Sovereign governments don’t borrow. They *securitize*.

According to Stephanie Kelton (neé Bell) in her 1998 paper, Can Taxes and Bond Sales Finance Government Spending? (emphasis added): “…modern governments actually finance all of their spending through the direct creation of high powered money.” This applies to all fully financially sovereign economies such as the United States, U.K., Canada, Australia, and Japan. Since these countries issue their own currencies (create their own money) every time they spend, it means – by a point of logic – that they have no need for revenue of any kind, including from taxation and bond sales. In other words, these countries are not revenue constrained and, in fact, have no financial constraints at all. As stated by Warren Mosler and Mathew Forstater in their 2005 paper, The Natural Rate of Interest Is Zero: “Since the currency issuer does not need to borrow its own money to spend, security [bond] sales, like taxes, must have some other purpose.”

Bond sales by the government (to the non-government sector) is commonly called borrowing, but it’s nothing of the sort. This post argues that a more appropriate term for government bond sales is securitization. It ends with a response from someone who disagrees (I believe not just with me, but MMT itself).

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These resources were created by Activist #MMT, the podcast (Twitter, Facebook, web, please consider becoming a monthly patron). This post was last updated September 14, 2020.

Disclaimer: I am a layperson who has studied MMT since February of 2018. I’m not an economist or academic and I don’t speak for MMT. The information in this post is my best understanding but I don’t assert it to be perfectly accurate. In order to ensure accuracy, you should rely on the expert sources linked throughout. If you have feedback to improve this post, please get in touch.

Introduction (continued)

(This post was substantially inspired by Mark Collins, who was my guest in episodes 33 and 34 of Activist #MMT. Here is the segment from our interview where we discuss the topic.)

Currency users require revenue. Before they can spend, they must first get the money. If they don’t or can’t, then they may need to borrow, such as via a credit card or bank loan. If they do borrow, they are truly in debt, and will suffer severe consequences if they don’t pay it back on time.

It’s not possible for a sovereign currency issuer to borrow its own currency, which only they can create, which they do out of thin air by simply deciding to do it.

(Bond sales by the government during the gold standard, however, were kinda sorta borrowing. This is because it was necessary to protect their stock of gold before they could safely spend [issue] more. Gold can’t be created by governments – it’s outside of human control. The government’s money is a human-created concept, so of course it can be created. [We have been off the gold standard since 1971.])

Currency issuers therefore do not borrow its own money from its citizens. (Where did those citizens get the money from in the first place?!) Issuers also don’t borrow its own money from China. The very idea is silly: “Hey, China, can you please lend us some of our own dollars, so we can make an even stronger military and financial system, so we can turn around and defeat you?” (Listen to the first minute of episode 3 with Geoff Ginter and Ryan Mathis.) (Related post: If China dumps their debt, we’re all gonna die. (No we won’t.))

Bond sales are not just unnecessary

Every new law specifies new spending, sending specific amounts to specific organizations at specific times, and under specific conditions – whatever it takes to make the law a reality. Before the new currency is sent out into the economy, however, new bonds are legally required to be issued by the Treasury in that same amount and sold (actually auctioned) off by the central bank (Related post: An interest-rate target above zero exacerbates inequality.)

This is done not because it is a financial necessity, but rather because it’s tradition. The below is from page two of Steven Hail and David Joy’s 2020 paper, Federal Debt and Modern Money:

However, the reality is they [sovereign currency issuing government such as the US] choose to issue them [bonds], and so it is worthwhile exploring one implausible explanation and three plausible explanations as to why they do so: […]

4) Because it is a habit we have got ourselves into. One of those practices which might have been a good idea once, but which there is not much reason to persist with now.

A rudimentary understanding of MMT reveals that the first of these is clearly not a possible explanation. The second and third reasons are plausible, but not compelling. It is the last of them which we are going to argue is correct.

Selling bonds is not just unnecessary, it’s harmful. Here’s the full conclusion from the same paper:

Stop issuing monetary sovereign government debt securities. They are unnecessary. There is no compelling reason to issue them. They confuse people. They bias macroeconomic discourse, policy making and outcomes. They are an anachronism. They belong, alongside tally sticks, the gold standard, the London discount houses, and neoclassical macroeconomics, in the history books.

Bonds are purchased with currency issued by the government at some point in the past. To most average people, this practice gives the false appearance that government is no different than a gigantic household or business, and does indeed require revenue. This is used as a false excuse to withhold what is desperately needed by millions. It’s best exemplified by the “How’re you gonna pay for it?” question.

To be perfectly clear:

All federal spending is money creation.
All federal revenue is money destruction.

Without exception.

Securitization

When you open a savings account at your local bank branch, some of your existing money is transferred from your checking account, into a new savings account. The former earns little to no interest, but it can be spent immediately and directly (it’s liquid). The latter earns some interest, but before it can be spent it must first be transferred back into the checking account (it’s less liquid). In addition to providing a steady stream of interest income, the bank also guarantees your money will remain safe and secure, backstopped by the FDIC for up to $250,000 per account.

Banks do not require existing money (reserves) in order to give out new loans. Banks create money (called credit) every time a new loan is given. In other words, banks are not reserve, or revenue, constrained – loans create deposits, not the other way around. In other words, the idea of “loanable funds” is false. (Here is TCU economics professor and cowboy economist John Harvey explaining how it works). What this means is that banks don’t need your money, but are rather providing a service to you: interest income and security. Related post: Government deficits *augment* private spending. (There’s no such thing as “crowding out.”)

A treasury bond is a savings account at the central bank. The only difference between a bond and a savings account at a local bank branch is its term. The bonds does not mature until it’s term has expired, which can be anywhere between three months to 30 years, or even longer. The bond cannot be redeemed until maturity. This does not necessarily mean, however, that the bonds can’t be sold to somebody else.

Just like a bank always creates credit when it loans, the central government always issues currency when it spends. So it, too, is not revenue constrained. This means that bonds are not needed for funding government spending, but rather to provide interest income and security for the purchaser. (Bond sales may indeed have other purposes, as described in the Hail 2020 and Mosler 2005 papers.)

The act of selling bonds by the central government is called borrowing both in official documents and by members of our political, education, and media institutions. It doesn’t make it borrowing in reality. Whether held by citizens, foreigners, or foreign governments, treasury bond sales and redemption change the form of existing money, no more. Sovereign governments don’t borrow, they securitize.

Specifically, the sale of a government bond is no different than transferring money from a checking account to a savings account. Redeeming a bond is the same thing in the opposite direction. If it really wanted to, a fully financially sovereign currency issuer could pay off all its bonds (including the interest!) tomorrow. Doing so would be no more harmful to the issuer, than a local bank branch closing all of its savings accounts and transferring that money back into checking accounts.

Finally, as should now be clear, currency issues also can’t be “in debt” in the same sense as currency users experience and understand the word. Despite this, the total amount of outstanding bonds held by the government is (very misleadingly) called the national debt. Related post: The reality of the national debt.

(Here is a 2010 article by Stephanie Kelton which demonstrates step-by-step how government spending adds money (net financial assets) to the economy, even when accompanied by bond sales.)

Appendix: a grain of salt

By Rick DiMare

I’m not sure about this.

I wrote a short essay a few years ago to distinguish between a promissory note vs. note of indebtedness. It’s always necessary to determine who borrows from who, who is the debtor (the one in debt) vs. who is the creditor (the one owed).

When Congress/Treasury issues current U.S. coin, the coin is neither a promissory note or note of indebtedness. The coin is simply the U.S. money.

When Congress/Treasury issues legal tender U.S. Notes, it represents a benign form of borrowing in which Congress/Treasury borrows on existing current coinage.

When the Fed issues redeemable Federal Reserve Notes (FRNs), it represents the Fed borrowing on Congress/Treasury’s circulating coinage.

When the Fed issues non-redeemable FRNs, also known as “notes of indebtedness” it represents an extension of credit given to Congress for pre-existing debts that Congress owes to the Federal Reserve banks.

Technically speaking, all notes are promissory notes, but we must always try to determine who is the servant vs. who is the master.


Top-image: From MasterTux on Pixabay (license)