A recent report by NPR reveals that the Clinton Administration’s intention to pay off public debt raised self-inflicted conundrums. The consternation is evident in a document that makes for tragicomic reading. Cullen Roche has already done a great job of discussing the document from an MMT perspective and Tom Hickey has also drawn attention to the story. I won’t repeat what has already been discussed elsewhere, but will reflect on one of the implications of a government deciding to pay off the entire public debt.
An excerpt from a draft of the document uncovered by NPR reads:
In the year 2000, the U.S. Treasury began actively buying back the public debt; we should all appreciate the tremendous achievement this represents for the Nation as a whole. As the previous section described there are good reasons for our current fiscal discipline and the public savings that accompany it to continue. We must realize however, that a sharp reduction in Federal debt and the possible accumulation of a Federal asset raises at least three important issues. First, investors looking for an asset free of credit risk can no longer count on an abundant supply of U.S. Treasury securities, and Treasury securities may no longer provide a reliable benchmark for other interest rates. Second, the Federal Reserve may have to change the mechanisms by which it conducts monetary policy. Third, continued surpluses after the public debt has been paid off will require the Federal government to acquire assets; either directly or though the Social Security Trust Fund. This raises issues about what kinds of assets might be acquired, and the best way to manage this task.
We know from the sectoral balances that the deficit of the government sector equals the surplus of the non-government sector. An implication is that budget surpluses correspond to aggregate net dissaving by the non-government.
Further, total outstanding public debt is simply the accumulated budget deficits of prior periods, and so equal to the accumulated net saving of the non-government. It therefore mirrors the net financial wealth of the non-government.
If the government pays off all outstanding public debt, it will have extinguished the net financial wealth of the non-government. To persist with budget surpluses beyond that point would require the non-government to relinquish real assets to the government in order to meet its tax obligation.
It should not be surprising, then, that a policy of extinguishing the accumulated net financial wealth of the non-government with the further intention to persist with budget surpluses by acquiring assets from the non-government (third concern raised) could have undesirable side effects for the non-government!
Yet, an objection to this paragraph of the draft was that:
You have no unequivocal statement here in the first paragraph that the paydown of the debt is a good thing. notwithstanding the challenges it presents.
In other words, the paragraph contained no unequivocal statement that extinguishing the net financial wealth of the non-government is a good thing. This supposedly needed to be fixed.
A conspiracy theorist might suspect that the Clinton Administration in fact understood sectoral balances and used this knowledge to hand over a wobbly economy (massive private indebtedness) to the Republicans.
In at least one country, the first concern (the removal of a risk-free financial asset) actually entered the public debate explicitly. In an enlightening post, Bill Mitchell discusses how the issue played out in Australia. A conservative government’s repayment of public debt led to displeasure in the financial community, purportedly because the removal of a risk-free financial asset would make pricing risk more difficult (complete nonsense) but really because they would lose a risk-free positive interest payment (corporate welfare).
The government’s solution, once the public debt was paid down, was to use the budget surpluses to speculate in the financial markets! This basically amounted to confiscating assets from the non-government and using the proceeds to speculate. If it “worked”, there would be a further transfer of nominal claims on real wealth from the non-government to government.
Why the government would wish to transfer to itself nominal claims that it could create whenever it desired through its currency-issuing capacity is beyond comprehension. The neoliberal reasoning, of course, was that the “savings” would come in handy if deficit spending were pursued at some time in the future, due to the orthodox construction of a ‘government budget constraint’. Needless to say, there is no sense in which such “public savings” have any impact on a sovereign currency issuer’s financial capacity to spend.
The Clinton Administration considered similar approaches:
Of course it is possible to keep both the benchmark Treasury and allow fiscal surpluses to continue to pay down the national debt. This would require that we diversify the Social Security Trust Fund (investment options and concerns are described below). Under such a scenario, the trust fund would invest in something other than Treasuries, while the federal government could maintain it’s current fiscal policy and the public market for Treasury instruments. Because the Trust funds would no longer purchase the same quantity of Treasury instruments, the federal government would face, declining OASI receipt pass through and a decrease in this finance. The federal government’s effective expenditure to receipts ratio would rise. The Treasury could solve the Fed’s short-term problem without involving the Social Security Trust Fund by creating a further Federal investment fund to save for future financial demands- as described later in this section.
According to Mitchell, most of the discussion on the left in Australia was along similar lines. An ostensibly left-leaning research center submitted a proposal from economists that accepted the same analytical foundation as the two main parties; namely, the ‘government budget constraint’ framework. Mitchell’s Centre of Full Employment and Equity (CofFEE) prepared the only dissenting view.
In relation to the U.S. economy, Randall Wray provided a good explanation of the consequences of paying down public debt along with historical examples in a post earlier this year.
Budget Surpluses Mean a Shrinking Non-Government
When the government taxes more than it spends – repeatedly – it is actually acting to shrink the size of the non-government.
Once the public debt is paid off, further government surpluses require the deficit sector (non-government) to sell private assets to government in order to meet the tax bill..
It should be clear what will happen as a result of such relentless austerity. The non-government will shrink and the government will expand. Budget surpluses, in real terms, will result in a bigger government and a smaller non-government.
Austerians will eat themselves.