Mike the Mad Biologist

A while ago, I was pleasantly suprised–and stunned–to read a Marketwatch columnist (the online market site for The Wall Street Journal) point out the obvious, yet rarely recognized, reality that we are no longer on the gold standard. As I noted:

One of the key innovations of the last century–and unappreciated, not to mention unknown, by most–is fiat currency: we are not on the gold standard anymore. The total amount of money we can have isn’t fixed by how many shiny pebbles we can pull out of the ground. If we need to print more money so we [can] eliminate idle capacity (human and industrial), we can simply do that. Inflation can arise once we eliminate that idle capacity. Likewise, if we flood a sector (or economic class) with money, that can lead to inflation in that sector as well as misallocation of resources. As much as I would like it, pumping $250 billion per year into microbial genomics probably wouldn’t be a good idea. But arbitrary concerns about deficits shouldn’t limit our economic activity.

So in a Bloomberg News article about the Republican claim that we are nearly ‘broke’, a senior economist at UBS Bank states:

George Magnus, senior economic adviser for UBS Investment Bank in London, says the U.S. dollar’s status as the global economy’s unit of account means the U.S. can’t go broke.

“You have the reserve currency,” Magnus said. “You can print as much as you need. So there’s no question all debts will be repaid.”

Again, this isn’t a Dirty Hippie Liberal. This is from a senior economist at a multinational bank. Taxation and spending should be used to manage unemployment and inflation, not to worry about budget deficits. In fact, that’s been the idea all along:

Unlike today’s debt critics, Hamilton “had no intention of paying off the outstanding principal of the debt,” historian Gordon S. Wood wrote in “Empire of Liberty: A History of the Early Republic 1789-1815.”

Instead, by making regular interest payments on the debt, Hamilton established the U.S. government as “the best credit risk in the world” and drew investors’ loyalties to the federal government and away from the states, wrote Wood, who won a Pulitzer Prize for a separate history of the colonial period.

For entities with a lot of cash, Treasury securities are essentially a savings account (that typically has better interest rates than a savings account, by the way).

The implications of this is that policies (funding the NEA for example) should be judged on their merits (and capacity to cause inflation or price distortions), not on concerns over budget deficits.

Comments

  1. #1 Lynxreign
    March 9, 2011

    Great, now how do we get this knowledge into the rest of the media and get both journalists and Democrats to use it to challenge conservatives when they spew their nonsense abou the debt/deficit?

  2. #2 Moopheus
    March 9, 2011

    People forget that the US government has been continuously in debt since 1839, and in that time there have been only a few periods of balanced budgets. On the other hand, only in times of war and in recent decades has the total debt been very large relative to GDP. So concern over the debt isn’t entirely irrational. But it’s true: we control our currency, so we can’t “go broke.” The euro-zone countries do not have the option of unilaterally whipping up more euros. They _can_ go broke. But the bondholders can still worry about inflation representing a back-door default. Does it matter if we say, we can only give you 50 percent of what we owe, or we pay in dollars worth only 50 percent of what they were. If the market thinks that is going to happen, then interest rates will rise (likely after QE2 ends) and debt servicing costs go up. Having control of your currency is on the whole a good thing, but it does mean you have to actually exercise some control, or no one takes it seriously.

  3. #3 JasonTD
    March 10, 2011

    Moopheus wrote:

    The euro-zone countries do not have the option of unilaterally whipping up more euros. They _can_ go broke. But the bondholders can still worry about inflation representing a back-door default.

    and

    Having control of your currency is on the whole a good thing, but it does mean you have to actually exercise some control, or no one takes it seriously.

    If we don’t exercise some control over our spending and debt, then the dollar’s status as the world’s reserve currency might be threatened. (There are pressures aside from our government debt that are a threat to the dollar’s dominance, as well.) That is the way the debt/deficit issue really needs to be framed. How high can debt get while still keeping investors content to use our currency as the world’s reserve currency? Likewise, we have to ask whether the debt we are incurring is going to reduce idle capacity to produce goods and services that are in demand.

The site is currently under maintenance and will be back shortly. New comments have been disabled during this time, please check back soon.