When politicians talk about the importance of balancing the budget, about preventing the U.S. from becoming another Greece and about weaning ourselves from Chinese lenders, I get a bit jumpy.
Statements like that suggest a lack of understanding about how a sovereign currency works, and it identifies those politicians as people who could lead us into a spiral of uncontrolled deflation.
Inflation is not my first preference. It sickens me that a ride on the New York subway, a U.S.-made Pendleton wool shirt, and a private college education all cost about 10 times what they did when I was 18 (to name a few homely examples). But I don’t necessarily want to see the value of my house or my investments drop in half next year.
Which is exactly what a sudden, bracing return to “sound money” and “balanced” federal budgets would mean. Anyone who tells you otherwise is either ignorant or trying to fool you.
Conventional wisdom says that the stock market would soar if people invested in corporate paper instead of government paper, and that less federal spending means more spending on Main Street. According to that line of thinking, the U.S. monetary system is a zero-sum game.
But, after three years of reading about our system, I no longer believe that it works that way. Let me channel, for a few paragraphs, the ideas of Warren Mosler, Stephanie Kelton and other proponents of Modern Monetary Theory—which is not a theory so much as a clearer understanding of the way our financial system actually functions.
As everyone knows, local banks create money out of thin air when they grant lines of credit. We seem to agree that that’s not a bad thing—as long as you don’t overdo it. As everyone may also know, the banks’ bank—the Fed—also creates money out of thin air. That’s not a bad thing either—as long as you don’t overdo it.
Sure, we’ve overdone it. For decades. But now is not the time for the Fed and the Treasury Department and the U.S. Congress to suddenly under-do it. Yes, we’re collectively sitting on a somewhat rotten limb. But we shouldn’t necessarily saw off that limb. And not on the basis of misconceptions.
One of the myths in our politics and our economy—a myth that both presidential candidates seem to honor, more or less—is that the private sector funds the government through taxes that are, as some people like to put it, “confiscatory.”
Not so. Under our financial system, the federal government funds the private sector by spending money into existence. Then it reverses the process and extinguishes part of the money by collecting federal taxes.
As the investor/writer Warren Mosler puts it, “The funds to pay taxes and buy government securities come from government spending.”
There’s a related myth that we’re in the hole to Chinese lenders. Not true. We aren’t running up a suicidal credit card balance with the Chinese. We pay dollars to the Chinese for inexpensive goods. With some of those dollars, the Chinese buy U.S. Treasuries. The Chinese, in effect, hand us the money with which we will repay them.
When I chat with my neighbors over the back fence, they often segue from complaining about federal taxes to complaining about local property taxes. They don’t see the fundamental difference between the two. Local taxes are the dues we pay to live in a community and use public services. Local governments don’t issue the currency that we use to pay them.
But our federal government, by definition and design, is different.
Financially, it operates counterclockwise to the local government and the private economy. As the chart from economist Stephanie Kelton on this page shows, when the federal government runs a deficit, the private sector experiences a surplus. And when the federal government runs a surplus (as it did at the end of the Clinton administration) a private sector deficit soon follows.
Many people will find it difficult to accept the notion that the run-up in asset prices over the past 30 years—all that “wealth creation” that Boomers plan to retire on—was largely financed by the enormous run-up in federal debt over the past 30 years.
Believe it. It can’t be otherwise. Every debt has a corresponding asset. And vice-versa. If we balance the budget and shrink the federal debt, we shrink everyone’s assets.
Don’t get me wrong: The current monetary situation isn’t healthy. We’re merely enjoying the false health of a well-supplied addict. But I, for one, would rather not eat cold turkey this Thanksgiving.
© 2012 RIJ Publishing LLC. All rights reserved.
Barofsky (left), who now teaches at New York University, said that Treasury Secretary Tim Geithner and the other Goldman Sachs alumni who ran TARP treated him and Ms. Warren as though they were “stupid” because they didn’t have financial institution experience. The bankers also tried to turn Barofsky and Warren against each other, he said.
Grice (right) quoted Keynes on inflation: “By continuing a process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some.”
O’Shaughnessy’s three-part formula calls for investing on the basis of Quality (Companies with strong financials), Value (Underpriced companies); and Yield (Companies that pay a reliable dividend). Most investors, he noted, do the opposite. Even during the stock market’s worst 20-year period, from 1929-1949, stocks generated an average annual total return of 6%, he said. 
Indeed, the recession may not actually be over, opined Michael Belkin, a financial market strategist and author of the Belkin Report. Despite the healthy-looking stock market, he believes we’re slipping back into a recession. He advises investors to short the broad market, get out of technology and industrial materials, short Starbucks, and load up on consumer staples, health care, utilities and financials—in that order.
The book’s authors—Noonan is managing director of capital markets at Russell Investments and Smith is a consultant and former Russell managing director—detail a methodology, linked to ideas published several years ago by their former colleague, Richard Fullmer, that applies the institutional framework for measuring pension liabilities to individuals.
In a 50-year period, the number of U.S. households has more than doubled, rising from 53 million in 1960 to almost 117 million in 2010, a 120% increase. At the same time, the number of married couples with children actually slightly declined, from 23.9 million to 23.6 million — not a huge number change, but a notable change in direction for the married population.
