I'm Done With Macroeconomics

My column this week in Forbes is up.  Been getting a lot of mail today as it was picked up at RealClearPolitics.  An excerpt:

Here is my first law of economic growth: When we encourage more investment, and ensure this investment is being channeled to the most productive uses, growth will follow.

For all the talk about fiscal stimulus and jobs creation at the federal and state level, almost no one in government is doing anything about reducing the roadblocks to investment.

  • http://www.embeddedinsights.com Robert

    I would rephrase your first law of economic growth because I think it implies the most essential aspect of encouraging investment.

    "Minimizing how much private property can be confiscated ensures that investment will flow to the most productive uses and growth will follow."

    This was a first attempt at a wording so please suggest refinements.

  • http://togetrichisglorious.blogspot.com Colin

    Loved the column. You were basically just channeling Ronald Reagan:

    In this present crisis, government is not the solution to our problem; government is the problem. From time to time we've been tempted to believe that society has become too complex to be managed by self-rule, that government by an elite group is superior to government for, by, and of the people. Well, if no one among us is capable of governing himself, then who among us has the capacity to govern someone else?

  • Captain Obviousness

    The smugness of the pro-Keynesianism commenters on the Forbes site is surprisingly similar to the smugness of global warming alarmist commenters to catastrophic AGW skeptic articles. It's mind-blowing to me how a theory so obviously riddled with logical errors and irrationality is believed so deeply by Krugman and other Keynesians. Hos is it that a theory that dismisses failures at explaining reality by blaming "animal spirits" and saying "in the long run we're all dead" is taken seriously??? Keynes himself said it best:

    "Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist."

  • Michael Miller

    Very Well done! The pro Keynesian responders failed to present reasoned defenses, and had to resort to taking cheap shots that failed to hit their intended targets.

    And also without an uptic in consumer spending, it is beginning to look like the Bush tax cuts might have to remain in place for at least another year. That might be necessary for the democrats to have a realistic chance at retaining the Whitehouse in '12. The Keynesians will not warm to that idea either.

  • Patrick J

    "channeled to the most productive uses"

    This is the key phrase in my mind that undoes the whole edifice of Keynesian folly.

    The folly is that they treat the quantity (macro) while ignoring the return - in terms of productive wealth creation - that the effort produces. To Keynesians, if you spend $1 billion digging holes and another $1 billion filling them in, you've created $2 billion in "economic activity". But economic activity has only one purpose - CREATING ECONOMIC VALUE.

    Only when you look the OUTPUT of the investment can you judge whether the 'economic activity' was worthwhile or not.
    The hole-fillers have squandered $2 billion for zero economic value, destroying our economic wealth. So it is with much of the stimulus. It was taken from the productive (taxes) or the future (debt) to boost low-return activities and boondoggles that detract from the wealth of the nation. This is an economic net-loss.

    We shold never be under writing economic 'activity', we should be funding 'productive uses of funds'.

  • mark ii

    One of the biggest fallacies of Keynes is the belief that the form of taxation is not important. Based on this assumption, they treat all taxes as a "lump sum tax" and ignore how a tax can effect incentives. Also implied by Keynes is the assumption that it really does not matter HOW the money is spent by the government. Every dollar spent will have the same "multiplier" and this multiplier does not follow any normal economic laws such as diminishing marginal product.

    The other problem with trying to manage the economy through fiscal policy is that the fiscal policy has nothing to do with economics and everything to do with politics. So, even assuming the validity of Keynes Theory, politiical realities make it virtually impossible to implement. As demonstrated by history, governments are going to tilt towards deficits and spending for political returns. Poor macroeconomic results just give the big government spenders an excuse to spend the money on "stimulus" that they want to spend anyways.

  • Calgacus

    Well, I think there is a basic confusion in the article about the source of money and the purpose of stimulus programs. The government did not divert or take money from private entities (unless these private entities run an illegal business involving green and black ink and fine paper.) Private entities accept money created by the government - the only process that does this is deficit spending - and provide the government with real goods and services because the government's power to tax creates demand for money.

    This demand creation is the primary function of federal taxation. Secondary ones are redistribution, discouragement of activities deemed harmful and inflation control. A government that has and uses the power to create money at will does not need money from tax revenue. Government deficits need never be closed are normal and healthy; surpluses = overtaxation should be rare and are almost always highly destructive.

    The purpose of a stimulus program is not to allocate capital more efficiently on the microeconomic level than the private sector can, but to stimulate aggregate demand, very preferably in a rational and economically and socially beneficial way. Seen this way, stimulus is an expression of the first law of economic growth, and not in contradiction to it.

    In cases like the present, the problem and the amount of money needed to fix it is far in excess of what private sector entities could plausibly come up with on their own, and as the benefits are widely dispersed - that is the point - the huge investment plus the huge, dispersed payback, makes a democratic government - all the private entities banded together for the common good - the only plausible vehicle for such major spending.

    Mark ii makes reasonable points, but when unemployment has exploded like the present, when immense human and other resources are being squandered it is not the time to worry about second order effects. The demonstration of recent history in the US is that the deficits have usually been too small and spending often misdirected toward irrational ends. But getting to full employment is not an irrational end. A FICA tax holiday would help everyone. Aid to states so they don't have to fire teacher, cops and firemen helps everyone.

  • richard

    it's a good column

  • Ignoramus

    Calgulas is right if you assume that we never have to debt service the borrowed money.

    But unless we inflate it away -- which raises other issues -- we will have to service it. Or more accurately, oor kids will have to.

    (1) Every American kid is now born with the equivalent of a mortgage to pay off. But the amount is variable -- if you earn more, your mortgage payment will be a lot more, because of progressive taxation. Unless you wind up earning a lot -- or inherit enough to cover your mortgage -- it's not worth trying hard. We've created a huge generational disincentive to our kids working hard and giving a shit.

    (2) It'd make a difference if our current deficit spending were creating useful assets. But it's not. What you could do with a trillion dollars, were it well spent.

    So we're back to economic first principles: "incentives" and "opportunity cost." These matter, even in a totalitarian command economy.

  • Streetfighter

    Ya should just stick to AGW. It's an exact science. Most other subjects that lean on the soft sciences seem to leave you wanting. Such is the mind of a libertarian. LOL

  • Roy

    Calgulus is wrong unless fiat creates. Well, fiat does create...but only if God speaks. Everyone else runs into the first law of thermodynamics, which, translated into economicese, reads TANSTAAFL.

    BTW, re econ not an exact science. Depends. Those schools of econ thought which scorn limits imposed by reality approximate engineering science attempting to build a bridge while denying, say, gravity.

  • Streetfighter

    re econ. not exact science. Reality is fluid and varies in econ. not so in bridge building. What and how a nation of over 310 million will spend their disposable income on is unknowable. Gravity is a constant.

  • me

    Grrr. Sorry to choose this forum to vent, this post has nothing to do with the article, but I've just hit the limit of my tolerance for government bullshit.

    I am a greencard holder - the greencard is the permanent residence and work permit for folks who once believed that the US was a great and free place to live. Now, this permanent card expires every ten years, and you have to renew it by filing a $400 application. I did so. The USCIS sent me a receipt acknowledging that they were processing my file. And then nothing, for a long time.

    Now they've sent me a for stating that I failed to respond to a missive to come in for fingerprinting (just so you know, my fingerprints were on the original application, they are saved in the computer and they sure as hell haven't changed).

    This terminates my application and forfeits the $400 fee. The decision is final. I can choose to appeal if I can prove that they sent the invitation to appear to the wrong address, but the form to do so comes with a $600 filing fee.

    I do wonder if they simply plan on keeping this up and making $400 every time I try to get my greencard renewed.

    Feeling bad about how we treat illegal immigrants? How about how we treat legal ones? How much does it cost you to renew your passport?

    So angry!

  • Calgacus

    Ignoramus, I agree that the way the US spends money is an enormous problem. It is largely spent on destructive activities which exist only to channel a percentage as welfare to the rich and well-connected. And the constructive activities are always under heavy assault as unaffordable.

    We never do have to really, painfully, service the debt on money "borrowed" by the government. The government spends and it taxes, but it does not not have to borrow or issue bonds. And sometimes in effect it does not. Especially with interest rates very low, with huge unemployment and the prospect of deflation, the government buying and selling bonds is a meaningless activity that has about as much economic effect as changing tens for two fives. It performs silly activities to hide the fact that it need not sell bonds. It sells bonds - supposedly to "finance" a deficit, in reality to play around with interest rates. Then it buys them back, with the same effect as if it had never sold bonds in the first place. Last year, the UK "financed" their whole deficit this way. It should have just not bothered to sell any bonds at all. But then people might get wise to how finance really works.

    The government debt is not something which every kid owes, it is something which is owed to every kid by the government. The problem is that it is all owed to a few billionaire rich kids and everyone else has nothing. And a lot of these rich kids are only rich because the government just gave them a ton of money through TARP to support their too-big-too-fail con games. It should have let them go broke and have to work for a living like the rest of us, while it took over their non-con game businesses for a while to keep the real economy going. And then it would have had a lower deficit and a lot more political leeway to enlarge the stimulus, which was spent more sensibly than most government spending.

  • Fred Z

    I was struck by "Private entities accept money created by the government" as a huge error.

    Money is simply a promissory note, an IOU. We had a pretty good system of private money in place until various governments seized them or destroyed them. A dollar is a promise by the US Government to .... what?

    In this debased age it is a promise to do nothing. It is a con, a folly and will eventually collapse. No, I am not a gold-bug - a promise to deliver gold is no better than a promise to deliver a ton of wheat, or an hour of legal services or 10 hours on manual labor.

    The time is coming when you will all refuse a US greenback and prefer a coupon / certificate / token / whatever you call it issued by American Express.

  • Dr. T

    Calcagus, you are both an ignoramus and an apologist for the government idiots and the pseudoeconomists who support their stupid ideas. The source of money for the most recent federal stimuli programs was borrowing. The source of money for 41% of current federal spending is borrowing. You cannot stimulate an economy by borrowing money and then handing it to your friends, most of whom are in nonproductive government jobs, low productivity union jobs, or sham businesses that spend millions and produce no tangible products or workable ideas. If borrowing money would stimulate the economy, why is it that few businesses are borrowing despite record low interest rates? Could it be that borrowing money in a bad economy is a stupid idea? Could it be that accumulating massive debt without improving productivity, without improving infrastructure, and without any way to generate increased demand for your products or services is a recipe for disaster? That's what our federal government has done, and what it is encouraging businesses to do. Notice how the latter haven't done so except in the cases where the government is essentially giving them funding.

    The primary function of federal taxation is not demand production. (What a dolt to think so!) The primary function of federal taxation is to feed an incredibly bloated federal bureaucracy and to redistribute money in ways that satisfy either large blocs of voters (such as the elderly) or big contributors to politicians' campaign fund (or to their relatives and friends). Federal taxes also do not control inflation, because the federal government spends every dollar it receives (plus an additional 41 cents). Spending money like a drunken sailor increases the risk of inflation. Two factors are fighting inflation at present: the recession (consumer's aren't consuming) and the Federal Reserve has set interest rates to the lowest in history (which is harming everyone with interest-based investments). If the recession ever ends and if interest rates return to reasonable levels, we will see annual inflation rates of 6-10% or more despite the federal tax increases coming next year.

    Your biggest mistake is believing that individuals and private businesses cannot spend money wisely enough (and fast enough) to recover from a recession, AND THAT GOVERNMENT INTERVENTION IS REQUIRED. The first statement is mostly true, but the second statement is demonstrably false. I believe that the 2007 recession would have ended last year if the Obama government had not continually sent the message that it was out to screw private businesses (except those with lots of lobbying clout or lots of union employees), screw banks and investments firms, massively increase government spending, screw individuals with significant savings and investments, and redistribute money from investors and productive individuals to leeches (half the government employees), scum (con artists who rip off the governments), and deadbeats (such as corporations who make many stupid decisions but get bailed-out or individuals who buy too-expensive houses but get bailed out). Sensible individuals and business recognize that under Obama, investments, expansions, and entrepreneurship are bad risks.

  • Calgacus

    Fred Z: “Private entities accept money created by the government” - well as of August 1, 2010, private entities do. The reason why is if you don't have money to pay the tax dollars they say you owe, the gov will break down your door and take your stuff. So most people like to keep these dollar thingies around to keep from being dragged off to jail. You got it right though: "A dollar is a promise by the US Government to … what? " A dollar is an IOU, a debt from the government to you that says it owes you one dollar. What does this mean? It means that when this crazy government says you owe IT one dollar, you can cancel the debt by giving the gov the dollar bill they created.

    No, Dr. T, the source of money for the recent stimulus programs was the government's ability to create dollars. Since 1971 (also from 1933-1946) all they have to do is type numbers into a computer, and there's the money. That's how it works. Greenspan recently let the cat out of the bag and said so. The only reason why anyone wants what we earthlings call "money" is because our governments demand this money thing, that governments create by typing numbers into computers. The government "borrowing" money is just a sideshow to fool the rubes. Like I said, the UK just printed a few hundred billion more than it taxed and didn't "borrow", and nobody noticed. And it didn't cause inflation. That's not how it works.

    If you think the government is out to "screw banks and investments firms" you really should wake up. The banks and the investment firms are the con artists who own the government and just got it to give them a cool trillion or so. You are the chicken who was just plucked by them and doesn't even realize how the scam worked, or even that there was a scam. Don't read many Goldman Sachs reports, eh? They're the apex predators and know and even say, quietly, exactly what they do.

  • Ignoramus

    A lot of people, many in prominent places, think like Calgacus does. Are they all channeling Paul Krugman?

    What we get in exchange for our government spending matters. Stimulus -- because it's created and sustained government jobs with an expectation that they'll continue to be funded -- was even worse than "dropping hundreds from helicopters". Neither can be called an "investment" -- no useful asset is created, not even a bridge to nowhere. TANSTAAFL = opportunity cost. Even command economies have this constraint.

    Calgacus assumes that the Fed-Treasury have an infinitely expandable balance sheet. They don't. Bernanke is nervous about this. We're walking across a frozen lake.

    If Calgacus were right, we wouldn't need taxes at all. It's the difference between a command economy (Egypt of the Pharaohs / the old Soviet Union) and a market-based tax-based economy (England of Henry VIII / present-day Canada). With borrowing at 41% of federal spending, I submit that we're trying to be a hybrid -- which won't sustain.

    I think of this as a balance sheet. Borrowing increases the liability side. But on the asset side we're only adding "goodwill." The result is to shift ownership claims on the real assets we do have. Our kids won't inherit "free and clear." Instead they'll get mortgaged assets. If a kid works hard, they'll only pay more. We’ve created a huge generational disincentive to our kids working hard and giving a shit.

    Presently we're "Chapter 11 Reorganization" broke, which means it's fixable. Lots of entrenched interests will have to take big discounts.

    If we don't address it, we'll get to the point where our liabilites exceed our tangible assets -- which will means that we'll be "Chapter 7 Liquidation" broke.

    Developing ....

  • Calgacus

    Ignoramus: Yes, The Fed-Treasury has an infinitely expandable balance sheet.
    No, we absolutely need taxes, because taxes are what gives money value. Far too few people understand how modern money works. Krugman doesn't - see his recent debate with Galbraith, who does.

    Thinking in terms of balance sheets is good. Most macroeconomics ignores accounting, and its recommendations are frequently nonsensical, or arithmetically impossible. But you have got to know what the assets and liabilities are and not confuse the two. You appear to be completely confused about government debt. Like most victims of this Big Lie, you have who owes who what backwards. Government debt = private financial savings. It's what the government owes us, not what we owe the government. The kids inherit it free and clear by definition. The problem is that 1% get all that lovely government debt owed to them, and the others just pay increasingly regressive taxes and get nothing for them but involuntary unemployment.

    The government doesn't need to "borrow" money, and issuing government bonds is not real "borrowing". This omnipresent idea is ludicrous, a Big Lie. An entity which has and uses the power to create dollars has to borrow them from someone else? Parker Brothers needs to borrow Monopoly Money from people who play Monopoly? The USA cannot go bankrupt - it is legally, logically impossible. In the history of the world, no country with a financial system like ours has ever defaulted on its debt or "gone bankrupt." Not once. Never. We could get rid of the interest-bearing national debt tomorrow, no sweat, no inflation, no problem.

    There emphatically is such a thing as a free lunch in times of mass unemployment. The free lunch is getting those people back to work, so they make their own lunches. Doing something is better than doing nothing. Don't ignore the gigantic, permanent loss which is unemployment and capacity underutilization. That is the real opportunity cost of insufficient government spending. Of course what we spend on matters. The TARP was bad - throwing money at criminals, who under a less corrupt government would have been dragged off to jail. The stimulus was good. Should teachers, cops and firemen be fired for no reason en masse because of Wall Street's and the government's economic mismanagement and criminality?

    Unemployment is a real world problem. Government finances aren't. Getting people to worry about imaginary financial problems is the technique that the con men use while they wreck economies and pick your pocket.

  • mark ii

    I am very interested, in a comedic way, how you propose that the United States can get rid of its national debt tommorow without inflation. I hope you respond because it will have to be very funny as only a true comedian can believe this.

  • Henry Bowman


    Some commenters, particularly "Calgacus", essentially argue that the U.S. government simply has not spent enough stimulus money to make a difference. Paul Krugman, whom I regard as an extremely bright lunatic, has basically provided the same argument.

    Many economists point to the U.S. entry into WWII as the event which wrenched the country from the Great Depression, which at that point was already about 12 years in length. Certainly, government expenditures exploded after the country entered the conflict, and unemployment decreased to nearly zero. Because of this, many argue that the war brought us out of the Depression. In any case, it is very important to understand whether the war really brought the U. S. out of the Depression or not.

    First, I'll immediately note a major difference between the U.S. of 1941 and now: in 1941, the U.S. was a creditor nation, whereas now we are very much a debtor nation. Hence, we basically have no savings to spend and, if we are to spend, we must borrow from others.

    Robert Higgs has argued persuasively that in fact the U.S. did not really come out of the Depression until 1946. Certainly, unemployment went down to near-zero during the war, but of course the government had just taken roughly 11 million men, all of whom were physically able to work, out of the work force and, in many cases, sent them overseas. Without the war, the government could have reduced unemployment by having millions of workers employed building pyramids, but of course that would not actually improve the economy.

    On top of that, for many items there was no market economy. If the government needed war materials, it paid what it deemed to be a good price -- take it of leave it! Many products were rationed, and prices for many others were set by the government. Without a market and market-set prices, GDP estimates are largely fiction.

    Anyway, Higgs makes a good case, and I think it's an important one, for if he is correct, the whole notion of stimulating the economy with government spending is completely wrong.

  • Calgacus

    Mark ii: I didn't say "get rid of its national debt" - look more closely. I said "get rid of the interest-bearing national debt". The national debt the way I used the first term included currency, net dollars that don't bear interest. Getting rid of it amounts to the government confiscating all the dollars it has ever issued since 1793. As I said, a dollar is an IOU, a debt from the government to you. The interest-bearing national debt is basically Treasury Bonds, dollars that grow. Right now interest rates are very, very low. The difference between cash and interest-bearing treasury instruments is minimal. Cash is basically a checking account at the Fed. Bonds are basically a savings account, now paying low interest. All one would have to do is for the government to buy all the outstanding treasury bonds, to transfer from savings to checking. This isn't really "printing money" - the money had already been printed when the deficit spending occurred that the the bond that was issued to "finance" That was when inflation might have occurred, when the money was used to buy real goods and services. The deficit spending - lots more bank reserves - would have drastically lowered short term interest rates if the bond had not been issued. "Tomorrow" was an exaggeration, yes. I know this would have secondary effects and might get some people with bonds mad now. But one could finance any year's deficit that way, and more. Or pay down maturing debt and stop issuing new bonds. It would take some time to get rid of the debt. In essence, it would have about as much effect on inflation and the real economy as if the government announced it was recalling all $100 bills and giving two $50s back.

    I gave an example above, the UK last year. They issued a lot of bonds to cover their entire, very big, deficit and bought them all back, in a completely meaningless exercise. Didn't cause any inflation, was hardly noticed.

    Henry Bowman: The Krugman etc argument is the one that 99% of economists would have supported until the Dark Age of Macroeconomics started in the 1980s. The stimulus made a huge difference, just not enough to completely recover. I've glanced at Higgs before. What he says does not support the contention that "the whole notion of stimulating the economy with government spending is completely wrong". Wars are a terrible way to stimulate economies, but they can. There's a way to see that the traditional universal belief that WWII got the US completely out of the depression is ABSOLUTELY RIGHT. (Who are you going to believe? Chico Higgs or your own eyes?) The New Deal did a great deal too, contrary to shameless rewriters of history. The way is to look at the real world, look at unemployment and people's lives and forget about finances and dollars and the proper way to measure things during the war. Was the USA a lot richer in terms of factories and houses, bridges and roads, technologies etc in 1946 than 1941? Yes. Was this new real wealth reasonably evenly distributed? Yes. Everybody got richer. Was "prosperity" restrained by normal measures during the war - the draft, a lot of people getting killed, a lot of consumer goods temporarily scarce? Yes. Was not having Hitler rampaging around worth it? People thought so back then. The massive deficit spending and building and low unemployment involved in WWII - concrete, real world events, is what got the US out of the depression, not some 1946 business confidence fairy. If you run a business, mystical confidence is way, way behind old fashioned demand, selling high for what you bought low. Building pyramids would not have been a good idea, but it would have definitely helped the economy a lot, by supporting aggregate demand in the private economy, the lack of which was the essence of the Depression.

    And if you look carefully at Higgs' paper, you'll see that he really knows the traditional universal belief is right. "The Great Escape actually occurred during the demobilization period, especially during its first year, when most of the wartime controls were eliminated and most of the resources used for munitions production and military activities were returned to civilian production" - the key phrase is "most of the resources used for munitions production and military activities were returned to civilian production" These real world resources were built during the war. Ordinary Americans had jobs and got out of debt during the war. They were in a position to spend, to have the demand needed to support a healthy private economy. All because of well-directed deficit spending from the New Deal and the war.

    "Hence, we basically have no savings to spend and, if we are to spend, we must borrow from others." illustrates a common confusion. The US government does not spend savings. The US government neither has nor doesn't have dollars. The US government does not "borrow" from anyone, and it cannot "save" dollars. The US gov is in the enviable position of being able to create an asset at will, dollars, for which there is great worldwide demand. We send the Chinese our dollars, they send us back lots of good stuff. Everybody is happy for now. The Chinese would like their dollars to earn interest, so we oblige them by giving them interest-earning dollars called bonds. Of course we could do a better job of using and investing the good stuff we build and get from everywhere else, but our government is also insane and likes to have endless, purposeless wars going on. Again, the government spends - creates dollars. It taxes - destroys dollars. Those are the important things. Usually, it will spend more than it taxes and have a "deficit." If it feels like it, it issues bonds, which is not the government "borrowing money it needs". It already created the money when it spent. Deficits are normal and healthy, and the only source of dollars held by the private sector. Surpluses are not - they are usually highly destructive to the economy, because they mean the government is taking net dollars away from the private economy.

  • shawn

    Calgacus -- Let me get your argument straight. The government creates an asset (a dollar). The only reason that asset has value is because I need it to pay my taxes otherwise the government throws me in jail. Therefore, the threat of imprisonment creates demand for dollars and the economy grows?

  • Henry Bowman


    I think your arguments border on the absurd, especially in view of the fact that you actually consider paper money to be an asset. Production of munitions does not help a civilian economy, as factories have to be completely retooled for civilian production. War is nearly always a major loss for all parties involved, though plainly certain subsets of the economy may benefit.

    Higgs is right, not wrong: regime uncertainty kept the country in the Depression for 12-17 years. The parallels between the fools of the New Deal and the fools in the Obama Administration are both striking and scary.

  • sethstorm

    Higgs is right, not wrong: regime uncertainty kept the country in the Depression for 12-17 years. The parallels between the fools of the New Deal and the fools in the Obama Administration are both striking and scary.

    Pursue those whom withold work from the US's private sector with more vigor and kill regime uncertainty, such that productive & non-temporary work can be created. Waiting for the right politician is only going to make the crowd worse, and the odds are indeed against you.

  • mark ii

    "a dollar is an IOU, a debt from the government to you"

    No it is not. THe only guarantee the government makes with the national currency is that it will accept dollars as payments for taxes and other fees owed by the government. If you showed up at the Treasury or Federal Reserve with some dollars and expect them to redeem the IOU, they will probably call the local mental hospital to come get you.

    Here is something else your "analysis" misses: the vast majority of economic transactions are not done with "dollars". They are simply DENOMINATED in dollars. The money is created by a bank. WHen your employer pays you, they issue you a "check" or "electronic" debit which is denominated in dollars but is actually a liability against the issuing bank and from there your employer's account. It is an IOU of a bank, not the US government. Once you have the IOU's in your account you can convert these into "DOLLARS" to pay your taxes or do other transactions requiring dollars but the vast majority of your transactions are simple trading of these IOU's (checks, electronic transactions) between banks and accounts.

    'The difference between cash and interest-bearing treasury instruments is minimal" "Cash is basically a checking account at the Fed. Bonds are basically a savings account"

    In some ways this is true. Interest bearing treasury instruments are very liquid and usually you can take a Treasury and turn it into "cash" at a very low discount and with little effort. But there is a great deal of difference between an asset having "LIQUIDITY" and money. To "liquidate" an asset you must find someone else who has money.

    And, the analogy of cash=checking account and bond=savings account is IDIOTIC. You imply they can be immediately converted one for the other. But they cannot. The simplest reason is time. Today is 2010. Cash is 2010 dollars. A bond is 2040 dollars, or whatever the term of the bond is. The difference is incredibly meaningful.

    You simply cannot create 2010 dollars from 2040 dollars. The reason for this is that the 2010 dollars have already been transfered to the person/entity that borrowed the 2010 dollars. THey already exist.

    The Federal Reserve can decide that they are going to create more 2010 dollars by buying 2040 Treasuries, but that is simply adding money to the economy. THis is the definition of inflation. In some cases the injection of money may not cause high levels of inflation because the economy may be growing or there may be some deflation. SO, in some cases the economy may need more "money" from the Federal Reserve. BUt there are real limits to the ability of a central bank in creating more money in the economy without creating inflation.

    For example, if the banking system and the central bank create an enviroment were more money is being created than there is economic growth, this money will chase fewer goods. What this causes is higher prices. In the 1970's we saw this as inflation and watched as the price of common goods (and taxes especially, hello Ronald Reagan) increased faster than the paychecks of the American people. In the late 1990's and 2000's what we saw was the asset bubbles of the Internet stocks and real estate prices as easy money made the values of these assets grow beyond a sustainable level.

    Sorry, your BS simply cannot get you out of inflation no matter how you define things.

    (Sidenote: Probably the most important thing Ronald Reagan did was not simply reduce the marginal tax rate, but rather indexing the brackets and other parameters of the tax code. The Democrats loved the non-indexed tax code because it essentially allowed them to raise taxes continuously with their inflationary fiscal/monetary policies without actually having to create legislation raising the rates.)


  • Calgacus

    shawn: Yes. Taxes drive the demand for fiat currencies. If the government spends/creates enough dollars to sustain full employment - right now that means a big fat deficit - then you get a healthy growing economy that will generate enough taxes to lower the debt ratio, not that that has any meaning. As Keynes said, if you take care of unemployment, the budget will take care of itself.

    Mark ii:You disagree with “a dollar is an IOU, a debt from the government to you” - but then you say that dollars can be used to pay taxes, which are debts from you to the government. Dollar bills can be used to cancel them, so they are dollar-denominated debts the other way. Yes, I know I have been loose in terminology and oversimplifying.

    That is simply adding money to the economy. This is the definition of inflation.

    Two things wrong with this. This is NOT the textbook definition of inflation. The textbook definition is increase in prices. Only Austrian economists use this
    definition, which presupposes the (naive) quantity theory of money, which even orthodox academic economists reject. Second, you persist in thinking that dollars and bonds are essentially different. They are two forms of debt from the government to individuals. Trading bonds for dollars does not change the sum of net financial assets, which is what is important, not how it is divided among bonds and dollar bills. All bond issuing and trading does is change interest rates. The Fed, which has much less power than most people think, does NOT create money. ONLY government, usually Treasury, spending (albeit which can be by the Fed, e.g. TARP) creates money/net financial assets. Private banking creates most of the money swirling around the economy, but because each asset/deposit is balanced with a loan/debit, it nets to zero.

    The whole thing with bonds is just a dumb gold-standard relic game. We could just "print dollars" and (usually) tax/destroy somewhat fewer. That's deficit spending. That is exactly what the UK did last year; lots of new pounds, no new bonds. And NO INFLATION. Governments should run huge deficits in depressions, when aggregate private demand collapses as a result of financial crises. If they don't, the economy goes to hell, because credit tightens and nobody has enough dollars to keep the real economy running and employ people, who buy things etc - a vicious circle. Price inflation is only caused by excessive money creation/ deficit spending when there is full employment and capacity utilization. We are very far from that. There is tremendous slack in the economy. And of course the spending should be on creating and maintaining useful, productive assets, and people (see below) have thought carefully about how to maintain stable prices with intelligent deficit spending.

    Henry Bowman: I present the standard, still nearly universally accepted story. If someone said "WWII did not get the USA out of the depression" in 1946, they would have been examined by a psychiatrist. This interpretation of Higgs is 1941: US depression. Small, weak economy. 1941-1945: War, that did nothing good for the US economy. 1946: MIRACLE YEAR, where the business confidence fairy smiles on everyone and more than doubles the size of the economy in one year - remember, you are saying the real US economy went nowhere during the war, so we should compare peacetime 1941 to peacetime 1946. you actually consider paper money to be an asset. Yes, I do. If you don't I will send you a postage paid box for you to put all your worthless paper money non-assets in, to send to me. TIA!

    My analysis is not mine - I probably made a mistake or two - but that of very careful and thoughtful economists and financiers. One of them was Beardsley Ruml - who invented income tax withholding, was chairman of Macy's and president of the New York Fed. Google his 1945 article "Taxation for Revenue is Obsolete". The theory has roots in Georg F. Knapp's State Theory of Money. Abba Lerner's "Functional Finance" really got it started. Nowadays it is called Modern Monetary Theory or (neo-)Chartalism, and is being worked on by about 100 academics, financiers and thinkers. Leaders are William Mitchell in Australia http://bilbo.economicoutlook.net, L. R. Wray in Kansas City http://neweconomicperspectives.blogspot.com/ (See his book Understanding Modern Money) , and Warren Mosler http://moslereconomics.com/ . James Galbraith has recently signed on. I hope I might have gotten some people interested in what this bunch of cheerful lunatics are saying!

  • Ignoramus

    "Happy economies are all alike; every unhappy economy is unhappy in its own way"

    I have no crystal ball, but I've long thought that we're headed to a cross of Peron's Argentina, Japan's deflationary lost decade, and post-Empire Britain. In the end, it'll be uniquely American.

    Obama is Peron without the gold braid. Argentina started with money in the bank, post WWII. Peron pissed it away with grandiose plans for nationalized industries (including energy and autos) and guaranteed "rights" for everyone. Leftists say it failed because Peron didn't go far enough.

    Despite its democratic machinery, Japan is (and always has been) a Borg state. When faced with over-leverage and too much debt, it chose a path that favored the old and the Establishment at the cost of stasis.

    Post-Empire Britain became an over-extended debtor after two World Wars..

    But the future isn't written.

    Presently we’re only "Chapter 11 Reorganization" broke, which means it can be fixed. We're still capable of being a going concern. But lots of entrenched interests would need to take big discounts.

    The fiscal numbers involved are too big to think that we can solve this with normal bargaining between Democrats and Republicans, certainly not with Hopenchange as broker.

    If we don't fix it, we'll wind up "Chapter 7 Liquidation" broke. That'll either result in our having an even bigger Borg state, or our getting whatever's behind door number three. We've got five to seven years to fix things I expect, maybe less if there are adverse exogenous developments.

    The Republicans will once again get a seat at the table after November. Then they'll have to figure out how to use it.

    I don't write as a partisan. I'm just a concerned citizen and father with a half a clue about what's going on.

  • Calgacus

    I gave a long answer a few days ago, but since it had links and it looks like Coyote is not around, it isn't up yet. Ignoramus, this unhappy economy is not too unusual. The only difference between it and the great depression is that we gave a lot of welfare to the bankers and the rich in newly created dollars. The last time, at least the wealthy suffered along with everyone else (and benefited from the New Deal & WWII too). There is ZERO probability of US bankruptcy or default, and we are in nothing like Chapter 11 reorganization. Government finances are nothing like household or business finances, and in most ways they are the opposite. The rational and cautious behavior of one is absolute lunacy for the other.

    It would be illegal and unconstitutional, basically impossible, for the US to default. Why on earth should it, when it can just type some numbers into a computer? Numbers, like trillion dollar deficit spending, that badly need to be typed in, to make up for the collapse of private credit and deleveraging, to support aggregate demand.

    Take a look around - which countries are doing well, with thriving economies, which one aren't?

    Answer: The Keynesian stimulus countries: China, Australia, South Korea, Vietnam and other Southeast Asian countries are doing well.

    Countries in the grip of austerity maniacs, on the misbegotten Euro, badly- e.g. Greece, Ireland etc. (The ECB has supported debt enough to keep things going, but all of Europe is basically one very badly run country under the dictatorship of Jean-Claude Trichet and the ECB)

    Post-Empire Britain grew faster than Empire Britain. Having empires is a waste, just another way for the rich foxes to pluck the poor chickens.

  • mark ii

    "Answer: The Keynesian stimulus countries: China, Australia, South Korea, Vietnam and other Southeast Asian countries are doing well"

    HAHAHAHA....Keynesian stimulus countries? South Korea, for example, public debt is 23.5% of GDP, much lower than the United States. Its deficit was only $14 billion.

    The sturdy growth of Asian nations, like China, is predicated on converting surplus labor into productive export orinetated export manufacturing. When you have millions of unemployed, subsistence level peasants economic growth is easy, although the Asian Debt crisis demonstrated there are problems even with this.