Re: budget defecit

[Warren Mosler <mosler@xxxxxxxx>]

MATTHEW JOHNSON wrote:

> Warren,
>       i have just read some of your 'comments on the budget debate' and was
> wondering if you could clarify a few things for me.  running a surplus,
> reduces reserves.

Sort of.  Since reserves are always at the level the banks think they
need, net tax collections, in the first instance, result in an 'overdraft'
at the Fed by at least one bank.  This increases borrowed reserves
as an overdraft is a loan.  So 'running a surplus' could only reduce
reserves if there were excess reserves in the banking system.  This
would be evidenced by a 0 bid fed funds rate, as is the case in Japan
today.

>  i have the impression this does not neccessarily reduce
> the ability of the economy to function,

True.

> as financial institutions simply
> leverage more inside currency

Yes, they can do that but it is arguably not 'sustainable.'

> of the now reduced stock of reserves.  [this
> is what i want clarification on]
>

Reserves will grow as loans create deposits and reserve requirements
grow, as above.

>
> therefore is it possible, so long as there is one dollar more than the
> govt. is taxing, that the economy will continue to function
> 'normally'(reserve requirements are assumed to away).

The $ to pay taxes can always be obtained by bank loans, which result
in more borrowings from the Fed by the banking system.  Problems begin
when the net desire to save exceeds the amount of net savings provided
by the govt when it deficit spends.  Note that being able to borrow to
pay taxes requires a borrower who would rather borrow than sell assets
and a lender who accepts the borrower's credit risk.  The surplus means
that the non government sector is running a deficit.  The expanding
economy indicates that the net desire to save has been dropping.

When I talk to Wall St economists about the fact that consumer debt
is growing faster than consumer income, they point out that the ratio
of consumer debt to consumer assets looks ok.  Problem is, when
assets must be sold to service debt asset prices are likely to fall.

I just also read that nominal gdp growth is at a recent low of 6%
growth.  This should keep coming down with the surplus.


>  as banks balance
> sheets become incresing more illiquid, then there is more risk of a system
> wide collapse.

As above.  A drop in asset prices will necessarily hurt bank capital
ratios.  That's what happened in Japan beginning in 1990, a couple
of years after they let their budget go into surplus.

>  to me this implies that at the extreme there is some sort
> of 'minsky' hypothesis operating on the govt. defecit. in that eventually
> they will be forced away from running a surplus, in order to save the
> economy from total 'monetary' failure.
>
> am i on the right track?
>

I am not a Minsky scholar but there are a few on the list.
I was supposed to meet him but unfortunately he died shortly
before the meeting.

>
> thanks
>
> matthew johnson

w