Understanding and Embracing The Sovereign Currency Opportunity

As I read about the “debt problem” and hear it discussed endlessly on TV news shows, I find myself deeply disappointed to note how many journalists, politicians and even economists fail to make the distinction between private debt (i.e., debt owed by individuals and businesses) and “debt” incurred by the U.S. and other governments that issue their own floating-rate, non-convertible (i.e., “sovereign”) currencies.

The same is true of the widespread failure to distinguish between the U.S. and the 17 European countries that have adopted the Euro as a shared currency.  Unlike the U.S., each of these 17 countries has abandoned its role as sovereign issuer of currency and the flexibility it provides with regard to fiscal policy.  So in this important respect, these European national governments now resemble individuals and businesses more than the U.S. government.  Or perhaps more accurately, they most closely resemble individual U.S. states that lack a common treasury, fiscal union and financial backstop corresponding to the U.S. federal government.

Since I believe there’s enormous untapped (and much needed) value that can be generated by the U.S. government leveraging its role as sovereign currency issuer for the benefit of its citizens (both current and future), I’m going to revisit a blog post by Dan Kervick at the New Economic Perspectives site.  In an earlier post I discussed Kervick’s proposal to better integrate fiscal and monetary policy and move the latter more directly under more democratic control (vs. control by a Federal Reserve Bank that’s more accountable to large banks than to American citizens).  In this post I’ll review sections of his post that clarify the nature of federal “deficits” and their relationship to the private sector.

First a key point made by Kervick (and other MMT proponents):

The national government does not need to collect its own money, whether via taxes or borrowing, in order to spend, since the government can create or destroy money.

Not really a “debt”

Kervick goes on to clarify how misleading and counterproductive it is to consider the U.S. federal “debt” in the same light as private debt.

Governments traditionally classify the currency they issues as liabilities. But these liabilities are of a very different order from the debt liabilities private sector firms and households possess. For private sector agents, a debt liability represents negative value. It is a legally binding commitment to make a future payment out of one’s finite stock of assets, thus diminishing that stock. It is a claim against one’s finite assets.

It is…hard to see the government’s issue of currency as the creation of any kind of genuine liability at all. It is true that the holder of the government’s currency can always use it to discharge tax obligations, and so private sector firms or households who possess money possesses a credit on their tax accounts with the government. But these credits are for obligations that the government itself establishes by sheer legislative fiat, and so the fact that the government has issued credits for those obligations does not mean that the issuance of these credits represents negative value for government.

Nor does the currency issued by governments in modern fiat systems represent a redeemable promise for the delivery by the government of some other objects or services of value. The only thing the possession of a US dollar entitles you to is another US dollar.

When the government collects the currency it has issued, it doesn’t get richer. And when the government issues additional currency, it doesn’t get poorer. These so-called liabilities are thus something like a bookkeeping fiction. While they represent positive value to holder, they do not represent negative value to issuer.

 Federal deficit = private sector financial surplus

A key implication of MMT is that federal deficits have potential to support enormous positive value to the private sector without creating a debt burden that threatens the solvency of the federal government or places onerous burdens future generations.  Unfortunately, both of these are repeatedly (and sometimes feverishly) cited as looming deficit-related dangers by politicians, pundits and the still-many mainstream economists that don’t understand the fundamental difference between issuers and users of sovereign currencies (and between the eras of gold-based and fixed-rate currencies and the modern era of floating non-convertible currencies).

Back to Kervick:

Because of the unique role of monetarily sovereign governments in the creation and destruction of net private sector financial assets, these governments have the option of doing something that non-governmental currency users cannot do. They can run what I have called elsewhere a pure deficit. That is, they can simply spend more into the private economy that they extract from it, without negatively affecting the stock of public sector wealth. In doing so, they create money. They can also run a pure surplus that destroys private sector money, without building the stock of public sector wealth…

MMT argues that running a pure deficit of this kind should be recognized as the normal operating condition of an intelligent national government pursuing public purposes in an effective way, at least when that government is a sovereign currency issuer that lets its currency float freely on foreign exchange markets. If the government is running a deficit in its currency, then the non-governmental sectors of the economy are running a surplus in that currency and their net stock of financial assets in that currency is growing. If the government is running a surplus, on the other hand, then the net stock of financial assets in the non-governmental sectors is decreasing.  We expect a growing economy to be increasing its financial asset stocks, and so we should expect government deficits as a matter of course.

Kervick adds to this a key point that’s very relevant to the ongoing “deficit debate,” the debt-deflation aspect of the current recession, and the unfortunate situation in Europe, where 17 democratically elected governments have abandoned the powerful tool of sovereign currency issuance and are suicidally pushing ahead with austerity-focused fiscal policies that are deepening an already painful recession and driving unemployment well above 20% in some countries.

Furthermore, in some circumstances the non-governmental sectors will experience a sudden surge in desire to add to their financial asset stocks, which includes the desire to pay down existing debt. If the government does not accommodate that desire by increasing its deficit, the result will be a drop in spending and an increase in unemployment.

Of course, there are inflation-related constraints on the federal deficit, which MMT acknowledges.  But they are not the ones usually cited by “deficit hawks,” nor are they nearly as problematic as those who warn of Weimer Republic-like hyperinflation would have us think.   In fact, Kervick suggests, they are quite manageable:

If the deficit grows too large, demand-pull inflation might threaten. At that point the policy makers should enact new legislation that directs the treasury either to collect more taxes…or to spend less. It could also prepare for inflation ahead of time by enacting tax-raising or spending-cutting triggers that kick in automatically if established measures of price instability reach certain thresholds.

Sovereign currency and prosperity

Kervick describes a hypothetical example involving education that suggests how, once freed of irrational deficit fears, we can begin to appreciate how federal spending of sovereign currency can be a powerful tool for addressing social needs and mobilizing underutilized resources–including citizens who are involuntarily unemployed or underemployed.

We might typically think of some country’s Department of Schools, for example, as having a certain quantity of money X in its account, and being authorized to spend that sum, so that as it spends, the stock of money it has is depleted. But we could just as easily think of the Department of Schools as…having no money at all, but being authorized to create the sum X by spending it into existence. Money attributed to government accounts, then, can be thought of as a kind of abacus for keeping track of its money injections via spending or money extractions via taxation. These operations are carried out in accordance with pre-selected policy choices, and so some way is needed of keeping track of them. But the money in those government accounts doesn’t represent a stock of wealth possessed by the government.

Nor does it represent a stock of wealth that is “lost” to the government after “spending” it on education (e.g., by hiring more teachers and teacher aids, building and repairing schools, upgrading computers and Internet access, etc.).  Nor does it create a debt burden that must be borne by current or future generations.

For those not familiar with an abacus, a scoreboard metaphor might be a little clearer (courtesy of the MMT Wiki):

As a currency issuer, a modern money regime spends by crediting bank accounts. This is much like changing numbers on a scoreboard in a game of sports – and a scoreboard does not run out of points. The currency issuer is the scorekeeper. The currency users are the players of the game, and will have to work to obtain the points.

So, if federally-issued currency is the equivalent of points on a scoreboard that can’t run out, the question before us as citizens of a sovereign currency-issuing democratic republic is: how do we want to use that currency to generate real and sustainable value?

More on that in later posts….

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