Why Deficits Hurt Banking Profits

Michael Hudson

This is a transcript from an interview on the Real News Network, and extracted from the Michael Hudson blog site [1].

Economist Michael Hudson takes on the mythology surrounding government budgets and explains how the term ‘stability’ has been used as a cover for financial fraud.

Sharmini Peries: I am speaking with Michael Hudson in our studio in Baltimore about his new book, “J Is For Junk Economics: A Guide to Reality in the Age of Deception”.

Sharmini Peries: So, Michael, one of the concepts that you deal with is about balancing the budget, the whole mythology surrounding that. That is your myth number 17, where you say, “Government budget deficits are bad. Balanced budgets are good. While budget surpluses are even better.” What’s wrong with this?

Michael Hudson: The popular press acts as if governments should act like a family. And just as families have to balance their budgets, it is held that governments have to as well. But this happens to be a false analogy because, if you personally spend more than you have earned, you can’t just write an I.O.U. which everybody else can spend as if it’s real money. Instead, you have to pay the IOU at some point in time, usually with added interest.

But that’s not the case with sovereign governments. When a government runs a budget deficit, it can do so in the way that Abraham Lincoln funded the Civil War: You create the money, and you inject it into the economy by spending it.

Almost every year until the 1990s, the United States, like every other country in the world, increased its debt by running a budget deficit, by spending money into the economy for infrastructure, schooling, and roads. This is what enables economies to grow.

That stopped during the US Clinton administration in the 1990s. At the end of the administration Clinton fell for the neoliberal theory that the US should aim to at least balance the budget, and he actually managed to run a budget surplus. And so the government started withdrawing money from the economy.

The result was that the economy of the US had to depend on banks to create the money to expand. If the government doesn’t create it, who will create the spending power? The answer is: the banks. Clinton did what he was told to do by Treasury Secretary Robert Rubin. In effect, his policy was: “Let banks create all the nation’s money and also charge interest, instead of the government creating money by spending it in the way US greenbacks were spent”.

The advantage of having govern- ments create money is that they don’t have to pay interest, because the spending is self-financing. Bank lobbyists cry about how large the government debt is, but this is debt that is not expected to be repaid. Adam Smith wrote that no government has ever paid its overall debt.

I think it’s easiest for most people to understand this by looking at the situation in Europe. Under the rules of the Eurozone, central banks are not allowed to create much money. As a result the EU economies are shrinking into austerity. Greece is the most notorious example. Here

you have unemployment among youth of up to 50% as the economy for the last five years is suffering from the worst depression since the 1930s. Yet the government is not able to spend the money needed to rebuild the economy. The private banks won’t let them do it. The aim of neoliberals is to prevent governments from spending money that is required to keep the economy operating in a healthy condition, i.e. by running deficits. Their argument is: “If a government can’t run a deficit, then it can’t spend money on roads, schools and other forms of essential infrastructure. And governments will then be obliged to privatize these assets. The banks will of course be allowed to create the credit required by investors to buy these assets and to run them as rent-extracting monopolies.”

The bank strategy continues: “If we can privatize the economy, we can turn the whole public sector into a monopoly. We can treat what used to be the government sector as a financial monopoly. And instead of providing free or subsidized schooling, we can oblige citizens to pay $50,000 to get a college education, or even $50,000 just to get a grade school education if families choose private schools. We also can turn the public roads into toll roads. We can charge people for water, and we can charge for what used to be given freely under the old style of Roosevelt capitalism and social democracy.”

This idea that governments should not create money implies that they shouldn’t behave like governments. Instead, the de facto government should be Wall Street. Instead of governments allocating resources to help the economy perform well, Wall Street should be the allocator of resources – and should starve the government to “save taxpayers” (or at least the wealthy). Tea Party promoters in particular would like to starve the government to the point where it is “drowned in the bathtub”.

If you don’t have a government that can fund itself, then who is going to govern, and on whose terms? The obvious answer is – the class with the money, that is, Wall Street and the corporate sector. They clamour for a balanced budget, saying, “We don’t want the government to fund public infrastructure. We want it to be privatized in a way that will generate profits for the new owners, along with interest for the bond- holders and the banks that fund it; and, also, management fees. Most of all, the privatized enterprises should generate capital gains for the stockholders as they jack up prices for hitherto public services”.

The reason why the EU countries, the United States and many other countries ran budget deficits for so many years is because they want to keep this infrastructure in the public domain, not privatized. The things that government spends money on – roads, railroads, schools, water and other basic needs – are the kind of things that people absolutely must have access to. So they’re the last things you would want to privatize. If they’re privatized instead of being publicly funded, they can be monopolized. Most public spending programs these days are for such natural monopolies.

The guiding idea of a well-run economy is to keep natural monopolies out of private hands. This was not done in Russia after 1991. And its disaster under the neoliberals is a classic example. It resulted in huge immigration rates, the shortening of life spans, rising disease rates and increased drug use. You can easily see how to demoralize a country if you can stop the government from spending money into the economy.

That action will result in austerity, lower living standards and really put the class war in business. So what Trump is suggesting is to put the class war in business, financially, with an exclamation point.

Sharmini Peries: You talked about the implications of cutting government spending and your myth no.18 deals with this. You have described this myth as saying that cutbacks in public spending brings the government budget into balance, restoring stability. And you just demonstrated – via the Russian example – that this is quite misleading and in fact has the opposite effect and destabilizes the population. So this policy Trump seems to endorse – the cutback in public spending – give us some examples of how this could affect society.

Michael Hudson: Well, you used the word “stability” and this is often a slogan to prevent thought. And although George Orwell didn’t use the term “junk economics,” he did define doublethink. The function of this is to prevent thought. “Stability” is akin to the “Great Moderation.” Remember how economists running up to the 2008 crisis said, “This is a Great Moderation”.

We now know that it was the most unstable decade in a century. It was a decade of financial fraud, it was a decade where economic inequality between wealth and the rest of the economy widened. So what made it moderate? Alan Greenspan went before the Senate Committee and gave a long talk on what was so “stable”? He said that what’s stable is that workers have not gone on strike recently. They are so deeply in debt that they’re one pay cheque away from missing an electric utility payment. So they’re afraid to strike. They’re even afraid to protest about their working conditions. And they are afraid to ask for an increase in wages to reflect an increase in their productivity. What remains stable is the number of wealthy people, who are Greenspan’s constituency – the one percent who get all of the real income, while all other people get nothing. That is stability according to Alan Greenspan.

Euphemisms like “stability” are used to make people think that somehow the economy is stable and normal. The reality is that it is being slowly squeezed. That’s basically what happened in the Great Moderation. The government was cutting back spending on its social programs, dismantling the New Deal array of consumer protection agencies, which Trump now wants to get rid of. The first thing he wanted to get rid of, he said, is Elizabeth Warren’s Consumer Financial Protection Agency. The problem for Republic- ans serving their bank lobbyists is that it’s trying to prevent fraud – and that limits consumer choice. Just as letting people go to MacDonald’s to buy junk food and junk sodas allow them to become obese, we have to let them have the free choice to put their pension funds in Wall Street companies that are going to cheat them.

These are the Wall Street firms that have paid tens of billions of dollars for the financial fraud that they’ve committed. The Republicans want to dismantle the penalties currently against financial fraud, and against cheating consumers. That would reduce the amount of money that the sector can extract, and these people are what’s driving the economy. But they’re driving the economy largely by debt leveraging that is bordering on fraud. That’s the kicker in all this.

By dismantling government spending on such things as the Consumer Financial Protection Agency, the public news agencies, the National Endowment for the Arts, one is stripping the economy away and reducing the U.S. economy to a form like that produced in England by Margaret Thatcher. It results in a less dynamic, less lively and above all poorer economy. That is the aim of such “reforms,” and it undoes the real reforms that were implemented during the last century.

These words and the vocabulary used in the press dovetail into each other to paint a picture of a fictitious economy. The aim being to make people think that they’re living in a parallel universe, unable to use a vocabulary and economic concepts to explain just why life is so unfair and why they’re being squeezed so badly.

Above all, the aim is to dissuade them from thinking about how and why it does not need to be this way. There is no natural law that says they should be squeezed by debt, monopolies and fraud. But that kind of thinking requires an alternative program – and an alternative program requires recapturing the language to explain what it is that you’re trying to create as an alternative.

1. Source: Michael Hudson blog site; https://michael-hudson.com/2017/03/why-deficits-hurt-banking-profits/