Bill Mitchell has a good summary of how a modern monetary system works in general terms, hence the analogy of government as a big firm or household is false. It begins here:
The statement “recharging the fiscal batteries” which is sometimes expressed in terms of “building a war chest, or in negative terms as “running out of bullets” etc is commonplace in the public debate.
I hear expressions such as these used every day by politicians, commentators, academics, and citizens.
It is a demonstration of how ill-informed the public debate really is and why when it comes to exercising our obvious choices those choices do not seem to be so obvious to most of us.
It is a total fallacy to suggest that the government has some stockpile of “spending capacity” that it has to recharge and buildup just in case it needs to “turn the lights on” in the future.
The fundamental principles that arise in a fiat monetary system are as follows:Read it at Bill Mitchell — billy blog
We do have a choice – we just need to identify it
by Bill Mitchell
This is the basis of MMT as a general theory of modern money.
24 comments:
Why do people buy government bonds even when they have a yield of zero?
Is there any possibility that people might for some reason simply refuse to buy government bonds, say at some point in the future?
Comments needed, thanx.
"Why do people buy government bonds even when they have a yield of zero?"
Because they want a highly liquid, safe parking place for a gob of $. T-bills are the most convenient way to store large amounts of USD.
"Is there any possibility that people might for some reason simply refuse to buy government bonds, say at some point in the future?"
Not "at some point," like there would suddenly be no one of the other side of the market. Even if there were no private takers, the Fed could step in as buyer of last resort to keep the yield curve where it wants it, since its ability to exchange reserves and tsys is unlimited.
The bull market in tsys will inevitably come to an end when the Fed decides to raise rates after a recovery begins. How fast the market will move is uncertain at this point. It will depend on expectations about Fed rate setting and how the market will react to it.
Here's a long-term chart of 10 yr bond rates…
https://www.evernote.com/shard/s82/sh/5f31a42d-6c25-4e93-aed4-45769021e334/adb579d644b9753772c392c6e9cbe186
…looks like rates are headed towards zero over the last 30 years.
About the same period of high deficits.
Correlation?
Thanks for sharing that chart, paul. (Also, it's good to know that Evernote works for that purpose.) That chart is good to show to those who claim that the Fed is somehow contributing to deflation by keeping interest rates too high. The chart makes clear that that is an absurd claim...
"Even if there were no private takers"
Under what circumstances do you think there might be no takers?
Also, isn't the Fed currently banned from buying bonds directly from the Treasury?
Also, can the Fed control government bond yields and interest rates at the same time without paying interest on reserves?
"Also, isn't the Fed currently banned from buying bonds directly from the Treasury?"
Bonds aren't auctioned directly into the market but to the primary dealers who then sell them into the market. The PD's expand and contract their inventory iaw demand. The Fed can buy from PD's after the auction, and during QE often did just that, it seems. So not being able to purchase from Treasury is not a meaningful restriction of the Fed authority.
"Also, can the Fed control government bond yields and interest rates at the same time without paying interest on reserves?"
As long as it can adjust the availability of excess reserves to hit is target rate by OMO. If it could not, then it always has IOR available.
Is it possible or conceivable that the primary dealers might refuse to purchase government bonds?
"Is it possible or conceivable that the primary dealers might refuse to purchase government bonds?"
If you agree to be a primary dealer, you agree to play the game or else.
The government doesn't need primary dealers, primary dealers need the government. It's money for nothing.
The government has created lots of money without selling bonds to the public, otherwise it wouldn't be possible that there is roughly $5 Trillion in NFA cash in the non-government.
Did $5 Trillion exist in 1776? 1913? 1942?
If the government can ignore the constraint at will how much of a constraint is it?
Isn't that cash produced when the Fed buys Treasuries?
"Isn't that cash produced when the Fed buys Treasuries?"
Re a normal sale where the Treasury swaps bonds for dollars the operation removes X dollars from the economy, swaps them for bonds and spends X new dollars back in.
The result after the bond sale is that bonds held by the public increases by X and net dollars in the non-government remain unchanged.
No matter how many times this cycle is repeated the quantity of dollar NFA's cannot change.
In order for dollar NFA's to increase the Fed must buy bonds (indirectly for now through private dealers) from the Treasury.
I believe currently about $5 Trillion of the National Debt™ is held by the Fed.
That's why I say there is about $5 Trillion dollar NFA's in the non-government.
The second part of this description is my own conclusion based on reverse-engineering.
It's mathematically impossible to increase dollar NFA's in the non-government by selling bonds to the public.
That's what I meant.
that 5 trillion can't all be in reserves and cash though, can it?
"That's what I meant"
Ah, OK. Sorry.
"that 5 trillion can't all be in reserves and cash though, can it?"
See here: http://www.treasurydirect.gov/NP/BPDLogin?application=np
Seems to me that Intra-governmental holdings would represent how many dollars cash exist in th enon-government but that is only my assumption.
I would expect that to be the upper-limit though.
Reserves don't really enter into non-governmnent accounting. They reside on the other side of the boundary.
Only funds that result from transactions based on reserves, like credit, enter the non-government zone.
Inter-bank settlements are not non-government accounting transactions in my view. That transaction realm is on the government side of the boundary.
In other words, to an observer in the non-government, reserves don't exist in our accounting constructs.
Again, this is from a math perspective, not a semantic one.
Paul: "It's mathematically impossible to increase dollar NFA's in the non-government by selling bonds to the public."
"It's mathematically impossible to increase OR DECREASE dollar NFA's in the non-government by selling bonds to the public." I.E. deficit spending increases NFA "saved" as tsys, while the $ amount of NFA held by non-government remains the same.
So deficit expenditure results in a net increase in dollar denominated NFA held by non-government as tsys.
The injection is not therefore neutral because the savings are extracted immediately from those desiring to save while the deficit expenditure flows through the economy.
The deficit spending changes the distribution of $ NFA, and those changes result in flows that would not otherwise have occurred, which involve both the creation of new real assets and also some change in ownership of previously existing assets.
These changes have specific effects on the economy, which is why fiscalists favor fiscal over monetary policy. I.E. fiscal can be tightly targeted while monetary policy cannot, and primarily affects asset prices, which often favors the top and doesn't materially change the economy very quickly. For example, monetary policy affects housing and there is a significant lag time to economic effects to be felt.
Moreover, with commodities being an asset class now, monetary policy can affect commodity prices through leverage. Fiscal transfers go to the bottom where they are spent immediately, increasing NAD and spurring investment in response thereby increasing NAS as well, which translated into higher GDP (growth) and employment.
@Tom,
Exactly. A more complete description obviously. I just focused on the basic arithmetic to answer Anon's questions. I love questions.
As I've always said, if the math doesn't work the argument won't.
I leave you guys with the gift of writing to pretty it up for public consumption. :-)
Yes, there is considerable confusion about this, even among some economists, it seems.
The math is simple and straightforward, and the economic effects are obvious once the operations are correctly grasped.
Once could say that if an operation just changes the composition of NFA without changing the amount, then it is monetary. It an operation changes the amount of NFA, then it is fiscal. Most of what the cb does is monetary, having to do with interest rate maintenance without affecting NFA amount, but not all. For instance, payment of IOR increases non-govt NFA and so it is fiscal. Fees that the cb charges banks for services withdraw NFA from non-govt and are also fiscal in this sense.
"…payment of IOR increases non-govt NFA and so it is fiscal…"
Yeah, and in my view not very useful fiscal either.
It's almost like creating mooney directly into savings, bypassing spending.
I suspect most interest paid on bonds has the same characteristic.
I look at accumulated wealth as money lost to the economy.
If we printed $10 Trillion and sent it to the moon would that cause inflation?
Obviously there is something after printing that can cause inflation, besides the mere existence of the new dollars.
If we did send $10 Trillion to the moon it might motivate some to try to find a way to get it.
They might even hire a few people…
It's a simple arbitrage. PD's can borrow at the repo rate, which is normally below the fed funds rate, and then invest in Tsy's. And then they can fix the borrowing rate via swaps. So, if the Tsy rate rises much beyond the PD's borrowing cost (or anyone else's), it won't stay there for long.
Scott, I just read your paper "interest rates and fiscal sustainability". I'm a total amateur so some of this stuff is hard for me. I didn't understand why there is necessarily a limit on 30 year government bond yields that is anchored to short term rates set directly by the Fed.
Could you clarify whether the conclusion was that any size deficit is sustainable so long as interest rates remain below the rate of growth?
"PD's can borrow at the repo rate, which is normally below the fed funds rate, and then invest in Tsy's"
Is there a similar situation in other countries, like the UK?
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