How Are We Paying Out Trillions of Dollars for the New National Deficit?

With all my free time these past few weeks, I have been mostly sitting around here thinking about the hundreds of thousands of victims around the world contracting the coronavirus. Watching the news each day is very depressing and frightening. Is there anything more we can do and are we on the way to stopping it? The questions I have and all of us have seem to be open and unresolved.

Recent moves to protect our economy have also ballooned the national deficit by several trillion dollars. How will we ever pay that off?

Second only to the life and death issues we face are the financial questions. Millions are now unemployed and the financial markets are crumbling around the world. So how is it possible that the U.S. government is handing out trillions of dollars to businesses and citizens? Where is all this money coming from? And even bigger of a question, how will the new national deficit ever get paid back?

What is Modern Monetary Theory (MMT)?

Since I am not an economist, I have to be careful when I try to explain exactly what MMT is and what is behind the theory which right now is adding about $6 trillion of new debt onto our already ridiculous national deficit amount. Even worse, there will probably be even more added to it in the coming weeks and months as more people and businesses suffer and need cash.

MMT is a big departure from conventional economic theory. It proposes governments that control their own currency (like ours here in the U.S.) can spend freely and as much as they want to because they can always print and create more money to pay off debts in their own currency.

Yes, you read that right. They simply just print more money and then throw it out there and they truly believe that’s perfectly ok and will cause no harm to the money distribution or affect things like inflation.

The theory suggests government spending actually can grow the economy to its full capacity, enrich the private sector, eliminate unemployment, and finance major programs (like universal healthcare, free college tuition, and green energy to name three biggies).

They say if all of this spending generates a huge national deficit, this isn’t really any problem. Why? Because a government deficit is by definition the private sector’s surplus money.

MMT and Inflation

According to those that “love” MMT and therefore love a huge national deficit, increasing government spending will not generate inflation as long as there is unused economic capacity or an unemployed labor force out there. MMT proposes that only when the economy hits its maximum limit of productivity (like full employment), inflation happens because that’s when supply fails to meet demand and it jacks up retail and wholesale prices.

MMT proponents argue governments can control the inflation by spending less and withdrawing money from the economy through taxes. Needless to say, traditional economists have some real issues with all this MMT stuff.

Does Creating New Money Out of Thin Air Create Inflation?

We actually have been printing money and creating bigger debt for decades, ever since Bill Clinton’s days in the White House. Other nations like Japan and many European countries have been doing it even longer that we have been. Yet, there hasn’t been any real spike in inflation during that time frame. That’s the case even though every young economist is taught that money printing is inherently bad and that excessive money creation will cause inflation!

So If It’s Not Creating Money That Causes Inflation, What Does?

I was a history major back in college (and look how useful I made that degree!) and I remember studying all about something called the Weimar Republic.

The Weimar Republic was the German government that arose after the defeat of Germany in World War I. When the war was over, Germany printed money to pay its bills. That caused super hyperinflation and people needed wheelbarrows full of cash just to buy loaves of bread. Yes, that actually happened.

The war had destroyed Germany’s productive capacity, but the Allies were insisting it pay reparations far in excess of the ability of the shattered German economy to pay. So the government printed money. When a lack of productive supply met an excess demand from cash, then hyperinflation was the result. So, it’s the lack of goods or labor that triggers inflation, MMT proponents argue. At least that’s what the German example seems to point to.

The 2008 Recession and the Money Supply

When the Fed and the U.S. Treasury dealt with the bank bailout back in 2008, it printed tons of money. But despite doing that, there was no inflation.

In fact, all that extra money from the Fed made the recession slightly less awful than it could have been. There were still people without jobs, and plenty of unused “capacity” in the U.S. economy even when they did it and what we saw was a slow but steady growth in the economy over those next twelve years. Employment grew and markets broke records. That was the case until the coronavirus struck.

Huge Deficits in Government

I grew up thinking debt is bad and surplus is good. That’s how you and I should operate our household budget and one would think that is how a government budget should operate too, right? Well, not exactly. When the government needs money, one thing they can always do is cut spending, but more likely they will collect more in taxes. That’s pretty easy to mandate for them, while you and I have to earn more or cut spending to reduce a deficit. They don’t. And that’s the difference and a big reason why and how they get away with it. It’s a little thing called taxes.

But There Is More to It than That

When the market took a steep 30% stock dive towards the end of March, the Fed announced its latest—and most significant—plan to pump cash into the financial system. The central bank said it would basically buy an unlimited amount of Treasury bonds and government-backed mortgage bonds and do whatever was necessary to support smooth market functioning. That is a radical act, but totally consistent with MMT.

Just days later, a $2 trillion economic rescue package was signed into law. That package alone equaled about half of what the federal government spent in all of 2019. And now the Fed is the biggest buyer by far of the bonds the government will sell to fund this spending. But the Fed isn’t an ordinary bondholder. By law, it has to pay its profits back to the U.S. Treasury.

That means when the Treasury makes payments on bonds held by the Fed, either paying interest or paying it off at maturity, almost all the money eventually moves back to the Treasury. When a government bond is involved, the cash moves from one government pocket to another. So, magically, unlike you and me and our debt, the money that is borrowed is paid back and no one ever seems to feel any pain.

Final Thoughts

I have no idea whether the government plans will work and prevent our economy from spiraling into a recession and even worse, a depression. Smarter minds that mine think that MMT is a real answer that will work and who cares how much money is printed and debt created. We’re a growing economy and we have plenty of “upside growth” according to the President and his economic advisors. I hope they are right because if not, the pandemic will not be the only issue that we will be dealing with now and for years to come. Life and death and money may be joining together to scare the hell out of all of us.

Have you thought about where all of these trillions to “stimulate” the economy and fund unemployment and businesses are coming from? Are you concerned about a $25+ trillion dollar national deficit that won’t ever be paid off even by your grandchildren? And that is even before we take the huge infrastructure plans being considered that are a must! What do you really think?

4 Comments

  1. Love the article and the even-keel analysis.

    My wife and I have bought a rental property last year to at least own a tangible asset. As we have three children, maybe owning investment properties can be a family business.

    While our tenants pay rent with paper dollars, not all of our nest egg is in paper assets. “Creative diversification” is going to require more than holding stocks and bonds if you have the capital and time.

    I don’t know what the future holds, but almost every business sector getting a bailout of some kind is mind-boggling to me. We’re also trying to keep our personal expenses as low as possible as my wife and I already earn a variable income, so maybe we’re already being overly cautious as it is.

    In the end, we’re doing the best we can within our physical control. Handle our own finances responsibly and exemplify these skills to our children through example.

    1. Josh, it seems like you guys are doing a very good job at controlling your expenses and still having an enjoyable lifestyle. Our government, on the other hand, thinks that there’s an endless faucet of money, and in many ways they create that flow of money which can ultimately backfire. That’s why it’s so important that individually we put some controls on our personal finances as a safety measure. I’d like to also add that I enjoy your blog, so keep up the good work!

      1. Josh

        Thanks, Gary. As you said, personal responsibility is very valuable. Perhaps more valuable than in the past century or longer.

        One of the few things I remember from a college was a comment one of my economic professors said in regards to the then-national deficit. He said the best thing you can do about the U.S. national debt is laugh about it as that’s what our influential leaders had been doing since the 1990s (or maybe even the 1980s).

        He didn’t expect the national debt to start shrinking but he couldn’t predict how much it would increase and what the exact long-term implications would be.

        That was back in 2006 when funding the second Iraq invasion and Afghanistan was the big fiscal discussion. A “tarp” was something you used to protect outdoor items from the elements and wasn’t an acronym for an economic program.

        I’m curious what he would say now.

Leave a Reply

Your email address will not be published. Required fields are marked *