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Time for a National Debate on Deficit and Debt

There’s a lot of misinformation and down right propaganda surrounding the budget deficit and federal debt. But not all sides of the issues are being heard and this is a disservice to the American people. It’s way past time that we have a national debate about both issues.

Misinformation or Propaganda?

Much of the misinformation and propaganda is a result of a serious misunderstanding of our modern monetary system or entrenched ideology. But the economic well-being and security of U.S. is at stake and we cannot afford to be swayed by flawed logic or outright lies. We need an public forum - preferably televised where stuff like the following can be discussed.

Paul Krugman:

But couldn’t America still end up like Greece? Yes, of course. If investors decide that we’re a banana republic whose politicians can’t or won’t come to grips with long-term problems, they will indeed stop buying our debt. But that’s not a prospect that hinges, one way or another, on whether we punish ourselves with short-run spending cuts.

Nobel laureates, such as Krugman, are not infallible. Krugman, like many other liberals, are stuck on this notion of short-term vs. long-term deficits and other flawed theories such as IS-LM Model or worse Government Budget Constraint Theory.

• It’s quite laughable to compare U.S. to Greece in any context. U.S. is not part of a monetary union (Euro) like Greece. U.S. has full control over the issuance of U.S. dollar.
• The deficit is a deficit. There’s no accounting for short-term vs. long-term taxes or spending. Besides, what happens if ten years from now U.S. is still mired in low growth, low job creation and financial sector plunges economy into another recession/depression does the federal government say sorry we can’t do anything because deficit to GDP ratio is too high? John M. Keynes did say:

  But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.

Professor Krugman is not alone. Bill Gross, a big time money manager and one who has a vested interest on the performance of U.S. Treasury Securities (read - he likes to talk up or down the bond market), throws out some blatantly erroneous statements:

Treasuries “have little value” because of the growing U.S. debt burden.

We are out-Greeking the Greeks,

Again, keep in mind Bill Gross is a money manager and who recently sold off his investment funds holding of treasury securities. He has to justify such a move some how and what better way of doing that but with eye-popping quotes such as those above. Who cares if they are wrong!

Bond prices and yields are inversely related. If prices go up yields go down and vice versa. Right now, 10 year and 30 year T-Bonds are priced at 101.08 and 103.30, respectively. The bond yields are relatively low at 3.47% and 4.51% respectively. If you’re a money manager the one thing you’re very concerned about is yield. Treasury Securities, because of the interest rate environment and other factors such desire for safe haven from world calamities, have been priced high and low yields. So yeah from a yield stand point - treasuries have little value but also if market perceives an economic recovery and risk appetites (start selling treasuries) increase treasury prices will fall and yields increase. If Gross’ statement was true the bond market would be pricing the treasury securities as junk (very high yields)? Clearly it is not. As for his ridiculous comment about Greece see above.

Modern Monetary System

Krugman and Gross have something in common - a misunderstanding of our modern monetary system. U.S. has a fiat, non-convertible, flexible exchange rate, currency system. Federal government has monopoly over the issuance of U.S. dollars. Federal government, because of our monetary system, is nothing like a business or household. Most importantly, since federal government has such control over the issuance of U.S. dollar, it will always be able to meet its financial obligations unless congress and president decide to not meet them but this is a political matter and not an economic one.

Here’s a chart of how our modern monetary system works:

Source: Deficit Spending 101 - Part 3

As the chart shows, government spending involves crediting bank accounts and this is done regardless whether treasury issues bonds or revenue is collected. That’s right bonds and tax revenue DO NOT fund government spending. That’s the nature of our modern monetary (fiat currency) system.

In this modern monetary system, U.S. dollar and Treasury Securities (federal debt) are just different forms of debt. Treasury securities pay interest while USD obviously does not. So why issue treasury securities? Good question, treasury securities are not required but are used by Federal Reserve Bank to manage interest rates and in a way serve as a subsidy to financial sector. Again, they DO NOT finance government spending.

But we won’t hear this explanation of our modern monetary system in traditional media. This explanation is contrary to Washington Consensus. Changing this status quo Washington Consensus goes against the interests of those who are benefiting from it - top incomes, Wall Street, politicians and economic professors.

It’s time we have a national debate about the deficit and federal debt that includes all sides of these issues. This should be a nationally televised debate and should occur over several days, weeks and months. Until this happens all we know or are left with is a status quo that benefits a select few.

Good luck.

Further suggested reading:

Letter to Paul Krugman
Modern Monetary Theory and Mr. Paul Krugman