people, simply because they have the ability to do so. The proof is in the wealth they have accumulated over time.

    • gatlinbiographer profile image

      Jim Gaddis 3 years ago from Grifton, NC

      John - The Treasury must sell T-securities in the amount of deficit spending, right? Is the Tsy allowed to sell more than that as long as it does not exceed the "debt ceiling"? For example, if there is no federal deficit but a surplus instead, are T-security sales suspended? Hoping I can answer this for myself before you reply, but can't be sure. Thanks.

    • JohnfrmCleveland profile image
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      John 3 years ago from Cleveland, OH

      Actually, it isn't completely correct to say that the Treasury must sell securities - they only have to keep a positive balance in their account at the Fed, and selling securities is how they do it in practice. But they could also do it by minting some trillion-dollar platinum coins and depositing them into their account. Dollars without debt.

      Anyway, I don't think they would ever suspend the sale of securities - the demand for them is too great, and the world is used to using them as currency. If you ever look at the Treasury's balance sheet, you would see that, in the normal course of business, they redeem far more bonds than are necessary for covering deficit spending. Something like $57 trillion/year in bonds are bought and sold. Some of that is probably short-term bonds being rolled over, but still, the numbers are staggering.

      If you follow up on this, let me know what you find out.

    • gatlinbiographer profile image

      Jim Gaddis 3 years ago from Grifton, NC

      Thanks John. That makes sense and is what I suspected. In an effort to confirm, I have emailed the Treasury with the same question. I'll post their response if I get one.

      It might be confusing for debt-phobes and spending-cutters to learn that even with a balanced budget or a federal surplus the government could continue to amass "debt" via T-security sales. The independence between federal spending and federal "debt" might be mind numbing to some.

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      Jim Gaddis 3 years ago from Grifton, NC

      Haven't heard from the Treasury yet, but I see where it suspended sales of 30 year securities for a few years following the surplus of the late 90s and early 2000s and resumed them in 2006 following a few years of deficits.

    • gatlinbiographer profile image

      Jim Gaddis 3 years ago from Grifton, NC

      Regarding my question, " if there is no federal deficit but a surplus instead, are T-security sales suspended?", here is the response I got from Sandy, Lead Customer Service Rep at the Treasury:

      "Even if there were annual budget surpluses, there would still be an existing cumulative debt outstanding. Also, total receipts (taxes, fees, etc.) tend to vary from month to month and calendar quarter to calendar quarter. There would continue to be a need to borrow to pay for ongoing operations if receipts were low in a particular month or quarter." He/she also posted some expanatory links.

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      John 3 years ago from Cleveland, OH

      @GB - fantastic job just getting a response from the Treasury. I never would have even tried.

    • stanfrommarietta profile image

      stanfrommarietta 3 years ago

      John, I was looking back over your blog on why surpluses are (usually) bad for the economy. That reminded me of a critic of another MMT discussant of the same topic who noted that Australia had run surpluses for years without ill effect on the economy. The MMT discussant failed to say why, in MMT terms: Australia has been a net exporter of iron ore to China and other nations for these same years. That meant Australian dollars (they have fiat money too) were coming into circulation in Australia and effectively taking the place of the A$ withdrawn and not spent back into circulation, creating the surplus (more taken in in taxes and not spent back). So this is an exception to the rule that surpluses are always bad, but you have take into account the Export/Import balance along with Taxes/Govt spending and Savings/Investment differences to explain this in MMT terms. A government doesn't need to tax much and spend even less if most of the private sector is getting (relatively) new money back from exports in considerable excess over imports. But the money received for exports are old dollars that left our nation's circulating money when we bought imports from foreigners. Those dollars may have stayed away from our shores for some time before coming back, and are now like mana from heaven, taking the place of any dollars absorbed by the government in taxes and kept as surplus. But the overall, global increase of the dollar supply (say) will occur when the Fed creates new money as an agent of the government and it replaces money lent to the government from banks when the Fed buys with money created out of thin air the bank's securities used by the Treasury to borrow money from the banks. That redeems the govt's debt to the banks for the borrowed money. The borrowed deficit money now is debt-free as if the Treasury had created it instead of borrowed it. As the debt-free money given to the banks gets used in backing new loans by the banks, there is potential for inflation, depending on the current state of the economy. If it is in deflation, there is idle productive capacity and idle workers who are unemployed, and the economy can grow back using that idle productive capacity if there is new money to make the necessary exchanges between parties in the economy, without inflation resulting. We assume that once the economy reaches full production and full employment, there is no way to increase production by injecting new money into circulation. So there will be a surplus of money in circulation chasing goods and services, raising everyone's prices accordingly, hence inflation. But until we have full production and employment, there is no danger of inflation. That is our focus now. Later, if we ever get our ignorant voters and their politicians to see their way to increase overall deficit spending to get us back to full production, we can turn our attention to fighting any actions that produce inflation. But that is not our problem now.

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      John 3 years ago from Cleveland, OH

      Yep. I do tend to put everything in terms of the U.S. economy, to the exclusion of other fiat currency economies. And it's a foregone conclusion that we are going to run a large trade deficit. But you are correct, the economy will do just fine with an influx of dollars from the foreign sector, as long as there are enough dollars in the foreign sector to start with.

      I just looked at Australia's history of deficits and surpluses in the 20th century, and it looks a lot like our history, with deficits outnumbering surpluses by a wide margin - so there are plenty of Australian dollars in savings. Australia's flow of dollars might be worth a closer look - it would be interesting to see how (or if) the government reacts to significant trade surpluses. It's not something we'll get a chance to experience here anytime soon.

    • stanfrommarietta profile image

      stanfrommarietta 3 years ago

      Gatlinbiographer asked: "John - The Treasury must sell T-securities in the amount of deficit spending, right? Is the Tsy allowed to sell more than that as long as it does not exceed the "debt ceiling"?

      When the govt. deficit spends, it must borrow dollars from US banks to fund the deficit portion of the spending. So, the T-securities in that case necessarily equal in value the deficit.

      ---

      Gatlinbiographer: "For example, if there is no federal deficit but a surplus instead, are T-security sales suspended? Hoping I can answer this for myself before you reply, but can't be sure. Thanks."

      ---

      Stan:

      Although I think the debt-limit law is unconstitutional, given that it is still accepted by Congress, then the Tsy is not allowed to borrow more by selling more securities if that puts the value of all securities in existence at certain locations over the debt limit. Every security sold represents a debt obligation of the government to pay back the face value of the security to whomever holds it when it matures.

      Why do I think the debt-limit law is unconstitutional? The Constitution says, "The Congress shall have the Power "...to pay the debts...; To borrow Money on the credit of the United States."

      These powers are 'absolute' or without limits or conditions on them. They don't say, the Congress shall have the power to borrow until the total amount of debt exceeds a value set by Congress." If Congress could modify all powers by setting limits like these on them, then the Constitution has no meaning. It would take a Constitutional amendment to set such limits.

      BTW, it would take a Constitutional Amendment to require Congress to have a balanced budget, since that could place limits and constraints on borrowing, which is an absolute power. But that would be a dumb idea, because balancing the budget only concerns making government expenditures equal tax revenues. But in that case the government could not spend more than it takes-in in taxes while there is a severe trade imbalance with imports much greater than exports. Imports could be draining money continually out of our economy and we would need to counter the drain with deficit spending.

      I think that is what Japan does. It's national debt is twice the value of its GDP, but it has almost no inflation. It has to import raw materials for its factories and buys many foreign goods that it does not manufacture for domestic consumption.

      The Japanese are also obsessive savers for retirement. So that is also money going out of circulation. So, Japan, I think, has a systemic deflationary problem that it counters by continually creating in great amounts new money and spending that back into the economy. But the Japanese also know not to overdo the government spending, so they are relatively prosperous without inflation, and have a built in retirement system of private savings. To outsiders it looks like they are inflation bound, but you have to look at the entire money situation of where money is flowing in and where it is flowing out, and what sort of government spending is flowing in and what taxes are flowing out into government.

      A government can create increasing aggregate 1savings by its spending. Each dollar spent is given to some consumer, who uses it to buy something else while saving a bit of it for him/herself. So this goes on until the dollar spent has been nibbled and swallowed into savings until nothing remains and, over all consumers who touched the proceeds from the dollar, the dollar ends as aggregate savings. You can't save without something to save from, so savings have to be preceded by spending, and in this case government spending with newly created government money.

      The problem is that securities are being sold for two distinct purposes, one should be regarded as debt for deficit spending and the other a banking debt of the Fed to return a depositors' time deposit (like a bank CD) represented by the security, which is like a CD. But the debt limit law, created during World War I when US securities were mostly used for govt borrowing money to spend on govt operations, was extended to include those used by investors in time deposits at the Fed, which are not used to fund government operations. In fact, they help the govt. maintain stable prices by keeping excess dollars out of circulation from importers who have gotten dollars from selling us goods and have decided not to cheapen the value of their dollars by creating inflation and have invested them in US securities as time deposits.

      I just had the thought: China and other foreign investors in US securities may now decide that because our economy is still in recession, and there is no likelihood of increased deficit spending that this would be a good time to buy goods from us, since then the rest of their dollars will likely increase or retain value in foreign exchange as long as no inflation results. Our prices should also look good now. So, look to see China withdrawing some of its dollars in US securities and putting those dollars to work for them.

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      John 2 years ago from Cleveland, OH

      Hi, Stan, sorry for the delay in responding -

      First of all, let me say again that you should put what you have figured out about bond transactions/mature bonds/timing/etc. together in a hub. You already have more than enough material just from your comments - now organize them and write an article. It is a subject worth putting in print.

      ***********

      While we are about 98% in agreement, I just wanted to touch on a couple of smaller points.

      I consider some savings more or less permanent - savings of the big exporting countries, and savings of the superrich - and some savings very temporary, like the savings of the vast majority of us. I might put aside a few hundred thousand for retirement, and I might even be able to leave a few hundred thousand to my heirs, but that money is unlikely to survive intact for very long. Velocity will be low, but not zero. That kind of savings is likely to hold pretty steady, being spent at about the same rate as it gets saved. So I don't think we can blame much of the increasing debt on retirement savings, either here or in Japan. Money simply does not stay in the hands of 99% of us.

      "...In fact, they help the govt. maintain stable prices by keeping excess dollars out of circulation from importers who have gotten dollars from selling us goods and have decided not to cheapen the value of their dollars by creating inflation and have invested them in US securities as time deposits."

      The more I learn about this, the less I believe that the number of loose dollars, nor the total number of net financial assets, has anything to do with inflation. The tiny interest paid on bonds isn't going to tempt anybody into saving their money instead of spending it. Savers accumulate piles of dollars because there is nothing they want to buy or invest in. Bonds are in demand because they are a little better than holding dollars, but if bonds were not available that doesn't mean that people would choose to spend their dollars instead of saving them.

      The same reasoning holds for China et al. They don't spend all of their dollars because it doesn't help their economies to do so. Why buy American goods when you can make those goods domestically, and boost your economy in the process?

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      Do you ever visit the Bankrupting America Facebook page? I occasionally like to torture myself reading the hysteria posted there and responding with dissenting views.

      Do you find it odd that so many people who clamor for less federal spending gleefully acknowledge that the US can "print money" in any amount? Yet in the same breath they adamantly argue that continued federal spending will ultimately cause federal "bankruptcy" or insolvency. When I point out that a government with virtually unlimited ability to create money should never go bankrupt, the arguer invariably shifts from the peril of insolvency to the insidiousness of inflation caused by too much spending, as though the "certainty" of inflation somehow validates the weakened insolvency argument. At that point their further listening stops. I can only shake my head and assume that ideology usually trumps logic, at least in those cases.

      I also hear quite a bit of junk from that page about the US Dollar being the world's reserve currency and that somehow spending so much money will cause the US to default on its debt which will a) endanger that reserve currency standing and that somehow losing the reserve currency status will b) bring the US to its knees. Knowing the fallacy of defaulting on the debt, I can't even bring myself to follow this threat to the reserve currency line of thinking. Any thoughts?

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      John 2 years ago from Cleveland, OH

      I'm in the middle of a reserve currency debate on Yahoo right now, as a matter of fact. :)

      I just don't see any other currency that is in position to take the place of the dollar as the main reserve currency. The countries that run a large trade deficit don't seem big enough. As for China, they just don't meet the criteria.

      Then they claim that China is buying up gold in order to back the yuan and become a reserve currency. But when I ask, nobody can explain how this would help China one bit.

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      Even if the dollar became a secondary world reserve currency, or if world reserve currencies were discarded altogether, would it really be disastrous for the US economy? Wouldn't it likely weaken the dollar and bode well for the US trade balance? It might reduce demand for Treasury securities, I think, but the US doesn't really need those anyway, except to control interest rates. I don't know enough about the world's reserve currency implications, but the threat of it being other than the US dollar seems about as catastrophic as burning my breakfast toast.

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      John 2 years ago from Cleveland, OH

      I think you are correct about the dollar being a bit stronger because it's the reserve currency. But no matter what the reserve currency might be, the value of that reserve currency is still going to vary against other currencies. That is, a barrel of oil is going to cost Americans so many dollars, more if the dollar is weak, fewer if it is strong, no matter what currency (or commodity) we would have to convert it to at the point of sale.

      But right now, there are a heck of a lot of dollars in foreign hands, so if you flipped a switch and changed the reserve currency overnight, it would seem like there would be a rush to get some value for those dollars, which could be painful. But that's an unrealistic scenario.

      I don't really see how it could be disastrous for the economy either.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      Where are these debates about reserve currencies and the

      impending collapse of the dollar? I'd like to find them and

      entertain myself with them.

    • JohnfrmCleveland profile image
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      John 2 years ago from Cleveland, OH

      I might have exaggerated when I called it a debate, but it's on Yahoo finance. http://finance.yahoo.com/news/dollar-role-secure-s...

      It's pretty much over now. The article came out days ago.

      Maybe it's worth writing an article about. There are no shortage of goldbugs and doom-predictors on Hubpages.

    • Dont Taze Me Bro profile image

      Dont Taze Me Bro 2 years ago from Tazeland Islands

      Budget surplus? I doubt we will have to worry about that hurting our economy for the rest of your lifetime. Just look at the numbers.

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      John 2 years ago from Cleveland, OH

      Well, the article was mostly meant to be a warning against pushing for a balanced budget. That movement, unfortunately, has quite a bit of support already.

    • Dont Taze Me Bro profile image

      Dont Taze Me Bro 2 years ago from Tazeland Islands

      Since when did balanced budget = budget surplus?

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      John 2 years ago from Cleveland, OH

      They aren't the same, of course, but in both cases too many dollars are being removed from the economy by taxation. It is easier to illustrate that problem using the example of a government surplus.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      You can have a balanced budget when federal spending has been reduced to a deflationary level and taxes lowered to match.

      We now buy lots of imports from China and Japan and other Asian countries. That is currently a constant drain on our economy. We have to match it with either increased exports or increased government deficit spending. So, the balance needed may not be between tax revenues and federal spending, but between federal deficit spending and imports. If we want economic growth we need to have a 'surplus' of deficit spending that adds to aggregate savings. But we should do this only when there is deflation.

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      John 2 years ago from Cleveland, OH

      Stan - why should we not have a "surplus" of deficit spending unless there is deflation? Are you defining a surplus of deficit spending as whatever level brings on demand-pull inflation?

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      My understanding of "balanced federal budget" is simply a budget in which nominal federal tax collections equal nominal federal spending. It seems like any discussion of inflation/deflation, imports/exports, forex, and the foreign sector, while interesting for discussing GDP and economic dynamics, is moot vis-a-vis "balanced budget".

      By the way, if you want to get that "fingernails on the chalkboard" sensation, read the replies to the latest Bankrupting America Facebook posting egging people on with the challenge: " Tell us how YOU think America should solve its spending problem!" Apparently many Americans would unwittingly impoverish the country to solve a non-problem.

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      John 2 years ago from Cleveland, OH

      @GB - somebody referenced one of my articles on the Bankrupting America FB page - was that you?

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      John, I was saying we need to do deficit spending when there is deflation. That will usually occur during a recession or depression, or when we are trying to grow our economy and there are resources and workers seeking work to match the growth.

      As for gatlinbiographer's idea that discussing inflation/deflation, imports/exports is moot vis-a-vis

      "balanced budget", I think he fails to understand modern monetary theory (or maybe hasn't heard of it yet). The point is that simply balancing a budget may not be appropriate if money is leaving the country to pay for imports, or people are saving excessively and not leaving enough money in circulation to buy all the goods and services at current prices.

      You can have a balanced budget for the federal government and have a depression at the same time. He is correct: a balanced budget is one in which expenditures are matched exactly with tax revenues. But that fails to consider the economy as a whole, with all its inflows and outflows to circulation of money in the economy. During deflations our Federal government, which can create new money from nothing, needs to create it and spend it into circulation to put enough money back to allow consumers to clear the market at stable prices and have full employment. When the Federal government creates new money it has to deficit spend. Ultimately the Federal Reserve will buy the securities used for deficit spending, and it will do so by creating money out of thin air. So, this is where deficit spending ultimately leads to new money being created and spent into the economy. When the Fed buys the securities from banks that hold them, it makes the money borrowed using the securities debt-free. No one is owed for this money. This is because when the Fed creates money, nobody is owed for it. So it is a debt-free 'gift' to the economy.

      But the issues of inflation should not be ignored. The Federal government should show restraint in creating new money if the economy is already at full production and full employment. (Population growth will always create new workers seeking work).

      The point is that all this emphasis on balancing the budget is done with ignorance of how money works and flows in our economy. It can lead to economic disaster, deflation, depression, high unemployment, suffering, and maybe defeat of the United States at the hands of an economically sophisticated opponent. Surpluses can also be deflationary, and only should be used when there is a high forex imbalance as was the case in Australia, when Australia was exporting billions in iron ore to China and bringing in those billions into its economy. The government could afford to keep taxes high and generate a surplus just to oppose all that excess money coming in via exports that could cause inflation if not counter balanced. The exports were taking the place of government spending into the economy.

      Yes, Americans could unwittingly impoverish the country to solve a non-problem. Scary, no?

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      I see what you are saying Stan, but I tend to think that federal taxes are not "revenue", are not required for federal spending, and should be dispensed with entirely. In the absence of federal taxes, either all federal spending is deficit spending, or more probably, there is no meaning to the terms "deficit" or "surplus" Short of eliminating federal taxes, I suspect that federal spending should always be in deficit and that inflationary times could be dampened with interest rate hikes.

      John, I could easily have referenced one of your posts in a Bankrupting America reply, but I can't recall.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      Glad to see you here gatlinbiographer. You asked earlier:

      "John - The Treasury must sell T-securities in the amount of deficit spending, right? Is the Tsy allowed to sell more than that as long as it does not exceed the "debt ceiling"? For example, if there is no federal deficit but a surplus instead, are T-security sales suspended? Hoping I can answer this for myself before you reply, but can't be sure. Thanks."

      I think the Treasury can sell new securities to investors, and these sales have nothing to do with deficit spending. But since they create more securities, those get counted in the debt

      ceiling calculations, and they put a limit on Congressional

      spending. I understand that about 1/2 of the national debt consists of Treasury securities sold to private and foreign investors in the form of time deposits at the Fed. The idea

      that the government would be stressed to repay the holders

      of those investors' securities is about as lame as the idea that a bank would be hard pressed to return the money in the time deposit accounts corresponding to bank CD's sold to the customers. Most of the money is still there. Unlike a private bank, though, the Federal Reserve Bank can just create the interest out of thin air and add that to the money from the investor's time-deposit-Treasuries account. The government does not use the money sold to these private or foreign investors to fund government operations. The Treasury can borrow all it needs also in the form of the same marketable

      securities. But that money gets immediately spent into the economy, whereas the time deposit just sits there until the security matures.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      MMT argues that the need for taxes is not to provide the government with money to spend, but to make people want to acquire and use the government's money, at least so they can pay taxes and government fines with it. But taxes also have another purpose, which John has been discussing for over 18 months now: taxes drain money out of circulation. The money coming in as taxes can sit somewhere, or, just to save

      storage costs, it can be destroyed. So, taxes can be a major tool in fighting inflation by draining excess money out of circulation that is inflationary. The Fed can also sell securities it has acquired to banks to drain the banks' reserves. That also fights inflation. The government can encourage imports and savings as other means to fight inflation. So a fiat money system is not without its weapons for dealing with inflation. But the idea that taxes are needed to fight inflation as opposed to funding government expenditures is a new one for most people. It could lead to a whole different way of setting up taxes, when to tax and who to tax.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      John, my use of 'surplus deficit spending', was not a good combination of words, but if I understand what you mean by demand-pull inflation, you are referring to more money in circulation chasing a given set of goods and services that can

      be sold at higher prices, which brings on inflation. Right? That is what I meant. But if, as you have been arguing all along here, we do not have full production, raw materials are in abundance still, and there are idle workers seeking jobs, then we have deflation and at those times creating new money and injecting it into circulation in the economy will not be inflationary but desirable for everyone. The idle workers get incomes and start to consume goods and services, and businesses expand to meet the increased demand, and can do so with very little rise in prices or wages.

      The idea that just because there is more money added to the economy (but not necessarily into circulation) will cause

      inflation by 'devaluing the money supply' is faulty. You must not confuse your ability to divide things by the number of dollars to buy them with and think that creates inflation. That's just occurring in your mind and not in the world. The new money has to go into circulation chasing goods and services in the context of available productive resources and raw materials and idle or full employment where goods and services are being exchanged for money. For example, quantitative easing did not create inflation, because the money created by the Fed and given to the banks in return for their securities and toxic assets, did not lead to further bank lending, because businesses weren't borrowing, and they weren't borrowing because consumers were without money to consume. If the same amount of money was put in the hands of consumers a quite different result would have occurred.

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      Stan - My take on federal taxes is that tax dollars are, by definition, destroyed as soon as they are collected. The reasoning is that a dollar is a federal IOU (liability), that gets offset, or extinguished, when the taxpayer's dollar asset is transferred to the govt books. In other words, the taxpayer no longer is "owed" the dollar and the govt no longer "owes" the dollar when the dollar is transferred back to the govt. Both the liability and the asset disappear. Of course, this presumes that a dollar is an intangible concept, not a physical commodity. I understand that taxes drain dollars from the money supply which may occasionally help dampen inflation, but perhaps there are other ways to dampen inflation.

      As for federal borrowing, other than because of congressional mandates, I can't see why the govt would ever have to "borrow" any money. It seems like nothing but an operational constraint.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      John, Dave thought that as soon as the government sold a security to someone, the government spent the money. Not so!

      In some cases it does, e.g. deficit spending, but usually the security is swapped for dollars from the investor and placed in a time deposit account at the Fed. This may just involve an electronic transfer of dollars to the time deposit account t the Fed. No shredding needed. You need to distinguish between what the government does with the money it gets for the security. In some cases it uses it to spend the deficit; in other cases it uses it to create time deposits, which will remain in existence until the security matures and these are returned to the investor with interest (created out of thin air). The Fed also sells securities to banks to drain their reserves during inflations. Those dollars end up in time deposits also at the Fed.

      But Dave was close to another point I'd like to make. Frank N. Newman in his book on Seven Myths Holding Back America says that when Clinton created a surplus, he used the surplus to buy back the securities. That puts money back into circulation by returning it to the banks. So, that does not cause deflation (unless the banks refused to lend against them). Surpluses only cause deflation if the tax money collected is not spent back into circulation. Depending on how soon the tax money is used to buy back the securities and as a result goes into circulation by banks lending it, there may be a temporary deflation. There was a minor recession following Clinton's achieving a surplus. But it did not last, which may be because in buying back the securities with the surplus tax revenues, that money got back into circulation in some way.

      In my thinking on MMT 'circulation' is an important, central concept. Circulation is a flow of money from buyers to sellers who in turn use their money to buy from other sellers, in perpetuity. But circulation can be understood by the analogy to a pool of water, with water flowing around within the pool. But if there are drains from the pool, that will reduce the flow level in the pool. The drains to consider are taxes, savings and imports The original flow can be restored by inputs into the pool, from government spending, government creation of money and spending it, from investments, from money coming in from exports of our goods and services to other countries. If any of these inflows are cut off or reduced, and there is not a corresponding closure of the drains of a comparable amount, circulation can continue as it is without changes in level in the pool. But if the drains go on draining money while inflows are cut back, the pool will drop in level until it reaches a level where the amount flowing in circulation is zero. That corresponds to collapse of the economy. So there needs to be an entity able to create new money and spend it into the economy to compensate for the drains, leaving the level in the pool unchanged or even higher.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      Gatlinbiographer, you said, that you understood that when the government collects taxes the tax receipts are destroyed. I think not. Historically, (before 1971) obviously, it has not been the case. But since 1971 we have had fiat money. So, what happens to the tax money when it is collected by the IRS?

      I don't think the Treasury can extinguish dollars created by the Federal Reserve. It can exchange dollars it has on hand for dollars presented to the Treasury for equal amounts of dollars. It can extinguish mature securities/bonds it itself created and got back in exchange for new securities it creates.

      When the IRS gets cash receipts or checks for taxes, it records the amount. That cancels the taxpayer's debt, but the dollars still exist. I think someone, you or someone who had this idea, is confusing the debt obligation of taxpayer to the govt with the debt obligation of the government to replace dollar for dollar any dollar presented to the Treasury, which underlies the exchange of dollars between taxpayer and govt to clear the taxpayer's obligation for taxes. Dollars are the medium by which these tax obligations are represented and transferred. The same distinction must be made between the debt of the government to the banks when Treasury sells securities to the banks for deficit spending money and the debt obligation on a mature security to be exchangeable for Federal Reserve Notes in equal value. So, when the Fed buys a security for a loan to the govt from the bank, that redeems the govt's debt to the bank. But the Fed now holds the securities it bought. Those have not been extinguished. (The Fed has told me that specifically). The Fed will exchange the mature securities it has for new ones with the Treasury.

      What does Treasury do with the mature security it got back? I have no idea (if someone knows tell us), but logically it seems it could extinguish that security because it has replaced it with a new one. If it doesn't that doubles the money created: securities are money, which seems undesirable.

      Nevertheless, the Fed will sell the new securities during inflations to banks to drain their reserves. The money it gets from the banks for this will be recorded as being in a time deposit at the Fed. The government will not use that money for spending, because that would defeat the purpose of the Fed selling the security. If spent, the money goes back into circulation, and the Fed wants to reduce the money in circulation. So, the dollars received from banks for sale of securities continue to exist, are not extinguished, even though an original loan to the govt for an earlier security was redeemed by the Fed by its purchase of a corresponding security from a bank. Money is not extinguished when saved in a deposit account. It may never be extinguished. But govt does not extinguish money from its books even though its physical counterpart may be destroyed once a record is made of its amount in some account on the books.

      Suppose some gold coins in 1883 were buried and forgotten. They were recorded in some bank ledger somewhere. Suppose they were rediscovered in 2013. As govt money goes, their face value remains in existence, I believe. They can be exchanged for fiat money Federal Reserve Notes and then the gold melted down and poured into ingots. The value of the gold itself at this point may be a thousand or more times than their dollar face value in 1883. But unless sold for current dollars, it is then just gold. When Federal Reserve dollars wear out, new ones can replace them, and the old ones burnt.

      When tax receipts are received, their cash value can be recorded and the physical forms destroyed.

      When govt has a surplus, excess taxes over expenditures, the dollars received in surplus continue to exist in Treasury accounts at the Fed. They are in effect in 'savings'. How would you know what to create to replace them with later on if no record of them were kept? The record itself is their existence.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      One added observation: Frank N. Newman in his "Six Myths holding America back" says that in the Clinton administration, when it obtained a surplus, it used the surplus to buy back some securities of the national debt. That shows that the tax dollars were not extinguished as they were received at the IRS. That also showed me that Clinton's surplus was not like John's. John's surplus just stops the surplus tax money as it arrives from going back into circulation. But it has to be deposited somewhere, most likely in Treasury's account at the Fed. Clinton's spent it back into circulation (eventually) by buying back the securities from the banks with the surplus tax money. Clinton's surplus would not necessarily cause deflation, since the money collected in taxes sooner or later returned to the banking system and then to circulation.

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      Stan,

      I am mulling over your points and working out the accounting, so I can't really respond yet. But my initial reaction is that you are viewing the Treasury and the Fed as distinctly separate entities, one being the issuer of the dollar and the other being just another user. If you abstract up a level and view the Fed and the Treasury as "the government" sector your conclusions may change. Your acceptance that Clinton's budget surplus dollars were "used" to buy back some securities is indicative as such, as though you see the Treasury as having to to "have" dollars in order to "spend" dollars. Again, a higher level of abstraction would blur that distinction and possibly change the conclusion. Beginning and ending the analysis at the Treasury level might well lead to the conclusion that dollars are never destroyed (or created for that matter).

      As for the premise that buying securities back from the banks causes more money to circulate, my understanding is that banks do not lend their reserves and that demand for loans, not the amount of reserves on hand, is what causes loans to be made, money to be created, and dollars to circulate.

      In a nutshell, I see a dollar as simply an accounting liability of the US government (or Federal Reserve if you like), and that a dollar credited to the US government (or Federal Reserve if you like) is a simple cancellation of that liability - hence - destruction of that dollar. But, as I say, I'm thinking through all this again.

      One more random rhetorical thought while it's fresh: suppose there were no taxes at all? By definition, there would be no "deficit" spending, would there? Or would all government spending then be deficit spending? With no taxes, there would be no government "revenue". With no revenue, how could the government spend? Of course we know the government could, and would, spend, which means it does not rely on revenue (taxes) to spend, which means it does not have to rely on "surplus" to buy back securities since "surplus" is nothing but tax collections over and above spending.

    • gatlinbiographer profile image

      Jim Gaddis 2 years ago from Grifton, NC

      Stan,

      A couple of posts back you said "I understand that about 1/2 of the national debt consists of Treasury securities sold to private and foreign investors in the form of time deposits at the Fed."

      I thought that virtually all of the federal debt, $17.5 trillion or so, is in Treasury securities.

    • JohnfrmCleveland profile image
      Author

      John 2 years ago from Cleveland, OH

      Yeah, I agree with GB on these points, Stan. I think you are thinking too hard. Simplify a bit. (Fed + Treasury) acts the same as a prototypical central bank.

      *******

      Dollars and bonds are all just liabilities of the govt. (or, central bank, if you like). They are equal in this regard. If the govt. printed dollars and bought back all of their bonds, their total liability (about $18 trillion) would not change at all. And the only way to extinguish those liabilities is to tax them away - run a surplus.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      John, you are not paying attention to the problem that people need to see how OUR fiat economy works, not an ideal fiat money economy.

      I don't disagree. But I think it is important to note that the Clinton surplus was not the same as your ideal surplus.

      Clinton's didn't stop with taking the tax money out of circulation. It put that money effectively back in circulation when it used that tax money to buy back the securities from the banks, who presumedly turned around and lent money into circulation based on them. So, this surplus would not ultimately produce deflation but maintain status quo or show a minor deflation followed by return to status quo because of the time lag.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      Gatlinbiographer: I think it is important to expose to our citizens how our fiat money economy works. You guys can do your ideal MMT analysis, but there are features of our system that are unique to it. For example, how would you actually seek to manage inflations and deflations? Our system uses savings, taxes, cutting govt spending, raising interest rates, Fed selling securities to banks and investors, and imports to combat inflation.

      As for the $17.4 Trillion in securities. They are not all marketable, Treasury securities. Soc. Sec. and other Trust funds have non marketable government series securities. Fed cannot buy those directly. Treasury can issue marketable securities to get money from banks to buy them, and Fed can then buy these marketable securities from the banks, redeeming the Treasury's debt to banks to buy these. That makes the money used to buy back these govt series securities debt free.

      Aside from these, which are around $9 Trillion in value, about $4.5 Trillion are marketable securities bought by the Fed from banks. Most come in as mature securities and the Fed likely holds them until inflation begins, at which time, it swaps them for new securities with the Treasury. It then sells these new securities to banks to drain their reserves and constrain bank lending. It will also sell some of these to private and foreign investors to also drain excess dollars out of circulation. It will raise interest during inflations and pay higher interest correspondingly on these securities sold to banks and investors as an enticement to purchase. But these securities do not fund government operations. They sit in time deposit accounts at the Fed. Since sold at discount to banks and investors, when the principal is returned at maturity it is accompanied by interest created out of thin air by the Fed, which combined with the principal equals the face value of the mature securities. And the Fed gets the mature securities to swap with Treasury again. The Fed is not owed for the full value of the securities by taxpayers. It is an agent of government and is only owed by law 6% of the interest on each security it buys or sells. Treasury can issue securities to acquire interest money to pay Fed with. (Taxpayers not needed). But then the Fed can also buy these securities back and redeem the debt. But Fed cannot pay itself the interest directly. It all has to be done with banks as intermediaries between Treasury and Fed.

      Thus you need to distinguish various uses for Treasury securities. Some are used to borrow money to cover deficit spending. You also need to know about unmarketable government series securities used with the Trust funds.

      You need to also understand that securities held by the Fed do not currently represent a debt involving govt borrowing from banks or any other source of private dollars. They are just at the Fed to be there in case there is a need to fight inflation with them. The Fed buys them during deflations and in the process injects new money into bank reserves, which, depending on whether the banks are being approached by borrowers for loans, will induce banks to create new money as debt to enter into circulation.

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      Jim Gaddis 2 years ago from Grifton, NC

      Stan,

      I agree that someone needs to map out exactly the mechanics of the federal monetary system, or more specifically of the Treasury's spending and income processes. As I understand it, many of the activities, such as the sale of Treasury securities and the imposition of a debt ceiling, are artificially mandated by Congress as constraints and are not inherently necessary to the operation of a fiat money system.

      If, as you suggest, the Treasury does recycle taxes, then I fail to see where money ever leaves the system. It seems like you are describing a closed loop where money continues to circulate forever as though it were a physical entity rather than just accounting entries. As for mature securities, are they not as worthless as mature mortgages? Or are you saying that some mature securities remain unpaid or unsatisfied? As for securities held by the Fed, my understanding is that they count toward the federal debt just like securities held by anyone else. Also, in my view, raising interest rates seems to be the chief tool for controlling inflation.

      Sorry for the incomplete thoughts. I am still reworking my whole understanding of this process.

    • JohnfrmCleveland profile image
      Author

      John 2 years ago from Cleveland, OH

      Stan said: "John, you are not paying attention to the problem that people need to see how OUR fiat economy works, not an ideal fiat money economy."

      If you take a step back, it's all the same. No, our government is not operating in a way that suggests they are students of MMT, but I never suggested that they did. What I am trying to do is illustrate that, regardless of how we go about issuing bonds, etc., that it is still a fiat currency economy and the general rules still do apply.

      Stan said: "I don't disagree. But I think it is important to note that the Clinton surplus was not the same as your ideal surplus.

      Clinton's didn't stop with taking the tax money out of circulation. It put that money effectively back in circulation when it used that tax money to buy back the securities from the banks, who presumedly turned around and lent money into circulation based on them. So, this surplus would not ultimately produce deflation but maintain status quo or show a minor deflation followed by return to status quo because of the time lag."

      I don't know how the U.S. does their accounting, but it doesn't matter. If the U.S. reduced their total liability, then that's a surplus. It doesn't matter if that liability is in dollars or bonds. If, as you say, they "recycled" tax dollars by buying back bonds, that transaction does not add liabilities back into the economy. If you held $1 million worth of bonds, and the govenrment exchanged $1 million dollars for your bonds, both of you are in the exact same position as you were before.

      As a bondholder, you still have the ability to spend; when you hold $1 million in bonds, you can convert to $1 million in dollars with minimal trouble. So I don't see where the ratio of dollars to bonds, or the total number of dollars, is going to affect inflation.

      Finally, banks don't lend based on how much they have in the vaults, they lend based on demand for loans by creditworthy borrowers. This has been amply demonstrated by QE and the ensuing flood of reserves - it had no real effect on lending.

      A surplus in and of itself shouldn't lead to a recession if there are sufficient dollars with which to conduct business. Running sustained surpluses might get one to that point, especially in the old days, but I think that current Fed policy pretty much ensures that there will be sufficient reserves for banks to operate smoothly. But the Clinton surpluses took a lot of tax dollars out of people's pockets simply because they made some gains on paper. If you had a few extra bucks, you bought some stock instead of buying a new car. That's my belief, anyway.

    • profile image

      Carlos 21 months ago

      You wrote in response to Dave that $9.47 Trillion aren´t being spent and therefore aren´t affecting the economy. Just think about what would happen if trade returned to bartering, meaning value traded for value. If sovereign economies exceed a total debt of 50% of available assets, then things get dangerous. Monetary action can buy a little time, but doesn´t change a bit. That is certainly true, it only cleans up the multiple balance sheets of private, corporate, household participants of economy, shifts all debt to the public side and thus makes counting easier.

      http://onlinemswprograms.blogspot.com/2015/05/lost...

    • stanfrommarietta profile image

      stanfrommarietta 21 months ago

      John: In the past 14 or more months since I first responded here, I've modified some of my thinking. More than ever before I think it is important to see that the private banks create money out of thin air when they make loans. When the Tsy borrows from the banks, the banks create the money as a loan on their books, which is deposited in an account for the purchase of the Treasury bonds. That money gets transferred to the Treasury, which then almost immediately spends it (if it is deficit spending money). The Treasury never pays back the principal on the loan from the banks, only the interest, when the bonds mature. As Frank N. Newman pointed out (the source of my change in knowledge), the Tsy just swaps a new security it creates (out of thin air) for the mature security from the bank, and adds in interest (difference between face value and the principal or purchase price). Where does Tsy get the interest money? In the same way it gets it for deficit spending, from the banks, by selling them bonds and/or securities. And because banks create the money for the loans out of thin air, nothing limits them in being able to do this. Hence this is not a Ponzi scheme because Tsy can always find banks to sell its securities to. But it is a bit like borrowing from Peter to pay Paul. But doing it forever and forever. But in that case the principal is never paid back, only the interest when the bonds/securities mature. A debt never completely paid back is not an ordinary debt; it's not a debt at all. It is just a perpetual source of debt-free interest money for the banks. You could do this with your credit card, until you run out of banks willing to play the game with you. But for the Tsy the banks won't do it and lose the interest money. So, deficit spending money remains effectively debt-free when "borrowed" from the banks.

      Next, in all cases, when a loan is fully repaid at a bank, the money taken from circulation by the borrower and paid to the bank cancels the loan and the loan money vanishes from the books. That reduces the money supply correspondingly. (I don't know what the bank does with physical money used to pay back the loan, but it may go into a cash-on-hand account to be used to give borrowers who want to draw from their checking or loan accounts. Anyone know?)

      Now, the Fed can intervene with Open Market Operations or Quantitative Easing and simply buy Tsy bonds/securities with money it creates (debt-free) out of thin air. (Money is debt free if you do not owe anyone else for it). That cancels the govt's debt to the banks entirely. The Fed gets the securities/bonds in return and becomes a custodian of them. Most of them are mature when purchased.

      Why would the Fed buy them? It needs them to fight inflation. If serious inflation arises, the Fed will need to sell securities it has to banks (to drain their reserves and constrain lending) and to private investors (to put their money in time-deposit accounts at the Fed).

      But since no one would want to buy mature securities (that would just involve a dollar swap for the same face value of the securities, and no advantage entails), the Fed needs to get some new securities. Although it cannot create money and buy them from Treasury with that money (according to law) it can swap mature securities for new securities with new maturity dates from the Treasury. When Treasury gets its mature securities/bonds back, it can extinguish them. The Fed then can sell the securities to drain excess money out of circulation by selling them to banks and investors.

      When the Fed buys a Tsy security/bond from a bank, it cancels the original debt of the govt to the bank. And the money lent the govt in the purchase by the bank of the security/bond becomes debt-free.

      Now, of major importance is the fact that by Quantitative Easing the Fed has been quietly buying up all those securities held by the banks for deficit spending with money created out of thin air. The money from the Fed first enters the banks reserves, but almost simultaneously that cancels the loan account, and that money has to vanish into thin air. So, QE is not inflationary when buying securities. What is potentially inflationary is the original deficit-spending money corresponding to the securities/bonds sold by the Tsy to the banks, which is now debt-free.

      It turns out that currently the banks only seem to hold Tsy securities and bonds equal to the securities sold to cover the previous budget year's deficit spending. Fed has already bought back earlier portions of deficit-spending national debt.

      The rest of the national debt is either in intragovernment series bonds held in trust by the Social Security Administration and other Federal agencies or in marketable Tsy securities sold to investors--foreign, private, state and local govt. Those securities correspond to time-deposit accounts at the Fed which contain the principal used to buy them. Implication: there is no national debt problem because these investors' securities already have money in time-deposit accounts to pay back the holders of securities on demand when the bonds/securities mature.

      Every cent in the national debt is under control. (1) The Tsy

      simply rolls-over the principal on the debt and adds interest, which it also gets in the same way and rolls over that debt too. It does this forever, so it is not a debt, but banks get an endless stream of interest money. (Which may be a good thing because when they loan, they do not create the money for the interest the borrower has to pay. But the Tsy's paying interest comes to banks without debt obligations to pay back, and when it pays interest on CD's and savings accounts, that money gets added into circulation at some point, making it possible for at least most borrowers to find money to cover the interest also.

      See my MMT and The Folly of A Balanced Budget and the Myth of A National Debt Problem at stanfrommarietta.hubpages.com.

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