Sorry People, the Government Can Run Out of Money, In Fact, It Already Has.
How did Ben Bernanke save the banking system? It's simple: he used that heroine of high finance, paper money. Since then the investors of the world have stumbled along, waiting for the next visit from the smack faerie. The performance of the markets over the last month has been the withdrawal of a small fraction of that "fiat money" from the system. Since the Yuan dynasty invented it, paper money has been one of those bad ideas whose time has come. This doesn't mean that all money not backed by gold or specie is a bad thing, in fact, for most of human history, the idea of a hard reserve was avoided because the reality is that there is only passing connection between digging rocks out of the ground and economic activity.
But let's talk about what money is actually about. This is exotic economics, which contradicts the theories that keep us safely moving from crash to crash, with a bubble in between to keep the masses hooked, hoping for better.
A Major League Strike Zone
What is money? Ask a dozen economists and you will get many shrugs and many more theories. The answer however is precise: money is the total amount of exchangeable goods and services in an economy. Governments don't print "money" for the most part, they print currency. Currency is the facilitator to exchanges, so people are able to exchange whatever they have, with someone, who thinks that they can use it, or find someone else who can. Money works the way mailing a letter does, or the TCP/IP protocol does, or networking in general does: each node sends a good on its way to someone who thinks they are closer to the final destination. The mathematics of this have been explored more fully in the last few decades, because while on a sheet of friction free ice, everything ends up where it is supposed to, in the real world, the search for a route between buyer and seller, is the traveling salesman problem, and cannot be solved in the lifetime of the universe for non-trivial economies.
That's what money and the market make possible: a middle point between the best real barter economy, and that theoretical barter economy run by immortal, ammoral, rational, telepathic economic trolls. There is a best possible estimate, and then there is what actually happens. People play the currency game then, because they think it is better than the competing alternatives: revolution to replace who runs the currency economy, or emigration, to another game, or subsistence, down to a level which does not require currency or specialization of labor beyond first order tools. The currency game is often run by a group, called a government, that wants to make the alternatives as unpleasant as possible, so that people will stay in the currency game through the bumps. Every so often a government comes to power that says "why not make it a little better?" This lasts until it becomes obvious that the population won't walk out, and then it is back to the race through the bottom. Not to, through. The best currency game, for those that run it, is where people are worse off than if they were scratching out a living on some dirt, and they play anyway. Often the inducement is some kind of intoxicant: gin, opium, Catholicism, culture, and the jiggling extrusions of porn on the internet are all examples of intoxicants.
Currency then, an estimate of the exchanges that can take place. The amount of actual exchanges is the amount of money. It is an abstract exchange, in that it abstracts the good from the location, and form, of its final consumption. The theoretical limit of money then is determined by the minimum loss of an abstract exchange economy. The amount of currency has an effect on this, because too little exchange, and people do not make exchanges that they otherwise might, out of fear of being caught in a saddle point on the currency game. There is a proof here on saddle points in repeated games and catastrophe theory. Too much, and people make exchanges for fear they will not be able to exchange their abstract units for real goods, and again, reach a saddle point.
These saddle points are catastrophic points in the "space" which is an economy, that point where you are holding money won't be accepted for goods – that is inflation to zero – or that there are no goods to be had – deflation – or both, in that ones particular abstract exchange is no longer a denomination of the market. War, for example, or a revolution. Ask anyone who was long Confederate Bonds.
This means that while the government cannot run out of currency: since chits of nominal value are always possible to create, whether paper, pebbles, shells, or electronic bits – there is a possibility that they will either run out of people who will take the money, or that there will be no more goods.
A good analogy is Major League Baseball and the strike zone. Loose money is like a small strike zone: offense gets favored over defense. Tight money is like a large strike zone: defense gets favored over offense. Too small a zone, and you get blistering hitting, too large, and scoring becomes difficult. The real balance isn't the number of points, because, after all, major league baseball can't run out of runs, but they can run out of fans, and out of time on television. Runs, and everything else about the game, aren't what the game is about. Even wins and championships are not. What these all try and get at is that unknownable quantity: what fans will watch and pay money to be fans of.
So why have Jamie Galbraith and others gotten on the paper money bandwagon? Because right now we are in mesodeflation at the bottom. There is too little, not too much, money. While the government can't print money, it can adjust the amount of currency so that the pathways between buy and seller are, statistically, optimal. That is, the best estimate that can be estimated, has been reached. Right now, the economy is too frozen, not too loose. In fact Bernanke printed about a trillion of pure paper money, and used it to buy assets which have negative value: the liability for holding them is larger than their possible returns. This is referred to in finance as "toxic waste." The government can hold these assets, because the government can simple print the money to cover the assets. Since those with claims on those assets are the very people who will be diluted if the claims are paid, a strategic equilibrium is reached: those that have claims don't make them, because the very act of paying off the claim will reduce the value of their own holdings.
The reason Galbraith is wrong, is the same reason that Bush, Greenspan, Bernanke and their crowd was wrong. The printer of fiat money hopes to gain position by the inflation or devaluation tax. It prints the money, gets people to do what it wants, say kill some other group of people, and then hopes that by the time the money has spread far and wide and reduced in value, that they have gotten some gain. Say, the oil that those other people had before they were blasted into pink powder.
The person advising fiat money, at best, has some scheme to run a positive wedge: that is, that there will be more, for them, at the end of the gamble on inflation. In effect, they are hoping to borrow from holders of currency, and pay back out of plunder, or something else. Bush had his, Jamie has his. Other people will have theirs. The reality is that this seldom works for long. It does occasionally, but only when the money is used to paper over a short term hole, and create a long term incentive to long term behavior. However, printers of paper money are likely to be the very people who don't think this way. If Jamie were saying "if we utilize this under-utilized resource, then the return will be larger than the cost." He'd be being honest and serious. Or if he said "You yo-yos, we are in deflation right now, we need to be handing dollars out on the street to get people working." He'd be being even more honest, though "serious" people know this, and won't listen to it.
So why don't we just print money to end the deflation? Because it isn't macro-deflation, really. Some of the world is in deflation, but some of the world is in raging inflation. Specifically, coastal China, and the upper income brackets. The cost of being really, really, filthly stinking rich, has gone up dramatically, as has the cost of feeding yourself in coastal China. That's why there are strikes and job riots in China, because it is now impossible to scrounge a living, the way, even a few years ago, one could work in a factory at 125 dollars a month, sleep on a filthy mattress with four other guys in a 50 square meter concrete floor room with an open toilet, and eat grease, rice, and cabbage. Now, one can't even do that.
This then is the mexican stand off of the current situation: the people, us, who want to print money, because we are in deflation, or spend with fiscal stimulus, cannot, because the people who hold the currency, and the oil, and the capital on which our low inflation environment depends on, will simply push the reset button on the global economy. That's what all the chatter about "debt crisis" is: the wealthy have made it clear in no uncertain terms that the economy of polloi-economy, that of ordinary people must use less, so that the wealthy can use more.
This is the "Malthusian Equilibrium" where advances in technology do not improve the lives of individuals, but, instead, either are used to produce more people, or to fund the luxuries of the rich. The rich want wage deflation, so that poor people will stop working for each other, and start working for the rich, and doing whatever, and I do mean whatever, the rich want. They need this, because the cost of being rich is exploding, and is, in fact, in danger of melting down. But the wealthy bet that they can survive longer without global trade, than any government now in power can survive without it.
This is why Obama and company are reducing, not increasing, the amount of money in circulation. The bet is that they can drain enough money off the top to ease mesoïnflation there, while bearing the costs of stagnation down here. Realize that for much of the last 15 years, Americans have been working for the wealthy, and improvements in our own living standard have been virtually zero, or incidental. We weren't building houses, we were making CDOs, and the houses built were incidental to this. We can see this, because many of them now stand empty.
So when someone says that we can't run out of money, that is true, in the same way that Major League Baseball can not call a major league strike zone, and not enforce steroid rules and have a home run derby, or it can call a tight zone and get three perfect games in half a season. However, at a certain point, people stop watching the game. It is the alternatives that matter.
In our present the key moment was when the financial system needed to have paper money made, and not have insolvency rules enforced. The result, a home run derby run for Wall Street. But now, they don't need particular help. Obama's administration is trying to tighten in dollops, tighten, then ease again. Bernanke signaled that his last round of tightening is over for the moment, in part because other countries are going Hooverite, and that means that the US can ease up a bit on tightening.
As long as this dynamic is going on, where at the top there is raging inflation, and they want to compress the bottom so the bottom works for them cheaper, and gives up more resources, while the bottom is intent on gutting other members of the bottom in hopes of being one of the ones saved, then the long term continues to be bleak: there is no money for transforming the economy to a better basis.
This is why the government has "run out of money," not that there could not be more exchanges, that is to say more economic activity, but because the wealthy want more control and luxury, that is to say they want their currency to be more valuable, and the elites have decided that keeping the wealthy happy is more important than keeping their own populations happy. The rising tide of labor discontent then, is going to continue to rise, until such time as governments, such as the one Obama is in charge of, stop holding people in contempt. That will not stop until the public stops hoping to be the half of the poor that the rich will hire to kill the other half of the poor.
The lever the wealthy have is that if the US government just prints money, then China does, and the oil producers raise the price of oil and demand higher returns to provide liquidity. When the price of oil makes the NEG Globalized economy blow up, it is the government, not the wealthy that takes the fall. Heads the rich win, tails the poor lose. The oil archies, with the examples of Afghanistan and Iraq to point to, know that the US cannot invade a mineral rich state in the middle east, and profitably extract the money. The headline today said that Afghanistan may have a trillion dollars of minerals. That means if the US government took all of it, we would still not break even. For comparison, there is about 1 trillion dollars of natural gas under the Catskills in New York, we'd be better off invading that and forcing the residents to allow fracking to get at the gas. Just sayin'.
Next time I'm going to write more on the reality of the Malthusian equilibrium, and what that means.