The US stock market is one of those ten US economic ‘leading indicators’ that usually changes before the economy as a whole changes. The enclosed link above is a very illuminating ‘info-graph’. It’s kinda like a ‘Chutes and Ladders’ game board. The object of this game is to become the first player (Read: fiscal policymaker) to break away from the ‘federal-gov’t-is-the-same-as-a-household’ groupthink…
Just start at the left, follow along up and down with actual amounts of dollars sloshing in to and out of the private sector year over year (what economists call ‘vertical’ or high-powered ‘exogenous money’ and what MMT calls ‘dollar adds’ / ‘dollar drains’). As it all veers upwards, that means dollars getting consistently added to the private sector, as it all veers downwards, that means dollars getting consistently drained from the private sector, and then watch what happens next in the stock market (Spoiler Alert: It did exactly what it was told to do)…
Note that other than just those four ‘Clinton Surplus’ years, all the rest of the years on this graph are, at the same time, running both US budget deficits (the first two bars in each year) and US trade deficits (the second two bars in each year). Can you remember when we were all told that these so-called ‘Twin Deficits’ were so terrible, yet as you can clearly see, the economy and by extension the stock market weren’t always doing so terribly, in fact, there isn’t much of a correlation at all. There is a correlation however, to the economy and the stock market with the other deficit on this graph, the private sector ‘deficit’ (not to be confused with private sector debts like student loans, a home mortgage, or credit card balances due). Federal budget deficits and federal trade deficits are what everyone focuses on, and needlessly worries about, but the private sector deficit is the one and only deficit that we should instead be focused on, and actually be worried about. In the year 2001, the total private sector dollar drain, or their sustained ‘deficit’, since the 1990 recession, reached $1.787 trillion right before the economy fell into recession. This ‘indicates’ that going forward, fiscal policymakers should take action if private sector deficits reach that level again, but look what happened next. After proper dollar adds, or private sector surpluses, the economy recovers, but only a few years later, dollar drains, or sustained private sector deficits pass that $1.787 in the year 2007 again, and by much more. The result was the Great Recession. Only sustained private sector deficits that are allowed to build up are the actual danger to the economy, and only fiscal policymakers, working cooperatively, taking their cue from monetary policymakers, can prevent dollar drains from reaching critical levels. Furthermore, only people watching these private sector deficits as ‘leading indicators’, will have a good idea what that real leading indicator, the US stock market, will do next.
Not convinced? Take a look at these dates:
These dates above were the 6 periods in American history when the US federal gov’t had substantial yearly budget surpluses (decreasing total US federal gov’t debt) meaning, at the very same time, and by accounting identity, the US private sector was, to the penny, being subjected to the exact same amounts of yearly ‘savings deficits’ (increasing total US private sector debt). Next look at these dates:
These dates above were the starting years of all six economic depressions in U.S. history. Now let’s put all the dates together:
1817-1821 federal gov’t surpluses and the 1819 Depression
1823-1836 federal gov’t surpluses and then the 1837 Depression
1852-1857 federal gov’t surpluses and then the 1857 Depression
1867-1873 federal gov’t surpluses and then the 1873 Depression
1880-1893 federal gov’t surpluses and then the 1893 Depression
1920-1930 federal gov’t surpluses and then the 1929 Great Depression
Hardly…Now let’s connect the dots:
The Great Depression was the worst economic downturn in the history of the Western industrialized world, and why? It was not just because of a stock market collapse, but instead, it was because of a “money supply collapse” (quoting former Fed Chair Ben Bernanke in ‘Courage to Act’). When the federal gov’t is running a surplus, like it did in all the examples above, the federal gov’t is draining dollars from the money supply, out from the private sector. When dollars are being drained from the private sector for a prolonged period, then the private sector must start borrowing, or ‘deficit spend’ to maintain their same level of consumption in order to keep up their same desired level of savings. As you can see, all 6 economic depressions in US history were preceded by prolonged federal gov’t budget surpluses, or put another way, they were preceded by prolonged private sector savings deficits, resulting in prolonged private sector ‘deficit spending’. It is not continuous deficit spending by the federal gov’t that is unsustainable, it is continuous private sector ‘deficit spending’ that is unsustainable…
From the perspective of the private sector, there is no difference between the gold-standard era and the post-gold-standard era, because the private sector is not the issuer of dollars (no matter whether they are backed by gold or they are not). The private sector, because they are not the issuer of dollars, always goes into actual debt when deficit spending. However, from the perspective of the federal gov’t, the issuer of dollars, there is a stark difference between the bygone monetary system that had gold-backed dollars, and the modern monetary system that doesn’t have gold-backed dollars. US dollars today are not convertible to anything. US dollars today are not pegged to anything, they are free-floating, and they are issued by fiat. During the gold standard era, the federal gov’t could not just ‘issue’ gold out of thin air, but now the federal gov’t could just issue fiat out of thin air. Instead of the federal gov’t borrowing gold-backed dollars and ‘monetizing debt’ (financing debt by swapping IOUs for gold-backed dollars), the federal gov’t today issues newly-created fiat dollars and ‘monetizes deficits’ (reconciles deficits with ledger entries of non-convertible dollars). Before, federal gov’t deficit spending added to an actual outstanding debt of gold-backed dollars; now federal gov’t deficit spending instead just subtracts from the purchasing power of outstanding fiat dollars.
Unlike a household, that needs to balance a budget, the federal gov’t needs to balance the economy. Rather than worrying about ‘running out’ of fiat dollars, federal gov’t fiscal policymakers should be concerned about either strengthening a too-weak economy, or weakening a too-strong economy, whichever is needed at the time, to promote balanced growth. An economy with balanced growth creates as many jobs as possible, which then helps the most people as possible to earn dollars to pay for goods and services. In addition, fiscal policymakers must do what is needed to have the resources to be able to provide those goods & services in the future because THAT IS WHAT WE CAN ACTUALLY RUN OUT OF…
Today, in the post-gold-standard, modern monetary system, federal gov’t deficit spending ‘finances’ our savings (not the other way around anymore). If the federal gov’t isn’t deficit spending enough, then the private sector must keep ‘deficit spending’ more, meaning keep borrowing more dollars, and since unlike the federal gov’t, the private sector cannot issue dollars, THAT IS WHAT IS ACTUALLY UNSUSTAINABLE…
Monetary policy is just the anesthesia, and those monetary anesthesiologists, our central bankers, just keep the patient sedated. However, if those fiscal surgeons, our fiscal policymakers, do not then get to work, do not take productive, counter-cyclical measures, and just dither or bicker at each other while dollars keep draining from that patient, our private sector, then just like ZIRP & Consumption Taxes did in Japan, like austerity measures are doing in the EZ, and what sequestration is now threatening to do here in the US, as history shows, the US stock market will sooner or later follow accordingly.
NOTE: The above info-graph is a modified version of the original created by Chris Brown. Here is his latest updated version: US asset decline 1992-2015 Revision 7 on FEB 17 2016
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