Our Money Isn't Fake, It's Fiat!
A report on protests at the Tampa convention appearing in the Hill (h/t Lambertstrether) partly focused on views about our economy and financial system of an Occupy protestor named Andrew Speirs. The report says:
“Protesters with the Occupy movement were also in full force with calls to dismantle the United States’ economic and political system.
“Our economy is mostly electronic,” protester Andrew Speirs told a group of reporters. “We have no backing to our currency. It’s fake money. It’s actually just printed debt by the Federal Reserve bank. And we can’t pay back our national debt; we can only create more debt by printing money.””
Perhaps the report is accurate in portraying Occupy as wanting to dismantle the political system; but let's immediately note that neither the above quote, nor any others from the report document that conclusion. On the other hand, the quote from Andrew Speirs is very explicit, about his views on the monetary aspects of our economy, and clearly implies that he wants big changes in this area.
Speirs's views don't represent Occupy, which is known both for its diversity of views on economic matters, and the agreement of its members on a pro-individual/anti-big corporation view of both politics and economics. However, Speirs isn't the only Occupy activist with the views he expressed above, and since these views are surely mistaken, I think it's important that they don't come to represent Occupy in the future.
First, our economy isn't mostly electronic because it also includes goods and services, productive activity, and all kinds of real capital, both capital made by people and societies, and natural capital. These days financial capital is predominantly electronic; but that doesn't make the economy all bits and bytes.
Second, it's true that we have no commodity backing for our fiat currency. But that doesn't mean there's “no backing” for it and that it's a fake. US currency is “backed” by the strength of the economy that uses the currency for trading, and also by the fact that it's the only currency acceptable for fulfilling tax obligations to the US Government and generally our state governments as well. Also, our currency can buy whatever is for sale in our domestic economy, and that's the bottom line, because this ability is all that's “real,” and has nothing to do with it having any commodity backing such as gold, silver, platinum, oil, or any other concrete material.
Third, to say that our money is “actually just printed debt by the Federal Reserve bank” is very misleading to say the least. Most of our money isn't “printed” anymore. It's generated electronically, as Speirs must know since he mistakenly attributed this quality to the whole economy. Also, whether “printed” or created electronically “out of thin air” our currency and bank reserves are “debt” only in the very special sense that when the Government, including the Fed issues money, it is then obligated to accept that money in fulfillment of the tax obligations of the entity offering it. But the Government doesn't have a debt in the sense that it must pay interest on currency or reserves, though for reasons of its own it may want to pay interest on reserves. So, in this sense, our “debt money” isn't the same as debt instruments like Treasury Bills, Notes, and Bonds. In addition, the money and reserves issued by the Government are different from Treasury debt instruments in that they are not counted as debt subject to the limit. So, there is no limit on how much of this “debt” the Fed can issue.
Also, it's not accurate to say that all our money comes from the Fed, or even that it's ultimately supported by the Fed through settlement transactions and open market operations. The Treasury still retains the legal authority to print a limited amount of currency, and more importantly, the Mint can still create coins with unlimited face value as I'll explain below.
Fourth, while the private debt overhang from the crash of 2008 and its aftermath is a very serious problem for the US economy; the public debt of the United States subject to the limit isn't an economic or fiscal problem because it's extremely misleading to say “. . . we can’t pay back our national debt; we can only create more debt by printing money.” Instead, it's a political problem. If the political problem can be solved, then the debt subject to the limit can be repaid without economic pain. Here's a plan for that; demonstrating that the public debt can be repaid without issuing any more debt subject to the limit.
1) The President should use the authority provided by a 1996 law to mint a $60 Trillion coin and deposit it at the Federal Reserve. The deposit will eventually result in nearly $60 Trillion in Proof Platinum Coin Seigniorage (PPCS) profits being credited to the Treasury General Account (TGA).
2) The Treasury should use that money to pay off all the intragovernmental and Federal Reserve-held portion of the current $15.9 Trillion debt subject to the limit. That portion is roughly $6.7 Trillion, or about 42% of the 15.9 Trillion. That action would immediately reduce the debt-to-GDP ratio to 58% of GDP or so.
3) 10% or so of the remaining debt is short-term debt with a term of one-year or less. The Treasury should pay that off as it comes due. So within one year the Treasury will have paid off 52% of the debt. However, another $5.9 Trillion will come due over a ten year period. So by 2022, assuming robust GDP growth the debt-to-GDP ratio would be less than 5%, composed of debt with a maturity of up to 30 years from 2012, assuming that the Fed doesn't buy up long-term debt and let the Treasury buy the debt back back early. Eventually, after 30 years the debt subject to the limit would fall to zero.
4) the above assumes that Treasury would issue no new debt instruments, but would pay for all future deficit spending appropriated by Congress with coin seigniorage profits. So, that's it! The debt can be paid back without tanking the economy; either now or in the future.
What about Inflation? Well, we know that the first $6.7 Trillion of pay-off isn't going to cause inflation because about $1.9 T is going to the Fed and will just sit there until they decide to do QE or something. But they can do the same QE or not whether they have these reserves or not, because they can always create new reserves out of this air anyway. So, transferring reserves to them can have inflationary impact. The remaining 4.8 T of the $6.7 T just goes into Government accounts and isn't spent until needed anyway, so it won't cause any additional inflation.
Next, the $1.6 T in Treasury Bills that would be paid off the first year basically come under the heading of QE done by the Treasury, since it's a swap of the T-bills for reserves. We know from the Fed's experience, however, that QE over a year's time of that volume has little inflationary impact in an economy like the one we have now. The reason is that even though it adds reserves to the banking system, it adds very little to the net financial assets of the T-bill holders, which is also why the impact of the Fed's QE on recovery has been so miniscule.
Now, how about the $5.8 T in debt that would be paid back over a 10 year period? The volume paid back each year would still amount to relatively small amounts of QE and would still add very little to net financial assets (only interest payments); so there's no reason to believe this would be inflationary either. The final $1.2 T in bond debt would be gradually paid over a 20 year period and would hardly create a ripple in the money supply of our much expanded economy, so here too using coin seigniorage rather than debt to enable deficit spending make no inflationary impact.
So, finally, we come to the possible inflationary impact of using coin seigniorage profits for deficit spending. Here we do have the Treasury adding real financial assets to the economy in the form of bank reserves. And this can be inflationary if deficit spending exceeds the productive capacity of our economy. However, I want to emphasize very strongly that there's no reason to believe that deficit spending accompanied by debt issuance is any less inflationary than is deficit spending using coin seigniorage profits. To believe that it is you have to believe that reserves are more inflationary than Treasuries. But the theory supporting that view, the quantity theory of money, was shown to be false by Keynes in the 1930s, and, the empirical evidence available since suggests, if anything, that Treasuries are more inflationary than reserves since they pay higher interest rates.
The Occupy movement is the most important event to happen in politics in many years having the potential to re-orient the political parties toward the needs of people and away from the demands of the big corporations and the extremely rich currently buying dominance in our politics. Even though the movement is experiencing setbacks in the face of unconstitutional repression by local authorities aided by the Federal Government, Occupy still remains our best hope for a bottom-up movement that can revitalize our democracy.
It would be a shame however, if this movement became motivated by ideas about the monetary system that involve fundamental misunderstandings about how things do and can work under the current structure of our laws and under the Constitution. Our politics are now shot through with false ideas about our modern money system, and how we ought to be implementing government spending and fiscal policy.
It's very important that Occupy not fall victim to ideas and theories offered by either deficit hawks or doves, or by “gold bugs” or other commodity money or fixed exchange rate advocates. We won't bring social and economic justice and revitalized democracy to the United States by embracing the kind of ideas about our fiat money system expressed by Speirs in that short quote. To do that, to break the power of the corporations, the financial sector, and the very rich, Occupy will need an understanding of money and the Government's power to place it in the service of public purpose, that's as close to the truth as we can get, and right now that means it will need to know Modern Monetary Theory (MMT) very, very well.