Commentaries (some of them cheeky or provocative) on economic topics by Ralph Musgrave. This site is dedicated to Abba Lerner. I disagree with several claims made by Lerner, and made by his intellectual descendants, that is advocates of Modern Monetary Theory (MMT). But I regard MMT on balance as being a breath of fresh air for economics.
Monday 4 May 2015
What’s the optimum amount of national debt?
The combination of national debt and monetary base is often referred to by MMTers as “Private Sector Net Financial Assets”. The more PSNFA, the higher will private sector spending be (essentially the point made by Andrea Terzi recently). And ideally it needs to be at a level that gives us full employment. So that tells us in principle what the optimum amount of PSNFA is. But it doesn’t tell us what the optimum SPLIT as between debt and base is.
One disadvantage of base is that it can be spent, thus a large base means the private sector might suddenly go mad and try to spend away a large portion of the base, which would be inflationary. I.e. a large base would exacerbate any “irrational exuberance”. (Incidentally, debt is also a TYPE OF money: its actually used in the world’s financial centres in lieu of money. But you can hardly go shopping at the supermarket with it, or use it to buy a car.)
But the larger the debt, the higher the interest charged by debt holders. So (roll of drums) the optimum amount of debt is the amount that produces a small positive rate of interest on the debt.
I suggest that should be something between zero and the rate of inflation: that means a NEGATIVE real rate (inflation adjusted rate). And that in turn means governments so called “creditors” have to pay for the privilege of lending to government. In particular, foreigners have to pay for the privilege of lending to us.
Having said that the base might exacerbate irrational exuberance, it’s possible that’s not true. In that case the optimum (as suggested by Milton Friedman and Warren Mosler) is no debt at all. I.e. PSNFA should be made up entirely of base.
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Ralph, you write: One disadvantage of base is that it can be spent, thus a large base means the private sector might suddenly go mad and try to spend away a large portion of the base, which would be inflationary.
ReplyDeleteThis is exactly the same with all money - whether created by the central bank or private banks. If everyone decided to spend all of their private bank money at the same time we would be equally in real trouble.
Of course you can used debt to buy a car. Someone borrows money from the bank to buy my house. I have money in the bank. I use it to buy a car. Quite simple I think?
Ari,
DeleteYou’re right: if my bank suddenly quadruples the maximum debt I can run up on my credit card, I might go mad with that freedom to spend. That point DETRACTS from my point about base money, but I don’t think it totally destroys it. I.e. all else equal, more base means more potential freedom to spend.
Ralph, the reason I would disagree here is that an increase in base money can be spent by a government with a high multiplier in the economy.
DeleteA reduction in interest rate, meaning more private money created for mortgage lending, means money is produced that is spent with a very low multiple (my empirical evidence suggests about 10%).
This means that a lot more private money needs to be produced to have the same effect as a base money increase (if base money targeted correctly). Which means a lot more potential to spend.
In regards to your main point, I discuss here why I think we have far too much debt to base money at the moment - especially private sector debt. The burden on the workers in interest payment is too high for the economy to grow:
http://www.notesonthenextbust.com/2015/04/rising-inequality-explained-not-using-r.html
In summary, I agree with your end point that a PSNFA made up entirely of base is a good idea!
I began by repeating what the man said and then disagreeing with it totally.
ReplyDelete"In modern monetary economies, the central bank clearly does not control the money supply. It controls the interest rate. "
In my opinion the CB ( big sister) has a symbiotic relationship with the commercial banks (little sisters).
They both determine how much credit poison is to be emitted at any given time and therefore control all life.
So the capitalistic nation was and will always be a centralizing vortice - things have become more obscure as we have moved beyond nation state management toward international coordination by the global CBs and the BIS but essentially the sane mechanism is used.
Credit /Debt is created inside the tabernacle.
Richard Werner although I disagree with him on certain points has made this observation again and again.