Monthly Archives: March 2014

The economics of a budget surplus: Something to think about before making rash promises

This Article was first published  in Labourlist:

Left of centre political parties are nearly always faced with the charge, levelled by their right of centre opponents, of fiscal profligacy. Accusations are made that the more socially minded parties cannot be trusted with a nation’s finances.  They will tend to spend too much ‘taxpayers’ money’ on what they consider to be worthy causes. This supposed tendency is often disingenuously linked to the size of the government budget deficit, which in turn is equally disingenuously linked to the size of government itself.  Left unanswered this charge will cost votes. So how should they best respond to the very predictable attacks along these lines which will be only too familiar to Labour Party strategists?

The Australian Labor Party answered this question during the 2010 Australian Federal election campaign by promising, as Julia Gillard put it at the time, “the budget will be in surplus by 2013 if I’m re-elected. No ifs and no buts.” Her deputy Wayne Swan chipped in with “We have nailed our colours to the mast.” You can find lots more similar quotes from both. It didn’t turn out too well. It wasn’t his colours which ended up being nailed to the mast.

As late as 2012 Julia Gillard was claiming to be ‘on track’ but in the end Wayne Swan had to acknowledge ‘it’s unlikely there will be a surplus’ and there wasn’t.  So, even though in many respects the record of the ALP was highly commendable, delivering an economic performance which was better than seemed possible in the aftermath of the 2008 GFC, the economic credentials of the ALP were shredded. The party slumped to a heavy and humiliating defeat in the subsequent 2013 elections. There were of course other factors, such as in-fighting between leading members of the government, but nevertheless the ALP had loudly proclaimed their ability to deliver a surplus. It was far from a minor policy in their 2010 manifesto. Perhaps even worse than the loss of the 2013 election is the long term loss of economic credibility. Their political opponents will remind the Australian electorate of the fiasco at every possible occasion for the foreseeable future.

In reality, the ALP did not come close to ‘achieving’ any surplus, which was just as well. If they had, they would have crashed the Australian economy. It can only be assumed they were unaware of the difficulty of making good their promise. So, what is involved in running a budget or internal surplus? These are, of course, possible. Germany, which has at least as big a government as the UK, proportionately as well as absolutely, and spends at least as much on social programs, runs a balanced budget continuously, sometimes slightly positive other times slightly negative, seemingly without  problem.

Unlike Germany, the UK has been a net importer since the early 80’s when the Thatcher government shifted emphasis away from manufacturing industry. The USA, too, runs a similar style of economy. Imports have to be paid for and these payments drain money from their economies. This is ‘retrieved’ by the sale of the Treasury securities on the international market and recycled back into their economies by government budget deficit spending.

So, whereas the UK runs both an internal deficit of around 6% of GDP and an external (trade or more correctly a current account) deficit of around 3.5%, Germany has an internal balance but an external surplus of 7%. This, incidentally, is considered by many to be excessive and has led to accusations of ‘mercantilism’ and being tantamount to exporting their unemployment to the poorer countries of the Eurozone.  The Germans have a money-go-round which goes in the opposite direction to the UK’s and they have to tax some of those export revenues away to prevent inflation in the domestic market. They would be unable to run a budget deficit of any size even though the interest payments to fund it would be almost zero and maybe even less! German bonds often have negative interest rates. Currently the Germans are prodigious savers, which accounts for the large difference between their external and internal deficits. Their surpluses end up on deposit at their central bank, which then buys securities from the net importers to complete the monetary cycle, enabling the citizens of those countries to carry on buying Audi and BMW motor cars!  A Government budget balance cannot be considered in isolation in any country.

The Government balance is defined as the difference between tax receipts and spending. This leads politicians to think they can easily control it. However, if spending is reduced or taxes are raised in an attempt to reduce the difference, economic activity will also fall, which in turn leads to reduced taxation receipts and increased demands for welfare payments. The gap ends up being much the same as it would have been had spending and taxes been left alone. The Troika are the latest to discover this the hard way in Greece. Their action in bleeding the economy is little short of a collective punishment on the Greek population.

Many economists would argue that imports are a net benefit whereas exports are a net cost. Most economists would argue that a trade deficit of around the 3-4% level is quite sustainable, that there was no need to worry and it shouldn’t make any difference to unemployment levels. They would say a public deficit equated to a private surplus. They would argue that not all countries can be net exporters and that the UK and the USA are offering a useful service by being the world’s banker and should take a free ride when it is offered. That is all true. For my own part, I’m not happy taking a free ride and wonder why developing countries enthusiastically swap real goods and services for what are just the IOUs of the wealthy western world. Will they ever be redeemable for anything close to the value to the goods supplied?  It could be that sooner or later these countries will take the view they’ve been had!  We probably should make preparations before they come to that conclusion.

If the ALP chose a poor option, what would be a better one for the British Labour Party?  It has to start by having a sensible discussion with the electorate on the type of economy they want including an explanation of what is possible. An internal surplus with a substantial external deficit wouldn’t be at all possible except for a very brief time before the economy went into deep recession. Do they want a Thatcherite debt finance based economy, selling government securities to the world; or, do they want to move, in a sensible timescale, maybe a period of a decade or so, towards an economy based on the principle of as close to full employment as possible, selling real goods and services, allowing Britain to contribute its fair share towards world prosperity, and keeping a better balance of both the internal and external deficits?

The world owes $57 trillion. Who the F*** to? Mars? Jupiter? #2

{Note: I am making a start towards getting everything written down in some sort of logical order. So apologies if I’m not saying anything new !}

It’s high time for some clear thinking on the subject of debt.

Take a look at any financial newspaper, any mainstream TV business program, most economics and political websites and the subject of debt looms large in most, if not all, discussions. We are constantly told how that debt is a huge problem for us all. We might know from our personal experience just how bad it is to be in so much debt that we can’t afford to repay the interest, let alone the capital repayments to reduce the loan itself.

The take-home message everyone is given is that the world is in deep financial trouble and that if we don’t knuckle down and fix the debt problem, the debt problem will fix us. It seems we are due to fall over the edge of that fiscal cliff in the very near future if we don’t get our act together.

Certainly the world does face future problems of resource depletion and possible climate change. But these are quite different from the problems we see regularly reported in the mainstream press. In America, the concern is that their National Debt is now over $17 trillion

Image There is story after story in the US media about how this isn’t sustainable. How its just not realistic to keep borrowing from China and Japan. In the UK the situation looks bad too!


Lets take a look at just how much of a surplus the Chinese and Japanese have managed to build up over the past few years.


This looks odd.  but it looks like Japan is broke too! What about China? Surely they must be in the black!

Image   No. They don’t look to be doing too well at all. This is not what we were told. What about all those exports? So what about the world as whole? Surely that must net to zero. The creditors and the debtors must be equal.


No, it obviously doesn’t. So just what’s going on? All the wonder economies are in debt too. Germany is in debt ($3 trillion) Singapore is in debt ($400 billion) Do we owe all this money to the extra-terrestrials?

There is no need for anyone to worry, at least in my opinion, that we have to keep our extra galactic creditors happy. They are not going to send in the bailiffs and repossess our planet. If I am ever proved wrong about that, they will not be at all interested by the digits in our computers , or the printed pieces of paper we call money. It will the resources of our planet which might interest them and I would expect they, unlike many of us Earthlings, would be smart enough to appreciate the difference between money and resources.

They should also be smart enough to know that all money is created by crediting and debiting accounts, and that money functions as a unit of account, medium of exchange, store of value, and record of debt. Every debt has a corresponding credit denominated in the unit of account of that jurisdiction, so that all debt as someone’s liability is someone else’s asset, which nets to zero. Since money is not only someone’s debt (a payable) but also someone else’s credit (a receivable), it is just as true to say that the world owns over 57 trillion in financial assets, expressed in USD, as it is to say that the world owes 57 trillion in financial liabilities.

If there were no credit-debt relationships, that is, if all financial liabilities were extinguished, then there would be no money, and exchange of goods and services would be reduced to barter. (Acknowledgements to Mike Norman).

Do politicians not understand all this themselves?  Don’t they understand that all governments have to be in debt? That would be stupidity. Or do they understand all this very well but just like to scare us all with these huge numbers? Do they deliberately lie to the very people who pay their salaries? At least under their own understanding of economics they do 🙂    That would be criminality! Which is worse?

To understand why this is the case, that debts are just another way of expressing assets,  we need to start right at the beginning and take a look at what money is and why it has a value.

High Unemployment in Britain is its own Government’s Fault. No-one else’s!

There’s EU elections coming up soon. The debate has started already in the UK on the benefits of membership. EU supporters make a claim, without the slightest shred of evidence, of 3 million jobs being dependent on EU membership. Anti EU elements counter with claims that EU rules make energy too expensive and it actually costs a million jobs. Neither are right.

Unemployment is caused by the spending power, or aggregate demand in economics parlance, in an economy being less than is needed to buy up all the available goods and services which are for sale in that economy. This can be caused for two reasons.

Firstly, the spenders in that economy may consider, overall, they get better value for money, the money they have left after paying their taxes, by buying in someone else’s economy. They may prefer to buy an overseas product rather than a local product. This is largely a function of the exchange rate in that economy. If the exchange rate is too high importing goods will make more economic sense for the spenders.

Secondly, there may be not enough spenders. Some earners may choose to save their money. Earners aren’t just wage and salary earners. They would be anyone who has made money , by whatever means, by trading in that economy. Earnings would include the profits of businesses.

Governments have to borrow from the savers and spend that money back into the economy by deficit spending to ensure that everything which is available for sale, this includes the labour of any individual, is cleared. They also have to decide what to do about any trade imbalance. Do they issue bonds to overseas buyers and spend the proceeds back into their economies by deficit spending? If not, do they wish to see their currency adjust to a natural market value?

The countries of the Eurozone are trapped. Either the Euro works well for them or it doesn’t. It works reasonably well for Germany and the Netherlands but not at all well for Greece or Spain. The governments of those countries are users of someone else’s currency. They don’t have the necessary economic freedom to fix the problem.

But what about the UK? They are out of the Euro. Can they blame the EU for unemployment? Unemployment is much lower in the UK that it would have been had the UK decided to adopt the Euro. It was very sensible to retain the right to be an issuer of its own currency , rather a user of someone else’s currency. That gives the UK much better freedom and ability to decide its own economic status. There is some suggestion that the EU may try to impose budget rules on the UK even though it is outside the Eurozone. However, I doubt if the politicians in British government  are in any real disagreement with the ultra conservatives in charge of Euro monetary policy. They can’t claim its all their fault!

It therefore means that high unemployment in the UK is really no-one else’s fault other than its own government’s. It isn’t like Spain or Greece. It still has control over its own economy. If it wants to devalue the £ it can. If it wants to balance its external trade , it can. If it wants to deficit spend, and reduce the tax take from the population, to achieve full employment, it can. The UK can have any level of unemployment its government likes.

Tony Benn: Every time I see a person in a cardboard box in London I think that person is a victim of market forces!

One last tribute. It’s Tony’s funeral today. (27/3/14) Its not often I feel this way about the passing of someone who has lived a long and active life,  but there’s both sadness  and happiness watching this. Sadness that our comrade is no longer with us but happiness in the thought that his message lives on.

Nationalisation Costs Nothing and Privatisation Raises Nothing!

There is some discussion in British Labour Party circles on the question of bringing the railways, and other key industries, back into public ownership. Those opposing the idea usually argue along the lines of “we can’t afford it”. They say the capital, or money, required would be far better used on housing, education and other growth promoting projects.

They either don’t understand the economics or they are deliberately misrepresenting them to suit their own nefarious political purposes.

Apart from the administration costs of making it happen,  renationalising the railways, or nationalising any other industry, in Britain, or anywhere else, costs nothing. This must be true when you think about it. Otherwise, how possibly could they have been nationalised in the first place, by the Attlee Labour government, immediately after WW2 when the country was said to be virtually bankrupt?

It works in the same way as QE. Before the repurchase of railway shares, or whatever else such as govt securities from the banks in the case of QE, there are two zeros on either side of the balance sheet.

After the repurchase, the assets of the shares or securities, on one side of the balance sheet exactly equal the liabilities , created by any payments, on the other. So the balance sheet still balances. You can’t do this, and I can’t do this but Government is an issuer of its own currency, and it is really no problem at all.

Conversely, it must be true that if nationalisations cost nothing, then privatisations don’t actually raise any extra usable money either. And they don’t. The recent sale of the Post Office/Royal Mail  in the UK didn’t raise a single extra spendable penny!

Warren Mosler’s 7 Seven Deadly Frauds of Economic Policy #7

“It’s a bad thing that higher deficits today mean higher taxes tomorrow.”

This is perhaps the only common neoliberal argument where there is at least some measure of agreement between their view and the MMT view. Except, whereas the neoliberals would say its a bad thing that the higher deficits need to be ‘repaid’, the MMT argument would be that it would be  a good thing if the higher deficits means that the economy starts to work at slightly too close to full capacity and has to be later slowed down by the imposition of higher taxation to prevent inflation.

It was Prof Wynne Godley who first made the observation that taxation in an a economy using a non-convertible currency with a freely floating exchange rate is not at all necessary to raise funds for government to spend. It, together with the amount of government spending, need be considered only as a way of regulating the economy.

So, if the deficits now do cause taxes to rise later, then that’s a good thing providing the deficits now aren’t overdone and inflation really does have to be reined back sharply. There’s not much danger of that at the moment in the major economies. The big danger is the other way ie recession and a lack of purchasing power, or insufficient aggregate demand.

My takes on the first six “deadly frauds” are on links in the right hand column together with a link to Warren Mosler’s book which is freely available in pdf format.

Muddled Thinking Watch # 3: Hugh Pym of the BBC with his coloured sweets

I do tend to bang on from time to time on just how hopeless the BBC is on economics issues.  It can explain very well what a Quasar is to the general public,  but on matters slightly closer to home,  it comes up with this nonsense from Hugh Pym, their chief economics correspondent -no less, on government debt!

This might be just about acceptable as a kindergarten lesson on how Mummy and Daddy have to borrow occasionally to manage their finances but as a lesson for adults on how  government finance works? I don’t think so.

The number of sweets the government has at its disposal is unlimited. That’s because its an issuer of its own currency -sorry  sweets. It can never run out.  It doesn’t need red, or debt, sweets. Only the government can create the sweets so there is no real need to borrow sweets from anyone else except if the owners of the sweets ask the government to look after them. Which they will of course. Afterwards, they’ll even give them back one or two extra!

The government needs to be like a responsible parent and not issue too many sweets. In that case they could end up unappreciated and the sweets would lose their value.

They do impose a continual sweet levy on the population though. That is to make sure the sweets are valued in the way sweets should be!  The government don’t need them for themselves. Why on earth would  they? They can make as many as they like!

I wouldn’t give Hugh Pym any sweets on the strength of this showing. He needs to ask himself if economics is really his forte !


Edit: Alex Little and Neil Wilson suggested, via Twitter, the idea of complaining to the BBC. The BBC do make it very easy and its a step by step online process.

I received a reply too. It is a pity is was unsigned but at least it was a reply.

“Thank you for your email about Hugh Pym’s report on debt and deficit.
 This piece was not meant to be a detailed explanation of government finance. It was intended to be a  to the different meaning of the terms debt and deficit (which are often misunderstood or confused) for a general audience.

The Bank of England is independent and has made it clear that its role is not to buy up and cancel Government debt. It has purchased Government bonds as part of its policy to transmit newly-created money into the economy.”

My reply to the BBC:

“Thank you for your reply. Is the BoE independent? It is owned by the Treasury solicitor. Did it decide, independently, to buy some £350 billion or so of Government gilts from financial institutions as part of the QE program? Of course not.

Once it is seen that the BoE and the Treasury act solely as departments of government, the whole idea of government borrowing becomes questionable. You might want to read this 
and  watch this video and read this article produced by the BoE

The word “borrowing” suggests to the average person that a loan needs to be repaid. The  ND never gets repaid! Some individuals are so concerned by the National Debt they leave their entire estates to offset it! Its not really borrowing. It is more the process of issuing money, in just the right amounts, into the economy which is necessary to allow people and companies to save and allow the country to run its trade deficit.I understand that the average person may find this difficult and counter intuitive.  Your “quick and easy” would be fair enough if it were “quick, easy and right”. The BBC has a good record of explaining difficult scientific concepts to the public. Why does it shy away when it comes to economics?”
Edit 2: Neil Wilson has suggested how the video should be corrected on 3spoken. Incidentally I would recommend Neil as the MMT’s “go to’ person on UK issues and as a good source of sector analysis data.

What the Government don’t want you to know about taxes! But it’s easy enough to work out anyway.

Taxation is simply the process of governments collecting back some of their own IOUs , what we call money. They have earlier  created and spent them into the economy. If they hadn’t done that no-one would have ever been able to pay any taxes, at least  using government IOUs, for the simple reason that there would  never have been any to pay taxes with.

So why do governments tax? After all it would be much easier to just write out new IOUs as needed. They generally just tear up their old IOUs when they receive them back, just like you or I would.

Two reasons:

1) Taxation creates a demand for government IOUs. That gives them a value. It makes the $ and the £ worth something.

2) Taxation reduces our spending power. This is unfortunately necessary to prevent inflation.

Taxation is nothing to do with raising funds for government spending in a country which issues its own currency. If governments tell you they need to have a high level of taxation, when there is no inflationary problem, they aren’t being truthful.

Muddled Thinking Watch #2: The Bank of England is wrong… in its claims QE creates no inflationary pressure writes Andrew Lilico

Andrew Lilico writes in the UK’s Daily Telegraph with some impressive sounding credentials such as as “ an Economist with Europe Economics” , “ a member of the Shadow Monetary Policy Committee” and formerly “the Chief Economist of Policy Exchange.”

Yet he seems to have some very odd views indeed. He writes :
“because bank loans (and thus broad money creation) are constrained by the need to have adequate reserves relative to deposits, to support lending banks must attract new deposits or loans of reserves from other banks. ” 

Yet, there are no reserve requirements for UK commercial banks. See

Lillico writes:
“Banks can’t simply make as many extra loans as they feel like, without limit.”

Well they can! They probably don’t feel like making loans that are too risky though, but providing the loans are considered sound there is really no limit. If a commercial bank ever needs to borrow extra reserves, there is no reason they can’t use their performing loans and other assets as collateral. They usually have the opposite problem though, They usually are awash with reserves and in normal times convert these to gilts and other securities.

A misunderstanding of what money is and how banks create loans  leads to a misunderstanding of QE  too.

If we look into our bank accounts we see ££ but they aren’t quite the same as banknote type ££. They are the IOUs of the commercial bank. The banknotes are the IOUs of the BoE. Bonds or Gilts are also the IOUs of the Treasury, which is just another arm of government, so swapping one for another. ££ for gilts doesn’t have that much affect on the economy.

Commercial Banks have reserve accounts at the BoE where they keep their BoE ££ but they don’t lend them out to the general public. UK banks have no reserve requirements  but they do have capital requirements. The rationale is simple. Any bank can create any loan, in any currency, providing that it has the capital base to guarantee any IOUs which it issues. It doesn’t have to have  any of that currency in its reserves! If it is in good shape it can buy or borrow whatever currency it needs, when it needs it. If it needs it.

Banks create loans by crediting their IOUs to the borrower’s account. They don’t need BoE ££ to do that. Of course, their own IOUs have to be guaranteed against BoE ££. Their account holders may demand them, but that only happens in a small percentage of cases, except in times when there is a run on the bank and customers en masse demand BoE notes from their accounts.

Runs on banks aren’t caused by suspicions that they are running short of reserves. They happen when the suspicion is the bank is about to go bust!

Tony Benn (1925 -2014) An honourary MMTer?

Tony Benn , one time Labour MP, Labour Cabinet minister,  and leader of the democratic left in Britain died yesterday. He was an inspiration to many and will be sadly missed. The best tribute I can make is to post these two videos, the first a 10 minute history lesson for neo-liberals, of him in full flow.

Some quotes:

“Education is our core weapon……If people knew what was happening they wouldn’t accept what was happening…the Government doesn’t want people to know…”

“Every single generation has to fight the same battles again and again. There is no final victory and no final defeat.”

“I am very proud I was in the Labour Party of 1945. Our manifesto was very clear. It said the interwar slumps were not acts of God….it was the direct result of too much economic power in the hands of too few men who behaved like a totalitarian oligarchy in the heart of our democratic state. They had and they felt no responsibility to the nation”.

“…in wartime there are no economic arguments at all. I’ve never heard a general say I can’t bomb Baghdad this month because I’ve exceeded my budget. You just do whatever is required. We should adopt the principle you do whatever is required in peacetime too.  People want jobs, they want income they want education, they want health care , they want to be looked after if they are old”.

Sounds great!

The second is an interview he gave to Michael Moore:

“If you can have full employment by killing Germans, why can’t you have full employment by building hospitals?”

Tony Benn spoke passionately about the NHS, saying that there would be a “revolution” if it was removed – and also argued for full employment.