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August 11 - October 16, 2019
that is a big part of the reason that the GFC (Global Financial Crisis) hit: an over-indebted private sector whose income did not grow fast enough to keep up with interest payments.
High interest rate
The interest rate is a policy variable (as will be discussed below). Ignoring the dynamics discussed in the previous points, to avoid an exploding debt ratio all the government needs to do is to lower the interest rate it pays below the economic growth rate. End of story; sustainability achieved.
Main
the difference between perpetual private sector deficit spending versus perpetual government sector deficits: the first really is unsustainable while the second is not.
Main.gov is different from private sector
the United States imports more than it exports because the rest of the world wants to accumulate savings in Dollar-denominated assets.
This does not normally raise great fear because the other side of that coin would be that the US could produce output to replace declining imports (most economists would celebrate that, as it would mean more US jobs). However, what some fear is that the transition would be much more sudden, as the rest of the world tries to unload Dollars quickly – trading them for some other currency.
we make no projection about continued US current account deficits but we believe they will continue far longer than anyone imagines. They are sustainable. They will be sustained until the rest of the world decides not to accumulate more Dollars and Americans decide they really do not want the cheap commodities and environment-destroying oil produced by the rest of the world.
America
assets and liabilities are denominated in a money of account, which is chosen by a national government and given force through the mechanism of taxation.
Main
You can present a check to your bank for payment in currency – what is normally called “cashing a check” – or you can simply withdraw cash at the Automatic Teller Machine (ATM) from one of your bank accounts. In either case, the bank IOU is converted to a government IOU.
M
the wholesaler might not be willing to wait until the end of the period for payment. In this case the wholesaler can sell the retailer’s IOUs at a discount (for less than the amount that the retailer promises to pay at the end of the period). The discount is effectively interest that the wholesaler is willing to give up to get the funds earlier than promised. Usually it will be a financial institution that buys the IOU at a discount called “discounting” the IOU (this is where the term “discount window”
banks explicitly promise to convert their liabilities to currency (either immediately in the case of demand deposits, or with some delay in the case of time deposits).
Demand deposit
The important point is that households usually clear accounts by using liabilities issued by those higher in the debt pyramid, usually financial institutions.
Think of a coupon for a free pizza that you receive in the mail. The coupon was created before the pizza was made and the pizza company did not have to have any pizza ready before it printed the coupon and mailed it to you. The pizza will be made only if you present the coupon at the pizzeria, at which time pizza will be made. In our analogy the cash is the pizza and the coupon is the checking account.
pizza coupon
even though banks can create unlimited amounts of deposits, they have no incentive to do so because it may be unprofitable and it can expose them to both insolvency and illiquidity risks.
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In the control sense exogeneity means the government can “control” the variable, for example, can control the money supply, control the interest rate, or control the price level, and so on.
exogeneity
MMT shares with the “endogenous money” or “horizontalist” approaches the view that the central bank cannot control the money supply or bank reserves. Instead the central bank must accommodate the excess demand for reserves (however, as noted below, things changed with QE).
Main
There is a symmetry between the way government spends and the way banks lend. Government needs to spend (or lend) currency before taxpayers can use currency to pay taxes. Banks need to lend deposits before debtors to banks can repay loans using deposits.
Main
•The government names a unit of account, imposes a tax in that unit, and issues a currency denominated in that unit that can be used to pay the tax.
M
•Government spends by crediting bank reserves and taxes by debiting bank reserves.
M
•In this manner, banks act as intermediaries between government and the nongovernment sector, crediting depositors’ accounts as government spends and debiting them when taxes are paid.
M
•and the Treasury can always “afford” anything for sale in its own currency, although government always imposes constraints on its spending.
M
Let us be careful to acknowledge that these principles do not imply that government ought to spend without constraint. Nor does the statement that government can “afford” anything for sale in its own currency imply that government should buy everything for sale in its currency.
Wow.main
These principles also do not deny that too much spending by government would be inflationary. Further, there can be exchange rate implications: if government spends too much, or if it sets its interest rate target too low, this might set off pressure to depreciate the currency. This means that the government’s interest rate-setting policy as well as its budget policy will be mindful of possible impacts on exchange rates and/or inflation rates; in that sense, interest rate-setting and fiscal policy are “constrained” by government’s desire to influence the exchange rate or the inflation rate.
Inflation
Deficits over a period (say, a year) mean that more bank accounts have been credited than debited. The nongovernment sector realizes its surplus initially in the form of these net credits to bank accounts. So it is pretty straightforward: the government’s deficits create the nongovernment’s surpluses.
Main.gov deficit is nongov surplus. but who gets the money though
Hence budget deficits normally result in net positive acquisition of Treasuries in the nongovernment sectors.
the nongovernment savings in the domestic currency cannot preexist the budget deficit, so we should not imagine that a government that deficit spends must first approach the nongovernment sector to borrow its savings.
is best to think of the net saving of the nongovernment sector as a consequence of the government’s deficit spending, which creates income and savings.
How can we be sure that the budget deficit that generates accumulation of claims on government will be consistent with portfolio preferences, even if the final saving position of the nongovernment sector is consistent with saving desires? The answer is that interest rates (and thus asset prices) adjust to ensure that the nongovernment sector is happy to hold its saving in the existing set of assets.
Only cash withdrawals or repayment of loans can reduce the quantity of bank deposits – otherwise only the names of the account holders change.
asset prices/interest rates adjust to ensure that the nongovernment’s portfolio preferences are aligned with the quantity of reserves and deposits that result from government spending,
All government spending generates credits to private bank accounts, which could be counted as an increase of the money supply (initially, deposits and reserves go up by an amount equal to the government’s spending). However, the portfolio preferences of the nongovernment sector will determine how many of the created reserves will be transformed into bonds, and incremental taxes paid will determine how many of the created reserves and deposits will be destroyed.
Main.interest rate as tool
If the banking system has excess reserves, the overnight interbank lending rate falls below the target (so long as that is above any support rate paid on reserves), triggering bond sales; if the banking system is short, the market rate rises above target, triggering bond purchases.
Banks lend to creditworthy borrowers, creating deposits and holding the IOUs of the borrowers. If banks then need (or want) reserves, they go to the overnight interbank market or the central bank’s discount window to obtain them. If the system as a whole is short, upward pressure on the overnight rate signals to the central bank that it needs to supply reserves through open market purchases.
The question is whether national government deficits can exceed nongovernment savings in the domestic currency (domestic plus rest-of-world savings). From our analysis above, we see that this is not possible. First, a government deficit by accounting identity equals the nongovernment’s surplus (or savings). Second, government spending in the domestic currency results in an equal credit to a bank account. Taxes then lead to bank account debits, so that the government deficit exactly equals net credits to bank accounts.
We conclude: since government deficits create an equivalent amount of nongovernment savings it is impossible for the government to face an insufficient supply of savings.
since the saving cannot occur unless the budget deficit (and trade surplus) occurs, it makes sense to say the budget deficits allow the desired saving to be realized.
it is possible that foreign sales of a government’s debt can affect the exchange rate. However, so long as a government is willing to let its exchange rate “float” it need not react to prevent a depreciation.
Inflation.exchange rate. if it floats it doesn't need to prevent depreciation.
trying to run a current account surplus against the United States while avoiding the accumulation of Dollar-denominated assets would require that the Chinese offload the Dollars they earn by exporting to the United States, trading them for other currencies. That, of course, requires that they find buyers willing to take the Dollars. This could – as feared by many commentators – lead to a depreciation of the value of the Dollar. That in turn would expose the Chinese to a possible devaluation of the value of their US Dollar holdings. This is unlikely to be in the interest of the Bank of China.
but it could also mean that the Chinese could buy properties or companies in america and control specific aspect of the society
Depreciation of the Dollar would also increase the dollar cost of Chinese exports, imperiling their ability to continue to export to the United States. For these reasons, a sudden run by China out of the Dollar is quite unlikely. A slow transition into other currencies is a possibility, and more likely if China can find alternative markets for its exports.
Wow. china
a country (say, China) exports goods to the United States. Its exporters earn Dollars but need domestic currency, RMB (to pay workers, buy raw materials, service debt). The bank of the exporters credits their deposit account with RMB, and the central bank of China credits the bank’s reserves in RMB. So the Dollar reserves end up at the Bank of China (an asset of the Bank of China, a liability of the Fed).
when china exports her exporters earn dollars but needs rmb to pay workers and materials
A country that floats its exchange rate can enjoy domestic policy independence and free capital flows. A country that pegs its exchange rate must choose to regulate capital flows or must abandon domestic policy independence.
float exchange = more domestic policy freedom/independence to achieve full employment
If a country wants to be able to use domestic policy to achieve full employment (through, for example, interest rate policy and by running budget deficits), and if this results in a current account deficit, then it must either control capital flows or it must drop its exchange rate peg.
Obviously such policies must be left up to the political process, but policymakers should recognize accounting identities and trilemmas. Most countries will not be able to simultaneously pursue domestic full employment, a fixed exchange rate, and free capital flows.
countries with trade deficits might cut domestic demand to push down wages and prices in order to reduce imports and increase exports. With both importers and exporters attempting to keep demand low, the result is insufficient demand globally to operate at full employment (of labor and plant and equipment). Even worse, such competitive pressure can produce trade wars – nations promoting their own exports and trying to keep out imports.
Low wage and price and demand to boost export
a nation cannot run a current account deficit unless someone wants to hold its IOUs. We can even view the current account deficit as resulting from a rest-of-the-world desire to accumulate net savings in the form of claims on the country. Certainly for the US Dollar that would be an appropriate way to look at it. The rest of the world (ROW) wants to accumulate Dollar assets, so exports to the United States.
New way to look at deficit.a nation cannot run a current account deficit unless someone wants to hold its IOUs.
Even if the United States were to try to deflate its economy to reduce its trade deficit, that is not likely to work because the ROW would make adjustments to continue to net export to the United States.
Interesting. row = rest of world.
For individual nations, the Euro is something like a foreign currency. It is true that the individual national governments still spend by crediting bank accounts of sellers and this results in a credit of bank reserves at the national central bank – just as is the case for a government issuing its own sovereign currency. The problem is that national central banks have to get Euro reserves at the ECB for clearing purposes. The ECB in turn is prohibited from directly buying public debt of governments. The national central banks can get reserves only to the extent the ECB will lend them or has
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The problem with European Central Bank
What is it that makes a country’s currency desirable to foreigners? A: Typically it is because foreigners want to buy output produced by the country, to visit as tourists, or to buy financial assets denominated in that currency.
many of America’s trading partners “peg” to the Dollar; depreciation has no direct effect if they hold the peg. Second, those that don’t peg are willing to take lower profits (hold Dollar prices steady) to keep market share (this has been the strategy of some exporters to the United States). Third, exports are a cost, imports a benefit, so trying to maximize a trade surplus is a net cost maximizing strategy (see Section 7.9). Fourth, it is not likely that many of those factory jobs will return to the United States.
Trump?
Fifth, the inevitable march of progress means that labor productivity in manufacturing rises so that fewer workers are needed.
When a private debtor cannot service debt out of income flows it must go further into debt, borrowing to pay interest. This is called Ponzi finance and it is usually dangerous because outstanding debt grows.
Ponzi. debt + debt
