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The danger is from the spending cuts, not the potential downgrade

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July 28, 2011 – Comments (60)

This is a very contrary opinion that nobody here will agree with. But I also think it is correct.

We can argue whether government deficits are 'good' or 'bad'. But simply understanding the macroeconomic identity which must balance:

(I – S) + (G – T) + (X – M) = 0, or rewritten:

(G-T) = (S-I) - (X-M).

Consumers are in a balance sheet recession. They are trying to pay down debt. Debt/income for the private domestic sector is >110%. So from a sectoral balance of the macreconomy, savings - investment by the private domestic sector will be larger of a very long time as that debt is being paid off. At the same time we continue to have a current account deficit. Exports minus imports (X-M) is a negative number. This means that since S-I is positive (and will stay that way since the private domestic sector has a continued savings desire because they want to (NEED to) pay down debt accumulated during the last cycle of 2002-2007, and we have a current account deficit, then (S-I) - (X-M) is a positive quantity. This is precisely why the private sector has been able to net save up to this point, because the government has been running a deficit (G-T) > 0.

So when Government forces a balance budget, then (G-T) = 0. This means that since we will still be running a current account deficit (we won't magically become a net exporter instead of a net importer overnight), then by definition (S-I) will go negative. This means the private domestic sector will no longer be able to net save (despite needing to desperately). The private sector is in no position to undergo a new credit boom (NOR SHOULD IT!). This means that economic activity will massively slow down as the private sector attempts to meet their savings desires.

Perhaps you think it is a 'good' thing that economic acivity slows down. I will not pass a value judgement on that statement.

It simply bears pointing out that in the midst of a balance sheet recession where the private domestic sector desires to net save and we have a current account deficit that no Government Deficits will lead directly to a loss of economic activty. That is a factual conclusion based on a sectoral balance of the macroeconomy.

Whether you call that 'good' or 'bad' and whether you urge Congress to balance the budget or run a deficit is completely dependent on your ideology.

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The danger is from the spending cuts, not the potential downgrade
 by WARREN MOSLER

http://moslereconomics.com/2011/07/28/the-danger-is-from-the-spending-cuts-not-the-potential-downgrade

The headlines are all about the risks of default or a too small deficit reduction package causing a downgrade of US debt.

And while markets react to those issues, they all miss the point.

The consequences of a downgrade to US govt debt are minor at best.
Note that when Japan was downgraded below Botswana,
with a debt/GDP ratio nearly triple that of the US,
interest rates remained the lowest in the world

The real risk comes from the spending cuts.

No debt ceiling extension is the worst case-
Government spending falls by some $150 billion/month as expenses can’t exceed revenues
Fed Chairman Bernanke mentioned that might reduce GDP by a full 6%
And that’s just the first order effect, as a falling economy means falling tax revenues,
Which means further reductions in Treasury spending in a pro cyclical nightmare.

And if they do extend the debt ceiling it will be with prescribed spending cuts.
This too adds drag to the economy.
The more the cuts are meaningful and immediate, the more the drag on the economy increases.

Because the markets don’t yet understand this,
the feedback they are giving is misleading policy makers,
and encouraging them to make deeper, more meaningful cuts.

60 Comments – Post Your Own

#1) On July 28, 2011 at 3:20 PM, PeteysTired (< 20) wrote:

Is there any amount of deficit that is too high?  How does MMT know how a gov't is using money wisely?  What if the gov't wanted to deficit spend on dance lessons?  I know this is extreme, but this is malinvestment, since they have no idea and gov't' is run by political interests. 

I feel MMT has a great formula unfortunately I think it is missing guard rails, but what do I know.  I want a gold standard back.

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#2) On July 28, 2011 at 3:27 PM, binve (< 20) wrote:

PeteysTired ,

>>Is there any amount of deficit that is too high?  How does MMT know how a gov't is using money wisely? 

http://caps.fool.com/Blogs/economics-thought-excercises/616802#comment617262

Also realize that demand-pull inflation (which is the real constraint) is *very* different than cost-push inflation. David and I discuss this point in comment #37 of that post.

Regarding Malinvestment:

Bad policies under a convertible currency standard will produce bad results. Just like bad policies under a fiat currency floating exchange rate standard will produce bad results. There is nothing intrinsic about either system that precludes the possibility of wasted output, unemployment, economic malaise, etc.

The problem right now is that so many are using convertible currency economic models to draw conclusions / make policy recommendations for what to do in our fiat currency system. It is comparing apples and oranges, and is bad macroeconomics. This is why your site (and UMKC, Warren’s site, Bill’s site, etc.) is so useful. Because we need to first understand how our system actually operates and to dispel inapplicable causes/effects that would occur under a different monetary system.

MMT is not a panacea (simply understanding it won’t prevent one from making bad decisions based on good information), but understanding it will prevent policy makers from making basic *mistakes* (making bad decisions based on bad information).

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#3) On July 28, 2011 at 4:07 PM, davejh23 (< 20) wrote:

"It simply bears pointing out that in the midst of a balance sheet recession where the private domestic sector desires to net save and we have a current account deficit that no Government Deficits will lead directly to a loss of economic activty. That is a factual conclusion based on a sectoral balance of the macroeconomy."

This may be factual based on the math, but it doesn't mean that deficit spending will necessarily maintain the health of the economy.  The "health" of the number may be maintained, but unproductive deficit spending doesn't heal a sick economy.

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#4) On July 28, 2011 at 4:23 PM, binve (< 20) wrote:

davejh23,

>>This may be factual based on the math, but it doesn't mean that deficit spending will necessarily maintain the health of the economy.  The "health" of the number may be maintained, but unproductive deficit spending doesn't heal a sick economy.

This is an ideological statement, not an economic statement. And like I said above:

Perhaps you think it is a 'good' thing that economic acivity slows down. I will not pass a value judgement on that statement....Whether you call that 'good' or 'bad' and whether you urge Congress to balance the budget or run a deficit is completely dependent on your ideology.

If you think economic activity needs to slow down to 'heal a sick economy' you are entitled to your opinion. That is an ideological position and I already said above that I will not pass judgement on it.

The fact remains that a balanced budget (or even a lowering of deficits) in this environment will lead to lower economic activity.

That is a factual position based on macroeconomic analysis. No value judgement is baked into that statement.

You can then come to other conclusions based on this statement:

- With the prviate domestic sector desiring to net save and with economic activity slowing, firms are likely to lower inventories and staff

- This means likely unemployment will rise

- With a balanced budget the automatic stabilizers (unemployment benefits, food stamps, etc.) will not be issued and thus unemployment will be a much larger drag on economic activity that it would be under a deficit spending position

- The further recinforces the above conditions, etc.

Again, no value judgements are made from these statements. They are logical conclusions based on the Governments spending position within the current macroeconomic environment.

It is up to you whether you want to call this 'good' or 'bad', whether you want to call it 'an avoidable situation' or 'taking our medicine', etc. Those statements are based on ideolgy. And I am not interested in ideology in this post.

The point of this post is illuminate the economic impacts of the current debt celing debate in Congress, without value judgements of whether they are 'good' or 'bad'..

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#5) On July 28, 2011 at 4:33 PM, davejh23 (< 20) wrote:

"With the prviate domestic sector desiring to net save..."

Desire to save [is not equal to] net savings

This is also a factual position based on macro analysis. 

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#6) On July 28, 2011 at 4:38 PM, binve (< 20) wrote:

>>Desire to save [is not equal to] net savings,

uhhh... yeah. That is precisely why I said desire in my post.

As the private domestic sector desire's to net save, they will cut out spending (thus lowering economic activity. Spending = income, another factual economic statement).

But on aggreagate, with that macreconomic identity, the private domestic sector will not be able to acheive that desire with a Government budget balance.

So it is very likely that many debts will be defaulted on based on the inability to pay (from a pure macroeconomic balance perspective and based on already very unequal debt/income distribution within the private sector when you look at it more closely).

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#7) On July 28, 2011 at 4:55 PM, rofgile (99.30) wrote:

binve:

 This is a good blog to keep in mind.  Countries that have made the poor choice to enact draconian spending cuts and raise taxes in the last to years are doing how well: Lets look at Greece, Spain, Britain.. - all are suffering as a result.

 If we cut govt spending, we'll put a brakes on the economy, resulting in lower tax revenues.  If we raise taxes too heavily to balance the budget, we also put a break on the economy and lower tax revenues.  It seems like a catch-22?

 The answer is that having a well run economy is not as simple as just putting the tax rate at level X and spending at level Y.

 Government spending is not just a number that needs to be at some optimal level.  Government spending is an investment, that can lead to future economic growth (or be a failure and just lead to spending).  If the US decided to spend 1 trillion now to build out the most super-fantastic rail system ever, that would probably result in self-sustaining economic growth in connected cities in the future.  If the government spent 1 trillion on agricultural subsidies, it is doubtful that we would see an economic return ten years from now (just richer industrial farmers in the present). 

 I think things are complex, and these Tea-partiers are too foolish to be involved in such issues in the first place. Their ideas about spending / budgets / etc, are too simplistic from the start, and highly wrong.  

 So, binve, who's plan do you think results in the LEAST harm? (As far as I can see, neither Republican nor Democratic, nor Obama plans are net beneficial to anyone).  I think the Boehner plan (as it involves the least spending cuts) would be the dollar-wise best, if it didn't have a requirement for yet another rehashing of the debate within a year (to boost reelection campaigns and further discord).   

 So.. basically - unless there is a major shift in how events are going, this is just an exercise in stupidity.  

 -Rof 

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#8) On July 28, 2011 at 5:27 PM, devoish (98.58) wrote:

From the Huffington Post we learn that there are more choices than described above.

http://www.huffingtonpost.com/jeffrey-sachs/the-peoples-budget_b_846573.html 

There are now four budget positions on the table. Far to the right is Paul Ryan's plan, an artless war on the poor that would take a meat-cleaver to Medicaid (health care for the poor), food stamps, support for child care, the environment, and the rest of government other than the military, Social Security, and Medicare (that is, until 2022, when the slashing would begin on Medicare coverage as well). Ryan would keep taxes below 20 percent of GDP (specifically, 19.9 percent of GDP in 2021), at the cost of destroying entitlements programs and other civilian spending.

Then there is
President Obama's budget, which is really a muddled proposal in the center-right of the political spectrum. It would keep most of the Reagan-era and Bush-era tax cuts in place. Like the Ryan proposal, Obama's tax proposals would keep total taxes at around 20 percent of GDP. The result is a major long-term squeeze on vital programs such as community development, infrastructure, and job training. Also, Obama's plan never closes the budget deficit, which remains as high as 3.1% of GDP in 2021.

In the progressive middle is the People's Budget. Like Ryan's plan, the People's Budget would cut the budget deficit to zero by 2021, but would do so in an efficient and fair way. It would close the budget deficit by raising tax rates on the rich and giant corporations, while also curbing military spending and wrestling health care costs under control, partly by introducing a public option. By raising tax revenues to 22.3 percent of GDP by 2021, the People's Budget closes the budget deficit while protecting the poor and promoting needed investments in education, health care, roads, power, energy, and the environment in order to raise America's long-term competitiveness. The People's Budget thereby achieves what Ryan and Obama do not: the combination of fairness, efficiency, and budget balance.

The fourth position is the public's position. The Republicans often say that they want Congress to respect the voice of the people. The voice of the people is crystal clear. In one opinion survey after the next, the public says that the rich and the corporations should pay more taxes. The public says that we should tamp down runaway health care costs through a public option, one that would introduce competition to drive down bloated private health insurance costs. The public says that we should get out of Iraq and Afghanistan and reduce Pentagon spending. (Just yesterday, Defense Secretary Gates let loose the predictable Pentagon canard that we should stay in Iraq if the Iraqi government asks for it. Better yet, we should respond to what the American people are asking for: to bring our troops home).

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#9) On July 28, 2011 at 5:29 PM, portefeuille (99.59) wrote:

a figure I posted in comment #17 here.

(from here)

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#10) On July 28, 2011 at 5:38 PM, binve (< 20) wrote:

Hey Rof,

  This is a good blog to keep in mind.  Countries that have made the poor choice to enact draconian spending cuts and raise taxes in the last to years are doing how well: Lets look at Greece, Spain, Britain.. - all are suffering as a result.

Exactly!! It seems so blindingly obvious that is why, I am quite surprised at how few people come to that conclusion.

Now, some may argue that "these countries are taking their medicine now and will be much better for it in the long run". I pass no judgement on that ideological statement. I would remark that there is a rather dubious causality chain baked into that assumption regarding "fiscal expansionary contraction" effect and a turning of some very blind eyes toward the chronic and stuctural unemployment those plans are likely to illicit. Just in pondering the economics (and not the ideology).

If we cut govt spending, we'll put a brakes on the economy, resulting in lower tax revenues.  If we raise taxes too heavily to balance the budget, we also put a break on the economy and lower tax revenues.  It seems like a catch-22?

Another great observation. Again, not delving into any ideology and just looking at ecnomic impacts: In the midst of a balance sheet recession with a current account deficit, there is no way to either reduce spending or increase taxes (or some combination of the two) that does not reduce in a loss of economic activity. That is another conclusion that should be self-evident,and again I am surprised at how many people don't see it.

So, binve, who's plan do you think results in the LEAST harm? (As far as I can see, neither Republican nor Democratic, nor Obama plans are net beneficial to anyone).  I think the Boehner plan (as it involves the least spending cuts) would be the dollar-wise best, if it didn't have a requirement for yet another rehashing of the debate within a year (to boost reelection campaigns and further discord).

In this case, since you are asking me to indulge in a little policy speculation (which inevitable has some ideology associated with it), I will do so.

[I am sure that other's will now jump all over me for this and I will ignore all comments about it. Rof is asking me a question and I am answering it].

I have a completely different view of the deficit that all of the deficit hawks and doves on Caps. My view of deficits is very much aligned with the MMT view, which I expand on quite a bit in checklist's post: here. So I don't expect any kind of agreement with that position.

However, whether or not you consider the Federal Government Deficit 'debt' (and I don't), I do very much agree with your statement above: "Government spending is an investment, that can lead to future economic growth (or be a failure and just lead to spending).". Right on! A deficit spending position is fiscal policy position.

We could spend it on financialization of the economy (non-productive), we could spend it on one-time stimulus with no lasting effect like the Homebuyer Tax Credit or Cash for Clunkers (non-productive), and we could then just continue with the path and run deficits to service the interest payments on Treasuries (non-productive).

Deficits just by themselves can 'prop' economic activity but will not necessarily lead to productive economic activity.

Others point out to deficits always leading to inflation (which I disagree with). There is a very large difference between demand-pull inflation and cost-push inflation. Simply saying we have an inflationary environment right now because food and energy are increasing misses a whole lot of key points and makes a whole lot of false assumption regarding monetary policy.

So if we were really serious about tackling cost-push inflation, I would make these observations: Currently we are back up to 3% inflation. However this is not 'uniform' inflation across all components that make up an inflation index. Some are up a lot, some are up a little, some are down. Again, this is not indiciative of a demand pull inflation environment. It is indicative of price setting (akin to cost-push inflation) 'fueled' mainly by oil prices. The US is the worlds biggest energy importer and is especially sensitive / at the mercy of OPEC. They are price setters in this scheme and the US just has to take it. Food production being energy intensive is also subject to this effect which is why food and energy prices have been moving (mostly) in a similar fashion. The biggest thing the US could do to smooth out this source of inflation is not to have better monetary policy (which is mostly worthless anyways), but to really become serious about energy independence. That is the only real solution.

Which brings me to the crux of your question:

We are nowhere near a demand-pull inflation environment right now. With low core inflation and massive unemployment and a sluggish economy, the private sector desires to net save and we have a current account deficit, then the Federal Government Deficit is far too small. But instead of 'blind spending' to induce aggregate demand, this is the perfect environment to initiate a long term energy independence policy. We have massive underutilization of resources and can 'afford' (literally and figuratively) to really implement a massive spending project that has a number of long term and short term benefits:

1) Long Term Energy Independence - This will signficantly reduce future cost-push inflation spikes from volatile energy prices.

2) This will be a very large long term industry providing long term employment

3) This will help with the current large unemployment situation as we can soak up a lot of those underutilized resources.

The projects included in an energy independence plan would be: Implementation of a Natural Gas Policy Agenda (the US has abundant Natural Gas resources), which would include increase storage and pipeling and require resources to build those (materials and labor), Subsidies/Grants to start transitioning the auto fleet from Oil to NG, more efficient people and freight movings sytems (your high speed rail idea would be perfect for this), etc.

All of these projects would cost a lot of money (which we could afford to deficit spend right now), a lot of materials (China already apprears to be slowing and they already have large stockpiles, so this plan would have upward pressure metals/materials prices but probably not as much as it would say 5 years ago), and a lot of labor (and with >9% unemployment, that would be a good solution). But the long term benefits would be enormous. I think they would be akin to the benefits from the Intersate Highway system.

[End policy discussion].

So I am with you Rof, we really need to be thinking about this problem from a sound macroeconomic standpoint, as well as a long term econonmic and soceital benefit standpoint.

So.. basically - unless there is a major shift in how events are going, this is just an exercise in stupidity. 

Unfortunately I completely agree :( 

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#11) On July 28, 2011 at 6:32 PM, rofgile (99.30) wrote:

binve:

 Awesome response.  A massive NG (and Wind and Solar) building effort to make us (at least 50%) energy independent would be a miraculous plan.  I'm sure the net benefits of that investment would be huge:

 A) We would greatly reduce our trade deficit, which is a far more important matter than is our budget deficit.  

 B) We would build up technology in a sector to market worldwide, which is the only way to be competitive in a world where every company can outsource labor to the cheapest place and can relocate to the country with lowest corporate tax rates. 

 C) We would be more free of middle-east politics, which is one of our LARGEST costs in lives and debt in this last decade.

 ----

 Right on!

 -Rof 

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#12) On July 28, 2011 at 6:40 PM, rofgile (99.30) wrote:

binve,

 I think tommorrow will be an interesting day to watch.  The markets hate uncertainty and we are going into the weekend without a deal. Lets see what happens!

 -Rof 

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#13) On July 28, 2011 at 6:46 PM, binve (< 20) wrote:

Thanks Rof!

Yep, I agree. Tomorrow we get the GDP report as well as uncertainty for the weekend. Should be interesting (but I have a feeling it will be an ugly down day tomorrow :( )

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#14) On July 28, 2011 at 8:01 PM, Frankydontfailme (27.29) wrote:

Binve, I know you disagree with defaulting based on your model, but nonetheless I believe a default is necessary for "austerity" to work. A nation defaults on their unpayable debts, AND slashes spending. I consider this taking medicine. Cutting deficits and not defaulting is the worst possible scenario.

I understand that from your MMT model  (which I am just now starting to understand), it logically follows that deficits can be good. You also admit, however, that the they can lead (when combined with a trade deficit), to geopolitical friction. Geopolitical friction is a nice way of saying unnecessary slaying of innocents in my book.

Not that following Austrian economics would end wars, but it seems to me they'd be less of them. Maybe I'm quixotic. Maybe I'm saying deficit spending kills innocents. Maybe I'm not.

Honestly I don't anymore. 

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#15) On July 28, 2011 at 8:17 PM, binve (< 20) wrote:

Frankydontfailme ,

but nonetheless I believe a default is necessary for "austerity" to work. A nation defaults on their unpayable debts, AND slashes spending. I consider this taking medicine.

I don't necessarily agree that that medcine 'cures' anything fundamentally, but I will acknowledge that is a legitamite position with a rationale behind it.

Cutting deficits and not defaulting is the worst possible scenario.

Who not defaulting? The Government or the private sector? I think a Government default would be the pinnacle of idocity, a triumph of blind ideology over understanding of how the monetary system works. It would (and rightfully should) be seen as a *massive* congressional failure. If you meant the private sector, the yes a deficit cut / balanced budget will precipitate a wave of private sector defaults [see comment #6 above]

I understand that from your MMT model  (which I am just now starting to understand), it logically follows that deficits can be good. You also admit, however, that the they can lead (when combined with a trade deficit), to geopolitical friction.

Completely agreed. I talk about trade deficits (and the goal for all economies to run balanced current accounts) here: http://caps.fool.com/Blogs/economics-thought-excercises/616802#comment616851. I discuss a possible policy objective to help ameliorate our trade imbalance in comment #10 above.

Not that following Austrian economics would end wars, but it seems to me they'd be less of them. Maybe I'm quixotic. Maybe I'm saying deficit spending kills innocents.

100% disagreed. Bad policy decisions (like wars) are bad decisions *no matter what currency system you have*. One currency system does not preclude bad decision making over another. I'm sorry, but that statement reads like a cop out to me. Blame our leaders for our wars. That is where the blame belongs.

I talk about this more in comment #2 above..

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#16) On July 28, 2011 at 8:44 PM, Frankydontfailme (27.29) wrote:

Fair enough. I wanted to point out that the austerity failing in Spain and Greece etc is predictable only if they don't default.

I like your idea to fix the trade imbalance. Also, if we used deficit spending to educate the public to be productive I wouldn't be strictly against that. I'd rather, however, use much of the misplaced military/medicaid/social security money and fund energy independence and education rather than use deficit (gradually shifting funding rather than all at once).

I don't, however, believe any of these plans will be put in motion by politicians. And frankly, it may very well be against human nature for practical thoughts like these to be delivered from voters to politicians. And so, I'm calling your system impractical.

Let's forbid the government from making inevitable mistakes. Take away its inevitably corrupt power.

Or I could be wrong. 

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#17) On July 28, 2011 at 8:52 PM, binve (< 20) wrote:

I don't, however, believe any of these plans will be put in motion by politicians. And frankly, it may very well be against human nature for practical thoughts like these to be delivered from voters to politicians. And so, I'm calling your system impractical.

The problem with any economic plan going forward is that we have to rely on politicians making informed economic decisions (based on models for applicable currency systems) and not relying solely on ideology. I am not holding my breath.

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#18) On July 28, 2011 at 9:26 PM, ajm101 (31.97) wrote:

A default by a country with it's own currency would be a historic moral failing.  It's just incredible that people would defend the indefensible.  If we want to take our medicine, we would raise the heck out of taxes and slash spending, and pay our debts off.  I just get _sickened_ by people so blithely tossing around the idea of discretionally defaulting on our national debt.  I wonder if these people have any sense of shame.  If someone loans you money, you pay it back.

With that rant out of the way... great post binve!  Hope all's well.

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#19) On July 28, 2011 at 9:30 PM, binve (< 20) wrote:

I wanted to point out that the austerity failing in Spain and Greece etc is predictable only if they don't default.

You have to be careful with this analysis. Spain and Greece are part of the EMU and have ceeded their monetary authority to the ECB. They are not sovereign issuers of their own fiat currency (they are currency users of the Euro, much like the US states are currency users of the Dollar). So the macro dynamics are different than the US's (in fact convertible currency economic analysis would be largely applicable for all EMU countries). In their cases, a default might be the best and viable option given their dynamics.

Britian is different. It is the fully sovereign issuer of the Pound just as the US is fully sovereign issuer of the Dollar. So you can compare the currency systems and macro dynamics of the US, Britian, Australia, Japan, Canada, etc.. In those cases there is no fundamental reason *whatsoever* to default. It is a purely political and ideological decision.

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#20) On July 28, 2011 at 9:33 PM, binve (< 20) wrote:

Frankydontfailme,

comment #19 was directed at comment #16

ajm101 ,

Hey ajm! Thanks! I am very well, how about you?

A default by a country with it's own currency would be a historic moral failing.  It's just incredible that people would defend the indefensible.

Absolutely and completely agreed. A US Federal Government default would be the pinnacle of idocity, a triumph of blind ideology over understanding of how the monetary system works. It would (and rightfully should) be seen as a *massive* congressional failure..

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#21) On July 28, 2011 at 9:43 PM, ajm101 (31.97) wrote:

Doing well, too.  Cloud computing is fun :)

I think it's pretty fair to say this is a purely Republican failing at this point; not congressional.

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#22) On July 28, 2011 at 9:59 PM, Borbality (46.31) wrote:

Good stuff, Binve. You make scientific (or at least academic) a lot of what I observe daily. The most glaring being some of the European austerity measures and their very predictable and disappointing results. Does anyone there think "Oh gee I'm so glad we cut spending! We are saving so much and prospering now!" It doesn't work the same way for individuals, not at this level, no way. I don't think anywhere close to half the voting public understands that. I don't have a firm grasp myself, but it's scary who is actually directing traffic in this mess. 

 Honestly all I think of when I hear about austerity policy is a big decrease in GDP and therefore my portfolio, of course this is assuming my wife and I even keep our jobs.  

Maybe all the conservatives are long gold, but to me I just can't help thinking now is not the time for cutting or taxing. I'll be radically changing my holdings if we go hardcore austerity, although I think it's not all that likely.  

 The ideology leading the debate and the stalemate is truly the most frustrating part, and I don't buy that those clowns in congress are naive enough to believe what they're saying (for the most part).

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#23) On July 28, 2011 at 10:55 PM, Frankydontfailme (27.29) wrote:

ajm101. We are defaulting as speak. We have defaulted many times. When we dilute our currency and pay back creditors in money worth less than the original loan... that's a technical default.

Tax our way out? Have you looked at the numbers? 1.5 Trillion dollar deficit cannot be taxed away. And that's just the deficit not the debt. We will default. Either through extreme inflation or just flat out. You pick. 

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#24) On July 28, 2011 at 11:11 PM, awallejr (83.83) wrote:

As usual, solid and detailed analysis with your heart thrown in Binve.  And all done for the love of the game.  I think Bernanke actually would give you an A+ simply because he was making that argument before Congress.

There is the dilemma.  We want people to save, but save too much then spending declines and GDP goes down.  We want the government to stop running deficits.  But cut too much then spending goes down and GDP declines.

Wasn't that one of the criticisms of Governmental response during the Great Depression?  Government let banks fail; the world went to economic protectionism; and then government curtailed spending.

From an ideological point of view I would kind of vote for the People's Budget in Devoish's reply.

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#25) On July 29, 2011 at 12:20 AM, binve (< 20) wrote:

ajm101,

Cloud computing is fun :)

Right on! (don't tell Alstry :) )

I think it's pretty fair to say this is a purely Republican failing at this point; not congressional.

I see what you are saying. But the fact that the Democratic plans are only slighly worse than the Republican plans (both are based on completely idiotic macro analysis), that is of little comfort. :(

Borbality ,

Thanks! I agree very much with the viewpoint of your comments. It all comes down to the three sectors of the macroeconomy: the government sector, private domestic sector, and foreign sector. And most people just don't grasp the spending = income concept. The private domestic sector wants to net save, so by definition they want to spend less than their income. The foreign sector is in deficit (we export less than we import) so there is net spending *leaving* our borders (we spend more on external goods than external sources spend on our goods). So if two of the sectors have negative spending tendencies, then there is only one sector that can make it up: the government sector. This is the defintion of a deficit spending position. The government is making up for the lack of demand from the other two sectors.

And your analogy to the individual level is perfect. Someone has spent to provide me income (they are purchasing my labor). And if I want to save, then *by definition* I will be spending less of that income on other goods and services, which means that all subsequent tranactions to me have less than my income. And since spending = income there is a shortfall in demand when the private sector net saves. The government net spends (deficit spends) to make up for that lack of demand to maintain spending so that the private sector can net save. With a current account deficit it cannot be any other way by definition.

This is why the whole austerity leads to 'prosperity' via 'fiscal contraction expansion' makes absolutely no sense. It is based on hugely flawed loanable funds theories that have no basis in the real world.

Instead, ideology is leading Congress and the President to compare the US government to a 'household' and to say things like: 'the government needs to tighten its belt while the American people are tightening their belts'...!! Making no recognition to either the fact that the US government is the currency *issuer* and households are currency *users* and so the government can never *save* money (it is like saying an alchemist can 'save' gold, even though they can create as much gold as they need at any time. An alchemist saving gold does neither inhibit nor help the alchemist from creating gold at any time), nor to the fact that the government sector is the only one that can provide the means to allow the private sector to net save in this balance sheet recession via deficit spending.

It is absolutely incorrect macro analysis lead by ideology and 'slogans'. It may sound 'good' in a speech, but when logic is applied it doesn't come close to passing the smell test.

awallejr ,

Thanks!

We want people to save, but save too much then spending declines and GDP goes down.

If the private domestic sector did this and the government did not adjust its stance, then yes absolutely this would happen.

We want the government to stop running deficits. 

That is the root of the problem!! Everybody wants the government to stop running deficits. It is a *blind mantra*

Deficits = bad. Surpluses = good!

There is no consideration at all to a macroeconomic sectoral balance in that stance, which makes it completely and utterly worthless.

There are times where a Government deficit is bad. (Current account surplus, private sector desires to net spend, and we are near full employment). There are times where a Government deficit is good. (Current account deficit, private sector desires to net save, high unemployment). It all depends on what is happening in the other two sectors of the macroeconomy.

The logic required to see this simple relationship is really not all that great. Yet so many people refuse to abandon rigid ideology and to see it.

The government deficit (since it can create net financial assets on demand via deficit spending) should always position itself relative to what the other two sectors want to do. If we have a current account deficit of 3% GDP and the private domestic sector desires to net save 7% of GDP, then the government sector should adjust its spending position to 10% of GDP.

And once you realize this wont' make the country 'broke' or 'insolvent' (see here), then the government can satisfy that demand in the short term while changing fiscal policy to allow for long term growth and stability I give one possible example in comment #10.

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#26) On July 29, 2011 at 12:27 AM, whereaminow (< 20) wrote:

binve,

Beware of equations that prove too much.

C+S=H+I

Therefore, if H is decreased with no increase in I or S, C will fall!

C is cookies, S is soda, H is heartburn, and I is indegistion.

David in Qatar

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#27) On July 29, 2011 at 12:28 AM, ChrisGraley (29.74) wrote:

I always feel like most MMT plans always work out to "We must continue to feed the beast!" So I am going to try a different angle.

I just concentrate on balancing the budget while keeping your equation in mind.

(I – S) + (G – T) + (X – M) = 0, or rewritten:

(G-T) = (S-I) - (X-M).

I = investment

S = savings

G= government spending

T= taxes

X= exports

M= imports 

binve most people aren't as smart as you are. You should really define your variables when posting such well thought out info in equation form. :)

I'm in the camp that raising the debt ceiling is just kicking the can down the road, so I have a bigger burden to overcome. My thought process requires us to stray away from the normal so there is normally resistence. Therefore, I have to explain why the status quo is insane and demonstrate a more rational approach in a way that is understandable to the masses. This is no small feat but I'll give it big effort.

My initial thoughts before I start...

1) Balance the budget first. I'll try to make the cuts based on importance regardless of economic outcome. Most of our politicians concentrate on cutting the other guy's programs because they can't cut programs that hurt their own voters.

2) Try to cut at least twice as much as the Boehner/Reid propositions because quite frankly neither plan does enough.

3) Try to then create a positive economic structure that improves the economy. This is a huge hurdle and the plan has always been to print more money when we need an economic boost. The fact that we can't print enough money now to create jobs now should be a signal that our free lunch program only works as long as the rest of the world is willing to tolerate it.

4) Give us an economic edge on the rest of the world going forward. We do have an edge already of a strong business and productivity base, but our labor base has been eroded by cheaper global options. Without a strong labor sector, we have spurred consumerism by promoting debt. Private debt has led to a lot of the turmoil that we are going through now.

OK, I have now bitten off more than any president in history did and actually backed their promises up, so lets get to it.

1) The Budget

OK,  first we all have to admit that our 3 biggest government expenditures are Defense, Social Security and Medicare. I'm under the impression that the masses should not have to pay for Liberals forcing them to become dependent on the government. So I'm about to make my job even harder, but out of the big 3, the bulk of my cuts will be in Defense. Eventually we have to cut SS and Medicare, but I'd prefer to do that over a long period of time, allowing the masses to understand that the Liberals value their votes more than their health and welfare. A poor economy is not the best place for them to learn that lesson.

 1a) Defense cuts.

Withdraw 80% of the troops from Iraq and Afganistan by 2015. This brings the residual force down to 45,000. Estimated 10 yr savings = $1.3 trillion.

Eliminate all foriegn aid. Estimated 10 yr impact $366 billion.

Freeze defense spending for 5 yrs and tie growth to growth in the GDP. Estimated 10 yr impact $1.685 trillion.

1b) Education

Eliminate Federal educational funding. Estimated 10 yr impact $782 billion.  

1c) Science

Eliminate the dept of energy. Estimated 10 yr impact $441 billion.

Trade Farm subsidies for savings accounts. Eliminate the subsidies to industrial farms and still support the small farmer. Estimated 10 yr impact $150 billion.

Cut the wildlife refuge spending in half. Estimated 10 yr impact $3 billion.

Drill for oil in the arctic. Estimated 10 yr impact $15 billion.

Cut the Conservation reserve program. Stop paying out millions of dollars to Jon Bon Jovi and Bruce Springstein for not being farmers. Estimated 10 yr impact $10 billion. 

Cut the EPA budget in half. Estimated 10 yr impact $44 billion.

Cut the NSF budget in half. Estimated 10 yr impact $30 billion.

1c) Housing

Cut federal rent assitance so the renter pays 35% of income instead of 30%. Estimated 10 yr impact $33 billion.

End community development block grants. Estimated 10 yr impact $40 billion. 

1d) The minutia

Cap and cut discretionary spending. This was proposed from the "Gang of six" and has not been confirmed by the CBO. Estimated 10 yr impact $321 billion. 

Cut discretionary spending by an overall 10% amount. This is actually a pretty easy cut. Most of this is cutting budgets from the various cabinets. Estimated 10 yr impact $780 billion. 

 Eliminate the federal travel budget. Estimated 10 yr impact $146 billion.

Cut Congressional budgets in half. Estimated 10 yr impact $22 billion. 

1e) Medicare, Yeah, I know, but I think these cuts are non-destructive.

Require drug makers to extend the same 25% discount to Medicade. Estimated 10 yr impact $130 billion. 

Require wealthier seniors to pay more for perscription drug benefits. Estimated 10 yr impact $258 billion. 

Tort reform. Estimated 10 yr impact $65 billion. 

Cut Medicare waste and payments. Estimated 10 yr impact $298 billion.

1f) Taxes. I hate them but we'll need a few in the short term to get back on our feet. 

Phase out the mortgage deduction. Estimated 10 yr impact $215 billion.

OK, so I cut the budget over the next 10 years by about $7.5 trillion dollars. I think that I could double that amount, but I had to rely on the ideas and budget numbers from the politicians and they really don't want to cut anything that gets them votes. I did totally kill the budgets by Boehner/Reid by about 9 fold, so I'm happy about that, but I've only met steps 1 and 2. I still need to meet steps 3 and 4 and once I do that, I need to get Medicare and Social Security spending to a sustainable level. I'm getting tired and it's getting late so I'll pick this up later. This will take me at least a few days to finish. If there is anyone that has access to Federal budget information and can give me info without getting fired, please post here and I'll fine tune what I have above.

 

 

 

 

 

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#28) On July 29, 2011 at 12:33 AM, binve (< 20) wrote:

David and Chris,

Hey guys, I wondered when I would get comments from you :) They are always welcome. And despite the marathon commenting effort on checklist's blog, I really did enjoy the debate!

First, let me define variables. I have done this before and so I was being lazy in this post (bad habit).

First, we define GDP from the perspective of 'sources'

GDP = C + I + G + (X-M)

C = Private consumption
I = Private investment
G = Government Spending
(X-M) = Net exports - Net Imports

Next we define GDP from the perspective of 'uses'

GDP = C + S + T

C = Private consumption
S = Private savings
T = Government Taxes

Equate the two

C + I + G + (X-M) = GDP =  C + S + T

=>  C + I + G + (X-M)  =  C + S + T
=>   I + G + (X-M)  =  S + T (Canel C, on both sides)

Now rearrage into a more useful form:

(G-T) = (S-I) - (X-M)

The is the macroeconomic sectoral balance. What this says is the Net government spending (G-T, which is spending minus taxation) equals Net private savings (S-I, which is savings minus money spent on investment) minus net exports (X-M, exports minus imports, or the current account).

So when the government spends money, it has to go somewhere. It either goes into the private sector and is either saved or spend, or it goes to the foreign sector.

If we run a few scenarios:

If X-M is positive (more exports than imports) and S-I is negative (the private sector is investing more than it is saving) then the governement is in surplus (G-T is less than zero, which means it taxes more than it spends).

If X-M is negative (more imports than exports) and S-I is positive (the private sector is saving more than it is spending) then the government is in deficit (G-T is greater than zero, which means it spends more than it taxes).

 

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#29) On July 29, 2011 at 12:41 AM, whereaminow (< 20) wrote:

binve,

Savings and investment are linked.  They are not independent variables. Treating them as independent is Keynesianism.  The Keynesian confusing regarding savings caused by JMK's lazy use of the word savings in several different ways in General Theory

First, we define GDP from the perspective of 'sources'

GDP = C + I + G + (X-M)

(Shakes head).  That's full blown Keynesian hocus pocus.  GDP is an aggregate that is not in any way a meaningful starting point for analyzing economic activity.  Do you want sustainable economic outcomes that take into account micro level sector imbalances and consumer preferences, or do you want your equations to line up nice and neat?

David in Qatar

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#30) On July 29, 2011 at 12:49 AM, binve (< 20) wrote:

Chris,

I'm in the camp that raising the debt ceiling is just kicking the can down the road, so I have a bigger burden to overcome. My thought process requires us to stray away from the normal so there is normally resistence. Therefore, I have to explain why the status quo is insane and demonstrate a more rational approach in a way that is understandable to the masses. This is no small feat but I'll give it big effort.

Like we have discussed before, I don't agree with this. I don't think there is anything 'bad' or 'unsustainable' about deficits. So I don't share your starting point.

However, that being said, there is no benefit to having Congress 'waste' money, especially when it does so egregiously for its own purposes. There are quite a few of your proposals that I agree with. 

But that means that in a balance sheet recession and with a current account deficit, we should (the government has a responsibility to) run a Federal Deficit. But it is even more important that fiscal policy be implemented so that deficit actually becomes a useful investment. The spending helps the economy from plunging into a depression and at the same time builds long term stability. I have one possible proposal in comment #10. 

This is not the only one, it may not even be the best one, but it attacks are trade imbalance problem and energy independece problem at the same time.

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#31) On July 29, 2011 at 1:10 AM, binve (< 20) wrote:

David,

Savings and investment are linked.  They are not independent variables.

For the purposes of transactional accounting, this is not a true statement.

Treating them as independent is Keynesianism.

Keynesianism, schmenasism, I am discussing transactions.

If I have some income (somebody paying me for my labor) and I don't spend all of my income, I have by definition 'saved' money. Lets say I bought a Treasury bond with it. From an accounting sense this is money stored somewhere in the banking system that can be 'put to work' at a later time. 

Savings and Investments are different transactions, that contribute to the economy in very different ways. When the sum of net savings decisions are aggregated over the whole private domestic sector, then you understand the net position of that sector.

You can say GDP is not meaningful, and I disagree with that stance. Is it give inflallible insight? No. But I does give a key insight into what the aggregated macroconomy is doing.

Do you want sustainable economic outcomes that take into account micro level sector imbalances and consumer preferences, or do you want your equations to line up nice and neat?

There is no reason not to acheive both. The micro is important, but understanding macro stocks and flows is just as important. 

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#32) On July 29, 2011 at 1:37 AM, whereaminow (< 20) wrote:

binve,

Always a good discussion.  This will have to be my last comment for a few hours.

If I have some income (somebody paying me for my labor) and I don't spend all of my income, I have by definition 'saved' money.

No, you have not.  Savings is not simply holding cash balances.  Let's say you received your paycheck every other Friday and today is payday.  Your paycheck just hit your account.  You haven't spent anything since midnight in the States. It's been an hour.  Are you saving right now?  Did you "save" money for an hour?  Or are you holding a cash balance?  

Savings is an action.  Using your analysis, all monetary income is saved at some point.  That renders the concept of saving meaningless, since no one is foregoing consumption simply because they hold a cash balance.

Lets say I bought a Treasury bond with it. From an accounting sense this is money stored somewhere in the banking system that can be 'put to work' at a later time.

And that's not the only way to save.  Saving is an action.  Many types of saving are completely invisible to macro accounting, specifically the lengthening of the structure of produciton, one of the most important ways that an economy grows wealthier.

Like I said, you may not like where the confusion of savings arises from, but that was handed down to MMT from the Keynesians and MMT in turn handed it to you.

"The ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist." - John Maynard Keynes

He got that one right.

David in Qatar

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#33) On July 29, 2011 at 2:23 AM, NeilW wrote:

I would use the government spending as a threat.

"If you private sector guys won't get your ever fattening wallets out and invest efficiently in the economy, then the government is going to have to do it inefficiently. And that will affect your bottom line..."

  

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#34) On July 29, 2011 at 2:31 AM, ChrisGraley (29.74) wrote:

This is not the only one, it may not even be the best one, but it attacks are trade imbalance problem and energy independece problem at the same time.

It's actually something that I'm looking at as well. I can't pretend that I have steps number 3 and 4 figured out right now, but I didn't have steps number 1 and 2 figured out when I started writing. 

We can all grow with a more responsible budget.

I obviously don't agree with your "we owe it to our children to go into more debt"  play.

In fact, I'm of the view that I'm screwing ny kids by allowing public debt. 

Honestly you an kill me if it gets my kids a little farther ahead.  

 

 

 

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#35) On July 29, 2011 at 2:41 AM, NeilW wrote:

"Using your analysis, all monetary income is saved at some point."

It is all saved at some point. The economy is a dynamic system where millions of active independent agents all saving and spending. 

If you modelled a day of the US dollar system you'd see a fascinating cycle of saving and dissaving as things clear.

It's the lack of dynamic analysis in economics that is half the problem.

"That renders the concept of saving meaningless, since no one is foregoing consumption simply because they hold a cash balance."

Correct. You are assuming  that money is finite based on a loanable funds model. The Post-Keynesian model uses endogenous funds. So credit expands and contracts based on the demand at that instant. Banks accommodate that need by providing a disintermediaton function which is then backed up by the central bank in its effort to target a policy rate. And everything then clears every day.

Remember that we are talking here about the nominal system - the financial oil. There is not a one-to-one relationship with the real underlying economy in a credit economy. Money is not just a veil.

And that is why Post-Keynesian models can model the bubble economy of 2007-2008 and classical models cannot. 

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#36) On July 29, 2011 at 2:59 AM, whereaminow (< 20) wrote:

NielW,

And that is why Post-Keynesian models can model the bubble economy of 2007-2008 and classical models cannot. 

You are right that classical Keynesian models fails, but since the bubble started with the artificial lowering of interest rates at least 6 years prior to 2007, it seems that Post-Keynesians are missing out on quite a bit as well.

It is all saved at some point. The economy is a dynamic system where millions of active independent agents all saving and spending. 

Incorrect. And let me go back to binve's original example to explain the mistake that MMT is making.  

I quote again:

If I have some income (somebody paying me for my labor) and I don't spend all of my income, I have by definition 'saved' money. 

Notice what binve has left out of this scenario.  We don't know why he consumed less than he earned.  To an accountant this does not matter, but to an economist it better matter.

If binve makes $100 for the week and at the end of the week he finds that he has $30 left over, he hasn't saved because his reservation demand for money is unchanged.  Savings is a conscious action.  Finding the $30 in his wallet at Day 7, Hour 24, Minute 60, Second 60... he might just walk over to the CD store and buy two new Brittany Spears albums on Day 8, Hour 1, Minute 1, Second 1.

Would you call that "saving" followed by "unsaving?"  Maybe to an accountant, but not to an economist, because nothing he has done has changed his reservation demand for money or permanently altered the structure of production.

If holding cash balances is saving, then a man saves while he sleeps merely because he doesn't purchase Big Macs in between snores.

MMT constantly says that your economics must match your accounting.  On the contrary, if your accounting does not match economics, you are bound to come to some absurd conclusions.

David in Qatar

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#37) On July 29, 2011 at 3:02 AM, TMFAleph1 (94.89) wrote:

Great post, binve.

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#38) On July 29, 2011 at 5:35 AM, newbietrader1 (< 20) wrote:

binve while I do agree that spending cuts will slow down the economy. I disagree that  the downgrade of the U.S. debt as you say not a danger. I see it as without the spending cuts you will get the downgrade which in turn will raise the interest rate which will increase the U.S. budget. This will in turn increase the amount the U.S. will need to cut spending to balance the budget only causing more problems in the future. And I don't consider balancing the budget an Ideaolgy it's more of a necessity. Because the debt level has reach a point that if not addressed now it will slow the economy even more when finally addressed. "This means that economic activity will massively slow down as the private sector attempts to meet their savings desires." Most people I know are not saving just trying to just pay the bills since gasoline prices went up about a dollar a gallon in a year. There are other factors affecting the U.S. economy to consider that were not mentioned.

Ed's Blog

 The U.S. situation is different than Japan's.

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#39) On July 29, 2011 at 9:18 AM, binve (< 20) wrote:

whereaminow,

David, definitely a good discussion. And as usual we have a few disagreements

No, you have not.  Savings is not simply holding cash balances.  Let's say you received your paycheck every other Friday and today is payday.  Your paycheck just hit your account.  You haven't spent anything since midnight in the States. It's been an hour.  Are you saving right now?  Did you "save" money for an hour?  Or are you holding a cash balance? 

Did I 'save' money for an hour? Yes. But since nobody considers an hour a meaningful investment period, by the time that period has acutally elapsed that 'saved' money will be spent.

So instead of contrived time periods, let's discuss real transactions (at the micro level which become very real quanities at the aggregate level) over real time periods.

When we discuss savings relative to GDP (which is useful despite your reservations) we are talking about flows. A flow is economic activity per unit time. In this case the time period is typically measured in years (GDP numbers are quoted as year over year changes). Flows accumulate into stocks (i.e. the yearly budget deficit accumulates to the national debt).

So does saving for one hour do anything meaningful? Nope, neither in your or my analysis.

But what if I saved for a year? I foregoed consumption for one full year so that I could consume (or pay down debt) the next year. Did I 'save'. You bet I did.

This also hold true at the macro level. When you aggregate all of those savings decisions by people over a years timeframe, you some portion of it was saved, invested and consumed (but since consumption is both a use and a source of GDP, it is all 'internal' to the economy, it is neither a leakage, injection, or storage term).

This is micro behavior, that can be aggregated to the macro level, and can then be input into sectoral balance macro analysis to infer trends relative to the other macro sectors.

And that's not the only way to save.  Saving is an action.  Many types of saving are completely invisible to macro accounting, specifically the lengthening of the structure of produciton, one of the most important ways that an economy grows wealthier.

I don't disagree with this. Let's say that instead of selling grapes at harvest time I turn them into jam. I save them and can enjoy the benefits later. My savings has allowed me to forego future consumption dependent on other sources. There all kinds of examples like this (and this is albietly very simple).

HOWEVER while this is real savings, from the standpoint of macro analysis is completely irrelevant.

In this case I am 'trading' with myself. There are no transactions. My instead I barter with a neighbor. Again, there are no transactions within the unit of account (the US Dollar). All legal trades are subject to fees and/or taxes. It is then they are recorded as economic activity.

And that is the basis of macro analysis in our current fiat monetary system, accounting for all transactions that occur in US Dollar terms. Transactions that occur outside of that realm are beyond the legality of the government to track and enforce.

ChrisGraley,

I obviously don't agree with your "we owe it to our children to go into more debt"  play.

You see the deficit as a burden. I see it as the net accumulated financial assets of the non-governement sector.

I think the burden would be to willingly destroy all those accumulated savings. Because in doing so economic activity would grind to such a slow pace and cause massive unemployment. Massive structural and chronic unemployement is not only the worst kind of wasted economic potential, but it puts many groups at a disadvantage socially for generations. That would be a massive burden that we left to our kids. That is the real threat, not the national 'debt'.

I know we won't see eye to eye on this one, just registering my very different opinion on the matter.

TMFBullnBear ,

Thanks Alex!

newbietrader1 ,

I disagree that  the downgrade of the U.S. debt as you say not a danger. I see it as without the spending cuts you will get the downgrade which in turn will raise the interest rate which will increase the U.S. budget. This will in turn increase the amount the U.S. will need to cut spending to balance the budget only causing more problems in the future.

I don't disagree with that. However, that is not what I (or Warren Mosler) wrote completely. The credit downgrade is less important that the spending cuts. The headline makes it seem like that nuance is not acknowledged in Warren's post. But I concede your point based on the headline.

And I don't consider balancing the budget an Ideaolgy it's more of a necessity.

Completely disagreed, as you can see in my comments.

The U.S. situation is different than Japan's.

This is the worst mythical rebutal that goes stated whenever debt/GDP numbers or interest rates get mentioned. I disagree with it nearly categorically.

I agree with it only in a trivial sense. They are not the same countries and not the same economies so are by definition 'different'.

But from the point of view of currency systems, macroeconomic headwinds, similarities in dealing with the balance sheet recession, etc the US is more like Japan than another other economy from a comparision standpoint...

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#40) On July 29, 2011 at 10:16 AM, whereaminow (< 20) wrote:

binve, 

But what if I saved for a year? I foregoed consumption for one full year so that I could consume (or pay down debt) the next year. Did I 'save'. You bet I did.

If you saved for a year and then blew all your money on day 366 on Brittany Spears CD's, then your savings was merely temporarily and did not permenantely alter the structure of production because it did not arise from a new reservation demand for money.  This is the difference between the snapshot analysis of accounting and real economic analysis. 

People save for a reason.  We are not mindless particles bouncing around in a physics jar that happen to look down at the end of the year and "hey, whaddya know? we have $200 million left unspent. We saved!"

That's not economic analysis. Savings, like all economic activity is purposeful action.  It is hard work to engage in real savings.  It's easy, but pointless, to increase private sector cash balances.

If you want to define savings in your accounting model as private sector cash minus investments, so be it.  But now all you are telling me is that lower government spending means lower nominal cash balances.  To which I reply, "duh."  That would result in a higher demand for cash, downward pressure on prices, a higher PPM and a new equilibrium price of money. 

I strongly suspect that Mosler prefers throwing around the word savings so that he can trick people into thinking that higher levels of government spending equal greater wealth for all, which is total nonsense.

And I suspect that he is suffering from Apoplithorismosphobia (Mark Thornton's term for the irrational fear of deflation).

Your accounting will always hold, no matter what happens. It's tautological. You're not solving for x.  MMT will always have the market cornered on superficial analysis.  It's the pretense of knowledge.

Economics is about acting man.

David in Qatar

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#41) On July 29, 2011 at 10:27 AM, binve (< 20) wrote:

whereaminow,

David, you are now throwing in a lot of contrived rebutals to my statements

If you saved for a year and then blew all your money on day 366 on Brittany Spears CD's, then your savings was merely temporarily and did not permenantely alter the structure of production because it did not arise from a new reservation demand for money.  This is the difference between the snapshot analysis of accounting and real economic analysis. 

What, so now all savings goes into Britany Spears CD's?

What if *instead* I took that savings and bought a tractor for my farm (a capital expediture to increase productivity). Or instead I took that savings to pay down debt, which will give me the flexibility of consuming more or not (my choice) in the future.

The point is we don't know what any actor will do with those savings. Some will be investment, and some will be consumption.

All of these accounting 'tautologies' are in fact some measurement of behavior at the macro level. And as such the respresent aggregated quantities of real life spending and saving decisions at the micro level. You want to discount them, fine. It seems like you are purposefully not trying to see their usefulness.

Economics is about acting man.

When have I ever suggested otherwise..

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#42) On July 29, 2011 at 10:39 AM, whereaminow (< 20) wrote:

binve, 

What, so now all savings goes into Britany Spears CD's?

I know she's your favorite, but I could have you buying Justin Timberlake if you prefer :)

What if *instead* I took that savings and bought a tractor for my farm

That would make the country wealthier since it means you no longer have to plow your field by ox.  Output is increased.  Whereas your fettish for teeny bop does not do us any good.

The point is we don't know what any actor will do with those savings. Some will be investment, and some will be consumption.

I agree with this statement, but it leads me to a different conclusion.

I contend that you cannot advocate policy that increases private sector cash balances as an end in themselves, which is what Mosler is doing. 

And that’s just the first order effect, as a falling economy means falling tax revenues, Which means further reductions in Treasury spending in a pro cyclical nightmare - Mosler

Bogus!  There is no spiral to eterntiy effect.  Falling GDP != falling economy. If falling GDP was equal to a falling economy, then 1946-1947 was the greatest depression in American history, despite record low unemployment and record high private output.  Falling private sector cash balances are not some unstoppable force until we all have $0.  Apoplithorismosphobia, indeed! 

David in Qatar

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#43) On July 29, 2011 at 12:01 PM, outoffocus (22.86) wrote:

Great debate.  I greatly respect your blogs Binve, but on the whole I'm just not buying the MMT.  It seems to me that the originators of this theory are trying to theorize a generational anamoly as economic fact. I've listened (or read for that matter) the arguments and on the whole the they just don't make fundamental sense to me.  Having said that, I'm no economic "expert". So take my comments with a grain of salt.  But in the end I'm just not buying it (pun sorta intended).

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#44) On July 29, 2011 at 12:10 PM, binve (< 20) wrote:

outoffocus,

Thanks outoffoucs. I very much respect that you have a difference of opinion on this issue.

At one time I also did not agree with or 'buy' their arguments. But that was before I understood what they were saying. I really do think that a lot of MMT positions, as contended as they may be, are actually correct.

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#45) On July 29, 2011 at 12:34 PM, Frankydontfailme (27.29) wrote:

Out of curiosity Binve, you think they are correct in that they best describe our current system or that they describe the ideal system?

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#46) On July 29, 2011 at 12:39 PM, binve (< 20) wrote:

>>you think they are correct in that they best describe our current system or that they describe the ideal system?

Current system.

MMT has easily the most complete, comprehensive and rigorous description of how a fiat currency floating exchange rate monetary system actually works and the constraints that such a system has (as well as dispelling fictional constraints).

The concept of an 'ideal' system is meaningless. Bad policies produce bad results no matter what currency system we have. There is nothing intrinsic to any system that precludes bad policy decisions. 

The best outcome will always be to have policy makers make 'good' (however you want to define that) policy decisions that are consistent with the economics and mechanics of the currency system we have at the time. Not to make decisions based on past or inapplicable currency systems.

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#47) On July 29, 2011 at 1:13 PM, leohaas (32.24) wrote:

As usual, I am late to the discussion, and will be shooting from the hip.

You are 100% right. If the Government does not keep up its spending (for instance because Congress fails to raise the debt limit, and the President fails to invoke the 14th Amendment to keep on spending anyway), whatever the Government used to spend in excess of its revenues (currently about 40 cents on the dollar) suddenly disappears from GDP. Annualized, this is about a 9% hit on GDP. This will put us into a recession immediately, since GDP growth will be negative.

My response is: duh! It is the largest anti-stimulus ever conceived! How anybody can contradict that is beyond me.

Of course, we could have a long discussion about whether taking a tremendous economic hit now would be good in the long run. But that suddenly lowering Government spending by about 40% will cause a recession is 100% clear.

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#48) On July 29, 2011 at 1:18 PM, binve (< 20) wrote:

leohaas,

Agreed. The math on that is pretty clear.

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#49) On July 29, 2011 at 1:27 PM, Frankydontfailme (27.29) wrote:

Leohass... yeah... no one is saying it wouldn't be atrocious short term. The math is clear. It's a question of long term. Obviously, I don't know the answer but I have a hunch :)

For what it's worth (probably nothing), I pretty much agree with you Binve. And very much appreciate that you have been one of the few people in the last several months that have taught me anything about anything.

For whatever reason, I hold on to the belief that forcing the change of this crazy system is whats best (rather than working from within). 

While it is true that all sytems will have corruption, some are more prone than others. 

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#50) On July 29, 2011 at 2:13 PM, newbietrader1 (< 20) wrote:

binve
And I don't consider balancing the budget an Ideaology it's more of a necessity.

Completely disagreed, as you can see in my comments.

  This is one that you and I disagree on as I think it is wrong for any country to borrow 40% of every dollar they spend when if they had no debt that money could be put to better use.

The U.S. situation is different than Japan's

This is the worst mythical rebutal that goes stated whenever debt/GDP numbers or interest rates get mentioned. I disagree with it nearly categorically.

I agree with it only in a trivial sense. They are not the same countries and not the same economies so are by definition 'different'.

But from the point of view of currency systems, macroeconomic headwinds, similarities in dealing with the balance sheet recession, etc the US is more like Japan than another other economy from a comparision standpoint...



 Japan's Runaway Debt Train

The domino that never falls
The long-term prognosis for the debt-ridden economy is not good 

This is my point about debt not being ideaology be cause government cannot be trusted to properly manage the debt. And this is where the U.S. is headed unless it is gotten under control now.

 And I understand that numbers can be used to give you an idea of how an economic model should work. It however does not take into account the culture or psychology of the people or the type of government or governments past actions.  Number are the only similarities in our economic models that is as far as it goes. 

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#51) On July 29, 2011 at 9:56 PM, ChrisGraley (29.74) wrote:

binve, inflation destroys savings anyway.

 

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#52) On July 29, 2011 at 11:06 PM, whereaminow (< 20) wrote:

binve scores a point on whereaminow

Ok, well if you are going to make a mistake, at least make it in a discussion with someone you like.  So let me explain the mistake I made, how I figured it out, and what caused the confusion.

binve said:

If I have some income (somebody paying me for my labor) and I don't spend all of my income, I have by definition 'saved' money. 

This is the view of every economist I can find, from Mises to Keynes and in between.

My contention was that you haven't saved since you took no action, but that is incorrect.  Let's see where I went wrong.

binve said:

The point is we don't know what any actor will do with those savings. Some will be investment, and some will be consumption.

Now I agree with that statement. 

And that led me to a conundrum.  How could I agree with this assertion, but not the other?  I am obviously doing something wrong.  So I thought about it (for too long), researched it, and I found myself on the other side of the argument of both Mises and binve.  Uh-oh.  I'm in trouble.  Looking further, both Rothbard and Keynes agree with binve.  Yikes.  

Let's extend our original example.  Johnny earnes $100 in income in Week 1.  At the end of the week he has $10 left over.  binve says that is savings.  I replied that it's simply a cash balance since we don't know what he is going to do with the $10.

But now in Week 2, Johnny earns another $100, but this time he has $30 left over. $10 from Week 1 and $20 from Week 2.  Has he not increased his saving?  Of course he has, and I am wrong to say otherwise.  My explanation would have to be that he merely increased his cash balance.  Mises would say that his time preference caused his increase in savings. Keynes would say that his liquidity preference has increased.  Either phrase is better than mine, i.e. that his cash balance increased more than before. That tells us nothing.

So I am definitely wrong.

So from where did my confusion arise?  Well quite simply I inserted my own prejudice about savings into the discussion!  I took how I approach savings and extrapolated that this is savings.  That is incorrect.  Watch this:

I use the "pay yourself first" method of savings.  I earmark funds before I get paid (i.e. I plan it out in advance) and then upon earning the income, I move those funds to a separate account.  That money is then pooled together to purchase an investment.  I consider my act of savings to be complete when the investment is purchased.  In other words, I view savings as something that happens across time and ends with the final investment.

But that's not the way everyone approaches savings.  That's the way I do it.  

In fact, to make myself even more ridiculous, I could say that I earmark funds for consumption by not moving the remaining money into the account earmarked for savings.  

The larger point is that by saying "holding cash is not saving", I am making a judgment that it must be something else.  That is incorrect.  As binve (and Mises and Keynes) said, we do not know if that cash will be investment or consumption in advance.

So as you can see, just because I study economics a great deal, I still make significant errors and you should always cross check my statements, particularly when they seem implausible.

Which leads me back to the only incontrovertibale truth I know: if there is a God, I am not him.  Oh well.  Maybe next lifetime.

Good work on this one, binve. 

David in Qatar

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#53) On July 30, 2011 at 9:08 AM, binve (< 20) wrote:

ChrisGraley,

inflation destroys savings anyway

I don't disagree with that at all.

whereaminow ,

binve scores a point on whereaminow.

Thanks man :) But no. There is no point scoring in my book. This is not a game where we are trying to one-up each other. This really is a discussion. We all have different ideas and we all have different views and approaches to economics. And we are all here to talk and discuss, learn and disagree.

As such, I don't ever want to 'compete' against you (mainly because you would kick my butt :) ). But I always want to discuss things with you particularly when there are disagreements. And even if there is no resolution between us at the end of the debate (and I am very glad there is resolution/agreement on this particular point), I think the silent majority of readers who watch these debates get something out of them.

As always, a very good discussion man!.

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#54) On July 30, 2011 at 1:30 PM, TMFMMTInvestor (86.14) wrote:

@Binve: Great post! Needless to say, from my moniker you can tell I mostly agree with you, even though I still hold some sympathy for my Austrian "commitments" (if you will) of years past.

@ChrisGrayley, who said "inflation destroys savings anyway": Partially true/imprecise. Inflation destroys savings that are not invested in instruments that outperform the inflation rate. If in each subsequent period you always leave your savings in cash deposits or under your matress, yes, you're screwed (unless there's deflation). But there are many alternatives, which is what most people use for most of their savings most of the time. So, inflation only destroys each original nominal amount of savings when not adjusted for type of investment and performance thereof. What fool exclusively (or even mostly) saves in the form of cash or bank reserves when there are so many other options from which to choose? (Not to mention, if you're of the Austrian persuasion, you can just immediately convert earned USDs into gold, right?)

@whereaminow: It is both true that savings is (or can be) a purposeful action (as opposed to an action by default) and must be accounted for in a stock-flow consistent macro model of financial transactions. The two are not mutually exclusive. In my opinion, your error is in analyzing savings only through the prism of human action; the cause of your error is extrapolating your own experience onto your definition.

Scott

TMFMMTInvestor

 

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#55) On July 30, 2011 at 2:16 PM, binve (< 20) wrote:

TMFMMTInvestor,

Thanks! And I feel the same way. There is a lot about MMT that I agree with and there is also quite a lot about Austrian economics that I agree with. David and I have had quite a few disagreements but we agree on things far more than we disagree (it's just that the disagreements get a lot of attention).

Like I said to outoffocus and Frankydontfailme in comments #44 and #46 above:

At one time I also did not agree with or 'buy' [MMT's] arguments. But that was before I understood what they were saying. I really do think that a lot of MMT positions, as contended as they may be, are actually correct. ... MMT has easily the most complete, comprehensive and rigorous description of how a fiat currency floating exchange rate monetary system actually works and the constraints that such a system has (as well as dispelling fictional constraints).

Also, the intro to this post sets up my outlook/approach to economic studies: http://caps.fool.com/Blogs/inflation-and-asset-price/592721, if you are interested. Thanks! .

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#56) On July 31, 2011 at 12:27 AM, ChrisGraley (29.74) wrote:

OK, I'm back in the mix to fit my budget into that equation that we were talking about.

so back to the equation...

(G-T) = (S-I) - (X-M)

Now in my first post here, I cut government spending which is basically the life-blood of the MMT crowd. I cut it by a lot more than any current proposed budget, but believe me I would have cut it 10 times more if I had the means to get accurate budget numbers for the cuts. I worked with what I had though.

Now in the MMT crowd I have just commited the number 1 cardinal sin. I lowered 'G', which is supposed to be our economic savior. I disagree with this point for the following reasons...

1) Government money spent foolishly is inefficient and not accounted for in MMT.

2) The debt created may be self-imposed, but is a debt none the less and both our credit rating and reputation would suffer if we ignored it.

3) The productivity burden that we put on our children will continue to the point where they can no longer be productive enough to sustain our excesses.

4)  If MMT was truly the holy grail of economics. Communism would be the most favorable government. Everyone would be an employee of the State that could spend endless amounts of free money to keep us in prosperity.

5) Common sense. 

OK, so time to fit my big budget cuts into the above equation.

The first thing that pops in my head is to get 'T' as close to zero as possible. After all, if the only purpose of 'T' is to take money out of the system. Why would we want to do that in a hobbled economy? So right away, I would eliminate both the income tax and the corporate tax. The results....

Well consumption should go up, but C cancels out on both sides in this equation, so that point is moot. Since I've already cut spending, the dollar should deflate which should increase both savings and investment. A deflated dollar should increase investment over savings since the return would be added to the extra spending power of the deflated dollar. (Which should create jobs) Also Exports should go up and Imports should go down as the tax burden and administration costs for businesses goes down. (Again this should create jobs)

Now, you can argue that the government could keep the taxes and just create the extra spending to employ extra workers in the public sector, but the problem is that once this is done you have to keep employing them or risk  hurting the economy later. (Major flaw of MMT is that you have to keep feeding the beast.)

For a couple of years now, we have all been wondering where the jobs were. Well, according to MMT, we just have to spend them into existence. It's pretty simple. Everything is free. There is no price. MMT can make us all Billionares, but we'll be the poorest Billionares in the world.

binve, I hope you don't look at this as an attack on you. I just don't believe in MMT or free lunches. 

 

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#57) On July 31, 2011 at 9:42 AM, binve (< 20) wrote:

Chris,

I am going to start with this:

binve, I hope you don't look at this as an attack on you. I just don't believe in MMT or free lunches.

And to say that I understand where you are coming from. I don't take any of these debates personally. We are just people discussing issues from two different viewpoints. 

Now in the MMT crowd I have just commited the number 1 cardinal sin. I lowered 'G', which is supposed to be our economic savior. I disagree with this point for the following reasons..

If you are going to throw around statements, try not to make them blanket statements. MMT does *not* say that G is an economic savior. It all depend on what the other two sectors of the macroeconomy are doing.

If we have an economy running near full capacity, high utilization of resources (including and most especially employment) => low unemployment and a positive current account, then a Governement Budget Deficit (G-T > 0) is exactly the *wrong* position for the government to take. Because all resources are already bid for at the prices where they produce useful economic output. Further increase of net financial assets into that environement does not cause any further economic output to take place it just raises the general price level (across all components of the CPI index). This is what happened with the deficit spending in the 1970s to deal with the oil shock after the high productivity / full employment of the 1960s.

That is very different than what we have today.

That is *very* different from the environment today. We have relatively low utilization of resources, including and most especially unemployment (>9% official employment and closer to 30% underemployment), we have wealth concentrated in a few sectors (especially financials), sluggish economy, low core CPI. This means that the current deficit spending position of the US will not result in demand-pull inflation, which is exactly what we are seeing. Inflation is high for energy and food (which is cost-push inflation, see: http://caps.fool.com/Blogs/the-danger-is-from-the/620224#comment620307), moderate inflation for healthcare (which is another victim of price setting based on policy decisions), low/no inflation for most of the other components, and *deflation* in housing. This very uneven inflation environment is telling us directly that deficit spending is not resulting in demand-pull inflation.

So that means the cutting deficit spending (G-T) > 0 and either going to a blanced budget (G-T) = 0 or even a buget surplus (G-T) < 0 is possibly the worst macroeconomic decision that could be made right now. Because it there are already negative spending tendencies in the private domestic sector and the foreign sector and governement is the only sector that is able to provide net demand through a deficit spending position. Depending on the size of the spending withdrawl it will slow down econonomic activity to sufficiently qualify for a recession or depression.

Like I have said before, everybody wants the government to stop running deficits. It is a *blind mantra*

Deficits = bad. Surpluses = good!

There is no consideration at all to a macroeconomic sectoral balance in that stance, which makes it completely and utterly worthless.

There are times where a Government deficit is bad. (Current account surplus, private sector desires to net spend, and we are near full employment). There are times where a Government deficit is good. (Current account deficit, private sector desires to net save, high unemployment). It all depends on what is happening in the other two sectors of the macroeconomy.

1) Government money spent foolishly is inefficient and not accounted for in MMT.

Chris, this is a 100% inaccurate statement. If you are going to level basic critiques at MMT, you need to do a better job of researching their positions.

The financialization of the economy in the 1990s and 2000s is the worst offense to capitalism, the economy and private sector. Government spending to prop up that sector is a major problem that money MMT proponents discuss. See: 

- http://www.youtube.com/watch?v=TVMaQmDSi9Y&feature=player_embedded (watch this one especially, the first 15 minutes are extremely relevant)
- http://pragcap.com/why-arent-there-more-apples
- http://pragcap.com/the-financial-industry-is-not-the-engine-of-capitalism

to name a couple.

MMT would says that the *net* spending position of the government is required right now to keep demand up while the private domestic sector net saves and pays down debt. But there is absolutely no reason at all why the *composition* of that spending can't change. It could and should. Goverment spending should be focused on economic productive projects, like my energy independence project example.

2) The debt created may be self-imposed, but is a debt none the less and both our credit rating and reputation would suffer if we ignored it.

Yep, just like we should tie our shoelaces together before we run a marathon. It makes no sense.

It is also unconstitutional, but there is no political will to challenge this restriction on the basic operation of our monetary system. So we will continue to run with our shoes tied.

3) The productivity burden that we put on our children will continue to the point where they can no longer be productive enough to sustain our excesses.

100% disagreed. The national 'debt' is nothing more than the net accumulated financial assets of the non-government sector. There are no children or grandchildren involved.

Massive unemployment now would be the negative and persistent legacy that we leave to our children if plans like 'cut, cap and balance' were enacted

4)  If MMT was truly the holy grail of economics. Communism would be the most favorable government. Everyone would be an employee of the State that could spend endless amounts of free money to keep us in prosperity.

Chris, this is another absurd claim. Again, if you are going to level basic critiques at MMT, you need to do a better job of researching their positions.

5) Common sense.

'Common sense' is leading people to make comparions of the US government to a 'household' and to say things like: 'the government needs to tighten its belt while the American people are tightening their belts'...!! Making no recognition to either the fact that the US government is the currency *issuer* and households are currency *users* and so the government can never *save* money (it is like saying an alchemist can 'save' gold, even though they can create as much gold as they need at any time. An alchemist saving gold does neither inhibit nor help the alchemist from creating gold at any time), nor to the fact that the government sector is the only one that can provide the means to allow the private sector to net save in this balance sheet recession via deficit spending.

It is absolutely incorrect macro analysis lead by ideology and 'slogans'. It may sound like 'Common sense', but when logic is applied it doesn't come close to passing the smell test.

For a couple of years now, we have all been wondering where the jobs were. Well, according to MMT, we just have to spend them into existence.

WRONG! Again, another critique without research. If you read Bill Mitchell, one of the things he brings up over and over is how poorly targeted the spending and stimulus has been. Bailing out Wall St. doesn't create jobs, Cash for clunkers doesn't creat jobe, the homebuyer tax credit doesn't create jobs.

The are very straightforward and smarter approachs to spending money for the purposes of creating jobs (and getting productive work out of them). All spending plans have been jobs 'poor', not of the plans have been 'jobs rich'. Governement spending has bailed out Wall St., it has done nothing to help Main St. This is a critique made by MMTers over and over..

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#58) On July 31, 2011 at 11:16 AM, binve (< 20) wrote:

Chris,

I apologize for the tone at the end of my comment:

WRONG! Again, another critique without research.

Not only was that bad form on my part, I really didn't read what you said carefully enough. Apologies.

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#59) On July 31, 2011 at 2:33 PM, ChrisGraley (29.74) wrote:

Binve, but right now we are "spending money into existence" and we aren't getting anything for it.

I apololgise for not putting my "Cardinal sin" statement in better context. I meant that MMT would view it as a "Cardinal sin" in our current economy.

There are times where a Government deficit is bad. (Current account surplus, private sector desires to net spend, and we are near full employment). There are times where a Government deficit is good. (Current account deficit, private sector desires to net save, high unemployment). It all depends on what is happening in the other two sectors of the macroeconomy. 

Ahh, but I would still be running a deficit, but it wouldn't be by spending more money, it would be by taxing less and taking less money out of the hands of business and the consumer. This doesn't mean that my viewpoint on the matter of debt has changed, but I'm trying to fit in the way I would transition out of MMT within the equation that you initially gave. (I was working on a part 3) As far as debt being bad, as long as we have a self-imposed commitment to account for it, it is a burden on our children. That in my opinion is bad. The reason that we created an accounting for our debt was so other countries would honor the debt in the first place. Those countries are having second thoughts about using the dollar as a reserve currency because of our irresponsible use of debt now. If we ignore our obligations, the dollar will no longer be accepted as a reserve currency.

As far as Communism being the perfect fit for MMT, correct me if I'm wrong, but wouldn't an economic system that strives for full employment, management of resources, and a diminished power of currency fit into that political system best? It certainly wouldn't fit with Capitalism if money were free and therefore powerless.

Last, I'll concede that perhaps numerous MMT advocates have complained that money was not spent properly, but  if the money is free, it shouldn't matter. We can just spend more. In fact, why don't we just spend hundreds of trillions and get this economy back on it's feet in a couple of weeks. We can always take it back out of the system with taxes later.

Which brings me back to "I don't believe in free lunches." 

 

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#60) On August 01, 2011 at 2:55 AM, binve (< 20) wrote:

Chris,

Please see this post: http://caps.fool.com/Blogs/why-deficit-spending-and/621467

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