I visit Matt Yglesias' house (HT JeffreyY). I drink one litre of milk from his fridge. I write Matt an IOU for one litre of milk.
1. If Matt subsequently tears up that IOU, then I am richer and he is poorer. Taking the two of us together, in aggregate we are neither richer nor poorer if Matt tears up the IOU. Tearing up the IOU doesn't bring the milk back.
2. Therefore there is no aggregate cost to me and Matt of me drinking more milk from Matt's fridge and writing Matt another IOU.
1 is of course true. But 2 does not follow from 1. 2 is false.
We can't do anything about the existing stock of national debt. "It's no use crying over spilt milk", even if it was spilled down my throat rather than spilled on the floor.
But that doesn't mean there is no cost to spilling more milk. True, there's also a benefit, if I'm thirsty, and it's spilled down my throat rather than on the floor. But there's a cost too. If the government runs a deficit now, there is a cost to future taxpayers. Sure, there's a benefit too, depending on what the government does with the funds it borrowed. And we should compare those benefits to those future costs. But we shouldn't pretend those costs don't exist.
The existing stock of debt represents the costs of past deficits that cannot be undone. We can't turn back the clock. But the fact that we cannot turn back the clock on past deficits says absolutely nothing about whether we should run a deficit now. We need to compare the benefits to the cost to future taxpapers.
Matt Yglesias was defending Paul Krugman's recent posts on the burden of the past debt and the desirability of current deficits.
Here's Paul:
"Deficit-worriers portray a future in which we’re impoverished by the need to pay back money we’ve been borrowing. They see America as being like a family that took out too large a mortgage, and will have a hard time making the monthly payments.
This is, however, a really bad analogy in at least two ways.
…..
Second — and this is the point almost nobody seems to get — an over-borrowed family owes money to someone else; U.S. debt is, to a large extent, money we owe to ourselves."
This post is based on Noah Smith's post, and on my original post.
Worthwhile Canadian Initiative 
Is there really a cost to repayment? If the alternative to repayment is an increase in interest rates? If we choose repayment to raising interest rates?
Karl Smith likened debt to promises–promises that serve to bind independent actors into acting in concert.
There is something wrong with owing lots of debt to ourselves: the problem was captured in your plastic vs. glass thread. Government as large single borrower (on the order GDP) is a systemic risk. The same people (Krugman, Yglesias) who want to limit the size of large banks do not seem to want to apply the same rule to the government.
Okay, they claim that the government cannot default (Karl Smith claims the government should just take what it needs by force); its not clear that under a democracy, the people will support arbitrary taxation in preference to default. It’s also not clear that ‘the people’ will support monetization of the debt over default either.
So, in short, yes there are costs to increasing the amount of gross debt even when the net debt is zero–we owe it to ourselves means net debt is zero. Krugman wants us to believe only the net matters, but surely we learned better after the financial crisis that has just come to pass.
(You can then add to this critique: Noah Smith’s recent post about intertemporal decisions and deadweight loss implications.)
The key to the conversation is choice over time between alterntive production and consumption paths — using goods to produce long period production goods creating far,far greater output much later later in time vs using goods for immediate consumption now or for short term processes than produce fair, less output much sooner in time.
E.g. ripping down a house and chopping it up and burning it to produce warmth right now vs planting forests, producing factories to make logging equipment and nail guns and rail cars and moving equipment and everything else needed to produce housings capable of providing warmth for centuries.
If the government takes money away from savers who,would invest in forest production, rail car production and housing production, and diverts that money via borrowing spent of tripping down houses and burning the chopped pieces of those houses for fuel, what is the consequence???
In other words, without capital theory — engaging the choice theoretical fact that no one will use a longer production processs unless it promises superior output to a shorter process & that in fact people make this choice constantly — economists cannot competently engage this question of “borrowing from future generations”.
The logic of debt only has a purchase on the real world when considered in relation to the choice in the present across time between production processes producing greater or lesser output across time in the future.
Debt which generates greater consumption now and far, far less production involving more productive long period produnction goods is debt which enriches the current generation and necessarily make later generations worse off than they would otherwise be.
I think your milk analogy implies that Noah is right. Specifically, say that IOU gets inherited by Matt’s kids. Your drinking the milk had an aggregate cost to you and Matt, but since the milk would long since have gone sour, it has no aggregate cost to your or Matt’s kids. Similarly, using debt to rearrange consumption today has costs today, but since the consumable resources we’re rearranging generally wouldn’t exist anymore in 30 years anyway, it doesn’t have any implications for our wealth in 30 years.
On the other hand, as Noah points out, shifting wealth between consumption and investment today does have implications for our wealth in 30 years, but it doesn’t matter whether you use taxes or borrowing to shift that wealth. Krugman tends to be imprecise when it suits his purposes, but I think what he means here is that the deficit isn’t any more or less of a burden on future generations than taxing ourselves the same amount today would be.
But there’s a cost too. If the government runs a deficit now, there is a cost to future taxpayers.
I don’t understand why that should be the case. Let’s say the government credits $1 million to the account of a construction company to build a bridge, without raising taxes or issuing debt to offset that spending. That’s $1 million created out of thin air, which never has to be paid back and on which no interest is payable. The only potential cost of such deficit spending is inflation. Am I missing something?
Nick,
I’m a bit confused about something which is probably basic and obvious to most people within this debate.
In your original post, you constructed a sequence whereby net apple consumption by the oldest generation was “funded” by net apple provisioning by the youngest generation, that being done through an apple debt sequence that ended up with apple taxation paying down the debt.
You indicated there that this sort of construction should be a very obvious thing to economists.
What isn’t clear to me now is how important that construction is to your entire argument in this series of posts. It seems to me that the essence of that apple sequence is that taxation of a future generation to pay down debt incurred by the current generation constitutes a burden for that future generation.
So what isn’t clear to me is the degree to which that equation (future tax = future burden) is accepted as obvious by everybody.
It seems to me that once you assume taxes, the burden is established, according to your sequence. So there should be no debate about that. It seems to me further that the real debate is about the necessity for such taxes, but that the equation itself (future tax = future burden) is assumed, I guess, to be obvious to everybody. Is this the case? You did take the time to set out the sequence in your example, which is why I’m wondering.
And I guess I interpret Krugman’s post as the “we owe the debt to ourselves” argument includes the assumption that debt is not paid down by taxes, for whatever reason. And I would say that “we owe the debt to ourselves” is an entirely valid point, provided you assume no future taxes to pay down the debt, for whatever reason. Conversely, if you assume future taxes, there must be a burden.
Do these questions make any sense to you?
I ask partly because, for my own satisfaction, I’ve developed a fairly formal accounting model that corresponds to your apples debt sequence, and replicates that logic in balance sheet accounting terms. I was thinking of posting it here, but I don’t want to do that unless you’re interested. And I don’t want to do it if the “future taxes = future burden” is a completely obviously fact to everybody, and if the discussion is and always has been well beyond that. I need not post something that’s obvious, and a distraction that will just clutter up the debate with a peripheral concern. Maybe I can’t see the forest for the trees here. But if you happen to be interested in some formal accounting for your apples sequence, I can show it to you (a bit lengthy, but not outrageously so), including asset, liability, and equity balance sheet components. If not, no problem, since I’ve done the accounting for my own purpose anyway.
Back in the real world Karl Denninger’s view http://market-ticker.org/akcs-www?singlepost=2830228
My reaction to the Yglesias post:
Debt obviously doesn’t “drain real resources”.
But taxation is a drain on private sector monetary resources that can impact real resources compared to the counterfactual. So if for any reason, the government responds to its debt build up with taxation (to retire debt), that can have a relative effect on real resources. Taxation is contractionary at the margin.
Yglesias seems to contend that a balanced budget provides tax revenue to pay down debt. I don’t know what that means unless it means what it appears to mean, in which case it is wrong. A balanced budget provides for interest payments but not debt repayment. You need a surplus for that.
The repayment of debt with taxes transfers accounting equity from the private sector to the government. That is certainly a monetary resource drain and can be a real resource drain.
The effect of defaulting on debt depends on whether on its associated with anything else. If the government defaults but doesn’t tax, the net effect is exactly the same as if the government paid off the debt with taxes (ignoring distribution effects in either case).
I see the real resource question as being primarily unrelated to whether or not the debt is held domestically.
Both Krugman and Rowe make sense to me on this (although Krugman’s attitude about transferring wealth, as often is the case, makes me cringe):
1. Taking milk from people does not reduce our aggregate capacity to produce milk (although it might reduce the incentives to do so). [Krugman]
2. Transferring milk from one person to another within a generation has no effect on aggregate utility. [Krugman]
3. Paying for milk with an IOU and passing that IOU down to a later generation will require some future people to drink less milk than they would have otherwise. [Rowe]
In aggregate, future generations will drink less milk than they might expect, because the expected value of the debt owned by savers can only be honored by increased taxation. This won’t decrease future productive capacity, but it will make realized wealth different than expected wealth. [Hirsh]
“But taxation is a drain on private sector monetary resources that can impact real resources compared to the counterfactual”. I do not think so. Ignoring the disincentive/distortion effects, taxation in order to pay down debt cannot be drain on private sector monetary resources, because these proceeds will be paid back to private sector in form of bond repayment. So the net monetary position of private sector is actually zero.
If you would construct a model of representative agents with the same level of income and bonds in portfolio, then this operation would basically be equal to bond default. It does not matter if government increases taxes to use them for debt repayment or they will just order everyone to destroy the debt. Such a policy would have high impact on that particular generation, but some future generation (that was not overlapping during the time of debt payment) would be better off. They would start with clean debt sheet – but more importantly, they would not be forced to give their product to older generation in exchange of the bonds. They could even start this Ponzi scheme anew being again the first generation benefiting from it.
Lord: “Is there really a cost to repayment? If the alternative to repayment is an increase in interest rates?”
We can’t keep on raising interest rates as opposed to raising taxes. Because the debt simply grows faster and faster and eventually the next generation simply won’t be able to afford to buy the bonds.
Jon: “Government as large single borrower (on the order GDP) is a systemic risk.”
Good point, given uncertainty of taxing capacity. But my points stand even if you ignore your point (as I’ve been doing).
Greg: “Debt which generates greater consumption now and far, far less production involving more productive long period produnction goods is debt which enriches the current generation and necessarily make later generations worse off than they would otherwise be.”
Greg, I’m surprised at you. You are putting a Hayekian gloss on Abba Lerner’s analysis! As I showed in my original post, even in a world with no investment or disinvestment of any kind, and so no possibility for intertemporal transformation of consumption, it is perfectly possible for the debt to impose a reduction in the consumption of future generations.
It’s much simpler. If there’s an increase in the debt, there is a drop in the consumption of some (unknown) future generation of taxpayers. Any drop in the future output due to lower current investment is over and above that burden.
JeffreyY: “Specifically, say that IOU gets inherited by Matt’s kids.”
If you really do mean “inherited”, as a gift, then you are assuming Ricardian Equivalence. If instead Matt sells his IOU to his kids, and if the government says that my kids have to pay my IOU, then the next generation (Matt’s and my kids) will have to pay for the milk I drank.
Mustapha: “The only potential cost of such deficit spending is inflation. Am I missing something?”
Yes and no. If we are currently at “full employment” that money-financed inflation is undesired. (Plus, it amounts to a partial default on the nominal debt, plus, if anticipated, it requires nominal interest rates to rise one-for-one with expected inflation). And if the economy is at less than “full employment”, and disinflation is the risk, that same money could have been used to buy back interest-bearing bonds and reduced the tax burden on future generations.)
JKH: “I’m a bit confused about something which is probably basic and obvious to most people within this debate.”
You are totally wrong there 😉 Nothing seems to be basic and obvious to most people within this debate!
“Do these questions make any sense to you?”
Yes, absolutely. You are making perfect sense to me. And you are finding it hard to make sense of the opposing view. And you are damned right to find it hard to make sense of the opposing view.
Here is how someone who believes that opposing view would reply to you: “JKH, you are totally wrong because you are forgetting that those future taxes are simply a transfer to future generations of bondholders, who inherited the bonds along with the future tax liability!”
(Notice the weasel word “inherited”? They paid for those bonds, they didn’t inherit them as a gift, unless you believe in Ricardian Equivalence.)
Can you post your accounting analysis as a comment (maybe on the 1,2,3,4 post)? I have no idea if it will make sense to me. But it might make sense to some readers. As I have said before, just for once, this really is (mostly) an accounting question.
In my judgment, in the real world, the drop in future output due to the shorting of the structure of investment vastly outweighs any other effect.
And note well, it is the time structure of production processes which matters, exactly equal investment dollar aggregates with completely different time structures of production would produce vastly different different output across time. Indeed, there need be no dollar drop off in total aggregate investment, the government might simply sift all of that total to low output short period production processes, per the demands of the rent seekers and bureaucrats controlling the payout system.
Nick writes,
“If there’s an increase in the debt, there is a drop in the consumption of some (unknown) future generation of taxpayers. Any drop in the future output due to lower current investment is over and above that burden.”
Greg: OK. I think that puts you in #2, along with Buchanan, except that you believe the indirect costs are empirically much more important than the direct costs Buchanan was talking about.
The key point, Nick, is that those using a simple aggregate conception of “K” have no way to imagine an intertemporal transfer of consumption via the lengthening or shortening of production processes, that is, changes in the time structure of production processes.
Keynes certainly completely failed to grasp this matter, as he reminds us repeatedly in his General Theory. And we see a repeat of this conceptual blindness to a causal key to expanding or contracting output in the writings of innumerable other economists, sort of like the mental blindness of folks who can’t identify individual faces — that part of the brain for perceiving reality just doesn’t exist.
Greg: I think I sort of see it. Take a horribly crude and oversimplified example. You lay down a stock of raw whisky to age, with either a 5 year or a 10 year tamper-proof time-release lock on the barrel. “K” looks exactly the same in both cases, since the “historic cost” (yes, those are “scare quotes” around “historic costs” because we both understand that point) of the investment are exactly the same in both cases. But the time-structure of production is very different in the two cases. And it matters for planned future consumption.
Nick,
I have to tell you, the whole time of been reading WCI I don’t think you’ve had a post that was more indisputably correct as this series (starting with the “debt is too a burden” post). I mean it’s a counter example for crying out loud, not a theorem!
As counter examnples go this is as good as it gets, perfectly standard OLG model, no tricky assumptions that secretly drive the results. How do you argue with that?
Yet argue they do…
Thanks Adam! And, given you are a tough critic to please, that means a lot.
But yes, all I need is one counter-example. And mine is about as simple as you can get in an OLG model.
I think I’m slowly winning.
Nick,
As requested, I’ve posted my accounting translation of your apple model here:
http://worthwhile.typepad.com/worthwhile_canadian_initi/2012/01/the-30-years-debt-burden-non-war.html?cid=6a00d83451688169e20162fef52c26970d#comment-6a00d83451688169e20162fef52c26970d
Sorry, I was delayed a bit at the outset. And then I decided to add an addendum, showing the treatment of foreign bond purchases as well, for completeness.
Unfortunately, that roughly doubled the length.
And I probably didn’t proof it all perfectly.
But it’s accounting, so I know you’ll find it very exciting.
And if the economy is at less than “full employment”, and disinflation is the risk, that same money could have been used to buy back interest-bearing bonds and reduced the tax burden on future generations.
By “tax burden,” I presume you mean the new taxes that will have to be levied at full employment to contain inflation? That’s the only cost to future generations I can see. But to call it a “burden” seems misleading. The new taxes would be taxes on money the government created by the push of a button at the Receiver General. I’m not sure where the burden to the taxpayer lies in getting $1 million of created money from the government and then having some of that $1 million taxed a couple of years later when the taxpayer’s income is higher only thanks to that initial money creation. If anything, the burden would be having to do without the created money in the first place and making do with a lower income throughout the period.
In any case, it’s possible to imagine ways of dealing with buyer’s inflation besides raising taxes or borrowing from the public, if these things are seen as burdensome. Every month, for example, the government could declare the interest rate that banks have to pay on demand deposits — in effect, a price control that the government would tweak by trial and error. This would probably require a zero interest rate policy because of the excess reserves that would pile up in banks. It would also require regulations to prevent banks from canceling out the higher interest payments with higher bank fees.
“The existing stock of debt represents the costs of past deficits that cannot be undone. We can’t turn back the clock. But the fact that we cannot turn back the clock on past deficits says absolutely nothing about whether we should run a deficit now.”
Indeed. But in the current political debate, the politicos who are crying that the debt is a burden on our children are doing so as an argument against running a deficit. The implication is that a deficit would be bad because it would add to the current debt, thereby creating an intolerable burden on our progeny. They are not weighing costs vs. benefits. They are simply crying, “Debt bad! More debt worse!”
Nick I can’t keep my head straight on this stuff. When I read Yglesias’ post, I slipped back into thinking Krugman was basically right. And yet, I know you made the point in your apple example.
Can you tweak the apple example, so there is just an A and a B cohort? So in period 1, government induces B to give some of their apples to cohort A by offering an interest rate, then A dies. In period 2, there’s just cohort B, and government taxes them collectively to pay off the bonds.
Does your story work there too? Because I think if so, that might be a better way to take Krugman on, head-on. Before I thought he was right, given that there are only two generations, and that your more realistic 3-generation model showed the problem with that simplification.
But since I think we can get your result with just two cohorts, now I’m thinking the # of generations isn’t the issue.
Nick: I did mean “inherited”, but I agree with you that lots of assets are traded to younger people in exchange for consumption goods during retirement. I don’t generally want to defend Ricardian equivalence, so let me re-think this…
Is there anything special about government debt in your set-up? Doesn’t every single loan, private or public, create a tradable asset that, when sold to a younger generation, induces a transfer to the older generation? Maybe not, because it also creates a tradable obligation which, if “sold” to a younger generation induces a transfer in the other direction. But obligations aren’t generally traded, and you can escape them by dying, at which point whoever owns the asset takes the loss. Is the difference in the term of the debt? (i.e. that government debt is likely to live longer than individual people, while loans usually get repaid?) Or maybe in that the government usually won’t default, so when the younger generation buys its debt, they don’t write it down for default risk?
Bob,
I’ve kind of slipped towards agreeing with Krugman, though I have no idea whether for the same reasons as him. To me, A pulled a fast one on B, but that in no way means that they’ve pulled a fast one on C and all subsequent generations. And since B was around for the original “deal” it’s arguably fair. Whether B wants to try the same trick on C, or just pay off the debt that they got stuffed with is up to them. But it’s a real stretch to argue that A stuffed C. If there’s a “problem” it’s in the way that political power is distributed between (currently alive) generations since votes aren’t distributed according to productive output and older generations are therefore economically over-represented. But there’s nothing preventing C from ending the charade and just defaulting on liabilities that they were never a party to creating in the first place. After all, all they lose (if anything) is the ability to play the same tricks on future generations, an ability which arguably they’ve already lost anyways.
Bob: Yep, I know the feeling. If you’ve spent decades seeing the thing as a rabbit, it’s hard to see it as a duck, and you keep slipping back to the other way. I’ve been there.
“Can you tweak the apple example, so there is just an A and a B cohort? So in period 1, government induces B to give some of their apples to cohort A by offering an interest rate, then A dies. In period 2, there’s just cohort B, and government taxes them collectively to pay off the bonds.”
Yep, that works fine. I only used 3 cohorts for completeness, to show that cohorts in between the transfer recipients and the taxpayers are neither richer nor poorer, and just have a delayed time-profile of consumption. If you have 3 cohorts you can extend it to any number. Or cut it down to 2.
Min: “But in the current political debate, the politicos who are crying that the debt is a burden on our children are doing so as an argument against running a deficit. The implication is that a deficit would be bad because it would add to the current debt, thereby creating an intolerable burden on our progeny. They are not weighing costs vs. benefits. They are simply crying, “Debt bad! More debt worse!””
Unfortunately, those politicos are right (except for the fact that they are forgetting about the benefits of whatever it is the deficit is spent on, plus, if you are a Keynesian, those benefits include escaping the recession). The existing debt is a burden on whoever is going to pay the taxes on it, and there probably are increasing marginal costs of that burden. So the bigger the existing burden, the bigger the marginal cost of an additional deficit. Yes, we already own the bonds reflecting the existing debt, but some of us paid for those bonds by cutting our consumption when young so we could consume more when old.
JeffreyY: If I borrow money the IOU has my name on it. If the government borrows money, the name on the IOU is left blank. It will be filled in by some later government which decides to increase taxes. Alternatively, each generation can issue 25 year bonds with the next generation’s name on the IOU. And that next generation can issue more bonds, to repay those bonds, with the third generation’s name on them.
Man this is just blowing my mind Nick, to think of your apple example with just two cohorts. It really is like a time machine, isn’t it?
In fact, it’s so much “as if” there’s a time machine, that I keep wondering if maybe you’re doing something wrong–since we know there’s not a time machine.
Anyway, this whole thing is great. I haven’t been this frazzled since I spent 8 hours in grad school thinking I had come up with a counterexample to Arrow’s Impossibility Theorem.
“If the government runs a deficit now, there is a cost to future taxpayers.”
Really? Why? I mean, I guess that’s true in nominal terms, but it is it true in any real way? Government don’t repay their debt, and to the extent that government debt decreases relative to GDP it’s usually because of growing GDP, not shrinking government debt. It’s not true that a deficit today mean higher tax rates in the future (even if higher tax receipts are needed). So is there any actual cost to future taxpayer without some sort of assumption about what happens to interest rates or what future fiscal policy will be?
Nick is making a ridiculous argument.
As Noah says, it is absurd to think about debt burden without looking at what the debt pays for and who benefits.
The debt is a side issue. In a closed system, debt makes no difference to aggregate welfare.
The same applies intergenerationally. If the receipts of the debt are used to make a park, that park benefits future generations who don’t have to pay for it. If they’re used to “spill milk” today (how is THAT a useful real-world example?), then of course future generations have a burden imposed.
Nick’s entire argument is ridiculous because it’s absurd to think about this issue (indeed, the issue has no meaning) without considering how the debt is used.
Nick,
It’s clear that taxes are the thing that matters here.
At the micro level, if a bond maturity is paid with taxes, it is a burden.
And it becomes a net burden to any future generation that happens to hold that bond as the result of purchasing it (as opposed to inheriting it). Conversely, there’s obviously no future generation burden if the current generation both buys and matures the current bond. The latter case would correspond to a single stage apple model.
At the macro level, the same holds if the government pays down any part of gross debt with taxes – i.e. any time it runs a surplus, pretty much.
But arguably, it’s not the case that there will be a macro level burden so long as the government is growing the debt outstanding.
Sound right as a summary?
Bob: here’s another example, without a time-machine in it. Instead it has a machine that converts rabbits into apples.
There are three groups of people, in an endowment economy:
A are herbivores who only eat apples, and who have an endowment of 1,000 apples.
B are omnivores who have an endowment of 500 apples and 500 rabbits.
C are carnivores who have an endowment of 1,000 rabbits.
Question: can the government tax C to give A more apples?
Wrong answer: of course not, since C neither own nor consume apples.
Right answer: of course it can. C sells rabbits to B in exchange for apples, which it gives to the government to pay the tax, and the government gives the apples as a transfer to A.
A eats more apples. C eats fewer rabbits. B eats fewer apples and more rabbits.
above, clarifying:
“And it becomes a net burden to any future generation that happens to hold that bond at maturity as the result of purchasing it (as opposed to inheriting it), and where the bond is paid off with taxes.”
Remember that trade theory example of how to convert wheat into cars? Put the wheat on a ship, send it out into the Pacific, and it magically returns full of cars. Same thing.
I know the feeling Bob. 30 years ago I had to get a big pad of paper, write “1 apple” on some sheets, and “IOU 1 apple” on other sheets, and lay them all out on a big table.
JKH has just got his head around it by doing the accounting very thoroughly. (See my previous post). We all have our different ways of getting to see it.
Nick:”Right answer: of course it can. C sells rabbits to B in exchange for apples, which it gives to the government to pay the tax, and the government gives the apples as a transfer to A.”
You just transformed apples into currency.
Audrey: “If they’re used to “spill milk” today (how is THAT a useful real-world example?), then of course future generations have a burden imposed.”
Thank you. You have just agreed with me. Many economists will say that what you just said (“….of course future generations have a burden imposed.”) is impossible.
And BTW, with nearly all government spending, there are 2 questions: who gets the benefits?; and who pays the cost? This argument is about the second question. I am disagreeing with many economists who say the future generation can never bear the cost.
“If there’s an increase in the debt, there is a drop in the consumption of some (unknown) future generation of taxpayers.”
Relative to what? To what that future consumption would be without the increase is debt? Aren’t there a lot of other potentially confounding factors that need to be accounted for? And not to get all Keynesian, but what if that newly accumulated debt is the difference between an economy that grow between now and that unknown future point in time and one that stagnates?
Adam: fair point. Relative to what it would have been with the same GDP. I would put any Keynesian effects on future GDP on the benefit side of the ledger. But if you want to subtract them from the cost side, the answer should be the same.
Nick: “I am disagreeing with many economists who say the future generation can never bear the cost.”
Ok, fair enough. But point me to an economist who has said this WHILE dismissing the benefit issue as irrelevant?
Do you think there are economists out there arguing to borrow a bunch of money to spill milk?
Because this is certainly the way you’re coming across in your discussion at large.
I’m still confused.
If the Receiver General credits a private bank account in the amount of $1 million, and if there is no accompanying increase in taxes or issuance of new debt, then the Receiver General has just created $1 million out of nowhere. It has not even borrowed the money from the central bank. In a time of less-than-full employment, the only consequences of such spending are some numbers on a computer screen at the Receiver General and the real output purchased with the money. The Receiver General does not have to get the money from anywhere; it literally creates it by keystroke.
Where is the cost to future taxpayers? The only cost I can see is future inflation (again, we’re at less-than-full employment here). To be clear, there is no IOU anywhere in the picture, not even a blank one.
In the example above, I’m starting from a balanced budget position.
“If the Receiver General credits a private bank account in the amount of $1 million…”
Obviously an MMT motivated argument – not that there’s anything wrong with that.
(“Keystrokes” gives it away).
That transaction represents government deficit spending.
Whether the deficit manifests itself as Treasury debt, or a Treasury overdraft at the central bank, or whatever, is immaterial to Nick’s argument.
The issue is not the accumulation of debt or the accumulation of deficits manifested in whatever financial form.
The issue is whether the accumulated deficit is repaid even in part with taxes at some point.
There is nothing in MMT that prevents the possibility that some part of the accumulated government deficit will be repaid in taxes at some point. MMT fully acknowledges the long term risk that fiscal tightening may be required at some point – such point depending on the utilization of real resources and the emergence of inflation risk.
At that point, if the government runs a surplus in order to shrink the accumulated deficit, and if the generation that pays the taxes is different than the generation that originally benefited from the earlier deficit spending, the generation that pays the taxes will bear a net burden, analogous to Nick’s apple example.
JKH: “The issue is whether the accumulated deficit is repaid even in part with taxes at some point.”
I don’t agree. If it’s repaid and then shortly afterwards reborrowed, how does that change anything? The issue is whether it is necessarily repaid: voluntary, unnecessary repayments don’t count. That’s why the interest rate vs NGDP growth is so important.
Nick:
On the topic of necessary repayment, I made a comment about the relative rates of interest vs NGDP growth on the other post (just before JKH’s monster comment) (just in case you didn’t notice).
Also, in the other post I made the argument (which I repeated above for Bob Murphy’s sake, that each generation is free to choose to accept or reject the liability which it has no moral obligation to bear by virtue of it not having been a party to the original agreement, and that no one can therefore burden future generations. What do you think?
Dean Baker brings some sanity to this debate:
http://www.guardian.co.uk/commentisfree/cifamerica/2012/jan/03/climate-change-real-bequest
K: “Also, in the other post I made the argument (which I repeated above for Bob Murphy’s sake, that each generation is free to choose to accept or reject the liability which it has no moral obligation to bear by virtue of it not having been a party to the original agreement, and that no one can therefore burden future generations. What do you think?”
Each cohort burdens itself (or future cohorts) by being willing to accept the bonds sold to it by the previous cohort. But it would require a collective decision by the cohort to do that. Each individual member of the cohort would still be rational to buy the bonds. When cohorts are continuous (rather than the discrete cohorts of my model) it would be very hard to draw the line and say “we will not pay your debt”. Who’s “we”, and which debt is “yours”?
Even when there’s a regime change, the new regime will often honour the debt of the old regime.
JKH: “At that point, if the government runs a surplus in order to shrink the accumulated deficit, and if the generation that pays the taxes is different than the generation that originally benefited from the earlier deficit spending, the generation that pays the taxes will bear a net burden, analogous to Nick’s apple example.”
Ah, thanks for the clarification. It looks like I was talking past Nick. That’s the sense in which I understood the cost to future generations, as well. When I said “the cost of future inflation,” I included in it the cost of fiscal retrenchment to contain inflation (or its alternative, the cost of price increases). I should have made this clear.
What I still don’t understand, though, is why deficit reduction constitutes a “burden” on the future cohort if the deficit has resulted in a higher GDP for them. That possibility seems crucial to me, because if the future cohort enjoys higher incomes, they shouldn’t have to sacrifice much at the margins to pay the higher taxes.
Mustapha,
“What I still don’t understand, though, is why deficit reduction constitutes a “burden” on the future cohort if the deficit has resulted in a higher GDP for them. That possibility seems crucial to me, because if the future cohort enjoys higher incomes, they shouldn’t have to sacrifice much at the margins to pay the higher taxes.”
The situation is that of comparing the effect of a tax to pay down debt, versus the counterfactual of no tax and the continuation of that debt level. That’s all. The rest of the economy should be held ceteris paribus in this analysis – however it has performed up this point.
If you think of this from an MMT perspective, taxation reduces net financial assets held by non-government. That’s contractionary. It’s a reduction in non-government income and wealth, again compared to the counterfactual of no tax. So in that sense, there is clearly a monetary burden associated with the tax. Again, from an MMT perspective, the purpose of the tax isn’t to put the government on a “solvency” footing. It’s to impose tighter fiscal policy in the face of real economic constraints and inflation pressure. And to the degree that the tax holds back spending power, it has an associated effect on the real economy. In Nick’s model, this is manifested in the taxpayer forgoing the apples that he would have enjoyed in the counterfactual. And that is a real burden.
Nick wrote:
JKH has just got his head around it by doing the accounting very thoroughly. (See my previous post).
Sorry, but which post? Who’s JKH?
One of the interesting things of working through this stuff is that Nick’s model would first appear on the surface to be not only counterintuitive to the MMT view of inter-generational government finance, but something that MMT might reject outright.
“No grandchildren involved” is a favourite MMT refrain on this subject.
But in fact I think it’s quite reconcilable, as per my last comment. I think the MMT approach generally assumes continuous government deficits – largely of the basis of rejecting any type of insolvency argument, while promoting the feasibility of deficit spending right up to the point of full employment. And in that context, the “we owe it to ourselves” logic works very well. It works so long as you are rolling over debt and/or expanding it. It’s only at the point of taxation for the purpose of repaying debt that Nick’s model is activated at an operational level.
And the debate about deficit management trajectory etc. is entirely separate from the issue of what actually happens when you pay down debt with taxes, as per Nick’s model.
The interesting corollary to all this as well as that government surpluses are a burden by this definition, assuming they are used to pay down debt, since they arise from net taxes.
And that sort of thinking about surpluses is in fact very much in synch with the way MMT thinks about them in a more colloquial way.
“Sorry, but which post?”
http://worthwhile.typepad.com/worthwhile_canadian_initi/2012/01/the-30-years-debt-burden-non-war.html?cid=6a00d83451688169e20162fef52c26970d#comment-6a00d83451688169e20162fef52c26970d
“Who’s JKH?”
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