Treasury securities, base money and deficit spending
John Hermann
There has been ongoing debate amongst economists and economic reformers of every persuasion about whether conventional spending by a central and sovereign government leads to the creation of new money, as is claimed by a number of postKeynesians and in particular by advocates of modern monetary theory (MMT). This debate does not include state, territorial or municipal governments, none of which have monetary sovereignty.
The issue was partially addressed by me previously (see ERA Review, v7, n2, p. 17). However there are some additional subtleties which need to be examined by those seriously interested in assessing these claims.
One should firstly distinguish between spending which is conventionally matched to tax receipts – as a primary mechanism for managing inflation – and spending which is conventionally associated with the issue of Treasury securities (i.e. deficit spending) – as a primary mechanism for managing aggregate demand.
Treasury securities are – subject to time constraints – interchangeable with base money (currency plus bank deposits in the central bank). However Treasury securities are not the full functional equivalent of either bank credit money or base money Nevertheless it can be said that government Treasury securities and base money, respectively, are analogous to the term deposits and transaction deposits which are made in banks. The conjunction of the credits existing in transaction accounts and term accounts is some-times referred to as “broad money”, which implies that low-risk loan securities like term deposits have some of the characteristics of money.
When a monetarily sovereign government “deficit spends” into the real economy, it increases the financial wealth (not to be confused with the real wealth) of the economy, by increasing the liquidity available to entities which collectively make up the economy.
However there are two alternative ways of viewing this increase in liquidity. The two perspectives are as follows:
- Those who have borrowed the securities issued by government have agreed to replace one risk-free financial asset with another (a loan security for base money), and the increase in liquidity may be identified with the government’s spending into the private non-financial sector, i.e. the injection of a new liquid asset into the productive economy.
- There is no immediate net change in the stock of base money or credit money as a result of deficit spending (spending plus borrowing), and the increase in liquidity may be identified with the acquisition of tradeable securities by the entire private sector.
Irrespective of the viewpoint that one adopts, there can be no doubting that the essential impact of deficit spending is to place new purchasing power into the hands of the nonfinancial private sector (producers and consumers).
This is not to imply that the volume of money used by the private sector as a whole will necessarily experience a net increase – although it might well do so – but at the least it implies a transfer of immediate purchasing power from the private financial sector to the private nonfinancial sector.
