True Confessions: Never Understood Monetary Policy
Disclaimer. I am not an economist (got a “C” in Econ 101 as a freshman, never took another econ course until grad school, when it was all microeconomics and management). I am not even a serious investor (mutual funds, conservative profile). But I do read history and politics, sociology and philosophy. From this, and what I’ve learned from others in my life, I have some vague idea that debt is an important concept. So is risk.
I know that debt is a quantification of both trust and risk. It has roots in the earliest human interactions – see David Graeber, Debt: The First 5000 Years. Graeber illustrates that debt preceded money, preceded barter, certainly preceded anything resembling a modern economy. Debts are always repaid … in the fullness of time. Chattel slavery was about indebtedness; some debts can only be repaid over many generations. But then, creditors can declare “jubilees” – debts may be forgiven. Slaves are emancipated.
So, where does the national debt of the United States fit into this picture? It is now valued somewhat larger than our GDP. That means it will never be repaid in our lifetimes – without some unimaginable explosion of growth (even the most optimistic AI predictions don’t promise much in this regard). What is this thing called “fiscal responsibility,” then? Some say that, so long as the dollar is the world’s reserve currency, it doesn’t matter how large the deficit becomes — see Stephanie Kelton, The Deficit Myth. But how long will the U.S. dollar retain its role as that reserve currency? If our creditors, those other countries who purchase our debt, lose faith in that dollar they will cease to “invest” in us, as their assets in dollars lose value. Instead, the Yuan or the Euro become the currency of choice for international trade. Sounds bad, but what does it mean for ordinary Americans, those whose income is derived not from the value of capital, but from fair wages for their labor? I have not read a convincing argument that these Americans will suffer from the fall of the dollar. If my creditors are those who pay me for what I produce in goods or services, and what I purchase in goods and services comes from a neighbor, then what matters the currency of exchange?
Of course, we all know that a modern, complex economy is not as simple as this. But still, it may be useful to break it down to the most primitive level and build from that model. While true that I pay a “fair market price” for any goods and services I purchase, and likewise that market will value my labor accordingly, I quickly am confronted with desired (or required) purchases which exceed my “liquid assets” (cash on hand, credit cards, etc.). Welcome to modern life in 21st century America. Even those liquid assets are merely promissory notes. At the level of the national debt, the holders of those promissory notes will be banks, both foreign and domestic. They can be induced to purchase these promissory notes (bonds) based on their assessment of risk – a peculiar concept called “yield.” It’s not unlike my decision to shop for the best (“fair”) price for something I want. Here is where there is a catch.
Best fair price depends upon competition in the marketplace. If the only supplier of the goods or services I’m looking for is one country, then that country will determine its asking price (in its own currency or some other agreed reserve currency). Many markets are not “free” in this regard but constrained by monopoly – modern markets may be constrained by monopolies of technology or monopolies of natural resources. The global nature of trade has existed at least since the age of mercantilism in the West (17th century). In earlier times trade also existed, but markets were more localized. Currencies were standardized within trading areas – fiat currencies were enforced by kings. World reserve currencies are only enforced by committees of creditors. Interest rates are measures of risk – also determined by committee. The greater the confidence a lender has in repayment, the lower the risk … and yield. David Graeber would say that all prices in the market are essentially matters of “yield.” Stephanie Kelton and the Modern Monetary Theory (MMT) crowd would say further that yield can be controlled by imperial-level borrowers – they can “print money” to pay their debts.
Some economists who have spent a great deal of time with bond markets, and monetary policy, people like Jared Bernstein, are now sounding the alarm about the size of the national deficit. Bernstein feels the current debt/GDP ratio in the United States is dangerous. He sees the potential for default (worldwide acknowledgment that debts of U.S. assets will NOT be repaid) as imminent at these levels. Default would mean the dollar could no longer be the world’s reserve currency. But what would this mean for me? It might mean that my purchases in the domestic market would also become more expensive, as my own currency is devalued. And my rate of pay would decline in real terms. But most of all, it would mean that my government would no longer be able to set beneficial terms for trade with other nations – certainly a horror for Donald Trump, and certain others well-known to him (and to all the rest of us who follow politics). Yet, as I said in my lead, I’m no expert; not sanguine, but wary. Mostly, I’d much prefer seeing people in decision-making roles for the American economy who could allay my fears of inadequacy for not being an economist myself. Surely there must be some wiser souls out there? Give me a plan to reduce that debt/GDP ratio, and I’ll listen. Higher taxes sound good to me — better than spending cuts, at least, especially if someone else pays them!
— William Sundwick
Warp and Woof 