Deficit Hawks Screeching In The Background

The deficit harpies are warming up in the background. [1] Inflation is just around the corner, they shriek, by which they mean Democrats might take over government. There must be a handbook in which their arguments are laid out probably in red ink. They claim that whatever the Fed and the Treasury do to help anyone has to be paid for sooner rather than later by increasing taxes. Those taxes will fall heavily on the capitalists, which (or who) will destroy economic growth. They claim the government is sucking up all the investment capital, which chokes growth. They say the vast amount of debt will hurt the standing of the US in international finance. It’s predictable and this time it’s silly.

1. The numbers. Congress has authorized $2.2 trillion in spending to deal with the economic impact of the Covid-19 crisis. That’s on top of other spending in a budget originally proposing a deficit of $!.1 trillion. With other spending on Covid-19 issues and reduced tax revenue, the current estimate for fiscal 2020 is about $3.8 trillion. We can reasonably assume another $1 trillion will be needed for states and municipalities, treatments and vaccines, and support for hospitals.

2. Funding Covid-19 expenditures. The US deficit is funded by the sale of US Treasury obligations. Sales are handled by a group called Primary Dealers, who act as market makers in Treasury securities. [3] In the past most of the debt is has been purchased by financial institutions for their own accounts or for the accounts of investors, or by the central banks of other countries. In the current crisis, the Fed has promised to buy all the Treasury debt. Here’s a good explainer. [2]

To get a picture of the situation, in the two months ended 30 April 2020, the national debt held by the public increased by $1.645 trillion. In the comparable period the Fed’s holdings of Treasuries increased by $1.448 trillion. The projected deficit during that period was about $183 billion, so we should estimate the increase in the total debt includes that amount. If we deduct that, we get an estimate of the amount of debt issued on account of the Covid-19 crisis of $1.462 trillion, meaning that the Fed purchased substantially all of the Covid-19 debt.

3. So what? The fear-mongering is based on two speculations: that the federal debt will have to be paid, or that interest rates will somehow increase, and either will have to be paid out of current tax revenues. In either case, we will have to increase taxes. [5] Another theory is that the Fed will have to sell off the Treasuries it bought into the private markets which will be bad for some reason.

The good news is that the Fed can just return the Treasuries to the Treasury in the form of a dividend, or a remittance in Fed parlance, and the debt drops by a like amount. Or the Treasury could pay off the securities and the Fed could remit that payment to the Treasury. If the Fed wants to hold the securities to help it control interest rates or for other reasons, it can just remit the interest payments to the Treasury.

Why would anyone think otherwise? That is the power of neoliberal ideology, which has taken root in the minds of practically every media personality and Twitter economist. There was a moment after the Great Crash when similar questions were raised, but no one paid any attention to see what happened after that, which was a big fat nothing.

It’s possible that the Treasuries aren’t the problem, it’s all the trillions of new dollars flooding the world that will cause inflation. This might actually happen in different circumstances, so it requires a bit of explanation.

1. Demand has fallen dramatically as we cope with lockdown, and in turn, income to business and working people have collapsed. This new money is largely going to people and businesses who need it to replace part of the income they would usually derive from their normal business activities or from employment. It won’t create new demand as it might have six months ago. It just replaces lost income, enabling people and businesses to avoid bankruptcy. It’s true that there are inflationary pressures on certain things, such as medical supplies and equipment. That’s just normal capitalist price-gouging, and unlike similar cases, say, lumber after hurricanes, won’t be prosecuted.

2. Most US business sectors are oligopolies, meaning that three or four companies control 80% or more of revenues. This is certainly true in the medical sector, including the drug business. Thus, salvaged demand paid for by the new money will flow to capitalists. It may be that some will be needed to expand production in some areas and reduce production in others. The rest will go to capitalists, in the same way the Trump tax cuts did, in the form of dividends and stock buy-backs. It is highly unlikely to have a serious inflationary effect.

3. If, however, there were a problem, there is a solution. Congress can increase taxes. The good news is that it can do so in a way that won’t actually impact working people. Congress can hike taxes on the capitalists and on capital.

a. This makes sense in an oligopolistic economy, which is by definition not competitive. When capital flows into oligopolistic businesses, some of the money goes into some new productive use. The rest goes to capitalists. Taxing oligopolistic profits away means that there won’t be inflation in the things only capitalists buy, giant yachts, private jets, politicians, and political favors, for example. Taxing them is doing a service in tamping inflation that only affects them.

b. Republicans will choke on tax hikes. But if inflation driven by all the new money is a problem, it’s one they caused. They threw away any claim to their version of fiscal responsibility when they cut taxes on the rich in the middle of an expansion. If inflation arises, they can’t expect the Fed to fix it for them, because they wouldn’t be able to survive the depression that would cause, just as Carter couldn’t survive the Volcker recession.

c. If this sounds like a layman’s take on Modern Money Theory, well, it is. I hope I got it right.

Update: Shortly after I posted this I saw this headline in the Washington Post: Top White House advisers, unlike their boss, increasingly worry stimulus spending is costing too much.
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[1] Here are some examples. This is a fairly restrained version. Here’s one from the Federalisr; I read it so you don’t have to, it’s ridiculously wrong on everything, including the conclusion:

In summary, the newly proposed bailout and stimulus packages smack of big government welfarism and crony capitalism. These are the sort of policies that will move the needle toward socialism, impoverishing us and stripping the productive engines of our economy.

I think the writer is worried about our precious national bodily fluids.

Here’s one from a columnist for the Arizona Republic, saying that this is bad, bad, even if the guy has been expecting disaster his entire career. It’s easy to see how this guy scared himself with numbers.

Here’s one explaining that the Fed buying municipal securities from towns and states shifts tax burdens to national taxpayers. That’s aimed specifically at my home state, Illinois, and I hope every shithead who makes this argument loses 75% of their deferred income. Here’s one from the occasionally sober SeekingAlpha.

One more from USA Today, complete with towering red bar graphs.

[2] After the Great Crash, the Fed made a similar promise. Buying and selling Treasuries is one way the Fed controls interest rates. And it’s worth noting that Treasuries are often used by financial institutions in various short-term transactions, such as repurchase agreements, and as collateral for short-term loans, rather than as investments or savings.

[3] Here’s the Wikipedia entry on Primary Dealers, which lists the current dealers.

4. The Fed’s weekly balance sheets are here. Debt figures from the Treasury are here.

[5] This idea never surfaced from the Republican wing of deficit hawkers when the Republicans insisted on tax cuts in the middle of an economic expansion. And for Grover Norquist, I note that a government small enough to drown in a bathtub has proven to be a nightmare in responding to Covid-19. Norquist and his groupies drowned the federal government’s administrative ability to cope with the pandemic.

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33 replies
  1. P J Evans says:

    My memories of previous recessions is that they always want to cut social programs, along with taxes on the higher brackets. The reasons always amount to “some guy’s theory says it will work”, and they never check the results against the theory later. (IIRC, it’s never worked.)

    • Theodora30 says:

      Actually Republicans don’t want to get rid of all social programs, they want to profitize them or as they euphemistically put it with their market-tested weasel words, “privatize” them. If they get their way we be forced to pay SS contributions to Wall Street and have our Medicare plans run by for profit insurance companies with little regulation or oversight. I am not opposed to allowing private health insurance to be part of our system. After all Germany, Switzerland, the Netherlands and Japan all rely on private insurance bought by individuals or employers and they all have universal, quality, affordable health care. But those countries achieve this by strictregulation and enforcement. Our Medicare system allows private plans for supplemental insurance and also allows private companies to offer Medicare Advantage plans but all of those are regulated. Republicans would get rid of the government plans and undo regulation in a second given the chance.

  2. Rugger9 says:

    It’s an old game plan, done everywhere the GOP had control. KS and WI were examples, with WI being an egregious one.

    Snott Walker had his pet legislature impose a huge tax cut that gutted the WI budget, and within a couple of weeks started screeching about the budget being out of whack and that entitlements were the blame (instead of the tax cut, of course). Then he rammed through Act 10 which is a gift that is still giving, before proceeding with the crony-ridden WEDC (which refuses to show its books) and the Foxconn con.

    It was only a question of when the drumbeat started, but since they seem to be starting earlier, we Ds should hang it around DJT’s neck since the tax law changes were his baby.

  3. Rapier says:

    The Fed will monetize the entire debt this fiscal and calendar year. What does that mean?It means they will create the money to buy all of the securities, bills notes and bonds, that the Treasury sells. That means that the Fed is loaning the Treasury the money. Money mind you that was created out of thin air. I think most people grasp that. They certainly should.

    What most don’t grasp is that the Treasury will never pay it back. In theory they should and in theory the might, but they won’t. If the Fed asks to be paid back the markets would collapse. That is what started to happen at the end of 2018 and the Fed stopped asking to be paid back.

    Now there are many ways to look at this but one way is that this ‘debt’ people are worried about isn’t a debt at all. It’s a polite fiction, because the Fed will never ask for the money back and the Treasury sure won’t offer to pay it back. So the entire $2.? TN deficit this fiscal year will produce no debt. Not any obligation that the word debt implies because it won’t be paid back and both parties know it.

    Setting aside that this sort of thing always destroys a monetary system, a big thing to set aside, the main thing is that those going into high dungeon and waxing moral on the sanctity of earning money and not having it given to them are ignoring that the money being given away is ephemeral, a chimera, with no asset backing it up.

    • P J Evans says:

      As far as I can tell, all money is a polite fiction, an exchange of something for tokens with values that only exist because everyone says they exist.

      • Ken Muldrew says:

        All of social reality exists because someone declares it to be so and everyone else agrees that the person making the declaration has the status to do so. The confusion of social reality with physical reality is causing some big problems these days.

      • Rapier says:

        No, No, No. No. Money is created and dispersed by formal mechanisms. That money in turn determines almost everything about our lives. That “polite fiction” and money is an abstraction stuff is wrong.

        Money is a formal thing and by denying that fact Liberals have ceded the creation and disbursement of money to others, bankers. So we are ruled by bankers.

        We are in the midst of the greatest monetary experiment in human history, and hardly anyone knows it. “Polite fiction”, Goddamn.

  4. BroD says:

    LOL1 I just skimmed Samuelson’s predictable screech in WaPo. He’s written pretty much the same piece over & over for decades.

    • Theodora30 says:

      This discussion that Joe Scarborough had with Paul Krugman recently gives excellent answers to the faux deficit hawks claims. It is well worth listening to. Krugman pointed out something that had escaped me – states like Texas and Florida with no income tax so rely primarily on sales taxes will be hit much harder than blue states with a lot of higher income white collar workers still working from home and still paying state income taxes.

      The segment about fear of deficits, hyper inflation, etc. starts around 7:30 minutes in. Krugman’s mains points are that
      -countries that borrow in their own currencies rarely if ever have problems with too much debt;
      -interest rates are extremely low now making that even less likely;
      -Japan has been carrying a debt over 200% of its GDP and their interest rates are effectively below zero;
      -after WW II we had a debt level of 100% of GDP which we never actually paid back. Our economy grew so much that that debt became a trivial amount in comparison:
      -after WWII Britain had a debt of 270% of GDP and their economy outgrew that, too.

      https://www.msnbc.com/morning-joe/watch/krugman-u-s-almost-surely-headed-for-depression-era-unemployment-82872901559

      Unlike on previous occasions Scarborough did not rant at Krugman and reject his ideas. He admitted the he has been one of the deficit hawks (but not one that approved of Trump’s tax cuts). It really seemed that he got what Krugman was saying.

      The one thing I would have liked to have heard discussed was how debt taken on for things that actually enhance economic growth – infrastructure, education and training, affordable housing, research, etc. – is good not only for the economy but for everyday Americans, unlike debt from tax cuts for rich people.

  5. Phaedruses says:

    Google ” two santa claus strategy”;

    This is the theory the GOP has been using since before Reagan’s time to;

    1. Spend like drunken sailors on their priorities when they are in power, IE when Bush held power Cheney’s comments deficits don’t matter

    2. Screech like Scrooge against any democratic priorities calling it socialism and howling about the deficits when the democrats hold power.

    Been doing it for over three decades and the corporate owned media play along like their owners want them to.

    • Theodora30 says:

      I have been screaming about the fact that the mainstream “liberal” media wouldn’t debunk that lie, literally for decades. The first time I saw a MSM article doing that was when Rudy G was running in the primaries in ‘07. The article pretended that this idea was a recent Republican invention not the fantasy of Saint Ronnie and the aptly named Arthur Laffer. God forbid they tarnish Reagan’s halo by pointing out that this was crackpot economics and that Reagan’s tax cuts had ballooned our debt. At least the article quote Bush’s economic advisers. When I read this I thought that debunking the magical tax cut fairytale would finally be roundly debunked. Silly me. Krugman’s new book amount zombie ideas is still trying to do that because the mainstream media still isn’t doing enough.
      https://www.washingtonpost.com/wp-dyn/content/article/2007/11/30/AR2007113002190.html

  6. Old Antarctic Explorer says:

    Well an MMT person would say it’s not the best explanation, although everything you said is true. Here’s what Bill Mitchell the Australian MMT economics would say (roughly):
    The only reason the Treasury has to sell bonds is to conform to a law that says that’s how the government raises money. In actuality what you saw during the crisis was that Congress passes an expenditure bill, the Executive spends the money, which goes to the private sector, and that should be all that has to be done. The reason is that the Federal Government doesn’t have to GET money from someone else. The can create primary fiat money by law. Only a law dating back to when we were on the gold standard requires that the government sell bonds to finance expenditures.

    The basic equation from MMT, which you can derive from any macroeconomics text book, is:
    Private Sector + Government Sector + Balance of Payments = 0

    So assume the Balance of payments is zero (something that hasn’t happened since the 1970s), then the equation is:

    Private Sector = – Government Sector

    So if you want the private sector to gain assets the the government sector HAS to lose money or go into deficit. We all want the private sector to gain assets so we can buy houses and cars and businesses, etc. When the government balances the budget and has a negative balance of payment the the private sector is draining money in taxes and foreign expenditures. Balanced budgets lead to recessions, something MMT showed years ago while orthodox economists thought it was the opposite.

    I’m sure Stephanie Kelton or Bill Mitchell could do a much better job than me, but I hope you get the gist of what MMT is about.

    • P J Evans says:

      It’s also a good explanation of why balanced-budget amendments should be round-filed on sight.

    • Rapier says:

      I wish there was a polite way to say this but bullshit. There are a couple of things which are sort of true but irrelevant to how the system operates or could possibly operate.

      Without the months it would take to get people to unlearn what they think money is and teach them how it is created I will only say that governments don’t create money.

    • Bruce Olsen says:

      An MMTer would also say fiat money is legitimized by the fact that taxes must be paid in the money the government created and spends into the economy.

      Banks don’t create money, they’re allowed to create debt denominated in dollars that can be spent, but only for a while: it must eventually be repaid with interest.

  7. 200Toros says:

    Nice summation of relevant issues at hand, thank you Ed. Another dynamic, and no doubt you’ve already considered this, is the context of the Fed/Treasury actions within the global capital markets. I would humbly submit for your consideration the following:

    These issues of debt, inflation, deflation, balance sheets, and printing money, must also take into account the fact that the US dollar is the world’s most important reserve currency. Nothing else comes close. This fact gives the US options and strategies that are simply not available to any other country on the face of the earth.

    It’s a complex field to understand, and I’m no expert on it. But, I do trade in capital markets for a living so I have a functional working knowledge of it. So, a couple of examples. With any other single country, printing money by the metric ton is a surefire road to disaster, no question. For the US, it isn’t. Our US dollar’s value is determined, in large part, by the global currency market; the largest, most liquid financial market in the world, by far. Supply and Demand, not government policy, determine it’s value. (*Mostly*. You could write a doctoral thesis here…) For the Chinese yuan, it’s the government that determines the value, which they set in a “range” vs a basket of other currencies.

    In a global financial crisis, there is a virtually unlimited demand for both our currency and our Treasury bonds. The dollar index is currently near all-time highs, showing extreme world-wide demand for USD. Which negates inflation, full stop. Negative interest rates on sovereign debt all over the world make our Treasury’s 0.161% (2 yr) to 1.403% (30 yr) look wonderfully attractive, and therefore creates unlimited demand for Treasury bonds. The US, in times of crises, does have the means to raise virtually unlimited capital in the global markets, if need be. No other country can do this. None.

    The EU currency, the Euro, comes closest as a global reserve currency, but the experience of how the ECB handled the financial difficulties of Portugal, Italy, Greece et al in the summers of 2011 and 2012 greatly tarnished the reputation of the ECB, and the status of the Euro as a world reserve currency.

    The Japanese yen is certainly a world reserve currency, but their debt to GDP ratio was already at doomsday levels prior to March, and they just increased it by a large margin, with new bailouts. No country in recorded history has been in the mess they are in now, with staggering debt, a shrinking population, and therefore shrinking tax base, and crippling xenophobia that precludes the inflow of immigrants to increase their population. How does a country grow their economy with a shrinking population? No one has ever had to answer that question.

    All that being said, when it comes to governmental bailouts, I’m not a fan. I am perfectly fine with support for mom-and-pop small businesses, and the working class in general, but not large corporations. If a large company doesn’t have the financial reserves to handle a period of no revenue for 6 months, they deserve to go under, and be purchased by someone else with hopefully more sense. Capitalism should be Darwinian evolution. I make sure my own family has those resources, and any business owner of a successful company should do the same. Put that money to work supporting the working class.

    Lastly, I’ll say that these “interventions” by the Fed/Treasury will work, until they don’t. In the Great Depression, the Fed was about 20 years old, and slow to act, took years to do anything effective. In the 2008 financial crisis, the Fed invented new tools, in a matter of months, that worked to stop the crash, and get things moving in an upward direction again.

    Since then, every single time the stock market has dropped more than 15%, the Fed has stepped in to say “we got this, everybody calm down” and it has absolutely worked. Since 2008, we haven’t had a recession, due to Fed actions. Until now.

    This time, what took years in the Great Depression, and months in 2008-2009, took DAYS for the Fed to act. They threw out all the stops, made it perfectly clear that they would do literally ANYTHING to backstop the economy. (These will be the two pillars of Trump’s historic legacy – staggering debt that dwarfs Obama’s, and the highest kill-count of any modern American president.)

    And it’s certainly not just our Fed/Treasury that are doing this, it’s central banks all over the world. This is part of the new dynamic, that market fundamentals aren’t as important as Central Bank actions, because they are the new major players. The central banks of Japan and China will actually buy stock in the open market to create demand. Our Fed hasn’t gone there yet, but they are buying junk bonds to support liquidity in that space, and using ETF’s to facilitate the purchases, which has contributed to monumental volatility and speculation, prior to stabilization.

    This will work. Until it doesn’t, and then we will have the mother of all economic catastrophes.

    My goal? INSULATION. I strive to protect my family, to make it so that anything DC does is irrelevant to us, to make our family so robust as to make irrelevant anything coming out of DC. We create our own money, we grow our own food. We can survive on our own, for a time at least…

    • readerOfTeaLeaves says:

      I always learn things from posts and comments, but this comment is simply gobsmacking. You have distilled so much — the new dynamic of central banks is a thing that I still struggle to get my head around.

      I actually came back this evening to leave this link for Ed, as I think it is quite relevant to this post — the link illustrates the scale of inequality, and how simple it would be to keep the economy easily afloat if people had a better grasp of scale: keep scrolling to your right on this link. It’s astonishing.
      https://mkorostoff.github.io/1-pixel-wealth/

  8. Tom says:

    President Trump is calling on Americans to be “warriors” in the battle against the coronavirus and head back to work despite the health hazards they may face from COVID-19 in their places of employment. As for himself, Trump is claiming the status of a conscientious objector. No “once more unto the breach, dear friends” for him. All health risks for Trump are minimized. He is tested for the virus every day and is surrounded by people who are likewise regularly tested. Trump is dodging the war on the coronavirus like he dodged the one in Vietnam.

      • readerOfTeaLeaves says:

        Testing is currently showing around 30% false negatives.
        So if he had three consecutive days of false readings, one of those would statistically be bollucks.

    • madwand says:

      Depending on how one looks at it, the fact that Trump avoided Vietnam may have been a good thing, at least for those who were there.

  9. Wm. Boyce says:

    “…b. Republicans will choke on tax hikes. But if inflation driven by all the new money is a problem, it’s one they caused. They threw away any claim to their version of fiscal responsibility when they cut taxes on the rich in the middle of an expansion.”

    Exactly, and the first argument I make to anyone who bloviates about the national debt. The rich are always taken care of, but the poor must be “disciplined.”

    The cost of the government borrowing right now is pretty much zero interest, and we face economic catastrophe. Get on w/it!

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