Warren Moslers 7 Seven Deadly Frauds of Economic Policy #6

Deadly Innocent Fraud #6:

We need savings to provide the funds for investment.

Investment adds to savings.

This fallacy, or fraud, maybe requires a little more thought than some of the others. I did have to read Warren Mosler’s explanation more than a couple of times to fully understand his observation.The idea that we need savings to provide the funds for investment derives from initially thinking in microeconomic terms and then applying that reasoning at the macroeconomic level. That trap can be quite difficult to avoid. On the microeconomic level, it of course, makes perfect sense to initially put some funds aside then invest them later, say in a business venture or whatever.

So how does that differ at the macroeconomic level? This is how I would explain Deadly Innocent Fraud #6:

Say a particular country wished to build a broadband data network at a cost of $30 billion dollars and which would be a significant percentage of their GNP. There would be kilometers of optical fibre cables to lay, maybe new satellite stations and terrestrial microwave links would need to be constructed etc.

If the government were in charge of funding the project it wouldn’t make any sense to save $10 billion for two years from taxation and then spend $30 billion in one go in the third year. There is a paradox of thrift involved here. There would be a loss of purchasing power of $10 billion in each of the first two years which will mean that items will not be sold, or sold at a loss, and the economy will fall into recession as production is scaled back. When the $30 billion is released in one go in the third year it would be highly inflationary. It would be even more inflationary than if the extra $20 billion had been printed in the first place. Many of the industries may well have closed down in the meantime.

It wouldn’t change matters if a consortium of citizens saved their money on a voluntary basis to do the same thing. In a free society, it would not be possible for governments to stop them doing this, of course, but a responsible government would spend and tax in a compenastory manner, and adjust monetary policy too, to smooth out the effect on the economy.

If the economy was initially running close to full capacity, extra spending on the project, either by Government or the private sector, would be inflationary, unless Government removed some spending power from the economy through taxation. In that case, it might be argued that investment would not add to savings.We aren’t in that position now though! Government can control its own spending as a matter of decision, and the spending of the private sector indirectly, either by taxation or by the level of interest rates in the economy. The commercial banks have the power to create money ‘out of thin air’ as is often said! If there was an amount of spare capacity in the economy, that could be utilised over a period of time without causing inflation. Whether the project was funded directly from government spending or through commercial loans to private companies, the effect of the investment would be just the same in macroeconomic terms. In the initial stages of the project, that is before there is any data to buy from the operators of the data network, there would be an increase in the so-called national debt and an increase in the wealth of the private sector as the work got underway. The levels of dollars in the workers’ bank accounts, and in those who in turn receive payments from companies and workers, would inevitably increase too.

So it can be seen that Warren Mosler is right. Investment does add to savings. Usually at least!

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