Financially, the euro zone member nations have put themselves in the position of the US States.

Their spending is revenue constrained. They must tax or borrow to fund their spending.

The ECB is in the position of the Fed. They are not revenue constrained. Operationally, they spend by changing numbers on their own spread sheet.

Applicable history:

The US economy’s annual federal deficits of over 8% of gdp, Japan’s somewhere near there, and the euro zone is right up there as well.

And they are still far too restrictive as evidenced by the unemployment rates and excess capacity in general.

So why does the world require high levels of deficit spending to achieve fiscal neutrality?

It’s the deadly innocent fraud, ‘We need savings to have money for investment’ as outlined in non technical language in my book.

The problem is that no one of political consequence understands that monetary savings is nothing more than the accounting record of investment.

And, therefore, it’s investment that ’causes’ savings.

Not only don’t we need savings to fund investment, there is no such thing.

But all believe we do. And they also believe we need more investment to drive the economy (another misconception of causations, but that’s another story for another post).

So the US, Japan, and the euro zone has set up extensive savings incentives, which, for all practical purposes, function as taxes, serving to remove aggregate demand (spending power). These include tax advantaged pension funds, insurance and other corporate reserves, etc.

This means someone has to spend more than their income or the output doesn’t get sold, and it’s business that goes into debt funding unsold inventory. Unsold inventory kicks in a downward spiral, with business cutting back, jobs and incomes lost, lower sales, etc. until there is sufficient spending in excess of incomes to stabilize things.

This spending more than income has inevitably comes from automatic fiscal stabilizers- falling revenues and increased transfer payments due to the slowdown- that automatically cause govt to spend more than its income.

And so here we are:

The stabilization at the current output gap has largely come from the govt deficit going up due to the automatic stabilizers, though with a bit of help from proactive govt fiscal adjustments.

Note that low interest rates, both near 0 short term rates and lower long rates helped down a bit by QE, have not done much to cause consumers and businesses to spend more than their incomes- borrow to spend- and support GDP through the credit expansion channel.

I’ve always explained why that always happened by pointing to the interest income channels. Lower rates shift income from savers to borrowers, and the economy is a net saver. So, overall, lower rates reduce interest income for the economy. The lower rates also tend to shift interest income from savers to banks, as net interest margins for lenders seem to widen as rates fall. Think of the economy as going to the bank for a loan. Interest rates are a bit lower which helps, but the economy’s income is down. Which is more important? All the bankers I’ve ever met will tell you the lower income is the more powerful influence.

Additionally, banks and other lenders are necessarily pro cyclical. During a slowdown with falling collateral values and falling incomes it’s only prudent to be more cautious. Banks do strive to make loans only to those who can pay them back, and investors do strive to make investments that will provide positive returns.

The only sector that can act counter cyclically without regard to its own ability to fund expenditures is the govt that issues the currency.

So what’s been happening over the last few decades?

The need for govt to tax less than it spends (spend more than its income) has been growing as income going to the likes of pension funds and corporate reserves has been growing beyond the ability of the private sector to expand its credit driven spending.

And most recently it’s taken extraordinary circumstances to drive private credit expansion sufficiently for full employment conditions.

For example, In the late 90’s it took the dot com boom with the funding of impossible business plans to bring unemployment briefly below 4%, until that credit expansion became unsustainable and collapsed, with a major assist from the automatic fiscal stabilizers acting to increase govt revenues and cut spending to the point of a large, financial equity draining budget surplus.

And then, after rate cuts did nothing, and the slowdown had caused the automatic fiscal stabilizers had driven the federal budget into deficit, the large Bush proactive fiscal adjustment in 2003 further increased the federal deficit and the economy began to modestly improve. Again, this got a big assist from an ill fated private sector credit expansion- the sub prime fraud- which again resulted in sufficient spending beyond incomes to bring unemployment down to more acceptable levels, though again all to briefly.

My point is that the ‘demand leakages’ from tax advantaged savings incentives have grown to the point where taxes need to be lot lower relative to govt spending than anyone seems to understand.

And so the only way we get anywhere near a good economy is with a dot com boom or a sub prime fraud boom.

Never with sound, proactive policy.

Especially now.

For the US and Japan, the door is open for taxes to be that much lower for a given size govt. Unfortunately, however, the politicians and mainstream economists believe otherwise.

They believe the federal deficits are too large, posing risks they can’t specifically articulate when pressed, though they are rarely pressed by the media who believe same.

The euro zone, however has that and much larger issues as well.

The problem is the deficits from the automatic stabilizers are at the member nation level, and therefore they do result in member nation insolvency.

In other words, the demand leakages (pension fund contributions, etc.) require offsetting deficit spending that’s beyond the capabilities of the national govts to deficit spend.

The only possible answer (as I’ve discussed in previous writings, and gotten ridiculed for on CNBC) is for the ECB to directly or indirectly ‘write the check’ as has been happening with the ECB buying of member nation debt in the secondary markets.

But this is done only ‘kicking and screaming’ and not as a matter of understanding that this is a matter of sound fiscal policy.

So while the ECB’s buying is ongoing, so are the noises to somehow ‘exit’ this policy.

I don’t think there is an exit to this policy without replacing it with some other avenue for the required ECB check writing, including my continuing alternative proposals for ECB distributions, etc.

The other, non ECB funding proposals could buy some time but ultimately don’t work. Bringing in the IMF is particularly curious, as the IMF’s euros come from the euro members themselves, as do the euro from the other funding schemes. All that the core member nations funding the periphery does is amplify the solvency issues of the core, which are just as much in ponzi (dependent on further borrowing to pay off debt) as all the rest.

So what we are seeing in the euro zone is a continued muddling through with banks and govts in trouble, deposit insurance and member govts kept credible only by the ECB continuing to support funding of both banks and the national govts, and a highly deflationary policy of ECB imposed ‘fiscal responsibility’ that’s keeping a lid on real economic growth.

The system will not collapse as long as the ECB keeps supporting it, and as they have taken control of national govt finances with their imposed ‘terms and conditions’ they are also responsible for the outcomes.

This means the ECB is unlikely to pull support because doing so would be punishing itself for the outcomes of its own imposed policies.

Is the euro going up or down?

Many cross currents, as is often the case. My conviction is low at the moment, but that could change with events.

The euro policies continue to be deflationary, as ECB purchases are not yet funding expanded member nation spending. But this will happen when the austerity measures cause deficits to rise rather than fall. But for now the ECB imposed terms and conditions are keeping a lid on national govt spending.

The US is going through its own deflationary process, as fiscal is tightening slowly with the modest GDP growth. Also the mistaken presumption that QE is somehow inflationary and weakens the currency has resulted in selling of the dollar for the wrong reasons, which seems to be reversing.

China is dealing with its internal inflation which can reverse capital flows and result in a reduction of buying both dollars and euro. It can also lead to lower demand for commodities and lower prices, which probably helps the dollar more than the euro. And a slowing China can mean reduced imports from Germany which would hurt the euro some.

Japan is the only nation looking at fiscal expansion, however modest. It’s also sold yen to buy dollars, which helps the dollar more than the euro.

The UK seems to be tightening fiscal more rapidly than even the euro zone or the US, helping sterling to over perform medium term.

All considered, looks to me like dollar strength vs most currencies, perhaps less so vs the euro than vs the yen or commodity currencies. But again, not much conviction at the moment, beyond liking short UK cds vs long Germany cds….

Happy turkey!

(Next year in Istanbul, to see where it all started…)

55 Responses

  1. Is it the case that the job of a bank is to provide money to those who want to spend today/save tomorrow and then fund that from those who want to save today/spend tomorrow (or the central bank if there aren’t enough savers).

    With the perfect crystal ball (as owned by all neo-liberal economists) a bank could tell immediately which of the prospects in front of them have the capacity to save tomorrow and could price accordingly.

    With the crystal ball Government spending would always be eliminated by taxation in the accounting period as banks worked perfectly to turn saving into spending. There would be no deficit.

    However in the real world the pipes leak. Money doesn’t always end up in the bank. Banks have no crystal ball. Banks don’t know who has the capacity to save tomorrow. So you end up with a gap, and it is that gap that ends up as net private sector saving.

    And at the moment it is less of a spending gap and more of a spending chasm.

    So is it the case that the amount of private sector net-savings is really down to the bank’s current lack of confidence in people’s ability to repay loans.

    1. “Is it the case that the job of a bank is to provide money to those who want to spend today/save tomorrow and then fund that from those who want to save today/spend tomorrow (or the central bank if there aren’t enough savers).”

      Is that turning economics on it’s ear? Yes, banks are supposed to rate credit risks, not to balance spending/savings, but investment & net PRODUCTIVE ROI. If you get lost in metric-land, you forget that currency is there as bookkeeping for real output growth, not the inverse.

      “With the perfect crystal ball (as owned by all neo-liberal economists) a bank could tell immediately which of the prospects in front of them have the capacity to save tomorrow and could price accordingly.”

      Irrelevant. Confusing currency with real productivity?

      “With the crystal ball Government spending would always be eliminated by taxation in the accounting period as banks worked perfectly to turn saving into spending. There would be no deficit.”

      Hard to follow this, seems it’s conflating ISSUER deficits with USER deficits. The, by now tired, phrase is that ISSUERS manage REAL GOODS & OUTPUT budgets, & issue as much/little currency as bookkeeping requires. Currency USERS manage currency budgets as a local proxy for their local real goods budgets. There should be different linguistic terms for these separate real vs nominal “deficit” concepts, but since we’re not all close enough to monetary operations, there isn’t. So you’ll just have to live with it, and keep track of the semantics yourself.

      “However in the real world the pipes leak. Money doesn’t always end up in the bank. Banks have no crystal ball. Banks don’t know who has the capacity to save tomorrow. So you end up with a gap, and it is that gap that ends up as net private sector saving.”

      Irrelevant? Issuers should be interested in “real goods” and “output” gaps, not bookkeeping metrics. Since swapping the brief gold std & returning to the more flexible “national output” std, banks don’t need to worry about who saves, only about who produces a ROI. Doesn’t matter how many private projects go bankrupt & get written off, IF collective issuance does it’s job & just moves on to the next option to explore.

      “And at the moment it is less of a spending gap and more of a spending chasm.”

      Whatever. A currency shortage is always solvable by a monopoly issuer, IF political minds keep the currency non-convertible & let Fx rates float. We should be more worried about the “thinking-chasm” extending the current output-gap.

      “So is it the case that the amount of private sector net-savings is really down to the bank’s current lack of confidence in people’s ability to repay loans.”

      Private sector net currency savings is always a direct outcome of public currency issuance. The distribution of close-vs-remote transactions that people use currency to denominate IS affected by banks doing their job of credit rating. Fraud & other profit options also play a part. However, primary causality is that monopoly issuers have to both spend currency into existence and leave enough in private hands (post taxes) to allow savings to appear.

      1. Rodger,

        I’m not quite sure why the little analogy I was trying to draw has spoked such ire.

        You seem to have missed the point completely. For there to be net-savings some money that has not been taxed away has become dormant (stocked) somewhere.

        Why has it become stocked? Why hasn’t it been given to somebody else as a loan so that it can flow again (and then be taxed some more).

        Answer: because the banks are busted. So the shortage of money then has to be made up by the currency issuer.

      2. Neil,

        You happened to hit upon one of the sore spots of MMT: Banks do not require deposits in order to lend, but everybody and their Grandma thinks they do.

        That is why you got such a seemingly mismatched response – the exact point you make is:

        1. one of the primary misconceptions of traditional economics
        2. results in ‘the man keeping us poor’ .
        3. has no factual basis
        4. results in a series of wrong conclusion about the economy
        5. obscures the federally insured nature of banking

        After you get MMT, the idea that banks require deposits starts to seem downright evil.

      3. Mr E,

        I get MMT very well.

        What I’m trying to understand is why net-savings are piling up in the private sector. What is causing all this money to become inert?

        I understand that banks loan off their capital and create deposits in opposition to the loan.

        However by diving straight for the standard MMT line you’ve missed the point I’m trying to make. The loan created generates an economic transaction (it causes money to flow – why borrow if you don’t intend to spend) and if that happens then some of that money is taxed (ie destroyed), which then means overall that reserve accounts at the Central Bank drop by the amount of the taxation. Reserves being net-private savings in aggregate.

        Therefore is it the case that one of the reasons the deficit is so high is because banks are not lending?

      4. yes, because presumably if banks were lending, the economy would grow and the automatic fiscal stabilizers would bring the deficit down.
        but that’s specific to the US tax code, and not a general case.

        the other issue is why banks aren’t lending. I’ve suggested that the regulators and supervisors go through the pile of rejected loans and see if there are any the bank should have made.

        for my bank I know there aren’t any. in fact, we are concerned by the lack of demand from borrowers the regulators would deem credit worthy.

      5. Hi Neil,
        “net-savings are piling up in the private sector. What is causing all this money to become inert?”

        (First just some caution with your applying the word ‘inert’ to what are just regulatory accounting quantities… like an ‘inert gas’ from chemistry or something. Its not like these accounting numbers can become chemically non-reactive like an inert gas, but I do realize it is hard for us not to try to use the physcial/chemical/thermodynamic framework in order to help us visualize economic processes.)

        To your ‘piling up’ observation, I think WM is on this with his coining of the term “savings desires”.
        I believe the non-govt sector has net ‘savings desires’ and will not be denied. This runs counter to the mainstream press depiction of many ‘spendthrifts’ etc. (especially on “Black Friday”), but there are many in the non-govt sector that are quite the opposite, they continuously seek to acquire/build stock measures of savings.

        Right now it looks like we are at an equilibrium (see, my own thermodynamic term reference!) at the about $110B/mo flow measure of the deficit. This is resulting in zero employment growth and muddle thru. About $50B/mo is going to the external so that leaves about $60B/mo for WM’s domestic “savings desires”. So for our current US economy (14+T gdp, 300+M people), it looks like $60B/mo deficit that is left to the domestic sector is the “breakeven” point.

        We are perhaps in a unique time in that with the banks busted their normal ‘noisy’ contribution to this process is being ‘filtered out’ and resulting in perhaps a very valuable opportunity to asses these non-govt sector ‘savings desires’ from a purely fiscal govt/non-govt perspective. Policymakers should “go to school” on this, then realize that if they cut taxes here, it would result in some form of a $4$ increase in AD with the associated benefits to output/employment. iow They should be asking themselves ‘how much past this $60B/mo flow do we need to go to break out of this equilibrium state and head towards full employment?’ Not focusing on stock measures of some sort of ‘money’ or accounting data or another. Resp,

      6. Dormant is probably a better term that inert for savings. An economic version of Methane Hydrate – perfectly safe until they are exposed to an overheating economy. 🙂

      7. Neil @November 27th, 2010 at 6:21 am,

        Have to correct this cuz such things are important.

        “Reserves being net-private savings in aggregate.”

        The stock of reserves is a stock not a flow. “Change in Reserves” in an accounting period is a flow. “Savings”, when used informally is a stock though the UK Blue Book uses it as a plural – such as “savings of sectors” and savings is a flow.

        Reserves is not net private saving. There is no relation. The Bank of Canada typically (atleast before the crisis) ends the day with zero reserves. The Canadian private sector can neither be said to be saving zero nor said to be accumulating no assets.

      8. Ramanan,

        Thanks for that.

        As usual we’re running out of words and they end up getting all Humpty Dumpty. Probably why this stuff is better expressed in mathematical notation.

        I’m talking about the delta change in non-government sector stocks. ‘Net Lending’ in UK Table I terms.

      9. Neil

        One thing to remember is that all savings that isnt in the form of cash under a mattress is “in” the system. It has purchased a stock, a bond, a commodity etc etc. So the idea that money needs to be freed up or is dormant or something is really not an accurate explanation. Of course when people are buying stocks bonds etc, this is providing income for the Wall Streeters who sell those items.

        What we need is for people to sell their stocks and buy something else (non financial product) which add to that businesses’ production and leads to employment.

        Banks are becoming more troublesome than they are worth.

      10. but remember, loans create deposits.

        so yes, the funds are ‘stocked’, as cash in circulation, reserves at the fed, and outstanding tsy secs.

        which equals the govt deficit.

        if that deficit is not exactly equal to actual savings desires, the result is either an ‘inflationary’ or ‘deflationary’ bias.

        so even if ‘it been given to somebody else as a loan so that it can flow again’ net financial assets don’t change.

      11. Warren,

        I suppose this is one of my unanswered questions of MMT.

        So taking Bill Mitchell’s sectoral approach of

        (I – S) + (G – T) + (X – M) = 0

        which is the sum of private, government and external sector balances

        Why can’t you set policy so that you eliminate these ‘net-savings desires’ in the non-government sector and thereby ensuring a ‘balanced budget’.

        In other words hold (G – T) = 0 for each fiscal period and therefore require that (I – S) + (X – M) = 0

        For example, by way of a straw man, why not implement a ‘use it or lose it’ system like you have with budgets in corporates? If you end up holding the spare currency at the end of the fiscal year it is taxed away. Or perhaps even currency with an expiry date!

        It seems to me (with my devil’s advocate hat on) that if the savings desires of the non-government sector requires that the government run a deficit then why not take government action to eliminate those desires?

        Is there some work somewhere that shows this cannot hold in reality?

      12. you would do that if you thought ‘holding spare currency’ was a bad thing.

        i’d rather encourage more of it.

        means for the same size gov we can have lower taxes


      13. Neil, this is where Keynes saw things going, although he said it would be his grandchildren that might see it. This goes along with eliminating the rentier class, since it is this class that places chief emphasis on money as a store of value instead of a medium of exchange. That is what screws everything up because then the economic world is run for price stability (anti-inflation) instead of full employment.

      1. Yes. In the UK we’d rather cut child benefit rather than restrict tax relief on pension contributions (which generally ends up in government bonds).

        Having said that the cut in child benefit is via a crazy bureaucratic extension to the tax system, so perhaps its increasing government spending while appearing to cut it. Stimulation by stealth…

      2. yes, even better, just add the child benefit. you have a shortage off agg demand much like we do. it’s your choice how to restore it to full employment levels

        remember, more savings desires = lower taxes for a given size govt/more govt for a given level of taxes. your choice!

  2. Warren: ”And they also believe we need more investment to drive the economy (another misconception of causations, but that’s another story for another post).”

    I’m really looking forward to your take on the above.

    1. apart from public investment in public infrastructure, etc. the only point of the economy is consumption. there’s no point in building a new drill press if there nothing you can make from it anyone wants to consume?

      so consumption is what ultimately drives investment.

  3. (Crossposting…)

    If the EMU countries dig the hole they are in, with enough energy and the right direction, they will get out in China. 🙂

    1. “Among the best posts ever.”

      Agreed. Warren, this short post is worthy of another book.

      “The Little Book of REAL Monetary Operations.”

      beats the heck out of Schiffs over-sold book:
      “The Little Book of Confusing Moves in Misunderstood Markets: How to …”
      [or do I have that title confused?]

      1. Those little books sell many, many copies. But even more importantly, they help to shape the debate.

        I am thinking that advertising is more and more and more important.

        Good things though – I am likely going to be giving a 2 day seminar soon. You can be assured that MMT will be a huge component in my seminar.

      2. Your next book should be a how-to investing guide based on your monetary expertise. From your various careers, you should be able to score some good back cover blurbs, even nonpolitical people will endorse investment books, after all everybody knows that investment drives the economy (I kid I kid). The gold standard for eclectic endorsements is Bill Isaacs’s recent book, Steve Forbes and Ralph Nader agreeing on something? That does catch the eye. Front cover, your picture is optional, picture of MT900S and gearhead-friendly book title is not.

        Your two role models should be Joel Greenblatt and JRR Tolkien. Greenblatt’s two investment books are first-rate. You learn a lot but he keeps his game plans simple, he doesn’t blow the reader away with iron condor option strategies or what not.

        As for Tolkien, he was a devout Catholic but he figured the way to sell the kiddies on Christianity was the soft sell.
        The Lord of the Rings is of course a fundamentally religious and Catholic work; unconsciously so at first, but consciously in the revision. That is why I have not put in, or have cut out, practically all references to anything like ‘religion’, to cults or practices, in the imaginary world. For the religious element is absorbed into the story and the symbolism. (from his wiki page)

        A book that explains the monetary system is necessarily about economics, but if the reader is absorbed in understanding how he can use this knowledge to make money, learning how MMT works isn’t apt to set off political tripwires in his head… until long after you have him singing in the choir (so to speak).

        Meanwhile, the election’s over, you have your current book to sell. :o)

  4. SP,

    Check out this MY post:

    Also, are you that same guy who was posting a while back and was really funny but a complete jerk?

    For one thing, you are preaching to the choir on the corrupt banks – every proponent of MMT wants to clean up the banks, but maybe you’ve been too lazy to read the Wray/Black articles, or too stupid to understand them. You are yelling at the anti-cop corruption protesters while the cops are beating them up.

    Dude – you should just accept the inevitable and start posting more positive stuff about MMT. You know you want to do this, do yourself and us a favor and take the next step in personal growth!

    1. For one thing, you are preaching to the choir on the corrupt banks –

      Funny, if you look at the quote above, Warren says loans are made to be good, and william black was exactly who I was thinking warren needed to talk too and fix his misconception. Warren is in a sea swimming with sharks who are so corrupt and evil that he doesn’t stand a chance, those nice academic theories a lot of you propose only work with honest ethical agents in the system, like the founding fathers said of the constituion, it will only work with a moral and just people, not the unethical snakes we have today. I deal with a lot of these banks/loan people at the foxhole level, and most are corrupt from my experience, unlike perhaps what warren deals with up in the ivory towers with the bank VP’s.

      Brooksley borne might also have some useful things to say to Warren.

      Too stupid to understand (professor)black articles? Is this the caliber of internet poster we have in this conant/super mario brothers generation (sigh) Recently I was very tempted to ask mccain’s daughter megan about the keating 5 scandal and how her dad is still walking free, but then I wouldn’t have been able to tell her about warren’s payroll tax holiday and other ideas. (a little trivia for you, when she came to the campus she kept talking about how everyone was eviscerating her for how fat she had gotten, why couldn’t the republican media corps be “nicer” to her and her weight and she talked about supporting gay lesbian issues) Right across the hall was some muslim lecturers talking about how the hijab FREED muslim women from societal pressures of beauty, I went in there and told those guys megan mccain was right next door crying on stage how everyone calls her fat and that was the most important topic of all the things she could have discussed( unemployment, education, globalizaion etc etc) and perhaps I need to learn more about this muslim stuff if it could free people like megan mccain from worrying herself with what people think about her weight when there are more important issues. But I guess I am too stooopido eh? 🙂

      Dude – you should just accept the inevitable and start posting more positive stuff about MMT. You know you want to do this, do yourself and us a favor and take the next step in personal growth!

      I asked how many MMT grad students are being sponsored across the globe, do you think that is a bad idea? Perhaps I am pissing off the car lovers here (Tom Hickey, I have several Mister 2s) but perhaps Warren watching jay leno videos about a big boy toy (mt900) is a waste of resources/capital when that could be spent on grad students in various countries learning MMT economics, do you not agree? Warren himself admits he is failing to get the word out, I think he needs help.

      1. Warren, I bet even tom hickey could go for this one, since we all have our “sports cars” why don’t we USE them to do more MMT advertising. You know how folks like coke or geico pay folks to paint thier cars as big rolling advertisements. You could pay me and tom hickey and others to have an MMT themed sport car that we drive all over with our hot girlfriends in tow, it is sure to turn many heads and maybe get many people coming to your webpage. We can even expand it too our yachts too, since I am such a nice guy, I won’t even charge you to advertise for you (I already wear my moslereconomics shirt and hat everywhere) – as long as you pay for the paint job, I will advertise MMT for you on my vehicle.

      2. Strawb,
        TIP: You’re going to find it harder to get all the hotties interested when you are wearing that Mosler Economics T-shirt and ball cap everywhere! 😉 …Same for the vehicle graphics. Save those apparel items for when you attend Warren’s economics conferences and such. Resp,

      3. my point was banks don’t deliberately make bad loans when they have to hold them in portfolio

        when they are going to sell the asset all they care about is what makes the buyer pay the most for it.

        and note that i don’t see any public purpose for banks being in the secondary markets at all.

  5. “Additionally, banks and other lenders are necessarily pro cyclical.”

    Really? (OC, they are in real life, but **necessarily**?) If banks are agents of the Fed, couldn’t the Fed require or encourage them (depending upon the law) to be counter cyclical? OC, if “nobody” is lending, you don’t want to lend, either. But what if “everybody” is forced to lend? (Not that the Fed is inclined to do that, either, in real life. 🙁 )

    1. that’s an example of govt acting counter cyclical

      the govt would, one way or another, have to take the risk of any losses to get banks to do that.

      the usual form is for govt to guarantee loans after which the banks gladly fund them

  6. Sorry, I remain unconvinced as to the mechanical effectiveness of your ECB distribution proposal.

    First, quite apart from your proposal:

    ECB intervention at this point is not much different in effect than Fed QE1 – it shortens the duration (and spreads credit risk) of the collective debt of the EZ. There is no NFA effect.

    The IMF and EU facilities insure the EZ risk spectrum with higher quality core credit risk. Again, there is no NFA effect.

    Now, your proposal:

    You are looking for an NFA effect.

    You can’t get that unless you allow higher EZ deficits.

    Once you allow higher EZ deficits, you can record them via ECB credit risk/duration swapping or with EU/IMF credit risk swapping.

    Or you can go your ECB route.

    But you’ve got to allow what are effectively higher EZ deficits first.

    I see your ECB distribution proposal as a back door, below the radar mechanism to higher deficits.

    But a practical proposal still needs to acknowledge the EZ deficits that are the reason for it, including the EZ country deficit distribution. If the ECB is the mechanism for deficit facilitation, the record keeping can be done by accounting for either negative ECB capital allocations, or positive bond or “due from” asset entries. But just crediting EZ deposit accounts and forgetting about it from there is pretty wishful as an end run around acknowledging the true fiscal effect. Intuiting higher deficits through forgetful ECB accounting and hoping nobody will recognize them as deficits is not a very practical approach in my view.

    You’ve got to allow higher deficits first and record them as such, based on making the arguments as you do on why they need to be high.

    Sorry for the obstreperousness, but I can’t just say nothing about your proposal.

    1. yes, ecb buying is like the fed’s qe.

      in both cases it helps the govt fund itself at rates lower than otherwise.

      the difference is the US tsy is helped by a few basis points, but wouldn’t otherwise default

      and yes, there is no nfa effect, which is one of my points explaining why it’s not inflationary in either case.

      yes, the imf and eu facilities also fund without any nfa alteration. the difference is those programs aren’t sustainable. they both just serve to weaken the core members to the point where they’s soon come apart. It’s like having all the US states contribute to a fund to help the weak states, right after the tsy decides to balance it’s budget.

      I’m saying that right now euro member deficits are high enough to muddle through.

      How high the deficits need to be is a political decision.

      But that can’t be made in the context of the current solvency issue.

      My proposal is for restoring member nation solvency.

      Once that’s behind them, they can decide how high they want deficits without the prior solvency issues getting in the way.

      1. Yes, I can see the benefit of an ECB generated solvency/liquidity injection. I think you’re saying that deficits are sufficient at the current operational level – they just need the benefit of this injection to keep them operating.

        My point is that the $ 1 trillion distribution facility is itself an EZ deficit, distributed across EZ countries. Fine and wise that it’s targeted intelligently at the solvency/liquidity issue. But it is a targeted one-time “extra” deficit in terms of its NFA effect, etc. It could and should be accounted for as such, with balancing entries (including distribution decomposition) recorded on the ECB balance sheet. Transparent accounting shouldn’t be avoided – accounting is not the enemy. The enemy is failing to make good policy – policy that should use the monetary system to best advantage, as per your proposal for example.

        On the functional side, I don’t recall if your idea includes the notion that the distribution doesn’t necessarily need to be “drawn down” from the ECB accounts – i.e. that it’s a show of force as a first priority, as a cash liquidity/solvency backstop – or whether you expect and intend for it to be “drawn down”. I believe you do intend for it to be drawn down, in which case it’s a functional deficit.

        Setting aside the ECB accounting details, your distribution proposal is like an addition to the “no bonds” idea. “No bonds” means the CB credits bank reserves in direct response to government deficit spending. Your proposal means the ECB credits EZ governments’ deposits directly for the amount of the one-time (deficit) distribution. Both use the central bank mechanism to advantage.

      2. yes.

        and with the solvency issue put to rest, they can then focus on the growth and stability pack deficit limits, for example.

        Last I heard, they were 3% of gdp. It’s up to them to target them at a level appropriate to their economic outcome targets.

        And some time ago I suggested the ECB fund a minimum wage job for anyone willing and able to work. Jan Kregel did a presentation and published a paper on that as well. It would act as an automatic ECB funded fiscal stabilizer and at least keep some semblance of full employment during slowdowns with diddling politicians.

        Also, just got this from Mario:

        On Sun, Nov 28, 2010 at 10:48 AM, Mario Seccareccia wrote:
        Dear Warren,

        Very much agree.

        That is exactly the point; those in policy circles do not understand monetary operations! The Europeans created a structure that cannot handle any serious downward shocks to their domestic banking sector without eventually resorting to ECB operations that are in conflict with the rules that they had established. I remember that we were debating this exact issue at a conference that CFEPS had organized in West Palm Beach in March 2001! The ECB did intervene this spring and summer as the “fiscal authority of last resort” but it faces an identity problem with which the Europeans have to reckon! How long this charade will last is to be seen but the day of reckoning may be coming ever closer, particularly if they elect a new government in the any of the core countries of the Euro zone that may pose a real challenge to the existing structure. We shall see.




        Mario Seccareccia, PhD
        Full Professor / Professeur titulaire
        * Department of Economics / Département de science économique
        University of Ottawa / Université d’Ottawa
        55 Laurier Avenue East / 55, avenue Laurier Est
        Ottawa, Ontario
        Canada K1N 6N5
        Tel. / Tél.: ( 613-562-5800 ext./poste 1691
        Fax / Télécopieur: / 613-562-5999
        E-mail / Courriel: :,
        Editor / Directeur: International Journal of Political Economy

    2. For the record, posted the following summary at Billy Blog in response to a question about the above exchange. Hope it reads OK:

      The Mosler proposal is something like a “no bonds” conversion at the margin of outstanding EZ debt. It allows conversion of EZ debt to ECB reserves. E.g. this happens if the 1 trillion Euro distribution is used to pay down maturing EZ debt. The distribution becomes new reserves as it is paid to maturing bondholders. This alleviates bond financing stress. Mosler points out that this mechanism per se doesn’t necessarily reflect a change in current EZ deficit levels – that’s a separate issue. Deficits determine NFA, so that is separate as well. That said, to the degree that the mechanism assists with the overall funding of EZ deficits, it is beneficial for feasibility of deficit financing and NFA generation. The proposal is primarily directed at current funding challenges, using the ECB to best advantage in alleviating bond financing pressures, and shifting the funding mix to include reserves.

      The accounting resolution can be done in at least two different ways, both of which break the existing rules. The distribution could be recorded in mirror double entry as a set of ECB asset claims on the recipient countries. Or it could be recorded as pro-rata negative capital. Negative capital technically is equivalent to an obligation of EU capital providers to restore the future capital level of the ECB (e.g. through future retained earnings or future capital injections), although in theory there’s no necessary maturity date on such an obligation and therefore no necessary execution of that obligation. It’s a record first. Either way, the accounting record is essentially that of debt owed by the group in question to the ECB – a debt that would otherwise have been funded with bonds, but is that is now effectively funded by an increase in ECB reserve liabilities.

      This quote from Mosler captures the spirit, I think:

      “I’m saying that right now euro member deficits are high enough to muddle through.

      How high the deficits need to be is a political decision.

      But that can’t be made in the context of the current solvency issue.

      My proposal is for restoring member nation solvency.

      Once that’s behind them, they can decide how high they want deficits without the prior solvency issues getting in the way.”

      I’m interpreting “restoring member nation solvency” as the alleviation of bond financing stress via the described distribution/reserve mechanism.


      Maybe the increase in ECB reserve liabilities gets eaten up by reducing some ECB credit on the other side of the balance sheet. Haven’t though that through, but its downstream to the main mechanism.

      1. Actually the 1 trillion or so distribution paid to national govs first sits as credit balances in their CB accounts, then diminishes as they do their normal spending and repay maturing debt, until they again have to borrow.

        so what it does is reduce what they need to borrow in order to spend and repay debt.

        there is no ‘conversion of outstanding EZ debt’

        just less of it as borrowing needs are diminished

        and yes, those funds sit as CB account balances that the ECB will manage to support interest rate targets either by paying interest on the funds directly and/or offering alternative interest bearing instruments/deposits including repo, etc.

        and yes, it’s booked as a form of negative capital for the ECB, a reduction of the payable to the EP, or something like that. The accounting is of no economic consequence.

      2. Thanks, that’s clear.

        So technically it’s suspension of bond market issuance until the one trillion runs out.

        And its deficits unchanged in the sense of using this as a funding source for a given deficit scenario, rather than bonds, until the one trillion runs out.

        And the funding is used in a combination of ongoing deficit spending and refunding of debt maturities, until the one trillion runs out.

        I was using the word “conversion” only in the sense of the counterfactual of your scenario versus what they’re doing now – i.e. when the distribution is fully utilized, they have 1 trillion less in bonds than what they would have had doing what they’re doing now (“converted” to reserves by comparison). And I was using the case of applying it entirely to refunding of maturing debt as an example. Your continuous, mixed use makes more practical sense.

        And the economic irrelevance of the accounting becomes more palatable the more one understands the intended operation.

        Thanks – was just trying to clear this in my own mind sometime before I die – sorry if I didn’t pick it up from previous explanations.

  7. Warren,

    On an unrelated matter, can you post your thoughts on what is driving the price of gold higher? Assuming you feel you understand the reason, is the reason valid or is it a product of a misunderstanding?

  8. Confused about this.

    “My point is that the ‘demand leakages’ from tax advantaged savings incentives have grown to the point where taxes need to be lot lower relative to govt spending than anyone seems to understand.”

    my understanding of this is that there is a lack of aggregate demand due to high savings among the wealthy so what is needed is lower taxes on employment to create more investment and drive income to the bottom? Is that a correct interpretation?

    Also, why not just raise taxes to discourage savings? I understand that’s not helpful from the standpoint that it destroys money but if the incentives are wrong in that particular spot why not just correct them? Thanks for the clarifications.

    1. if the wealthy aren’t spending then what’s the problem with them having those unspent funds?
      Is it enough of a problem to want to take it away?
      If they aren’t using up any real resources with it, so their nominal wealth isn’t depriving anyone else of anything.
      But if you do want to take it away, then voice your support some kind of tax to take it away.

      I agree with the lower tax on people working for a living- specifically, a FICA tax suspension.
      The point is to drive consumption, which also happens to drive investment
      The only point of any economic activity is consumption, directly or indirectly.

      And I’d rather lower taxes when savings desires are high than raise taxes to try to get them down.

  9. Help. I find myself in agreement with Warren so far as I understand him, but if you want to get the message out to the vast majority of people who are not economists, including those who set fiscal policy, you at least need a glossary, and preferably links, explaining terms like NFA (presumably not the Philippines’ National Food Authority) and EZ.


Leave a Reply

Your email address will not be published. Required fields are marked *