The previous post discussed a short paper by Paul Krugman on the “invisible bond vigilantes” and noted convergence, on the issue, to the position of Modern Monetary Theorists. Briefly, the bond vigilantes, in the view of both Krugman and Modern Monetary Theorists, are not so much an “invisible” as a nonexistent threat to nations that satisfy four conditions:
1. The government is a currency issuer;
2. The exchange rate floats;
3. The monetary authorities set the interest rate;
4. The government avoids borrowing in foreign currency.
Under these conditions, as Krugman points out, there is little reason to expect a loss of confidence in the currency, but if there were, the impact would be more favorable than in the case of nations operating under fixed-exchange-rate or common-currency arrangements. For non-economists among us, this point seems worthy of elaboration.