The Myth of Government Debt

[BubbleBoy]

You seem to operate under the mistaken assumption that M2 and M3 are interchangeable with M1 and expanding one has the same inflationary results. That is not correct. Treasuries are long term debt that is very liquid and secure, but it's still traded long term debt . It's liquidity comes from the underlying assumption that a very small portion of the debt is traded in a given period, in other words that investors in treasuries don't make a "run on the bank". This guarantees a very small velocity of this pseudo-monetary base so it has very reduced bearing on the inflation (as I hope you agree, there is a direct proportionality between the price level and the velocity of money; if you don't I will be forced to withdraw from this debate).

You are saying that because this debt is traded, and you can always get close to 1 FRN dollar for 1 T-Bill dollar, then the two are functionally equivalent. To make an analogy, you are saying that if AAA mortgage-back securities traded very liquidly before the Lehman fall, then they were inflationary cash equivalents, in other words the private sector can expand the monetary base indefinitely. Well the cash equivalence of MBS stopped as soon as investors made a run on the market in a failed attempt to increase the velocity - the price dropped near zero. This is similar to what happened with Greece.

The point of the graph should be self explanatory: the bulk of the base money emitted by the Fed it's still with the Fed! Indeed, it was created by swapping long term debt for cash, but that long term debt has low velocity and it's not inflationary. The new base money would create massive inflation if it were to hit the market, yet the banks don't or can't do that.

Bottom line: the government does not create money when it issues debt; it can create debt up to a limit where the market will no longer deem it credible. Govt debt really is an appropriation of taxes from the future, a lease on society and the future generations, a proof of the current society's self-indulgence. The idea of financing deficits by printing money is a way to destroy the currency as a stable medium of exchange.

[Iseree22]

You seem to operate under the mistaken assumption that M2 and M3 are interchangeable with M1 and expanding one has the same inflationary results. That is not correct. Treasuries are long term debt that is very liquid and secure, but it's still traded long term debt . It's liquidity comes from the underlying assumption that a very small portion of the debt is traded in a given period, in other words that investors in treasuries don't make a "run on the bank". This guarantees a very small velocity of this pseudo-monetary base so it has very reduced bearing on the inflation (as I hope you agree, there is a direct proportionality between the price level and the velocity of money; if you don't I will be forced to withdraw from this debate).

I'm not sure what you mean. M2-M1 are exchangeable with M0 with little change in prices. M3, Credit Money, is different. I am definitely not saying that M3 and Treasuries are functionally equivalent.

If you deposit a Treasury with a face-value of $1000 upon expiry, but its current value is only say $950, then banks will issue the Treasury holder with $950. Did you read the FED Statement I posted, and do you understand the structure of a Treasury? The FED Statement clearly shows Treasuries being counted towards Reserve balances, therefore Treasuries are cash-like. If someday you decide to 'run' the bank, then you will receive the current value of the Treasury minus the value of any credits you  have spent. Therefore the velocity of the Treasury deposit is similar to the velocity of a Cash Deposit, and a large portion of the Treasury value is 'tradeable'.

You are saying that because this debt is traded, and you can always get close to 1 FRN dollar for 1 T-Bill dollar, then the two are functionally equivalent. To make an analogy, you are saying that if AAA mortgage-back securities traded very liquidly before the Lehman fall, then they were inflationary cash equivalents, in other words the private sector can expand the monetary base indefinitely. Well the cash equivalence of MBS stopped as soon as investors made a run on the market in a failed attempt to increase the velocity - the price dropped near zero. This is similar to what happened with Greece.

I haven't said anything directly about the Treasuries being traded. I have described properties of Treasuries being similar, if not the same to normal cash. So if cash is being Traded, then would one expect Treasuries to be traded also? Of course, but I have not really talked about that, and I don't need too, its implicit. If AAA Lehman securities or MBSs were also backed by the U.S Treasury, then yes they would be functionally the same. But they are not backed by the Treasury, and so they are quite different and constitute a proportion of the Credit Money supply.

What happened in Greece is different to what happened during the Financial Crisis. Greece's debts are denominated in Euros, and Greece is unable to create new Euros to pay back the debts.

Bottom line: the government does not create money when it issues debt; it can create debt up to a limit where the market will no longer deem it credible. Govt debt really is an appropriation of taxes from the future, a lease on society and the future generations, a proof of the current society's self-indulgence. The idea of financing deficits by printing money is a way to destroy the currency as a stable medium of exchange.

How can a country that issues its own money run out of money ?!? This is absurd.

The only way for America to create more wealth and solve the current unemployment crisis, is to issue more debt and thereby create more money. This will soak up excess supply(unemployment) and create the next 'wave' of growth. There is nothing indulgent about people being unemployed.

The recent debt crisis has been nothing but a vehicle to justify cutting spending to regulatory agencies that are responsible for seeking Justice for the GFC.

[BubbleBoy]

Your conclusion about how states can always and easily print their way out of recession is almost surreal, so I'm going to limit myself to a few closing remarks.

The link you have supplied shows the Fed's balance sheet, on one hand the assets (table 1) it has acquired in exchange for freshly printed monetary base, and on the other hand it's liabilities, things like outstanding currency and bank reserves (table 1 continued). Commercial banks can't simply deposit treasuries towards the reserve requirements as you claim, the Fed only acquires treasuries when it decides to do so, so banks looking to meet reserve requirements need to trade the treasuries on the market. This clamps the money multiplier to a value controlled by the Central Bank, and not an ever increasing quantity proportional to the national debt.

The tradeability of treasuries is essential when equating them to money, and you implicitly acknowledged you need to trade them before you buy a Big Mac. Well then, inflation, as defined by the price of a Big Mac, can only rise if many holders of treasuries go out to exchange them for cash and buy a Big Mac. A limited fraction of the owners might be able to get 950$ for a 1000$ T-bill, but when or most of them do so in a short period of time, when most of them want a Big Mac the value of treasuries tanks, there aren't enough buyers. By definition the market will crash before inflation can happen. Buying government debt is a long term deposit and the treasuries market is no different fundamentally from the Lehman MBS market. Overborrow and you will loose investor confidence.

[Iseree22]

Your conclusion about how states can always and easily print their way out of recession is almost surreal, so I'm going to limit myself to a few closing remarks.

What about Bitcoin? Bitcoins are literally created out of thin air, how come bitcoin hasn't fallen apart? Are you saying it will?

The link you have supplied shows the Fed's balance sheet, on one hand the assets (table 1) it has acquired in exchange for freshly printed monetary base, and on the other hand it's liabilities, things like outstanding currency and bank reserves (table 1 continued). Commercial banks can't simply deposit treasuries towards the reserve requirements as you claim, the Fed only acquires treasuries when it decides to do so, so banks looking to meet reserve requirements need to trade the treasuries on the market. This clamps the money multiplier to a value controlled by the Central Bank, and not an ever increasing quantity proportional to the national debt.

Read it properly please. The FED accepts Treasuries in exchange for reserves when it conducts Repo transactions. If you don't know what a Repo is, please look it up. Therefore, if someone is short reserves, and wants to convert a Treasury into reserves it simply enters into a Repo Transaction with the FED. The Repo transaction involves the FED holding a Treasury(or other form of public debt) for a short period of time, in exchange for Reserves given to the private sector. The private sector will then treat these reserves like cash.

[Iseree22]

Which is the definition of money.

Money is an agreed upon medium of exchange and store of value or just a medium of exchange.

Modern fiat is just a medium of exchange in most countries, and if you are in a country with it's own printing press powers there are several ways in which it is produced, but the debt as money has far outpaced the printing press.

Debt as money is not inherintly a bad thing, but interest on that debt is.  Let's assume for the sake of argument there is no printing press and all money comes from a promised debt with some amount of interest.  You have 100 people "borrow" into existence 20 dollars each so there is now $2000 dollars in the economy, and it is all borrowed at 10% non-compounding interest for a total of $200 in interest.  Now the money lender turns off the borrowing faucet because they have taken on too much "risk" or they are retiring... whatever reason.  $2000 (current total in circulation) / $22 (Principle + Interest paid in full) = 90.909... (The number of people who *could possibly have a chance to pay off their loan in full, because in the realm of fake money once the $ is paid back it ceases to exist again.)

This is why debt based monetary creation has exploded and why the printing presses have no hope to keep up and this is the race the world is in now, so long as the money creation can outpace healthy repayment then economies move along swimmingly but as soon as the Interest monster starts catching up and potentially exceeding what an economy can sustain then collapse is inevitable.

Yea I agree with most of this. But there are two types of money, Credit Money( the money you talk about) and 'State' money. Simply, Credit money is derived from 'State' money, and to pay interest on 'credit monies' there must be an ever expanding supply of 'State' money. When I say 'State' money, that could also mean Gold, or other similar token type.

[kjj]

Yea I agree with most of this. But there are two types of money, Credit Money( the money you talk about) and 'State' money. Simply, Credit money is derived from 'State' money, and to pay interest on 'credit monies' there must be an ever expanding supply of 'State' money.  When I say 'State' money, that could also mean Gold, or other similar token type.

See the bold part.  What makes you think this?

One physical paper dollar bill would be sufficient to extinguish all debts (credit money), if it was busy enough.

[Iseree22]

Yea I agree with most of this. But there are two types of money, Credit Money( the money you talk about) and 'State' money. Simply, Credit money is derived from 'State' money, and to pay interest on 'credit monies' there must be an ever expanding supply of 'State' money.  When I say 'State' money, that could also mean Gold, or other similar token type.

See the bold part.  What makes you think this?

One physical paper dollar bill would be sufficient to extinguish all debts (credit money), if it was busy enough.

Equation of Exchange

MV = PQ,

Money Supply = MV. So when I say money supply I mean this quantity.

[BubbleBoy]

The link you have supplied shows the Fed's balance sheet, on one hand the assets (table 1) it has acquired in exchange for freshly printed monetary base, and on the other hand it's liabilities, things like outstanding currency and bank reserves (table 1 continued). Commercial banks can't simply deposit treasuries towards the reserve requirements as you claim, the Fed only acquires treasuries when it decides to do so, so banks looking to meet reserve requirements need to trade the treasuries on the market. This clamps the money multiplier to a value controlled by the Central Bank, and not an ever increasing quantity proportional to the national debt.

Read it properly please. The FED accepts Treasuries in exchange for reserves when it conducts Repo transactions. If you don't know what a Repo is, please look it up. Therefore, if someone is short reserves, and wants to convert a Treasury into reserves it simply enters into a Repo Transaction with the FED. The Repo transaction involves the FED holding a Treasury(or other form of public debt) for a short period of time, in exchange for Reserves given to the private sector. The private sector will then treat these reserves like cash.

Repo and reverse-repo  transactions are a tool for implementing monetary policy on the short run for up to 65 days, but usually overnight. Their total annual volume is in trillions, it's nonsensical to claim the Fed's whole security inventory is the result of repos. Furthermore, unlike US many countries don't have a repo market. You are also confusing the agents roles: the Central Bank initiates the repo as a tool of monetary policy, a bank short on reserves can't request a repo. A bank can either sell securities on the open market or in cases of emergency request financing at the discount window, at above market rates. If it could simply request a repo then what's the purpose of the discount window ?

Bickering about the technicalities of US monetary policy loses sight of the root issue: the bulk of govt. debt is not traded, they are held in reserve by institutional investors. So the MV quantity you mentioned has a very low aggregate V, thus the contribution of govt bonds in the the general price level is negligible despite the large M. On the contrary, monetizing the debt injects base money into the economy and the medium-long term effect is inflation.

[Iseree22]

Repo and reverse-repo  transactions are a tool for implementing monetary policy on the short run for up to 65 days, but usually overnight. Their total annual volume is in trillions, it's nonsensical to claim the Fed's whole security inventory is the result of repos.  You are also confusing the agents roles: the Central Bank initiates the repo as a tool of monetary policy, a bank short on reserves can't request a repo. A bank can either sell securities on the open market or in cases of emergency request financing at the discount window, at above market rates. If it could simply request a repo then what's the purpose of the discount window ?

Table 1 is a result of the purchase made during Q.E 1, and Q.E 2. Table 10, shows the current collateral held by the FED in exchange for reserves, emphasis on Treasuries.

For an explanation of what can be pledged as collateral at the discount window, see here. As written, "obligations of the United States Treasury".

Yes, your right generally, when short liquidity a bank will try to obtain a repo from another private institution before going to the FED. The discount window set by the FED forces the interest rate between primary dealers. If the bank is short reserves and has eligible collateral, it can goto the FED and obtain reserves at the discount window. The discount window is implemented by Repos.

Bickering about the technicalities of US monetary policy loses sight .....

But such bickering is necessary in order to establish the function of Government Debt in an economy.

Furthermore, unlike US many countries don't have a repo market.

Incorrect,

Sweden Repo explanation
Australian Repo Market
Canada Central Bank

[melvster]

From accounting point of view, debt always equal to credit. A's debt is B's credit, if both A and B have credit (saving), then there must be some one in larger debt to balance. American government's debt could be balanced by surplus countries' credit.

How do you reconcile this within the Bitcoin economy? Do people with Bitcoin savings owe a 'debt' to some other party?

Or can such savings be viewed as loan with zero interest and no maturity? Which is the definition of money.

So why do we have to pay taxes if the govt can create as much currency as it wants?

Taxes are a tool that help regulate inflation and reallocate financial capital. Hypothetically, yes the government could simply print more money to fund public services, but the amount of money needed would probably cause some sort of dangerous inflation.

Given that States with a sovereign currency don't actually need to tax to fund themselves, then taxation performs some 'other' purpose. Taxation is a much more effective method of handling inflation, than interest rates, because taxes can be tailored to target the inflation causing areas of the economy, this is currently impossible with interest rates. Also since America, and most of the world is experiencing economic difficulties, taxation combined with spending, can reallocate money that is not being spent to areas of the economy that will cause spending. That is, taxing people with large sums of money, and giving it to people who will spend. For each financial exchange between people there is a corresponding 'real' exchange between people, and this exchange is the source of economic growth.

One important part that I think is missing.  Currencies also work on trust.  We trust bitcoin because it's open source, right?

It's been shown that many economies can operate quite well on very low taxes, but the trust in the currency actually falls when there is less tax. 

IIRC Keynes advocated printing up to 20% GDP a year for the 'public good', which could take the form of lower taxes.  It's a double edged sword, because printing leads to inflation, but capital injections boost the economy.  Yes, you need to be careful not to print too much.

I've been pondering for a while this question about the need for a national debt or not.  Still undecided, but there seems to be an element of 'we should do it this way, because that's what we've always done'.   

As bitcoin has proven, pre conceived notions can sometimes be turned on their heads!

[Iseree22]

As bitcoin has proven, pre conceived notions can sometimes be turned on their heads!

Precisely!

I've been pondering for a while this question about the need for a national debt or not.  Still undecided, but there seems to be an element of 'we should do it this way, because that's what we've always done'.   

My personal opinion is NO, National Debt is an obsure invention that allows Bond Rentiers to collect interest for doing nothing productive. Plus people don't understand the function of national debt within Society, and makes it harder for the general public to grasp the underlying mechanics of their economy.

The notion of National Debt should be removed. Instead, their should be a popular body that decides how much money should be created/destroyed each year/month. This money is added to the Treasury Account, and spent by the Government into the economy. There would then need to be another body responsible for managing the 'Credit Money' supply, similar to the function of the current FED(Reserve Bank). However, interest-rate policy is implemented by paying interest only on Cash Deposits, as opposed to using Repos. This makes the Monetary System easier to understand and more straightforward.

[kloinko1n]

Do you live in a country that creates its own currency?

Nope!
Do you?

And your Government also has 'debt'?

Yep!

Well I'm sorry to inform you, but you have been the victim of a very effective propaganda campaign. A country that creates its own currency will never have an inability to pay back its national debt.

Well, I'm sorry to inform you, but it's you, not me, who has been the victim of a very effective propaganda campaign.
Your country (i.e. your government) does not create its own currency, and neither does mine.

You see, it's the private banks that create the currency, and it's the governments that borrow this money from them. With compounding interest.

And you think this 'debt' is evil, that it must be paid back using tax revenues ?

Well..., yes and no.
The debt is evil indeed. Because for instance in the USA this debt shouldn't have existed in the first place, as according to the constitution it is congress only that has the right to print and issue money.
And so, as the national debt of the USA has been created illegally, there is no legal necessity to pay it back.
And the same goes for the interest.

[snipped away some nonsense]

How can a State(Country) that creates its own currency run out of Money?? It can't.

Exactly!
So, the first step the POTUS should take is to abolish the (private) FED and print the money himself, instead of borrowing it from that private bank.
(And then, just as Garfield, Jackson and Kennedy, get shot in the process, and this is exactly why the FED, and the national debt, are evil and should be abolished respectively cancelled by presidential directive.)

[Iseree22]

You see, it's the private banks that create the currency, and it's the governments that borrow this money from them. With compounding interest.

Don't worry your not the only one that has been conned into believing this. This is partly true, private entities create Horizontal Money(Credit Money), and the State creates Vertical Money. 

The debt is evil indeed. Because for instance in the USA this debt shouldn't have existed in the first place, as according to the constitution it is congress only that has the right to print and issue money.
And so, as the national debt of the USA has been created illegally, there is no legal necessity to pay it back.
And the same goes for the interest.

What have you been smoking?? The debt-limit is the true source of Vertical Money in the U.S, which is under Congressional Authority, so yes, currently as it has always been, Congress remains the body with control over the creation of money(Vertical Money).

You obviously have not read and understood what has already been written in this topic, please do so!

[kloinko1n]

You see, it's the private banks that create the currency, and it's the governments that borrow this money from them. With compounding interest.

Don't worry your not the only one that has been conned into believing this. This is partly true, private entities create Horizontal Money(Credit Money), and the State creates Vertical Money. 

The debt is evil indeed. Because for instance in the USA this debt shouldn't have existed in the first place, as according to the constitution it is congress only that has the right to print and issue money.
And so, as the national debt of the USA has been created illegally, there is no legal necessity to pay it back.
And the same goes for the interest.

What have you been smoking?? The debt-limit is the true source of Vertical Money in the U.S, which is under Congressional Authority, so yes, currently as it has always been, Congress remains the body with control over the creation of money(Vertical Money).

You obviously have not read and understood what has already been written in this topic, please do so!

I could engage in a literally endless discussion about circuitrist, chartalist, Austrian and whatever more school's monetary theories about horizontal money supply curves and their bending to vertical curves as well as their relationship to exogenous and/or endogenous money creation, but I won't.
Instead I wil just vent my own very humble opinion that in my view selling bonds to China is not much different from selling them to the private banks (i.e. the federal reserve bank).

The only difference is that China obtained their dollars through exporting produce to the USA, in a sense contributing to the wealth of the American population, whereas the federal reserve obtained their dollars through printing, thus debasing the currency and reducing the wealth of their own people.

Both bonds sold represent a liability.

P.S.: I'm a non-smoker and believe that there is a difference between the issue of money (no interest due) and controlling the issue of the same (with interest due).

[Crypt_Current]

The only difference is that China obtained their dollars through exporting produce to the USA, in a sense contributing to the wealth of the American population, whereas the federal reserve obtained their dollars through printing, thus debasing the currency and reducing the wealth of their own people.

Both bonds sold represent a liability.

P.S.: I'm a non-smoker and believe that there is a difference between the issue of money (no interest due) and controlling the issue of the same (with interest due).

Outstanding!

[BitterTea]

I'm not sure I follow, but yes even for TIPS.

Well then could you answer the implied question -- how?!

It would be paided back like other debt....

I think the answer is that TIPS are tied to CPI. Given that the government determines CPI, they can simply create more currency, cause an equivalent amount of real monetary inflation (decrease the real purchasing power of existing money), change the way CPI is calculated, and voila!

[johnyj]

It's sounds very funny: A central banker will obviously cause trouble if he print money and buying things/services with these money. But, if he use the money to buy other's bonds, or loaned to others, then it is much more acceptable...

I'm still considering this process, there seems something is very wrong here: Any one can produce anything to meet other's need, money definitely is also one of such things, and producing money has become the most profitable business in the world since gold has been replaced by paper money and digital numbers. But obviously the right of producing money is only hold by the central banks, where do they get that right from? Do voters have the right to select who should be the FED chairman?