Tuesday, 4 October 2016
Dear brainless Tories, right wing journalists, etc.
You may have noticed (unless you’re TOTALLY brainless) that the whole deficit and debt reduction idea, first promoted by George Osborne when he came to power, has now become a farce. Osborne himself initially said he intended running a surplus in just a few years. He then realised that was impossible and pushed the eventual date of the surplus into the future by about five years. And now the new UK finance minister, Phillip Hammond, has abandoned the idea altogether.
So if you voted Tory on the basis of Tory promises about “good house-keeping”, “balancing the budget”, “living within our means” etc, then you’ve been had, good and proper. Even more galling for you is the fact that I, along with thousands of others saw what was happening and knew you were being had. We tried to warn you, but you wouldn’t listen.
This is almost as big a joke as David Cameron’s promise seven or so years ago to cut immigration to the tens of thousands. If you believed that, you were had there as well. But rather than rub too much salt into the wound, I want to be more constructive: point you to a group of people who have known for decades that having ANY SPECIFIC TARGET for the budget deficit (or surplus) is nonsense.
That group of people are advocates of “Modern Monetary Theory”. Their ideas are actually very similar to Keynes’s ideas. The basics of MMT are as follows.
1. Given excess unemployment, the state should spend more than it receives in tax. That extra spending will employ more people. Alternatively, and instead of spending more, the state can run a deficit by cutting tax. The decision as to what mix of those two options to go for is of course POLITICAL.
2. Contrary to popular belief, a deficit does not necessarily increase the national debt. That is, instead of funding a deficit via borrowing, it can be funded simply by printing money, as indeed Keynes pointed out. Personally I prefer the “print” option (reasons are below).
3. Assuming the borrow option is chosen, does that mean the debt might reach far too high a level? The answer is “no”, and the reason is that deficits and debts are self-limiting. That’s because national debt is an ASSET as viewed by those holding it (i.e households, private banks, insurance companies, etc). And the more of that stock of paper assets that the private sector holds, the more it will spend, all else equal. Thus as the debt increases a point must come where no more deficit and debt is needed.
4. If the “print” option is chosen, might that not cause inflation? Well no, and for the simple reason that inflation only arises when the economy is near capacity: i.e. when unemployment is about as low as it can go. I.e. if inflation does rear its ugly head, that’s a sign that the basic problem being addressed has been solved!
5. What happens if the borrow option is chosen and interest rates rise? Well first, there no IMMEDIATE effect on interest paid by government, and for the simple reason that interest on government debt / bonds are fixed when those bonds are first issued. I.e. the possibility of paying more interest only arises as those bonds mature.
But there is no obligation on government whatever to renew those bonds when they mature! That is, government can simply print money, pay off those whose bonds have matured, and tell creditors to go away. And if you think that will necessarily be inflationary, consider the fact that we’ve been printing money and paying off bond holders on an astronomic and unprecedented scale over the last five years under the guise of QE. But inflation is nowhere to be seen!
But that’s not to say inflation is not a POSSIBILITY. If inflation does get uppity, that’s easily dealt with, and by several different measures: i) raise interest rates, ii) raise banks’ minimum reserve requirements (something that China adjusts much more frequently than Western countries) and iii), raise taxes and/or cut public spending. (Incidentally, given the much larger stock of base money as a result of adopting the print option, the traditional method of raising interest rates would not work (keeping banks short of base money). But that problem is easily solved.)
6. In short, the deficit is very much like the accelerator on a car. If the car meets some headwind and slows down, that can be countered by stepping on the gas (increasing the deficit).
And as for the idea that it’s a good idea to have a PLAN for how big the deficit should be in a few years’ time, that’s nonsense because no one knows what headwinds, or tailwinds will hit the economy even two years down the road.
7. As for the choice between the borrow and print option, it’s frankly a bit difficult to see the point of borrowing because borrowing as such has a deflationary effect: the opposite of the intended effect. Indeed one leading MMTer (Warren Mosler) advocates zero government borrowing. Milton Friedman advocated the same.