…in nine charts. I want to draw your attention to a very thought-provoking post by Charles Hugh Smith at Business Insider. It paints a rather bleak picture of the flawed business model I discussed yesterday.
Take particular note of the chart above which I sampled from the post. It’s a second derivative chart that illustrates the decline in the marginal productivity of debt in producing economic growth until a debt saturation point is reached and the bottom falls out, something alluded to in comments yesterday.
I suggest that you read the whole thing. To my mind it suggests several things. First, I believe it demonstrates rather neatly something that a recurrent theme here: that our problems didn’t just start four or ten or even fifteen years ago but have been building for a very long time. I think there’s a demographic component to our situation. The population pyramid for the U. S. forty years ago looked dramatically different than today’s does. And I don’t think our present situation bodes well for Keynesian pump-priming measures dragging us out of the situation we’re in, about which more in a later post.
Dave
Smith makes the repeated error of confusing private debt with public debt, rendering large parts of his analysis useless. He also doesn’t appear to understand how the Federal Reserve actually works.
The $50+ trillion in debt resulting from financialization is private debt and has nothing to do with “Keynesian pump-priming”, which is entirely about public spending. The chart you encourage us to look at is derived from private debt, not public. Nor did the government “borrow” $6 trillion to bail out banks; the Federal Reserve just swapped assets and increased the size of the monetary base.
As I recall, back in 2009-2010 Smith was spreading misinformation about the Fed “printing” money via QE, a claim which was entirely false. The Fed doesn’t print, and it doesn’t depend on government borrowing to fund its activities. It simply exchanges liquid for illiquid assets and vice versa. The liquidity it injects comes entirely from the aether, and when the loans are repaid the liquidity returns to the aether from whence it came.
I understand that. However, as I said it does illustrate a declining marginal productivity of private sector debt with respect to GDP. That suggests to me that a return to the private debt-fueled status quo ante is not a worthwhile objective.
I genuinely think you need to re-read what you’ve absorbed about modern monetary theory. All of the writers on the subject that I’ve read including Cullen Roche and Randall Wray reject what you appear to be implying: that deficits don’t matter [Update: I’m using “deficit” as a sort of shorthand here, signifying any spending of money you don’t actually have].
Deficits do matter for at least three reasons. First, the Fed and its conjoined twin, the Treasury, may not be reserve-constrained but over time it must operate as though it were because it is production-constrained. Money doesn’t create production. It denominates it. More money with the same amount of production is inflation.
Second, just creating money and spending it produces distortions in the economy. Deadweight loss.
Third, it obscures the price information that markets require to operate efficiently. That’s related to the point above but I see a stock vs. flow difference.
Interesting stuff.
BTW, your “Road to Damascus post” appears to be broken. Clicking in the comment box causes the browser to try to load a page, resulting in a 404 error.
Thanks. I think I’ve fixed it now.
…..reminds me of how food prices are going.
“That suggests to me that a return to the private debt-fueled status quo ante is not a worthwhile objective.”
I completely agree. This is what happens when we allow the banking sector to become a debt-factory and the brakes need to be applied.
“I genuinely think you need to re-read what you’ve absorbed about modern monetary theory. All of the writers on the subject that I’ve read including Cullen Roche and Randall Wray reject what you appear to be implying: that deficits don’t matter.”
I’ve not argued deficits don’t matter. Quite the contrary, deficit levels must be appropriate to the private sector’s needs. When I state that the government isn’t revenue constrained I’m simply saying it can’t run out of money or fail to pay its liabilities. What constrains spending is the danger of inflation: if deficits are too large they can push aggregate demand beyond the economy’s productive capacity, which is what causes prices to rise.
In our current circumstances demand is so far below capacity that large deficits don’t carry that risk, hence inflation running below post-war averages despite deficits in the trillion dollar range.
Large deficits don’t carry too much risk right now, but future risk is another matter.
“Large deficits don’t carry too much risk right now, but future risk is another matter.”
You’re exactly right. Once the economy enters a solid recovery the deficit must be scaled back to avoid sparking inflation. Automatic stabilizers will do that on their own without legislative intervention, which fortunately means we don’t have to depend on Congress to make the right decisions, since it obviously can’t.
The point regarding Smith is that the Fed doesn’t print money and its operations don’t contribute to the deficit. It’s questionable whether the Fed is even capable of creating inflation as it has been attempting to do so for three years withiut success. So don’t worry about the Federal Reserve; ruining the economy is the sole perrogative of Congress.
TL:DR version: Deficits don’t matter right now.
Of course, when you run into a sovereign debt crisis then they matter and when that can happen is not easily predictable.
Sorry Ben, but I’m with Dave your views are wildly unorthodox and weird.
“Of course, when you run into a sovereign debt crisis then they matter and when that can happen is not easily predictable.”
There’s no such thing as a sovereign debt crisis. How do you get a debt crisis from switching reserves back and forth?
There’s a good interview of Warren Mosler by Peter Schiff to listen to here:
http://pragcap.com/warren-mosler-vs-peter-schiff
For those who won’t listen, Cullen provides a decent listing of the highlights:
1.  In a non-convertible fiat currency system with FX rates, the currency issuer is not constrained in its ability to create money.  As Warren said, the government is merely the scorekeeper and the scorekeeper can’t “run out†of points.
2.  Government money doesn’t “come from†anywhere.  Just like the scorekeeper doesn’t “get†points from anywhere.
3.  Taxes serve to regulate aggregate demand.  So, it’s best to think of the level of taxation like a thermostat.  If taxes are too high the economy will run cold.  If taxes are too low the economy will run hot.  We need to find that optimal level.  We are currently overtaxed.
4.  The bogey is not the debt and whether we are going to “run out†of money.  Ie, the government isn’t like a household in that it can go bankrupt.  The bogey is always inflation.  So we must agree on a size of government that is in-line with our goals as a society.
5.  So, deficits most certainly DO matter!  They just matter in a way that the mainstream doesn’t propagate.
MMTers make my head hurt. Still, I read those Kansas guys regularly. It almost makes sense, but then so does NGDP targeting.
Steve