swiss

Everyone can appreciate that the intention of a proposed balanced budget amendment (BBA) would be to impose some discipline on government. Today, there is absolutely no operational constraint on government spending, and the debt ceiling is just a legislative choice. Most people also believe that there is at least some long-term constraint on government spending as we are always hearing about government debt and our need to borrow from China (etc.) to cover our profligacy. Yet, the cause and effect are the other way around. The US government, like all truly sovereign governments, issues its own currency. Therefore, it doesn’t need loans from China to spend. Rather, it creates the currency, which is sent by exporters to China, before China can “lend it back” to us. Most minds are repelled by the operational details of our monetary system, such as this, when they first encounter them, because they are so at odds with our everyday use of money: we citizens have to borrow to make up the difference when our spending exceeds our income because, unlike the government, we cannot create dollars. What, then, stops our government from buying whatever it wants and creating whatever money it needs to do so? The chief answer is the threat of inflation, its impact on productivity and in extremis a currency collapse. In the light of all that, what would a balanced budget amendment really imply? It would be a mistake to think it leaves us with broadly the same system we have now, but with a less profligate government. Rather, it would completely change today’s monetary system to one that is, ironically, more like the system that most people think we have. That complete change in our entire money system would have extremely profound consequences — more profound than most of its proponents seem to realize. Since the government (I’m not distinguishing here between Treasury and central bank) creates and emits all of the dollars that circulate in and out of the US, the total net number of dollars in existence equals the total number that have been created by the government minus those that it has “taken back” in revenue (taxation and sale of bonds). In other words, the total number of dollars in the world equals the US government debt — and in this system, if there were no government debt, there simply would be no dollars. (This begs the question, is government debt really “debt” at all?) Although the private sector creates wealth (real goods and assets) by productive activity and technological innovation etc., it does not create net financial assets. When Peter sells a widget to Paul, ownership of the widget changes, but the net monetary assets in the private sector do not. Even when a bank creates money as debt by giving credit — as happens when someone takes out a mortgage — no (net) money asset is created, because the money created in the account of the borrower equals the borrower’s liability that is simultaneously created. If the government were truly to balance its budget, no new dollars would ever again be created. That means, assuming Congress decides to start follow its own Constitutional amendment, that there will be 14 trillion US dollars — today’s US govt debt — in existence now and forever. Since 1913, the constant background of the US economy has been money creation, depreciation and inflation. Today’s dollar buys 2% of what it did back then, because there are so many more of them. But if no new dollars are created (net) as would be the case if all budgets from here on out were to be balanced, then as we continue to produce goods and advance technology, the fixed amount of money — that 14 trillion — will be chasing increasing amounts of goods and services. Everything on average will get cheaper, and we will therefore shift from an inflationary age into a deflationary one. Today, no one can get rid of American dollars fast enough because people fear that the rate at which they are being printed represents a massive devaluation. After a balanced budget amendment passes, however, that will all change. Once they stop making any more of it, cash becomes king — a liquid asset of rising value. The US dollar will come to look increasingly like the Swiss franc and less like toilet paper. The dollar will appreciate relative to the currencies of other nations that do no balance their books by law (that’s almost all other nations) and goods will become cheaper over time. Salaries may even fall. Fixed mortgages will become harder to pay off, but the American dollar will go further abroad. Gold will stop rising in price. And all of this will change personal financial planning overnight. Economists who are most concerned with the operations of our current fiat money system with government as a monopoly issuer (Modern Monetary Theorists) are understandably horrified by the prospect of a balanced budget amendment for the following reason. When the private sector saves financial assets (as it tends to do in a recession), it does so at the expense of demand for goods and services. In our current monetary system, government can spend into the economy (“run a deficit”), injecting money (and demand) to compensate for the saving by the private sector. If a balanced budget amendment were to pass, the government would not be able to do this: it will have tied its hands completely, and massive spiraling economic contractions may ensue. MMTers fear this will be nothing less than the economic death of America. In a budget-balancing America, government would have to take in what it spent in the same tax year, so people would immediately feel the financial consequences of war, social programs and transfer payments, such as social security. In such a world, the citizens of the country would experience in real time the consequences of government spending — whether that be for war-mongering, infrastructure programs or non-working citizens. And (in a manner of speaking) we will also have “solved” the “unsustainable” Medicare and social security obligations: the obligations to payout under these programs will not be met because there literally will not exist enough money to pay for them. Clearly, the USA has infinitely more economic flexibility under our current system than it would after a budget-balancing amendment, and the economic arguments against it are compelling. So what is there to discuss? The whole point of the American founding was that the one entity that has a monopoly of force — the government — should be chained down, with its powers limited to the greatest possible extent that is compatible with its singular purpose of “securing the rights of life, liberty and the pursuit of happiness”. In contrast, our current monetary system is the very perfection of financial boundlessness and unaccountability. When the Founders gave the government the power to “emit bills of credit”, the current system of money creation is not what they had in mind. For that reason, the political effects and the philosophical basis of a balanced budget amendment must be considered along with its economic effects. In other words, the real question is whether the binding down of government by imposing such unparalleled fiscal discipline is worth the (some say existential) economic risk we would be taking by doing so. Some would say that our “leaders” in Washington should no longer be trusted with the unconstrained power to create and spend money for two simple (and well-worn) reasons: corruption rises in proportion to power; economic power great enough to save the private sector from itself is, in the hands of ignorant or evil men, great enough to destroy it. In other words, any argument for the severe economic constraint represented by a balanced budget amendment is ultimately a moral one. Many MMT economists (and others) seem to have confidence in the fact that we are ultimately protected from the excesses permitted by our current monetary system by the fact that those on whom we rely to use it to society’s benefit are held accountable every two or four years in an election. But who really believes now that that is enough accountability, or that our leaders are smart enough to understand the economic levers, just because they are elected? The Founders did not, and so they gave us a Republic. And every day, most economic policy comments by most of our leaders suggest they’ve never picked up an economics book, asked what money is, or even read the Constitution. So the Republicans may be onto something in proposing a BBA, but for the wrong reasons — or at least for reasons that they do not fully understand or articulate. On the other hand, those who want this brave new world of balanced budgets should be extremely careful what they wish for, because it is as least as radical as it is “conservative”, and if they get it, the consequences will be so much greater than they intend, or could begin to imagine.