How Does The Federal Government Actually Spend?Professor L. Randall Wray, on with Steve Grumbine of Real Progressives, explaining what actually happens when the Treasury spends. Wray goes through a simplified version that leaves out some intermediate steps, but these intermediate steps all cancel out of the final process, and the end result is exactly what he describes. (Sort of like how if I gave something to you to give to your cousin for me, the net result is that I gave something to your cousin).When the Treasury goes to spend, it tells its bank, the Federal Reserve, to credit (turn a number into a larger number) the reserve account of a bank (banks all keep "reserve accounts" with the Federal Reserve, which they use to settle payments), and then the bank credits the checking account of whomever is receiving the payment. So, the Fed credits a bank's reserves and a bank credits a customer's account.The reverse happens when the Treasury receives a tax payment. The Federal Reserve debits (turns a number into a smaller number) the reserve account of a bank, and the bank debits the checking account of whomever sent the payment. The net result here is that federal government spending adds to the quantity of reserves and deposits, while taxing decreases from it (as do bond sales, aka government "borrowing"), and it all happens via keystrokes. Or in short, the government does all of its spending by simply crediting bank accounts. It is not "spending tax dollars," it is changing numbers on spreadsheets. There is no possibility of it being unable to make a payment, no possibility of it being forced into bankruptcy or default, no possibility of interest rates being forced up because of government deficits (on a floating exchange rate), and no purely financial limit on government spending, only real resource limits.If you want to know more details about the exact procedure, all of the steps, as well as citations to back it up, check out these links:The Greatest Myth Propagated About The Fed: Central Bank Independence (Part 2): http://neweconomicperspectives.org/2014/01/greatest-myth-propagated-fed-central-bank-independence-part-2.htmlTreasury And Central Bank Interactions: http://neweconomicperspectives.org/2016/02/money-banking-part-6.htmlTreasury Debt Operations: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1825303And see how this incorporates into a broader heterodox worldview on the nature of money, as contrasted with the establishment orthodox views: http://neweconomicperspectives.org/2013/12/essays-monetary-theory-policy-nature-money.html—Watch the whole video here: https://www.youtube.com/watch?v=OCNXfNTAez0Follow Deficit Owls on Facebook and Twitter:https://www.facebook.com/DeficitOwls/https://twitter.com/DeficitOwlsAnd follow our sister page, Modern Money Memes:https://www.facebook.com/ModernMoneyMeme/https://twitter.com/ModernMoneyMeme
Posted by Deficit Owls on Wednesday, August 2, 2017
If you hear an MMTer (proponent of Modern Monetary Theory) say ‘taxes don’t fund spending’, assume either the speaker is simplistic, or the speaker thinks the audience being spoken to is simplistic.
How do we know that what Professor L. Randall Wray says here is being ‘simplistic’? Here you go, right from the horse’s mouth, the very first line in the video: “It’s complicated, but it can be simplified”…”and so I’m going to simplify it but the way I’m simplifying it is not at all misleading.”…”What I’m saying is a simplification but it is not dishonest at all”…”it’s not misleading you.” (When someone says something like ‘no bullshit’, 3x in a row, right before saying something, take a wild guess what’s coming next).
“If you go back to the colonies, every time, say the Colony of Virginia, they would pass a law authorizing the colonial gov’t to print money (paper Treasury notes), they also would pass a law to impose taxes…and the tax they imposed was equal to, would generate the amount of revenue, equal to the amount of (paper Treasury) notes they were going to issue”…”Do you know what they did with the paper notes they got back in tax collection?”…”They burned them.”…”That makes it very clear how it worked.”…”Did the Colony of Virginia need the tax revenue to make their payments?”…”Clearly not.” (Bullshit…What happened in Virginia was ‘clearly’ the exact opposite of that. In 1755, not only did taxes have to fund spending in Virginia, they had to start funding spending in England for the Seven Years War (a lot of more spending). British pound sterling, personal bills of exchange, promissory notes, Spanish silver coins, other gold coin specie, and even tobacco, beaver skins or wampum, were all accepted for payment in the colonies, were all considered ‘real money’, ‘hard money’, or ‘commodity money’ (what all combined then we today call ‘legal tender’). So what would happen if money in the colonies was put on a boat and sent to England to fund spending in Europe instead of funding spending in the colonies? Any ‘drain’ like that can create destructive deflationary forces. The solution would be to introduce another form of legal tender money of an equal amount of these lost tax revenues to reflate the money supply. Which is exactly what other colonies had done while paying military expenses for England’s other military expeditions before, and is exactly what Virginia did for this one in 1755).
“They needed the taxes to get the money back to burn it, to remove the notes from circulation, to prevent inflation, it was not to allow them to spend the revenue, they didn’t spend it, they burned it”…”Taxes clearly didn’t fund spending in Virginia in 1755.” (Bullshit…Taxes paid in paper Treasury notes were burned to prevent price inflation, yes, but that’s not the whole story. The rest of the story is that taxes paid in hard money funded (Virginia commonwealth) spending and some taxes paid in hard money was also sent to England to fund (European military) spending. How this worked: When any Virginia tax was paid in hard money like British pound notes or tobacco, which was 20% of taxes paid during the Seven Years War, most of that hard currency would be sent to England to fund spending. So to resupply that lost money, new paper notes would be printed and spent into the economy to maintain the stability of prices. If any Virginia tax was paid with the paper Treasury notes, which was 80% of taxes paid during the Seven Years War, because those paper Treasury notes were only legal tender in Virginia, only spendable in Virginia, those paper Treasury notes wouldn’t be leaving Virginia. A payment of Virginia taxes in paper Treasury notes meant no ‘drain’ of hard money from Virginia (no *literal* voyage of hard money away from Virginia’s economy), meaning an unchanged local ‘money supply’ of hard money. Therefore, a payment of Virginia taxes in paper Treasury notes meant no new paper notes were immediately needed to be issued and spent into the economy (to re-supply anything lost); so since those notes served their purpose, they were burned, a.k.a ‘redeemed’ (similar to the IRS today shredding any tax payment made in cash). Unlike the urgent need to issue new paper notes if taxes were paid in hard money (to control deflationary forces), the Commonwealth of Virginia may or may not have needed to issue new paper notes to replace taxes paid in paper notes (to control inflationary forces). What was really happening here, the actual teachable moment, was that this was the prototype of 20th century Fed open market operations that maintains price stability. Depending on whether the Virginian taxpayer made a payment in hard currency or not, the issuing and burning, the adding and draining, the easing and tightening of colonial Treasury notes, of money, to maintain price stability in 1755, was the precursor to the Fed buying and selling modern day Treasury notes from the secondary bond market for a similar reason).
“It was NOT to allow them to spend the revenue, because they never spent the tax revenue”…”They burned all the tax revenue.” (Bullshit…Professor Wray leaves out an inconvenient fact that doesn’t fit the ‘taxes don’t fund spending’ narrative, which is that they ONLY burned the paper Treasury notes, and NOT the tax payments made in British pound notes or tobacco bales that was also collected. They didn’t burn the personal bills of exchange or promissory notes that was also used to pay Virginia taxes, nor did they ‘destroy’ the Spanish silver coins plus other gold coin specie, those hard money payments of TAXES, WHICH FUNDED SPENDING in both Virginia and England starting in 1755).
“The Fed was created in 1913, we were an unusual country, we didn’t have a central bank, we got by without one.” (Bullshit……We weren’t ‘getting by without one’. Our country was suffering numerous banking panics and prolonged economic depressions without one. The Fed was the fourth attempt at a central bank that finally stuck. Sure, there was not a central bank in 1913, but what about those three other central banks we had earlier, the precursors of the Federal Reserve System, that because of populist opposition, did not have their charters renewed? Alexander Hamilton, our first Treasury Secretary, oversaw the chartering in 1791 of the First Bank of the United States, our second attempt at a central bank, which assumed all the Revolutionary War debt, and started collecting excise TAXES, WHICH FUNDED SPENDING).
“The Fed was created to be the Treasury’s bank, so instead of the Treasury just printing up notes in order to spend, and then receive them back and burn them, what the Treasury will do is have the Fed make their payments for them, so the Fed, since 1913 makes all the Treasury payments”…”If you’re a contractor selling something to the gov’t, the Treasury, they tell the Fed ‘please make a payment to this guy’s bank account’, the Fed credits you, the Fed credits your bank’s reserves, that’s how the Treasury spends”…”Now when you on April 15th pay your taxes, you write a check to the Treasury, the Treasury then tells the Fed to ‘please debit this guy’s bank account’, the Fed debits you, the Fed debits your bank’s reserves”…”So the Treasury spends by the Fed crediting bank reserves and the Treasury receives tax payments by debiting bank reserves, it’s functionally equivalent to burning the paper notes, so nothing I just told you is misleading.” (Bullshit…When you pay your taxes to the Treasury, before your tax dollars are ‘burned’ from your commercial bank, the Treasury tells the Fed to credit, to FUND, the Treasury reserves account at the Fed in the exact amount, to the penny, of your tax payment. It is a misrepresentation at best, or you sound like a fool at worst, telling people that their federal tax dollars just go *poof* and don’t trigger credits to other accounts. The MMT pillar is that since the federal gov’t is no longer spending gold backed dollars, and now spending fiat dollars, those taxes ARE NOT NEEDED to fund spending…not that they don’t. The paradigm difference is that in the post-gold standard, modern monetary system, for any issuer of fiat dollars, revenues as a financing operation takes the backseat).
The last line in the video: “That was beautifully simple…” (AGREED…It was beautifully simplistic).
Thanks for reading,
P.S. Another thing, the Commonwealth of Virginia in 1755 was a USER of currency (just like the State of Virginia today), so any MMTer that likes to say ‘taxes don’t fund spending’, may want to rethink ‘going there’ when talking about Virginia (no matter what time in history). Don’t get me wrong, Professor L. Randall Wray is one of the great ones; however, even the great ones do swing and miss sometimes, and saying ‘taxes don’t fund spending’ is a miss. Please know that I understand when any MMTer says it, that they mean well. There is no doubt in my mind that all MMTers understand that description of “the workings of the monetary system, what’s gone wrong and how gold standard rhetoric has been carried over to a nonconvertible currency with a floating exchange rate and is undermining national prosperity” (Mosler 7DIF). Warren Mosler, the father of MMT, has explained many times before why saying ‘taxes do not fund spending’, is wrong because the MMT pillar is ‘taxes ARE NOT NEEDED to fund spending’ (not that they don’t). Warren Mosler doesn’t say ‘taxes don’t fund spending’ because in his words, “it’s ambiguous.” In other words, saying ‘taxes don’t fund spending’ shows a lack of banking experience and a confusion with simple financial concepts like ‘funding’ (which gets ironically weird if MMTers say ‘taxes don’t fund spending’ while lecturing other people on banking and finance). Saying ‘taxes don’t fund spending’ also shows a lack of understanding that even though we left the gold standard, and we are now a monetary sovereign, some remnants, several old processes, many accounting constructs, US appropriation laws, of the past monetary system, ARE STILL IN PLACE, and we need to recognize these complexities. If we want to make the MMT case to experts in the field (the folks we need to change these pesky accounting rules and US laws), oversimplifications are not good enough for them. Whatever politics someone has, whatever spending on public purpose anyone wants, for the common good, for the country, is fine by me. I’m just trying to help the MMT cause by pointing out how ridiculous any MMTer sounds when saying ‘taxes don’t fund spending’, no matter how simplistic the choir (and how silly that choir looks when not challenging anyone sounding ridiculous).