Friday, January 16, 2015

Steve Keen, exactly right


Steve Keen:
... a private debt crisis can’t be solved simply by increasing public debt. If deleveraging is to really occur and allow a real private sector revival, then private debt has to be substantially reduced by deliberate government policy.

A lot of people who should readily accept Keen's view get tangled up instead in what they think Keynes would do. They want to do the Keynesian thing. They want to increase government spending. They think that's solution enough.

They forget that we have been relying on the Keynesian solution since the Great Depression. We did increase government spending. And it worked. It kept us going, far past the point when the burden of private debt should have brought the economy crashing down. Unfortunately, this means that the burden of private debt today is far beyond anything that could be called "sustainable".

What is necessary is to restore balance between public and private debt. The solution, this time around, is not further increase in government debt, but a reduction of private debt. But we are a nation that uses credit for growth, and we have created advanced institutions and advanced technologies that further the growth of credit. What this means is that every time the government boosts spending by a dollar, we boost private credit use and private debt by more than a dollar. Or we did, until it created the crisis:

Graph #1: Change in Private Debt, per Dollar of Change in Federal Debt (by Sector)
Until about 2008, households and nonfinancial corporate business and financial business, each of them tended to create more than a dollar of new debt for each new dollar of Federal debt. Total up those private components, and it is even easier to see private debt growing faster than Federal debt.

Since the crisis, private debt has been growing more slowly than Federal debt. Perhaps this suggests that we don't need "deliberate government policy" to substantially reduce private sector debt. But if that solution works, if increased public spending and debt works, if it restores the health of our economy, then private debt will grow faster again. In a growing economy, we use lots of credit. Private debt will grow faster than Federal debt, monetary imbalance will grow worse again, and the problem will not have been solved.

To solve the problem, we have to prevent the future expansion of private debt. We can do that easily by setting up incentives that accelerate the repayment of private debt, and by using those incentives as a way to fight inflation, instead of always and everywhere relying on the mind-numbingly stupid policy of raising interest rates.

But that is a problem for the future. That is a problem for a time after our economy has been restored to health. Meanwhile, the quickest way to restore our economy is to set up those incentives today, to reduce private debt today, to reduce financial cost today, to encourage the growth of the non-financial economy today. Think of it as a deliberate government policy.

Yes, certainly, policy must provide more money so the economy can function. That's where Federal spending comes in. But maybe -- and this is something to think about -- maybe there is enough Federal debt already, if we reduce the growth of private debt.

We must reduce private debt because it creates a financial cost that undermines profit, income, and aggregate demand. We must provide an alternative money, one that does not carry such cost. Let the Federal government spend, if need be, and see to it that the Federal Reserve buys up enough Federal debt to push up the amount of low-cost money in our economy, to bring down the ratio of "costly money" or "credit in use" or "debt", relative to money that does not cost interest and need not be repaid.

This is the key ratio, high-cost money relative to low-cost money. It determines whether times are good or hard. It determines the state of economic health and vigor. It determines whether we survive as a nation, and as a civilization.

5 comments:

Auburn Parks said...

Art-

I dont understand. It seems that you've acknowledged that a decrease in the money supply correlates with decreased economic activity.

How do you propose that we reduce the private sector's money supply and yet avoid a downturn without an increase in Govt supplied money?

geerussell said...

Let the Federal government spend, if need be, and see to it that the Federal Reserve buys up enough Federal debt to push up the amount of low-cost money in our economy, to bring down the ratio of "costly money" or "credit in use" or "debt", relative to money that does not cost interest and need not be repaid.

I feel the urge to unpack that last part to see if I understand what's being specified.

We have the idea of costly money that needs to be repaid. I'm assuming an implicit private sector point of view, costly for the private sector and needs to be repaid by the private sector making this label effectively interchangeable with private debt.

Then there's money that does not cost interest and need not be repaid. Here too I'm assuming an implicit private sector point of view. Money (held as an asset by the private sector) that does not cost interest (for the private sector) and need not be repaid (by the private sector). Which would make this equivalent to net govt liabilities (inclusive of federal debt, notes, coins and reserves) held by the private sector.

Are those assumptions correct or am I missing something?

If that's accurate, then it's difficult to see how the suggested remedy of the Fed purchasing federal debt changes anything as it's just a swap of instruments in same category of does not cost interest and need not be repaid for the private sector.

The Arthurian said...

Geerussell: "I'm assuming an implicit private sector point of view, costly for the private sector ..."

Not necessarily. When the Fed buys Federal debt, the cost of that debt goes almost to zero, because the Fed turns the interest over to the Treasury, about 95% of the interest last I looked.

Anyway, there is not much difference between "costly for the private sector" and "costly for the economy as a whole".

Geerussell: "... Money (held as an asset by the private sector) that does not cost interest (for the private sector) and need not be repaid (by the private sector). Which would make this equivalent to net govt liabilities (inclusive of federal debt, notes, coins and reserves) held by the private sector."

Yeah, that is pretty much what I was talking about (except for the 95%-of-interest thing).

But when you say it, it is as if there is no private debt at all. I was saying "We must reduce private debt because it creates a financial cost" but there is no hint of that in your words.

Most of the money created by the creation of private-sector debt, most of it also is "held as an asset by the private sector". But very little of that money participates in non-financial transactions where people receive income and then can use it to pay down debt. That right there is the problem in a nutshell, but (again) there is no hint of it in your words.

Geerussell: "If that's accurate, then it's difficult to see how the suggested remedy of the Fed purchasing federal debt changes anything as it's just a swap of instruments in same category of does not cost interest and need not be repaid for the private sector."

A. The Federal government deficit spends.

B. It sells some debt to cover the deficit.

C, The Federal Reserve buys some debt.

D. The Federal Reserve receives interest on that debt.

E. The Federal Reserve turns the money over to the Treasury.

The inane "swap of instruments" story seems to focus entirely on step C. (Why it leaves out step B, I cannot understand!)

You say "it's difficult to see" how step C changes anything. But clearly things are changed by steps D and E, which follow inexorably from C.

The Arthurian said...

Auburn Parks: "It seems that you've acknowledged that a decrease in the money supply correlates with decreased economic activity."

I am also looking at the cost of the money supply, something no one else appears to have noticed.

jim said...

Geerussell wrote: "If that's accurate, then it's difficult to see how the suggested remedy of the Fed purchasing federal debt changes anything ."

To Geerussel: If Fed purchases of Govt securities has no effect on money supply, then please explain how come bank deposits have grown by $3 trillion more than deposits in the last 6 years.
http://research.stlouisfed.org/fred2/graph/?g=Xqc

To Art:
It is easy enough for govt policy to discourage bank lending. But there is no evidence that will reduce private debt. The US household sector holds about $70 trillion in financial assets. And many of those asset holders want to lend out that money for purposes of financial gain. Driving lending out of the regulated lending channels will only drive it into the shadows where more unstable debt arrangements are created.

That should have been the lesson learned from the 2008 financial crises. Instead a massive disinformation campaign by Wall Street has got many people to conclude the exact opposite.