← The Human Action Podcast
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- [00:03]
A
This is the Human Action Podcast, where we debunk the economic, political, and even cultural myths of the days. Here's your host, Dr. Bob Murphy.
- [00:14]
B
Hey, everybody. Welcome back to the Human Action Podcast. Today I am going to unpack a particular moment from the recent Zero Hedge debate that I engaged in with Randall Ray of MMT fame. And I think it's a great teaching moment. It has to do with what's called the sectoral balance approach. And so this is something I've been hitting repeatedly here on the Human Action Podcast and other venues. Jonathan Newman is the editor of a forthcoming Mises Institute publication, a collection of essays that are critiques of mmt, various elements of it. In the chapter that I have in that collection is just on this topic where there's what's called the sectoral balance approach that purports to show that if the US Federal government doesn't run a budget deficit, then there's some sense in which that constrains the ability of the private sector to get ahead financially. All right, so the way Stephanie Kelton put it in a tweet, I think within the last year was she showed a graph of the financial flows and that when the government was in the red, the private sector was in the black. And she said something like, their red ink makes our black ink possible. Okay, so that's. So I think it's a very effective rhetorical tool that the MMT have. And I've, like I said, many venues tried to unpack it. And so I think it's worth doing here because again, just in this debate, Zero hedge, Randall Ray deployed it on me. And so sort of, if you've read Harry Potter and seen the movies, this is like a Defense against the Dark Arts class. And I'm going to show you, if an MMT uses this spell against you, here's how you can respond. Now you might say, okay, so, Bob, why don't we just watch the Zero Hedge debate and see how you did? Because he was responding to me and there was a time crunch and I didn't get into this stuff. All right? But here I want to, in reviewing the film from the game, to show the players, okay, if they run this play against us again, this is how we do the defense for it. Okay? So that's what we're doing here to make sure you understand the full picture. And then if someone comes at you with this argument, you'll know what to do. And you can tailor it to the audience and the time constraints that you have. Okay, so why don't I first just give you the full context here. I will play this segment from the zero hedge debate to set this clip up. I had earlier the moderator had asked us, hey, what happens if the inflation premium and or default premium on government debt keeps rising? And he's talking about Treasuries, you know, the US that what happens, you know, are as investors are demanding higher and higher nominal yields on Treasuries as the federal debt gets higher, you know, measured in terms of relative to GDP or whatnot. And so, and he said, you know what, what advice would you give? And so I said, well, this is pretty standard stuff. This is what somebody in 1905 would have said, that if the problem is government indebtedness is turning into a problem, then they need to slash spending. They need to spend within their live within their means, cut spending just like any corporation or household. And I acknowledge, I said, I know Randy's not going to like that answer, but that's my answer, right? There's nothing. Just giving the government a printing press doesn't change the fundamentals. It just means they can get away with unwise policies for longer than some other organization that didn't have a printing press. But it doesn't transform a foolish policy into a wise one just because they're printing money. Right? That was the gist of my answer. And then when it was his turn to go, this is what Randall Ray, again one of the co founders in terms of academic backing of modern monetary theory or MMT had to say. How about you, Randy? I know that your answer is gonna be slightly different.
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Yeah, well, look, I mean there are so many things that could be covered. First, the budgetary outcome is ex post and it's not discretionary. And if you look at what after the fact, when we look backward in time, what was it that caused, let's say, a large increase in the deficit, about 80% of it is going to be tax revenue. Tax revenue is far more important in determining the budgetary outcome than spending because spending is generally on a fairly constant path. But tax revenue varies tremendously depending on the performance of the economy. The bonuses on Wall street are extremely important. And our big deficits, when the deficit really widens, it's because tax revenue fell, not because Congress decided to spend a whole bunch more money. Now there are exceptions to that, including the COVID relief package that had an impact, but otherwise it's generally tax revenue. So it's the performance of the economy that largely determines tax revenue. The other reason why it's not discretionary is because at the macroeconomic level, the level of the economy as a whole, there is an accounting identity, which is the deficits of some sector will be identically equal to the surpluses of one or two other sectors. And if we look at the case of the United States, we can divide the economy into three main sectors. One is the government sector. That's all levels of government, but it's driven by the federal government because its swings of its budget budgetary outcome are bigger, much bigger than the swings of state and local government budgets. We can take the private sector, which is households and firms taken together, and then we take the rest of the world, which is our current account balance, against the rest of the world. I'm sure every listener here knows that we have a current account deficit against the rest of the world, and we've had that since the days of Reagan. I'm live long enough to see that turnaround. It could turn around someday, but I would not hold my breath. We're going to have a current account deficit. Our domestic private sector virtually always has a surplus. The only time in my lifetime that it had a deficit was in the run up to the global financial crisis. The private sector runs surpluses mostly because households are saving for retirement and for college for their kids and so on. And our private firms do not invest like Asian private firms, okay? So our private sector taken as a whole is always running a surplus. The offset to that has to be the government's deficit. The government's deficit equals the foreign sector surplus against the United States plus our private sector surplus. That is what, in a sense, determines the outcome of the government's budget by identity. These things have to hold. So when people say we need to reduce the government's budget deficit, my question always will be, okay, how will we get the rest of the world to buy more American stuff so we can turn around our current account deficit and turn that into a surplus? I don't know. Trump tried tariffs. It did not work. It did not improve our current account balance. Okay. Or, hey, why don't we have the private sector start spending far more than it earns? Well, we tried that. We tried it before the global financial crisis and then we crashed. And by the way, if you look back in time, when was the last time before the GFC that the private sector ran a deficit? Well, it happened to be 1929. Okay? And if you look back in our history, we've had seven depressions, and before each depression, the private sector surplus. I. Sorry, a deficit. So there seems to be something bad for the economy. When our private sector runs deficits. So anyway, we can't change just one element of this accounting balance without changing at least one of the others. And I don't know how we're going to get a current account surplus or have our private sector safely spend more than it earns.
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Okay, so there you have it. Let me proceed in this fashion. This is the kind of thing where I really think your response to something like that, if you are a hard money, you know, small government, or you're a no government aficionado and you get hit with this, where it seems like, geez, they're making an argument about why balancing the government's budget would be a problem. I think in order to correctly rebut that, it really helps if we take the time to understand what the argument is instead of just kind of reflexively say, come on, that can't be right. How does it, how does it help the private sector if Uncle Sam is profligate? That doesn't make any sense. So you're right and, you know, run with that intuition. But here I do want to explain the subtleties in the sectoral balance approach. Right? Because it's, it's not that it's wrong when you understand what they're saying and how the terms are defined. It's correct. It's a tautology. I'm going to walk through it a moment. But the point is it's incredibly misleading the way, that, you know, Randall Rae just used it in the debate against me or the way Stephanie Kelton uses it when she says stuff like people complain about federal budget deficits, but their red ink makes our black ink possible. Last thing, I'm not saying that Randy or Stephanie Kelton are consciously misleading people. I think they believe what they're saying and they're like, we're surrounded by idiots. Don't these people understand arithmetic? So I, I think they earnestly believe in what they're saying. It's just they've fallen into a trap, as I'll try to demonstrate here. But again, before we try to show what's wrong with what they're saying, let's just take a moment and walk through for you to understand why they think that this is obvious or should be obvious. Okay, so if you're. The video version of this would be more helpful for you because I'm going to have some equations up on the screen and whatnot and diagrams. But you, you also could probably just get by with listening to the audio. Okay, so where this stuff comes from and this particular derivation, I'm just relying on a blog post from Bill Mitchell, who is another guru in the MMT camp, like an academic economist. All right, so this is not me speculating. Like this is when, if you ask an mmt, or where does the sectoral balance approach come from? They might motivate it this way. Okay, so you can. There's two different ways of writing out the formula for gdp, right? So one is you say Y equals C plus I plus G plus net exports. And so that's exports minus imports, incidentally, in this kind of equation. So Y is real output, C is consumption, I is investment, G is government spending, X is exports, M is imports. That's not so obvious. Why do they pick M? Well, because they can't use I because that's investment spending. Right? So that's why they couldn't use I. And then since X was for exports, by symmetry, it kind of makes sense that for imports they're going to pick the second letter also. That kind of captures the sound of the word is what I think. I didn't read that somewhere, but that's my guess as to why they picked on for imports. Okay, so given that that's the standard GDP formula, or that's one way of measuring it, looking at expenditures. Okay, there's problems with that and all that stuff, and Austrians have railed against the GDP formula, but in terms of, you know, what do the symbols mean? And if you're going to look at the world in this way. Okay, fair enough. You can also write GDP as being equal to C plus S plus T, where S is the, you know, the new term that's being introduced and that's saving by the private sector. And T stands for tax payments. Okay? So here we're looking at GDP in terms of income, whereas before we were looking at it in terms of expenditures. And either approach is valid, right, because one person's expenditure is another person's income. Right. It's just the accounting flip side. All right, so if you just think about it, okay, yeah, total real income in the economy is private sector consumption. And then how much does the private sector save? And then how much is the private sector paying taxes? All right, okay, so then. And again, these are standard. This isn't like idiosyncratic MMT or versions of these formulas. This is standard stuff for macroeconomic accounting. Okay? So then you set those two things equal to each other because they're both equal to Y. The Y drops out and you've got this equation, the Cs drop out, and then you can rearrange it to come up with this beauty that says, you know, you have three different things that are contained in parentheses. And this is one way of expressing the sectoral balance identity. Right? And so the first term is S minus I. You can think of that as the private sector surplus. And then the middle term is T minus G, which is like the government surplus. Right? Because it's how much their tax receipts exceed how much they spend. And then the third term there, M minus X, is imports minus exports. And so that's like the foreign sector surplus. All right? Because if the US Is importing more than it's exporting, then that means foreigners have a net, you know, financial gain vis a vis the United States. Right? The foreigners are selling us more stuff than they're buying from us, and so they have, like, a net financial surplus. Okay? So again, big picture in this version, this equation is showing that the domestic private sector surplus plus the government surplus plus the foreign sector surplus all have to equal zero. All right? And so the idea is if one sector has a financial surplus, meaning they have receipts that are higher than their spending, if their income is higher than their expenditures, then that necessarily means the other two put together must have a corresponding deficit.
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C
Okay?
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B
So it doesn't pin down which of the other two. It has to have the deficit, but the two of them added together have to. That's the way to look at this. Okay? Okay. So again, this. Given what the. These definitions are, these terms, this is true. Let me mention real quickly, as an aside, there's a little bit of a subtlety where the way these terms are written in the macroeconomic variables. The, you know, X minus M is that would actually be a trade surplus. Or if you do M minus X, that's a trade deficit, right? Imports and exports. Strictly speaking, for the sectoral balance, financial flow analysis really to be correct, in terms of the accounting, it would be a current account deficit or surplus. All right? So I'm just noting that for those purists out there, if you're really getting in the weeds and you're familiar with the distinction that, yeah, you'd have to be careful with that. But here, for our purposes, I think that's a harmless simplification just to get the main logic to go through. But again, if you wanted to really do this correctly, you'd have to be a little bit more precise there, that the financial flows refer to the current account versus the trade balance. Okay? So what we can do now is rearrange those terms to reach the following. That S minus I equals G minus T plus X minus M. And so an MMT or might read that and say, oh, the private sector's net financial surplus, that's the left hand side, is equal to two things, namely the government's budget deficit, right? How much G is bigger than T? Right. They flipped their order since we moved it to the other side of the equal sign plus the US current account surplus, right? How much our exports exceed our imports, X minus M there it looks like a trade surplus, okay? And if you think about it, that sort of makes sense, right? That if the private sector is gonna, in a sense going to get ahead, then it equals those other two things. Okay? Now finally, what Ray did in that excerpt that we just played for you folks is he took these, you know, the, the raw equation or identity even, and then he added some empirical facts, right? He made an appeal to history and said in the real world right now, the US is not going to run a current account surplus, right? In fact, as everybody knows, he says the US has a large current account deficit. Just think trade deficit. And he said, and that's been the case since the Reagan administration. And that's probably going to be true to, during my lifetime, Ray is saying to continue to be true. And even despite Trump's attempts to have massive tariff hikes and whatever, we still have a big current account deficit. So he's just assuming that's not budging, that's not going anywhere, all right? And so then we can revamp the equation in the following form. We'll flash up here. And so there we're saying, okay, given that we're going to have that foreign sector deficit, so we assume that our imports are bigger than our exports, that purple box, we can see that, okay? Net private sector saving, that left hand green box has to be equal to the size of the government deficit minus the size of our trade deficit or current account deficit, okay? And again, that's just rearranging the terms and then kind of just building in the fact that we think M is going to be bigger than X, that our imports are bigger than our exports. All right, so that, that last line there, that kind of summarizes his argument. And so what Ray is saying is if you follow the logic thus far, now we can see crystal clearly that these people demanding that the government balance its budget or even worse, run a surplus, just look at what that would force to be true. That if we already know that that purple box is a positive number, so that, you know, the minus makes the whole thing negative. If that red box in the middle, the Government deficit. If that's zero or itself negative, then that whole right hand side is negative. Right? The only way, if we assume that the US is running a current account deficit so that on that right side it's minus, you know, some number. The only way to make the whole right hand side positive is, is if the government deficit is a bigger number. All right? So again, if the government balances its budget, then no, that whole right hand side has to be negative and then oops, but then there's inequalities, you know, an equal sign. So that means that left hand side has to be negative. And what's that left hand? Oh, that's private sector saving. Technically it's net saving. Right. And so that's what where Randy was coming from when he's arguing. Again, just the punchline. Given that the US is going to continue to run a current account deficit with the rest of the world, we're going to basically import more from them than we're going to export to them. Even accounting for different asset ownership and income flows, then the only way our US private sector can save more than it spends, or said I should say, or consume less than it spends, I should say can spend less than its income. That's another way of putting it, is if the US Government runs a budget deficit. Right? This is just accounting. So the beauty of this, and that's why he's saying so if the government were to balance its budget, then necessarily the US private sector must be spending more than its income. And doesn't that sound scary? Doesn't that seem like it's a bad idea? And also doesn't it seem like the opposite of what the fiscal hawk conservative, you know, we're very responsible, not like these crazy Keynesians and MMT ers. And so they're saying, guys, if you just understood basic accounting, you would see that your policy recommendations would force the private sector in the aggregate to be living beyond its means, to be spending more than their income. So how can you recommend that? That's crazy. Right? That's. So that's what they're recommending. And so notice the reason this seems like such a powerful case is they're not making an appeal to Keynesian macroeconomic theory. They're not assuming that there's like multipliers on government spending and blah, blah, blah, you know, that kind of stuff. They're not even assuming that there's some kind of, you know, involuntary unemployment and that there's idle resources and things like that. No, this is just flowing from basic accounting tautologies. Again, once you understand what these symbols mean. Okay, so now that I hope I've driven home and, you know, given a steel man of Randy's argument as opposed to a straw man, let me show you two big things that are wrong with it. Okay, so the first problem, which is not like the fundamental flaw, but is important in context, is that when Randy is saying, like, jeez, I don't see, you know, what the proponent of a balanced budget is going to have to explain to me is either how the US Is going to flip from having this chronic current account deficit to having, you know, a trade surplus. How's that going to happen? Tariffs didn't do it. Geez. Or they're going to have to explain to me why the US Private sector spending more than its income, is sustainable and is a good idea, is the prudent thing to do. Like it's got to be one of those two. Right? Okay, so now I'm hitting the first one. And that what's interesting is even just in terms of standard textbook economics, if the US Federal government were to suddenly slash spending and balance the budget, one of the obvious implications of that would be that the US Trade deficit would shrink. Okay, so when Randy's asking, well, gee, how could this be? This is standard economics, all right? And so. And when he said, yeah, but it hasn't happened in my lifetime. Well, the US Government has been running a huge deficit since the Reagan administration, right? So that's kind of a, you know, an odd thing. I'm saying the US Budget deficit, government's budget defic. Is closely linked to the US Large current account deficit. And what's funny is Randy's own accounting framework shows that. Okay? So it's not shocking for me to say, well, where's it going to come from? Because if the US Government balances its budget, that would set in forces that, quote, automatically would, quote, improve the US Trade balance. Okay, so let me just walk you through that. And again, I'm. One way to motivate that is I could appeal to Randy's own sectoral balance arguments. All right, He's. In other words, he's just assuming that. No. That the current account deficit is fixed and nothing's going to move that when I'm going to show the. An obvious mechanism by which the government budget deficit coming into balance would help move that. Okay? So the mechanism would go like this. The US Government cuts its spending, the deficit drops to zero. So now the treasury is going to stop issuing net new debt. Right. Going forward right now in the status quo the treasury is going to issue trillions upon trillions of new debt year after year. And so investors around the world, you know, some of the US of course, but also around the world every year are going to be adding more and more Treasuries to their portfolios. Because the outstanding stock, measured in dollars of U.S. treasury debt right now is on a trajectory to keep increasing massively over the next decades. Right, but if we switch to a counterfactual where all of a sudden the US Government slams on the brakes, massively slashes spending to balance the budget, you know, in terms of existing tax receipts, then the treasury does not need to keep issuing new debt. Right. So if certain Treasuries mature, they can roll the proceeds over. So at a gross level, yeah, the treasury is going to be issuing new T bills and whatever and keep rolling them over and you know, even longer dated ones as those things mature. But the point is the outstanding stock of total treasury debt would be fixed. They would just keep rolling it over as individual ones matured. All right, and so what would that mean in terms of like a loanable funds diagram might just say, what's the supply and demand for people who want to borrow and lend US Dollars depending on what the yield is on those loans? Well, it's like a massive borrower would just have dropped out of that market. So the demand to borrow US Dollars would have fallen or the demand curve shifts to the left, if you want to think like that. All right, what happens when the demand curve of something shifts to the left or drops? The price goes down. Right. And so the specifically in this case, the yield on US treasury debt would fall. Right. This isn't some wacky Austrian crazy theory. This is standard stuff. Right. If the US Government goes from borrowing an additional several trillion dollars a year to borrowing no new dollars per year, then the yield on Treasuries would fall. Right. Okay, so what does that do then for investors around the world? Other things equal. Now the yield on various maturities of U.S. treasuries has fallen. So other things equal, when they're re optimizing their portfolios, they don't want to add as many Treasuries. Okay. So relative to the counterfactual where the treasury continued to borrow trillions upon trillions of new dollars year after year relative to that counterfactual in the new trajectory where they're not doing that, foreigners around the world use less of their currency to go fetch US Dollars to buy Treasuries. Right? So like imagine some Japanese investor who in the Original timeline, the status quo would have added a billion dollars of 10 year treasuries to his portfolio next year. And now he doesn't. So before he would have taken yen to go into the forex markets to buy dollars to then go buy the billion dollars worth of Treasuries, but now he doesn't want to do that. Maybe he wants to invest in Australian real estate. So he takes his yen and now he doesn't buy US dollars, now he goes and buys the Australian currency instead. Okay, so in the forex markets, the dollar falls against the yen. And that process I just described is going to be true for investors in all kinds of different currencies. So other things equal. The dollar is going to fall against all the major currencies of the world if the US government slashes its spending. So it's counterintuitive, or at least it was to me when I first heard, because we had this idea that, oh, a big government budget deficit is a sign of fiscal weakness. And so you'd think investors around the world, you know, when they see that a government gets its house in order and balances the budget, that that would make the currency stronger. But again, it could if it changed their expectations about the likelihood of a, of a imminent default. But just know, in terms of just modest moves and things like that and tweaking things on the margin, no, if the government stops borrowing as much, then yields fall. And that means investors aren't as attracted to Treasuries. If the yield went down, okay, and that actually makes the currency fall for the reasons I walked through. Okay, so now if the US Dollar is weaker, what does that do to the trade balance? It means imports are now more expensive to Americans than they were before. Right, because now their dollar against the various currencies is weaker. So imports seem more expensive. In the flip side, US exports are now more affordable to foreigners because their own currencies have strengthened against the dollar. So American wheat and jet engine, aircraft and, or jet engines, I should say, and software, you know, typical U.S. exports now they will move more of those. All right, so the US will import fewer sweaters and TVs and cars from abroad and will export more of its stuff because the dollar is weaker in general against other currencies. And that means the trade balance moves, you know, the trade deficit shrinks. Okay, so that's again, notice what I said there. That's a standard, textbook thing. And again, appealing to the sectoral balance approach, you could think of it this way. In the original status quo, where the treasury is going to issue trillions upon trillions more of assets that it's going to give, some of which to foreigners. Well, what are the foreigners sending us in exchange? Right. If they're getting all these new Treasuries, those are assets to them. Those are claims on future US dollar flows. Right. So the foreigners must be giving us something in exchange. And so what do they do? They give us cars and whatever, sweaters and so forth, TVs. So now if we're not going to be giving them that new flood of Treasuries going forward, why would they keep sending us cars and TVs and sweaters? What's in it for them? They wouldn't. Right. And so the way that's going to be balanced is they're going to reduce the flow of what they send us, and then the flow of what we send them in terms of goodies like wheat and whatnot, is going to have to increase to make up for the fact that we're no longer giving them all these new treasury securities that are valuable assets. Okay. So that's another way of looking at it in terms of financial flows. Okay. So I hope I've shown when Randy's asking rhetorically, you know, geez, with someone who thinks the government should balance his budget, how are you going to get the current account to, you know, get closer to balance and say just the very act of that doing that? Because you understand, demand curve slope downward. Okay, so let's now jump to the next element in his case, and this one I think is the more fundamental. Right. So that first one I just thought was interesting to walk through, but this next one I think is the decisive one. Right. So again, he's trying to argue that. Other things equal, we'd expect the US Federal government tightening its belt, reducing its financial deficit would put pressure on the US domestic private sector to make their surplus shrink. Okay. And if we got rid of the foreign sector altogether, or if we just look at planet Earth as a whole. Right. So it's not that Earth is exporting to Mars or importing from Mars, just get rid of the foreign sector altogether and then the symmetry would be perfect. And it would be exactly what Stephanie Kelton was saying, that yeah, if the government runs a budget deficit, that's what allows the private sector to have a net financial surplus. And if the government balances its budget, then the private sector can't run a surplus anymore. That it's spending exactly equals its income. And then even worse, if the government were to to run a surplus and to start Paying down the federal debt, well, then the private sector necessarily would be spending more than its income. They would. This private sector would have to run a financial deficit. Right, and so that's the idea. Okay, so let me just explain how this works. The, those terms sound scary, right? But when you under, when you unpack the meaning of the, of the variables involved, you realize that. No, that it's misleading. So again, just to flash up that diagram, what we can loosely refer to is net private saving is S minus I. It's. It's private saving minus private investment. All right? And so when, you know, like, like Randy's excerpt there that we played for you would lead you to believe that if the federal government runs a budget, a balanced budget, and let's say that the current account is balanced as well, so that the US is just, you know, breaking even. Exports equal imports. In that case, that means employees can't save for their retirement. Like that's kind of what he's leading you to. Like they're somehow boxed in that the only way the private sector as a whole can save for the future is and to do the responsible thing as if there's some other entity outside the system that's racking up liabilities. Okay. And I want to say that that's very misleading because as that green box shows, what they're calling net private saving or the net financial surplus can be zero. Even though saving and investment are both very high, they just have to be equal to each other. Right? So saving private saving can be a really big number and private investment can be a really big number. And then S minus I is still zero. All right, so again, they didn't literally say this, but rhetorically, when Kelton says the government's red ink makes our black ink possible, or when Randy is talking about employee retirement and whatnot, they're leading you to believe that, oh, people can't, you know, households can't save and gain net assets. And again, it's, Let me just explain to you what, what's going on here. So there is a sense in which if, if one person just saving and somebody else just keeps going deeper into debt, you can kind of understand why it seems like the community as a whole isn't getting ahead. Right. So if you got. And I'll link folks in the Show Notes page, I have a blog post where I walk through this if you want to see the argument there. But I had this little scenario where it's prudent. Paula has a hundred thousand dollar income from her job and she consumes 80,000 a year and saves 20,000. But then there's spendthrift Sam, and his job's income is 100,000. But every year he borrows the 20 grand from Paula. And he, you know, so he lives. He consumes at 120,000 a year. He's living beyond his means. And if they just keep doing that. Yes, Paula keeps gaining assets. Year after year, she's living below her means, her financial assets are increasing. But that's exactly counterbalanced by the liabilities of spendthrift Sam, that every year he goes deeper and deeper into debt. And so you could see how, yeah, the community as a whole there is just treading water. One person's growing assets are exactly counterbalanced by another person's liabilities. And if that's what you thought was going on and that was the end of the story, you could see how. Yeah, it's not like the employees in general in that community are saving for their retirement. One person is, but another person isn't. Okay, but things can get more sophisticated when we bring in other entities like corporations. All right, so imagine now what Paula does and what Sam does and what every other worker does is they live below their means, they consume less than their income, and then so they have saving. And what they do with that is they buy either bonds or shares of stock from corporations. Okay? So in terms of the accounting, this is still all awash. And the whole private sector, if you draw a bubble around it, still has net zero net financial assets. And the way they do the accounting is, so Paula, let's say she's buying bonds from the Acme Corporation. You know, every year she buys 20,000 more in new bonds. So, yep, her assets keep going up. She keeps having all these bonds to show for it in her portfolio. But of course, that's exactly counterbalanced as liabilities to the Acme Corporation. And so since the Acme Corporation is part of the private sector too, you throw it all in there and up. Net financial assets are zero. They have to be. That's the way, you know, the way that's defined. Okay? And then even with stock, you might say, well, isn't that different? Because that's equity. It's not a debt claim. The standard accounting on this stuff, and I'll put a link in the show notes page too, for this. But many people, the way they do the accounting on this, even shares of corporate stock wash out. So that if you view Paula and Sam as having, you know, $20,000 of corporate stock now in their household portfolio, well, Then you've got to treat it that those corporations implicitly have, like a liability to Paula and Sam in terms of, like, the residual claimants on the corporation's assets. Okay? So again, it's not legally the same thing. It's not a debt instrument. It's equity. But still, in terms of the way these, these, this accounting is done, it's a mirror image still. So you still get the result that if you draw a circle around the private sector as a whole, any financial asset that any individual in the system has points to a corresponding liability from some other element in that same system. And that's the sense in which the private sector by itself cannot accumulate net financial assets. Now, if people in the private sector hold Treasuries, then that's an asset to them, but it's a liability to the federal government. And the federal government's not part of the private sector. So that's the way the trick works, that the way the private sector can have a net financial asset is if it owns Treasuries, okay? Because there again, those are assets for the private sector, but they're liabilities to something outside of it. Okay with me so far. Having said all that, Just because the private sector can't have net financial assets doesn't mean it's prevented from having net real assets. All right? So, like when Sam and Paula and all the other workers put aside $20,000 a year out of their income, they're being responsible, living below their means, and they buy either bonds or stock from the corporations. And then what do the corporations do with all that new influx of cash? Suppose they go out and they invest it responsibly, and they, you know, buy forklifts and new factories, and they do better fertilization of the farmland, and they go and explore and find more oil wells and things, you know, oil deposits and so forth, build more wells. And they're doing all this stuff with all this cash that keeps flowing in year after year so that the real assets owned by those corporations keeps going up year after year. And so the way the accounting works is the corporations have all of these, you know, trillions and trillions of dollars of net new real assets year after year from their investment spending. And then Paula and Sam and all those guys, they have the. The bonds and stock to represent the ownership of those corporations and to avoid double counting, then you also have, you know, the corresponding liabilities from the corporate point of view. But the idea is you're adding in the real assets once, then you're adding in the financial assets of the households. And then to avoid double counting those underlying real assets, you're subtracting away the financial liability of the corporations. Okay, but the point is, on net, the result is still, you know, all the farmland and factories and whatnot. Or put it to you this way, this. You could imagine two different private sectors side by side. And in private sector A, all the, all the workers just use their bare hands. There's no tools or equipment or anything. And there the net financial assets in that society, private sector A would sum to zero. And then you can look at private sector B, where there's bustling economic growth and there's, you know, factories getting put up every day, and there's forklifts and there's 18 wheelers and there's deep sea oil rigs. Right? All sorts of stuff going on there. Workers just have all types of tools and equipment to augment their labor. So in private sector B, they're fantastically wealthy compared to private sector A. And yet if we don't have a government involved or, you know, foreign sector, it is also true, the way the accounting is done, that private sector B will have net financial assets of zero. Okay, but does that. That's just a bit of trivia. Clearly, people are still allowed to save. They can still invest. And the real income of a society can grow over time. If the people are frugal and you don't need a government running a budget deficit to facilitate that. That has nothing to do with it. In fact, I would argue that would retard their growth. But put that aside. That's an economic argument. I'm saying the accounting doesn't have anything to do with this. All right, so again, the summary here is to take away the. That in a world where the private sector spends where its spending equals its income, you might have been led to believe that that means nobody is doing anything responsible and they're not getting ahead. And I'm saying, no, no, no, this private spending includes investment spending.
- [46:12]
C
Right?
- [46:12]
B
By businesses or households too, but primarily businesses in terms of probably empirically what's likely. Okay, so the fact that you're saying, oh, without a government budget deficit, the private sector isn't going to engage in net saving. That's fine, because in that context, net saving means saving greater than investment. And so what, it's fine if the private sector invests. That's actually kind of how we think of what's the benefit of saving in the aggregate is because that leads to more investment. So there's more tools and equipment, things like that to make our labor more productive down the road. That's the, that's the quote, real economic benefit of saving, right? So want to unpack all that. You can see why I wasn't able just to flip that around and knock that out in a 30 second soundbite. But that is the answer. Last thing I'll mention is Randy also went on to say, hey, it's not just, you know, these accounting tautologies, but empirically, whenever the US Government has run a surplus, there's been an economic crash. Right? There might be exact words, but he was, you know, made an appeal to history on that regard, too. Here on the Human Action Podcast, I have a whole episode where I walk through that too and just debunk that and show why that's not nearly the trump card that some of the MMT folks think it is. All right. But since I went through and did that anyway, I'll just link to that in the Show Notes page. I won't recapitulate the argument here. All right, so that's a good place to wrap up, I hope. I gave you the Steel man version of Randy's argument, but then also showed you the Achilles heel, the little chink in the armor of that steel. And in any event, thanks for tuning in, everybody. See you next time.
- [48:06]
A
Check back next week for a new episode of the Human Action Podcast. In the meantime, you can find more content like this on mises.org.
- [48:26]
B
Sa.