Not One person In 1,000 Knows This. Here is How the Fed Misleads You Re. Inflation

Not one person in 1,000 knows this. You can be the one. In the next 3 minutes, you can learn how the Fed misleads you about inflation and interest rates.

The Wrong Cure for Inflation

Traditional anti-inflation policy often attempts to reduce demand. Higher interest rates, spending cuts, and tax increases can make borrowing and purchasing more expensive.

If enough people are prevented from buying homes, cars, medical care, or other goods and services, demand/price pressures may decline.

Fed Chair, Kevin Warsh. Don’t blame me for doing what the rich want me to do.

Here’s the prevailing logic:
1. Prices are rising because current demand exceeds supply.
2. The Fed’s cure is to raise another price—the price of money—which raises the cost of buying things until enough people no longer can afford them.
3. Their reduced buying then reduces demand, which supposedly reduces inflation.
4. Thus, the Fed deliberately increases costs in order to reduce cost increases.
5. Further, by increasing the cost of expanding production, the Fed helps perpetuate the inflation-causing shortages they are supposed to be fighting.

Get it? Actually, we don’t get it. And you shouldn’t like it.

Because interest is not included in the official consumer-price inflation, the Fed can reduce measured inflation while households’ cost of acquiring the same goods and services rises because of higher financing costs. In short, official inflation can go down while your costs go up.

Example: Suppose the price of a house remains at $400,000. The Consumer Price Index (CPI) may say its price hasn’t risen. But if mortgage rates jump from 3% to 7%, the monthly payment required to buy that same house rises enormously.

To the buyer, that’s not an academic distinction. Housing became more expensive. But the Fed would claim there was no inflation.

Similarly with a financed car. If the sticker price stops rising but the auto loan becomes much more expensive, official inflation can improve while the purchaser’s total cost worsens.

That suggests three different concepts that routinely get blurred together:

  1. 1. Price inflation — the measured change in the prices included in an index such as CPI.
  2. 2. Financing cost — what interest adds to the cost of acquiring something.
  3. 3. Affordability — what the purchaser actually can afford after considering price, financing, income, taxes, etc.

The Fed principally targets the first by deliberately manipulating the second, thereby affecting the third. The Fed reduces measured inflation by making things less affordable.

If raising prices to lower prices isn’t  enough misleading irony, consider this: Suppose higher rates make a $400,000 house so expensive to finance that many potential buyers disappear. Eventually the seller cuts the price to $380,000.

Official statistics see downward pressure on the house price. The prospective homeowner may say: “They knocked $20,000 off the house and added $200,000 to my lifetime interest payments.”

The exact numbers depend on the mortgage, of course, but that’s the conceptual problem. The Fed’s mandate concerns price stability, not affordability stability.

Those are not the same thing. And if our real concern about inflation is ultimately that people have difficulty affording what they need, then deliberately reducing affordability to improve an inflation statistic deserves considerably more scrutiny than it usually receives.

If there are too few houses, one “solution” is to make mortgages so expensive that fewer families can buy houses. Another is to increase the housing supply via tax incentives, and other federal  rewards.

If energy is scarce, one “solution” is to suppress economic activity (force a recession) until energy demand falls. Another is to increase energy availability and efficiency, again, via tax  incentives, overseas purchases and other devices.

If medical services are scarce, one “solution” is to make medical care unaffordable for more people. Another is to produce more medical care by helping to fund medical education, hospital construction, medical R&D, etc..

The second approach grows the economy. The first just renames shortages, inflations and recessions.

Pretending to address inflation by making things less affordable and less available is the ultimate treachery.

Rodger Malcolm Mitchell

Monetary Sovereignty and Gap Psychology: Why the Rich Need The Poor

Monetary Sovereignty and Gap Psychology: Why the Rich Need The Poor

  • Why does the richest nation in history repeatedly claim it cannot afford to provide adequate healthcare, retirement income, education, housing, and food for its people?
  • Why do politicians warn that Social Security and Medicare are running out of money while the federal government continues to create trillions of dollars for other purposes?
  • Why are Americans told that helping the poor requires painful sacrifices, higher taxes, and reductions in other benefits?
  • And why do these supposed financial limitations so often fall most heavily on those who have the least?

To answer those questions, we need to understand two fundamental economic concepts: Monetary Sovereignty and Gap Psychology, two pillars of economics.

Monetary Sovereignty explains the federal government’s relationship with money. Gap Psychology explains an important part of humanity’s relationship with power. One concerns what the government can do. The other helps explain why it doesn’t. Together, they explain some of the most persistent contradictions in American economic policy.

The Gap: Why Being Rich Requires Someone Else to be Poorer

Imagine that you have $1 million. Are you rich? That depends.

If everyone else has $100, you are extraordinarily rich. If everyone else has $1 million, you are average. If everyone else has $100 million, you are poor. Your $1 million has not changed. What changed was your position relative to everyone else.

Thus, rich and poor are comparative terms. They describe relationships, not merely quantities. I call that relationship the Gap. It separates people according to income, wealth, power, status, and other measures of superiority.

And Gap Psychology describes the common human desire to widen the Gap below oneself and narrow the Gap above.

Consider a man who can perform only two chin-ups. He wants to be considered strong. He could exercise until he can perform twenty chin-ups, or he could hang a 300-pound weight from everyone else’s ankles. Suddenly, his two chin-ups might make him the strongest man in the room.

He hasn’t improved himself. He has made everyone else comparatively weaker. That is Gap Psychology. You can increase your relative superiority either by raising yourself or by lowering others. And lowering others sometimes is easier.

This principle extends far beyond money.

The Gap is Everywhere

Gap Psychology operates in two directions. We look up at people with more income, wealth, status, or power than we do, and we want to narrow that Gap. But we also look down at those with less, and we resist their narrowing the Gap with us. These two impulses aren’t necessarily equal. We may enjoy gaining on the people above us, but we can feel something more visceral when the people below us gain on us.

Consider a simple inheritance. A parent leaves one child $2 million. She is delighted—until she learns that her sibling received $2,000,010. She hasn’t lost a penny. She still has the same $2 million that delighted her moments earlier. What she has lost is relative position. Ten dollars changed happiness into resentment, not because of its purchasing power but because of its effect on the Gap.

This may connect Gap Psychology to the well-established psychological phenomenon of loss aversion: losses generally affect us more strongly than equivalent gains. A raise is welcome. Try cutting someone’s salary by the same amount and observe the difference.

But Gap Psychology adds another dimension: We can experience a loss without losing anything at all. If someone below us rises toward us, our income and wealth may remain unchanged while our relative position declines.

Suppose Fred earns $60,000 and Sam earns $40,000. Fred has a $20,000 income Gap below him. Now suppose a government program improves Sam’s economic position by $20,000 while costing Fred nothing. Fred still earns $60,000. In absolute terms, he has lost nothing. But his $20,000 Gap has shrunk to $0. If relative position matters to Fred, he has experienced something that feels like a loss.

This helps explain why Gap Psychology is not merely a theory about the rich. Middle-class people, and even those with relatively low incomes, often oppose programs that benefit people poorer than themselves. Their opposition may seem irrational if we assume that everyone seeks only to maximize their own absolute financial well-being. But it becomes more understandable if relative position also has value. A benefit received by someone below me can narrow my Gap even when it costs me nothing.

Thus, the desire to preserve hierarchy can extend throughout the hierarchy. The billionaire wants distance from the millionaire. The millionaire wants distance from the upper-middle class. The upper-middle class wants distance from the middle class. The middle class wants distance from the poor. Even someone near the bottom may place considerable psychological value on knowing that someone else remains below him.

This helps explain the remarkable durability of caste and class systems. A hierarchy need not provide substantial material benefits to everyone who defends it. Each level except the bottom can receive at least one benefit from the arrangement: the status of not being at the bottom. The system can therefore recruit some of its own victims to help preserve it.

And this may explain something particularly important about political efforts to protect the income/wealth/power Gap. The rich need not persuade middle-income people that making billionaires richer will improve their lives. That can be a difficult sale. It may be far easier to persuade them that improving the lives of people below them will diminish what they have earned, reward people who do not deserve it, or unfairly elevate others to their level.

In that sense, Gap Psychology can turn the hierarchy into a self-protecting system. Those at the top have the greatest economic incentive to preserve it, but people throughout the hierarchy can also gain a psychological incentive to protect or even widen the Gap immediately below them.

We aspire to narrow the Gap above us, but we may fight even harder to prevent others from narrowing the Gap below us. And that may be one reason economic hierarchies survive even when most of the people defending them are nowhere near the top.

Consider intelligence. A child who learns to read at age four may be considered exceptionally intelligent. But if every other child learns to read at age three, that same child may be considered slow.

Consider physical ability. A man who runs 100 meters in twelve seconds is fast compared with most people, but slow compared with an Olympic sprinter.

Consider social status. A person may feel important because of a prestigious job, an exclusive club, an expensive automobile, a distinguished family, or membership in a particular organization. Satisfaction often comes not merely from possessing something desirable, but from possessing something others lack.

Exclusivity itself becomes valuable. An exclusive club loses some of its appeal when everyone can join. A luxury brand loses some of its status when everyone can afford it. A title loses some of its distinction when everyone possesses it. The Gap gives these things their comparative value.

People can also gain a sense of superiority through the groups they belong to. Sports provide an example. When the Chicago Bears won the Super Bowl following the 1985 season, their fans celebrated as though they personally had accomplished something extraordinary. I was one of them. I hadn’t blocked a defensive lineman, thrown a pass, or scored a touchdown. Nevertheless, I felt victorious.

Why? Because I identified with the winning group. Their superiority became my superiority. The same psychological mechanism can operate through nationalities, religions, political movements, professions, social classes, and other affiliations.

People seek superiority not only as individuals but also as members of groups. When their group rises, they feel elevated. When a competing group falls, they may experience a similar satisfaction. Gap Psychology helps explain why people sometimes celebrate another group’s misfortune even when that misfortune provides no material benefit to themselves.

From Gap Psychology to Caste and Class

Throughout history, societies have established systems that rank human beings according to ancestry, religion, occupation, race, wealth, and social position.

Caste systems are particularly revealing. Their purpose is not merely to recognize differences among people. They establish differences in status, rights, opportunities, and power. They preserve those differences across generations.

A person born into a dominant caste may possess privileges unavailable to someone born into a subordinate caste, regardless of individual ability. The superiority Gap is inherited.

Religion and group identity also can become vehicles for asserting superiority. Some groups claim special virtue, divine favor, purity, or exclusive access to truth. Such claims can justify treating outsiders as inferior.

Not every religion, club, or social organization behaves this way. But the mechanism recurs: membership in a supposedly superior group provides status, while exclusion helps preserve it.

In her book “Caste: The Origins of Our Discontents”, Isabel Wilkerson examines how hierarchical social systems preserve privilege through inherited status, exclusion, stigma, and institutional power. Gap Psychology provides one possible explanation for the human attraction to such hierarchies.

If my superiority depends on your inferiority, your improvement can feel like my loss. That is the essential psychological problem. And it becomes particularly consequential when applied to economics.

Why the Rich Want to Widen the Gap

The rich possess more than money. They possess economic power. Money can buy goods and services, but wealth also can purchase ownership, influence, access, security, and control over resources.

A wealthy employer may determine whether hundreds or thousands of people have jobs. A wealthy landlord may determine the conditions under which families obtain housing. A wealthy investor may influence which businesses expand and which disappear. A wealthy donor may obtain political access unavailable to ordinary voters.

These forms of power do not depend solely on how many dollars the wealthy possess. They also depend on how economically independent everyone else is.

Imagine two societies. In the first, workers have government-guaranteed healthcare, retirement income, affordable education, and a dependable minimum income.

In the second, workers risk losing healthcare when they lose their jobs. Retirement is uncertain. Education creates debt. Unemployment threatens financial catastrophe.

In which society does an employer possess greater leverage over employees? Clearly, the second. Workers who fear losing essential benefits have fewer practical choices. They may accept lower wages, undesirable working conditions, or mistreatment because leaving their jobs carries unacceptable risks. The employer’s power grows as the worker’s alternatives diminish.

That is the connection between wealth and dependence. The Gap is not merely a difference in dollars. It is a difference in freedom. A wealthy person need not consciously think, “I want workers to remain dependent on me.” But economic incentives can operate without such explicit thoughts.

The result remains. Systems that preserve economic insecurity can preserve the advantages associated with concentrated wealth. And Gap Psychology suggests that preserving relative superiority may itself become a powerful motivation.

Monetary Sovereignty: The other pillar

Now consider an entirely different question. Where does the federal government obtain dollars?

Most Americans have been taught to think of federal finances as though the United States were an enormous household. The federal government collects taxes. It spends the money. If it spends more than it collects, it must borrow the difference. We are told that eventually, the debt grows so large that the government no longer can afford to pay its bills.

This familiar explanation overlooks a fundamental distinction. A household, business, city or state government uses dollars. The United States federal government operates the monetary system that issues dollars. It is Monetarily Sovereign.

The federal government cannot create unlimited doctors, nurses, houses, oil, food, steel, or electricity merely by issuing dollars. Those are real resources. But the monetary system can create the dollars to buy these assets without first obtaining them from taxpayers.

The U.S. Treasury does not have the same financial limitations as a household. Though the federal government can face a shortage of real resources. It never faces an inherent shortage of its own currency. That means federal programs should be evaluated primarily according to their real economic consequences, not on cost.

  • Will they require resources that are unavailable at any price?
  • Will they increase productive capacity?Will they improve people’s lives?
  • Will they cause or relieve inflationary shortages?

Those questions are more meaningful than asking whether the federal government can somehow find enough dollars.

Where the Two Pillars Meet

Now combine Monetary Sovereignty with Gap Psychology. Suppose the federal government possessed the monetary capacity to provide substantially greater economic security to ordinary Americans.

And, suppose those benefits would reduce poverty, improve health, increase educational opportunities, and make workers less dependent on wealthy employers and asset owners. Such policies could narrow the income/wealth/power Gap. That would benefit millions of Americans. But it also could reduce the relative advantages of people whose power depends partly on the economic insecurity of others.

Gap Psychology supplies a possible motive for resisting those policies. Monetary Sovereignty exposes a weakness in the argument that the government simply cannot afford them. Together, the concepts raise an uncomfortable question:

Are Americans being denied benefits because the federal government lacks the monetary capacity to provide them, or because providing them would alter existing relationships of wealth and power?

The answer may differ among particular policies and political actors. But the question deserves far more attention than it receives.

The Remarkable History of FICA

Social Security provides a revealing example. When President Franklin Roosevelt established Social Security, he insisted that the program include payroll contributions. Why?

Was it because the federal government otherwise would lack the dollars needed to pay retirement benefits? No. Roosevelt’s own explanation suggests something quite different.

In a 1941 conversation recorded by Luther Gulick, Roosevelt explained that payroll contributions were intended to give workers a legal, moral, and political claim to their benefits. He described the taxes as intended to protect Social Security against future attempts to abolish it.

Roosevelt understood something important about human psychology. People are more likely to defend benefits they believe they have earned than benefits portrayed as government charity. Payroll contributions helped transform Social Security from a welfare program into a perceived earned right.

And Roosevelt expected that perception to make the program politically secure. He did not present the payroll tax as a necessary source of dollars that the federal government otherwise lacked.

The irony is extraordinary. A tax intended to protect Social Security politically became part of the argument for limiting Social Security financially. Today, Americans repeatedly hear that Social Security benefits cannot be expanded because payroll taxes and trust-fund balances are insufficient.

The program is described as though it were a private pension fund that must accumulate dollars before distributing them. But that is a statutory financing arrangement, not a fundamental limitation on federal monetary capacity.

Congress could authorize benefits through a different financing system. The federal government would not gain any new power to create dollars. It would exercise an existing monetary capacity under different laws.

Roosevelt intended payroll contributions to protect Social Security from political destruction. He apparently did not anticipate how effectively the resulting financing structure could be used to argue against expanding benefits.

The Trust-fund Illusion

The Social Security and Medicare trust funds reinforce the same misunderstanding. The phrase trust fund suggests a protected pool of money, invested independently and held exclusively for future recipients. Private trust funds operate that way.

Federal trust funds are different. They are legal and accounting arrangements through which the government records designated receipts, expenditures, and obligations. Social Security trust funds hold special Treasury securities. Those securities are assets of the trust funds and liabilities of the Treasury. One part of the federal government holds obligations issued by another part.

The arrangements are legally real. Their balances matter under existing statutes, but they do not represent an independent source of monetary power.

When the federal government redeems a trust fund’s Treasury securities, it makes dollar payments through the same monetary system that makes all other federal dollar payments possible. Congress can change the laws governing trust-fund financing. But it cannot change the fact that the federal government issues the currency in which benefits are paid.

Yet the public repeatedly and falsely is told that trust-fund depletion means Social Security is running out of money. The statement confuses two different propositions. The trust fund may exhaust its authority to support scheduled benefits under existing law. But the federal government always can create new dollars.

The distinction matters because the proposed responses often involve benefit reductions, higher payroll taxes, later retirement ages, or combinations of those measures. Those policies have serious consequences.

Reducing benefits increases recipients’ financial insecurity. Increasing payroll taxes reduces workers’ take-home pay. Raising retirement ages can impose particular burdens on people whose health or occupations make continued employment difficult. And because businesses pay 50% of FICA, this not only reduces economic profits but discourages hiring.

Each policy deserves examination according to its actual effects. But no one should justify these policies by pretending the federal government is financially equivalent to a private pension fund.

Healthcare and the Power of Dependence

Consider employer-sponsored healthcare insurance. Millions of Americans receive health coverage through their employers. That arrangement has advantages, including access to group insurance and employer contributions toward premiums. But it also creates dependence.

An employee contemplating a job change must consider not merely salary and working conditions but also the availability, cost, and quality of health coverage. Economists call this phenomenon “job lock.”

Research has found that employer-linked health insurance can discourage workers from changing jobs or asking for higher wages or improved working conditions.

The Affordable Care Act reduced key problems involving preexisting conditions, but concerns remain about provider networks, coverage differences, premiums, and family benefits. The economic implications extend beyond healthcare.

A worker who can leave an employer without risking medical coverage possesses greater bargaining freedom. A worker whose family depends on the employer’s insurance may feel compelled to remain.

Now imagine Medicare For All.

Healthcare coverage would no longer depend on employment. Workers could change jobs, start businesses, retire, or negotiate without the same fear of losing insurance. The federal government could pay for the program in dollars.

Of course, paying medical bills is not the same as producing medical care. A successful expansion would require adequate doctors, nurses, hospitals, clinics, equipment, medications, and other real resources.

Federal spending to expand those resources would be essential. But the monetary question and the production question are separate. The federal government need not run short of dollars. The healthcare system can run short of healthcare.

That is a real problem requiring a real solution. Declaring Medicare for All unaffordable because the government lacks dollars does not solve it. And the dependence created by employer-sponsored insurance has consequences for the Gap.

Universal Medicare coverage could reduce one important source of employer leverage over workers. That makes healthcare policy a question of economic power as well as medical care.

Social Security For All, Education, and Poverty

The same reasoning extends to other public benefits.

Consider Social Security for All: a federal income floor sufficient to prevent destitution. Such a program would not make everyone wealthy, but it could reduce the desperation that forces people to accept almost any available wage or working condition.

Consider free public college and vocational education, which could provide skills, knowledge, and opportunities. When access depends heavily on family wealth or the willingness to take on debt, existing economic advantages can reproduce across generations. A student from a wealthy family may start adulthood with an education and no debt. A student from a poorer family may have similar abilities but face substantial financial obligations.

The Gap can widen before either student earns a paycheck.

Consider food assistance. A person who lacks adequate food has less freedom to make long-term decisions about education, employment, health, and family life. Reducing hunger can improve both individual well-being and productive capacity.

These programs have different costs, resource requirements, and economic effects. They should not be treated as interchangeable, but they share an important characteristic. They can reduce the degree to which survival and opportunity depend on private wealth. That is why Gap Psychology is so important.

The Tax Code: Another Window Into the Gap

The federal tax code further illustrates how financial policies maintain these hierarchies. While labor income is typically taxed at the highest marginal rates as it is earned, capital gains often enjoy preferential tax treatment and the ability to defer taxation indefinitely. Through deductions, exclusions, and loopholes, the tax system often consolidates wealth at the top, reinforcing the economic divide that Gap Psychology seeks to preserve.

These rules are not distributed equally across economic circumstances. People whose income comes primarily from wages face a different tax environment from people whose wealth comes largely from appreciating assets.

Raising the top ordinary income-tax rate therefore does not necessarily reach all the mechanisms through which enormous fortunes accumulate, nor does it automatically eliminate the political and economic advantages associated with concentrated ownership.

In short, the tax code does more than collect revenue. It influences who accumulates wealth, who retains it, and widens the income/wealth/power Gap. Further, people with substantial wealth have more resources to influence the laws that govern it.

That creates a reinforcing cycle. Wealth provides influence, which helps preserve favorable economic arrangements. Those arrangements preserve or increase wealth, which provides still more influence.

The Question of Motive.

If the federal government possesses the monetary capacity to provide greater benefits, why does the claim that it cannot afford them remain so influential? There are several possible explanations. Some people sincerely misunderstand how the federal government manages money. They apply household financial rules to the federal government because those rules are familiar.

Others understand that federal finance differs from household finance but believe that taxes, borrowing restrictions, and spending limits provide useful safeguards against inflation or excessive political spending.

Still others may find that claims of financial scarcity support policies favorable to their economic interests.

These explanations can coexist. But Gap Psychology preserves relative superiority. People may not acknowledge that motivation, even to themselves. They may describe their preferences in terms of fiscal responsibility, self-reliance, efficiency, fairness, or opposition to government dependency.

Some of those concerns may be sincere; some may be rationalizations, and some may conceal deliberate efforts to preserve economic advantages. But the distributional consequences of policies can be examined by:

    • Who gains or loses?
    • Whose economic independence increases or decreases?
    • Whose relative power grows or shrinks?

Those questions reveal dimensions of economic policy that conventional discussions of deficits and debt often overlook the difference between wanting more and wanting relatively more. Conventional economics often assumes people seek to increase their material well-being, but Gap Psychology adds another consideration. People also seek to improve their position relative to others.

Imagine a wealthy person choosing between two outcomes. Under the first, his wealth increases by 20%, while everyone else’s wealth increases by 40%. Under the second, his wealth increases by 10%, while everyone else’s wealth stays the same.

The first outcome makes him absolutely richer. The second may make him relatively richer. If he values absolute wealth most, he may prefer the first, but if he values relative superiority most, he may prefer the second. That distinction matters enormously.

It suggests that opposition to broadly beneficial policies often stems not from fear that the wealthy will become poorer, but from the realization that such policies would accelerate everyone else’s advancement. Consequently, a policy can increase national prosperity while simultaneously narrowing the social and economic gap—an outcome many find unacceptable because it diminishes their relative standing.

For people who value relative superiority, that narrowing itself may feel threatening. The desire to widen the Gap therefore can conflict with the desire to maximize total prosperity. When those who benefit from a wide Gap have disproportionate political influence, that conflict can prevent affordable programs that benefit the poor.

What About Inflation?

Inflation is the widespread increase in prices. If there is a shortage of bananas, the cost of bananas will rise, but that is not inflation. If food is scarce, the cost of food will rise, and that could be inflation. If there is a shortage of food and oil, the cost of everything will rise, and that absolutely is inflation.

Many people believe, and many economics texts teach, that federal spending increases demand, and that increase causes inflation. The evidence does not support this. See: The inflation myths debunked. It’s never “money-printing.” It’s always shortages.

The article lists historical inflations and their causes. It shows that no major historical inflations have been caused primarily by a government spending “too much.”  Further, the article shows that recessions are caused by a government spending too little.

To prevent and cure inflations, it is not necessary to instigate recessions. Instead, the government should prevent and cure shortages of critical goods and services, most often oil, food and labor. Rather than trying to  prevent inflation via a blanket restriction of federal deficit spending, a Monetarily Sovereign government should:

    • Identify the shortages
    • Increase the supply of scarce goods and services.
    • Invest in productive capacity.
    • Remove unnecessary barriers to production.Train additional workers.
    • Develop technology.
    • Expand infrastructure.

The conventional response to inflation often emphasizes reducing demand by raising interest rates, increasing taxes, or cutting spending. Those policies can reduce inflationary pressure by making purchases more expensive (ironically) and reducing people’s ability to buy. They do not eliminate the underlying shortages.

The current “plan” (if one can call it a plan) is to reduce demand for scarce medical care rather than to produce more medical care. Forcing the sick to go untreated is not a viable anti-inflation program.

There is a difference between making housing unaffordable and building more housing. Making energy unaffordable for some is different from increasing the amount of energy available.

If the problem is a shortage, the lasting solution is to relieve the shortage. Federal spending can reduce inflationary pressure by increasing the supply of what is scarce.

Therefore, the question should not be merely how much the government spends. It should be what the spending accomplishes.

The Purpose of Government

The purpose of government is to protect and improve the lives of the governed.

We do not suggest punishing wealthy people for being wealthy, nor must everyone have the same income, property, or status. People differ in ability, ambition, preferences, circumstances, and accomplishments. Differences in income and wealth will exist.

The question is whether those differences should determine access to the necessities of life and the degree of freedom people possess. Should a person be forced to remain in an undesirable job because leaving would endanger the family’s healthcare? Should an elderly person face poverty because a federal accounting arrangement has reached a statutory limit? Should a capable student be denied education because the family lacks money? Should children go hungry in a nation with the productive capacity to feed them?

Monetary Sovereignty tells us that the availability of federal dollars should not be an obstacle. Gap Psychology suggests why reducing those hardships may encounter resistance from people and institutions whose relative advantages depend partly on their continuation.

The two theories therefore illuminate different sides of the same problem. One explains the monetary possibilities. The other examines the human incentives that can prevent those possibilities from being realized.

The Ultimate Gap

The most important Gap is not the difference between two bank accounts. It is the difference between two people’s freedom. One person can leave an unpleasant job without worrying about food, housing, or medical care. Another cannot.

One can pursue education without incurring unaffordable debt. Another cannot. One can survive a financial emergency without losing a home. Another cannot. One can influence public policy through wealth and connections. Another struggles merely to be heard.

These differences are economic, but they also are differences in power. And power can perpetuate itself. People with power can influence the rules under which others acquire power. People without power may lack the resources to change those rules. The Gap therefore can become self-reinforcing.

That is why reducing poverty is not enough. A society can become wealthier while its economic hierarchy becomes more extreme. The poor can gain dollars while losing relative influence. The middle class can earn higher salaries while becoming more dependent on employers, lenders, insurers, and asset owners.

Prosperity and Economic Independence are Not Identical.

A society should be judged not merely by how much wealth it produces but also by how that wealth affects people’s lives and freedoms. Monetary Sovereignty and Gap Psychology approach economics from opposite directions. Monetary Sovereignty begins with the nature of money. Gap Psychology begins with the nature of human comparisons.

Monetary Sovereignty asks what a currency-issuing government can accomplish. Gap Psychology asks how the desire for relative superiority influences people’s decisions.

Together, they help explain why policies that could improve millions of lives may face determined resistance. The familiar claim is that America cannot afford to provide greater economic security to its people. But the more revealing question may be, Who benefits when:

  • Americans believe that claim?
  • retirement remains uncertain?
  • healthcare depends on employment?
  • education requires debt?
  • workers fear unemployment more than employers fear losing workers?
  • people accept economic insecurity as unavoidable?

And who loses power when those insecurities disappear?

These questions don’t require us to assume every wealthy person is selfish, every politician dishonest, or every economist ignorant. They require us to recognize that economic policies influence relative power—and that relative power can influence economic policies.

For too long, Americans have been trapped in a manufactured debate over whether the federal government can “afford” to improve their lives. This framing ignores the reality of our Monetary Sovereignty and obscures the incentives driven by Gap Psychology.

The federal government possesses extraordinary monetary capacity, and our nation holds vast productive potential. Neither guarantees perfect policy, but together they make it essential to ask why so many Americans remain economically insecure.

The answer is not found in national affordability, but in the incentives of powerful interests to maintain the status quo. Monetary Sovereignty shows that federal financial scarcity is a choice, not a constraint; Gap Psychology explains why prosperity’s benefits are intentionally kept unequally distributed.

Together, these concepts lead us to a fundamental question: If our government has the inherent capacity to free its citizens from economic dependence, why do we continue to accept false narratives of financial limitation as a justification for preserving that very dependence?

The greatest obstacle to narrowing the Gap is not a shortage of dollars, but rather the value some people place on keeping the Gap wide.

Rodger Malcolm Mitchell

The Federal debt exceeds $40 trillion! Oh, my!

The $40 Trillion Federal Debt: What Is It, Really?

For more than eighty years, Americans have been warned that the federal debt is a “ticking time bomb.”

On September 26, 1940, Robert M. Hanes, president of the American Bankers Association, warned that the federal budget was a “ticking time bomb” that could eventually destroy the American system. The federal debt then was about $43 billion.

Today it exceeds $40 trillion, nearly one thousand times as much.

During the intervening decades, the supposed time bomb repeatedly has been rediscovered. As the debt passed numbers once considered unimaginable, politicians, economists, business executives, and journalists repeatedly warned that catastrophe was approaching.

Yet the United States never has become unable to pay a dollar-denominated bill because it ran out of dollars. Perhaps, after more than eighty years of predicting the same explosion, we should stop staring at the size of the bomb and ask whether we understand what the “bomb” actually is.

What is the federal debt?

Most of what we call the federal debt is actually composed of Treasury securities—bills, notes, and bonds.

Consider this: when you purchase a $100,000 Treasury security, you are essentially swapping $100,000 in liquid cash for a $100,000 interest-bearing asset. In this transaction, the federal government gains a liability while you gain an asset.

This dual nature is critical; every dollar of the federal debt is, by definition, a dollar-denominated financial asset held by someone else. The term “debt” focuses our attention on only one side of the balance sheet.

To put this into perspective, imagine a bank reporting an additional $10 billion in customer deposits. We would see this as a sign of the bank’s strength and success, even though those deposits are technically liabilities the bank owes to its depositors.

That is the point. We call them “deposits,” rather than constantly announcing that the bank has accumulated another $10 billion of debt.

With the federal government, we reverse the emotional terminology. We don’t say that Americans, businesses, pension funds, financial institutions, and foreign investors have accumulated trillions of dollars of safe Treasury assets.

We say: THE FEDERAL DEBT HAS REACHED $40 TRILLION! OH MY! Same balance-sheet principle. Very different emotional response.

However, an enormously important difference separates the bank from the federal government. The bank can run short of dollars. The United States government cannot involuntarily run short of a currency it has the sovereign authority to issue. That distinction changes everything.

Is the federal government really borrowing?

Legally and in federal accounting, Treasury securities are debt and their issuance is called “borrowing.” But the ordinary meaning of “borrowing” carries an implication that does not fit a Monetarily Sovereign government.

If I borrow $10,000 from you, I do so because I need dollars I do not have and cannot create. Your loan gives me purchasing power I otherwise would lack. The same fundamental constraint applies to a business, state government, city government, household, and commercial bank. They are users of the dollar. They are not sovereign issuers.

The federal government is different. It operates the monetary system that creates the dollars in which its obligations are denominated. Under current law, the Treasury must maintain sufficient balances in its Federal Reserve account before making payments, and when federal expenditures exceed tax receipts, Treasury ordinarily issues securities to obtain additional balances.

But Congress created that institutional arrangement. It is not evidence that the United States somehow lacks dollars until private investors lend dollars to it. This distinction is essential. The federal government currently issues Treasury securities because federal law and our monetary institutions require it to operate that way—not because the United States lacks the monetary capacity to create dollars.

Calling Treasury issuance “borrowing” is legally correct, but functionally misleading. You may borrow because you don’t have enough money to buy a house or a car. The Monetarily Sovereign federal government does not have that problem. It has (i.e., can create) enough money to buy every house and every car in America, and never run short.

Why have Treasury securities at all?

If the federal government doesn’t need your dollars, why issue Treasury securities? Because Treasury securities are extremely useful for the non-federal sector. They provide individuals, corporations, pension funds, banks, insurance companies, money-market funds, foreign governments, and other investors with an exceptionally safe place to hold dollar-denominated wealth.

They provide interest income. They provide collateral throughout the financial system. They provide benchmark interest rates against which vast amounts of private credit are priced.

Treasury securities resemble enormous federally provided savings or time-deposit accounts. The federal government doesn’t sell T-securities because it inherently needs our dollars. We invest in T-securities because we want what T-securities provide.

Look at the dollar in your wallet

A clue is printed directly on our money. Across the top of a dollar bill are the words “FEDERAL RESERVE NOTE.”

Interesting words: “note” and “bill.”. Where have we heard them before? Treasury bills. Treasury notes. A Federal Reserve note (dollar bill) and a Treasury note are not identical. Currency has no maturity and pays no interest. Treasury securities have specified terms and payment arrangements.

But both are dollar-denominated liabilities of the federal government and assets to whoever holds them.

Put a $100 Federal Reserve note in your wallet, and nobody cries, “The federal government is another $100 in debt!” Put $100 into a Treasury note and suddenly that federal liability becomes part of the terrifying “national debt.”

The public is led to believe that a federal “note” in your wallet represents wealth, while a federal “note” in your brokerage account represents impending national bankruptcy. Perhaps some of the confusion comes from the words, “note and debt, rather than from reality.

What happens when Treasury debt is “paid off”?

Here again, household imagery creates unnecessary confusion. Suppose your $100,000 Treasury security matures. The government doesn’t need to search the country for taxpayers who can somehow produce your $100,000. Your Treasury security is redeemed and you receive dollars. It’s an exchange of federal financial assets. Neither you nor the government is richer or poorer.

Before: you owned a $100,000 Treasury security. After: you own $100,000 dollars. Your financial wealth has changed form. This is radically different from a household paying off a mortgage. The household must obtain dollars from somewhere else—income, savings, asset sales, or additional borrowing—because the household cannot create dollars. The federal monetary system operates under a different constraint.

What about the interest? Treasury securities pay interest, and the growing federal interest bill often is presented as another looming catastrophe. But again, every payment has two sides. The government’s interest expense is the security holder’s interest income. If the federal government pays you $10,000 of Treasury interest, your financial assets increase by $10,000.

Where did those dollars come from?

The federal government didn’t first need to find taxpayers who have the $10,000. Federal payments ultimately are accomplished through credits within the banking and Federal Reserve system. In short, the federal government creates the dollars from thin air by pressing computer keys.

The payment adds dollar income to the nongovernment sector.

This does not mean interest payments are always economically beneficial. Their consequences depend on what happens to the money. Recipients may save it. They may invest it. They may spend it. If the additional spending encounters ample productive capacity, production can increase. If it encounters a serious shortage of something whose supply cannot expand sufficiently, prices may rise.

The potential problem, therefore, is not that the federal government might “run out” of dollars to pay interest. The meaningful question is “What do those newly created dollars cause the economy to do?”

There also is a distributional question. Treasury securities disproportionately are held directly or indirectly by people and institutions possessing substantial financial wealth. Interest payments therefore may be a poorly targeted way to distribute federal dollars if the objective is helping lower-income Americans. Federal interest payments widen the income/wealth/power Gap.

But that is a distribution problem, not a federal solvency problem.

What if investors demand higher interest rates?

Another familiar warning says that someday investors will become frightened by the federal debt and demand much higher interest rates before “lending” to the government. Under today’s Treasury auction system, market demand does affect yields.

But investors do not possess absolute control over federal interest rates. The Federal Reserve strongly influences short-term rates and can influence longer-term Treasury yields through securities purchases and sales. If it chose an appropriate monetary policy framework, it also could target longer-term yields.

The federal government therefore is not analogous to a desperate private borrower forced to accept whatever interest rate creditors demand.

And suppose Treasury interest rates nevertheless rise.

In that case, federal interest payments rise. Those additional payments become additional income to Treasury-security holders. Again, the proper economic question is not whether the federal government can find the dollars. It is what the resulting money creation does to saving, spending, investment, production, and prices.

This leads to a paradox in conventional anti-inflation policy. The Federal Reserve raises interest rates partly to discourage borrowing and spending. But higher rates also cause the federal government to pay more interest to holders of Treasury securities, thereby creating additional private-sector income.

One channel suppresses spending. The other adds income.

What about inflation?

Congress has foisted inflation control onto the Federal Reserve, though the Fed has no control over the shortages that cause inflation.

The federal government can create dollars. And though it cannot create unlimited oil, electricity, houses, doctors, nurses, food, microchips, steel, lumber, factories, or skilled workers, it can direct dollars toward creating scarce products and services.

Creating dollars does not, in itself, cause inflation. Federal spending that increases the supply of scarce goods and services can prevent and cure inflation.

If the country has too few doctors, Congress and the President can increase spending on medical education and training. If the nation has inadequate energy supplies, Congress and the President can increase energy production and alternatives through tax breaks and spending initiatives.

If housing is scarce, Congress can address the financial, regulatory, labor, land, and material constraints preventing more housing from being built.

The conventional response to inflation often is to suppress demand by raising interest rates, increasing taxes, or cutting government spending; in other words, the dreaded “austerity” that notoriously creates recessions and punishes the private sector for the federal government’s mishandling of the economy. 

In plain English,  “If there aren’t enough goods for everyone to buy, make some people unable or unwilling to buy them.” That is the Fed’s interest rate policy. It can reduce price pressure, but it doesn’t cure the shortage, while it creates economic hardship.

The better alternative is to make more of what is scarce. Use federal spending and taxation to increase the availability of scarce items.

Demand suppression accommodates a shortage. Supply expansion cures it. That is why claiming that “Federal spending causes inflation” is nearly meaningless. It treats every federal dollar as economically identical, regardless of what it buys.

A dollar spent bidding against consumers for a scarce resource is not economically identical to a dollar spent increasing production of that resource.

The deficit and the debt are not the same operation

Another source of confusion is the tendency to combine federal spending and Treasury issuance into one event. The usual story runs, “The government wants to spend $100. It collects only $80 in taxes. Therefore it is $20 short. So it must borrow $20 from someone who has dollars. Then it can spend the missing $20.”

That sounds perfectly sensible if the government were a household, business, state, or city. But for the U.S., or any other sovereign issuer of the currency, it creates the misleading conclusion that the federal government could be unable to pay its bills.

The federal deficit is just an accounting relationship:  federal spending exceeds federal tax collections. Treasury-security issuance is a separate financial activity used to help the government manage the economy. The fact that current law links those operations does not demonstrate that monetary necessity links them. Congress easily could change the connection.

The platinum coin proves the distinction

This becomes particularly obvious when we consider the famous trillion-dollar platinum coin. Federal law gives the Treasury Secretary unusually broad authority to determine the denomination of platinum coins.

Suppose Treasury legally minted a platinum coin denominated at $10 trillion and deposited it at the Federal Reserve, and suppose the Fed credited Treasury’s account accordingly. Treasury then would have $10 trillion of additional balances without collecting $10 trillion in taxes or issuing $10 trillion of Treasury securities.

Nothing magical would havehappened to America’s productive resources. No mountain of platinum worth $10 trillion was discovered. The coin, which cost a few dollars to create merely provided a mechanism through which the federal monetary system created dollar balances.

Suppose those balances then were used to redeem $10 trillion of maturing Treasury securities. The federal “debt” could fall by $10 trillion. Would the private sector suddenly become $10 trillion poorer? No.

Security holders would exchange Treasury securities for dollars. Their financial assets would change form though remain the same in value. The platinum coin therefore raises an uncomfortable question for the conventional borrowing story:

If the federal government is Monetarily Sovereign and can create the dollars required to redeem its debt, why does it rely on borrowing through Treasury securities, and how does this process reconcile with its role as the sole issuer of the currency?

The coin would not give the United States a monetary power it previously lacked. It merely would provide a different mechanism for exercising that power. Then why have a debt ceiling?

The debt ceiling is another artifact of federal law, not a measure of the nation’s monetary capacity. Congress authorizes spending and determines taxes. Those decisions largely determine the resulting federal deficit. Then Congress separately limits the quantity of debt the Treasury may issue to implement those previous decisions.

Congress effectively can say: “You legally must make these payments, but you legally may not use the financing mechanism we require you to use to make them.”

That can produce a very real crisis. If the Treasury reaches its statutory borrowing limit and exhausts available balances and extraordinary measures, it can become legally unable to make payments when due. But that would not mean the United States somehow had exhausted the world’s supply of dollars. It would mean the federal government had imposed conflicting legal requirements upon itself.

A debt-ceiling default therefore would be fundamentally different from the bankruptcy of a household or business that cannot obtain the dollars it owes. The federal government’s monetary capacity and the Treasury’s statutory authority are not the same.

What about foreigners?

Another frightening version of the federal-debt story is, “We owe trillions to China, Japan, and other foreigners.” What if they refuse to buy more, or want to redeem what they have?

Foreign investors certainly own Treasury securities, but what exactly does the United States owe them? Dollars. When a foreign holder’s Treasury security matures, that holder receives dollars. The United States does not promise to repay Treasury securities with Chinese yuan, Japanese yen, gold, American factories, farmland, or aircraft carriers. It promises dollars.

Foreign ownership of Treasury securities can raise legitimate questions involving trade, exchange rates, capital flows, and geopolitical relationships. But it does not turn the United States into a household that someday must earn foreign currency to repay its mortgage.

Even the $40 trillion number contains different things. The headline federal debt also combines importantly different categories. A substantial portion consists of Treasury securities held by federal government accounts, including trust funds.

One arm of the federal government holds securities issued by another. That accounting relationship may be important for administering programs and recording commitments. But adding those securities to privately held Treasury securities and announcing one enormous frightening number does not explain the government’s financial capacity or the condition of the American economy.

Even “$40 trillion” therefore requires interpretation before it tells us anything useful.

So what does federal debt tell us?

By itself, remarkably little. It doesn’t tell us whether inflation will rise. It doesn’t tell us whether Americans will become richer or poorer. It doesn’t tell us whether we have enough housing. It doesn’t tell us whether our hospitals have enough nurses. It doesn’t tell us whether businesses have enough workers.

It doesn’t tell us whether energy production is sufficient or whether the federal government can make dollar-denominated payments. It tells us primarily how many Treasury obligations are outstanding under the accounting definitions used, statistics we seldom can use or need. To evaluate federal economic policy intelligently, we must ask different questions:

  1. What did federal spending purchase?
  2. Whose income did it create?
  3. Did it increase productive capacity?
  4. Did it reduce or increase shortages?
  5. Did it improve Americans’ lives?
  6. Did it add purchasing power without adding the supply needed?
  7. Did it create or reduce inflationary pressure?

Those questions concern the real economy. The number printed beside “National Debt” does not answer them.

So where is the ticking time bomb? Return to 1940. The federal debt was approximately $43 billion, and Americans were warned that it was a ticking time bomb. The bomb failed to explode.

The debt passed $100 billion. No explosion. It passed $1 trillion. No explosion. It passed $10 trillion. No explosion.  $20trillion and no explosion. Then $30 trillion. Now $40 trillion. Still no explosion. Just a continually growing economy.

Each generation has been told that its debt level finally is the dangerous one. This does not prove that federal policy never can cause economic disaster. Of course it can. The federal government can spend foolishly. It can create or worsen shortages. It can misallocate resources. It can encourage speculation. It can produce inflation. It can impose destructive taxes. It can suppress productive investment. It can make terrible economic decisions.

But none of those dangers results merely from the existence of a large number called “federal debt.” The federal government does not need to ration dollars as though they were a scarce natural resource. Its job is to use its unlimited ability to create dollars intelligently while recognizing that dollars buy absolutely limited things.

That is the distinction the “ticking time bomb” metaphor has obscured for more than eighty years. The United States can create unlimited dollars. It cannot create unlimited goods and services simply by creating those dollars.

Therefore the real limit on federal finance is not money. The real limit is the availability of the things money can buy. After eighty-six years of waiting for the federal-debt bomb to explode, we should stop fearing that the bomb will go off and instead understand that there never was a bomb.

And still isn’t.

Rodger Malcolm Mitchell

The Solution to Medicare and Social Security

My favorite radio station is public radio WLRN.  One show I enjoy most is On Point, hosted by the brilliant Meghan Chakrabarti.

Sadly, while she and her guests often lament the state of inequality and health care in America and the looming insolvency of Medicare, Medicaid, and  Social Security, they never seem to offer a solution other than cutting benefits and/or making Americans pay more.

We can do better;

———————–

The Real Limits on Federal Spending:
Healthcare, Poverty, and Inflation

Real resources are limited. Dollars are unlimited.

Two propositions should start any discussion of federal spending, healthcare, poverty, and inflation.

  1. No American should be unable to obtain needed healthcare because they lack money.
  2. No American should be forced to live in poverty merely because private income is inadequate.

These are not questions of whether the United States can “find” enough dollars. The federal government, as the issuer of the U.S. dollar, never can run short of dollars.

Alan Greenspan, Former Federal Reserve Chairman: “A government cannot become insolvent with respect to obligations in its own currency. Nothing prevents the federal government from creating as much money as it wants and paying it to somebody. The United States can pay any debt it has because we can always print the money to do that.”

The genuine economic question is whether the nation has enough real goods and services to satisfy the demand those dollars create.

That distinction changes almost everything. Federal finance commonly is discussed as though the federal government were a household, business, city, or state. Such users of the dollar must obtain dollars before they can spend them. The federal government creates the dollars it spends. Its meaningful limit therefore is not a shortage of dollars. The limit is inflation, and inflation ultimately is a problem of insufficient supply.

Inflation Is a Supply Problem

Prices rise when supply is insufficient relative to demand. When the shortage involves a product of limited importance, the result may be merely a higher price for that product. A shortage of a particular luxury handbag does not cause general inflation. But shortages of widely used necessities and inputs can spread price increases throughout the economy.

Energy is the obvious example. Oil and natural gas affect transportation, agriculture, manufacturing, chemicals, plastics, heating, electricity, and distribution. When energy becomes scarce, its higher cost is passed through to the prices of thousands of other goods and services.

Food shortages can have similarly broad effects. So can serious shortages of housing, labor, steel, shipping capacity, computer chips, or other resources that are used throughout the economy.

Wars, droughts, pandemics, crop failures, embargoes, OPEC restrictions, natural disasters, monopoly restrictions, labor shortages, housing shortages, and supply-chain failures all can create inflationary pressures without any need for “excessive” federal spending. The common element is not too many federal dollars. It is inadequate availability of important goods and services.

This is why the familiar phrase “government spending causes inflation” is misleading. It treats all federal spending as economically identical simply because it is all denominated in dollars. But the effect of spending depends on what it buys.

The Crucial Question: What Does the Spending Buy?

Suppose there is a serious oil shortage. Gasoline prices rise, transportation costs rise, and those costs work their way into food, manufactured goods, construction, and countless other prices. The federal government could respond by eliminating gasoline taxes or sending consumers checks.

Those actions would help people pay the higher prices, but they would not produce another barrel of oil. Indeed, by supporting demand for the same inadequate supply, they could let prices rise even further.

Now suppose the federal government spends the same number of dollars to attack the shortage itself: encouraging additional production where practical, expanding refining capacity, improving pipelines and distribution, developing substitute sources of energy, increasing efficiency, or removing some other bottleneck responsible for the shortage.

The number of federal dollars spent might be identical, yet the economic effect would be entirely different. The first form of spending finances competition for a shortage. The second increases the supply and therefore attacks the source of the inflation.

The important distinction, then, is not simply more federal spending versus less federal spending. It is spending that leaves shortages untouched versus spending that prevents or cures shortages. Federal spending can be inflationary, neutral, or anti-inflationary depending on its effect on the supply of the goods and services people need.

Healthcare: Financing Is Not Producing

Healthcare illustrates the distinction especially well. Millions of Americans cannot comfortably afford medical care, and public discussion treats this as though the nation lacks the dollars needed to pay doctors and hospitals. It does not.

The federal government can create all the dollars necessary to pay for healthcare. The real limitation is whether the country has enough doctors, nurses, technicians, hospitals, clinics, ambulances, laboratories, medicines, equipment, nursing facilities, home-health workers, and other medical resources.

Medicare for All therefore should have two inseparable parts. The first is financial: make necessary healthcare available regardless of the patient’s ability to pay. No one should avoid a physician, skip a prescription, postpone surgery, or face financial ruin because of illness.

The second part is productive: expand the healthcare supply enough to meet the demand created when financial barriers are removed. The federal government should finance medical education, nursing education, residency programs, training for technicians and other healthcare workers, and incentives to enter specialties and geographic areas suffering shortages. It should support construction and modernization of hospitals, clinics, laboratories, nursing facilities, and other medical infrastructure. It should finance medical research and the development and production of medicines, equipment, diagnostic systems, and treatments.

Simply giving people more ability to pay for a fixed quantity of healthcare could increase medical prices. But that is not an argument against Medicare for All. It is an argument against designing Medicare for All as nothing more than an insurance program. The answer to a healthcare shortage is to finance both access to healthcare and the production of healthcare.

The question “How can we afford Medicare for All?” therefore confuses dollars with resources. The federal government can afford the dollars. The nation must produce the healthcare.

Social Security and Poverty

The same principle applies to poverty, although the spending is less narrowly directed. No one in a wealthy nation should be forced to live in poverty because retirement, disability, unemployment, or low wages leave him or her without adequate income. A Social Security benefit sufficient to establish an income floor could eliminate much financial poverty immediately. Again, the federal government’s ability to create dollars is not the obstacle.

The inflation question is what recipients will buy and whether the economy can supply it. Additional income may increase demand for food, housing, medical care, transportation, home assistance, nursing care, recreation, and many other goods and services. Where supply can expand readily, additional demand can lead to additional production. Where supply is constrained, prices may rise.

That does not mean the government should preserve poverty in order to suppress demand. It means the government should identify the shortages and attack them. If affordable housing is scarce, increase the housing supply. If nursing-home beds are scarce, encourage construction and staffing of nursing facilities. If home-health workers are scarce, finance training and compensation sufficient to attract more workers. If transportation for the elderly is inadequate, expand it. If medical personnel are scarce, train more.

Reducing poverty by increasing income while simultaneously expanding the supply of the goods and services whose demand will rise is a far more humane anti-inflation policy than keeping people poor so they cannot bid for scarce resources.

The Wrong Cure for Inflation

Traditional anti-inflation policy often attempts to reduce demand. Higher interest rates, spending cuts, and tax increases can make borrowing and purchasing more difficult. If enough people are prevented from buying homes, cars, medical care, or other goods and services, price pressures may decline.

But this does not cure the underlying shortage. It can achieve balance by reducing the public’s ability to buy rather than by increasing the nation’s ability to produce.

If there are too few houses, one solution is to make mortgages so expensive that fewer families can buy houses. Another is to increase the housing supply. If energy is scarce, one solution is to suppress economic activity until energy demand falls. Another is to increase energy availability and efficiency. If medical services are scarce, one solution is to make medical care unaffordable for some people. Another is to produce more medical care.

The second approach grows the economy. The first just restrains it.

The Federal Budget Should Ask a Different Question

Federal programs commonly are judged by asking, “How much will this add to the deficit?” For a Monetarily Sovereign government, that question focuses attention on the wrong scarcity. Dollars are not the scarce resource. Every major federal spending proposal instead should be accompanied by a real-resource and inflation analysis.

The questions should be: What additional goods and services will this program cause people or government to demand? Are those goods and services available in sufficient quantity? Where are the likely shortages and bottlenecks? How rapidly can supply expand? What additional federal spending, incentives, research, training, construction, regulatory changes, or other measures would expand that supply?

Under such an approach,

  • Medicare for All would be paired with expansion of medical capacity. Social Security for All would be paired with attention to housing, elder care, healthcare, transportation, and other likely constraints.
  • Housing assistance would be paired with housing construction.
  • Infrastructure spending would include measures to ensure adequate supplies of skilled workers, machinery, steel, concrete, and other necessary resources.

The federal budget then would cease being primarily an exercise in pretending the government might run out of its own dollars. It would become an exercise in managing the nation’s real resources.

The Gap

This has another important consequence. The income/wealth/power Gap between the rich and the rest is not narrowed merely by telling people that desirable programs are “unaffordable.” For the federal government, affordability in dollars is not the issue. The real issue is whether increased purchasing power can be matched by increased production.

A government that understands its Monetary Sovereignty can use federal spending to provide healthcare, prevent poverty, improve education, build infrastructure, support scientific research, and expand productive capacity. Properly directed, such spending can narrow the Gap while reducing, rather than increasing, the shortages that cause inflation.

Two Principles

Much of America’s unnecessary economic suffering rests on confusion about two basic facts.

  1. First, the federal government never can run short of U.S. dollars. Taxes may serve important economic and social purposes, but the federal government does not need to collect dollars before it can create and spend dollars.
  2. Second, the true constraint on federal spending is not the number of dollars created. It is the availability of real resources. Inflation occurs when important supplies are inadequate for the demand placed upon them. Therefore, the intelligent response to inflation is to identify the shortages and cure them.

Those two principles lead to a very different conception of federal economic policy. We do not need to choose between adequate Social Security and stable prices, or between universal healthcare and stable prices. We need to finance what people require while simultaneously financing the productive capacity necessary to provide it.

The United States does not need to ration dollars. It needs to prevent shortages.

Rodger Malcolm Mitchell