"Living Beyond Our Means..."

[Ivor the Engineer]

"The credit card is maxed out!"

"There is no money left!"

The above and no doubt more slogans are constantly parroted by politicians and economists to the public to justify existing or future rises in taxes and/or cuts to government funded services. The ideas behind this are:

1) Government spending is funded by taxes.
2) Any government spending beyond what is raised through taxes must be borrowed from the private sector.
3) The private sector will demand ever higher interest on its loans to the government if it thinks there is a higher probability it will not get repaid.

(1) is wrong. Government spending is largely funded by the creation of money by the central bank, which the government controls. Tax is just used to cancel out most of the money spent into the economy by the government. Without government spending there would be no money to pay tax. The amount of spending that isn't cancelled out by tax is called the deficit and adds to something called government debt.

(2) is technically correct, but is a legal requirement rather than fundamental. I.e., the government could change the law and fund all its spending from money created by its central bank. The only losers would be those who get paid the interest.

(3) is merely a consequence of (2). Remove (2) and, in principle there is no limit on how much money a government with its own central bank could spend. It could run a deficit every year and let its debt rise forever.

But isn't debt bad? Don't we all have to live within our means? Yes, but for a government that can create money the means are not money, but resources. Beyond physical land, one of the biggest resources a government has at its disposal are its citizens. By investing in its human resource a government can make its citizens more productive. By investing in infrastructure a government can make its land more productive.

Clearly the government just giving every one of its citizens a gazillion tokens would lead to massive inflation and make those tokens worthless. But if the government spent on things such as public health, infrastructure, education, childcare, social care, etc. it would allow (and stimulate) the economy to grow. The other side to the coin is that when the government cuts spending on those things its citizens become sicker, stupider and more tired and stressed.

Another aspect to this is that if the population gets larger then government spending should increase. For example, as healthy young men and women of working age trek from the global south this is increasing the human resources in your country. Given the demographics of most developed countries this is probably a very good thing if we invest in and make use of these additional human resources.

Government debt is just a number. It should not determine or constrain what the government does or does not do. Only real resources constrain the government.

 

[dirtywick]

money is also created when the central bank issues reserves to private banks which they then lend out to customers

 

[acbytesla]

money is also created when the central bank issues reserves to private banks which they then lend out to customers

Yeah, they print money and loan it to banks at the Federal Discount rate. They require the banks that borrow money to have a certain percentage in bank accounts or acceptable loans. I forgot the percentage.

 

[Beelzebuddy]

Ivor, you've written about these ideas in a number of threads, but I've yet to see you call it by its name: Modern Monetary Theory. It's a whole thing, if you aren't already aware.

 

[Thermal]

Fiat/debt based money in macroeconomics is... weird.

 

[acbytesla]

Fiat/debt based money in macroeconomics is... weird.

Not really that weird. It beats basing it on a fixed limited currency.

 

[Thermal]

Not really that weird. It beats basing it on a fixed limited currency.

Ok, a gold backed currency or whatever is problematic when GDP starts eclipsing available gold to back it. I've heard the theory loosely compared to a guy with substantial assets, a stellar repayment history (credit rating), and consequently credit lines that far exceed his collateral, based on the idea that 'this guy is a money making machine that creates wealth', and he can only go down by actually being attacked. +/-, is that the model?

 

[dirtywick]

Yeah, they print money and loan it to banks at the Federal Discount rate. They require the banks that borrow money to have a certain percentage in bank accounts or acceptable loans. I forgot the percentage.

finding where these percentages are to manage growth against inflation is the tricky part

 

[dirtywick]

Ok, a gold backed currency or whatever is problematic when GDP starts eclipsing available gold to back it. I've heard the theory loosely compared to a guy with substantial assets, a stellar repayment history (credit rating), and consequently credit lines that far exceed his collateral, based on the idea that 'this guy is a money making machine that creates wealth', and he can only go down by actually being attacked. +/-, is that the model?

gold based is a little silly at this point anyway. way back when in pre paper money times, and even when nations or even banks on different paper currencies where the exchange rate isn't clear and they needed to balance books, precious metals were very useful for their elemental properties. once you're past that, it's an unnecessary limiting factor. that's basically how i understand it anyway

 

[Thermal]

gold based is a little silly at this point anyway. way back when in pre paper money times, and even when nations or even banks on different paper currencies where the exchange rate isn't clear and they needed to balance books, precious metals were very useful for their elemental properties. once you're past that, it's an unnecessary limiting factor. that's basically how i understand it anyway

I've taken a couple half-assed MOOCs to get a better handle on macroeconomics, but don't feel like I got it. For instance, the title of the thread has 'High Heeled boys" distracting me on a loop in my head rn

 

[dirtywick]

I've taken a couple half-assed MOOCs to get a better handle on macroeconomics, but don't feel like I got it. For instance, the title of the thread has 'High Heeled boys" distracting me on a loop in my head rn

i agree it's complicated

 

[acbytesla]

This is why the last person you want running the Fed is the President. Especially a stupid one.

 

[Ivor the Engineer]

money is also created when the central bank issues reserves to private banks which they then lend out to customers

https://www.bankofengland.co.uk/-/media/boe/files/quarterly-bulletin/2014/money-creation-in-the-modern-economy

Another common misconception is that the central bank determines the quantity of loans and deposits in the economy by controlling the quantity of central bank money — the so-called ‘money multiplier’ approach. In that view, central banks implement monetary policy by choosing a quantity of reserves. And, because there is assumed to be a constant ratio of broad money to base money, these reserves are then ‘multiplied up’ to a much greater change in bank loans and deposits. For the theory to hold, the amount of reserves must be a binding constraint on lending, and the central bank must directly determine the amount of reserves. While the money multiplier theory can be a useful way of introducing money and banking in economic textbooks, it is not an accurate description of how money is created in reality. Rather than controlling the quantity of reserves, central banks today typically implement monetary policy by setting the price of reserves — that is, interest rates.

In reality, neither are reserves a binding constraint on lending, nor does the central bank fix the amount of reserves that are available. As with the relationship between deposits and loans, the relationship between reserves and loans typically operates in the reverse way to that described in some economics textbooks. Banks first decide how much to lend depending on the profitable lending opportunities available to them — which will, crucially, depend on the interest rate set by the Bank of England. It is these lending decisions that determine how many bank deposits are created by the banking system. The amount of bank deposits in turn influences how much central bank money banks want to hold in reserve (to meet withdrawals by the public, make payments to other banks, or meet regulatory liquidity requirements), which is then, in normal times, supplied on demand by the Bank of England. The rest of this article discusses these practices in more detail.

 

[acbytesla]

https://www.bankofengland.co.uk/-/media/boe/files/quarterly-bulletin/2014/money-creation-in-the-modern-economy

What they do is increase or lower the discount rate and let the amount of borrowing respond to that.

 

[dirtywick]

https://www.bankofengland.co.uk/-/media/boe/files/quarterly-bulletin/2014/money-creation-in-the-modern-economy

private banks as for money to be printed to cover the loans they want to give out. this demand is where the money is created. i don't see how that's not saying that. the amount of desired lending activity can be influenced by rates, yeah. but ultimately private lenders ask for money to be printed so they can offer the loans.

 

[Ivor the Engineer]

Ivor, you've written about these ideas in a number of threads, but I've yet to see you call it by its name: Modern Monetary Theory. It's a whole thing, if you aren't already aware.

I am aware, but I think this particular part of MMT is such an important fact that as many people as possible need to understand it. That way, politicians and economists may be corrected when they reel out one of the many household budget analogies in public.

 

[Ivor the Engineer]

private banks as for money to be printed to cover the loans they want to give out. this demand is where the money is created. i don't see how that's not saying that. the amount of desired lending activity can be influenced by rates, yeah. but ultimately private lenders ask for money to be printed so they can offer the loans.

That is as I understand it too. From the comment I was responding to the direction wasn't clear. The private banks decide on the reserves they want, rather than the central bank.

 

[dirtywick]

That is as I understand it too. From the comment I was responding to the direction wasn't clear. The private banks decide on the reserves they want, rather than the central bank.

yeah, the central bank manages reserves, and in doing so influences money supply. but it’s both the government and private lenders that are capable of printing money.

and that’s important because without inflation and debt, you have much more difficulty borrowing. people think all that’s bad, but try getting a house or a car in full

 

[acbytesla]

I am aware, but I think this particular part of MMT is such an important fact that as many people as possible need to understand it. That way, politicians and economists may be corrected when they reel out one of the many household budget analogies in public.

Yeah, it's like when they raise the debt ceiling. When the idiots refuse to lift it.

 

[dirtywick]

i agree that inflation and the debt in and of itself isn’t really a problem, the problem is when wages don’t keep pace, since wages always lag.