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Debt and deficit spending by a monetary sovereign government

John Hermann

Getting a proper understanding and perspective on the debt of a monetary sovereign government is vital for any- one interested in economic reform.

What is not generally appreciated is that sovereign government debt (in Australia’s case, debt held by federal Treasury) is not really debt at all. The bonds and other securities that it issues are actually a form of broad state fiat money, and are risk free in addition to possessing a substantial degree of liquidity.

Moreover, every federal budget deficit equals a surplus for non-government sectors. More specifically, the aggregate of these federal securities equals the net money supply, and to destroy that aggregate of securities amounts to destroying the money supply.

The federal budgetary situation during the past century (the secular trend) has been that budget deficits have been the rule, and that surpluses have been the exception. The few regimes of budget surplus have been both very small in magnitude and short lived. There is a good reason why this is so.

Many heterodox schools of economic thought have been aware of a reality that the neoclassical economists have never come to terms with, because the latter are all obsessed with an equilibrium representation of the dynamics of the economy. But the equilibrium story is fundamentally flawed. The reality is that the economy as a whole, as well as the financial accounting which accommodates it, necessarily operate in a state of non-equilibrium – and that it is often far from equilibrium.

Whenever the federal government has attempted to create budgetary fiscal surpluses, over one or more financial years, we know that recessions have generally occurred shortly thereafter. This is revealed by the available economic statistics. Such recessions might (but do not necessarily) also occur in response to a balanced fiscal budget. It seems to me that this association of budget surpluses with recessions is trying to tell us something important about how modern economies operate.

In general, increasing productivity (also increasing population, wherever this occurs) requires an increase in the volume of net financial assets available to the population as a whole. And the mechanism that is currently acceptable for creating and injecting net financial assets into the non-government sectors is federal government’s deficit spending. In using the word “acceptable” I am excluding overt monetary financing, or OMF (direct financing of government deficits by the RBA) – a quite feasible route for deficit spending, but frowned on by orthodox economists for reasons that have more to do with ideology than with intelligent economic analysis.

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