The Absolute State of Money in 2021
Jeff Deist: You recently completed a series of articles for the Mises Institute, which we will publish in book form, on how money works today. Why is it important for average people to understand the mechanics of the plumbing of central and commercial banks?
Bob Murphy: There’s two main reasons. First, it’s intrinsically interesting. That’s why I went into economics. Just like the average person should know the basics about physics and chemistry and Darwin’s theory of evolution, likewise, the average person needs to know: How does money work, how do banks work? Just the raw basics of it because it’s an important part of modern society, even premodern society, in terms of money. But beyond that, because central banks certainly since 2008 and even more so in the wake of the pandemic in 2020 have done lots of things that I believe are setting the world up for a series of major financial crises, and the average person needs to know about this.
JD: Considering the monetary and fiscal machinations engaged in by governments since the pandemic, it’s as though we lost any sense of what money is. It seems unlimited. People on Twitter tell us money is just information, or energy in a system.
BM: I do know what you’re saying. On the one hand, I can’t bristle too much when outsiders, people like Eric Weinstein, come forward and they say the economists have just botched it. I get why they’re saying it, because the economists have done such a poor job. It’s hard for me to say hey, stay in your lane, leave money to the economists. But, on the other hand, you’re right. We shouldn’t jump to the conclusion that the older-school economists and the ones in the Austrian tradition don’t know anything and that there’s no point in reading them. There are lots of fallacies that intelligent people who are not conversant with the economics literature might fall prey to, just like if you go into philosophy, there are lots of detours, and you would do well to take a basic course in philosophy to avoid fallacies that plagued people centuries ago. Likewise with money, there are lots of ways you can go down the wrong path, and some of these bright people who are spouting off on Twitter are just going over stuff that was demolished by Mises in 1912. They’re just repeating those fallacies and it’s because they never heard of it before.
JD: To be fair, the average Joe or Jane might well say money is just this made-up thing government tells us to use.
BM: Exactly, and it’s interesting because there is this sense in which money is a social convention, but it’s not merely a social convention. Just like spoken language is a social convention in a sense but that doesn’t mean words can just mean whatever you want. Money is a complex topic and it is easy to think of money incorrectly and certainly to then endorse government policies that would be disastrous because you don’t really understand exactly what money is or how it functions.
JD: We’ve heard two words ad nauseam over the past sixteen months: stimulus and liquidity. One is fiscal, one is monetary. Executives, Treasury officials, legislatures, and central bankers all throwing everything but the kitchen sink at the problem. Are fiscal and monetary policy effectively merging?
BM: I think you’re right that part of what’s been happening is the traditional divide between fiscal and monetary actions has been blurred. For example, during the Obama administration (this is back when this was shocking) there were four years in a row in which the federal deficit was higher than a trillion dollars. And that was also roughly when the Federal Reserve, implementing its independent monetary policy, with no concern about the budget needs of the government, was engaged in these rounds of QE (quantitative easing). And at the time, I didn’t think that was a coincidence, just like now I don’t think it’s a coincidence that the federal government is running massive deficits right when the Fed keeps adding to its balance sheet and buying Treasurys. I don’t think that’s a coincidence.
So yes, there is this merging. Then you’ve got MMT (modern monetary theory), for example, which quite explicitly just consolidates everything. They say that when the federal government runs a deficit and buys fighter jets, the Treasury instructs the Fed to mark up the checking account balances of Northrop Grumman or Lockheed Martin, or whoever makes them. I think that’s wrong. There are still some legal issues involved, and technically the Treasury can’t just spend whatever it wants and tell the Fed, “Mark up the checking account.” Legally speaking, that’s not how it works. But you’re right, conceptually that’s the way a lot of people, even with PhDs in economics, are starting to talk about it, so it is blending together.
There are some senses in which that approach is probably correct: like I said, it was naïve for mainstream economists to act as if what the Bernanke Fed did during the Obama years was purely because they were targeting CPI (Consumer Price Index) and doing it not because they knew, the feds are issuing this much debt; if we don’t want interest rates going up on Treasurys, we have to buy a bunch of them. So, it is merging, but still, conceptually, the old-school distinctions are important if people want to understand that, for example, a government that’s in a regime of hard money can still borrow money, just like corporations or households can go borrow money and that’s not per se inflationary, whereas in the modern system, yes, if the Fed or the central bank in general is monetizing the debt, that is inflationary. It’s important to get cause and effect distinct.
JD: Give us your quintessentially fair and objective description of MMT, along with your critique.
BM: What’s funny is I’ve actually formally debated Warren Mosler. If you jump into YouTube and look at the comments, they’ll say, “Oh, Murphy agrees MMT is correct, he just doesn’t like it.” It’s a very seductive approach they have where they’re casting themselves as saying, “Look, we’re not passing judgment, we’re just saying this is modern monetary, this is the way the modern financial banking system, government money system, works, take it or leave it, and you need to know this.” But at the same time, I don’t know of any MMT proponents who want the US government to return to its constitutional duties. It seems that the MMT sort of neutral, positive as opposed to normative description of how the world works almost always goes hand in hand with prescriptions for a massive expansion in government entitlements and other types of spending programs, intervention and healthcare, because they think they’ve shown we don’t need to worry about debt.
And, just to circle back, what do they do? They’re saying, unlike private sector individuals or corporations who have to use the money but are not sovereign issuers, the monetary authorities, the US government or the Japanese government, they have monetary sovereignty. They can issue their own currency. They don’t have to pledge to redeem it in some other currency. It’s not tied to anything.
After 1971, the US dollar is not redeemable in anything. It just is what it is, it’s its own commodity unto itself, there’s no actual constraint on the US government spending more money. And so they say, if we’re talking about if we should have Medicare for all, stop saying, “How are we going to pay for it?” I think that’s the fundamental point of the MMT crowd and I’m not putting words in their mouths. Stephanie Kelton, one of the major proponents right now, that’s how she talks. And so then you say, “Okay, there’s a sense in which that’s correct, but there’s also a sense in which that’s extremely dangerous and misleading.”
So yes, it is true, if the federal government wants to fund another moon shot, wants to put a base on Mars, wants to guarantee everybody’s healthcare and that’s going to cost $20 trillion in current prices, they could go ahead and just create that money. There’s nothing legally stopping them. But to me that’s a very dangerous thing to tell the public, because it leads them to believe they can do it without any bad consequences, when in fact, I would argue, doing that’s going to raise the dollar prices of goods and services. You’re not creating extra real resources just by creating dollars. Under a gold standard, for example, everybody would agree, it’s too expensive, it’s not worth it to try to build a Mars base any time soon. By freeing the Federal Reserve from the fetters of gold, you don’t all of a sudden give us better technology. You don’t all of a sudden make more spaceships available or bases that are half built on Mars. It’s the same use of scarce resources to achieve that outcome regardless of the financing mechanism. That’s what I would say, and the MMT people will give a nod occasionally too and say, “We know prices could rise. We’re just saying that’s the constraint.” But still, that’s very misleading.
The analogy I’ve used often is to say: Imagine a couple, they’re over the kitchen table and they’re scratching their heads and say, man, these finances. We want to pay for the kids’ college, but my job only pays this, and we just can’t afford that vacation next month. And then, what if somebody gave them the insight and said, “No, stop thinking like that. You could put on a ski mask and go hold up a 7-Eleven.” And then the couple says, “Wouldn’t we go to jail or be shot by the store?” The third party would then say, “Yes, that’s true, we’re not denying that, but let’s stop talking about it in terms of we can’t afford things. Instead, the issue is do we want to go on the vacation more than we want to risk going to prison?” That’s really the tradeoff you face, and there’s a sense in which that third party giving the advice to the couple is correct, but they haven’t really helped the conversation any by making the correction that financing the vacation’s not the issue here. It’s do you want to risk going to prison if you hold up the convenience store?
That’s what the MMT people bring to the table when they say, “Let’s stop saying we can’t afford Medicare or is the public willing to tolerate higher taxes, because we can just print the money.” You’re not helping anything and in fact, you’re just dangerously leading people to believe this is some financing mechanism that actually you would never want to endorse.
JD: In the MMT conception, when Uncle Sam creates debt—public debt—that debt is private wealth.
BM: Great point and you’re right, that’s another pillar of MMT, at least about how they talk to the public and flip around your thinking about everything you’ve heard about government finance.
JD: Like deficits.
BM: Yes. That’s another sacred cow they’ll tackle. And let me be clear, I understand why so many people have become enamored with MMT, and especially Stephanie Kelton’s latest book, The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy, is provocative as well. She’s a funny writer, and I can see how someone who’s willing to go down that path can read her book and say, “This is great.” Specifically what they’ll say is, “Don’t listen to these budget hawks, who say let’s stop passing the buck to our grandkids. If you think about it from an accounting perspective, the only way the private sector can accumulate net financial assets is if the government goes deeper into debt.”
The way they’re thinking about it is: if my pension fund accumulates corporate bonds, my pension fund might have more assets, but then that means the corporation that issues those bonds now has that extra liability, so on net, those members of the private sector just cancel out. They’re saying the only way the private sector as a whole can have claims on some entity that doesn’t internally can
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