Every (well, almost every) country in the world is running a budget deficit just now. How many of them are going bankrupt? Where is the money coming from?
The answer to the first question is, of course, none. The answer to the second question, however, is much more complex – and it’s not one that can be provided by conventional economics.
Start by asking yourself “what is money, exactly?”
Money is not “stuff,” and it’s not, in and of itself, valuable. Money is a measure of value, not value per se. You can’t eat it, you can’t build a house with it, you can’t use it to fuel a car. For those who think deeply about these things, money is not material at all. Instead, it is pure information. A lot of conventional assumptions get stood on their head once you are clear about that. It’s quite scary!
Let’s look into this: what happens when (if you’re lucky enough to be creditworthy) you borrow money from a bank, say to buy a house? The mental model we are encouraged to use is one we saw in the Harry Potter movies. Down in the bank vault somewhere, a goblin goes into a vault, puts some gold bars on a trolley, moves them to another vault and locks them in there. But what happens really? Someone types numbers into a computer. Yes, really, that’s all that happens. Someone types numbers into a computer, and you can go and buy a house, at which point someone deletes those numbers from your account and types them into someone else’s.
Of course, the actual transaction is slightly more complicated than that, but not much. For every positive number that’s typed into a computer, there is a balancing negative number somewhere else, to keep track of your debt. There is also a bit of paper called a “security”, that gives the bank the first call on the money that you’d get from selling the house again. Until the loan is paid off, the house isn’t yours. It (or at least some of it) belongs to the bank.
So what just happened? The bank actually created money out of thin air. It does this on behalf of the government, and there are a lot of complicated rules about how much money the bank can create, how much of it has to be backed up by cash so you can change numbers in a computer into cash if you want to, and how much security the bank has to hold in return for a loan. That’s all to make sure the banks don’t issue too much money, causing problems for the economy.
And what happens when you pay back the loan? Agains, there is no goblin moving bars of gold from one vault to another. Someone in the bank simply deletes some numbers in your account, deletes some corresponding minus numbers in another account, and the money literally disappears! You get the security back, and the pattern repeats.
It’s not just that money can be created and destroyed – it is created and destroyed every day in the normal course of doing business.
What does that mean for a government?
The myth is that government finance is like household finance – you can only spend money after you’ve earned or borrowed it.
The reality for a currency-issuing government is different – it has to spend money into existence before it can collect it in taxes.
Remember that phrase in the Bible – ‘render unto Caesar that which is Caesar’s.’ The discs of metal only had scrap value until Caesar had someone stamp a picture of his face on one side and a number on the other. What that meant was that Caesar would guarantee the value of that money. The way he ensured the money would always be accepted by someone selling something was simple. Every citizen had an obligation to pay taxes.
In the very old days, you paid your taxes with sacks of grain, or by doing military service, or by helping to build pyramids. By agreeing to accept money instead of goods or services as payment for tax obligations, Caesar guaranteed the value of that money for any transaction. Now we find it inconvenient to carry coins around all the time, so we keep track of our ‘tokens of value’ in computers. But the point is the same. Governments have to spend money into existence, or approve its creation by their agents (high street banks) before there is any money in the economy for people to earn, for people to buy things with, or for governments to collect in tax.
By the same token, a currency-issuing government can’t go bankrupt because it can always issue more of its currency if there isn’t enough to go round. Of course, bad things happen if it issues too much money, or if it doesn’t take excess money out of circulation through taxation or bond sales – if too much money is chasing too few goods and services, prices go up, and people starve or lose their homes; and if there is not enough money, then we cannot pay people salaries. But the important fact is that there is some flexibility, a window of opportunity within which it is possible to work. The question is how to work most effectively.
So what does this mean for our vision? Stay tuned for future blogs.