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Posted October 27, 2012 | comments 5 Comments

Reader Commentary: Myth drives the budget fuss

By Thornton Parker

Nearly everyone believes that Uncle Sam is like a family that must get money before it can spend. But that is not true. A basic function of any sovereign government is to create and run the country's money system. Unlike a family, the U.S. government is sovereign. It creates money and can never run out. All the words about America's financial limits mean nothing.

Years ago, our money was based on silver and gold. But that did become a limitation when economies around the world needed money to grow faster than metal was dug out of the ground. The U.S. went off the gold standard in 1971, but we still act as if its limitations remain.

The economy is often shown as a circular flow of goods and services moving in one direction from producers to consumers, and money to pay for them flowing in the opposite direction. ike a juggling act, the flow keeps running until something interferes. Families that save interfere by removing some of the money. They also remove money when they buy more things from other countries than the U.S. exports. The flow of goods and services slows down when money is removed unless some other party replaces it.

The sovereign federal government is the other party. It creates new dollars by spending more into the flow than it removes with taxes. The big bad deficits that haunt so many people are just new dollars that the government creates to replace dollars that savers and importers remove. Moreover, the federal debt that causes so much heartburn is just the sum of all new dollars created since the country began.

Truth in labeling would have deficits called something like "new dollars created" or "new savings" and the debt would become "total dollars created" or "total savings." This is shown every week when savers bid to buy Treasury securities as safe places to put their dollars. The debt is not a liability that will burden future generations, it is an asset that present and future generations of savers will depend on.

The details of how the country's money system works are complicated, but the basics are simple. Most of our money consists of bank deposits that are transferred electronically or by check. Behind most deposits are mortgages, credit card balances, and other types of loans. When things work well, banks create money as it is needed by lending to increase deposits and remove it when the loans are repaid. As the population grows, as people want to save, and as the country imports more than it exports, new money is needed to supplement the bank deposits. The government creates that new money by spending more than receives from taxes.

If you understand that paragraph, you've got it! You are way ahead of most Americans and nearly all our politicians.

The power of the money system is also easy to understand. Because the government creates money by spending more than it receives from taxes, it will always be able to pay its bills. Neither it nor any of its programs can ever be forced into bankruptcy. This means that there are no Social Security, Medicare, or Medicaid crises.

While there is widespread unemployment, there is no financial reason not to help those in need or spend to create jobs. It is negligent to put off upgrading school buildings, roads, bridges, power grids, and water and sewer systems until they fail. It is gross mismanagement to force state and local governments to fire thousands of public service employees - that could be avoided with federal revenue sharing. And it is a basic social failure to not educate our young and prepare them for life without burdening them with education debts.

There are limits: if the government creates too much new money, it can lead to inflation. But inflation is not a problem now, when millions of people are out of work or not earning adequate incomes because too little money is in circulation. If our leaders understood how the system works, they would see how easy it would be to prevent serious inflation with taxes.

None of the arguments against actions to improve the situation today are valid if they are based on the myth that because the government is like a family it can't afford to spend beyond its income. In reality, the government is just the opposite, or a mirror image of a family.

Thornton Parker is a resident of Harrisonburg and the author of "What If Boomers Can't Retire? How to Build Real Security, Not Phantom Wealth." Email him at tipparker@lumos.net

5 Comments | Leave a comment

    Phantom "smoke and mirrors" bugus B.S. propaganda. Nothing more.

    Agreed, JH. TPs argument is so convoluted and bizarre that it defies translation. See wiki for info on 1st Bank of US, 2nd BUS, BUS, and Fed Reserve for a more accurate and clear explanation.


    JH & VP -
    You two added absolutely nothing to inform me about your contradicting view of Thornton Parkers explanation of basic economics, perhaps because your understanding and knowledge of economics is nonexistent?

    Both of you should take a moment to impress and tell us all you know about basic economics that differs from the textbook explanations... if you can.

    Thornton Parker makes sense, but he left something out. I believe the money is created when the Federal Reserve buys government bonds and pays for them with new money. Bonds that remain in private hands are a drain on the Federal budget because the government has to pay interest. This is not all bad, either, though. A lot of that debt is owned by the Social Security Trust Fund, and the interest helps keep the trust fund solvent. Since interest rates are low now, the drain caused by interest payments is manageable. This is in contrast to the 1980s, when Ronald Reagan (a Republican!) borrowed heavily during another recession with the interest rate somewhere around 16%. By the end of his administration, the interest on the Federal Debt was threatening to suck up all our tax revenues and cause an actual debt crisis. Now, since the government has been running a deficit for years, why are so many people still out of work? I think part of the problem is that John Boehner's "job creators" have been using their profits to pay off their own debts instead of hiring people and expanding production. And as a side benefit for them, low production means higher prices.

    Wow - a little knowledge (& misinformation) can be dangerous!!

    1. The Federal Government does NOT create money, it BORROWS it from the Federal Reserve.

    2. The Federal Reserve is a PRIVATE organization that creates money out of thin air to it's own credit. It then uses that created money to purchase REAL assets (in the most recent "quantitative easing", $40 billion is being created MONTHLY and used to purchase mortgage backed bonds - real debt of people with real mortgages).

    3. The Federal Reserve also makes it's created money available - currently at close to 0% interest - to member banks that in turn lend it on mortgages, credit cards, etc. thus creating an income stream with NO cost of credit. Why should a bank pay a saver interest equal to the CPI when it can get this created money for less?

    This is the "inflation" of the money supply which undermines the value of the average person's savings!!

    4. We have nothing to worry about??? - Bullhockey!! Our money supply is being compromised (we don't notice it as much yet since other countries - Greece, Spain, Italy, et al - are in WORSE shape). Look up hyperinflation in the Weimer Republic in Wikipedia for the worst case scenario.

    The next big financial bubble to burst will be the CURRENCY bubble - as your savings become worth less while the real cost of living, taxes on real estate holdings, etc increase exponentially.


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