An economics, investment, trading and policy blog with a focus on Modern Monetary Theory (MMT). We seek the truth, avoid the mainstream and are virulently anti-neoliberalism.
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Thursday, August 9, 2018
Lars P. Syll — Abba Lerner and the nonsense called ‘Ricardian equivalence’
“According to Abba Lerner, the purpose of public debt is ‘to achieve a rate of interest which results in the most desirable level of investment’.”
This is another of those statements that is nonsense because it is not universally valid.
The purpose of public debt depends on the nation involved. The late Abba Lerner never understood this. Lerner always thought (falsely) that the U.S. government borrows its spending money.
Here’s the deal…
If your nation has a trade deficit and / or your nation’s currency is not accepted outside your nation’s borders, then the purpose of public debt is to get foreign currency with which to buy imports.
However, if your nation has a trade deficit like the USA, but its currency is accepted worldwide (like U.S. dollars) then the purpose of public debt is…
[1] To make sure that dollars continue to be accepted worldwide. China has over 4 trillion U.S. dollars in foreign currency reserves. The Committee on Foreign Investment in the United States (a multi-agency group) decides what U.S. assets China can and cannot buy. Therefore China invests its trillions of US dollars by depositing them in Fed savings accounts (i.e. by purchasing Treasury securities that pay interest). If China could buy nothing with US dollars, or if China could not put Chinese dollars some place where they “earn” interest, then China would not export to the USA in exchange for US dollars.
[2] Fed savings deposits (the so-called “national debt”) are reserves. Since reserve dollars are locked up in Treasury certificates, they cannot be spent like regular money. However the aggregate total of deposits (i.e. the so-called “national debt”) stabilizes the U.S. financial markets. That is, Treasury certificates can be sold or traded, but not spent like regular money. Therefore Treasury certificates are used as collateral for financial speculation. U.S. Treasury certificates are a far more secure investment than is any stock market or commodity market.
“According to the Ricardian equivalence hypothesis, the public sector basically finances its expenditures through taxes or by issuing bonds, and bonds must sooner or later be repaid by raising taxes in the future.”
The Ricardian hypothesis is FALSE.
(Lars P. Syll calls it “sheer nonsense.”)
The U.S. government funds itself by creating money out of thin air, not by borrowing its own money or by imposing taxes in its own money.
What about nations that cannot create their our currency out of thin air, or which can create their currency, but their national currency is not accepted outside their national borders?
In that case, national governments sell bonds in exchange for foreign currency. Tax increases in the nation’s own currency are irrelevant, since domestic tax revenues cannot be used to pay foreign creditors in foreign currency.
Full employment can be maintained by printing the money needed for it, and this does not increase the debt at all. Abba Lerner
This is called Overt Monetary Financing (OMF). An objection to OMF is that the Central Bank then has no corresponding assets with which to defend the currency (by selling those assets to decrease the amount of fiat extant).
However, a Central Bank need own no assets at all to defend the currency IF it has the power to levy negative interest on fiat account balances there – but not on individual citizen accounts* below a certain deposit limit such as $250,000 in the case of the US.
*Not that individual citizen accounts are yet allowed at Central Banks but they should be as part of fundamental reform.
I agree with Konrad. While I agree with many of Lerner's ideas, his claim that bureaucrats and economists might have a better idea as to what the optimum level of interest is than the market is very questionable. I assume Warren Mosler agrees with me there because he and Milton Friedman advocated a permanent zero interest rate regime, which is essentially a regime where government and central bank take no steps to influence interest rates.
“According to Abba Lerner, the purpose of public debt is ‘to achieve a rate of interest which results in the most desirable level of investment’.”
ReplyDeleteThis is another of those statements that is nonsense because it is not universally valid.
The purpose of public debt depends on the nation involved. The late Abba Lerner never understood this. Lerner always thought (falsely) that the U.S. government borrows its spending money.
Here’s the deal…
If your nation has a trade deficit and / or your nation’s currency is not accepted outside your nation’s borders, then the purpose of public debt is to get foreign currency with which to buy imports.
However, if your nation has a trade deficit like the USA, but its currency is accepted worldwide (like U.S. dollars) then the purpose of public debt is…
[1] To make sure that dollars continue to be accepted worldwide. China has over 4 trillion U.S. dollars in foreign currency reserves. The Committee on Foreign Investment in the United States (a multi-agency group) decides what U.S. assets China can and cannot buy. Therefore China invests its trillions of US dollars by depositing them in Fed savings accounts (i.e. by purchasing Treasury securities that pay interest). If China could buy nothing with US dollars, or if China could not put Chinese dollars some place where they “earn” interest, then China would not export to the USA in exchange for US dollars.
[2] Fed savings deposits (the so-called “national debt”) are reserves. Since reserve dollars are locked up in Treasury certificates, they cannot be spent like regular money. However the aggregate total of deposits (i.e. the so-called “national debt”) stabilizes the U.S. financial markets. That is, Treasury certificates can be sold or traded, but not spent like regular money. Therefore Treasury certificates are used as collateral for financial speculation. U.S. Treasury certificates are a far more secure investment than is any stock market or commodity market.
“According to the Ricardian equivalence hypothesis, the public sector basically finances its expenditures through taxes or by issuing bonds, and bonds must sooner or later be repaid by raising taxes in the future.”
The Ricardian hypothesis is FALSE.
(Lars P. Syll calls it “sheer nonsense.”)
The U.S. government funds itself by creating money out of thin air, not by borrowing its own money or by imposing taxes in its own money.
What about nations that cannot create their our currency out of thin air, or which can create their currency, but their national currency is not accepted outside their national borders?
In that case, national governments sell bonds in exchange for foreign currency. Tax increases in the nation’s own currency are irrelevant, since domestic tax revenues cannot be used to pay foreign creditors in foreign currency.
Full employment can be maintained by printing the money needed for it, and this does not increase the debt at all. Abba Lerner
ReplyDeleteThis is called Overt Monetary Financing (OMF). An objection to OMF is that the Central Bank then has no corresponding assets with which to defend the currency (by selling those assets to decrease the amount of fiat extant).
However, a Central Bank need own no assets at all to defend the currency IF it has the power to levy negative interest on fiat account balances there – but not on individual citizen accounts* below a certain deposit limit such as $250,000 in the case of the US.
*Not that individual citizen accounts are yet allowed at Central Banks but they should be as part of fundamental reform.
I agree with Konrad. While I agree with many of Lerner's ideas, his claim that bureaucrats and economists might have a better idea as to what the optimum level of interest is than the market is very questionable. I assume Warren Mosler agrees with me there because he and Milton Friedman advocated a permanent zero interest rate regime, which is essentially a regime where government and central bank take no steps to influence interest rates.
ReplyDelete