Follow up: What would happen if the US Federal Government stopped issuing bonds?
I got a few good commments on my other blog (here, here is the original Caps post: here) that allowed we to expand on some of my points. I think they are worth sharing
Madoff = bad
Treasury = Good
You may be correct and the problem could come when everybody agrees!
>> Madoff = bad Treasury = Good
Maybe, but that is not an apt comparison.
Madoff is a currency user. He needed to finance his operation. And when it became unsustainable he needed new investors to pay the old ones. This is why his scheme was a Ponzi and why it fell apart. He was revenue constrained.
The US government is not. It can never run out of Dollars. It never has to decide to not pay one US Dollar obligation instead of another. It can always 'afford' to pay them all.
This does *not* mean that it should just create tons of money and start throwing it around. There is no nominal constraint to Government spending, but there is a real constraint. Namely there is only so much output and real resources that can be bought up. Government spending in excess of the real output of the economy results in inflation.
That is the limiting case (or should be the limiting case). I would argue that currently we have 9% unemployment and 36% underemployment, so right now we are not near any kind of inflation barrier. However, I would not take that point and just argue that we should advocate blind spending to stimulate aggregate demand either.
My point with this post is the the 'debt ceiling debate' is idiotic once you understand what the real constraints are. And once you do, we can have more productive and focused discussions on the economy.
Binve, It goes to the credibility of the system. If you are correct, it does not make me apt to take on further risk as an economic participant.
That is of course your call. My point of this post (and all my posts of these types) is to describe the system that we have.
Most people still try to use convertible currency economic models and analysis to describe our 100% fiat system, and that is completely incorrect. Still more people try to describe our system based on the Money Multiplier Model or the Quantity Theory of Money. Two completely flawed and inadequate models.
I am not trying to call our system 'good' or 'bad'. I am just trying to illuminate how it actually works so that we can have productive debates about not only our system, but the type of policies that our system can and cannot support.
Currently the mainstream thought supporting austerity is based on 'contractionary fiscal expansion' (i.e. That the government reduces it's deficits to avoid financial crowding out of private investment, thereby inducing/making room for an investment boom). Once you understand sectoral balances of the macroeconomy and you figure out that all of the 'finanical crowding out' arguments are garbage (based on the flawed 'loanable funds' theory), your realize that the logic behind this idea is incorrect.
Maybe one has ideas that we should have a smaller government on principle (and I certainly wouldn't argue against it). But if one argues for smaller government in the current environment (balance sheet recession) on the theory/justification that this will promote more private sector investment as most of the economic participants are paying down debt, then I call BS on that line of reasoning. It doesn't bear up to scrutiny. Because it doesn't jive at all with the system that we currently have. If we had a booming economy with high competition for resources, then a smaller government (i.e. smaller federal government deficits) would help the economy to keep inflation under control.
Most analysis and rhetoric boils down to: Federal deficits = bad and Federal surplus = good, without any consideration at all with what is happening in the other two sectors of the macroeconomy. And that is just bad analysis driven by nothing but ideology.
Binve, I appreciate all the work. I have learned more here on the matter than anywhere else. Even my banker cannot answer these questions. In your opinion is there any checks and balances to the system you describe above? Your reasoning seems logical, my only concern is that this system as describe is constantly miss-allocating resources to the point that it has become the problem with the economy.
No prob, djp. I am just trying to share insights, and I am glad it is appreciated..
Re: Checks and Balances / Misallocation of resources
I think the biggest crime that has been perpetrated on the US economy over the last 3 decades is a two-parter:
1) Repeal of Glass-Steagall and the extreme deregulation of the financial industry that has allowed it to become a massive parasite that displaces productive work while extracting 'rents'. This is a massive (and persistent) Congressional failure that is getting progressively worse as the financial lobby becomes larger over time.
2) Complete faith in monetary policy as the main / exclusive tool of choice to create 'stability'. I discuss this in more detail here: http://caps.fool.com/Blogs/inflation-and-asset-price/592721
I think these are the biggest sources of loss of checks and balances / misallocation of resources in the economy today, and neither are a direct function of our currency system. Rather they stem from the mindset and ideology that has been prevalent in government.
I think we need people in Congress (and in the Treasury and Central Bank for that matter too) who actually understand how the monetary system operates. Who understand that fiscal policy (and tax policy) is a much more useful tool for generating productive growth (and quashing malinvestment) since it can be targeted, as opposed to monetary policy which is a blunt instrument and has different implications for savers vs. creditors. I am not talking about central planning, just smarter planning than the 'no planning'/'dumb planning' that we have now. I mean 'cash for clunkers'? That's the best we can come up with?
Breaking up big banks and reinstating Glass-Steagall would be the single biggest step in the right direction and then getting members into Congress who understand how our monetary system works is next. That would go a long way to restoring many of the checks and balances that are currently missing.