Treasury and the Central Bank – A Contingent Institutional Approach

Introduction -

Fiscal policy includes federal spending on goods and services, taxing, and debt issuance. Monetary policy includes the management of a central bank that issues money claims to commercial banks, the Treasury, and the public. A sovereign state is responsible for fiscal and monetary policy, executed through treasury and central banking operations respectively.

Fiscal and monetary systems do not exist without specific institutional design. In this regard, there is a difference between the facts of actual institutional design, and conceptual distillations that infer hypothetical design. Any overall view of actual treasury and central banking operations should be portrayed accurately in this respect. For example, there is a difference between the consolidated view of separate Treasury and central bank institutions as they actually operate, versus the view of an implied but unstated counterfactual in the sense of a unified institution. The actual operation of separate institutions is not at all the same as that implied by a unified counterfactual institution.

For example, there is a difference between the actual case of a central bank both acquiring Treasury bonds and issuing currency, and the hypothetical case of a consolidated state entity that could in concept issue currency without being involved with bonds. The way in which we describe the real world of monetary operations should ensure the distinction between factual arrangements and such imagined ones. Such clarification is necessary for an accurate description of modern monetary operations. Conversely, confusing factual and hypothetical operations is a prescription for ambiguity and error in understanding this subject.

The phrase “currency issuer” has been popularized over the past several years in blogosphere discussion of fiscal and monetary operations. Although the term embeds a useful idea, it has become jargonized, with ambiguous inferences and murkiness of focus.

There are two general ways of looking at the idea of “currency issuer”:

First, there is the regular operational perspective, which describes institutional arrangements as a matter of going concern – arrangements which in the case of the USA for example have been put in place by Congress. In these arrangements, the US central bank is an operational currency issuer. It issues central bank notes, as well as liabilities in the form of bank reserves and US Treasury deposits, which are electronic variations of currency notes. The US Treasury is correspondingly an operational currency user, because it has a deposit account at the central bank for that purpose. (Treasury does issue coins, but their quantitative importance is relatively minor in the context of the full currency category.) On that basis, Treasury ranks pari passu operationally with the commercial banks, which have reserve accounts with the central bank. Treasury practices the same cash management discipline that the banks do with their own reserve accounts. Treasury is expected to be an effective cash manager in the current system. Thus, the US Treasury is not a currency issuer at the operational level (except for coins), and this is an important point that has frequently been distorted in the use of the term as it applies to the USA.

Second, there is the contingent operational perspective. Using the USA as the example, Congress has the effective power to instruct the central bank and Treasury to do whatever it takes to ensure that the government can spend what has been approved by Congress, without regard to prevailing borrowing constraints or other rules, if such rules ultimately impede that responsibility under unusual conditions of financial stress. Normal operational constraints can in theory be swept aside by Congress at any time, if necessary. Existing modes of financial operation and existing institutional structure can be adjusted. Such changes can be made temporary or permanent. The range of potential remedies includes such actions as direct purchase of Treasury debt by the central bank or the recently proposed purchase of platinum coinage, with direct credit to the Treasury deposit account at the central bank in both cases. There are additional more radical institutional variations on this theme, discussed further below. Congressional power in this case is what distinguishes the US from Greece’s inability to do the same thing with respect to its government spending. So the USA is a currency issuer because it has that full power over its operational monetary arrangements, and Greece is a currency user because it doesn’t have it. In conjunction with the operational classifications above, we might say that the USA is a “strategic currency issuer” for the dollar and Greece is a “strategic user” of the Euro.

It is important that ambiguous jargon not cloud the description of the modern monetary system. Without more qualification, it is counterproductive to be using identical vocabulary (currency issuer) that at one time can be applied to a country (strategic) and at another time be applied to a central bank (operational). The USA is considered to be a currency issuer at the same time as the European Central Bank is considered to be a currency issuer. If the ECB is a currency issuer, why doesn’t the Federal Reserve hold the same status? It does, of course. It is the primary operational currency issuer in the institutional arrangement in which the USA is the strategic issuer.

The operational nature of central banking is comparable as between Federal Reserve and ECB monetary operations. Both banks are currency issuers. But the contingent strategic perspective is remarkably different when measured in terms of relevant probabilities of the effectiveness of strategic or contingent action under financial stress, since prospects for the USA dealing with such circumstances are far more promising than the prospects for Greece in a comparable situation, notwithstanding comparable central banking actions that might be required in either case.

Treasury and the Central Bank – the USA example

The USA has separate Treasury and Federal Reserve institutions. They are separate in the sense of both policy responsibility and operational execution. The most obvious evidence for policy separation is that the Fed sets policy for the fed funds rate and Treasury sets policy for issuing debt. Some make the mistake of thinking that because the Fed and Treasury co-ordinate and exchange information on certain operational details, this suggests that the Fed is not independent. But this is not material to the appropriate measure of Fed independence. The notion of independence applies to policy responsibility, not operational co-ordination that is mutually beneficial for the Fed and Treasury in the execution of their respective mandates. For example, the Fed is in regular contact regarding the Treasury’s planned movement of funds between its Fed deposit account and the Treasury tax and loan accounts (TTL) sited at the commercial banks. But that has no bearing on the Fed’s independence in setting monetary policy, including the target Fed funds rate. It is an information flow that helps with effective implementation of policy. Moreover, the Fed looks to the major commercial banks for comparable information regarding important cash flow items that may affect their reserve account positions.

Also, some think the fact that the Fed is accountable to Congress means the Fed is not independent. But the relevant context is the responsibility for monetary policy relative to fiscal policy. This obviously allows for fiscal information input when formulating appropriate monetary policy. As far as reports to Congress are concerned, the Fed Chairman is accountable for an explanation of how the Fed executes policy and operational responsibilities. But it isn’t Treasury that the Chairman is accountable to.

It is important to be clear on the relevant scope for the definition of “currency” in the context of modern monetary operations. The term “currency” applies first to physical notes issued by the central bank. (It also applies to coins issued by Treasury, but this is a minor component in quantitative terms.) In a modern banking system, the idea of currency should apply as well to bank reserve balances at the central bank, since reserves are in effect an electronic substitute for physical notes. And for the same reason it should apply to Treasury’s deposit balances with the central bank. They are also an electronic substitute for physical currency. (Treasury currently operates two such accounts at the Fed.) The central bank credits the Treasury account for incoming payment items cleared from bank reserves and debits it for items paid by Treasury to the banks. In a technologically primitive world, one might visualize commercial banks and Treasury settling such payments using central bank issued notes rather than electronic debits and credits.

Thus, the central bank issues notes, reserves, and government deposit balances as liabilities, and the public, the banks, and the Treasury make use of these notes and balances as a uniform category of currency issued by the central bank. Treasury is one of a number of operational currency users, and is not an operational currency issuer (except for coins).

Because the US Treasury is not an operational currency issuer, it obviously does not issue currency in conjunction with spending. It uses currency when it spends. There has been considerable confusion in some places on this point, extending to the characterization of government as an entity that issues currency as a result of spending. This is meaningless at the operational level, which is the level that is relevant to the act of government spending.

Treasury spending results in debits to its deposit account at the central bank. The payments it makes to banks in respect of negotiated items are credited to reserve account balances. These payments include direct payments made to banks, as well as those made to bank customers and subsequently reflected as credits to the reserve accounts of customers’ banks. Thus, debits to Treasury’s account are offset by credits to bank reserve accounts. Accordingly, such transactions don’t change the size of central bank liabilities and they don’t change the quantity of currency issued by the central bank within the scope defined above. Treasury spending does not create new money or currency as defined. Conversely, Treasury does not redeem money or currency when the private sector makes tax payments to Treasury in respect of bill and bond purchases. Those transactions reflect debits to bank reserves and credits to Treasury deposits, which is a reclassification of balances within the relevant scope of currency usage.

It is helpful to classify the activity of central banks as between principal and agent transactions. Principal transactions are those in which the bank is operating on its own account. Agent transactions are those in which the bank is operating on behalf of customers. The central bank operates as an agent when clearing payments between different types of depositors, which include the commercial banks and Treasury. And because the commercial banks and Treasury are all in the position of using the services of the central bank in its agency capacity (and using the central bank’s currency), none of them can logically be an issuer of the money that the central bank issues. An operational user cannot issue the currency of the operational issuer.

Commercial banks with reserve accounts at the Fed are, along with Treasury, operational currency users. They operate at the same level of money hierarchy as the US Treasury, with respect to accounts held at the Fed. In other words, the US Treasury operates in a similar way to US commercial banks with respect to the settlement of payments using the currency that the central bank issues.

Thus, Treasury spending does not create new money within the scope of currency as defined. It only changes the classification of money that already exists. Moreover, Treasury spending does not create money even in the form of bank reserve balances, at least not to any degree that could be considered meaningful. The possibility of net reserve creation at any point in time is limited to the gross balance of Treasury’s deposit at the central bank at that time. Treasury could only “create” new bank reserves by spending that outstanding deposit balance down to zero. This is a fact because Treasury has no overdraft or other direct credit facility with the central bank. Moreover, a full drawdown of its central bank deposit balance could only be a one-time addition to new reserves. Moreover, the balances that do exist in the Treasury account at any point in time can only have been sourced originally (in regular operations) from bank reserves (as credits to Treasury and debits to banks), so that even any spot reduction of Treasury balances that appears to “create” new bank reserves is in fact only unwinding the already minimal cumulative “destruction” of bank reserve balances that have moved into the Treasury account net through past transactions.  In that sense, the cumulative bank reserve “creation” power of Treasury is zero. Finally, Treasury as noted practices a disciplined approach to the maintenance of cash balances in its Fed account, such that its balances are minimized in normal times, according to efficient cash management practices, which indeed are comparable to corporate cash management practices. Thus, beyond the fact that the question of reserve “creation” by Treasury can be dismissed for logical reasons, the materiality and relevance of the question is moot, given the very low balances that Treasury maintains in normal practice. Thus, all in all, it is a non-starter to suggest that Treasury issues currency in any form (except for coins) in the context of the modern monetary system, whether that form is restricted to a narrow focus of bank reserves, or includes the more relevant scope of central bank notes, bank reserves, and Treasury deposits.

We’ve referenced the routine transfer of funds between Treasury tax and loan accounts at the commercial banks and its account with the Fed. The Fed account is in effect the central point for Treasury’s banking arrangements. Using the tax and loan accounts to best advantage, Treasury maintains a minimal positive account balance at the Fed for maximum cash management efficiency. This produces the corollary benefit of minimizing the potential disruption to aggregate bank reserve balances associated with Treasury cash management (More on this below).

The core component in the category of central bank issued currency is central bank notes. It’s worth taking a brief moment to summarize central bank note operations.

The central bank issues notes on demand from the commercial banks. The banks pay for the notes as a debit to their reserve balances. The banks issue notes on demand to their customers. The customers pay for the notes as a debit to their deposit balances. Banks hold notes in inventory in order to be able to meet their customer demand. And central bank notes are a core component of bank reserves due to this customer demand.

Banks do not use notes to settle transactions between each other and with the government. That is the purpose of their reserve balances held at the central bank.

Accordingly, bank reserves in total consist of central bank issued notes as reserves with respect to public demand and central bank reserve balances with respect to interbank settlement requirements.

Reserve debits associated with commercial bank note purchases reduce system reserve levels. At the point of such reserve debit, the central bank balance sheet remains unchanged in size, with a decrease in reserve balances issued offset by an increase in notes issued. But the decrease in reserves issued will tend to put upward pressure on interest rates, other things equal. Therefore, in order to restore orderly interest rate and interbank payment system conditions, the central bank will replenish those reserves lost due to note issuance (This applies to the regular pre-2008 operation of the US monetary system, in which excess reserve balances were minimal). It has a variety of techniques for doing this, but the result is that the balance sheet will expand by the amount of reserves replenished. The net consequence is that the central bank balance sheet expands by the amount of the original note issuance, other things equal. Net notes issued trend upward over time with growth in the economy. Note growth is the primary driver of the central bank balance sheet growth over time in the standard operation of the monetary system.

The demand for notes by customers represents a desire to shift from commercial bank deposit balances to central bank notes. This is a natural occurrence over time, because the demand for highly liquid assets such as notes will tend to increase as the economy grows. As discussed, the central bank must create new reserves to replace those lost to pay for net notes issued. It creates those reserves by acquiring financial assets. If it acquires those assets from the portfolios of non-banks, then it obviously must induce those agents to sell those assets and hold bank deposits instead. That means that the task of restoring bank reserve levels typically involves restoring commercial bank deposit balances and balance sheet size to previous levels, other thing equal. Exceptions would be those cases where the central bank purchases financial assets from the banks themselves, in which case commercial bank balance sheets experience a net reduction in size due to the deposit redemptions associated with currency issuance. The point is that in times of regular operation, the US central bank must “refund” the banks for their reserve loss either by causing the creation of new deposit liabilities or by swapping replacement bank reserves for existing bank assets. This note issuance dynamic as described is something that Paul Krugman appears to have missed in his discussion about banking with Steve Keen. Krugman seemed to suggest that currency withdrawal somehow caused deposits to escape the banking system altogether, when that is usually not the case in times of normal central bank operations.

Treasury’s deposit account at the Fed serves a cash management function not dissimilar to that for households and businesses. All of these agents spend from bank accounts that are debited in respect of outflows, with corresponding credits to payee accounts. Treasury doesn’t create money by spending any more than do households or businesses. In fact, households and businesses often enjoy the added flexibility of commercial bank overdraft privileges. In this case, they are able to spend from deposit accounts by creating temporary net debit positions. This creates new money, and banks’ balance sheets will expand by the size of the overdraft loan and the deposit credit created as a result. Treasury has no similar privilege in its banking arrangements with either the central bank or the commercial banks.

In addition to its agency role on behalf of depositing clients – the banks, Treasury, and the general public – the central bank also has a principal role in monetary operations, where it affects bank reserve levels and interest rate levels by lending and acquiring financial assets. This duality of principal and agent roles is a generic banking characteristic that the central bank shares with commercial banks. Both types of bank create deposits through asset expansion.

It is worth emphasizing that the Fed’s role with respect to the US Treasury is asymmetric. The Fed provides Treasury with a deposit account, but not a direct borrowing facility. Current rules demand that the Fed may purchase Treasury obligations such as bills and bonds in the open market, but it is not allowed to extend credit directly to Treasury, apart from rollover of amounts maturing on its balance sheet. While this restriction seems harsh relative to comparable private sector arrangements, the emphasis on the market participation channel is constructive at least in the sense that it is operationally beneficial for the Fed to be able to purchase those highly liquid obligations in the market that allow it to conduct its primary monetary responsibilities in such a way as to be able to influence the quantity and price of bank reserves as a market maker. Conversely, the quantity and price of currency notes that the Fed issues is customer demand determined in quantity, but price determined according to a contractually zero nominal interest rate.

As noted above, Treasury holds additional deposit accounts with the commercial banks. Tax and loan accounts constitute a feeder deposit system for the so-called Treasury general account at the central bank. These TTL accounts exist for two reasons. First, they are convenient in terms of Treasury’s large scale cash management operation. It is more effective for Treasury to gather funds locally and subsequently import them into the central account, which in turn is the focal point of most disbursements. Second, there is a corollary benefit in terms of enabling operational co-ordination with central bank reserve management. The feeder system within the commercial banking deposit sphere operates at the same level of money hierarchy as other deposits with the commercial banks. Accordingly, transactions where money moves between private sector deposits with the commercial banks and TTL deposits have no effect on total system reserves. It is only net transfers between the feeder system and the central account that have a net reserve effect. Moreover, it is only when such net transfers are not offset by other Treasury disbursements (or receipts) from Treasury’s central account that there is an ultimate net reserve effect due to total Treasury banking activity. And that ultimate effect is the one that impacts the reserve system on a fully netted basis, and is the one that the Fed takes into account in setting strategy to meet its daily operational target for the system reserve level. Thus, arrangements in total as between the feeder accounts and the central account help to minimize the potential disruption to system reserve distribution that excessive concentrations of Treasury balances and net activity through its central bank account might otherwise cause. This is a rational and desirable aspect of efficient and effective cash management by Treasury. It is comparable to the nature of the cash management effectiveness that the central bank expects in the case of commercial banks in the operation of their reserve accounts at the Fed. The entire arrangement is a matter of joint operational effectiveness, separate from the fact of the Fed’s policy independence in setting the interest rate target itself.

Thus, Treasury is a depositor with both the central bank and the commercial banks, with a centralized account (two accounts currently) at the Fed and peripheral tax and loan accounts with the banks. It is an operational currency user and cash manager, making disbursements from and taking receipts into its bank deposit account(s). Large corporations have networks of comparable “feeder” deposit accounts that likewise connect to a central consolidation account.

Treasury and the Central Bank – Regular Operations

This section explores additional detail on how Treasury operates as a currency user, similar to the commercial banks:

The central bank creates reserves as a result of new lending or acquisition of new financial assets. In doing this, it acts as principal for its own account, rather than as clearing agent for depositor accounts. It changes the size of its balance sheet when it does this. By contrast, Treasury’s own activity as a depositor/user of central bank issued currency has no effect on the size of the central bank balance sheet. Anything Treasury spends gets debited from its account and credited to commercial bank reserve accounts, with no net change in central bank liabilities. And any effect Treasury has on the distribution of money between its own balances and commercial banks reserves is fleeting and minimal, given Treasury’s cash management discipline.

Treasury normally keeps its deposit balances at the Fed at stable minimal levels. Temporary skews between Treasury balances and bank reserve balances are soon reversed in the process of ongoing Treasury cash management. Thus, not only does Treasury not “create” net new CB liabilities in the process of spending, but it doesn’t “create” new reserves of any consequence, particularly beyond the shortest of time periods. The cumulative effect amounts to a stable and minimal cash balance of Treasury at the Fed. Thus, any notion that Treasury creates currency, or money, or reserves by spending is simply not relevant to the facts and operations of the modern monetary system.

Treasury issued bills and bonds don’t logically belong in the same category of currency as Treasury deposits at the central bank (along with notes and bank reserves), simply because bills and bonds are not used as currency in the sense of being a regular payment medium in the settlement of transactions among the banks and Treasury. This characteristic is congruent with the institutional fact that bills and bonds are issued separately by Treasury and not by the central bank. Contrary to some stories, bills and bonds are not in fact comparable to accounts at the central bank in the actual monetary system that we have.

Central bank monetary policy implementation through interest rate control operates with marginal easing and tightening of money market conditions, based in part on how interest rates react to the distribution of bank reserve balances and Treasury balances. Within the full group of users, the composition of the set of agents that are involved in any momentarily skewed distribution is immaterial to the objective of interest rate control through operational monetary management. The relevant subset of any such skew may include or exclude Treasury balances on any particular day. The subset composition does not matter to the general objective of the central bank in ensuring an appropriate supply of reserves, in combination with Treasury deposits, for market clearing at desired interest rates. The bank attempts through its own actions to muffle the effect of any dislocation of deposit balances in the system, whether or not that dislocation involves Treasury balances. Treasury’s involvement in certain net cash flows such as tax or bond settlements is only one type of dislocation in a system in which major commercial banks frequently experience disruptive cash flow patterns with resulting skewed cash distributions for various reasons, including their own temporary preferences or lack of same for liquidity. The functionality of the central bank in responding to such temporary distribution effects is in the same category of response, which is to take steps to temporarily offset such distribution effects through additional reserve issuance or withdrawal as necessary. Such response, using the conduit of reserve supply, is in effect a function of the totality of the reserve and Treasury deposit distribution and its effect on interest rates. In particular, there is nothing categorically different about required Fed intervention on auction settlement days, as it relates to the core operational responsibilities of the central bank in controlling the interest rate effect of reserve distribution. This broader perspective on distribution is consistent with defining the relevant category of central bank issued currency as including notes, bank reserves, and Treasury deposits.

Consider a simplified example involving two representative banks – Bank of America (BAC) and JP Morgan (JPM), in a situation that is representative of the reserve system as it regularly operated pre-2008. System excess reserves were normally minimal.

Suppose BAC makes a new Treasury bond issue payment of $ 100 million to the Treasury general account at the Fed. Assume that its reserve balance at the Fed is zero at the time it makes the payment, and that as a result it goes into a daylight overdraft position with the Fed for $ 100 million.

(It may also be possible for BAC to pay directly into TTL accounts, which would have no net effect on the quantity of system reserves or in this case BA’s own reserve position. In fact, there are conflicting accounts of this process from those who tend to make an issue of it in the context of neo-Chartalist themes and arguments that are premised on the assumption of extraordinary Fed provisioning of reserves for bond auction settlements. I’ll use the simplified example as framed, because it goes to the issue of the Fed response when Treasury activity has an assumed net effect on system reserve supply. But I suspect that the full story here includes some combination of the types of transaction noted.)

Continuing with this core example, by the end of the day, BAC will have either covered that overdraft by raising market funds to offset it, or it will take a loan from the Fed. As part of that process, the Fed can do system repos during the day so that reserves are more readily available for BAC to cover its overdraft before the end of the day in that way. That is effective when excess reserves are otherwise minimal and binding and where there would otherwise be upward pressure on overnight rates. At the same time, Treasury may already have transferred funds between its central account and TTL accounts (in this example), in order to assist with reserve equilibration through its own cash management function. That would tend to mitigate market pressures that BAC would face in sourcing funds. Either way, such Fed actions increase the likelihood that BAC will be able to cover its position before the end of the day, without necessarily utilizing the Fed’s lender of last resort (LLR) discount window facility.

Now as a second example suppose instead that BAC makes a private sector reserve account payment (for any reason) of $ 100 million to JPM. Assume again that its reserve balance at the Fed is zero at the time it makes the payment and that it goes into a daylight overdraft position with the Fed for $ 100 million. By the end of the day, BAC will have either covered that overdraft by raising market funds to offset it, or it will take a loan from the Fed. And, in the same way as with the bond auction settlement, the Fed can do system repos during the day if there is associated upward pressure on overnight rates. This increases the availability of reserves such that it is more likely that BA will be able to cover its position before the end of the day.

In either example, the Fed responds when there is upward pressure on the overnight rate. There’s no difference in BAC’s own requirement for reserves in those two situations – bond auction settlement payment versus private sector payment. And any difference in aggregate reserve supply may be complicated one way or the other by the nature of the reserve distribution across participants. In general, the Fed will respond to a “dislocation” in the distribution of reserves, whatever the source. The dislocation reflected in the simplified example is BAC’s short position due to a payment it owes. It doesn’t matter if it’s paying Treasury or JPM (e.g. JPM may be late in utilizing its own reserve position, or the system may not clear all positions efficiently, etc.). If there is associated upward pressure on rates, the Fed will respond in the same way. And there are all sorts of reserve dislocation scenarios where the Fed will respond and the situation has nothing to do with net Treasury flows.

Treasury is as much a participant in the reserve system as BAC or JPM. Treasury and BAC and JPM all have cash management functions that are aimed at disciplined targeting of cash balances held in their deposit accounts at the Fed. They are all operational “currency users” with accounts at the Fed. Treasury’s deposit account at the central bank serves the same functional purpose as a commercial bank reserve balance. The fact that it’s not referred to as a reserve account is neither here nor there in terms of understanding the functionality of the system. One may as well think of the Treasury account as just one more reserve account.

Thus, there is no fundamental difference between the central bank reserve facilitation that is required to accommodate BAC’s payment of taxes or bond settlements to Treasury compared to the requirement for BAC’s payment to JPM in an intra-private sector transaction. In other words, there is nothing special about the fact that the Fed supplies the reserves that enable tax and bond payments. It does the same thing for all payment activity that may be associated with unintended interest rate pressures.

Moreover, consistent with our earlier explanation, Treasury under prevailing institutional structure is expected to manage its cash position in an efficient and effective way, such that any temporary surplus balances will soon find their way back into bank reserve accounts by net expenditure or TTL transfer, where they will once again be called bank reserves. A fortiori, the fact that reserves transferred to Treasury for tax or bond payments become temporary balances not called reserves is a semantic non-issue. They may as well be called reserves, since they function under the same general framework of participants’ cash management discipline as bank reserves.

In summary, the reason the Fed supplies extra reserves in either scenario described above is to respond to the general circumstance where reserve and Treasury deposit distribution as a whole becomes skewed to the point where some paying banks have lower balances than planned. That puts upward pressure on short term interest rates. The Fed supplies the appropriate level of reserves to enable all payments to be made at the target interest rate conditions – not just tax and bond payments. Some neo-Chartalists emphasize the uniqueness of Fed provisioning for tax and bond settlements. But there is no such uniqueness behind Fed operational motivation in the sense of the full category of currency users and the effect of their cash management behavior on interest rates. That the Fed may or may not supply extra reserves to enable tax and bond payments against the backdrop of interest rate targeting doesn’t demonstrate anything of extraordinary relevance, because the same evidence and argument applies to payment circumstances more generally.

Treasury and the Central Bank – Contingent Operational Adjustments

The USA is a strategic currency issuer and the Fed is the corresponding operational issuer. As a strategic issuer, the USA has options in the form of contingent changes it can consider for operational arrangements. These potential changes run the gamut from adjusting the nature of permissible transactions within the existing institutional framework to more dramatic change for the institutional framework itself. This section examines some contingency adjustments of the first type. This phase could be labelled “contingent operational adjustments”, corresponding to the set of functional adjustments that are possible while retaining the existing bifurcation of Treasury and the central bank as separate institutions.

The central bank balance sheet is the focal point of contingent operational adjustment. It consists of assets, liabilities, and equity capital. The nature of contingent adjustment can be classified according to these categories. The standard Federal Reserve balance sheet, pre-2008, included mostly Treasury bills and bonds as assets, notes and a small amount of bank reserves and government deposits as liabilities, and a modest portion of equity capital. We have categorized the portfolio of notes, bank reserve balances, and government deposits as the relevant scope of central bank currency issuance. The essence of contingent operational adjustment lies in the expansion of the role of bank reserve balances.

The starting point for any adjustment is the existing set of arrangements in which Treasury maintains a deposit account with the central bank. It must manage this account as a currency user. It has no overdraft or other direct borrowing privileges with the central bank and must borrow to cover debits. The central bank can only purchase Treasury debt in the open market, apart from replacing maturing bonds that it holds at Treasury auctions.

Contingent operational adjustment can expand the role of bank reserves to more prominence in central bank financial intermediation. This expanded role has been significant in the financial crisis, through quantitative easing. The Fed has expanded its asset portfolio in various phases during the crisis to include larger holdings of Treasury bonds as well as holdings in categories of riskier assets. Additional bank reserves have been produced as a by-product. The way in which Fed balance sheet management has rolled out during the crisis is an example of contingent operational adjustment.

But there is more. Adjustment more generally can be viewed as the option of expanding the co-ordination of Treasury and central bank balance sheet management in any environment, crisis or not. The key element in all cases is that the result is inevitably expressed as an effect on the amount of bank reserves outstanding. And, as in the crisis, the concurrent expansion in financial intermediation may involve a buildup in any asset category that the central bank targets for expansion, in conjunction with a reserve increase. However, in the context of this essay, the asset category of focus will be the internal funding of Treasury by the central bank. Contingent operational adjustment in this sense entails broad techniques for using the central bank balance sheet as a more comprehensive funding conduit for Treasury expenditures.

There are two categories of operational adjustment. The central bank balance sheet ends up with an expanded bank reserve position as a liability either way, but there are two different routes to that that destination. Consider the general example of government expenditure in illustrating these two modes of adjustment:

The first mode of operational adjustment directly affects bank reserve accounts. The central bank purchases assets of various types with resulting credits to reserve accounts. As it pertains to central bank interaction with Treasury specifically, the typical transaction involves the purchase of bills and bonds already issued to finance Treasury expenditures. The payment for the Treasury securities then becomes additional bank reserves on final settlement at the central bank. This combination of new assets and reserves expands the central bank balance sheet and expands the measure of money supply broadly categorized as currency issued by the central bank. The central bank balance sheet expands ex post, relative to the Treasury expenditures that created the requirement for the original debt issuance under standard Treasury operations. The Treasury deposit account itself is unaffected. Quantitative easing undertaken during the financial crisis is a larger part of this category. Thus, this mode of operational adjustment affects money balances at the point of final settlement of earlier fiscal expenditure. It relaxes standard rules covering central bank credits to reserve balances, by expanding the scope of related central bank asset activity. Quantitative easing (as well as so-called qualitative easing) during the financial crisis is the prime example.

The second mode of operational adjustment includes transactions by which the central bank credits the Treasury deposit account directly. This finances Treasury expenditures before those expenditures create additional bank reserves. This method may be considered ex ante to Treasury expenditure, as opposed to the ex post mode implicit in the first category of direct bank reserve credits. There are a number of different ways in which the central bank can credit Treasury balances directly:

First, the central bank can purchase Treasury bills and bonds directly from Treasury when first issued. That is only the case now up to the replacement of what is maturing on the central bank balance sheet.

Second, working more directly from the liability side of the balance sheet, the central bank can allow overdrafts in the Treasury account. That is currently prohibited. But if allowed, it becomes a variation on the first type, since an overdraft becomes a new loan to Treasury as opposed to a new bond purchased.

Third, the central bank can purchase newly issued Treasury coins (including large denomination platinum coins) and credit the Treasury account.

Fourth, the central bank also has the option of applying pressure on banks and investment dealers to purchase newly auctioned debt securities in exchange for the undertaking of required financing. This is a form of upfront but indirect financing of Treasury, using banks and dealers as conduits. However, the normal operation of the system does not assume that that the bank will fund the dealers indefinitely in times of financial system stress. There is an understanding that dealers will provide bids at auctions, but forcing purchases under conditions of exaggerated and potentially damaging market risk is not the general intent of such agreements. Treasury would probably resort to other methods in such circumstances. And “failed auctions” are not impossible. Whatever the “normal” agreement is for dealers bidding on the auction, the case in which the government forces the dealers to buy them without any back-up customer demand seems extreme, and should be considered as an extraordinary intervention.

Finally, the most radical adjustment of this type is a credit to the Treasury deposit account, combined with a debit to the central bank equity capital account. Taken to the limit, this will produce a central bank capital account overdraft, so to speak (as opposed to a Treasury deposit account overdraft, which is a liquidity overdraft). This might be interpreted as crediting the Treasury account “ex nihilo” – except that “ex nihilo” is never quite that clean in the correct world of double entry book keeping. There is an offsetting entry, designed to track the net asset effect. Using this method, a sufficiently large credit to the Treasury account in this mode would inevitably result in negative equity capital for the central bank. Some claim that such “ex nihilo” equity adjustments to central bank capital don’t matter (in particular those who enjoy scoreboard analogies more than they do keeping score). But this is an inferior approach if the more general objective is coherence in financial analysis. Suffice to say that it amounts to declaring which measurements matter and which don’t, suggesting some sort of bias.

The capital debit adjustment type is the demarcation line between what we’ve classified as “contingent operational adjustment” and “contingent institutional unification” taken up in the next section. There is an upper bound of sorts in the form of the central bank capital position, beyond which the institutional effect becomes more comprehensive.

In summary, the central bank can convert outstanding conventional debt to reserves. Or, it can provide financing to the Treasury account directly – through direct acquisition of government debt or (platinum) coins, or by deposit account overdraft, or by debit to the equity capital account. Both modes entail expansion of bank reserves, either through ex post conversion of debt to bank reserves or ex ante money expansion of Treasury deposit balances. The former is a conversion to reserves of what has already been financed by debt in the regular way, while the latter finances Treasury balances prior to their conversion to reserves.

Contingent Institutional Reform – A Central Treasury Bank (CTRB)

The operational adjustments described in the preceding section describe ways in which the central bank can expand its balance sheet, with the objective of broadening its financial intermediation function through increased issuance of bank reserves. These methods of adjustment fall a step short of the more comprehensive mode of outright institutional reform. Such reform involves combining the Treasury and central bank into one entity, in such a way as to wrap the core banking function jointly around fiscal and monetary operations.

The most basic characteristic of banking applies to both commercial banks and their central banks. That is the capacity to issue money-type financial claims in conjunction with the acquisition of financial assets. Those financial assets acquired include for the most part new loans in the case of commercial banking, and Treasury obligations in the case of central banking. This sort of asset acquisition creates deposits in the case of commercial banking, and financial claims within the currency category in the case of central banking – notes, reserves, and Treasury deposits.

The primary channel of central bank money creation in regular mode consists of central bank notes and bank reserves. With contingent operational adjustment as described in the previous section, the bank reserve channel can be expanded through more aggressive open market operations that credit bank reserves directly, as well as through new methods of direct Treasury deposit crediting, which feeds subsequent bank reserve creation.

Debates about banking have been a regular feature of the economics blogosphere over the past few years. The recent discussion involving Paul Krugman and Steve Keen is an example of the interest in this subject. While examining that debate is not a primary purpose here, there is an important aspect of continuity between that discussion and the topic here. Paul Krugman seemed to reject the notion that banks create loans out of “thin air”. His objection might have been partially alleviated by emphasizing that banks (central banks or commercial banks collectively) create both loans and deposits simultaneously in this “thin air” way. His concern in the case of commercial banking seemed to relate to the subsequent competition for those deposits, including their broader dissemination into the realm of non-bank financial institutions, with more complex patterns of financial system assets and liabilities. This seemed to be the implication of his reference to a 1963 paper by James Tobin and William Brainard. But none of that negates the obvious fact of the dual creation of loans and deposits at origin, something that is true at the root of banking as a generic function. It applies to both central banks and commercial banks.

This basic loan/deposit creation dynamic of banking is normally limited to banking institutions as we know them – i.e. central banking or commercial banking. But it is possible to incorporate it in a hybrid bank concept resulting from a hypothetical institutional unification of Treasury and the central bank. This could take the form of a “Central Treasury Bank” (CTRB). The CTRB would be at once a Treasury spender and an operational currency issuer.

CTRB is at the top of the conceptual money hierarchy, the same as its CB predecessor. It has no need for a Treasury deposit account for clearing government payments. This allows CTRB the option of issuing currency as a function of spending. CTRB spends by crediting commercial bank reserve accounts – directly when paying banks and indirectly when paying their customers. It is at the stage of this defined institutional form that we might accurately make such statements as the government “neither has nor doesn’t have money”.

(Note – with respect to actual institutional arrangements today, the insistence by some that the terms “financing” and “funding” be avoided in the case of Treasury is entirely unnecessary. First, Treasury is not an operational currency issuer, so that in fact it DOES finance or fund its requirements in the usual sense of a cash management operation. Second, even if Treasury were issuing debt to replace its own reserve liabilities (and it doesn’t), financing or funding would be perfectly sensible language to describe the replacement of one liability with another. There is no need to place such restrictions on the use of reasonable language.)

At the same time, there is no operational reason why CTRB cannot hold the option of issuing bills and bonds. And with that we can say that Treasury bond issuance is as much a reserve drain as it financing. Furthermore, there is no reason why CTRB cannot hold the option of positioning bills and bonds in inventory for potential use in open market operations.

CTRB has a most interesting balance sheet. The fused institution has the basic characteristics of a bank, but with a mismatched balance sheet. The result can be visualized as fused, two tiered balance sheet, with the former central bank above and the former Treasury below. At the outset at least, the top liabilities include bank reserves and notes, and the bottom includes bill and bond debt. The former Treasury deposit account with the central bank is eliminated. The central bank capital position is gone as well, as it no longer serves any meaningful purpose as a measured, segregated institutional risk buffer.

The entire liability structure of the CTRB is now intra-convertible, in terms of the fluidity with which reserves, currency, bills, and bonds can be issued or redeemed according to a fused and seamless fiscal and monetary machine. Similarly, the gross asset strategy in terms of inventories of bills and bonds or otherwise is fully flexible under this institutional arrangement.

In any event, it should be clear that the resulting balance sheet (assuming typical dimensions for a cumulative government deficit) exhibits the net financial liability profile (NFL) of its Treasury predecessor.

Central bank equity capital in its original form plays the same role in absorbing risk that private sector bank capital does in the context of commercial banking. But that central bank equity capital position disappears on institutional unification with Treasury. This is because there is no longer a role for such an external measure of capital to absorb central bank risk on its own. The Treasury balance sheet in its original form includes no formal equity capital position. But the equity profile is implicitly negative, inverse to the net liability profile created by Treasury debt. With institutional unification, that implicit negative equity position is carried over, after netting out any assets previously held by the central bank but perhaps no longer held by the combined institution (e.g. a reduction in Treasury securities). The end result is that the new consolidated Treasury position resembles a bank with negative equity. It is a full operational currency issuer, crediting bank accounts as it spends, without any necessary cash management interface between Treasury and a separate central bank, as was previously the case. One can interpret the negative equity position as the benefit of being the currency issuer. An entity that manufactures liquidity doesn’t need to be overly concerned about solvency, and the viability of a negative equity position reflects that fact.

The unified institution retains the original central bank note and bank reserve issuance function of the former central bank. And just as it now has the option rather than the requirement to issue bills and bonds, it has the option of holding an asset inventory of the same instruments for purpose of open market activity if so desired. These are all points of operational flexibility, which should be advantageous relative to lack of same. Most importantly, the unified institution now has the option of issuing bank reserves directly in exchange for the settlement of net government expenditure payments. That function replaces the old method whereby Treasury must borrow to fund a deposit account with a separate central bank.

Operational currency issuance is a central banking function in standard monetary operations, consisting of the emission of physical and electronic liabilities by the central bank. This is transformable into a CTRB issuance function as described here. From a policy perspective, such integration suggests additional flexibility in the potential for more intense co-ordination of fiscal and monetary policy.

Contingencies – The USA versus Europe

Finally, we briefly examine the difference between the monetary systems of the USA and Europe in the context of the contingent institutional paradigm.

The United States and Greece, for example, each conduct Treasury operations which are not fundamentally different with respect to the normal interaction between their Treasury functions and respective central banks. There IS a legitimate comparison between the US Treasury and the Greek Treasury in terms of regular Treasury operations. The Greek Treasury maintains a deposit account with its central bank, and manages the position of that account according to debits and credits to it. It has no direct credit support from the central bank, and must borrow to cover its deposit account expenditure debits with credits from taxes and borrowing. That pretty much describes the operation of the US Treasury with respect to the Fed as well.

And there IS a legitimate comparison between the US Federal Reserve and the European Central Bank in terms of regular monetary operations. Although the techniques of asset intervention are different (the Fed acquires Treasury obligations; the ECB acquires commercial bank obligations), the essential use of central bank reserves in setting interest rate levels is fundamentally the same.

Thus, there IS a legitimate comparison between each central bank and its Treasury client(s) in the context of the standard institutional framework for fiscal and monetary operations.

So if these are basic operational equivalences, where are the differences and how should they be categorized in a paradigm of institutional contingencies?

First, by way of review, the USA is a strategic currency issuer and the Fed is the operational issuer. As a strategic issuer, the USA has viable options in the form of contingent changes it can consider for the Fed as its operational issuer, or for the full Treasury/Fed institutional arrangement on a more formal basis. Most of the preceding part of the essay covers the nature of this flexibility for a strategic currency issuer.

By contrast, Greece has no similar control over the contingent changes that might be considered in the case of the ECB. Therefore, while its normal operational use of ECB facilities is not dramatically different than that of the USA in the case of the Fed, Greece should be considered as a strategic user of the Euro.

As reflected in the difference in their strategic currency status, the difference between the US and Greece is the likelihood of implementing effective operational and/or institutional adjustment, when market conditions make it necessary for there to be so. We have seen how difficult that is to achieve in the case study of the European sovereign debt crisis. There is no Greek counterpart to a US Congress with ultimate power over its central bank and the capacity to make necessary changes in order to modify operational currency issuance.

The US Fed serves a single Treasury currency user, while the ECB serves a set of Treasury currency users. The strategic problem for Europe is that there is no coherent institutional mechanism that ensures the same sort of contingent strategic flexibility for each of Europe’s Treasury users as there is in the case of the single US Treasury and Fed combination.

The flip side of the multi-Treasury set of European operational users is that they are using a single currency rather than multiple currencies. That is a material operational detail, but it does not negate the fundamental operational similarity of fiscal and monetary operations as between the USA and Greece. But the fact that Greece shares the Euro with other countries becomes an additional strategic challenge.

If contingent institutional capacity existed to convert the Greek Treasury function to currency issuer status, the shared Euro would be a secondary concern, because the capacity to force currency issuance through the banking system would make it unnecessary to ensure acceptance of Greek Treasury bonds. The issue of covering Treasury deposit debits with credits would be alleviated, because the Greek government would in effect become self-funding in that case, notwithstanding the shared Euro. It would have appropriate institutional backing for the commitment to be able to use the banking function as either an LLR (lender of last resort) or ILR (issuer of last resort) for Greek government expenditures.

 

 

 

 

The following papers are excellent on fiscal/monetary operations:

 

The Monetary and Fiscal Nexus of neo-Chartalism: A Friendly Critical Look

Marc Lavoie

Department of Economics, University of Ottawa

October 2011

http://www.boeckler.de/pdf/v_2011_10_27_lavoie.pdf

 

Modern Money Theory and the ‘Real-World’ Accounting of 1-1<0:

The U.S. Treasury Does Not Spend as per a Bank

Brett Fiebiger

November 2011

http://www.peri.umass.edu/fileadmin/pdf/working_papers/working_papers_251-300/WP279.pdf

 

Both papers are instructive on modern fiscal and monetary operations. They were also helpful to the formulation of the contingent institutional approach used in this essay, an approach that seeks to separate factual and counterfactual versions of fiscal and monetary operations.

 

Comments

  1. Cullen Roche says:

    This is a superbly detailed and accurate piece. Thanks JKH.

    • anonymous says:

      Yes, you have read some of the non-Primer MMT material and are finally taking an interest into how it all works … swell … ’bout time …

      You have ‘bashed’ those MMT rascals for their making some simplifying short-cuts to explain the workings to a wider audience … and then what did you do? … you propose an actual institutional structure that is based on the simplified assumptions! … ahh … WOW!

      Really just at sort of a loss of words here … superbly silly … that is what this is.

      • Cullen Roche says:

        Jown,

        No one “bashed” anyone in this post. This MMT attack style of debate is really unwelcome here. I don’t know why you all insist on engaging everyone in such an unproductive manner. Worst of all, you are (once again) getting bent out of shape about MMT when no one even mentioned MMT in this post. I am sorry that we disagreed with your policy agenda and the JG. It’s time for you all to move on. We do not agree. It happens. But please don’t come here attacking us like you do to everyone else on the internet. It’s not productive.

        Cullen

  2. JKH, this is a very good write-up. A little long for my taste, but better to be thorough here than quick and sloppy like MMT often is. And I have to commend you all for getting the institutional relationships correct. The way MMT mixes up the Fed and Treasury results in a distorted view and understanding of the way things actually work. Thanks.

    • Thanks, FDO15.

      You’re right, it is on the long side – partly from exhaustion with the piece I think, but partly because I wanted to try and get the logic of the approach on the table, at the risk of repeating some stuff through the different stages of it.

      • Better to be long in these big important seminal MMR posts than short and imprecise. I applaud your efforts on getting things “right”. Cullen mentioned from the start that he wanted to get this precisely right. It looks like MMR is developing this and staying true to its word. Bravo.

  3. It sounds like you all are separating yourselves from the MMT language that the government spends first and taxes second. MMT basically says the Treasury is the fiscal agent so your idea of the Fed being the fiscal agent and a bank is quite different. Is that right? If so, could you elaborate on this? Why is MMT wrong in saying the government spends first?

    • Cullen Roche says:

      MMTers use many metaphors that hope to clarify things, but often confuse matters. I’ve fallen into the trap of using their language in the past and it’s something I need to be careful about in the future. We’re not trying to compete with MMT so I see no need to compare and contrast everything we do with MMT’s view of the world. To us, this is just the way it is. To consolidate the Fed and Tsy is to create an alternate reality. Their relationship might be “symbiotic” as I’ve stated, but that doesn’t mean they’re the same entity. We have to be very precise and clear on this stuff. The Tsy’s relationship with the PD’s and the Fed makes the autonomous govt a currency issuer, but it does not make the Tsy a currency issuer. Consolidating the two does not help clarify the reality. It only confuses it further. It’s better to take JKH’s approach and just explain how it is. I’ve retooled my primer to explain this as well. We’re just explaining what is, rather than explaining what ought to be….

      • Yes, “could be”, “should be”, and “are” must be different. We’re trying to avoid the confusion caused by small mistakes, and it’s very hard. Thanks to JKH for wading through this with a high level of detail.

        The distinction between Tsy being the currency issuer and the government being a currency issuer is slight on first glance, but we’re talking about how the world works, so describing it very accurately is helpful.

  4. JKH,

    To me, this particular essay epitomizes what MMR is all about. It’s a seminal essay. It definitely adds a lot of nuance to an aspect of MMT that seems to get glossed over. I very much appreciate this contribution. Thank You!

  5. Dan Kervick says:

    Hey JKH, we have been thinking about the same topics. I have a post that should appear tomorrow morning at NEP on some of these same issues.

  6. On first skim, this makes sense. The main takeaway from the essay seems to be the suggestion that when using the terms currency user/issuer, we should use the modifiers “strategic” or “operational.” (I still struggle to follow the Fiebiger paper, though.)

    • Cullen Roche says:

      We’ve all been batting the Fiebiger paper around in private and actually discussing it directly with him. I used to question his positions, but now think he’s dead right. His operational understanding is impressive and extensive.

  7. In fact, there are conflicting accounts of this process from those who tend to make an issue of it in the context of neo-Chartalist themes and arguments that are premised on the assumption of extraordinary Fed provisioning of reserves for bond auction settlements.

    JKH,

    Excellent stuff!

    The reason there are conflicting accounts is that till recently – the Chartalists never had it right and hence different accounts of the operations. Of course in the “reply” – they had it right – at least at the operational level (and not interpretation) – but without acknowledgement :-)

    I think the settlement *always* move funds to the TGA and after that the Treasury may decide to move funds to TTL.

    • Thanks, Ramanan.

      I knew there were conflicting versions from a certain group, but didn’t prioritize going back and sorting out who was saying what, and when, and doubly confirming which one was correct. So I hedged for either version by assuming the “worst” case in terms of potential reserve disruption – the bottom line being that Treasury has a multi-account cash management discipline and will sort out those flows to the operational advantage of both Treasury and the Fed as it turns out.

  8. Here’s the standard MMT response. They call it a “9100 word semantic masterpiece”. I don’t even think they understand how wrong their positions are. They are blinded by politics and ideology.

    http://mikenormaneconomics.blogspot.co.uk/2012/05/jkh-treasury-and-central-bank.html

    • Cullen Roche says:

      FDO,

      I don’t know if you consider yourself an MMRist or not, but you don’t represent us well when you attack MMT in the same way they attack others. It’s self defeating to leave comments like that on their sites. You’re doing what others criticize them of often doing. Be cognizant of this when leaving comments on the internet.

      Thanks.

    • FDO15,

      I think you do more harm than good. I comment at both MMT websites and MMR websites. I have no problem being respectful to both camps. Is it really that difficult for you?

      FDO15 at MNE: “I doubt any of you will understand these points or even consider how wrong MMT is about them so carry on with your typical insult laced comments and shrugging off of things that UMKC economists can’t even begin to understand. There is, after all, a reason why no MMT economist is at a top 25 b-school. It’s not because they’re all undercover geniuses. It’s because they make pitiful mistakes and then refuse to correct them.”

      You are instigating petty arguments as much as any MMTers is. Get over yourself.

  9. JKH

    I couldnt make it through the whole post. I think its obvious you know a hell of a lot about the details of our monetary system and it s also obvious that many of the descriptions by MMTers could best be called shortcuts and at worst be called lies. I dont think they are liars, nor do I think any of you guys are liars, (Ive also never heard you or Cullen or Mike call any of them liars I want to say)so Ill just leave it at shortcuts. From what I did read and from what Ive read in comments/discussions here and at MNE, I just have one question;

    Has the American Central Bank ever not provided Congress with the funds it sought after its budget discussions AND do you think it is LIKELY (obviously its possible) it would ever tell the Congress “NO we will not credit your account with the money you wish to spend”? Additionally what would happen in that instance
    would we change Fed Chairmen or would we change Congress and the President or would nothing happen? I get that we have made all sorts of institutional rules to “keep” the CB independent and keep Congress responsible and all that but how much will that matter when “rubber meets road” cuz rubber might meet road soon.

    We have all been made aware of the coin option (which I havent seen you dismiss) so doesnt president Obama have the ultimate power not Ben Bernanke? Personally, I hope so AND I would have hoped so even when Bush II was president because I never had a chance to vote against Mr Bernanke.

    • Greg,

      Thanks for your question.

      The root of it for me is how to tackle the subject of describing how the monetary system works. There are competing ways of attempting to do that on a best efforts basis, it seems.

      How it works includes how it works as a “regular” operation, and how it might work if the “rubber hits the road”, as you well put it.

      Also, what the possibilities are for changing how it might work “regularly”, and why various interested parties might want to make such changes.

      That’s the flavor of the post, as I intended.

      In terms of “rubber hits the road”, it is a fact of current operations that voluntary default is technically possible. It is possible in the case of the debt ceiling, and it is possible for other reasons, I suspect.

      Is it probable even in conditions where it is conceivable?

      Almost certainly not; that’s my point about “strategic issuers”.

      How would possible default be avoided exactly? Well, the debt ceiling is an interesting case study. And maybe other scenarios should be considered. It seems heavy politics is involved. And maybe all that is a reason to consider changing the rules, or at least having a contingency arrangement. The President forcing through a platinum coin might be one way, but maybe there’s an easier answer with a more permanent vision of how it should all work.

      Beowulf is a good head for this sort of discussion, involving technical and legal issues, politics, and common sense, if he is lurking nearby and willing.

      • Tom Hickey says:

        As I recall, Warren once gave a talk in Oz attended by central bankers. A subject similar to this was raised in the Q&A, and Warren asked one of the central bankers if the cb would bounce a Treasury check should “the rubber hit the road.” His answer was, “No.”

        • So I’m going to take a wild guess that those weren’t central bank chairmen that were listening to Warren’s talk.

          Has he spoken with Bernanke about circumventing the “self-imposed constraint”?

          (It does seem that Bernanke was somewhat constrained in the case of Lehman.)

          • Tom Hickey says:

            I don’t recall the details. Maybe someone else does.

            Certainly Ben refused Hank the Hammer’s request to fund the bailout claiming it was a fiscal matter. But that wasn’t bouncing SS checks either. And maybe Ben learned something about what happens when the Fed doesn’t act decisively as it did not in the case of Lehman. Knowing what that know now, they would never have let Lehman fail, whatever it would halve taken.

            I suspect that the ball is in Obama’s court on this if a deal can’t be worked out and default is otherwise inevitable. Would he follow Clinton’s advice to override Congress or not? It’s hard to say, and I don’t think it will come to that, so we probably won’t find out.

            A Rober Rubin wrote in the WSJ today, the deal will be sprung after the election, when it is politically safe to do so. Both parties have too much to loose by forcing just prior to get the upper hand.

            • AndyCFC says:

              Its in Warrens 7 deadly innocent frauds.

              Head of research at the Reserve Bank of Aus… David Gruen

        • Cullen Roche says:

          I don’t intend to start a MMT vs MMR commentary here, but JKH’s post is illuminating in another sense here. When you understand that money is a social construct and essentially a tool utilized by society for society then we can better understand why it’s important to understand this institutional arrangement. Working from this understanding, it’s important to see that the state does not just impose money on its users. It cannot force them to use it just because it says there is a tax to be paid. Rather, the pvt sector allows the currency to exist for its benefit. This is clear from the relationship of the Tsy as currency user.

          If the Tsy could not find buyers of US govt bonds from the Primary Dealers then you’d have to ask yourself what in the world is going on. Well, that would likely ONLY happen in one scenario. Hyperinflation. The PD’s would stop buying Tsy bonds because their value would be plummeting and demand would dry up. Of course, the “rubber meets the road” scenario could always kick in and the Fed could start buying, but this is every Austrians greatest fear – this would be true monetization. So the “rubber meets the road” scenario is silly to talk about because it would really only occur in a situation in which the currency is already dying (this is a contradiction in the MMT literature which would only be understood once MMT has already lost the war). So yeah, the Fed can always be the buyer, but the current institutional framework highlights an important point – so what if the Fed can buy when no one else wants? The current institutional framework highlights this relationship between the pvt sector and the public sector and the money they share. I know MMT claims that their view of money is not authoritarian, but I am having a hard time seeing how it’s not…..

          These are my thoughts on the matter alone and not those of JKH so take them for what they’re worth, which, to most MMTers, is probably not much. :-)

          • “Working from this understanding, it’s important to see that the state does not just impose money on its users. It cannot force them to use it just because it says there is a tax to be paid.”

            I’d just stay that even with mosler’s gun to the head analogy, I don’t think MMT is suggesting that the federal government “forces” people or businesses to use the currency “because it says there is a tax to be paid.”

            Maybe I’m just nitpicking at wording here. But the connection MMT is suggesting seems much more subtle (without force), i.e. the tax “encourages” the use of the currency. Though encourage might be too soft. Should we just stick with economic jargon: “creates demand for…” :)

            (just trying to clarify what MMT is suggesting.. at least my understanding of it, not starting an argument about who is right and who is wrong)

            • Cullen Roche says:

              Wray has been PLENTY clear:

              “The best kind of payment is an obligatory one—one that must be made to stay out of prison, or to avoid death by thirst. An obligatory payment that must be made in the sovereign’s own currency will guarantee a demand for that currency.”

              I know MMTers hate when I point out the gun to the head examples, but it’s not like that’s the only time they’ve used it. MMT’s taxes drive money idea is based on coercion and state force. It’s been repeated throughout their literature in plain words. I am not exaggerating anything. Merely quoting verbatim. I know the standard MMT line of argument following statements like this is to say “well, that’s not what we really mean….” Spare me. The whole taxes drive money view is based on an underlying idea of bringing the state back to center stage. It’s a misunderstanding of the balance of society and the role of the state. Ironically, in doing so, MMTers misunderstand precisely what money is. And that’s saying something because they understand money better than most economists out there.

              • I think that’s fair. I must be mistaken. Just to be clear… what I say should definitely not be taken as an MMT position. As I’ve said before, I’m very much in the learning process.

              • Tom Hickey says:

                “I know MMTers hate when I point out the gun to the head examples, but it’s not like that’s the only time they’ve used it.”

                Do you deny that in the US and most other countries if you don’t meet you tax obligation or cheat on your taxes, you are subject to the penalties, which involve fines (“confiscation of property”) and loss of liberty (“imprisonment”)? Do you think that such laws should be repealed and let people meet their obligations to the state voluntarily?

                What RW is saying is that historically governments imposed violence and it worked. In feudal times, the tax collector showed up with a few soldiers and a cart, estimated what you owed and you handed it over or they just took and then some, and you were fortunate not to get a beating on top of it. And if you lied or held back, God help you. We don’t live in such times now anyway. We are more polite about it, but it amounts to the same thing to hear Libertarians tell of it.

                • I don’t think that’s the point MMR is trying to make. If you apply it to the real world, federal taxes are taxes on economic activity, as measured by various forms of income (personal, corporate, payroll). If there is no economic activity, i.e. , no productivity, then there are no taxes owed. The govt does not tax us merely for our existence and therefore force a demand for its money. This is the distinction I think Cullen tries to make when he says the value of money is derived from a combination of productivity and taxes.

                • Cullen Roche says:

                  Sure, there’s a certain level of coercion, but I think you guys take it to an extreme. We don’t use US currency because we need to collect it to pay taxes. We use the currency primarily because it’s a convenient medium of exchange that allows us to transact in goods and services we want. This has much more to do with production and other factors than it has to do with taxes and coercion.

                  I find it odd that you’re so repulsed by the use of police force in situations like OWS, but gladly point out that violence is a nice way of maintaining the monetary system. You can see how that might be viewed as a contradiction….

                  • Tom Hickey says:

                    “We use the currency primarily because it’s a convenient medium of exchange that allows us to transact in goods and services we want. This has much more to do with production and other factors than it has to do with taxes and coercion.”

                    That’s a narrative, not a developed theory of money. Is MMR going to enter the lists and develop a new theory of money, adopt an existing one (which?), or stick with a narrative?

                    “I find it odd that you’re so repulsed by the use of police force in situations like OWS, but gladly point out that violence is a nice way of maintaining the monetary system. You can see how that might be viewed as a contradiction….”

                    Look I don’t like most of what goes down, but I try to understand what actually happens and how to make the best of it. In my view, MMT is the best compromise position out there that maintain market capitalism and the financial sector intact.

                    If I had my druthers, I would alter both radically, but that is another subject. MMT is a compromise I can support as something that could be adopted as economic policy more or less immediately with a great change for the better, or at least better than any other system that saves capitalism pretty much as it is.

                    While I don’t like it, I accept is the system we live under and continue to do so probably for some time, barring a radical or reactionary shift due to some shock. The present course the world is on could lead to just such a shock.

                    • Cullen Roche says:

                      “That’s a narrative, not a developed theory of money.”

                      MMT’s idea of money the epitome of a narrative. From the tally stick narratives to the nonsense about holding guns to people’s heads to get them to use the currency. MMT’s developers are experts in narrative and when convenient, they ignore the reality to satisfy the narrative.

                      Money does not exist solely to mobilize resources from private to public domain. Money exists to satisfy certain social needs within a society (primarily for private use). And money has existed long before human beings or governments or tally sticks. Money is widely found in primitive species. As Innes understood, money is credit. Primitive monkeys and animals use money in the form of unspoken bonds. You scratch my back, I’ll scratch yours. We use it for far more complex reasons. But the essence of the purpose for its existence has not changed all that much. It is still just a tool created to meet certain social needs. The fact that we’ve organized it and regulated it is a vast improvement over the primitive forms of money, but that’s just evolution at work. The MMT story of money starts around the year 2,000 BC or so. Mine starts at the beginning of social species. So whose “theory of money” is broader in its scope and understanding? That’s up to you, but my guess is you know a thing or two about evolution and what not so I would expect that the idea of money originating a few thousand years ago would not sit too well with you. Then again, MMT is all about states and their powers around money so it doesn’t surprise me that MMT chose periods of organized money as a state institution to build their narrative around. To do anything else would contradict the entire movement.

                    • Tom Hickey says:

                      Cullen I don’t recognize this as what the MMT economists have said from my reading if them on the history and theory of money.

                      MMT is based on both a credit theory theory of money that is essentially an institutionalist theory with an anthropological and sociological basis and a state theory that is essentially chartalist, and it rejects the commodity-metallist theory as unhistorical. MMT economists have stated that they are in agreement with Graeber’s Debt: The First 500 Years, which is not original as its profuse documentation shows, but is a compilation of other work that was already known to monetary historians and theorists like RW.

                    • Cullen Roche says:

                      Well, perhaps you’re not as familiar with the writings of RW as you might think:

                      “Chartal, or modern money is 4000 years old, and it is our proposition that the analysis contained in this book is not merely a special case….but rather it can be applied much more generally to the entire era of chartal, or state money. Instead of trying to locate the origins of money in a supposed primitive market originally based on barter, we find the origins in the rise of the early palace market community, which was able to enforce tax obligation on its subjects.” (Wray, 1998)

                      Ignoring the history of money as predating state money is like developing a theory of the world’s evolution based solely on the last few thousand years. He wrote an entire chapter of his book ignoring the fact that money pre-dates these “palace communities”. That’s a crime on the history of money in my opinion, but totally consistent with the incorrect conclusions across the spectrum of MMT writings.

                    • Tom Hickey says:

                      Randy is saying what other monetary historians like Michael Hudson, who Graeber often quotes, are also saying. “Modern money” is state-based and that dates back at least 4000 years. Of course this doesn’t means that there were no instance of credit money only during this period, just that what is considered “modern money” v. “ancient” or “primitive” money is chartal in addition to credit. (Mosler: state money is a tax credit.)

                      MMT doesn’t say that money came into existence with state money, since credit money clearly predates it. But credit money alone is “primitive money” historically. Being “modern monetary theory” MMT focuses on chartal money as a type of credit money. According to Wray elsewhere, all money is credit-based (contra the commodity theory). MMT acknowledges Innes as well as Knapp.

                    • Cullen Roche says:

                      That comment is entirely illogical. You’re saying that all money is credit, but then chartal money is somehow unique and “modern” rendering it so different that we need not focus on any previous history of money. It’s Orwellian doublespeak as one of your critics once said. It is totally incoherent, inconsistent and illogical. You can’t understand modern money without understanding the history of money pre-dating chartal money. There are growing inconsistencies across MMT which are quite frankly, frightening.

                    • Tom Hickey says:

                      Obviously we are never going to come to an understanding on this since you apparently don’t see where I and MMT are agreeing with you. You find it illogical because you don’t seem to understand it as far as I can see. You are seeing a contradiction where there is none. Again, we will have to agree to disagree since we cannot agree on neutral facts.

                    • Cullen Roche says:

                      Ah, the old “you just don’t understand MMT” line. That actually works on some people Tom, but you and I both know I am too familiar with MMT to be pulling that one….Oh well. MMR and MMT just disagree on quite a bit more than I thought.

                    • Tom Hickey says:

                      Well, as I said, if we can’t agree on neutral facts, there is not much sense arguing about it further.

          • Cullen,

            That’s an important point. If a Treasury auction ever “failed” technically, it would be because of interest rate risk, IMO – dealers not wanting to position bonds because of fear of further capital losses – not because of “liquidity” or “government solvency” concerns. And that kind of interest rate risk is very much associated with inflation risk. And the government institutional response to that kind of risk scenario could range over a number of options mentioned in the post, including emergency CB buying in exchange for reserves priced on the basis of overnight interest rate sensitivity (i.e. less interest rate risk) – rather than forcing dealers to “ honor” their “commitment” to buy fixed rate bonds. Or, in the “treasury central bank” version, issuing reserves as the norm in those circumstances, rather than responding in the reverse direction to a “debt crisis”.

            • Tom Hickey says:

              In a sense primary dealers are useful fiction in that auctions could conducted directly without them. The existence of PD’s allows “deals” between the cb and the dealers in the event that policy requires. For example, the cb can always avoid the no direct tsy purchases by guaranteeing the PD’s that it will cover their risk by immediately purchasing them back for its book, and there is no doubt that the cb is in a position to do so.

              • Cullen Roche says:

                The acceptance value of money is not an authoritarian transaction with a man holding a gun saying “pay your taxes or die”. IT IS A DEAL. And the banks are the Primary Dealers, literally. I don’t think you’re getting my point on the balance of acceptance value in the currency….

                • Tom Hickey says:

                  I think I understand it quite well and I agree that money is a social construct based on trust, as do the MMT economists. The issue is how the construct works when state money is introduced to move resources from the private sector to the public sector. It could be that government needs to tax to fund spending as municipalities and states in the US do since they are currency users. The national government is different because it is the currency issuer. The contention is that a currency sovereign does not need to fund spending with taxes or finance spending with borrowing, with which I assume you also agree.

                  Then the question arises as to why the private sector is taxed at all if taxes are not needed for funding, and also why people would accept state money in exchange for their real resources if the state just issues it without backing. MMT has an explanation for that. Other explanations are possible. Then the question becomes how to decide among competing explanations on the basis of some hopefully objective criteria that reasonable people can agree on.

            • How is interest rate/ inflation risk meaningfully different from government ‘solvency’ concerns?

              Great piece, of course.

              • We know that government solvency is never an involuntary concern, because the government has the capacity to pay for spending with central bank reserves, in effect, directly and exclusively (i.e. without issuing debt). I like to think of that as an operational adjustment or institutional contingency, rather than the way things actually work in practice. The government, using central bank machinery (perhaps including the CTRB as I described) has the capacity to make that happen, if it wants to, as an option. Having the option to make that happen is not the same as suggesting that is the way that things work in normal practice, which is the distinction made in the post.

                Anyway, government has the option to make payments in such a way that solvency from a strict technical perspective is never an issue.

                But interest rate risk introduces something quite different than solvency. Simply put, if interest rates on Treasury financing are too high for too long, interest on the deficit and debt are going to take up an increasing proportion of national income. Notwithstanding assurances of solvency and the ability to pay that interest, it is simply reckless management to allow that sort of income distribution to skew that way without limit or concern.

                This really is a weird and different area than the solvency issue per se. I think there is an income distribution issue associated with interest on government debt that parallels in a distant way the conventional discussion about income distribution.

                This all touches on the question of how much control that the CB has over interest rates, which is an area with which I would disagree with MMT’s presentation. The CB only controls those rates where it intervenes in an unlimited two way market. Right now, that’s the overnight rate. Some suggest that this could be extended to the entire yield curve, which is correct in theory, but it requires continuous and ubiquitous intervention throughout the length of the curve. Apart from such interventions, it is simply false to suggest that the CB controls interest rates at the operational level. If there is a free market operating along any part of the curve, the market will determine the interest rate there. Of course, the market factors in expectations for CB interest rate policy, but such expectations are a market determination, not a CB determination. That is the way things actually work, as opposed to how they might work in some counterfactual case.

                So there is interest rate risk in that sense. And we saw that in the 1980’s. And there is also interest rate risk merely in the fact that the CB can’t really forecast with certainty the path of future short term rates, notwithstanding it will be the one to determine that path in the future. Volcker didn’t know at the start how high he would end up raising the fed funds rate.

                And all that as a risk has consequences for the interest rate cost of the debt, notwithstanding that the solvency issue is always essentially out of the picture.

                My point on this is that the government has the option of shutting down some of that interest rate risk, using conventional CB machinery, or CTRB machinery as desired, by eliminating term bond issuance and restricting all liability pricing to overnight. And it can control the overnight rate at an operational level, without having to be concerned about paying an additional term structure premium for bonds, based on how the market prices the risk for that overnight rate in the future.

                Of course, it must still respond to inflation risk, and there it has a choice as to the mix of monetary policy (e.g. overnight rate) and fiscal policy (taxes etc.) it can use in order to do so.

                And to the degree it responds to inflation risk by managing the overnight rate, there is still interest rate risk in terms of the future path of that rate (just as there was in the 1980’s), and its effect on the interest rate cost of the deficit and the debt. But that’s arguably a more controllable cost than paying the market price for bonds in addition to that.

                One might argue that all such interest rate risk could be eliminated operationally by fixing a single government liability rate (e.g. the MMT proposal for a zero fixed rate). That forces the entire adjustment burden over to the fiscal side.

                But it doesn’t really eliminate interest rate risk in the long run to the degree that it constitutes a regime that would be just as fragile and risky as would be attempting to fix to gold or FX in the long run.

                I would never argue that interest rate risk and the interest rate cost of the debt should be ignored simply because solvency concerns are off the table. That’s just a sloppy management approach, IMO, perhaps similar to not caring about how government spends its money (the money it takes into its Treasury account at the CB).

                • Good comment JKH. In respect to USA institutional settings and in theory the central bank could buy T-bonds up to whatever amount is needed to obtain a certain interest rate on the bonds (obviously with differences on maturities) but would it willing or able to do so in practice, say, in extreme conditions where domestic and/or global investors were fleeing that asset? If a federal government is indebted in its own currency and the central bank is allowed and willing to act as its banker (and buy bonds in the open market), then, solvency should never be a concern. But markets do have some influence on the interest rates on government bonds and it is a matter of history that there is the potential for spikes in extreme situations.

                  If there was a big geopolitical event (and sudden loss of investor confidence) I wonder if capital controls would be resorted to. Supposing instead that concerns about inflation led over time to a gradual rise in the interest rates on government bonds to levels deemed inconsistent with policymaking objectives the Fed would likely respond incrementally (and perhaps accept modest spikes) but if matters appeared to be getting out of hand would eventually flood the market. (I also think that anyone willing to bet against the USA Fed should not be doing with their own money let alone somebody else’s money!)

                  Concerns about interest rate risk are less relevant for the issuer of the “key” currency (sidenote for geopolitical events) than for other countries. Foreign bank holdings of USA T-bonds are said to present a “prisoner’s dilemma”: the positions cannot be exited from en masse without decimating the value of these assets (i.e. currency depreciation). If there were rumours that the major foreign central bank creditors of USA bonds wanted to exit (rather than gradually diversify) then matters could get out of hand but any country (and any government) would find it difficult to manage a large scale investor exodus. I’m talking about extreme outcomes here which would seem less of a concern for the centre country than for the periphery (i.e. holdings of international reserves act as per a gold constraint) and the unfortunate advanced countries that have chosen to severe the links fiscal policy and monetary policy (Euroland).

                  When the central bank buys government bonds in the open market I call that indirect monetarisation and sometimes doing that can exacerbate a loss of market confidence (think developing countries). The market can be a curious beast and the rise of the USA dollar in the latter part of 2008 was one instance when investors flocked to the safety of the State most able to handle a big and truly global financial crisis. Certainly, the USA Fed at that time was buying assets from Wall Street, but there was also a rush to T-bonds (the world’s “safest asset”). My point is that sometimes central bank interventions are viewed positively by financial markets and at other times negatively. Oh and the centre country does play by its own set of rules.

                  In my int. currency piece I did not underline how size matters. Can a developing country really pursue macro policies with independence from what policymakers are doing in the USA, Eurozone and Japan (unless they have previously amassed ‘war chests’ of reserves)? In the 1980s the USA Fed put global interest rates at high levels and in the process bankrupted much of Latin America and Africa. The Fed’s monetarist experiment was the trigger with the fundamental problem that the region’s external debts were mostly dollar-denominated. Even if the periphery’s external debts were contracted mostly in local currency (which is not in practice) their policymaking decisions must take into account what the centre is doing (not the other way around). In the early 2000s the USA Fed put global interest rates at low levels prompting what the Bank for International Settlements called “an aggressive search for yield”. Many developing country policymakers recycled flows of so-called “hot money” back to the centre. All of this is old news: just relaying why it is a gross simplification to present certain policies/reforms (e.g. a floating currency) as a panacea to policymaking autonomy in the periphery. The central banks of the G-3 (USA, Euro and Japan) have the decisive influence on global interest rates: others countries that do not follow are subject to “carry trades” (for those that do not know: speculative short-term investments based on nominal interest rate differentials and guesstimates of future currency movements).

                  G-3 interest rates are currently low. But there is in general little scope for periphery policymakers to set domestic interest rates below the G-3 nations. The reason is that (at least over the longer-term) rates must be higher than the “safe” G-3 (i.e. investors make risk-adjusted calculations) or else global capital will leave in droves (with the ultimate constraint being the link to international reserves and potential self-fulfilling crisis prompted by fears that the country will run out of international money). If periphery policymakers require higher interest rates (say to curb CPI or asset price inflation) then they must either hope that global capital invests wisely (which no one has really not been willing to do since the spate of crises in the 1990s) or endure the fiscal costs of sterilising capital inflows (there are different means of sterilisation but as one example periphery policymakers pay the difference between the low rate on return USA T-bonds relative to the financial asset purchased by the G-3 region investor). Many have noted that unfettered global capital has complicated countercyclical monetary policies: implementing higher interest rates intended to curb the economy can attract global capital sustaining the boom and vice versa lowering interest rates to reflate the economy can prompt an investor exodus.

                  JKH, was occupied with other matters, and did not get back to you and Ramanan’s note on how gold was a constraint on money creation. There are many systems to explore: in the USA the major reforms to the domestic monetary system occurred in the 1860s, 1913 and 1930s. According to orthodoxy in the Gold Standard period 1870-1914 the famed “natural” adjustment process for nations running balance-of-payments (BOP) deficits was said to occur via market-led ‘automatic’ changes in the money supply and price levels. The reality is that there were prolonged BOP disequilibria in the Gold Standard era. The adjustment process for a nation running persistent BOP deficits typically occurred via monetary authorities raising interest rates in order to attract foreign investors to cover the pending deficiency in gold reserves in the short-term (i.e. thereby providing gold or foreign currencies convertible into gold). Higher interest rates, by contracting domestic demand, also curbed the BOP deficit in the longer-term (i.e. the changes took place more by changes in output and employment).

                  At the international level, the gold constraint was similar to what the periphery has now in respect to holdings of international reserves (which are needed to participate in the global economy and “self-insurance” purposes); and policymakers can certainly for a period allow money to be endogenous. Whether on a floating or fixed exchange they can let reserves decline for a period but must eventually do something (i.e. raise interest rates to attract global capital) to counteract the loss of international reserves: the failure to do so opens up the possibility of full-on speculative attack and BOP crisis requiring IMF “assistance” (actually humiliating exploitation). Without war chests a developing country on an informal or formal peg cannot sustain it fpr long if the market takes a view that the exchange rate should be otherwise but if they float the currency, then, exchange rate depreciation is not necessarily a good thing. The country will get some spur from increased trade competitiveness but the increase in value of foreign-currency debt relative to the domestic currency unit increases debt servicing costs and import bills; and, also affects the decisions of credit rating ratings (equals downgrade and higher interest rates) and things can get nasty from there. The links between the exchange rate and interest rate is what normally transforms a BOP crisis into a calamity: the main exception being the centre country.

                  In my view anyone interested in increasing policy autonomy in the periphery must be concerned with the following in no particular order: (1) the currency denomination of external debts; (2) making global capital less driven by short-termism and herd behaviour; (3) building deep domestic credit markets so as to reduce reliance on external factors; and, (4) obtaining non-exploitative and non-deflationary collective insurance mechanisms (i.e. making the IMF a proper Keynesian institution).

                  Perhaps I’ve drifted too far from your comments. On another matter I have 100% agreement when you write: “I would never argue that interest rate risk and the interest rate cost of the debt should be ignored simply because solvency concerns are off the table.” If the federal government finances it spending mainly by taxing-and-spending and borrowing-and-spending activities involving agents that are not the central bank, then, there is clearly a need to be a little concerned about the possibility that higher deficits today could impede policymakers down the line. Fiscal policy is endogenous but unless thinks some reform that would achieve similar results to minting platinum coins (or everyone grows up and supports the Fed increasing its T-bond holdings), then, it is worthwhile indeed to consider how to get the most out of the existing budget stance. To put matters simply: how to reorient expenditures to the most productive areas and how to alter the tax system in the most efficient way.

                  I have never been a fan of viewing changes in the size of the budget deficit as ‘the’ lever to obtain policymaking goals. That does not mean that I’m worried about solvency or against a higher budget deficit now to give the economy a needed boost. It is to say that there is much policymakers can do to stimulate the economy by changing its taxing and spending activities while leaving the overall budget stance relatively unchanged and such an approach is of merit. Take, for example, that if the certain parts of the world were decided to be peaceful how certain military expenditures could be redirected elsewhere. Cutting some not-so-productive expenditures and spending them elsewhere could improve the budget bottom line. By a similar token the taxation system is not only a source of revenues but a means to foster certain types of investment and economic activities. My vote is for creating jobs through investing in health care (aging populations) and research into ‘cleaner and greener’ technologies and subsequent dispersal (the guys and by guys I also mean gals at PERI have been looking into that for some time).

                  So I do agree that the interest costs of debt cannot be abstracted from unless ‘major’ reforms are likely and I also hope that someone pays attention to the scientific community when they tell us “pending catastrophic irrevocable damage to global ecosystems from climate change”. I started out at uni doing an environmental science degree before shifting into political economy. I still like to read scientific reports now and again as what the scientists say is in my hierarchy of assigning value to information top rung (and I find it difficult to think of economists as scientists unless the word dismal is somewhere).

                  • Made at least one typo: “Fiscal policy is endogenous but unless thinks some reform IS PROBABLE that would achieve similar results to minting platinum coins (or everyone grows up and supports the Fed increasing its T-bond holdings)…”

                    Words and sentences… one or two words different changes everything :)

                  • Cullen Roche says:

                    BF,

                    I touched on this in a recent comment. I think you’re right that the market can still bear some control over rates, especially in extraordinary circumstances. For instance, in the creeping stages of a hyperinflation the central bank will likely raise rates to try to keep the inflation from spiraling out of control. But a hyperinflation is much more than a monetary phenomenon and generally can’t be contained via monetary policy. But what the rate increases would do is signal to the bond market that the Fed is increasingly concerned about the stability of bonds and the currency in general. It becomes a slippery slope at this point. Hyperinflation is generally caused by collapse in production, loss/low monetary sovereignty, unstable government and loss of a war. None of these are serious risks in the USA, but that doesn’t mean it’s immune from these situations. The most likely is a decline in production leading to a collapse in production (not likely in the near future though).

                    It’s not hard to envision an environment in which the central bank loses control of its interest rates as inflation creeps higher and the primary dealers decide they can’t afford to own bonds whose rates are skyrocketing. Of course, the Fed can always step in and buy the bonds if the dealers won’t do it or if the public won’t do it, but the gig is up once this event takes place. I hesitate to call the current environment one of monetization because I don’t see any signs that, if the Fed wasn’t in the market for bonds, that there wouldn’t be enough buyers. Bond auction data and the general demand for bonds is not consistent with this view.

                    That said, the USA is not immune to having the private sector reject bonds and essentially force the central bank to lose control. Of course, one might say that the central bank could just peg rates at 0 and scoop up all the bonds it wants, but this would not only make debt a pure money equivalent, but it would also be too late as this event would almost certainly coincide with an even worse hyperinflation…..

                    I don’t think any of this is likely in the USA any time soon, but it’s a fun thought experiment in terms of thinking through the ways that the USA could lose control of its currency. Particularly enlightening in thinking about how the govt is indeed a user to some degree of the pvt sector’s money. The pvt sector essentially deems whether the govt can take our money. Hyperinflations are the most obvious case of a govt losing the ability to tax and sell bonds, in essence, being on the wrong end of a pvt sector boycott. It might only happen 1% of the time, but that 1% is pretty important to understand since it’s the 1% of the time that destroys 100% of the monetary system….There’s an important balance between these entities. Fiat might be a creature of law, but the state is a creature of the people. There’s a fine balance in this relationship that needs to be better understood if one’s to understand the monetary system….

                    Cullen

                    • Cullen,

                      “Fiat might be a creature of law, but the state is a creature of the people.”

                      In a democracy.

                      That’s why one should be concerned about totalitarian creep with state-centric models of the monetary system.

                    • Cullen Roche says:

                      Yes, I should clarify. It’s interesting that most totalitarian regimes go bust. Probably in large part because their very existence defies the essence of money as a social construct. It’s a conflicting existence.

                    • Cullen,

                      I have posted some remarks to your June 8, 2012 at 2:41am on my int. currency post as the content is related to more that post then to JKH’s post. (Short answer: hyperinflation is not a concern and was trying to explain why the centre country can worry much less about “extremes” than periphery nations).

                      http://monetaryrealism.com/the-international-dimensions-of-currency-autonomy/#comment-7267

                  • BF,

                    “in theory the central bank could buy T-bonds up to whatever amount is needed to obtain a certain interest rate on the bond”

                    Start out from the “flip side”: This could be done conceptually by creating a CTRB where the pure banking component at the START holds ALL currently outstanding bonds in inventory (offset by short term interest bearing reserve liabilities), and simply sells and buys with the market from there, creating a two way market in ALL existing issues, controlling prices in all issues (including issuing more of particular issues as necessary if demand is too strong, or vacuuming entire issues from the market if demand is inadequate.

                    “The adjustment process for a nation running persistent BOP deficits typically occurred via monetary authorities raising interest rates in order to attract foreign investors to cover the pending deficiency in gold reserves in the short-term (i.e. thereby providing gold or foreign currencies convertible into gold). ”

                    Somewhere I said that it’s always all about central bank interest rate setting – whether fixed or floating (gold/FX fix or fiat float). Targeting with gold, FX, CPI, and NGDP all involve a fundamental relationship to interest rates (except that market monetarists don’t understand that with respect to their QE NGDP schemes). Responding to gold flows on balance sheet and CPI “flows” off balance sheet are in the same super-category with respect to CB interest rate management response. Fixed versus floating is an overly simplistic bifurcation and an inadequate conceptual paradigm.

                    • JKH: You quoted me: “in theory the central bank could buy T-bonds up to whatever amount is needed to obtain a certain interest rate on the bond” and then wrote: “Start out from the “flip side”…”

                      I am not sure if your remarks were an objection or a reminder that “the theory” could be approached through the “flip side” (i.e. reformed system). I did skip a step in my explanation though the context was “In respect to USA institutional settings and in theory” i.e. a question of theory applied to existing institutional settings. The step I skipped was that yes when the Fed manipulates short-term rates the interest rates on government bonds move in some correlation. When talking about interest rate risk on government bonds I started from the perspective that there is a ‘deviation/spike’ on the interest rates on government bonds above that which might be attributed to whatever level the fed funds rate is set at. Hope that helps. My general point was in agreement and highlighting the centre country versus periphery context.

                      JKH: I have also made some remarks on the second part of your June 8, 2012 at 5:41am but over on my int. currency post (as the content matter relates more that post than to yours).
                      http://monetaryrealism.com/the-international-dimensions-of-currency-autonomy/#comment-7270

                    • BF,

                      complementary, not conflicting

                    • “Fixed versus floating is an overly simplistic bifurcation and an inadequate conceptual paradigm.”

                      Good point. In fact most nations can’t even float so easily.

          • Tom Hickey says:

            “When you understand that money is a social construct and essentially a tool utilized by society for society then we can better understand why it’s important to understand this institutional arrangement. Working from this understanding, it’s important to see that the state does not just impose money on its users. It cannot force them to use it just because it says there is a tax to be paid.”

            I have never heard any MMT economist dispute this. All MMT economists have said that credit money precedes state money historically, and they are all also institutionalists. The MMT claim about taxes driving money pertains to state money, whereby the state creates the need to obtain its unit of account which it alone accepts in payment of obligations to the state. This is the meaning of the assertion that state money is essentially a tax credit. Since tax credits are needed to meet one’s obligations to the state, those subject to taxes need to acquire state money. The state then provides for this need by moving resources from private to public use by using state money, which is creates, to purchase private resources.

            The violence issue is distasteful, but the fact is that if people don’t pay their obligations to the state in accordance with law, then the state applies sanctions through the legal system, which includes the en-force-ment arm. This doesn’t mean that people are forced to use state money. As Hyman Minsky said, anyone can create money. The trick is getting other to accept it. While people are only required to use state money in meeting obligations to the state. there are many other reasons from using state money, too, and it is preferred for a variety of reasons. Nothing contrary to MMT there.

            I think that part of the issue is in the use of the term “drive.” It is a standard term of economics as in changes in interest rates “drive” changes in the relationship of saving and investment desire. “Drive” means causally influence. Taxes causally influence the desire to obtain state money. That results in acceptance of the currency which then proliferates for a lot of other reasons, along with the use of credit-based money, too.

            It is entirely possible that credit-based money not be denominated in the unit of account and be separate from the unit of account, as in free banking. But that introduces a host of inefficiencies, so it is generally not preferred. However, there is nothing in the way of contracts being denominated in gold or silver or whatever if the parties agree to it, as far as I know. Business is not conducted that way because it is unwieldy, not because it is not permitted.

            • Cullen Roche says:

              You didn’t really discuss the point in my comment. I know MMTers say other things also play a role in “driving money”. That was not my point. My point was to show that the idea that the Fed can be the buyer of bonds when “the rubber meets the road” is a moot point as that would only really happen in the case of a hyperinflation. The current institutional framework shows that Warren’s comment is void of value since it would only occur in a situation in which a currency is already dying. Who cares if the Fed can buy when a currency is dying?

        • I like to think about it using Nick Rowe’s Chuck Norris analogy.

          Because the modern Federal Reserve threatens the executive branch with the possibility of bouncing its checks, the executive branch refrains itself from ever reaching the point at which the “rubber hits the road”. IOW, the executive can never use financial troubles as an excuse to muscle its way back into “currency issuer” status since the very irresponsibilities that create these troubles are warded off at the start by the Fed’s credible threat of bouncing checks.

          • Tom Hickey says:

            The executive branch has no authority to issue currency for expenditure or transfer independently of the legislature, which is why it is correct to say that “government” is the currency issuer rather than any particular agency that handles the details. If the cb were independent in the sense of private and independent of government, that would not be the case, but in the US the Fed is politically independent of influence, but it is an agency of government, created by law and subject to law and regulation.

            The Fed has no authority to issue currency into non-government independently either, i.e., to undertake fiscal operations either either through expenditure or transfers, since that power is reserved to Congress under the Constitution, and I have never heard it claimed that Congress has delegated that power to either the executive branch or the Fed.

            beowulf has explained the law on this scattered over many comments here and there.

      • AndyCFC says:

        “Well, the debt ceiling is an interesting case study.”
        Erm maybe silly question but as the rest of world doesnt have a debt ceiling so obviously a US issue only, doesnt that make it a self imposed law and nothing else?

        • Tom Hickey says:

          Some argue that the debt ceiling law is unconstitutional. beowulf can explain the specifics.

      • You obviously tackled part of my question in your post so I apologize for making you say it twice but I do want to make one point from a laymens/voters/nonwonk perspective (if we take a macro view that is what most of us are………. with varying degrees of interest in your subject), and that is that what the voter wants to know is how is what we buy or dont buy decided on?

        Saying that the govt needs to borrow from a central bank that will never say no to them (their credit rating is unquestioned) and that will never demand “repayment” of the loan sounds pretty dubious to the average low information Joe. The only operation we ultimately care about is can Congress decide to purchase anything that is for sale in US$. What hoops we jump through to keep the inflation expectations of the bond vigilantes low is another thing entirely.

        One of the thing that has become clear to me in the past months is that the wealthy care about monetary policy while the non wealthy care more about fiscal policy. There really are two economies with goals that often collide. It makes some sense too, when you are an owner the value of what you own matters but when you are a customer what you can get your hands on matters the most.

        In a time like now when values are dropping AND customers cant get their hands on stuff they want there is very little room for there to be a middle ground.

  10. Great post JKH.

    I have to admit now, that I more confused than before I read it. Part of it comes from conflicting MMT/R pieces I’ve read before. This post makes it seem as though the Treasury does in fact “borrow” before the new NFA are created, and therefore, hypothetically, a massive “borrowing” all at once could cause a huge but temporary spike in interest rates even if the spending wasn’t enough to fill the output gap. Could you please run through a short chronological order of operations of how money is created when the Treasury deficit spends? Does it logically go :

    1) Treasury issues bonds (drains reserves) —> 2) Treasury spends, thereby crediting accounts of spending recipients via the Fed —> 3) Fed offsets the reserve drain by creating new money with which to buy Treasury bills/bonds?

    Thanks in advance.

    • Newbie,

      NFA is a stock measure of non government wealth that results from deficit spending over a given accounting period.

      Deficit spending creates non government income, which creates saving, which creates wealth, all at the end of the accounting period being measured.

      None of that depends on what financial instruments are used in the process.

      But the way it works in terms of financial instruments that are typically used and the corresponding flow of funds is as follows:

      In normal times, Treasury keeps a minimal average balance at the central bank. It basically balances its flows in and out of its CB account.

      In other words, forget about all that MMT bank reserve stuff.

      Just assume Treasury is managing its cash position with inflows equal to outflows.

      So it matches its deficit spending with borrowing.

      It issues bonds to match deficit spending.

      When it deficit spends, it creates income for non government.

      And that income is non government saving – the government has done the spending that corresponds to the income, so the non government sector can’t spend that same income – it becomes saving by forced logic of accounting.

      The bonds issued in conjunction with government deficit spending match the saving of non government.

      And at the macro level, the consolidated non government balance sheet shows bonds as an asset, and saving over the accounting period as the offsetting entry (also known as equity).

      That position is a net financial asset position.

    • Tom Hickey says:

      The thing to take away from this is that the reserves that purchase the tsys are an asset swap of reserves for tsys. That is to say the amount of the unit of account, say USD, held in reserves corresponding to deposit accounts used to purchase the tsys is then held as tsys instead. What has happened is that zero maturity financial assets have been exchanged for non-zero maturity assets. The composition of assets changed but not the amount.

      That amount corresponds to the amount of reserves that are credited to the Treasury after the auction (thinking of this a single operation to simplify), which the Treasury then uses to deficit spending. Thus non-government then holds double the amount of net financial assets, i.e., financial assets with no corresponding liability in non-govt.

      So, non-govt then has a specific amount of tys and newly created deposits in the same amount with reserves to clear. That means that while the amount of tsys increased, the amount of reserves in the system did not, which is the meaning of “reserve drain.”

      Many people think that when government issues tsys, it borrows in the same way that ordinary borrowing takes place, that is, money is lent out at interest and interest is payment to the lender for risk assumption and forgoing spending power (liquidity) for the period of the loan. But that is not how the vertical money creation process works. The same amount in aggregate remains in deposit accounts after deficit spending, while saving increases in that amount, too. Tsys are far more “money-like” in that they are carry less risk and are more liquid than privately issued notes.

      • Thanks Tom. I understand the macro implications pretty well, it’s the operational aspects that I’m trying to master (the operations as they actually occur in our current institutional construct). So from what I gather, it would be something like this: Treasury issues bonds, Fed credits Treasury with reserves and credits PDs with Tsy securities, while debiting reserves from PDs. Then the Treasury spends the reserves into the private sector, so the private sector ends up with an increase in NFA by that amount. The part I am fuzzy on is if the Fed actually waits for the Treasury auction to “succeed” before crediting the Treasury’s reserve account? This is the hypothetical part where at the end of the day (in some people’s minds) the Fed can control the money creation process by refusing to credit the Treasury’s reserve account. Could you clear that up for me? Thank you.

        • Tom Hickey says:

          “the Fed actually waits for the Treasury auction to “succeed” before crediting the Treasury’s reserve account”

          The explanation is simplified for understanding. In actual practice there is no way to trace a correspondance on a one to one basis. The process managing the Treasury accounts is rather complex and it is worked out in conjunction with the Fed (and PD’s) to allow the Fed to control the amount of reserves so as to hit its target rate, while the Treasury also meets government commitments through its disbursement.

          This is a “black box” process which is not necessary to understand the details of in order to grasp the essentials exogenous money creation. But one should also understand that the black box account omits the details of the process in which the Treasury and cb coordinate operations, such that it is possible to consider them functionally consolidated even though they are separate agencies with separate accounting.

  11. So does this mean that you are recanting this?

    http://monetaryrealism.com/the-fed-and-treasurys-symbiotic-relationship/

    • Cullen Roche says:

      The Fed and Tsy’s relationship is symbiotic. That’s one of the primary points JKH has highlighted here.

  12. Well, this post seems to be saying something other than the Federal Reserve being “the other pocket in the same pair of pants as the US Treasury”.

    But no matter. I guess my real question is… is this a changeover in MMR doctrine? I don’t recall this being part of the original FAQ when I came by a few months ago.

    • Cullen Roche says:

      I guess the degrees of “Fed independence” are debatable, but semantic in my opinion. It doesn’t change the fact that the Fed is the currency issuer and the Tsy is the currency user.

      I wouldn’t call this a change in position so much as it’s a point we’re clarifying. MMR is only a few months old so it shouldn’t surprise anyone that we’re developing its set of understandings. To us, this just is the way it is. The Fed and Tsy have a symbiotic relationship, but this doesn’t mean they aren’t dissimilar agents with very specific roles in our specific institutional framework.

      • Tom Hickey says:

        “It doesn’t change the fact that the Fed is the currency issuer and the Tsy is the currency user.”

        As I understand it, the federal government is the currency issuer pursuant to Article I, section 8. Government, through the budgetary process, directs the executive to disburse expenditures in accordance with appropriations and other laws government disbursements, such as SS. The Treasury disburses the funds that government creates through currency issuance and the central bank provides the reserves for settlement of the Treasury’s credits to deposit accounts. How this is processed is also directed by law and regulation.

        Saying that Treasury “spends” seems to be to be incorrect in light of the law, but beowulf can probably enlighten us on the legal aspect better than I can. As far as I can tell Treasury has no independent authority to spend, nor does the executive acting independently, according to the Constitution.

        I would say that as an agency of the executive branch Treasury disburses funds iaw appropriations. i.e., pays the bills incurred by other agencies iaw appropriations, and also to make approved transfers. a

        As an agency also, the Fed issues reserves iaw legally established procedure in order to settle accounts. This procedure involves the issuance of tsys by the Treasury Dept and issuance of reserves by the Fed, the Treasury and Fed functioning in “symbiotic relationship” to ensure smooth and consistent settlement in the payments system, which is necessary for maintaining confidence in the currency.

        • Cullen Roche says:

          The institutional structure is rather clear. The Tsy has an account at the Fed which renders it a customer of the Fed (the government’s bank). That’s just the way it is arranged. This makes the govt a currency issuer, but still renders the Tsy a currency user.

          As far as I understand the laws, it’s the Fed Act that has many people up in arms. The Fed act essentially transferred the power of money creation to the Fed and away from Congress. The Fed Act made the Fed the govt’s banker. So that’s how the system is designed. MMT seems to tow the anti Fed Act line to some degree. Maybe you guys have more in common with Austrians than we previously thought? :-)

          But MMR isn’t about what can be. It’s about what is.

      • “I guess the degrees of “Fed independence” are debatable, but semantic in my opinion. It doesn’t change the fact that the Fed is the currency issuer and the Tsy is the currency user.”

        I don’t think it’s semantic (ie. cosmetic). Because the second the debate is shifted over to other central banks you’ll notice the institutional structure changes. The Reserve Bank of Australia, for instance, allows government overdrafts, while the Fed does not. The Fed’s independence from the US government’s financing requirements means that the US government is not a currency issuer. But the RBA’s limited overdraft facility means that the RBA is less independent of the financing requirements of the Australian government, and therefore the latter is able to be a “partial issuer” – in other words the Australian government is more of a currency issuer than the US government.

        I think it’s healthy that you’ve succeeded in separating yourself from MMT’s from-the-hip view that all governments are by definition 100% currency issuers. You’ve used the Fed as your example. The next step is to explore other central banks around the world and you’ll see that there exists a spectrum with governments as currency issuers on one end and governments as currency users at the other.

        • Cullen Roche says:

          Thanks JP. I am sure this is stuff we’ll have to revisit as the years go by.

        • “But the RBA’s limited overdraft facility means that the RBA is less independent of the financing requirements of the Australian government, and therefore the latter is able to be a “partial issuer” – in other words the Australian government is more of a currency issuer than the US government.”

          That’s a fair point. I think it means that their Treasury is an EFFECTIVE currency issuer to the extent of the overdraft limit – and that’s a cumulative stock measure, so its probably not huge in the scheme of things.

          I use the word effective because its the CB that’s still issuing the currency, although as a result of Treasury discretion. In the same way, I am an effective currency issuer if I have an overdraft facility with my bank – where currency in this case is defined as commercial bank money rather than central bank money.

          Good idea on comparing CB’s; I touched on it a bit with Fed/ECB.

  13. Tom Hickey says:

    Cullen , the Treasury cannot logically be a “currency user” in the same sense that other entities are, including state and local governments. The government issues currency pursuant to the US Constitution and the Treasury and Fed are means to this end, both being agencies of government that coordinate operations to this end. The government does not “borrow” from the central bank, as would be the case if the central bank were private and independent of government. The Fed is the government’s banker in the sense that when the Treasury disburses funds iaw appropriations, i.e., pays the bill incurred by other agencies and makes transfer payments like SS, it directs the Fed as its banker to credit deposit accounts with reserves from its account, which get there by being credited by the Fed as proceeds from tsys auctions. Currency is created by government through the process of issuing both tsys and reserves by separate agencies of govt. That could be collapsed into a single agency, or the cb could be private, or government could delegate currency issuance to the private sector. The tsys-reserves issuance process is the way that Congress has currently chosen to exercise its currency issuance prerogative. These are essentially two sides of the same coin that allows Congress to inject currency through expenditure and transfers and also to provide a subsidized saving vehicle of high liquidity and low risk.

    • Cullen Roche says:

      The Tsy has an account at the Fed and this account must have funds in it before it can be drawn upon. The Primary Dealers are legally obligated to make a market for US government bonds at auction. They do this by crediting the Treasury Tax & Loan account with net/new ex-nihilo money. The Treasury calls on this bank account and the Fed clears the transaction. A debit to the TT&L account is matched by a credit to the Treasury’s account at the Fed. A reserve is divested from the bank account that Treasury originally makes a call on. When the Treasury spends its account at the Fed is debited and the account of a private bank is credited with a reserve. The intermediating bank credits the bank account of one of its customers (the recipient of the Treasury spending).

      The Tsy is a customer of the Fed in these transactions. It cannot credit its own account before drawing on that account. Specifics matter here. The consolidated view is some form of an alternate reality that skews the reality and leads to false conclusions regarding the way things actually work.

      • “The Primary Dealers are legally obligated to make a market for US government bonds at auction. They do this by crediting the Treasury Tax & Loan account with net/new ex-nihilo money.”
        You are WAY OFF base there, primary dealers DON’T create ex-nihilo money (they are NOT banks even though some are owned by banks) and Treasuries settle with payment in fed funds (which only the Fed can create).

        • Cullen Roche says:

          The PD’s are not banks? According to the NY Fed you are wrong:

          “The Federal Reserve Bank of New York trades U.S. government and select other securities with designated primary dealers, which include banks and securities broker-dealers.”

          And from the US Treasury:

          “Primary dealers are banks and securities broker-dealers that trade in U.S. Government securities with the Federal Reserve Bank of New York (FRBNY). “

          • Owned by banks and broker dealers, not the same thing than being a bank. For example, Citigroup Global Markets Inc. is the primary dealer owned by Citigroup and is not a bank.

            • Cullen Roche says:

              The PD’s are still banks with reserve accounts.

            • The relevant operational point is that Citigroup Global Markets Inc. clears internally through Citigroup, which clears externally through its Fed account.

              So its the Citigroup banking function that determines the payment and settlement interaction with the Fed.

              • Yes, my point is that the primary dealer doesn’t create money ex-nihilo and if it did it would be irrelevant since dealings with the Fed settles in fed funds (than can be created only by the fed).

                • Can they not create money just like a bank creates money when it makes a loan? I am pretty sure they can.

                  • Cullen Roche says:

                    Where does a bank subsidiary “get” the money to perform its various operations? Lots of places. Of which the following is included:

                    “The Company funds its operations through the use of collateralized and uncollateralized short-term borrowings, long-term borrowings, and its equity.”

                    http://www.citigroup.com/citi/fin/data/k04cgm.pdf

                    Now go explain to Volcker how CGMHI is a totally separate entity from CitiGroup Inc. (Hint: it’s not really). :-)

  14. Wow this seems like one big turnaround, now. I feel like a lot of what I had understood, even as MMR, is now being refuted. Treasury as a currency issuer? Fed is independent?

    Here’s my question… if the fed is to maintain the stability of the monetary system and maintain set interest rates, isn’t it always in a position where it’s making treasury debt appealing to buy by US banks (who have to use US dollars) at whatever rate they decide? At least on the short end??… Allowing the long end to build on top of expectations of short-term rates?

    I just can’t work out a situation in my head where the fed would allow an auction to take place where treasury debt would not be bought at a price that they’ve pre-decided as part of their role as monetary stabilizer.

    • I meant “Treasury as a currency user?”

    • Cullen Roche says:

      I differ with JKH to some (minor) degree on the Fed being independent view. But it’s a semantic point in my opinion. The more important point is understanding how the symbiotic relationship results in the autonomous govt being a currency issuer. It’s not a big change in our views. In fact, JKH has been consistent about this for years. The answer to your question is understanding that the Fed is an agent of the govt. Specifics matter here. We’re just trying to get the operational aspects very precise here.

  15. A point of confusion for me that I don’t think I’ve seen addressed yet:

    I see how operationally we could call the Treasury a currency user, but if we’re going to do that, I wonder then if it’s fair to call the central bank a currency issuer? What I mean is…

    Can the central bank issue currency WITHOUT the Treasury? If it can, then I see how we could call the CB the currency issuer in the relationship. Whereas if the CB needs Treasury action in order to issue currency, then here we are again back in semantics and at the original MMT proposition: together they are the currency issuer (along with any other necessary federal government functions), but neither one in of and itself is a currency issuer.

    Any thoughts?

    • “Can the central bank issue currency WITHOUT the Treasury?”

      Yes.

      The CB can acquire private sector assets in order to issue bank reserves and central bank notes.

      • Tom Hickey says:

        The Fed can also pay IOR, which increases bank assets.

      • JKH,

        But can’t the Treasury also mint coins without coordinating with the central bank?

        So in a sense, do both the Treasury and the Central Bank have certain abilities/circumstances that make each of them a currency issuer and also a currency user?

        I appreciate the time you put into this piece. I’ve got it bookmarked to read again. It’s definitely helped me understand various operational mechanisms. Though, as important as understanding these operational mechanism are (!), it still doesn’t seem like it challenges the main MMT proposition the the U.S. government is a currency issuer (as a whole). Or was challenging that notion not supposed to be implicit in the essay?

        • I hope you can spend some time on it.

          I did note in the essay that Treasury is a coin issuer, but the quantity is not material relative to CB notes; also it requires “operational adjustment” to expand that quantity via platinum for example, which I also noted

          • Would it not also take an “operational adjustment” for the fed to ever let the treasury auctions fail? Would this not indicate that trying to view the treasury as a currency user without a giant, platinum coin sized asterisk next to it, is as confusing, if not more so, that MMT’s over-generalization?

  16. Great article, even though I’ll need a lot more study before I understand it fully. Not sure if it was explained in the article, but what about the situation in the EU? In the EU individual countries can only get money by borrowing from the (private) markets. Those private markets then get the needed reserves (by borrowing) from the ECB. Two things are unclear to me:
    1) Is there no (legal) way for the EU to create its own money? Can the ECB buy its own debt or the debt of EU countries for example?
    2) Why is it arranged like this? This is so confusing to me. Why only allow countries to borrow from the markets and thereby shifting all power to create money to those markets? It feels like a hypothetical situation in which a government must ask a road building company for permission to build a road. Or like a situation in which someone is blackmailed by a thug and the only way to get money to pay the thug is by borrowing it from the thug himself.

    • Tom Hickey says:

      “Or like a situation in which someone is blackmailed by a thug and the only way to get money to pay the thug is by borrowing it from the thug himself.”

      Hey, you are catching on to neoliberalism. :)

    • The last section is a very compressed note on Europe (the piece was already quite long).

      The ECB is a currency issuer for multiple European Treasury functions. There are normal case restrictions against direct ECB financing of Treasuries and even indirect financing, where it is more restrictive than the Fed. Chalk this up to German influence on the prioritizing the avoidance of “money financed deficits”.

      But like the Fed, the ECB is capable of major support for the Treasury function(s) if empowered to do so. Powering it up is just a lot more difficult, it would seem.

      • JKH, I reread that section but unfortunately it’s incomprehensible for me (as an interested amature in economics, have been studying this for the last months). Please correct me if I’m wrong, but as far as I understand it:
        1) The US FED/Tsy can buy/buys its own bonds, so in essence just creating more dollars without the need for the private markets. Europe/ECB can not do that because it doesn’t allow itself to do that.

        2) Why is that so chosen? What’s the basic idea behind this construction? I read every economic blog out there, study papers but have never found an answer to that simple question.

        • Sorry for the comprehension – it is VERY compressed.

          Normal rules:
          The Fed can’t finance Treasury directly.
          The Fed can buy Treasuries in the secondary market.
          The ECB can’t finance the Greek Treasury (and the other Treasuries) directly.
          Nor can it buy their bonds in the secondary market (normal rules).

          Normal Difference:
          The Fed balance sheet assets consist mostly of Treasuries.
          The ECB balance sheet assets consist mostly of lending to banks.

          The ECB system is sometimes referred to as an “overdraft system”, because it lends to banks as a matter of normal course.

          The Fed only normally lends to banks as a lender of last resort function.

          From there, you have all sorts of variations in terms of proceeding from normal or regular operations to “contingencies” or extraordinary operations, as has happened in the case of both the Fed and the ECB.

          Again, the ECB system is much opposed to using the central bank in normal times as any sort of source for government financing, direct or indirect – largely the German influence over inflation concerns, etc., I think.

          • JKH: no need to say sorry, it’s probably not possible and not the goal of the article to explain things on every level. It’s my own responsibility to try to understand this.

            Thanks for your answers. Does make it a bit more clear.

            I guess that for “normal times” the ECB situation should be working well enough, since there’s enough demand in the private markets to have the private banks create new money. However, even for me as an amature it’s so obvious that this system arrangement can not work in a situation of a bad recession. That’s just not possible. So I’m really confused, because if I can understand this, how come politicians and economists don’t?

            I hear them say on a daily basis things like: “we have to cut (government) spending to restore the market convidence, so that the economy grows.” But the way I see it: less spending now is even further economic decline. And that means less money to be made by those markets. How can it be any different?

  17. http://mikenormaneconomics.blogspot.ca/2012/05/jkh-treasury-and-central-bank.html?showComment=1338379347507#c158066295670980284

    ………

    “Scott,

    “This is not to say it isn’t important to understand the details of Tsy and Fed, etc.–that’s my bread and butter, so obviously I think it is–but that’s all tangential to the MMT argument about what a currency issuer is.”

    How do you reconcile this approach with that of some other MMTers (at least Mosler and Auerback) who refer to the ECB as a currency issuer? Your comment above seems to suggest that the ECB does not fit the mold of “what a currency issuer is”. Yet they use the term liberally in that context (and in a way that I agree with).

    If you think those two different usages within MMT are consistent, then it must mean there are at least two different general definitions of currency issuer, depending on regime differences, according to MMT. Otherwise they are inconsistent.

    But it’s also one reason why I’ve suggested a 2 tier operational/strategic definitional scale – to make the idea compatible across different regimes. My “strategic” qualification is entirely consistent with your preferred use of the term, I think. But my “operational” qualification is entirely consistent with the Mosler/Auerback usage for the ECB. And that’s the purpose of my 2 tier definitional system – to allow seamless use of the concept at the two different levels within regimes and also across different regimes where authority has a different skew between those two levels.

    (BTW, I know you and I use the term “operational” differently, but leaving that aside.)”

  18. I still am a bit confused on this logical point. The MAIN purpose of the fed is to maintain a stable monetary system, and the MAIN tool to do that is setting interest rates. The MAIN tool for setting interest rates is using treasury rates as a floor and letting the market set itself above that.

    Right?

    Now this one’s a bit more complex… Doesn’t the fed, as part of the role discussed above, ALWAYS create conditions so that there will be member-bank demand for treasury debt at the rate they decide, within a pretty tight margin? If not, is default an actual possibility? If not, does the fed always have control of rates?? Always?

    My last comment/question would be that if the fed really has the power to set rates, any position taken by the fed to not make sure treasury auctions function would blow up that control, and the stability of the monetary system that they’re supposed to protect… right?

    So, really, isn’t the fed in a position where it’s always going to make sure the treasury has funding for its debt, and this therefore changes the nature of the fed & treasury has “issuer,” and “user,” in reality?

  19. JKH,

    This post is the authoritative piece of writing on the subject. I have read countless academic papers and blogs on the operations of the central bank and federal government and none are better. For those readers not sure about all of the technical detail they should bookmark this post and read it again until they do get it.

    When I first became interested in economics it was Joseph Stiglitz’s accessible style that drew me. I also learnt much from Jane D’Arista’s who is blessed with an ability to explain complex technical material in an accessible manner. Over the years I read and re-read their papers and gradually came to understand certain topics much better . People like Tom Palley, Marc Lavoie, Claudio Borio and Hyman Minsky were also all writers that took me some time to compute but it was worth the effort. I think JKH’s post is a seminal piece of writing that readers should revisit again and again.

    The post is a seamless expression of how the system works with the depth of understanding and structure of the argument something beyond most writers. JKH’s conceptual distinction between a strategic currency issuer and the counterpart operational currency issuers and currency users should be the language everyone adopts. He has explained the nature of the Treasury’s accounts at the central bank and the distinct roles of fiscal and monetary policy with exceptional clarity along with all the other descriptive aspects. I also recommend that everyone give serious attention to the Central Treasury Bank as a blueprint for reform.

    MR has only recently jumped onto the radar and with material like “S = I (S-I)” and this remarkable post we are all a lot more enlightened. Thanks and well done guys.

  20. STF said…
    “Continued from above . . . In the spirit of debate”

    “In science, a general theory is the one with the fewest assumptions; it is not the one that attempts to describe details. As we stated in our response to critics, we are trying to provide the explanation with the fewest assumptions for why the following are true…”

    In the natural/hard sciences (e.g. physics, chemistry and biology) the aim of practitioners is all about detailing the empirical so that truth statements can be grounded in fact. People like Newton and Einstein did not skimp on the details or pivot the discourse around counterfactual examples. A scientific theory aims to get the facts correct providing whatever level of technical detail necessary to do so. The purpose is to increase knowledge and NOT MAKE ANY “assumptions” in the process. Science is about determining whether particular “assumptions” are right or wrong: in doing so sometimes a scientist and his/her peers believe that certain matters can be considered as laws and/or factual statements about XYZ.

    An influential book by JMK was called the ‘General Theory’. Why? He wanted to communicate that the orthodox full employment story is the “special” case and his underemployment equilibrium is the “general” case. The general case is the one which exists. In describing that general case it is acceptable for an analyst to simplify discussion when writing for the layperson or when providing an overview for the specialists. The problem is forwarding dictums like “fiscal receipts cannot be spent and never funding operations” under the “conglomerated State” framework cannot be a “general” case. That framework and the counterintuitive statements it leads to are confused/wrong i.e. describes no world.

    JKH’s post describes the system that exists: I think that is in the scientific spirit. A theory which tries to describe a hypothetical world that does not exist is not science. There is a word for such endeavours: it is called science fiction or sci-fi for short.

    • STF said…

      “As far as I’m concerned, I have provided such “qualification, and it was always so in MMT. Our critics for whatever reason have always interpreted our intent differently (no matter how many times we’ve tried to explain what I just did once again above) while far more supporters have in fact interpreted our intent correctly (again, for whatever reason, and often with far less explanation).”

      So the critics have got matters all wrong? Not one word of inconsistency? In a post Fullwiler (2010) described a paper by Stephanie Kelton as a “classic”. The argument in that paper as summarised on pages 2-3 is that “the complexities of reserve accounting are carefully considered, and newly-created money is revealed as the source of all government finance. It is further argued that the proceeds from taxation and bond sales are not even capable of financing government spending since their collection implies their destruction.”
      http://www.levyinstitute.org/pubs/wp244.pdf
      http://www.nakedcapitalism.com/2010/08/guest-post-modern-monetary-theory-%E2%80%94-a-primer-on-the-operational-realities-of-the-monetary-system.html

      On page ten it is argued that “only net changes in the Treasury’s account at the Fed impact the aggregate level of reserves (ceteris paribus)…” What about the variety of actions initiated by the central bank? Fullwiler (2010) makes a partial amends that the Fed can actually impact the level of reserves in net terms (again along with the Treasury’s fiscal operations). Then in the “response” to my PERI paper in the “specific” case we get told “the only sources of reserve balances over time… are loans from the Fed or the Fed’s purchases of financial assets either outright or in repurchase agreements.” So now the Fed is the monopoly supplier of reserves? That is not a revelation to those who understand the topic but a point argued to the contrary in the “classic” texts.

      When Kelton [formerly Bell] (1998) and Wray (1998) in his book urged the economics profession to no longer consider taxation and bond sales as financing operations they were not arguing about a hypothetical non-world. In the paper ‘Can Taxes and Bond Sales finance Government Spending?’ the argument is all about the Treasury creating new/new money whenever it spends primarily because Treasury’s deposits at the Fed are not ‘counted’ in any ‘official’ money supply aggregate. The argument is thought to apply the US Federal Reserve System not a hypothetical non-world… but the reader can decide that for themselves.

      In one post Wray (2011) declares that “Everything I have said in this post about government finance is a description, not a proposal.” In that post we got told things like a government “”deficit financed by bond issue” is not technically possible.” So the counterintuitive positions said to be true in the “general” case do not require any proposals (e.g. Central Treasury Bank) but ‘really’ describe the nature of the existing system. The reality is that MMTers have presented conflicting versions of how things work. When critiqued people like Scott say that some of the “descriptions” of the “operational realities” (that were presented as factual accounts) were not meant to be taken literally but figuratively as some (until recently post-hoc claimed) grand plan to present a theory in differing ways.
      http://www.economonitor.com/lrwray/2011/08/16/paul-krugman-still-gets-it-wrong-modern-money-theory/

      Spin the grand plan story but MMT got the following wrong: receipts from taxes and bond sales are financing operations and the Treasury does not do the Fed’s job. Some still refute these basic points. There is no big scheme by apparently “jealous” critics: the issue has always been one of getting matters right and nothing more. I refer interested readers to the following scholarly papers for those who may still wonder whether the problem is the lack of interpretive skills by critics or faults in the literature.

      Gnos, C., and, Rochon, L.P., ‘Money Creation and the State: A Critical Assessment of Chartalism’, International Journal of Political Economy, vol. 32, no. 3, 2002, pp. 41-57.
      Lavoie, M., ‘A Primer on Endogenous Credit-Money’, in L.-P. Rochon and S. Rossi (eds.), Modern Theories of Money, Edward Elgar, Cheltenham, 2003, pp. 322-38.
      Lavoie, M., ‘The Monetary and Fiscal Nexus of Neo-Chartalism: A friendly critical look’, Department of Economics, University of Ottawa, October 2011.
      Rochon, L.-P., and Vernengo, M., ‘State Money and the Real World: Or Chartalism and Its Discontents’, Journal of Post Keynesian Economics, vol. 26, no. 1, 2003, pp. 57-67.

      • Scott Fullwiler says:

        “So the critics have got matters all wrong?”

        They have not understood the paradigm, but as I said at MNE, that’s not all their fault.

        “Not one word of inconsistency?”

        The argument is the same as it has been in general terms for 20 years, and I stand by it. It’s worked amazingly well for diagnosing the real world. I don’t know about “one world”—I would seriously doubt it and can find several in my own research at the edges as I explained in my response to your post above.

        “In a post Fullwiler (2010) described a paper by Stephanie Kelton as a “classic”.
        You conveniently left out that I then said “The main points of Kelton’s paper are entirely related to operational realities of the existing monetary system.” My point there was obviously that it was a more general paper. Recognize that it was written in 1998 and that nobody had thought about matters before as she did there. We would say the same things differently now, but the impact of that paper is and will always be tremendous regardless how nitpicky one wants to get about the details. Nitpicky isn’t a problem, but nothing said yet contradicts the overarching point of the article as I explained in my blog post, and you haven’t offered anything in that respect.

        “On page ten it is argued that “only net changes in the Treasury’s account at the Fed impact the aggregate level of reserves (ceteris paribus)…” What about the variety of actions initiated by the central bank?”

        As I just said above.

        “Fullwiler (2010) makes a partial amends that the Fed can actually impact the level of reserves in net terms (again along with the Treasury’s fiscal operations). Then in the “response” to my PERI paper in the “specific” case we get told “the only sources of reserve balances over time… are loans from the Fed or the Fed’s purchases of financial assets either outright or in repurchase agreements.” So now the Fed is the monopoly supplier of reserves? That is not a revelation to those who understand the topic but a point argued to the contrary in the “classic” texts.”

        As I said above. What will you do when someone goes over your work 15 years from now using the literature and knowledge gained since then and makes a big deal out of points that have nothing to do with the core arguments about the nature of the monetary system?

        “When Kelton [formerly Bell] (1998) and Wray (1998) in his book urged the economics profession to no longer consider taxation and bond sales as financing operations they were not arguing about a hypothetical non-world.”

        Very true. And the world would be a better place if this was understood.

        “In the paper ‘Can Taxes and Bond Sales finance Government Spending?’ the argument is all about the Treasury creating new/new money whenever it spends primarily because Treasury’s deposits at the Fed are not ‘counted’ in any ‘official’ money supply aggregate. The argument is thought to apply the US Federal Reserve System not a hypothetical non-world… but the reader can decide that for themselves.”

        Again, I explained my view of that paper above.

        “In one post Wray (2011) declares that “Everything I have said in this post about government finance is a description, not a proposal.” In that post we got told things like a government “”deficit financed by bond issue” is not technically possible.” So the counterintuitive positions said to be true in the “general” case do not require any proposals (e.g. Central Treasury Bank) but ‘really’ describe the nature of the existing system.”

        I would say yes to all of that. Sorry (and I mean sorry in the sense that I can’t agree with you, not in order to be condescending). Deficits aren’t operationally financed by bonds; they are legally financed by bonds. Big difference, and the world would be a better place if the distinction were understood.

        “The reality is that MMTers have presented conflicting versions of how things work.”

        No we haven’t. The argument has not changed in 20 years except details around the edges and how the same things are expressed to try and make them more coherent (with varying degrees of success, obviously). Those that think something of significance has changed haven’t understood. Sorry, but it’s true.
        “When critiqued people like Scott say that some of the “descriptions” of the “operational realities” (that were presented as factual accounts) were not meant to be taken literally but figuratively as some (until recently post-hoc claimed) grand plan to present a theory in differing ways.”

        I would stand by that. And so would all the others. We’re building a school of thought, as I said before.
        “Spin the grand plan story but MMT got the following wrong: receipts from taxes and bond sales are financing operations and the Treasury does not do the Fed’s job. Some still refute these basic points. There is no big scheme by apparently “jealous” critics: the issue has always been one of getting matters right and nothing more. I refer interested readers to the following scholarly papers for those who may still wonder whether the problem is the lack of interpretive skills by critics or faults in the literature.”

        I’m still waiting for the critics to explain the macroeconomic significance of the points of contention. I haven’t seen much but nitpicking at the edges, and I have seen few if any details even there that I didn’t already know or haven’t written about myself someplace. Would the world be a better place if your preferred corrections to MMT were used? How? Would policymakers have better understood the crisis and how to respond if your preferred corrections to MMT were used? How?

        • Scott, it’s already the weekend where I am (things to do), just flagging that I will reply to your long remarks in due time.

    • A science is about what exists. Consider the following remarks from Galbraith, Wray, and Mosler (2009, p. 7):

      “The federal government spends by cutting checks—or, what is functionally the same thing, by directly crediting private bank accounts [note: the authors mean ‘net’ money creation]. This is a matter of typing numbers into a machine. That is all federal spending is. Unlike private firms, the federal government maintains no stock of cash-on-hand and no credit balance at the bank. It doesn’t need to do so… There is no operational procedure through which federal government “uses” tax receipts or borrowings for its spending.”
      http://www.levyinstitute.org/publications/?docid=1119

      The federal government has no credit balances at “the bank”? The US Treasury actually has two deposit accounts at the Fed and many Tax and Loan accounts at private banks. I ask the reader to compare the above quote with JKH’s meticulous account of the Treasury’s operations. The referenced piece of writing is not a blog but a scholarly paper. There is a public highlights brief version and longer version: in none of the versions is there any qualification made that the authors are discussing a hypothetical “pure general theory” to enlighten those readers who may not be able to understand that the Treasury does spend by drawing on deposit balances and that it obtains these deposits by levying taxes or selling bonds.

      Perhaps it is written somewhere in the fine print or in a paper or blog elsewhere that the material in the referenced paper is not meant to be taken literally and actually part of a grand plan to explain a theory by presenting it in counterfactual components. I for one would like a footnote to that effect or even better just describe what exists (and distinguish that from possible reformed systems).

      • Scott Fullwiler says:

        I don’t see a problem with that. Does the Tsy hold any cash balances to spend? Does it maintain lines of credit at the bank? I’m interpreting “credit balance” to mean that, but I could be wrong. And perhaps they do have lines of credit in the more highly short-term cash management sense. Regardless, I would suggest that this is from the more general perspective (given both content and that is generally how Warren writes, and this sounds like his writing), but would grant–as I frequently have–that a good deal of confusion for many years occurred because it was not made clear which was being expressed at which time by some authors. I am working to get more specificity on that–in some of my own pieces I’ve done that a bit and wish I could go back and clarify. Hope that helps.

        • Cullen Roche says:

          Scott,

          There is no “general” case in reality. There is only a “specific” case in reality. The attempt to blur the two appears like a case of revisionist history. My humble suggestion would be to describe MMT for what it is – “inherently progressive”. MMT needs the world to make big changes in order to be entirely applicable. It’s a lot like the Austrian perspective regarding the gold standard. They need big changes to constrain govt. You guys want big changes to break the chains on govt. The attempts to obscure the lines between “general” and “specific” do not clarify your position and in my opinion, detract from it by giving the appearance that you don’t even fully agree with the positions held by some of your colleagues.

          I told Tom that MMT needs to take the Austrian approach to all of this (he called my advice a “rant” so it was taken to heart obviously!). You need to describe why you think what’s wrong with the world and clearly define why you think govt can fix the problems and what needs to be done specifically to change the system to get us there. The reason why their message resonates with people is because it’s consistent, coherent and clear. The MMT message is not (or at least it’s not clear enough that very bright people can understand it). You guys have a better message than the Austrians. You have more facts and a better operational understanding on your side. There’s no reason for them to beat you on this. But it’s all about streamlining the message in a consistent and coherent manner. If MMT is going to stick with the “general case” then fine, but I think you’re better off focusing your future work on the specific case and expanding on how that relates to potentially changing this “specific” case into a “general” case that MMT thinks would function better while being VERY clear that your “general case” does not describe our current reality.

          My 2 cents (probably only worth 1 cent).

          Cullen

        • “Does the Tsy hold any cash balances to spend? ”
          yes
          “Does it maintain lines of credit at the bank? ”
          no (not allowed by law)

          Treasury has one account at the Fed, the treasury tax and loan accounts aren’t managed by treasury. They are an arrangement between the Fed and depositary institutions that allow for better management of bank reserves (since payments into the Treasury account drain reserves). When reserves are plentiful as they are now the treasury tax and loan accounts serve no purpose and have zero balance. The federal government spends by cutting checks drawn on its fed account funded by taxes and proceeds from borrowings in the market, no overdraft allowed by law. It’s that simple.

          • Cullen Roche says:

            The way I like to think about it is this. The govt must procure funds from its citizens in order to validate the use of the fiat money. To say that a govt doesn’t need to tax to spend is misleading because the govt needs the pvt sector to deal in the money to begin with. The govt needs validation from its currency users regarding the acceptance value of the currency. So yes, the govt can always harness banks or the central bank as an agent of the govt to find funding, thus eliminating any solvency risk, but this does not eliminate the risk of inflation or hyperinflation. The currency users can always reject the currency by choosing not to pay their taxes or choosing not to fund bond purchases. Understanding the Primary Dealers is helpful here because the only instance where the Fed would been needed to fund the govt would be in the case where the PD’s decide they won’t buy the bonds due to fears of devaluation (hyperinflation) and potential profit loss. The govt could still fund itself through true monetization, but so what? The game is already over by then. MMT basically states that the govt gives the currency its value, it’s the money monopolist, and it decides how its money is spent. No, money, being a social construct, is dependent on MUCH more than govt enforcement. MMT gets the balance entirely wrong and in saying that taxes and bonds don’t finance spending, misleads on the balance of this relationship and its operational realities and very real and necessary constraints. Ie, it really needs to procure funds by taxing and by selling bonds to private investors to validate the mobilization of resources from pvt to public domain. That’s how the system is designed.

    • Scott Fullwiler says:

      Brett,
      I posted this at MNE earlier today, but seeing more comments here this morning to respond to, I decided to post this here with those. I agree with you that there is definitely a better venue for this (in your comments to Tom) and I mention one possible route below, FYI.

      “In the natural/hard sciences (e.g. physics, chemistry and biology) the aim of practitioners is all about detailing the empirical so that truth statements can be grounded in fact. People like Newton and Einstein did not skimp on the details or pivot the discourse around counterfactual examples.”

      It’s about detailing the empirical work and building a theory that is general (to the degree possible) and then continuously testing this theory. We did not skimp on the details. This confuses the detailed explanations of the real world in, say, my academic papers with the general theory in, say, Randy’s book. It’s akin to claiming the insights of Darwin are not useful because he didn’t go into the details. Nobody says that—they say there are details to complement his general insights. And where he did get some details incorrect given his more crude investigatory tools it is also recognized these thus far do not distract from the basic “truth” of his general insight.

      “A scientific theory aims to get the facts correct providing whatever level of technical detail necessary to do so. “

      Yes, and how much detail is necessary to do so? We’ve been able to understand and even predict virtually all of the events of the last 15 years in the major economies. Mosler made hundreds of millions from the basic general model that he came up with after looking at the real world. Cullen wrote about a year ago that our analysis of the Eurozone amounted to the best prediction ever made, though I suppose he recants that now.

      “The purpose is to increase knowledge and NOT MAKE ANY “assumptions” in the process.”

      It’s not possible to do value-free investigation. There are always assumptions made about what to include or not include, which methodology to use, etc. Assumptions and values cannot be avoided, ever.

      “Science is about determining whether particular “assumptions” are right or wrong: in doing so sometimes a scientist and his/her peers believe that certain matters can be considered as laws and/or factual statements about XYZ.”

      Agreed. And assuming that a currency issuing government finances itself in any sense other than a self-imposed legal one or a definitional accounting one is counterintuitive and false and the source of much pain in the world.

      “An influential book by JMK was called the ‘General Theory’. Why? He wanted to communicate that the orthodox full employment story is the “special” case and his underemployment equilibrium is the “general” case. The general case is the one which exists. In describing that general case it is acceptable for an analyst to simplify discussion when writing for the layperson or when providing an overview for the specialists.”

      As Paul Davidson explains, JMK’s point was to get rid of “restrictive” assumptions that made the “classical” view a special case. He wanted a “general” theory to uncover the true nature of a monetary economy. MMT wants to get rid of restrictive assumptions that our understanding of monetary operations and recognize that real-world “constraints” are self-imposed only, QE doesn’t work, etc.

      “The problem is forwarding dictums like “fiscal receipts cannot be spent and never funding operations” under the “conglomerated State” framework cannot be a “general” case. That framework and the counterintuitive statements it leads to are confused/wrong i.e. describes no world.”

      Perhaps counterintuitive to you. But analysts are beginning to figure out this is the true nature of sovereign currency issuers. Even a neoclassical like Krugman now talks about how the crucial difference is the ability to create one’s own currency; he admits that prior to the crisis nobody (at least among neoclassicals) could explain why Italy’s interest rates would rise above the risk-free rate and Japan’s would not.

      And if you create your own currency without promising to convert, it’s counterintuitive to have an economic theory that says you must finance your spending by taxing or selling bonds or that you have to worry about bond market vigilantes. When you believe stuff like that, you do things like give up your monetary sovereignty and join currency unions without fiscal unions.

      Yes, one can be technical to a fault (i.e., JKH) and disagree on the basis of the argument that the liability side is always about funding, but that’s not the paradigm we’re disputing, so that criticism is off the mark—I have no problem being that technical with people that can handle it. Most can’t, though. And as I explain below, those details complement, rather than contradict, MMT.

      “JKH’s post describes the system that exists: I think that is in the scientific spirit”

      I agree. He describes the details of the system much like I have in the past in papers and posts JKH himself has praised on several occasions. In fact, JKH recently said as a comment on one of my posts, “Excellent description of monetary operations, as is your standard. But you labor under two huge disadvantages in the debate. What you say is understandable.”

      Details are not a criticism of MMT’s core unless they demonstrate that a currency issuer under flexible exchange rates is constrained by more than self-imposed constraints operationally, or that there is, say, a transmission mechanism from open market operations directly to spending. Those sorts of things are the core, and unless you find details to contradict them, you haven’t critiqued MMT. As I said, apples vs. oranges.

      Details and descriptions of “the system that exists” have thus far complemented MMT. Nobody criticizes JMK’s GT by saying, “the multiplier isn’t 1/(1-mpc)! There’s taxes, imports, price changes, interest rates, etc. I’ve overthrown the GT!” But that’s basically the extent of what you’re saying with respect to MMT. Note that Minsky thought Keynes had left out a financial theory of capital investment; he didn’t critique Keynes, he offered his work as a complement because he knew he had nothing to say that overthrew the key insights of Keynes. In the late 1990s/early 2000s, I noticed there were details and sources not yet described in MMT, and I wanted to see where those took me; I then wrote my dissertation and papers like “Timeliness and the Fed’s Daily Tactics,” “Setting Interest Rates in the Modern Money Era,” “Interest Rates and Fiscal Sustainability,” “The General Principles of Modern Central Bank Operations,” and “The Social Fabric Matrix Approach to Central Bank Operations.” These presented some details and framing that I had not seen in MMT publications. I also integrated the payments system more carefully, which I had not seen done yet as most in PK were focusing on reserve requirements, including MMTers. But these were not criticisms of MMT; they were complements, since they did not overthrow the basic insights of MMT and in fact further validated them.

      JKH’s piece is obviously filled with details; I didn’t see any I didn’t already know, but if there were, these again are complements to MMT unless you can use those details to overthrow the central insights in the general MMT framework. There is nothing in JKH’s piece that does this. Indeed, where does one go with all the details in JKH’s piece to understand current macroeconomoic events? As I noted above, the key insight for many into the different outcomes in terms of interest rates on sovereign debt (as just one important example) comes from what JKH calls the “contingent operational perspective,” which is basically the sort of general view MMT has been based upon. From that perspective it is understood what governing institutions can and cannot do under different monetary regimes (hierarchy of authority in the monetary system). Specific details from specific countries in terms of how they have arranged these do not contradict this “contingent operational perspective” unless it shows this perspective itself to be wrong. The latter could happen, but thus far the details arrived at from what JKH calls an “operational perspective” do not.

      There are cases where we have had some details wrong. I can think of about 5 instances off the top of my head where later I found out some detail in my published work was not correct. These do not challenge my work since they do not challenge the central insights of my work; my better understanding of details thereafter complements my work.

      “A theory which tries to describe a hypothetical world that does not exist is not science. There is a word for such endeavours: it is called science fiction or sci-fi for short.”

      A theory that provides insight into the true nature of the monetary system is science. If we haven’t done that, then why does JKH say that providing a correct description of monetary operations is “my standard”? Why does Lavoie say “if I have objections to the neo-chartalist views on money creation and the mechanics of the payments system, they don’t arise from questions of content . . .” and that the “studies by neo-Chartalists on the clearing and settlement system” have vindicated the horizontalist position? Why does Lavoie also say later that when he first heard Mosler talk about the fed funds market he thought he was a crank but now understands reality of how that market works cannot be otherwise?” Apparently you and Lavoie don’t agree on the relevance of MMT.

      In your critique of us you write “everyone wants an alternative to fiscal austerity but MMT is not it”. Interestingly, JKH’s CTRB is essentially a description of how the MMT general case would look in the real-world (not to presume, but I have my suspicions about where he might have gotten the idea). But in response to JKH you say that you “recommend that everyone give serious attention to the Central Treasury Bank as a blueprint for reform.” So, which one is it? MMT describes the nature of the system as it is aside from a few additional assumptions/details that are in fact self-imposed constraints and serves as a “blueprint for reform” of both our current understanding and our institutional structure? Or, the blueprint is “counterintuitive” and could never be the alternative to austerity? You have now suggested that both are true.

      Regarding criticisms of MMT in early 2000s, please note that in every case there were attempts by MMT economists to either critique the paper as a referee or in a response to the published paper. In the case of refereeing, the comments were ignored by the editor. In the case of responses, they were on more than one occasion sent to referees (purposely?) that would not let through the key points of response. (I know first-hand one of the papers was sent to an MMT economist to referee—the economist offered comments since the paper was a mischaracterization, but the editor ignored them. I saw all of this happen in real time, and it was not the only time this happened.) There were attempts made to engage, but often (not always) they were thwarted or distorted, and eventually the entire process became frustrating.

      In our own view, it is we that have been outcast in PK, and that has served as part of our frustration that others see. It has been our practice not to write criticisms of the work of other PKs aside from responding to criticisms laid upon us; there’s too much important work to do to eat our own. But they’ve done it to us over and over again, and when we respond, we are ignored, thwarted, or our suggestions that our critics have gotten our arguments wrong are waved away as “what we always say.” But this isn’t some game of hide and seek—if you get the argument right we will tell you. If you don’t we will also tell you. Many get it wrong, many more get it right. I don’t know what the reason is, as there are all ranges of intelligence on both sides. Some of it is surely the fault of MMT for being both too drastic a change to the traditional views of both neoclassical and heterodox economists while also not using language/terms/frameworks that could be readily understood by many without a deep dive into the literature and perhaps still further engagement with authors. And experiences from the late 1990s/early 2000s made some authors less willing to do this, feeling they had heard and responded to the same mischaracterizations more times than they cared to; perhaps they were wrong to do this, but they wanted to move on pursuing their own growing research agendas rather than what in their view amounted to putting out the same fires over and over again.

      So, there is a long, somewhat complex history that brings many reasons for difficulties in debates with MMT, and I think blame goes both ways. But I also think the present time is one in which PK is ready to breakthrough and also has a window to do so, and thus it is also time to build bridges where possible to create the best possible chance of doing this. A few of us in MMT have already set up face-to-face meetings to begin the process of beginning anew with real attempts to understand one another and see what can be learned from each other and built upon. I don’t know how far this will go, but I think it will be positive overall regardless. Those that want to join in at some point in the same spirit are welcome to do so.

      • Cullen Roche says:

        I’ll let the economists slug the details on this one out, but I will note that I have not recanted anything about MMT’s predictive value. As I’ve stated many times, MMT’s operational description is far superior to the neoliberal nonsense we see in the mainstream (take that for what it’s worth, but don’t ever extrapolate out to mean that MMT equals superior investment returns). It’s also clear that Godley was the first to predict the Euro mess in 1992 and he was certainly not an MMTer, but working from a PK position so I don’t necessarily think you needed to understand MMT to understand why the Euro doesn’t work. It’s a bit disingenuous to claim that MMT was able to “predict virtually all of the events of the last 15 years in the major economies.” Being a market practitioner, I am a “put your money where your mouth is” kind of guy and anyone taking the MMT advice in the late 90’s on the Euro would have been surely bankrupted by the time the crisis actually occurred. It’s kind of like the bond vigilante fools. Yeah, they’ll be right one day and when yields go up and inflation is higher they’ll say the same thing “we predicted everything”. Warren has also said his fund experienced a $800MM loss betting on the Russian default so let’s not leave out the times when MMT’s “understandings” resulted in massive losses (800 million dollar loss is a minor detail!). But still, you guys have gotten a lot more right than wrong so that’s to your credit. But the beating your chest “we are never wrong” attitude is incredibly misleading and as a market practitioner, it’s hilarious to see a bunch of economists sitting around writing books and papers about how they got “everything right”. If you guys were as good as you claim you’d be writing papers for Goldman Sachs soaking up $10 million bucks a year for opining on the macro as their traders just roll in the cash from your recommendations. Clearly, that’s not the case. I mean let’s be real here. It’s insulting to everyone who has ever managed real money to see economists talk about how great their predictions are. The only person in the MMT gang who can even begin to talk about the value of their predictions is Warren and his funds were never pure MMT macro based funds to begin with….The “we’re always right, you’re always wrong” attitude in some of these comments is kind of flabbergasting. Sorry if that comes off as harsh, but as someone who has quite a bit of experience in the business of turning these ideas into actual money making ideas, I’ll tell you that it’s very unwise to claim MMT’s macro understandings translate into some sort of world beating money making machine….

        • Scott Fullwiler says:

          Point taken, but note that an economist’s “predictions” about the fundamental problems with the EMU’s institutional structure aren’t necessarily the same as a financial practitioner’s “predictions” about where to invest. I told many friends in the early 2000s to keep their money in Euros until somewhere mid decade, for instance. That wasn’t based on MMT at all, as that’s not the point of MMT.

          • Cullen Roche says:

            Fair enough. And I’ll reiterate, MMT’s understanding of macro is far superior to the neoliberal nonsense we see everywhere and you guys certainly deserve a great deal of credit for your work debunking those myths.

  21. Should add that the initial quotes in my 8:28pm 8:32pm remarks can be found at:
    http://mikenormaneconomics.blogspot.ca/2012/05/jkh-treasury-and-central-bank.html

  22. Scott,

    You may have noticed that I did not mention the term “MMT” once in my essay.

    I didn’t want to and didn’t need to.

    Having read the comments above, I continue to agree 100 per cent with the substance of the following two papers by Marc Lavoie and Brett Fiebiger respectively:

    http://www.boeckler.de/pdf/v_2011_10_27_lavoie.pdf

    http://www.peri.umass.edu/fileadmin/pdf/working_papers/working_papers_251-300/WP279.pdf

    There’s no point in me recapping the case made in those papers, because I don’t think you understand it. You’re too close to the epicentre of perception. In all probability, you and MMT are not the only ones in the world who can be misunderstood.

    The basic problem is that MMT thinks it can get away with conflating the general case (as implicitly implied, usually) into a description of real world monetary operations. As to why it matters, you ask, you need look no further than the point Marc Lavoie made in his paper about education. The deal is primarily about the clear communication of knowledge, not about convincing the masses into thinking that the monetary system is something that it is not in actual fact. MMR was also founded, as I appreciate, on the premise that the world needs more clarity in communicating this sort of knowledge.

    Who cares which MMTers forecast the financial crisis or made money doing it? (As far as I know or care, Peter Schiff did the same thing.) That’s got nothing to do with what’s wrong here. Must we hear about Warren Mosler’s financial success every time as “proof” that MMT is right? That really is a silly “ace in the hole” argument and false logic coming from academics. It’s embarrassing. (And too rich when juxtaposed against the MMT mega-perma-rant about “rentiers”.)

    You have a general theory whose logic flows from your defined “general case” to specific case(s). My essay is not about anchoring a “general case” theory of any sort. It is anchored on the specific case of the existing monetary system. It is about an explanatory framework for describing the monetary system, including points for possible change. I haven’t theorized anything and I haven’t constructed a story of inevitable monetary evolution.

    In addition to your “general case” approach, you have written extensively about the details of how the existing system works, including its various “self-imposed constraints” as MMT refers to them. But that is not the point.

    The point and the problem is the way in which MMT uses your general case, explicitly or implicitly. It uses it to describe how the existing system works. This is an obvious conflict in the form of dual versions of “reality” being used in describing existing monetary operations. It is a fundamental contradiction in the logical structure of MMT exposition. The actual system you describe in today’s factual terms at one moment (the one I have occasionally praised in the past) can’t possibly be the same system that MMT regularly describes by (implicitly) invoking general case characteristics, having eliminated a good part of the operational complexity that is in place in the existing system. Two different things in fact can’t be the same actual thing at the same time. (A deep manifestation of this dual descriptive muddle is captured in Brett’s subtitle that “The U.S. Treasury does not spend as per a bank”. The 1998 Kelton paper was an early example, but this sort of descriptive language has not changed over the years. Critics can point to rampant continuous use of such language and logic in all sorts of papers and blogs over that time period.)

    MMT should RESTRICT the use of the “general case” logical framework (explicitly or implicitly) to some appropriate context for some defined linear construction purpose – where it belongs – if that is the way it wishes to view reality. Instead, it uses it as a ubiquitous static representation of what the existing system is deemed “to be” in “general” terms. In my view, the papers written by Marc Lavoie and Brett Feibiger that I have referenced point to the pervasive ambiguity and logical contradiction that result from this duality and simultaneous contradiction over a wide swath of MMT writing. MMT writing has confused linearity with dual simultaneity in a very big way.

    The term “MMT” does not occur a single time in my essay. I used the term neo-Chartalism only several times. I referenced two supremely good papers that critique MMT. My essay is not a critique of MMT. It is a proposal for how to analyze the existing monetary system, with identifiable points of flexibility for changing it. That to my way of thinking is a sensible structural foundation for proceeding from there to think about policy in the broadest sense. That is the purpose. I did not write such an essay as a model out of the gate for matching wits on predictions for the Euro, for example.

    It presents a logic that flows from actual institutional arrangements to considerations of operational and/or institutional adjustment. These are different arrangements along a continuum of potential and specific institutional change. By contrast, the MMT duality conflates by way of seamless, beguiling language structure the existing factual case with the counterfactual general case.

    To migrate a bit of your language, my essay presents institutional contingencies as scenarios which are specific. And while I agree that there is a potential relationship between my TBRC and your general case, the TBRC is very specific and in no way stamped as “general”. TBRC is defined as an institution, one of contingent design with specified operational and accounting structure. It is defined in explicit institutional detail, as one possibility for adjustment to today’s monetary system structure.

    So my logical progression is one of iterative institutional specifics.

    Yours bears no resemblance to such an approach.

    I have portrayed some of the details of monetary operations in that context. That seems like a reasonable thing to do when illustrating a proposed conceptual structure. You have entirely missed the point in your desire to represent the essay as a display of operational detail without further purpose.

    I will not have my approach defined by your “scientific method”. Brett Fiebiger has written some things about this notion in comments above that I find eminently sensible. And I will not have my approach defined by MMT’s view of it. It just so happens that my view of how not to describe modern monetary operations intersects with MMT’s method of doing so. But I have no interest in using that as a platform of criticism of MMT per se. I am done with MMT.

    (The demonstrated incivility of certain MMT principal proponents and their inability to engage debate at a mature level hasn’t helped. The inclination to this behavior was noted in Marc Lavoie’s paper. Again, your group isn’t the world’s only alleged victim of misunderstanding. In other words, stop pouting.)

    As far as my previous praise for some of your work is concerned, that stands. Much of it on operational matters is excellent in my view. But I have never specifically endorsed or praised MMT’s parallel and dual use of the “general case” as the basis for a logical approach to the description of modern monetary operations.

    On this personal note, I’ll also point out here that you once told me that you used some of my commentary on the monetary system as a written teaching aid for your students. So it goes both ways. And if you really believe that I could add that value simply as the result of having absorbed the MMT story, without having had some sort of experienced background in monetary operations prior to that, you’re not in Iowa anymore. I was playing it back for you. MMT does not have a monopoly on the understanding, interpretation, and explanation of monetary operations.

    As far as the idea for CTRB is concerned, it is an idea I’ve had for several years and referred to in comments occasionally. It is a specific institutional mode that appears in the logical institutional progression that is featured in my essay. If anything, that logical progression is inverted from that which starts with your “general case” anchor. And the progression I use consists of cases considered as specific operational and institutional contingencies. In that framework, there is no necessary idea of “generality” applied to the existing institutional configuration, CTRB, or anything in between. Given all that, and those differences, it is rich for you to infer in a backhanded way what you did about the originality of the CTRB idea.

  23. I would like to say toMr Feiberger and JKH ;
    Both of you have done some very detailed analysis of our system and the international system. It is obviously a hodge podge of political and financial alliances that are intentionally opaque and impossible to get a full handle on so anyone saying they have everything figured out is wrong. Thanks for taking this time and these pieces are bookmarked for me to refer to.

    I do want to ask both of you though, what from your study and insights do YOU prescribe as a way forward in our current crisis?

    If you think that their should be more govt spending, are you saying that we need to or WILL LATER need to raise taxes to pay for it?

    If you prescribe more monetary policy action do you think QE has channels to stimulate the real economy without negatively affecting the debt to income ratio of borrowers? Further do you even think that the debt to income ratio of borrowers/consumers/middle class Americans is a useful metric to follow in determining the likelihood of effectiveness of horizontal money creation?

    Do you feel there could be a time in America when the Fed will not have control of its interest rates?

    To me these are the pertinent questions of our day and all the writing about details is only helpful IF they add to a support or criticism of your stance on the above questions. Everyone agrees our economy needs stimulating/growth its just a matter of how and the consequences of the stimulus.

    • With all due respect Greg, that is an important discussion, but an entirely separate one, IMO. I have some thoughts on it, but to introduce them here would do an injustice to the nature of this discussion. I also think it is a false ordering of priorities to elevate that one over this one in importance, just as it is a false association to attribute a bond trader’s profits selectively to a coincidental understanding of MMT. There are plenty of people out there who know we’ve been in a disinflationary environment for years and even decades, who haven’t been particularly exposed to either MMT or MMR. And there are plenty of people with some reasonable policy ideas related to that. There’s been lots of time to discuss policy already.

      This particular discussion is about competing conceptual structures for understanding and explaining the nature of the monetary system. It is about the conceptual foundation on which good policy should be formulated. It is important for that reason.

      I also think it is a false conclusion to draw that simply because one prioritizes a discussion of conceptual framework in a given discussion, one doesn’t have related views on policy going forward, or that the first discussion isn’t valuable simply because one doesn’t simultaneously demonstrate its “relevance” by spilling all the beans on policy ideas within the same discussion. From my perspective, I simply don’t need to do that. I have nothing to prove in that regard, because I don’t accept the premise that it is necessary to “move on” or “justify” this discussion in that context.

      If Cullen agrees with this, perhaps he might consider setting up a separate policy post for those who are impatient with this one. But there could be a million such policy topics. So I don’t know. But I can quite understand your frustration with a discussion such as this one, or why my response would be unacceptable to you. One really has to be interested in it in order to be interested in it, at least as a matter of the kind of focus that’s being brought to bear on it here.

      I have some ideas on your question, but this is not the best place to raise them, for reasons noted, IMO. On the other hand, Cullen has more experience dealing with his blogging audience, and he is most welcome to open up the discussion here as he deems most productive. No problem. In that case, I may even wade in.

      P.S.

      I don’t share your view re “intentionally opaque”. It is complex. But the attribution of complexity to intentional opaqueness is an ideological position, IMO.

      • Scott Fullwiler says:

        Hi JKH,

        You might note above that I said in response to Cullen on trader profits, “point taken.” Cullen explained rather well in my view why such a blanket defense of MMT based on profitability as if that were unique to MMT traders or as if there were never losing trades would appear silly to someone in his position. So again, point taken.

        Also, the reason for the MMT/neo-chartalist (and note that these two are the same, just names used in different contexts or settings) literature under critique (and I’m not implicating you here, to be clear) was precisely to have the sort of purpose of relevance to policy discussions you are not ascribing to your own work here. This is why I’ve suggested that to compare what you’ve written to that (again, not implicating you here, but others certainly have, and others certainly have critiqued from a similar approach) is comparing apples to oranges. I’m not invoking the logic here that you don’t like of general down to detail, only pointing out that, as you’ve just said, there is a point to different types of research and that drives the details one searches for and emphasizes. The more relevant comparison to your work here and some of the critiques offered would be some (emphasis on some) of my own published research that also did at least in part go at details for the purpose of going at details. As I’ve said, in that respect I have little to no disagreement and find your post to be a serious piece of work in this area. As I’ve also said, MMTers have frequently not been clear about their intentions in this regard; this was not on purpose or an intention to confuse or get away with something, but some of the criticisms that resulted probably should not have been unexpected.

        • Cullen Roche says:

          Scott,

          Sorry to barge in here, but I sincerely want to be constructive because I think MMT has an image problem and a communication problem (not that I have all the answers, but I have some opinions/thoughts!). I know you guys think you’re just misunderstood, but it’s really about the way the ideas are communicated and sometimes just outright conflated. Your “general” case is a fiction. It is an alternate reality. It is a possible reality. But it is not our current reality. It’s actually quite consistent with MMT’s progressive policy approach. You need the system to make big changes to fully apply to your general case. You need to end silly policies like the debt ceiling, you need the Tsy to stop issuing bonds to procure funding, you probably even need a nationalized banking system to make your “money monopolist” argument consistent across all money (though I know that’s not a point most all MMTers will concede). As I said before, the MMT case is precisely like the Austrian econ case. They need the gold std to hamstring govt. You guys need to break these self imposed constraints to unleash govt.

          A lot of this, for me, started over conflicts in the descriptive vs prescriptive aspects of MMT. MMT is often pitched as being descriptive, but when you get into the prescriptive the lines get blurred and conflict to a degree that renders the descriptive component flawed (or at least not a pure description of what we actually have). I think it’s become clear that MMT is just one streamlined “inherently progressive” approach. It’s Austrian econ’s polar opposite position, which is actually regressive. Rather than conflate the general and specific MMT needs to be clear about how the general is consistent with the MMT view that the world will be a better place when everyone understands this is an option and MMT has the answers to get us there. As I said before, your position is infinitely stronger than the Austrian case. You have the understandings and the facts on your side. But you mustn’t conflate the reality with MMT’s alternate reality. Otherwise, you get schmucks like me saying “wait, there is no money monopolist, there really is a Tsy bank account at the Fed, etc”. There’s no reason why the Austrians should be crushing everyone in popularity. But their message is consistent, coherent and clear. And CLEARLY political. If you guys are going to shy away from “inherently progressive” then you’ve already lost the war, because that’s what MMT is.

          My 2 cents, worth 1 as always.

          Cullen

      • Cullen Roche says:

        I think we’ve been relatively clear that MMR’s focus is getting the operational realities right and pushing that message out to the public so they can better formulate ideas and responses. I’d like to stay consistent with the Da Vinci approach rather than feeling the need to always solve the worlds problems. Lets actually help people get to a point of understanding. Then, when and if these understandings become mainstream, we can and should take the next step. To do it now, in my opinion, defeats the whole point behind MMR’s creation.

      • Thanks for your response JKH

        You are right that this thread is not dedicated to the conversation I was trying to have and I apologize. Discussions in one area always lead me to thinking about how they integrate with other things Ive been pondering but I need to be wary of hijacking a thread and leading it off course.

        “This particular discussion is about competing conceptual structures for understanding and explaining the nature of the monetary system. It is about the conceptual foundation on which good policy should be formulated. It is important for that reason.”

        Agreed. But like those who study the molecular level of cancer cells if your not trying to use the information to cure cancer what good is it. I DO think you want everyone to understand our system better but there needs to be a “to what ends” question before or after. Do we want to understand the money system better to maintain price stability only? Stability for whom? Can everyones price goals be satisfied by one system? Bond holders and people saving in banks want high interest rates, people borrowing money (might be the same person potentially) want low interest rates? Any way to keep everyone satisfied?

        I understand I have added more questions here and it appears I am impugning your subject by asking you to show its relevancy…… to me…..as if Im all that matters, which is not my intent. Im more curious as to why your driven to your study of a very wonky subject. How does this level of understanding inform you? Armed with this knowledge you must draw some conclusions?

        “‘I have some ideas on your question, but this is not the best place to raise them, for reasons noted, IMO. On the other hand, Cullen has more experience dealing with his blogging audience, and he is most welcome to open up the discussion here as he deems most productive. No problem. In that case, I may even wade in.”

        Id like to see that. Just as it was enlightening to hear what Einstein thought of his discoveries (as the only one who’d thought about them), Im interested in what you have to say about your intellectual quest. Scott has thought about this as much as you have probably and it’s clear what he thinks. I guess Im trying to pull the mask off this JKH guy a little ; )

        “I don’t share your view re “intentionally opaque”. It is complex. But the attribution of complexity to intentional opaqueness is an ideological position, IMO.”

        Do you disagree with the opaque part or the intentional part? Complex is a good synonym for opaque in this setting I believe and since most of this stuff is rules based and rules were made up by humans with the intent of achieving something I dont see how it can be argued its not intentional. Does this mean the intents are purely nefarious? No but when leading economists like PK have been quoted as telling other economists “Dont talk about money, itll end your career” I DO have to wonder why!

        If you feel led at all to respond you can just send me an email. Its with my login information that you should have as a site administrator

        Thanks

  24. Scott,

    I spent the last day writing several thousand words in response to your remarks. I was going to post four comments three rather long but have now found that JKH has at June 3, 2012 at 6:57am clarified what he thinks. Posting all my comments would be an overload and probably bore most readers so will instead post what was going to be my first comment along with a few additional remarks (note: this is only for aficionados of the debate).

    I will start with some context and respond directly to some of your remarks below. We both share Post Keynesian ideas on the public sector’s role in ‘stabilising an unstable economy’ and attaining ‘full employment with price stability’. We both know that some of the key errors plaguing economic policymaking relate to not understanding issues encapsulated in the phrases ‘stability is destabilising’, ‘the endogeneity of fiscal policy’ and ‘loans create deposits’. We also concur that “self-imposed” constraints on policymaking are arbitrary (though I think the international dimensions of currency autonomy do restrict some nations more than others) and that the legal system should adapt to meet societal needs rather than the other way round. So in the bigger scheme of contested economic ideas our differences are minor and a discussion amongst people who agree on much.

    The short answer as to why I decided to be a critic of MMT is as follows. Firstly, in my view there are conflicting descriptions of how things work which is unhelpful, and I am not alone in finding that to be the case. Secondly, in some ‘recent’ pieces of writing (within the last year or so) there are arguments that the fault is with policymakers not realising the existing monetary system is a “public monopoly”, whereas a reform agenda is arguably needed. In your recent remarks you claim that I am inconsistent for critiquing MMT while saying people should have a look at JKH’s Central Treasury Bank reform. In the final paragraph of the PERI paper body I did in fact point to a reform agenda. A major motivation of my critique was to establish a basis for why ‘major’ reforms may be needed (and I did communicate that point to Eric Tymoigne on several occasions in mid-2011).

    In the conclusion I suggested revisiting the positions of Soddy, Minsky, Fisher and Friedman on abolishing the fractional reserve banking system. I have done so and am of the opinion that a dual private and public monetary system is required to diffuse power (i.e. controlling the money taps equals power). At the same time in order to create some more space for policymakers to get things done (e.g. facilitate job creation) I wonder whether there is some merit in highlighting the absurdity of private banks being able to create money in the public’s name on a daily basis ‘out of nothing’ for the profit-motive while the public sector is restricted in its ability to fund essential services for the public purpose.

    My PERI paper was sent through in early December 2011 and I received the “Response to Critics” paper in mid-January 2012. A MMT primer/blog appeared on January 15th 2012 with the following remarks of some interest:

    “We see that Friedman’s “proposal” is actually quite close to a description of the way things work in a sovereign nation. When government spends, it does so by creating “high powered money” (HPM)–that is, by crediting bank reserves. When it taxes, it destroys HPM, debiting bank reserves. A deficit necessarily leads to a net injection of reserves, that is, to what Friedman called money creation. Most have come to believe that government finances its spending through taxes, and that deficits force the government to borrow back its own money so that it can spend. However, any close analysis of the balance sheet effects of fiscal operations shows that Friedman (and Lerner) had it about right.”
    http://neweconomicperspectives.org/2012/01/mmp-blog-32-milton-friedmans-version-of.html

    I am on the record as objecting to framing how the modern monetary system works in such a way. Perhaps the passage “description of the way things work in a sovereign nation” is meant to be taken in your lingo as “legal” rather than “operational” (the meaning of which you redefine as something other than the functional practices that exist) but neither of those words appear anywhere in the primer to qualify the description. Perhaps the “government” referred to means “consolidated government” but it is not said so (and the central bank never collects tax receipts while the federal government does not create money aside from coins so I am not sure of the utility of depicting matters in such a way). Perhaps the reference to deficits and fiscal operations are likewise used in an unconventional sense to include the central bank’s activities but again there is no mention. The above quote was not written IMO with unconventional redefinitions of economic concepts in mind (as there are no remarks as such) but you may argue to the contrary. I would say the terminological flexibility in MMT is counterproductive to understanding the subject. It is also allows you guys to conveniently claim that ‘you don’t understand what we say’ because the words written can be interpreted in a multiplicity of contexts.

    A primer is of course meant for beginners. I am doubtful of what purpose is gained by teaching people counterfactual positions to begin with. That seems a recipe for confusion and at the very least I think there is an obligation on the part of the teacher to specify in unequivocal terms that the reader is getting a “general” theory rather than an actual theory of how the system works. Cullen is a bright bloke and if he could not discern until recently that the counterintuitive descriptions were not meant to be taken as factual accounts then I suspect that most other people would be confused on these matters.

    As I pointed to the same proposal by Friedman at the end of my PERI paper as something to perhaps revisit (and the response was written around the same time) it seems highly unusual that Professor Wray did not underline his preference in his Blog 32 for a ‘major’ reform of this type. In the above quote the placement of the word “proposal” within quotation marks suggests inference that Freidman’s proposal is something more than just a proposal, indeed, we are told that “Friedman’s “proposal” is actually quite close to a description of the way things work in a sovereign nation.” You may find fault for some reason or another with my deductive reasoning but I think it is reasonable to infer that at least as of January 2012 Professor Wray was of the opinion that ‘major’ reforms were not needed. If he is now of a different opinion then great: let’s discuss reforms.

    In the response to my PERI paper there is also no mention of the need for a ‘major’ reform agenda. Yes: there is an argument that the prohibitions on the Fed buying T-bonds at auction are not “natural” though I would not consider that a ‘major’ reform (i.e. as when the Fed buys T-bonds in the open market the end result is the same). Supposing that all spending by the federal government was financed by bond sales to the Fed (directly at auction or indirectly via open market purchases) it still could not be argued even in this counterfactual example that the purpose of selling bonds is to drain ‘excess’ reserves in order to attain the fed funds target: the purpose would be to procure financing from the central bank. So the counterfactual claims thought to be true in the “general” case would in fact require ‘major’ reforms: perhaps I did not clearly explain my “natural” case sufficiently (though I thought I did a good job).

    In the response it was concluded: “In summary, separating the Treasury and the Fed and adding the rule that the Treasury must finance its operations in the open market results in the six transactions described above for the Treasury’s debt operations compared to the three simpler operations in the general case. Nevertheless, the nature of these operations as described by the general case of a consolidated government/central bank balance sheet or the results described in (i), (ii), and (iii) all remain completely intact. Unfortunately, and most importantly, the added complexity is counter-productive because it leads to poor understanding among economists, poor modeling, and bad policy choices. Were economists and policy makers to understand that the MMT general case explains the true nature of government debt operations, we suggest that all three could be markedly improved.”

    Writing the “results described” is exceedingly vague. The added complexity you find counter-productive because it “leads to poor understanding amongst economists, poor modeling, and bad policy choices” would suggest that at that time and in that piece of writing the “general” case is thought relevant on the empirical front (i.e. appropriate for modelling and policymaking) rather than fodder for reform. When you write “the true nature of government debt operations” the word “true” would normally suggest that the reader should take this as true/factual/descriptive account of how things work. If there was an implied reform agenda to make the “general” case “operative” (in the normal understanding of that word as functional) I could not discern it though I did read the response many times.

    Perhaps there is such intent in a section I missed (and if there had been an inkling my rejoinder would have been written differently). I interpreted your “general” case and “specific” case as implying that the former is a Granny Smith apple and the latter a Golden Delicious apple; essentially, all the added complexity is not really needed because we are talking about apples where nothing fundamental changes. I am unable to make sense of remarks like “the general case of a consolidated government/central bank balance sheet or the results described in (i), (ii), and (iii) all remain completely intact” in any other way. The general/specific case comparison is between an apple and an orange: very different fruits and major reforms are needed to make the orange into an apple. (Readers should of course read the response to form their own view as to whether or not my interpretations are reasonable).

    So my critique was based on a perceived lack of reform agenda (and when I write perceived I mean deliberated contemplation of multiple literature sources over many months done to the best of my interpretive skills). When I wrote on JKH’s post “I also recommend that everyone give serious attention to the Central Treasury Bank as a blueprint for reform” the face value was let’s have look at reforming the system. My own blueprint might not be a system where taxes and bond sales are done solely to set the fed funds rate (and I do not think JKH expressed a preference for a specific reform agenda). Perhaps much could be achieved within the existing system if the Fed were to increase its tacit financing of the Treasury’s deficit spending, that is, and people (including economists, politicians and financial investors) came to realise that T-bonds held on the Fed’s books present no solvency risk (and just domestic monetary authorities coordinating to facilitate spending necessary to stave off deficit demand) and that periodic approval of the ‘debt limit’ is at best destabilising and at worst a potentially dangerous constraint.

    Alternatively, if high public debt volumes are thought to be a problem, then I would augur for more giving policymakers discretion to weaken the institutional links between deficit-spending and debt issuance. This could involve issuing platinum coins or the Fed crediting the Treasury’s account and writing “non-repayable money credit” (or something equivalent) on its book instead of Treasury security. When considering that credit to financial firms is recorded as monetary assets on the Fed’s books as repurchase agreements, term auction credit, seven types of “other loans”, four types of “net portfolio holdings” and a “preferred interests” it should be obvious that all entries on balance sheets including debt and money are human constructs and therefore in some sense malleable to meet certain objectives. It is the folly of vested interests to suppose that the public sector should open the ‘money taps’ to bail out big finance but be frugal when it comes to the improving the lot of Main Street. I think MMTers would concur that if the Fed can create “money” freely for Wall Street without congressional approval (and record the transactions on its books under the name of any desired facility) it should not matter if the Fed’s practices were such that it could do likewise for the sovereign government in order to meet the public purpose (with due oversight).

    Perhaps then I should have critiqued the ‘Central Treasury Bank’ though I think JHK was canvassing ideas with his section ‘Treasury and the Central Bank – Contingent Operational Adjustments’ indicating that there can be many paths to achieve similar end results. Nor I am not particularly wedded to my own preferences: if a set of reforms of some form or another are required so that policymakers are not impeded in their task of attaining full employment with price stability then let’s do that. The end goal matters to me not the specific reform or policy to achieve that end (though there are obviously very important ramifications for how the system would work depending on the exact reform under consideration). If you want to my tentative suggestions for reform while suggesting that everyone should look at JKH’s canvassed idea as inconsistency on my part go right ahead. My reply will be “let’s discuss ‘major’ institutional reforms as that was not on the vista until recently”.

    STF: “You conveniently left out that I then said “The main points of Kelton’s paper are entirely related to operational realities of the existing monetary system.” My point there was obviously that it was a more general paper. Recognize that it was written in 1998 and that nobody had thought about matters before as she did there. We would say the same things differently now, but the impact of that paper is and will always be tremendous regardless how nitpicky one wants to get about the details. Nitpicky isn’t a problem, but nothing said yet contradicts the overarching point of the article as I explained in my blog post, and you haven’t offered anything in that respect.”

    The novelty in the paper is that the Treasury spends exclusively by creating new money with the position reasoned primarily on the basis the Treasury’s deposits held at the Fed are not ‘counted’ in any ‘official’ money supply measure. Trawling through Brunner, Friedman and Cagan’s work on the HPM concept in order to understand the truth of the matter was not a tremendous experience I recommend to anyone. I saw your intriguing remarks over at a NEP post:

    “Yes, that is a ground-breaking paper given when it was written… We need to remember the context, though–there’s been 13+ years of debate both in academia and also on blogs that have led us to clarify the points being made in the late 1990s research such as this and Randy’s book. Many have had “difficulties” with language used back then (but some of that has to do with the groundbreaking nature of the work). In other words, our views have not changed regarding those initial insights, though we say things differently now in terms of language and metaphors.”
    “In other words, a critique of the “framing” in the MMT research from the late 1990s within the context of how these are now discussed on the blogs or in academic research would not be useful and or interesting, in my view. That’s already well-tread territory.”
    http://neweconomicperspectives.org/2012/05/toward-monetary-enlightenment-an-integral-approach-to-macroeconomic-policy.html

    Stephanie also mocked her paper at May 31 2:05pm: “That’s a draft I wrote before I even started a PhD program. I think I have some old homework assignments too, if anyone’s interested.” As we both know that paper was revised and published in the Journal of Economic Issues in 2000 and frequently referenced as an authoritative neo-Chartal work (I can provide a dozen links to papers). So I am not sure what you are now saying: it seems like you both want to effectively disown some unexplained part of Kelton’s “ground-breaking” work while still claiming it is fundamentally correct such that your overall position has not changed one iota though the “language” is now different. That seems like a justification for internal-inconsistency akin to ‘we are not always right but never wrong’. The title of the original 1998 paper is ‘Can Taxes and Bonds Finance Government Spending?’ with the answer found to be no. None of the language in the title (i.e. meaning/definition) has changed in the last fifteen years.

    I do wonder why such re-assessments of Kelton’s (1998; 2000) papers and Wray’s (1998) book were not relayed to me back in mid-2011 when I first made contact. To borrow from Marc Lavoie there is now some water in the wine. One of your colleagues was quite adamant that I needed to check the definitions of HPM and should just trash my paper so the only indication I received was that everything written in those works was still at least at that time held as completely accurate. Being nitpicky is what academics do and sometimes matters are more substantiative than others. So how should one interpret Kelton’s (1998; 2000) papers and Wray’s (1998) book in view of Kelton’s (1999) paper ‘Functional Finance: What, Why, and How?’ The former argues that fiscal receipts can never be funding operations while the latter argues (as per Lerner) that when the Fed or private banks can always be relied on to finance Treasury deficit spending by augmenting their holdings of T-bonds. You may retrospectively say the former describes the MMT general case and the latter how policy coordination can occur in the “specific” case but categorisations of this type were not made at the time and only recently (and even now not made by all of your colleagues).

    STF: “What will you do when someone goes over your work 15 years from now using the literature and knowledge gained since then and makes a big deal out of points that have nothing to do with the core arguments about the nature of the monetary system?”

    Arguing for varying reasons that – fiscal receipts can never be funding operations and that the “purpose” of T-bond sales by the Treasury is to drain excess reserves to set the fed funds rate – do qualify as noteworthy claims. If these positions have now been dropped then explicitly acknowledging so would help. I cannot discern whether you and your colleagues still view these (counterfactual) positions as “core” factual positions. If the nature of the monetary system is described as one that “stands conventional analysis on its head (Wray, ‘Money and Taxes: The Chartalist’, 1998, p. 3)” such that fiscal policy is really monetary policy then it is reasonable to take that as a “core” argument (and of substantial note if ever retracted).

    What would I do? I would admit that I made some mistakes on XYZ and acknowledge the Lavoie’s and Rochon’s for helping to improve the theory. I would then say the initial literature served a useful purpose in helping to raise questions about the design of the modern monetary system. So let’s discuss how things actually work and reforms…

    “Deficits aren’t operationally financed by bonds; they are legally financed by bonds. Big difference, and the world would be a better place if the distinction were understood.”

    According to the Wiktionary the word ‘operational’ means: (1) of or relating to operations, especially military operations; (2) functioning and ready for use; and, (3) effective or operative. The first two definitions of the word ‘operation’ are as follows: (1) the method by which a device performs its function; and, (2) the method or practice by which actions are done. Why redefine the word “operative/operational/operationally” as meaning non-functional and/or not how the system actually functions in practice? Very curious indeed and I could provide many references to literature where the word “legal” is not present. You seem to have come up with that one recently and I am none the wiser from it.

    I wrote: “When critiqued people like Scott say that some of the “descriptions” of the “operational realities” (that were presented as factual accounts) were not meant to be taken literally but figuratively as some (until recently post-hoc claimed) grand plan to present a theory in differing ways.” STF replied: “I would stand by that. And so would all the others. We’re building a school of thought, as I said before.”

    Economics got the label ‘dismal science’ for a reason. I would object to rebranding errors as part of up until now unacknowledged shrewd plan intended all along. I would not object to a line of reasoning that the scientific process necessarily involves ‘trial and error’ and that some prior literature has served a purpose in bringing to the forefront questions about the design of the modern monetary system. Most economists do not ask these questions and there are clearly options here; indeed, the history of money is one of evolution…

    “I’m still waiting for the critics to explain the macroeconomic significance of the points of contention. I haven’t seen much but nitpicking at the edges, and I have seen few if any details even there that I didn’t already know or haven’t written about myself someplace. Would the world be a better place if your preferred corrections to MMT were used? How? Would policymakers have better understood the crisis and how to respond if your preferred corrections to MMT were used? How?”

    How exactly does MMT stripped of its counterfactual claims add to our understanding of the macro economy or the current crisis in a way not already present in Post Keynesian theory? You may point to insights about the clearing and payments system but there is not clarity about how all that works in respect to the Treasury’s operations. You may also point to the Sectoral Finance Balance approach but that was Godley’s project (and I have seen nothing in his published work which suggests he thought fiscal receipts could never be financing operations) and it is also the case that JHK has provided some objections on the MMT use of that accounting framework. I cannot speak for JKH or Cullen though if from reading our work you or your colleagues come to the opinion that there is a need to correct MMT then by all means do so.

    STF: “It’s about detailing the empirical work and building a theory that is general (to the degree possible) and then continuously testing this theory. We did not skimp on the details. This confuses the detailed explanations of the real world in, say, my academic papers with the general theory in, say, Randy’s book. It’s akin to claiming the insights of Darwin are not useful because he didn’t go into the details. Nobody says that—they say there are details to complement his general insights. And where he did get some details incorrect given his more crude investigatory tools it is also recognized these thus far do not distract from the basic “truth” of his general insight.”

    Surely Randy had sufficient scope to not skimp on the details in his 1998 book. My recollection is that the book was not presented as “general” theory. The title ‘Understanding Modern Money’ and many passages within that book give the distinct impression that the overarching narrative applies to existing institutional arrangements in general and to the United States in particular. What exactly that fundamental “general insight” happens to be is difficult to gauge from your remarks. If the “truth” of Randy’s “general insight” is that private agents can never fund/finance government spending that is questionable.

    One aspect of the ‘taxes drive money’ view is that taxes give value to the public’s money and that this is coordinated via quantity changes in the amount of money achieved via fiscal policy. Even if it were not the case that in the modern era taxes were collected for funding operations I doubt the viability of the “general theory” argument. Modern money is mainly endogenous bank credit-money so altering the value of money through fiscal policy in a reformed “public monopoly system” would be quite difficult. It would also be impractical to regulate the value of the money though changes in the tax code (e.g. time delays and the uncertainty to entrepreneurial activity).

    I wrote: “The problem is forwarding dictums like “fiscal receipts cannot be spent and never funding operations” under the “conglomerated State” framework cannot be a “general” case. That framework and the counterintuitive statements it leads to are confused/wrong i.e. describes no world.” STF replied: “Perhaps counterintuitive to you. But analysts are beginning to figure out this is the true nature of sovereign currency issuers. Even a neoclassical like Krugman now talks about how the crucial difference is the ability to create one’s own currency; he admits that prior to the crisis nobody (at least among neoclassicals) could explain why Italy’s interest rates would rise above the risk-free rate and Japan’s would not.”

    I believe apples and oranges here. Krugman might accept JKH’s useful definition of a strategic currency issuer with the counterpart operational issuers and users though extremely doubtful that he would agree with the MMT “general” case.

    In reference to my remarks on sci-fi STF wrote: “A theory that provides insight into the true nature of the monetary system is science. If we haven’t done that, then why does JKH say that providing a correct description of monetary operations is “my standard”? Why does Lavoie say “if I have objections to the neo-chartalist views on money creation and the mechanics of the payments system, they don’t arise from questions of content . . .” and that the “studies by neo-Chartalists on the clearing and settlement system” have vindicated the horizontalist position? Why does Lavoie also say later that when he first heard Mosler talk about the fed funds market he thought he was a crank but now understands reality of how that market works cannot be otherwise?” Apparently you and Lavoie don’t agree on the relevance of MMT.”

    The post you referred to as praised by JKH was on the Krugman/Keen debate: that has nothing to do with the misleading conflation of fiscal policy as monetary policy in the “general” case. You have conveniently not mentioned the remarks in Marc’s 2011 paper about student comprehension and concluding point: “Modern monetary theory is thus certainly an improvement, but it must get rid of its counter-productive statements and convoluted logic based on the fictitious consolidation of government and the central bank.”

    When I wrote in the PERI paper body that “MMT is not an alternative to fiscal austerity” take it as referring to the oft made claim that the Treasury “voluntarily” chooses to issue bonds and therefore could deficit-spending without selling bonds under existing institutional arrangements (which is a position made confined only to the late 1990s and early 2000s literature). The context is analyses such as Wray’s (2009) “proposal” albeit tongue-in-check to not raise the federal ‘debt limit’ and your praising of such advice as a “creative suggestion”. In a PERI footnote I noted that this “creative suggestion is thought to be possible within existing operating procedures; and, not an alternative system say where the Treasury issued platinum coins (of whatever denomination desired) or the Fed provided an overdraft facility (which would enable the Treasury to bypass the debt limit up to the exact extent to which the account could be overdrawn).” You may now claim that of course that suggestion was made on the condition of coinage reform or an overdraft facility but there was no mention as such in the pieces of writing (at least when I wrote my paper and it is certainly the case that Beowulf’s coinage idea was not circulating back then).
    http://neweconomicperspectives.org/2009/11/memo-to-congress-dont-increase.html
    http://neweconomicperspectives.blogspot.com/2009/11/ what-if-government-just-prints-money.html

    Along similar lines are Wray’s (2011) remarks that federal government debt could just abolished requiring only minor changes because T-bonds are just “reserve-draining operations that offer bonds as an alternative to reserves… So… just stop selling the bonds.” These and similar suggestions I argue stem from believing that the “general” case applies to the “specific” case when it does not.
    http://www.economonitor.com/lrwray/2011/07/20/raise-the-debt-limit-or-abolish-the-debt/

    When I wrote “The inconvenient truth is that MMT is a distraction to understanding and developing solutions to current economic problems” I had in mind the confusion resulting from conflicting accounts of how things works and the belief that certain things (e.g. the Treasury deficit-spending without issuing bonds) are possible when in actuality ‘major’ reforms are needed. The comment was nonetheless harsh and not worded right. I do apologise for the possibility that my remarks about ‘not alternative to fiscal austerity’ and ‘distraction to’ could be interpreted in a totalising light. If I could I would rewrite as follows: “On repeated occasions MMTers have given the impression that the Treasury spends as per bank: that claim needs to be revisited and some of them may be already on the path in that regard. The contributors to the school have furthered our understanding of current economic problems by bringing questions about the design of the monetary system and the relevance of Abba’s functional finance to the forefront. We should all share their concerns with how to obtain full employment with price stability and consider which policies and reforms may be needed in order to attain that end.”

    STF: “In your critique of us you write “everyone wants an alternative to fiscal austerity but MMT is not it”. Interestingly, JKH’s CTRB is essentially a description of how the MMT general case would look in the real-world (not to presume, but I have my suspicions about where he might have gotten the idea). But in response to JKH you say that you “recommend that everyone give serious attention to the Central Treasury Bank as a blueprint for reform.” So, which one is it? MMT describes the nature of the system as it is aside from a few additional assumptions/details that are in fact self-imposed constraints and serves as a “blueprint for reform” of both our current understanding and our institutional structure? Or, the blueprint is “counterintuitive” and could never be the alternative to austerity? You have now suggested that both are true.”

    JKH has made his views clear at comment JKH June 3, 2012 at 6:57 am. And I have made my views clear about “alternative to fiscal austerity” and on JKH’s CTRB above. I also refer you to the lack of reform agenda in the PERI response and on Wray’s Freidman primer for further clarification.

    For those readers that have made it this far I must remind again of the broader context. The global economy has had its most severe financial crisis since the 1930s and some Eurozone countries are for intents and purposes having a Great Depression. Many economists are “neoliberals” and if they were honest they would admit that according to their theoretical frameworks and ideological axioms such crises like the Great Recession should never happen and that fiscal policy is all but irrelevant: in others words that know very little about the modern economy. By analogy many economists are working from a pre-Newtonian world view (and not even one that takes into Einstein let alone quantum theory). The consequential divisions are between neoliberals and those think there is a role for the public sector in attaining full employment macro goals. The differences of opinion here on the possibilities within the existing system or potential reforms are minor in the bigger scheme of things: let’s move on to attaining the end goals.

    Scott, I wish you and your colleagues the best of luck. It should be comprehensible for others to understand that the rules of modern monetary systems are flexible; indeed, money is a societal convention and the economy more broadly a human construct. Those who think that a “collective we cannot afford to mobilise domestic resources to do XYZ” are labouring under a false pretence that society is constrained by monetary resources (i.e. virtual wealth) rather than ultimately by natural resources. [I also wonder if the creation of bank money with a counterpart debt along with the rising macro role of nonbank credit (which creates a debt without creating new liquidity/money to repay the debt) may have some part to play in why debt problems appear endemic in many advanced economies but that’s a topic for another day].

  25. Few minor typos at June 4, 2012 at 8:55 am (I need an editor) and now correcting some of them:

    “When I wrote… take it as referring to… the oft made claim that the Treasury “voluntarily” chooses to issue bonds and therefore could deficit-spend without selling bonds under existing institutional arrangements (which is a position NOT confined only to the late 1990s and early 2000s literature).”

    “Many economists are “neoliberals” and if they were honest they would admit… that THEY know very little about the modern economy.”

  26. Scott / (+ BF, Cullen),

    By way of house cleaning, while I appreciate Scott’s latest comment above, I disagree with the nature of the comparison he draws in a pretty basic way.

    Scott’s comment:

    http://monetaryrealism.com/treasury-and-the-central-bank-a-contingent-institutional-approach/#comment-7177

    My response to that:

    – My “own work” (i.e. this post in particular) is very relevant to policy setting; it is designed as a conceptual platform from which to analyse, formulate, and launch policy

    – The “relevant comparison” of what I’ve written in this post is not to Scott’s published work on actual monetary operations, but to Scott’s “general case, etc.” Here is how that comparison goes:

    I view Scott’s “general, etc.” paradigm as something with the following functional structure:

    S = f (G)

    Where S, the/a “specific case” is developed in logical sequence as a function of a starting “general case”

    I said earlier that where the specific case refers to actual monetary operations in fact, but not in the paradigm context of the functional structure noted above, Scott has done an excellent job in describing those operations. It is the description of the paradigm involving the general case that I have difficulty with.

    What my post describes has the following logical structure:

    C = g (A)

    Where C, a set of counterfactually constructed monetary systems, is composed of potential configurations that are developed through operational adjustments and/or institutional reform, starting from the point of the existing actual system A (as described in the general structure of the post).

    C = {c}

    One element of C is c = CTRM.

    There are many others.

    The essential point is that the logic between the two methods of development, Scott and myself, is roughly inverted.

    And this becomes fundamentally significant in distinguishing the difference between the related approaches to describing the nature of the modern monetary system.

    • that’s c = CTRB as in “central treasury bank”

    • Joseph Laliberté says:

      some comments:
      1) I am wondering if you make a distinction between the MMT general case in the academic sense (as explained by Scott Fullwiler) and the general case in the “pushing the message out to the public” sense (perhaps best embodied by Mosler’s famous metaphors). I am unsure if Marc Lavoie makes this distinction in his friendly critisim of MMT, particularly when he talks about “unscholarly vigour”.
      2) Your post is a must read description of actual monetary/fiscal operations. Perhaps unknowingly, your academic approach, at least as it pertains to monetary operations, reminds me of the “German School” approach (also known as the Historical School of Economics). This long forgotten school of thought had an important influence on American institutionnalists.

      • Hello Joseph,

        1) I see Scott’s general case approach as being formal. I see Mosler’s metaphorical language as tending toward an informal translation of that general case.

        2) Thanks. You sensed correctly in the way of “unknowingly”, although the reference is vaguely familiar.

    • JKH: Inverted is the right word to contrast the approaches. I would also say that in your post there is a clear narrative that a system involving institutional reform is an apple and the existing system is an orange.