Monday, June 25, 2012

Ten Points Every Citizen MUST Understand About Modern Currency


1) Where currency comes from, and where it goes.
Our relationship to money changed fundamentally within the last century, as we changed from a gold-standard to a public-spending-standard. Modern sovereign currency is first created ONLY via public initiative, as public spending and/or public denomination of privately lent assets. Taxes define citizen responsibility to their country, and the initial public spending creates the currency citizens need in order to pay taxes. Given whatever is not clawed back as taxes (nominal “deficit” spending) constitutes net private financial savings, which residents may use to drive private innovation. Modern currency is simply bookkeeping, to coordinate national capabilities.  (see note "a")

2) How currency is utilized.
Like all public services, currency use changes with context. In small populations with slowly adapting economies, it once seemed plausible to use commodity currency as a stable store of value. However, in large, dynamic economies, modern “fiat” currency is overwhelmingly a bookkeeping unit for denominating constantly changing transaction chains. The static value of dynamic modern currency must float, and is therefore becoming more negligible as a stable store of value. It is useful to have some currency credits on hand, for operational agility, but as a primary savings vehicle fiat currency is less useful every year in a growing economy. (see note "b")

3) Sovereign Currency Serves Public Purpose.
The purpose of any nation and government is to maximize the general welfare of it’s people. To explore emerging options citizens must understand the currency they use to organize coordinated actions. Modern currency supply must automatically grow to denominate any and all transactions that an organized electorate agrees upon. National goals typically include sustainable economic growth, security, civil order, public health, adequate employment rates, smooth price changes, policy fairness, etc, etc. Policies which achieve these goals are productive policies. (see note "c")

4) Fiat Currency Budgets are Set by Fiat Policy.
Individual and national currency budgets are completely different. Tax liabilities induce citizen service in exchange for currency units. Subsequently, populations distribute currency in order to efficiently enable member contributions to public purpose. Nations, as currency issuers, manage real input, output and capability budgets, and create sovereign currency purely for internal bookkeeping, as a method for provisioning the government and the people. Currency users, on the other hand, use that monopoly currency as an accurate proxy for local budgets. (see note "d")

5) Dynamic Currency Supply Serves Dynamic Public Purpose.
How much currency does a nation need? It’s a function of population size and the number of transactions the people may want to make while pursuing Public Purpose. It is extending of established credit that creates the funds called bank deposits. There is no constrained currency supply that is “lent out,” as occurs when a nation is on a gold or other “convertible” currency standard. (see note "e")

6) Currency Buying Power Must Float - to Enable Agile Public Purpose.
The value of total teamwork dwarfs the value of subgroup or any static asset. To pursue that return on coordination with optimal agility, the value of our currency to our nation must float. The best way to manage currency exchange value is to manage public initiative. (see note "f")

7) Revenue and Deficit are Obsolete to a Fiat Currency Issuer.
For modern currencies, fiat revenue and deficits have become entirely NOMINAL. Modern currency is simply cheaper than attaching spreadsheets to every citizen. We needn't run out of spreadsheet columns, hockey leagues needn't run out of points, math classes needn’t run out of numerals to use, and we needn't ever run out of our own, fully fiat currency. (see note "g")

8) Monetary Policy is also Obsolete for a Modern Currency.
Once currency supply is allowed to float automatically, subsequent to policy constraints and local credit ratings, then there is little or no reason to tinker with inter-bank interest rates separate from credit ratings. Also, Treasury Securities since 1933 have no effect on currency supply. (see note "h")

9) Foreign Currency Reserves Are Not an Overwhelming Consequence to a Sovereign Currency Issuer (Fx).
We needn't much care how much of our currency other countries hold. Foreign currency reserves only affect foreign exchange rates. (see note "i")

10) In a Modern Economy, Fiscal Policy Dominates All Currency Issues.
A growing economy is required to distribute enough modern, fiat currency - by fiscal spending - to do 3 things.

A) provide residents enough income to establish reference allegiance, by paying taxes set in that currency;

B) leave enough currency (i.e. "deficit" spending) so that residents may advance public purpose by:
i) efficiently denominating all necessary dynamic transaction chains of goods & services;
ii) hoard enough currency to enable distributed agility (nominal savings).

C) do NOT allow competitive social classes to over-tax and under-fund one another.  That only weakens the aggregate. (see note "j")


[An extra point, as a corollary:
11) A nation must put priority on managing the stability of internal transactions among it's own citizens, and make secondary the international exchange rates between national currencies.
International exchange rates are of importance only to those who trade goods, services & currencies internationally. It is they who must individually take on the personal liabilities attendant to such trading. Any attempt to manage international currency exchange rates, as opposed to letting them float, represents discriminatory action arbitrarily favoring some citizens - traders - at the expense of others.
  Hence, the Fed's propping up foreign currency exchange rates via currency swaps at fixed rates can probably be challenged in court as un-Constitutional. The Fed presumably has no right to be a selective currency trader outside policies of the US government and US public purpose.]


Notes:

a) Currency. Archaic currency supplies were often but not always based upon key commodities, such as jewels or precious metals. Centuries ago, nations used commodity-restricted public spending standards, with public initiative arbitrarily constrained per stored commodities (e.g. gold). All countries now use simpler public-spending standards, recognizing that public initiative cannot be limited by any commodity. Currency has dramatically evolved from constrained to more adaptive standards, with significant implications.

b) Currency use. Saving dynamic fiat is counter-productive, since it decreases current output and reduces future assets. Modern, sovereign currency is ultimately a metric for organizing common citizen effort. A depreciating asset like the proverbial prodigal children, most fiat currency should be put to work, not held idle. Fiat currency vs gold-std currrency are like army ant policy vs snail policy. One scales, the other does not. National prosperity today depends upon public initiative and agility, not upon arbitrary currency models. Populations coordinating dynamic initiative by fiat can run circles around those clinging like snails to static models of commodity value.

c) Serving Public Purpose. Given too little currency, the Output agility of an economy will be arbitrarily constrained. Just-in-time, unlimited, fiat currency supply removes currency as a limit on Output growth. Too much circulating currency can also reduce Output by encouraging excessive, non-productive activities. Taxes and interest rates on access are used to reduce currency supply. The ONLY thing a modern currency is guaranteed "convertible" to upon demand (collectively, not even personally) .... is national initiative. $US international exchange value is based entirely upon confidence in US initiative.

d) Currency Budgets. National budgets are formally denominated terms of public initiative, and “balance” only when nations have no net growth. Sub-national budgets are formal measures of sub-population interactions with the rest of a nation, as measured by currency throughput. Population subsets seeking Fx stability between nations are, like stockholders, risking citizen benefits and responsibilities for commodity measures. Nominal, national currency budgets have no relevance to sub-groups accounting for local responsibility.

e) Currency Supply. If a hockey leagues decides to double the number of teams playing, do they worry about running out of either hockey pucks or points? No. During play, does it matter what happens to pucks? Yes, but only symbolically. Currency and points do not denominate all the efforts prized by electorates. Overall, stakeholders track individual, team and league initiative - similar to the plus/minus transaction ratings of players and teams throughout games & seasons. If a hockey leagues decides to double the number of teams playing, do they worry about running out of hockey pucks or getting enough points to put on scoreboards? No. During play, does it matter what happens to pucks? Yes, but only symbolically. Currency and points do not denominate all the efforts prized by electorates. Overall, stakeholders track individual, team and league initiative - similar to the plus/minus transaction ratings of players and teams throughout games & seasons.
  National budget balances for a fiat currency matter no more than how many pucks or points are used during a hockey league season. Pucks and points are used only as the means and measures for organizing team efforts. In a fiat currency system, it no longer matters whether a nation balances a purely nominal currency budget which is used only to instrument transactions. However, neither a league or a nation can grow efficiently if there are not enough pucks, points or currency available to allow all necessary transactions to quickly occur. If a league lets the supply of hockey pucks get too low, or can’t put points on scoreboards, aggregate demand from stakeholders may melt away and take years to rebuild. Too many pucks on the ice or points on a scoreboard can distract and confuse everyone. Ditto for modern currency.


f)  Stable Buying Power. The whole purpose of a fiat currency is to allow currency volume and value float in response to agility of public initiative. If a dynamic population can transform itself over night, so that horse buggies or cars of today are not needed, then the changing prices of all products should reflect the relative importance of the product. Given that a growing economy needs a growing currency supply, the solution is to increase most incomes as a function of currency inflation. That way, the currency can float while welfare of the people can be automatically stabilized.
Modern currency reserves do not guarantee stable pricing of ANY asset – only smoothly floating prices. In contrast, public initiative sets the ultimate value of a national currency.

g)  Fiat Revenue & Debt. Granted, international exchange rates can fluctuate, based upon demand by international traders. IF that ratio matters to enough co-citizens it is best managed via national initiative, not by constraining use of hockey pucks or currency.

h)  Monetary Policy. The entire purpose of Treasury Securities is to drain virtual Banking Reserves from the Federal Reserve bank’s double-entry accounting system. Treasury securities are issued after currency is issued and are NOT national debt.

i)  If a population desires different Fx rates, the best tool is national initiative, not confusion over allegiance to international traders vs nation. Modern currency does NOT store intrinsic value. If robbers instantly stole all cash throughout the USA - leaving behind only empty ATM machines - citizens could instantly distribute a new currency and take the initiative to find alternatives to imported products.
  Unless the UN can impose a world currency [don't hold your breath], every nation must place priority on managing the stability of internal transactions, and let floating Fx rates actually float. Exchange rates are of importance only to international traders, who must individually take on the liabilities attendant to such trading. Manipulating currency exchange rates, as opposed to letting them float, represents discriminatory action arbitrarily favoring some citizens – international traders - at the expense of others.
  The purpose of collective, civil government is to protect REAL aggregate demand and national capability. No subset of our economy should ever be allowed to hinder net aggregate demand simply for fear of not balancing purely nominal currency budgets. Manage public initiative, aggregate demand and national capability, not virtual score balances. Exactly how much money we do or don't print matters little, other than that we should never have so little circulating that people can't easily transact business (e.g., deflation), nor so much that it becomes a distraction (e.g., inflation) - nor confuse buyers & sellers with changes occurring too frequently. It would be better to track only too-little/too-much ratings, say inflation, rather like plus/minus ratings in sports leagues. The NBA doesn’t much care if 5000 more or fewer points are used year to year, and neither should we care if our growing economy uses more currency yearly. In fact, we should be worried if it doesn’t!

j) Rather, optimize national success by ensuring the quality and tempo of distributed decision-making. A resilient nation enables the unpredictable capabilities of sexually recombinant residents, and selects from their talents as contexts unfold.

19 comments:

Doug said...

Superb! Next, please an equally lucid analysis of how this system is consistently misunderstood--knowingly or otherwise--to create policy that benefits the 1%, to create conditions of accounting control fraud, to corrupt congress, to make the tax and banking system almost incomprehensible to the layman, etc.

y said...

"Foreign Currency Reserves Are of No Consequence to a Sovereign Currency Issuer"

You're assuming a soverign currency issuer never has to buy imports in foreign denominated currency (oil, for example).

You're also assuming that exchange rate movements are never a problem, and never ever have to be managed with the use of foreign reserves. Isn't that a bit of a purist, naive assumption?

Roger Erickson said...

@Y Yes, being a bit of a purist, by issuing a challenge. As Mosler says, if all other populations disappeared, would suicide be our only option?

Point is that we always have options. Exploring them instead of assuming we "MUST" do something some way is what always pays off.

Our ultimate goal is to maximize ability to generate adaptive rate - so that we'll always be able to meet any novel demand. That requires practice at adaptation, whether you're a sports team, an electorate, or a social species.

It's also naive to think otherwise.

Practiced naivete is an art, not a science. :)

AndyCFC said...

"You're assuming a soverign currency issuer never has to buy imports in foreign denominated currency (oil, for example)"

Isnt that wrong though y, not the issuer thats buying the oil it would be a company, they would just go and do an exchange into the currency needed and there would be someone else on the end of that trade? I "buy" in foreign currencies all the time but all we do is just go and buy the currency and exchange for GBP.

Exchange rate would be a different subject would it not?

y said...

Roger,

economics is supposed to be about the real world though.

Andy, yes mainly.

Andrew said...

y,

In the real world we have floating exchange rates. The currency issuer can buy as much oil as the seller is willing to exchange for his currency.

AndyCFC said...

Lots of confusion about that Y... im in the only industry (AFAIK might have changed though) that actually prices in SDRs, doesnt mean we have a debt in SDR as thats impossible.
Pricing and settlement are quite different.

Adam1 said...

Y,

In any monetary system you have that has more than one currency something has to float. A nation that is fully sovereign in its fiat currency has the MAXIMUM policy space to ensure full employment when it chooses to float the currency on the forex market. Yes, that does open it to import inflation do to continued currency depreciation - but the real question is what is the proper domestic policy response? High unemployment to reduce import inflation? Or something else?

Brazil, and many nations as you pointed out, has been (in the past) a chronic importer of inflation because of chronic oil (and other) imports. Over the past twenty or so years Brazil moved to energy independence via sugar cane ethanol.

It has now reduced its import inflation exposure (via investment and research) - it could have just chosen chronic poverty and higher unemployment to keep its exchange rate fixed/higher. Which choice was better?

John Zelnicker said...

Roger -- Great piece. I've already sent it to a friend. Something to keep for reference. I appreciate the different perspective you have brought to this blog. It has been very enlightening. Thanx.

Tom Hickey said...

Y' "economics is supposed to be about the real world though."

Not really.Theoretical economics uses simple models to gain understanding of fundamental economic principles. Most undergrad econ is at this level.

Applied economics is directed at policy making and at that point it becomes a "moral science" in Keynes's terminology. Economics is not and cannot be predictive at the current state of human knowledge about cognation and behavior, for example.

Roger Erickson said...

Y' "economics is supposed to be about the real world though."

Best laugh all day, Y!

Another perspective is that we have oil options.

1) harvest more oil/gas/coal/nuclear domestically.

2) ~70% of oil is used for transport?
so alter tax structures so that everything needed is produced at least semi-locally. That transfers most profits from Big Oil to local labor & ingenuity. We did that too during WWII.

Point is that there are ALWAYS more options. Who the hell is "economics" to say we can't do anything we set our minds to?

Asking economists if we're capable of something, or can afford it, is like asking flatworms whether they can evolve into primates. Both classes have no freaking idea what their species is capable of. All they can say is no - the static answer in a totally dynamic world.

Economics is useless is it cannot adequately sample testimony from all existing professions. ps: it can't do that yet, or won't

Tom Hickey said...

Good points, Roger.

Proof is that non-financial firms do not have chief economists and not much economics is taught in business schools. It's all theoconomics, as far as business is concerned.

y said...

I don't understand the anti-economics thing. MMT is economics right? And it's supposed to make sense because it helps to explain the real world and what is possible within that real world right?

Tom, pretty certain those fundamental economic principles have to relate to the real world in some way or else they are wrong?

Roger Erickson said...

@Y "I don't understand the anti-economics thing."

No one's against economics per se. Many are against economists claiming they have non-zero predictive power.

MMT is just economics kept in better touch with evolving operations. If you have to ask why most economists don't stay up to date with real operations, then you're answering your own question.

What is it that most economics has against reality?

Roger Erickson said...

@ Doug .. "Next, please an equally lucid analysis of how this system is consistently misunderstood--knowingly or otherwise--to create policy that benefits the 1%, to create conditions of accounting control fraud, to corrupt congress, to make the tax and banking system almost incomprehensible to the layman, etc."

We have to talk to anthropologists, etc about that. Has to be system dynamics, of course.

Basic point is that there is a field called the "anthropology of credit" - long neglected, but growing. Economics is not the only profession ~100 yrs or more behind peak applicability.

In all cultures, the most pressing & sensitive topics are typically made taboo - to be discussed only with care, by "professionals." That's the price we pay while trying to get along.

As old families, clans, religions, ethnicities, etc, etc try to meld, the old class/clan competition continues & only gradually dies out.

Families/clans/classes all compete by trying to under-fund & over-tax feared competitor subgroups. That's inevitable.

Not knowing when too much success is killing the golden goose, is actually our chief problem.

That's why you hear "successful" people lament that "you let me do it" and then "nobody stopped us."

Ye Olde "Innocent Fraud" is very real, and always in transition between full and zero innocence. No one is without that sin. We all have regrets, some just more than others, and later than others (if at all). Which only means that there's a deeper systemic fraud, also not entirely innocent.

If we don't keep our education & training programs attuned to group success, we'll get exactly what we eventually regret.

Roger Erickson said...

@Tom
"Proof is that non-financial firms do not have chief economists and not much economics is taught in business schools."

Exactly. REAL economics is practiced through alliances, standards bodies, OpenSource, Statistical Process Control, etc, etc. REAL economics is largely not denominated in financial metrics, but rather in operational metrics.

Fiat finance is just the communication noise thrown off by ongoing operations? Unless it tries to get in the way, that is. Remind me why we're letting that happen? Oh yeah, people say it's so obvious we don't have to teach students it's obvious!

Go figure.

Garbage into students ... eventually policy garbage out.

Tom Hickey said...

I don't understand the anti-economics thing. MMT is economics right? And it's supposed to make sense because it helps to explain the real world and what is possible within that real world right? ***Tom, pretty certain those fundamental economic principles have to relate to the real world in some way or else they are wrong?

Not in the same predictive way as in natural science. Applied econ is a lot looser. E.g., the I dea that the cb can micromanage the economy using interests rate sting, QE, etc. to change the monetary basis is a simply not the case. Do any of the natural sciences rely on "expectations" or "confidence"?

Moreover, it is generally thought that scientific knowledge is universal. There are no substantial arguments in the natural sciences when something is established. There are no heterodox paradigms challenging the predominant one.

The point is to acknowledge the differences between natural and social sciences and admit the limitations of social science, including economics.

The is also the question of foundations. The foundation of economics is built on assumptions. Assumptions are given, i.e., stipulated. Different approaches are based on different assumptions, so different foundations.

What are the agreed upon criteria for analyzing assumptions? Is there any in econ? If there are, why there different foundations? Can't they be analyzed?

y said...

Do any of the natural sciences rely on "expectations" or "confidence"

Maybe not but the social sciences, and psychology (which is fast trying to become a natural science) do have such concepts and try to use them to predict outcomes.

If the theory is wrong, throw it out. That's the only way science can progress.

Calgacus said...

Y, you're quite right, generally so. There isn't much to understand about "the anti-economics thing."

The idea that economics & economists can't ever make decent predictions is quite wrong, theoretically & empirically.

The static value of dynamic modern currency must float, and is therefore negligible as a stable store of value. is wrong, a non sequitur. "Dynamic modern currency" is at the least, millenia old. "Modern" "fiat" currencies, by not arbitrarily selecting one commodity as a totem, have more freedom for money to be a "stable store of value". Price stability, the "stable store of value" should increase, not decrease, in MMT-guided economies. Even the inflationary kind of half-Keynesianism used in the old days was no worse at fighting inflation than neoliberal nonsense. Unemployment is inflationary.

The difference between MMT/Keynesian/Institutional economics & modern (of the past 40-50 years) mainstream neoclassical is not really "different assumptions." Basically, mainstream is just garbage, its practitioners a few charlatans and their many lazy dupes. Mainstream definitions do not and are not intended to constitute, describe or correspond to any reality, but to provide a pretense of knowledge in order to arrive at predetermined conclusions that serve a particular class. Mainstream "economics" is nothing like science, nothing like mathematics. Philosophy of science is not relevant to it.

While later qualified, Roger's "Foreign Currency Reserves Are of No Consequence to a Sovereign Currency Issuer" is a very bad, wrong way of saying things. It's the sort of (not)MMT that Ramanan is quite right to criticize. Where Ramanan is wrong is thinking that this is "MMT".