The Three Options
Nov. 29th, 2012 03:56 pm![[personal profile]](https://www.dreamwidth.org/img/silk/identity/user.png){kind=small}
peristaltorDoes the US still have something silly called the "fiscal cliff" looming? I haven't paid enough attention to the mainstream pressers of late. It's too hard not to laugh at their silliness.
Instead, I thought I would distill the various choices and just for fun examine the options. When it comes to the Federal deficit/debt situation, it seems to me we have just three courses of action:
I know that according to both of our mainstreams, the press and the economists, only the third option is "viable" to our country's continuing economic health. After all, if we don't do something soon, won't something horrible happen involving interest or our children? Without staking a position on any of these, let's go down that primrose path of speculation, shall we?
I'll leave absolutely balancing the budget off the table for now, since that would be a tricky feat in and of itself. To judge the other two extremes, let's consider some information that many have left quite unconsidered, especially when it comes to monetary creation. I've mentioned that before, haven't I? For a quick review, banks lend money into existence. They can lend a multiple of their reserves; for example, a bank holding a million in reserves can lend up to ten million of new money. If they fall short temporarily, they can after the fact borrow reserve money either from another bank or, if necessary, from the Federal Reserve (which has no legal reserve requirement).
Ah, but where do the consortium of banks comprising the Federal Reserve get their assets? Some of them come from being part of the "lenders of last resort" club, meaning they don't need reserves in an emergency. Most of their assets, though, come from those Treasury bonds the government incurs when it needs to cover the difference between revenues and spending. As a special twist, let's quote Chris Martenson's excellent Crash Course, Chapter 8: The Fed. First, remember that "all dollars are backed by debt:"
With this in mind, what would happen if the Federal government found some political fortitude and started actually paying off that debt it has racked up? Bonds paid off would remove dollars from the economy.
This has happened before. I heard one of Mr. Martenson's former podcast guests note the supposedly disconnected articles in one of The Economist's editions, one praising President Clinton's surplus and subsequent payment of past US bond debt, the other article decrying the lack of dollars the business community has been able to find to fund further expansion.* The Economist tends to take the more traditional economic stand; sadly, as I've mentioned many times before, this is the stand that fails to recognize the role of banks in our economy.
The most recent guest of the excellent From Alpha To Omega Podcast, Professor Mathew Forstater of the University of Missouri-Kansas City, makes this point. Since all money is debt, pay off that debt and the money created by it disappears. Poof. Worse, the value funded by that debt money will also disappear. As that old crank Frederick Soddy put it, "For there is no credit without debt any more than there is height without depth, East without West, or heat without cold." (Soddy, THE ROLE OF MONEY, GEORGE ROUTLEDGE AND SONS, LTD., 1934, p. 25.)
Furthermore, unless more debt is incurred at an accelerating rate, the money will disappear as older bonds are retired.
Which brings us to the other option, the one most seemingly prefer to avoid, to continue incurring debt. This course would at least allow us to have money in the economy. Yes, we would be incurring interest bearing debt, and eventually some of those bond holders might be interested in actually receiving such interest. Go down that course, and the easiest option is to inflate the economy through the strategies currently being explored, most notably the various rounds of Quantitative Easing, where money is printed to buy assets that no longer hold value. The problem?
To make bond purchases attractive in a weak economy, the interest on these bonds must be greater than inflation. Otherwise, people holding dollars will simply spend the money, getting greater value for their dollars than the bonds would otherwise pay. For example, if the bonds offered 5% interest over 5 years, but the inflation rate was running over 1% per year, your five year bond would be a sucker's bet. Better to spend the cash, or buy something appreciating at a greater rate. The only reason the low-interest longer-term bonds are being bought is a dearth of those other things with which to park cash.
Right now, the money supply is shrinking; people are borrowing at lesser rates than they have in the past. As a result, inflation is very low. What happens, though, when the Fed accelerates the QE enough to overtake natural deflation? Another of Chris' past guests, Paul Tustain, has a possible scenario: Fewer and fewer will buy into long-term bonds, meaning more and more retiring bonds will enter the economy as cash:
A long-winded explanation, yes, but probably the best one I've heard yet for how hyperinflation of a currency occurs. Build long-term debt; fail to either roll it over or pay it off; and it all eventually enters the economy as cash.
So, it seems we have a conundrum. We can either deflate our economy disastrously through bond repayment, or inflate it either with the interest demanded on our long-term bonds or the printing required to offset the difference between our economy's productive capacity and the demand of bonds coming due. The first option is terrible; as Mr. Martenson noted, "perpetual expansion is a requirement of modern banking." Reduce the dollars in the economy, and people default on their existing loans. The second option, though, is historically worse.
The only option we have is to stop equivocating the bookkeeping habits of individuals and businesses with those of sovereign nations. I have some ideas that might just work, but all would require changes to laws governing our monetary system. Maybe the posturers in congress will get on that once this silly debate over a non-existent cliff gets resolved.
*Sorry, searched all I could but could not find that quote without listening anew to the archive from the top. Without a transcript on those early shows, it's not easily searched.
X-Posted to![[livejournal.com profile]](https://www.dreamwidth.org/img/external/lj-community.gif)
talk_politics.
Instead, I thought I would distill the various choices and just for fun examine the options. When it comes to the Federal deficit/debt situation, it seems to me we have just three courses of action:
- Continue to spend more than the IRS collects in revenues, racking up ever more bond debt in the process;
- Balance the budget; and
- Create a revenue surplus and start paying off old bonds.
I know that according to both of our mainstreams, the press and the economists, only the third option is "viable" to our country's continuing economic health. After all, if we don't do something soon, won't something horrible happen involving interest or our children? Without staking a position on any of these, let's go down that primrose path of speculation, shall we?
I'll leave absolutely balancing the budget off the table for now, since that would be a tricky feat in and of itself. To judge the other two extremes, let's consider some information that many have left quite unconsidered, especially when it comes to monetary creation. I've mentioned that before, haven't I? For a quick review, banks lend money into existence. They can lend a multiple of their reserves; for example, a bank holding a million in reserves can lend up to ten million of new money. If they fall short temporarily, they can after the fact borrow reserve money either from another bank or, if necessary, from the Federal Reserve (which has no legal reserve requirement).
Ah, but where do the consortium of banks comprising the Federal Reserve get their assets? Some of them come from being part of the "lenders of last resort" club, meaning they don't need reserves in an emergency. Most of their assets, though, come from those Treasury bonds the government incurs when it needs to cover the difference between revenues and spending. As a special twist, let's quote Chris Martenson's excellent Crash Course, Chapter 8: The Fed. First, remember that "all dollars are backed by debt:"
At the local bank level, all new money is loaned into existence. At the Federal Reserve level, money is simply manufactured out of thin air and then exchanged for interest-paying government debt. In both cases, the money is backed by debt. Debt that pays interest. From this Key Concept, we can formulate a truly profound statement, which is that at a minimum, each year enough new money must be loaned into existence to cover the interest payments on all of the past outstanding debt.
(Underlining here instead of using the original italics since LJ has lately been converting all blocked quotes to italics for some freaky reason.)
With this in mind, what would happen if the Federal government found some political fortitude and started actually paying off that debt it has racked up? Bonds paid off would remove dollars from the economy.
This has happened before. I heard one of Mr. Martenson's former podcast guests note the supposedly disconnected articles in one of The Economist's editions, one praising President Clinton's surplus and subsequent payment of past US bond debt, the other article decrying the lack of dollars the business community has been able to find to fund further expansion.* The Economist tends to take the more traditional economic stand; sadly, as I've mentioned many times before, this is the stand that fails to recognize the role of banks in our economy.
The most recent guest of the excellent From Alpha To Omega Podcast, Professor Mathew Forstater of the University of Missouri-Kansas City, makes this point. Since all money is debt, pay off that debt and the money created by it disappears. Poof. Worse, the value funded by that debt money will also disappear. As that old crank Frederick Soddy put it, "For there is no credit without debt any more than there is height without depth, East without West, or heat without cold." (Soddy, THE ROLE OF MONEY, GEORGE ROUTLEDGE AND SONS, LTD., 1934, p. 25.)
Furthermore, unless more debt is incurred at an accelerating rate, the money will disappear as older bonds are retired.
Which brings us to the other option, the one most seemingly prefer to avoid, to continue incurring debt. This course would at least allow us to have money in the economy. Yes, we would be incurring interest bearing debt, and eventually some of those bond holders might be interested in actually receiving such interest. Go down that course, and the easiest option is to inflate the economy through the strategies currently being explored, most notably the various rounds of Quantitative Easing, where money is printed to buy assets that no longer hold value. The problem?
To make bond purchases attractive in a weak economy, the interest on these bonds must be greater than inflation. Otherwise, people holding dollars will simply spend the money, getting greater value for their dollars than the bonds would otherwise pay. For example, if the bonds offered 5% interest over 5 years, but the inflation rate was running over 1% per year, your five year bond would be a sucker's bet. Better to spend the cash, or buy something appreciating at a greater rate. The only reason the low-interest longer-term bonds are being bought is a dearth of those other things with which to park cash.
Right now, the money supply is shrinking; people are borrowing at lesser rates than they have in the past. As a result, inflation is very low. What happens, though, when the Fed accelerates the QE enough to overtake natural deflation? Another of Chris' past guests, Paul Tustain, has a possible scenario: Fewer and fewer will buy into long-term bonds, meaning more and more retiring bonds will enter the economy as cash:
Paul Tustain:[I]f you know the story from Germany when they had their hyperinflation back in 1923, they started printing. That made long-dated debt extremely unattractive. And then it got to be the extreme, so the long-dated debt starts to wind down, there is plenty of it, they have financed their First World War on long-dated debt. . . . And it all piled up at the short end. It was the same effective combination of the Government, the central bank, and the banks. They were doing it in much the same way as we are doing it now. . . . And then it got really extreme because in the final analysis, you had money in current [checking] accounts, which you would think of as cash, but it was not cash, because it took five days to pass through the banking system. . . . And five days was too long. So all people who had current accounts would go in and say I need the bank note today. So you ended up with a twenty-year stock of money all held in bank notes. . . . Effectively, the entire monetary stock was being turned over within a period of about three or four days because nobody was holding onto cash.
A long-winded explanation, yes, but probably the best one I've heard yet for how hyperinflation of a currency occurs. Build long-term debt; fail to either roll it over or pay it off; and it all eventually enters the economy as cash.
So, it seems we have a conundrum. We can either deflate our economy disastrously through bond repayment, or inflate it either with the interest demanded on our long-term bonds or the printing required to offset the difference between our economy's productive capacity and the demand of bonds coming due. The first option is terrible; as Mr. Martenson noted, "perpetual expansion is a requirement of modern banking." Reduce the dollars in the economy, and people default on their existing loans. The second option, though, is historically worse.
The only option we have is to stop equivocating the bookkeeping habits of individuals and businesses with those of sovereign nations. I have some ideas that might just work, but all would require changes to laws governing our monetary system. Maybe the posturers in congress will get on that once this silly debate over a non-existent cliff gets resolved.
*Sorry, searched all I could but could not find that quote without listening anew to the archive from the top. Without a transcript on those early shows, it's not easily searched.
X-Posted to
talk_politics.