How Modern Economies Works
Most national governments actually create their own currency. This means they can, and should, behave very differently than all the businesses, households, and local governments that use that currency.
The reason we have a currency is the same reason we have a government – to create, protect, and develop a society within our national borders. Countries desire to develop and improve their quality of life and the currency is their primary tool to do so.
The government can make investments in things like defense, research, health and education that serve even remote communities and are not profit-making.
In addition, when the government invests in these things the private sector does not have to go into debt in order to fund them. This allows private sector debt to be reserved for those things that are profitable or not for collective benefit, while the government makes those investments that serve society as a whole.
Countries can use their national currency to best utilize their available resources, develop domestic productive capacity, and raise living standards in ways that benefit all.
Can The Government Run Out of Money
In modern economies, almost all money is created via the banking system in the form of bank deposits. Banks play a large role in the economy, both in extending bank credit and as an agent for the flows of government currency in and out of the economy.
The U.S. doesn’t actually “borrow” dollars from China (or anyone else). Countries save the currencies of nations that buy their goods. China saves dollars because it sells more to the U.S. than the U.S. sells to China. China then uses US dollars as as collateral to make more money. Countries save the currencies of nations that buy their goods. Currency-issuing nations can’t “borrow” the currency they, alone, create. What we call the “National Debt” is not a debt in any normal sense; government bonds are there for savers, not as a form of government borrowing.
If Argentina borrows U.S. dollars, it has a real debt since it doesn’t issue U.S. dollars. But if China saves dollars gained from trade in U.S. Treasury bonds, what does the U.S. really owe China that it can’t “pay” using a computer? No amount of prior government deficits or future government promises to retirees or medical patients can prevent the U.S. government from being able to make every single payment that comes due in U.S. dollars. A nation that issues its own currency can never go bankrupt or be unable to pay its bills, as long as those bills are due in the money they create. That includes promises to bond holders to pay interest, promises to retirees to pay them a decent income in retirement, or promises to veterans or the general public to pay for their medical care. The availability of the real resources that can be obtained with the national currency is where limits lie.
Countries like Argentina that have amassed large debts in U.S. dollars owe their debts in a currency they do not and cannot create. They can definitely get into financial difficulty since they have to earn U.S. dollars via trade or attracting foreign investment to make their debt and interest payments.
Each time a business gets a loan for new equipment, or a household signs a mortgage for a house, the bank uses a computer to increase the deposit balance in the customer’s account. In other words, banks accept our I.O.U.s (our promises to repay) and issue their own I.O.U.s (bank deposits). They don’t “lend” other people’s money to “borrowers”.
Similarly, when we use a credit card to buy goods from a store, the store’s bank account is credited with the amount of the purchase. But credit card companies don’t “have” money to “lend”. They simply accept our I.O.U. (our promise to repay the balance each month) and they issue their own I.O.U.s to the store in the form of bank deposits. Each payment creates a new deposit – new money in the economy. Repaying your credit card removes bank deposits from the banking system, redeeming (or extinguishing) the IOU.
It far is better that the government continues to add more (or remove less) of its currency to compensate for trade deficits and keep the household and businesses from excess debt. It can do so forever without running out of money or becoming insolvent. The domestic economy almost always wants to net save money (they don’t want to spend all their income). The currency issuer has a responsibility to ensure that it is adding enough into the economy, net of taxes, to meet the desire for savers. If it doesn’t, it is like a public water utility that fails to supply enough water to meet the demand of businesses who use it in production and households that fill swimming pools. It would be irresponsible to let people go thirsty because they didn’t account for the extra water needs in the city.
Since currency-issuing governments make all their payments simply by crediting bank accounts using computer entries, they do not need to – and in fact can’t – “borrow” the currency they create on demand. Unfortunately, we’ve done ourselves a big disservice to use the word “debt” when we reference outstanding government bonds. It’s an unfortunate vestige from our gold standard days.
What we call government “debt” – e.g. Treasury bonds in the U.S. – can only be purchased with government currency (e.g. Central Bank reserves or settlement balances). In order to buy a bond, the purchaser must already have sufficient currency in a bank account to buy the bond. In other words, bonds are all purchased with bank account balances that were increased as a result of prior government payments.
Just as taxes cannot be paid until we first obtain the government’s currency, so also bonds cannot be purchased until the government makes enough of its currency available to bond buyers. Government payments for goods or services increase bank balances which can then be used to buy bonds, not the other way around. We need the government to spend its currency into the economy before we can buy the government’s bonds.
And hence the necessity of inflation to slowly remove the old debt off the books, as it becomes less and less value..
The system works well, it’s just archaic terms and fails to describe the functionality of the system, and due to that the bankers’ scams go unchecked as they skim off the transactions and use the I.O.U.s as collateral in an ever expanding wealth bubble that is mostly just a bunch of accounts with I.O.U.s built on top of I.O.U.s for a currency paying out I.O.U.s for I.O.U.s.
It’d work great and there would not be any corruption or repeated “banking collapses” if the transparency of what is going could be seen by everyone using the system, but once you expose the bankers as skimmers on 20X their deposits of I.O.U.s the system would fall apart as people lost faith in the current status quo.
As brilliant people... ten bankers get together and say we all have houses as collateral, why don’t we all make banks? Ten of us can get loans from each other for the houses we own and use the deposits as collateral for loans to allow another ten to twenty people to buy houses at inflated values and drive up the real estate market value so our houses our worth more.
See what I did? I just made everything a banker does transparent, so ten banks just took assets worth say $10m and ballooned into $100-200m of “bank assets” that increase the potential for house prices to rise... they take a figure out of their ass that says an employee can get a loan that takes payments of about 1/3rd of their income, or more in some cases, and say you can leverage your future income to by a $1m house... the money never existed and it’s been used to multiple the value of houses, etc. over the past decade or two. Nowadays nobody could afford a house if the interest rates were as high as they were in the 1980s...
The people who know all of this in the hedge fund industry utilize this and some neat details on market behaviors to extract money from markets at incredible rates of return.
All the while they are destabilizing the buffer that exists of assets by people who are trying to do something with assets, aka productivity...
So really, it’s a promise on a promise on a promise on a promise to do something that keeps this economy going... and those who are doing something are down to below 5% of the workers feeding the world and keeping the promises fed and alive,
Inside a nation, debt is relatively sane... as long as it isn’t being concentrated into a few hands. The problem with concentration of wealth is that less and less money is flowing to keep people motivated and thriving in a population that is usually expanding, so less productivity ends being
Money is just a carrot stick that motivates people to do something... that something is the conversion of time and energy to accomplish something, converted into a value that is temporarily stable — bankers always devalue currencies over time though, like something costing $20 in 1989 costs $40 today due to accumulated inflation.
Except some things have become so much cheaper today that we don’t fully see the inflationary devaluation of assets and wages, decreases in real wage value even with yearly bonuses and pay increases have gone down faster than inflation... so the real scam is that inflated money makes that carrot look a lot bigger but it’s really the same small carrot.