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It’s of course a great privilege for me to be here in this role and especially on the occasion of the 75th anniversary of the publication of the General Theory.

Two years ago, as you may recall, our profession enjoyed a moment of ferment. Economists who had built their careers on inflation targeting, rational expectations, representative agents, the efficient markets hypothesis, dynamic stochastic general equilibrium models, the virtues of deregulation and privatization and the Great Moderation were forced by events momentarily to shut up. The fact that they had been absurdly, conspicuously and even in some cases admittedly wrong imposed even a little humility on a few. One senior American legal policy intellectual, a fellow traveler of the Chicago School, announced his conversion to Keynesianism as though it were news.

The apogee of this moment was the publication in the New York Times Sunday Magazine of Paul Krugman’s essay, How The Economists Got It So Wrong. And in it, I noticed, Krugman admitted, and I’ll quote, that:

… a few economists challenged the assumption of rational behavior, questioned the belief that financial markets can be trusted and pointed to the long history of financial crises that had devastating economic consequences. But they were swimming against the tide, unable to make much headway against a pervasive and, in retrospect, foolish complacency.

And I must say, looking out on this audience, it would be fair to say that there were more than just a few and it’s a pleasure to be here among you.

In keeping with mainstream practice, Krugman named almost nobody. So, in a reply essay entitled, Who Were Those Economists, Anyway?, I described the neglected, ignored and denied second and third generation work largely, though not entirely, in the tradition of Keynes which did get it right. I could have named many more than I did including many in this room.

Let me begin therefore here by distinguishing between the three major lines of Keynesian thought that did in fact get it right—that had bearing and application on the events through which we have just passed. And I will honor the well remembered and beloved by identifying these lines with Wynne Godley, Hyman Minsky and Galbraith père.

Godley, of course, worked in the Keynes, Kuznets, Kalecki, Kaldor tradition of macroeconomic models attentive to national income accounting identities and to consistency between stocks and flows. The virtue of this approach is clarity and a comparative lack of overreaching ambition. Models of this type say nothing false which may not seem like much, but it’s a huge advantage over the starting position in mainstream economics which consists of nothing which is true. And the models direct you to check whether factual claims make sense given everything that they may imply.

Thus, that the federal surpluses in the United States’ budget in the late 1990’s implied unsustainable private debts was clear to those working in this tradition at the time. Just as, the fact that household debt burdens were again unsustainable was clear in the 2000’s. Again, perhaps it seems like not much, because it is simply an argument rooted in the national income accounts, until you remember that policy in a country like the United States is very strongly influenced by the macroeconomic forecasting of institutions like the Congressional Budget Office which impose no such consistency constraints on their models and do not check to see whether forecasts in one area imply reasonable and plausible outcomes in another. For this reason, much of that work is essentially nonsense.

Hyman Minsky developed an economics of financial instability, of instability bred by stability itself, the intrinsic consequence of overconfidence mixed with ambition and greed. Minsky’s approach, very different from Godley’s, is conceptual rather than statistical. A key virtue is that it puts finance at the center of economic analysis, analytically inseparable from what is sometimes called real economic activity, for the simple reason that capitalistic economies are run by banks. And, of course, his second great insight is into the dynamics of phase transitions: the famous movement from the hedge position to the speculative position to the intrinsically unsustainable, doomed to collapse ponzi position which arises from within the system and is subject actually to formalization in the endogenous instabilities of non-linear dynamical models.

To grasp what Minsky is about, it seems to me, is to go immediately beyond the coarse notion of the “Minsky moment,” a concept which implies falsely that there are also non-Minsky moments. It is to recognize that the financial system is both necessary and dangerous, that strict financial regulation is both indispensable and imperfect. Right away the idiocy of a concept like the “Great Moderation” becomes apparent. Just as with any machinery from an automobile to a nuclear reactor, a long record of stable performance does not prove that the controls and the backup systems are perfect anymore than it can show that they are unnecessary. Argument otherwise, whether made by the head of the central bank or an applicant for a license extension before the Nuclear Regulatory Commission is the mark of a crank.

The Galbraithian line, is allied to and descended from Keynes in the same sense that my father’s work was; accepting the central role of aggregate effective demand, the national income accounts, the credit circuit view of economic life and the financial instability hypothesis. But, it is also embedded in a legal institutionalist framework, rooted in pragmatism, framed by Thorstein Veblen and John Commons, forged in the political economy of the New Deal in the United States. This tradition emphasizes the role played in financial crisis by the breakdown of law and the failure of governance and regulation — and the role played by technology as a tool in the hands of finance for the purpose of breaking down and evading the law.

I want to stress this today, and not just for family reasons, because I think it remains the least familiar of the three, I would say, broadly Keynesian lines of analysis are most pertinent for an understanding of what we’ve been through and are still going through.

When you engage the mainstream on the national income accounts, at least they know what the damn things are. And these days you can even get, though for who knows how much longer, a respectful mention of Minsky even from someone like Larry Summers, if not any sign that he has actually read him.

What you cannot get – not at a meeting sponsored by the International Monetary Fund, not from the participants at the Institute for New Economic Thinking – is any serious discussion of contract law and fraud. I’ve tried, repeatedly. No one will deny, in response to the question, the role that fraud played in the financial debacle. How could they? But they won’t discuss it either. And it seems to me, this reflects a logic which bears pursuing.

Why not? Why is this one of the great taboo topics of our modern economic history? Well, personal complicity, frankly, plays a role among present and former government officials, regulators, consultants and the academics who advised them and those who either played the markets or took fees from those who did.

At the INET conference at Bretton Woods, a few weeks ago, Mr. Summers stated that he was — it was a wonderful phrase — that he was not among those who regard financial innovation as necessarily evil. I took a note as I heard him say that, I thought that really bears quoting.

There is a web of negligence and complicity here. Of culpability, abetted by the way universities are funded and by what they teach.

But it’s more than that. Let me try to frame it in somewhat more abstract terms. I would say that the commodity is the foundation stone of conventional economics. That the theory of exchange requires the commodification of tradable artifacts. Without that, there is no supply and demand. A world of contracts, each backed by a separate and distinct set of promises each only as good as the commitments made specifically and the ability of the laws and courts to enforce them, is a different sort of world. Just because you can call a set of such contracts by a name, “collateralized debt obligation” or “credit default swap”, and just because you can create something — you may even be able to create something called an exchange to trade them on — does not make them into commodities with a meaningful market price.

Complexity here is what is going to defeat the market with, in principle, infinite variability, and in practice, more distinct features than one can keep up with. In great volume, contracts of these kinds are per se hyper-vulnerable to fraud. Examples range from the New Jersey phone company that simply printed made-up fees on its bills hoping that no one would notice and for a long time nobody did, to the fact that almost no one at the insurance giant AIG realized that the CDS contracts they were selling contained a cash collateral clause, something that would cost them billions at a time when they didn’t have access to the cash. They range from unnoticed provisions permitting CDO managers to substitute worse for better mortgages in previously sold packages without notifying the investors, to the Mortgage Electronic Registration System and the pervasive incentive to document fraud in the foreclosure process.

The concession that fraud was present in this process is like the phrase, “Minsky moment.” Although true and although it concedes something, it doesn’t begin to cover the case. Even to say that fraud overwhelmed the system doesn’t go far enough.

I highly recommend to you, if you haven’t done so, that you read the Financial Crisis Inquiry Commission Report just published in the United States, or the even more recent report of the Senate Permanent Committee on Investigations, the many reports of the Congressional Oversight Panel and the report of the Special Inspector General for the Troubled Asset Relief Fund, SIGTARP. These are, by the way, very, very good documents prepared by serious public servants and it’s plain as day. Fraud was not a bug in the system, it was a feature. The word itself, along with abusive, egregious, reckless and even criminogenic suffuses these accounts of what went on.

Godleyans teach that stocks can not be separated from flows. Minskyans teach that finance can not be separated from reality. And my father’s tradition is that the legal and the technological can not be separated. The financial world, as it exists, has nothing to do with the commodity world of real exchange economics with its delicate balance of interacting forces. It is the world of technology at play in the form of quasi mass produced legal instruments of uncontrolled complexity. It is the world of, in other words, of evolutionary specialization in the never ending dance of predator and prey. In nature, when predators achieve an overwhelming advantage, the prey suffer a population crash, from which the predators in turn suffer later on. In economics it’s a financial crash, but process and dynamics are essentially similar.

Corporate fraud is not new; financial fraud is not new. What was new here was the scale and complexity of debt obligations, backed by mortgages. Mortgages are not like, say, common stocks which although issued in the millions are each an identical claim on a company’s net worth. Mortgages are each a claim on the revenue stream of a different household, backed by homes of a diversity made irreducible by the simple fact that each one is in a different place. Long-term mortgages have existed since the New Deal, in the U.S., but they were rendered manageable for decades by their simple uniform structure, their substantial margin of safety and the fact that the secondary markets were public and imposed standards on what could be issued and on what could be passed on to the agencies created for refunding those markets. And what this meant was that supervision was possible. There could be a well understood code covering what was right and what was wrong along side practitioners who understood the ethics of the matter and enforcement officers who could work with them fairly smoothly for the most part and intervene when abuses became apparent.

In the computer age, on the other hand, we entered the world of private labeled securitization, of negative amortization payment optional Adjustable Rate Mortgage with a piggyback to cover the down payment. Oh, and documentation optional.

There was a private vocabulary, well-known in the industry, covering these loans and related financial products: liars’ loans, NINJA loans (the borrowers had no income, no job or assets), neutron loans (loans that would explode destroying the people but leaving the buildings intact), toxic waste (the residue of the securitization process). I suggest that this tells you that those who sold these products knew or suspected that their line of work was not one hundred percent honest. Think of the restaurant where the wait staff refers to the food as scum, sludge and sewage.

To learn as we do from the excellent book by Bethany McLean and Joe Nocera, All the Devils are Here, that at the dominant mortgage originator in the United States, Ameriquest, the office chiefs fed their sales staff crystal methamphetamine to keep them going. It just adds a touch of telling detail, as does the fact that the founder of Ameriquest ended his career as the United States Ambassador to the Netherlands.

Rendering such complex and numberless debt instruments comparable requires a statistical approach based on indicators. And that launches into a world which was not imaginable in, say, 1927. The world of credit scores, ratings and algorithms, a world of derivative and super derivative instruments of sliced and diced residential mortgage backed securities, collateralized debt obligations, synthetic CDOs, synthetic CDOs squared, credit default swaps — all designed to secure that triple-A rating and to place the instruments which had been counterfeited to begin with — they looked like mortgages but were not really mortgages. Laundered, that is to say, transformed from the trash that they were into a triple-A security and fenced, which is to say, sold to the legitimate investment market by an intermediary called a commercial or an investment bank. To place these counterfeit, laundered and fenced instruments into the hands of of the mark. The mark. And who was the mark? Michael Lewis, in the The Big Short tells us who the mark was. The mark had a name in the industry, they would say, “who are we selling this stuff to?” And the answer would come back, “Düsseldorf.”

The Texas institutionalist, Clarence Ayres, to bring you a voice from my home territory in Austin, Texas, stressed most strongly the role of technology and the irreversible contribution of new tools to the production process. In finance, it’s the algorithm that is this tool, it seems to me. A radically cheap substitute for underwriting, a device for converting the financial gain into a computerized casino in the strict sense where one can never be sure by how much the house is bending the rules. We observed only, as I’ve already mentioned, that no one at AIG FP knew they had cash collateral clauses in those contracts, that the holders of synthetic CDOs did not know that they were getting a worse mortgage substituted for a better one, that the ratings model did not factor in the default risk when mortgages were issued with two-year teaser rates and so on and so forth.

Keynes, I think, understood these issues very well so far as they went in his time as an active player in the speculative markets. And this is what led him to argue that those markets should be small, expensive to access and restricted to those who could afford to play and lose. He did not think they should be repressed entirely, partly because he enjoyed them and partly because as he famously said, it is better for a man to tyrannize over his bank balance than over his fellow man. But in Keynesian terms, it seems to me, what we have seen since the financial crash should be no surprise at all. That is to say, the failure of the world economy and particularly of the financialized economies of Europe and North America, to recover from this debacle is a product of the character of the debacle itself. Absolute distrust, leading to absolute liquidity preference is the incurable consequence, it seems to me, of financial fraud.

I say incurable. This is the diagnosis if an irreversible disease. The corruption and collapse of the rule of law, in the financial sphere, is basically irreparable. It’s not just that restoring trust takes a long time. It’s that under the new technological order in this field, it can not be done. The technologies are designed to sow and foster distrust and that is the consequence of using them. The recent experience proves this, it seems to me. And therefore there can be no return to the way things were before. In other words, we are at the end of the illusion of a market place in the financial sphere.

Let me take this analysis and bring it to bear momentarily on Europe. We speak in a common place way these days of the Greek crisis, the Irish crisis, the Portuguese crisis and so forth, as though these were distinct financial events. This fosters the impression that each can be resolved by appropriate agreement between the creditors, headquartered in Frankfurt, Brussels, Berlin, Paris, and the debtors taken one by one. Good behavior, taking the form of a suitable austerity will be rewarded by a return to normal credit conditions and market access. That, at least, is the official presumption. The financial market, in this imagery, is severe but fair, she cracks the whip on the profligate but praises and rewards the prim. 

But that Greece has a weak tax system and a big civil service was hardly news. It’s a fact that’s been true for decades, overlooked in the good times and surfaced when convenient. That Ireland had a housing boom that was intrinsically unsustainable was surely hardly news. The initial shock to Europe didn’t come from the discovery of these facts, it came from American mortgage markets. When European banks and other investors realized the extent of their losses, beginning in late 2008, they looked for ways to protect themselves and they did this as any sensible investor would, by selling the weak assets and buying strong ones: German, French bonds and above all United States treasuries. That is why yields rose on all the small peripheral countries and fell on the big ones despite the very different circumstances in the countries that were badly affected.

It’s obvious that Greece cannot implement the programs demanded of it without crashing its GDP, and driving up its debt to GDP ratio on that account. But even if it could, any event, affecting any European country, or for that matter, some place else in the world, could sink Greece again irrespective of what Greece does. So, there is no national policy solution and no financial market solution. That is the meaning of the negotiations now underway in Luxembourg and elsewhere. There will be a restructuring or a default, and there must be an economic and not merely a financial rescue. And beyond that there obviously must be not only a new European architecture, but a new financial architecture that is not built around the banks as they exist today and the credit markets as they came to exist in the period before the crisis. Either that or the depression in Europe will simply go on and on. Until eventually the European Union falls apart.

That’s what I mean when I say that practically speaking what we’re dealing with here and what we need to recognize is not an interruption to a long process of economic growth, a recession or some shock to aggregate demand. It is an incurable disease at the heart of the system.

Our challenge as Keynesians, now, is to work out the practical implications of this reality and to spell out a course of action. And perhaps the first step that we should take, it seems to me, is clearly to condemn what I’ll call the False Keynesianism that came briefly to power with the new Administration in America in 2009.

In January of that year, as you recall, the new Administration announced the need for stimulus or a recovery program. Without it they calculated unemployment might rise as high as 9% by 2010 before beginning to decline again. With it, they forecast unemployment would be held to 8%, recovery would begin in mid-2009 and by early 2011, that is to say now, unemployment would be down to 7% on its way back to 5% by 2013. It’s 9% in the United States, as we speak.

The forecast was a political and an economic disaster, but in retrospect, it’s most interesting for what it tells us about those who made it. Plainly they did not understand, perhaps they did not wish to understand, what was going on. They adopted the assumption of a glide path back to 5% unemployment, which meant that the natural rate of unemployment — the most un-Keynesian and anti-Keynesian concept ever devised in modern economics was built into the mentality and the computer models that they were using. The only issue was the speed of adjustment and whether a little boost would help us get there a little faster. The stimulus package was not meant to provide a substantive response to the crisis, but just to increase that speed of adjustment by a small amount.

Plainly, in short, there was no real crisis in the minds of those who took office in 2009. There was just an unusually deep recession, a Great Recession it came to be called, and the recession would end. Chairman Bernanke of the Federal Reserve Board said from the beginning, the recession will end, the economy will recover. He did not say how he knew, but when it did he was sure things would return to the normal prosperity of the mid-2000s. It was the mindlessness of output gaps the consensus business cycle forecasting and of Okun’s law. The Minsky moment would surely pass.

This is a bad movie and we have, of course, seen it before. You may recall that in 1960 the Uncle of, as it happens, of Larry Summers, co-invented a concept called the Phillips curve, stipulating on very weak empirical evidence and no clear theory the relationship between the unemployment rate and the rate of inflation. True Keynesians, including my teacher, Nicholas Kaldor, Joan Robinson, Robert Eisner, a great hero of mine, and my father were appalled. The construct was doomed to collapse and when it did, after 1970, the school that most people thought of as Keynesian was swept away in the backwash. 

Today, the failure behind the recovery forecast is conflated with the failure of the stimulus itself and the same thing is happening again. Those who failed most miserably to forewarn against the financial crisis have, as a consequence, regained their voices as scourges of deficits and public debt. There is a chorus of doom as those who once thought the new paradigm could go on forever are now inveighed against living beyond our means and foretell federal bankruptcy and the collapse of the dollar and the world monetary system amongst other scary fairy tales. This includes such luminaries as the leadership of the International Monetary Fund and of all things, the analytical division of Standard and Poor’s — an enterprise on which one might hope at least a small amount of modesty might have developed or devolved in the wake of recent events.

It would be pathetic if it were not so dangerous. But the fact is, these forces are moving down a highway which has been cleared of obstacles by the retreat, indeed the destruction of the False Keynesian position.

So it’s our task, it seems to me, against the odds, to build a new line of resistance. And I’ll wind up by saying that I think that line must have at least the following elements in it:

First, an understanding of the money accounting relationships, that pertain within societies and between them, so that we cannot be panicked by mere financial ratios into self-destructive social policies or condemn ourselves to lives of economic stagnation and human waste. And in particular I should add, since it’s important in Denmark at the moment, to the destruction of social welfare systems and pension systems which provided the foundation of a decent life for a large part of the population for decades.

Second, an effective analysis of the ongoing debt deflation, the banking debacle and the inadequate fiscal and illusory monetary policy responses so far. In America and in Europe, this is a crisis primarily of banks not of governments and it’s for us to call attention to this fact. 

Third, a full analysis of the criminal activity that destroyed the banking sector, including its technological foundation, so as to quell the illusion that these markets can effectively be restored to anything like their form of 4 or 5 years ago. As part of this, obviously, it would be useful to have a renewed commitment to expose crime, to punish the guilty, and enforce the laws. Post Keynesian Economists for a More Effective FBI, I think is a splinter organization I would be happy to sponsor and solicit your membership in.

Fourth, an understanding of the way in which financial markets interact with the changing geophysics of energy, especially oil, with the commodity markets to choke off economic recovery unless the energy problem is addressed squarely. I think that’s something that we’re seeing happening now.

Fifth, a new strategic direction to redesign and rebuild our societies for the challenges of aging, infrastructure, energy, climate change and shared development which we all face. And to create the institutions required to make this happen. That requires, I think, from an intellectual point of view, a merger of the Keynesian, Post-Keynesian and the Institutionalists traditions which is, in fact, something that is already underway.

Sixth, to achieve these goals by mobilizing human brains and muscles to overcome unemployment and to assure a widely-shared, decent, and reasonably egalitarian society according to the most successful and enduring social models, by which I mean a commitment to the deepest policy principles that Keynes himself held and also an understanding that we should use history as a guide to what has worked and what does not.

And seventh, the reconstruction of the instruments of public power — the power to spend, the power to tax, the money power and the power to regulate — so as to effectively pursue these goals with democratic checks and balances to prevent the capture of new state institutions by predatory forces.

I will not pretend, as Keynes did, that nothing stands in the way but a few old gentlemen in frock coats who require only to be bowled over like nine pins and might enjoy it if they were.

We should take on this challenge simply as a matter of conscience. We are not contestants for power. It is for us a matter of professional responsibility and civic duty.

My friend Bill Black, who has some experience in this area, likes to say, in the words of William of Orange, that it is not necessary to hope in order persevere.

Thank you very much, for the pleasure and honor of making these remarks.

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NOTE: Remarks above were transcribed from the audio file at UTIP. All errors are mine. — selise

x-posted at fdl and dailykos. see also post at naked capitalism — selise

Prof. Stephanie Kelton explains why in her response to CPC Co-Chair Representative Keith Ellison:

Maddening! The Clinton surpluses were driven by the dot.com bubble and unsustainable private sector deficits. When the bubble burst, stocks crashed, the economy went into recession, and the surplus quickly reversed itself. It was only AFTER the government’s budget moved sharply into deficit that the private sector was able to get out of the red. All of this would happened even without 9/11, the wars in Iraq and Afghanistan, the subprime crisis, etc. We cannot keep relying on asset bubbles (stocks, housing, whatever) to drive economic growth.

The simple fact is this: A GOVERNMENT SURPLUS IMPLIES A DEFICIT IN THE PRIVATE SECTOR. And the private sector, unlike the public sector, cannot survive when it’s running a deficit. Anyone who does not recognize this simple fact (intuitively or empirically) should not offer commentary on matters of such significance.

Government Deficits allow the private sector to net save financial assets. Balance the budget, and the private sector loses financial assets. Run a government surplus, and you drive the private sector into deficit.

Someone in Washington better figure this out pretty damn quick, or our children and grandchildren are going to be burdened like never before.

The Ph.D. Economists who blog here understand:

http://neweconomicperspectives.blogspot.com

Excerpts from This Is Our Moment by Representative Keith Ellison:

America has an historic opportunity. We have the chance to address our budget deficit in a manner not seen since President Bill Clinton created a budget surplus in 1999. And if we do it right, we could pave the way for a vibrant American economy based not on gimmicks like giveaways for special interests, but on job creation for working Americans. As co-chair of the Congressional Progressive Caucus, I urge us to avoid a default on the faith and credit of the United States while protecting Medicare, Medicaid and Social Security.

The Congressional Progressive Caucus stands with the American people. Long before Republicans took our economy hostage, we introduced the People’s Budget, the most fiscally responsible deficit plan introduced this year. The People’s Budget would eliminate the deficit in 10 years. Economists across the political spectrum have called it courageous and responsible. Introducing this budget was one of my proudest moments as a Member of Congress, because it shows the power of Progressive policies and values. Creating an economy that reduces deficits and creates jobs is a progressive value, not just a slogan as it is for the Tea Party.

As the People’s Budget has proposed, and the president has affirmed, our solution must reflect the same values that have motivated us historically. We believe in a fiscally healthy America because it leads to an economically healthy America. A balanced budget is critical precisely because it allows us to maintain the services that the middle class depends on. Any deficit deal that takes money away from seniors and American workers who rely on Social Security, Medicare, or Medicaid undermines the original goal of deficit reduction. Any deficit deal that cuts food stamps but pampers the wealthy is not only bad for the most vulnerable Americans, but damages our fiscal health.

See Warren Mosler for more: Kelton responds to the Progressive Caucus Co-chair

Dear Representative McGovern,

My name is xxxx xxxx. I am writing to ask you to take a leadership role in resolving the unnecessary federal budget debt limit crisis.

Thank you for your statement, “any cuts to Social Security, Medicare and Medicaid should be taken off the table” and also for recognizing the grave risk an unnecessary default poses for our Country.(1)

However, it is past time for you to do more. An unnecessary crisis has been allowed to develop that threatens not only Social Security, Medicare and Medicaid, but also the economic well being of our entire Nation.

The current debt limit crisis is unnecessary because the Administration has the power to prevent a default. There are at least two mechanisms by which the debt limit deadline can be circumvented: President Obama can invoke the 14th Amendment, a method former President Bill Clinton has endorsed(2), or President Obama can instruct the Treasury to mint a $1 Trillion dollar platinum coin to be deposited at the Federal Reserve.(3)

The current debt limit crisis is based upon false premises about the nature of Federal Government deficits. Many innocently false statements have been made and these statements must immediately be corrected in order to properly and accurately inform both your Colleagues in Congress and the American People of the basic economic facts.

For example, “a responsible deficit reduction plan is vital to our nation’s sustainability,”(4) is a false statement when applied to the Federal Budget. The Federal Government’s deficits are not something bad — they are savings for the rest of us. We don’t need increased tax revenue or less Federal Government spending; on the contrary, we need tax cuts and/or increased spending.(5)

For more information on these issues, please see the enclosed:

1. Online references notes.
2. A copy of Warren Mosler’s book, The 7 Deadly Innocent Frauds of Economic Policy (forward by James K. Galbraith)

I urge you to contact James K. Galbraith, Warren Mosler and L. Randall Wray for expert advice. Conventional wisdom is profoundly and dangerously wrong.

Please use all possible means at your disposal to educate yourself and your staff and then to communicate to your Colleagues and to the American People how unnecessary the debt limit crisis is and what must be done to end it.

Representative McGovern, this may very well be a once in a lifetime, “whose side are you on” moment. Don’t let your Country down.

Sincerely,

xxxx xxxx

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1. U.S. Rep. McGovern, Progress Caucus members issue letter to President Obama demanding for Social Security, Medicare and Medicaid to be off the table in debt ceiling talks.
   http://mcgovern.house.gov/index.cfm?sectionid=15&parentid=168&sectiontree=168,15&itemid=529
2. Exclusive Bill Clinton Interview: I Would Use Constitutional Option To Raise Debt Ceiling And “Force The Courts To Stop Me”
   http://www.nationalmemo.com/article/exclusive-former-president-bill-clinton-says-he-would-use-constitutional-option-raise-debt
3. Why Matt Yglesias and Felix Salmon are Wrong About A Legal Way to Circumvent the Debt Ceiling Impasse
   http://www.nakedcapitalism.com/2011/07/why-matt-yglesias-and-felix-salmon-are-wrong-about-a-legal-way-to-circumvent-the-debt-ceiling-impasse.html

   QE3, Treasury Style—Go Around, Not Over the Debt Ceiling Limit
   http://neweconomicperspectives.blogspot.com/2011/07/qe3-treasury-stylego-around-not-over.html

   Obama’s Top Secret Plan to Solve the Debt Crisis
   http://balkin.blogspot.com/2011/07/obamas-top-secret-plan-to-solve-debt.html

4. U.S. Rep. McGovern, 69 other House Democrats send letter to President Obama urging no cuts to social safety net
   http://mcgovern.house.gov/index.cfm?sectionid=15&parentid=168&sectiontree=168,15&itemid=530
5. Hawk Nation: A Guide to the Catastrophic Debt Ceiling Debate
   http://www.newdeal20.org/2011/07/11/hawk-nation-a-guide-to-the-catastrophic-debt-ceiling-debate-51211/

   A Progressive Approach To Federal Budgeting
   http://my.firedoglake.com/lrwray/2011/07/06/a-progressive-approach-to-federal-budgeting-or-can-one-take-billionaire-pete-peterson’s-money-and-remain-progressive/

   The 7 Deadly Innocent Frauds of Economic Policy
   http://moslereconomics.com/2009/12/10/7-deadly-innocent-frauds/

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NOTE: x-posted at fdl and dailykos — selise

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By WARREN MOSLER

MMT to President Obama and Members of Congress:

Deficit Reduction Takes Away Our Savings

SO PLEASE DON’T TAKE AWAY OUR SAVINGS!

Yes, it’s called the national debt, but US Treasury securities are nothing more than savings accounts at the Federal Reserve Bank.

The Federal debt IS the world’s dollars savings- to the penny!

The US deficit clock is also the world dollar savings clock- to the penny!

And therefore, deficit reduction takes away our savings.

SO PLEASE DON’T TAKE AWAY OUR SAVINGS!

Furthermore:

There is NO SUCH THING as a long term Federal deficit problem.

The US Government CAN’T run out of dollars.

US Government spending is NOT dependent on foreign lenders.

The US Government can’t EVER have a funding crisis like Greece — there is no such thing for ANY issuer of its own currency.

US Government interest rates are under the control of our Federal Reserve Bank, and not market forces.

The risk of too much spending when we get to full employment is higher prices, and NOT insolvency or a funding crisis.

Therefore, given our sky high unemployment, and depressed economy,

An informed Congress would be in heated debate over whether to increase federal spending, or decrease taxes.

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NOTE: Please read Warren Mosler’s book, The 7 Deadly Innocent Frauds of Economic Policy, with forward by James K. Galbraith. — selise

also x-posted at fdl — selise

________________

A PROGRESSIVE APPROACH TO FEDERAL BUDGETING: Or, Can One Take Billionaire Pete Peterson’s Money and Remain Progressive?

By L. Randall Wray

Yves Smith set off a firestorm in her criticism of several progressive groups that have joined forces with Pete Peterson to whip up deficit hysteria. There are three issues that need to be addressed:

1. Can a progressive take tainted money and remain progressive?
2. Did the Roosevelt Institute (in particular) take tainted money and remain progressive?
3. What would a progressive approach to federal budgeting look like?

Let me dispense with the first question rather quickly. Pete Peterson’s money is tainted by his ideology and his mission, however, he has not so far been convicted of felonies. In my view, a progressive can take his money but only on the condition that the money is used to fight his agenda tooth and nail.

Turning to the second question, let us first examine the Roosevelt Institute’s defense of its research and the budget produced on Peterson’s purse strings. Here are two attempts, published at FDL:

[S]tudents from our Campus Network expressed serious interest in proving that their progressive vision for America’s future — originally captured in the Blueprintfor the Millennial America — was not only innovative, but also achievable from a fiscal perspective. With that in mind, our organization, in consultation with our board of directors, agreed that our Campus Network should participate in a program sponsored by the Peterson Foundation to develop a budget plan. Other participating organizations included the Economic Policy Institute (EPI), Center for American Progress (CAP), Bipartisan Policy Center, American Enterprise Institute, and Heritage Foundation. It not only represents the unfiltered and untainted voice of the Millennial generation, it is also a powerful contribution to the current budget debate that can stand up in any forum.

Source: http://my.firedoglake.com/rooseveltinstitute/2011/06/06/speaking-truth-to-power/

Our Budget for the Millennial America is based off this vision—a vision that was developed entirely independently of the Peter G. Peterson Foundation. Its contents represent the compromises that our students made in order to produce a coherent proposal. It’s a plan to build the future we want to inherit together; the fact that it reduces debt to 60% by 2035 is secondary.

Source: http://my.firedoglake.com/rooseveltinstitute/2011/06/10/millennial-budget-offers-hope-ideas-for-progressives/

Finally, if one actually goes to the RI’s website to look at the report, here is what one finds:

How can one take seriously the claim that debt reduction was only “secondary”? The homepage for the report prominently features “debt reduction”. One supposes that the title of the first defense (“Speaking Truth to Power”) is meant to be ironic—how is adopting Peterson’s view that debt must be reduced an affront to power? If the title of the report had been “The Roosevelt Institute Soundly Rejects Pete Peterson’s Attempt to Whip Up Deficit Hysteria”, that would be speaking truth to power.

So the answer to the second question is “No”—the RI produced a report that sent Peterson grinning all the way to the bank, as his investment paid off handsomely. He got a nominally progressive organization to endorse the view that producing a budget through to 2035 that shows federal government debt reduction relative to GDP is “progressive”. The RI signed on to the deficit hyperventilator’s agenda. As they say, that is “priceless”.

On to the third question: what would a progressive approach to federal budgeting look like? Here I need to (quickly) address three issues. Because of space constraints I will need to summarize some arguments treated more fully elsewhere (citations provided): a) cyclical deficits created by the global crisis; b) structural deficits (longer term fiscal stance); and c) federal budgeting. (For much more on all these topics, including some blogs by yours truly, please go to: New Economic Perspectives and to a “primer” at Modern Money Primer.)

With regard to current budget deficits, there is no question that the economic crisis has reduced government tax collections at all levels; at the same time, government spending to deal with the economic calamity wrought by Wall Street rose. No matter what Congress does, the federal budget deficit will not come down significantly until the economy improves—it can try deficit cutting “until it is blue in the face” but that will only make the economy worse, lowering tax revenues and increasing the lines at the unemployment office. You do not have to be a progressive to agree with this—all sensible economists across the political spectrum agree. Even the most conventional analysts would worry about the short-term deficit only once we recover and inflation picks up due to an overheated economy. We are somewhere around 8% of GDP and 15 million jobs, and many years, away from that.

What about longer-term trends? The deficit hysterians like to talk about runaway government spending. First let us look at the past couple of decades—has government spending got out of control?

Recall from your Econ 101 course that the aggregate measure of a nation’s output of goods and services (GDP) is equal to the sum of consumption, private investment, government purchases, and net exports (for the US that is of course negative). We can further divide investment into residential (housing) and nonresidential (investment by firms). Finally, we can divide government spending between federal government and state and local government. The following chart graphs the domestic components of GDP (net imports are left out), indexing each component to 100 in 1990. (This makes the scale easier to show in the graph, and simplifies comparison of growth by component. For example, if consumption spending doubles between 1990 and 2000, its index increases from 100 to 200.)

What we see in this graph is that the slowest growing component over the two decades was federal government spending—it actually did not grow much until the term of President George W. Bush. (A substantial portion of federal government growth since 2000 can be attributed to our multiple wars, as well as to domestic spending on security in the aftermath of 9-11.) This graph certainly does not show that federal government spending has been growing fast.

But there are two blades to the deficit scissors: maybe tax revenue growth has been slow, causing chronically rising deficits? Indeed, many liberals blame “Bush Tax Cuts” for deficit woes. They contrast the post 2000 experience with the “Goldilocks” economy of President Clinton, when budget surpluses were achieved. In their view, the tax cuts for the rich have destroyed the federal government’s ability to raise sufficient revenue—which generates structural budget deficits.

Here is the reality. In the late 1990s (pre-Bush) the growing economy generated rapid growth of federal tax revenue, which reached a growth rate of 10 percent per year (far above government spending, which was growing at about 3 percent per year)—leading to the Clinton surpluses. (For an early, 1999, analysis, see this: Surplus Mania: A Reality Check–sometimes there is no benefit to getting it right!.) In truth, this rapid growth was due to the discovery of the “bubbleicious” pump and dump dot-com economy—it had nothing to do with “fundamentals”. The economy then crashed, and a deficit was restored as government tax receipts plummeted at record, nearly Biblical, rates—beginning an unprecedented four-year fall. Yes, the Bush tax cuts helped, contributing to a 15% annual rate of decline of federal tax revenue. But recovery turned that around—quickly, thanks to the pumping of two other bubbles: real estate and commodities. Bush had rediscovered bubblemania first used by the Clinton troika of Greenspan, Rubin and Summers and then by Paulson, Greenspan, Bernanke and Geithner.

By 2005 federal tax revenue was growing at an historic rate of 15% (over twice as fast as GDP and government spending) in what will be remembered as the biggest speculative boom in human history. Deficits continued to fall rapidly through the real estate, commodities and equity led boom, until the global financial collapse. And that is WITH the Bush tax cuts. In other words, even after the tax cuts for the rich, the federal government’s budget remained biased so that tax receipts grow at a prodigious rate (far above government spending or GDP growth) when the economy is robust. The problem is that this “fiscal drag” always crashes the economy—which crashes tax receipts and causes the budget deficit to grow.

The following graph (produced by Scott Fullwiler) is doubly handy because it shows government balances as well as the balances of the domestic private sector and foreign sector. I will turn to those other balances in a second. Note that we have divided each sectoral balance by GDP (since we are dividing each balance by the same number—GDP—this does not change the relationships; it only “scales” the balances expressing each as a percent of GDP).

A government budget deficit (in red) is shown below zero—and almost all the red is below the line because the government almost always runs a deficit. The domestic private sector, on the other hand, almost always runs a surplus—so there is a lot of blue above the zero line. Finally, we have run large current account deficits on a persistent basis since the Reagan years—shown as green. Because we are viewing this from the perspective of the foreign sector, it is positive (the capital account is positive, so the green is mostly above the line).

This chart shows a “mirror image”: the sum of the government balance plus the domestic private sector balance plus the foreign sector balance must equal zero. For example, the government deficit from 1980 through to the Goldilocks years is the mirror image of the domestic private sector’s surplus plus our current account deficit (the rest of the world runs a positive financial balance against us). During the Clinton years as the government budget moved to surplus, it was the private sector’s deficit that was the mirror image to the government budget surplus plus the current account deficit. (Yep, yet again, yours truly warned about the likely consequences, in 2000—it reads like Nostradamus!: Can The Expansion Be Sustained? A Minskian View. But still no rewards for the wicked. I should have gone into hedge funds management.)

When we collapsed into the Bush recession, the private sector briefly ran a surplus (positive saving) and the government went into a large deficit; as we recovered, the deficit fell and the private sector resumed its spending spree (running big deficits). Finally, the global economic collapse after 2007 saw the return of record post-war government deficits and very large private sector surpluses as households and firms retrenched (trying to pay off debt). (See here: Deficit Hysteria Redux)

So here’s the real deal. For the foreseeable future the US will continue to run current account deficits. You can attribute that either to foreign “mercantilism” (policies to favour trade surpluses) or to American profligacy—it takes two to tango. Now, if the domestic private sector wants to run a surplus (spending less than its income) then by accounting identity the government budget deficit will equal the sum of the capital account surplus (the US current account deficit) and the domestic private sector surplus. Based on trends over the past three decades we can guess that is roughly 3% of GDP for each. By simple arithmetic that should not be beyond the capacity of any policymaker, 3+3=6, implying the overall government budget will be in deficit equal to 6% of GDP. Since state and local governments need to run balanced budgets and except in recession actually do run small surpluses, we are left with a federal budget deficit something above 6% of GDP. It will be lower in booms and higher in slumps; and it will be higher if our current account deficit is larger (as it has been in recent years whenever unemployment fell) and when the private sector wants to save (which it should do in order to de-lever its debt). (See here: MMP BLOG # 3 RESPONSES)

To be sure, any long term projection must be contingent—it will depend on those factors just enumerated. But anyone who is arguing for government deficit reduction and convergence to some small number (let us say below the Maastricht criteria of a budget deficit equal to 3% of GDP) must tell us what the implied private and foreign balances will look like. If the private sector is going to save 3% (equal to the budget deficit) then we must have a balanced current account—which implies a very large reduction of imports and increase of exports well beyond what any economist is projecting. If we are not going to bring down the current account deficit, then hitting the Maastricht criteria requires that our private sector move somehow from its current surplus that is well above 6% of GDP right down to zero. That is not only implausible, but it is dangerous. The implied implications at fixing a government deficit at a low level must be explored and justified. But that is not what Pete Peterson funds. He wants “research” that fuels the fires of hyperventilating deficit warriors.

Finally, how would a progressive—free of Peterson purse strings–approach the budgeting process? The best recent piece is here: The Case Against Intergenerational Accounting, The Accounting Campaign Against Social Security and Medicare. Full disclosure: I was a co-author but I am not too immodest to recommend it as my fellow authors were James Galbraith and Warren Mosler—two of the very best on the subject of budgets and deficits. I cannot do justice to the argument in a few paragraphs, but here is a quick summary. We first take on the “infinite horizon” forecasts of people like Peterson and David Walker, who calculate tens of trillions of dollars of “unfunded entitlements” due mostly to Medicare. (The RI budgeters obviously take this nonsense at face value, proposing budget fixes to slow down growth of Medicare costs in the distant future.) We discuss how silly it is to make extremely long period forecasts that require assumptions about a distant world that we cannot even imagine. Recall that the Clinton administration projected budget surpluses for 15 years (by identity that would mean destruction of private sector wealth for 15 years); 18 months later we were back to deficits. Deficit warriors carry their nonsense to infinity and beyond. (Our RI friends carried it through to “only” 2035—but how many of us are able to make firms plans about 2035? What odds do you want to place on any bet you are willing to make about events in 2035? President Bristol Palin vs Malia Ann Obama?)

We show how the intergenerational warriors adopt assumptions rigged to guarantee unsustainable trends—and we refer to Herb Stein’s quip that unsustainable trends will not be sustained. No need to worry about a projection that Medicare is going to run up $60 trillion of budget deficits due to health care costs that rise much faster than GDP. It will not happen for the simple reason that all households and firms would be bankrupted long before that (since, after all, they pay the majority of healthcare costs, and if those costs rise faster than GDP and wages and revenues they are, as we might put it in highly technical terms, screwed).

More importantly, we remind readers that government is not like a household or firm. It must take into account the public purpose: its spending mobilizes resources for the public purpose; and its taxes reduce the ability of firms and households to access resources. When our deficit warring Republicans say today that they would never approve a tax increase under any condition, the only reasonable response is a hearty laugh, a reference to WWII, and a two-by-four across the brow. Would these morons have refused to give to the government the resources it needed to conduct the war effort? Would they have opposed war-time taxes, rationing, and forced patriotic savings that by design reduced the flow of resources to the private sector (in order to preserve them for the military)? In war or its moral equivalent (as Jimmy Carter put it), Republicans would not give the government the resources it needs to achieve the public purpose? Then they have no business serving in public office. Throw those bums out; their view is that government exists only to generate rents for Wall Street and other blood sucking vampire squids.

Now, I know that many will smirk when I talk about government serving the public purpose. That is, of course, the progressive’s audacity of hope. But remember, we are talking about a progressive approach to budgeting. Our Austerian friends want to destroy government; I presume that is not the goal of RI.

Deficit hysterians love to attack Social Security, indeed, it is the main target of hedge fund manager Pete Peterson. Let me quote from our paper:

For Social Security and other permanent programs, what matters for long-range projections are demographics, technology, and economic growth. Financing is virtually irrelevant. If by 2083 every U.S. citizen is over age 67, no financing scheme will allow us to meet our commitment to let people retire at a decent living standard at age 67. This, however, is most unlikely. Indeed, all plausible projections of demographic trends show only gradual and moderately rising real burdens on those of normal working age in terms of numbers of dependents (aged plus young) per worker. The Old Age, Survivors, and Disability Insurance (OASDI) part of Social Security currently moves less than 4.5 percent of GDP to beneficiaries, and that rises to about 6.5 percent over the next 75 years. On the one hand, this is a significant increase, but on the other hand, similar shifts have occurred in the past without generating economic crisis or intolerable burdens. And it still leaves over 93 percent of GDP outside OASDI.

In other words, we need to look at federal government programs in terms of command over resources; if it is too great, that leaves too little for the private sector; if it is too little we’ve got unemployment. And if we do not reduce private sector income as we increase the government’s command, we will get inflation. That makes it clear that the main issue about government spending concerns its command over resources. The main purpose of taxes from this perspective is to fight inflation—by reducing private competition for the resources. In addition—as discussed above—we need to factor-in private sector desire to save. When that is high, more resources are left idle—to be mobilized by government—but when it is low, there are fewer idle resources. All of this also depends on the foreign sector: if foreigners want to export to the US, pressure on our own resources is thereby reduced. We can simultaneously have more private sector spending and more government spending, without the need to ration resource use by increasing taxes or encouraging saving.

The progressive approach to budgeting is to first identify the public purpose: what do we want government to do. Second we determine whether our society has the resources or can develop our capacity to produce them. Third we examine potential conflicts between the government and the private sectors; that may modify what we expect government to provide, or it might lead to taxes or other policies to reduce private sector demand. And, fourth, we put together a budget to achieve those goals. In that regard let me close with a long quote from our piece that lays out the purpose of budgeting:

The purpose of a program budget is to discipline the program. It is to hold managers accountable and to discourage fraud. This is why specific amounts of funds are appropriated to specific programs. Without budgetary constraints (as well as oversight and other means of exercising control), it is likely that “mission creep” would lead to continual expansion of any particular program. Thus, it is certainly appropriate to hold programs accountable to ensure that they do what they are supposed to do. However, there is little public or government interest in reporting long-range projections of the “fiscal balance” of particular portions of the budget. And while officials in any program should be held accountable after the fact, there is little public purpose and no economic interest served by reporting the resulting, after-the-fact fiscal balance of particular portions of the federal budget. For example, if Congress appropriates $100 billion for a transportation project, those in charge should provide an ex post accounting for all spending. They should explain the reasons for cost overruns and their careers should depend on acceptable performance. However, whether the total tax revenue received from any particular source (e.g., gasoline taxes) equals spending on transportation over some arbitrary period adds nothing to this.

We do understand the desire to provide an ex ante projection of total federal government spending and revenues for coming quarters, or even years. This facilitates analysis of the expected impact of fiscal operations on aggregate demand and thus on economic growth, inflation, and employment. There may also be some interest in disaggregating spending and taxing to match in an ex ante manner transportation-related spending and transportation-related tax receipts. This is not because fuel taxes actually “pay for” transportation spending, but because such a process can perhaps help to discipline the budgeting process by “allocating,” in an ex ante sense, expected revenues among program spending. However, the success of the transportation projects should not be measured by the ex post balance between total spending and total tax receipts related to transportation over the course of a fiscal year or any other arbitrarily chosen period. It might be very poor public policy to cancel a vital transportation project merely because projected fuel tax revenues fall short of expected program spending.

Now that would be a progressive approach to budgeting. And clearly, it would focus on the near term. The RI exercise that budgeted through to 2035 is silly at best. At worst, it plays into Peterson’s hand.

Let us conclude with some comments on the current Washington political game that involves the debt ceiling. It is almost too stupid to deserve comment. As a parent of teenagers, I know that the best way of dealing with stupidity is sometimes to ignore it. But these Bozos in Washington can cause real damage. It is very striking how our Washingtonian fiscal Austerians who are trying to tie up the Treasury’s purse strings never apply the concept of “affordability” or “solvency” to issues of national defence. You want to attack Iraq or Libya? Or Canada? Constitutional issues aside, the funds are always appropriated immediately. We never talk about a war (even one of choice) “bankrupting” the nation. Nor do we submit our defense budget to Beijing on the spurious grounds that they are “funding” our deficits. Nor for that matter does the Pentagon consult with Pimco’s Bill Gross and the other bond market vigilantes before bombing the heck out of some developing nation. Yet somehow, their views become paramount when it comes to a discussion of what the Pete Peterson crowd derisively calls “entitlements”—that is to say government spending that does not flow to the top tenth of one percent of the income distribution where Peterson resides.

Even more absurd are the arbitrary limits we place on spending via Congressionally imposed limitations, such as the debt ceiling. Leaving aside the dubious economics underlying this foolish self-imposed constraint, the debt ceiling does raise issues of Constitutionality. Even one of the President’s (and Wall Street’s) prime deficit warriors, Treasury Secretary Timmy Geithner, appears to understand this. According to accounts from the Huffington Post, Geithner actually cited the 14th Amendment to the Constitution, which stipulates that “The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.” During a Politico-hosted interview on May 25th the Treasury Secretary quoted this passage and noted: “I think there are some people who are pretending not to understand it, who think there’s leverage for them in threatening a default,” he said. “I don’t understand it as a negotiating position. I mean really think about it, you’re going to say that– can I read you the 14th amendment?” [HuffPost]

The economics of this are even more clear than the politics and constitutionality. A sovereign issuer of the currency cannot be forced into involuntary default on its commitments. The reason is simple, and follow on from Bernanke’s statements that the Fed spends by “keystrokes”. If Congress relents in its silliness (or if President Obama asserts his Constitutional authority to spend allocated funds), the Fed and Treasury can coordinate to ensure all payments are made as they come due. They do this by “stroking keys”; all it requires is some electrons judiciously sent to the right balance sheets. At a minimum, RI college students should have been taught that. If they had been, they would have realized that “affordability” is a Pete Peterson red herring.

Time for a progressive approach. If Peterson will not fund it (do not hold your breath), cut the purse strings.

*Thanks to Scott Fullwiler and Marshall Auerback for comments on early drafts.