Wednesday, 13 December 2017

What’s the optimum amount of national debt?

MMTers have solved this one. Others are still floundering, in particular Roger Farmer in this NIESR article on the subject, is all over the place far as I can see  (1). So I’ll run thru this vexed question for the umpteenth time.

First (a point which Farmer does not seem to appreciate) there is little difference between national debt and base money, at low rates of interest, as Martin Wolf and Warren Mosler (founder of MMT) explained. I.e. both are state liabilities, or at least ostensible state liabilities. That’s why MMTers sometimes lump the two together and refer to the pair as “private sector net financial assets” (PSNFA).

Thus the first problem in answering the question “What’s the optimum amount of national debt” is that the very concept “national debt” is fuzzy: it has no clear boundaries.

Second, the amount the private sector spends is related to how much PSNFA it has (or if you like, how much “cash” it has). When people win a lottery, their weekly spending rises – a point which is common sense for most people, but a source of much confusion, difficulty and perplexity for some economists.

Ergo, the optimum amount of PSNFA is simply the amount that induces the private sector to spend at a rate that brings full employment. That’s not to say government should instantaneously adjust PSNFA every time there’s a recession. But what it can do is to simply print money and spend it, and/or cut taxes, and that will tend to raise PSNFA. So under that policy, PSNFA (or “the national debt” if you like) will always tend towards its optimum level, a policy advocated by Positive Money.


Interest on the debt.

Interest paid on the debt itself influences the “full employment equilibrium” level of that debt: that is, the higher the rate of interest paid on the debt, the more of it the private sector will be willing to hold, all else equal, as Warren Mosler pointed out.

A country which issues its own money can pay any rate of interest it likes on its debt, as MMTers have long pointed out. E.g. if a country thinks the rate is too high, it can reduce it by printing money and buying back debt, and then dealing with any excess inflation by raising taxes and “unprinting” the money collected.

So what’s the optimum rate of interest? Well Milton Friedman and Warran Mosler said “zero”: i.e. they said “don’t pay any interest at all”. And I must say I rather agree: certainly I don’t see any point in paying anything more than the rate of inflation, i.e. I don’t see a reason to pay a positive REAL (i.e. inflation adjusted) rate of interest. That’s for the following reasons.

First, the only really good reason to borrow is if you’re short of cash, and governments are NEVER short of cash: they can print the stuff, plus they can grab near limitless amounts from taxpayers. If a taxi driver wants a new taxi, and happens to have the cash to hand, he won’t borrow in order to buy the taxi. But then taxi drivers probably have more sense than economists.

Second, the old argument that government should borrow to fund infrastructure investment does not make sense because the ENTIRE education budget is an investment, so why don’t we fund that entirely via borrowing?

Third, I set out more argument against government paying any interest on its liabilities here (2).

So, to return to the original question, i.e. what’s the optimum amount of national debt or more properly, PSNFA? The answer is “whatever brings full employment”. And that very much ties up with Keynes’s dictum: “look after unemployment, and the budget looks after itself”. As to exactly what that amount of PSNFA will be as a percentage of GDP, that will depend on how thrifty or spendthrift citizens of the country are. The Japanese are relatively thrifty, thus their optimum PSNFA:GDP ratio will be on the high side. In other countries, the ratio will be lower.

Title of Farmer's article: "How much debt do we need? My answer: 70% of GDP".
Title of my article: "Government borrowing is near pointless".


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