The myths of “Crowding out”

Reader “CharlesD” bemoaned the difficulty he has had explaining Monetary Sovereignty to Congresspeople. (I feel your pain, Charles.)

He mentioned the “non-partisan” Congressional Budget Offices use of “crowding out” hypothesis,as one of the arguments against the increased federal deficit spending that is inherent in Monetary Sovereignty and the Ten Steps to Prosperity (below).

So far as the CBO being “non-partisan,” the Speaker of the House of Representatives and the president pro tempore of the Senate jointly appoint the CBO Director. The rest of CBO’s staff, including the Deputy Director, are appointed by the Director.

Is it possible to be more partisan than that?

Anyway, partisanship makes little difference, because both political parties and all political directions — right, center, and left — subscribe to the same “crowding out” myths, of which there are several:

Myth I. Federal debt supposedly “crowds out” private debt

From Investopedia: “Because large governments have the power to borrow large sums of money, doing so can actually have a substantial impact on the real interest rate, raising it by a significant degree.

This has the effect of absorbing the economy’s lending capacity and of discouraging businesses from engaging in capital projects.

A. The U.S. government does not borrow, nor does it need to.  What erroneously is termed “federal borrowing” actually is the issuance of T-securities.  Federal “debt” is the total of T-security accounts at the Federal Reserve Bank — similar to bank savings accounts.

In essence, “crowding out” hypothesis proposes that these bank account deposits crowd out lending, a strange idea, indeed.

B. The federal government pays its bills by creating new dollars, ad hoc.  To pay a creditor, each federal agency sends instructions (not dollars) to the creditor’s bank, instructing the bank to increase the balance in the creditor’s checking account.  When the bank does as instructed, dollars are created and added to the economy.

C. Interest rates are determined by the Fed, and evolve from the federal funds target rate, which the Fed arbitrarily sets.

D. Issuing T-securities does not “absorb the economy’s lending capacity.” The federal government does not borrow from banks. The federal government issues T-securities, having no effect on any bank’s lending capacity (which is determined by bank capital).

Myth II. Social welfare programs supposedly “crowd out” private spending.

From Investopedia: Crowding out may also take place because of social welfare, unlikely as this may seem, though indirectly.

This happens when governments raise taxes in order to fund the introduction of new welfare programs or the expansion of existing ones.

With higher taxes, individuals and businesses are left with less discretionary income to spend, specifically on charitable donations toward social welfare or other causes that the government is also funding.

A. Federal spending adds dollars to the economy, thereby increasing the private sector’s discretionary income.

B. A Monetarily Sovereign government’s taxes do not fund the government’s spending. Even if all U.S. federal tax collections fell to $0, the federal government could continue spending, forever.

C. For monetarily non-sovereign (state and local) governments, taxes do fund spending, but that spending goes back into the economy. Local taxing does not create a net change in individuals’ and businesses’ discretionary income.

Ironically, the “crowding out” false claim is that federal spending on social programs crowds out private spending — on social programs.

Myth III. Government-funded infrastructure development projects can discourage privately funded infrastructure programs.

From Investopedia: Another form of crowding out can occur because of government-funded infrastructure development projects, which can discourage private enterprise from taking place in the same area of the market by making it undesirable or even unprofitable.

This often occurs with bridges and other roads, as government-funded development discourages companies from building toll roads or from engaging in other similar projects.

For example, if Build-It Infrastructure Corp. is thinking about building a bridge across the San Francisco Bay and has structured the project’s profit model around charging tolls for cars crossing the bridge, the announcement of a government-funded bridge project in the area will likely prevent Build-It’s project from taking place, as their toll bridge will likely not be able to compete with a free, publicly funded one.

A. Whatever the government does, it can “crowd out” a private company from doing the same thing. Instead, the government may hire a different private company to do the work.

In the “Build-It” example given above, the government usually will hire Build-It or one of its competitors to build the bridge. The government itself does very little of its own work, but generally finances private industry to do the work.

For example, the entire defense industry is built on federal financing. No “crowding out” there.

B. When the government does the work, it usually is because of control and risk. A classic example is NASA, which was funded and controlled by the government, for important political reasons.

Even here, however, the majority of NASA’s work is done by private contractors, who were relieved of the risk inherent in rocketry. Now, many years after the moon missions, private industry has learned enough from NASA’s experiences, the current risk seems acceptable.

Rather than “crowding out” private industry, NASA supported private industry and created an information base which private industry now is using.

Further, NASA pays the private sector (i.e. individual employees) to do the work, and these employees spend their money with private industry.

We have quoted the myths from Investopedia, but in all fairness, Investopedia does mention (at the end of its article) the other side of the story:

On the other hand, macroeconoic theories like Chartalism and Post-Keynesianism hold that in a modern economy operating significantly below capacity, government borrowing can actually increase demand by improving employment, thereby stimulating private spending as well.

This process is often referred to as “crowding in,” (which) has gained some currency among economists in recent years after it was noted that during the Great Recession of 2008 enormous spending on the part of the United States federal government on bonds and other securities actually had the effect of reducing interest rates.

Almost, but not quite.

Enormous spending by the federal government on products and services pumped dollars into the economy, which stimulated the economy.

Simultaneously, the Fed lower interest rates, by fiat, which in fact, did not stimulate the economy, and may have had a recessive effect. (See: The Low Interest Rate / GDP Growth Fallacy.)

Low rates cause the Federal Government to pay less interest on T-securities. Thus fewer dollars are pumped into the economy, an economic recessive.

Summary: The “crowding out” hypothesis demonstrates ignorance of economic reality and particularly of Monetary Sovereignty.

Save this article for the next time someone mentions the “crowding out” myth.

=Rodger Malcolm Mitchell
Monetary Sovereignty
Ten Steps to Prosperity:
1. ELIMINATE FICA (Ten Reasons to Eliminate FICA )
Although the article lists 10 reasons to eliminate FICA, there are two fundamental reasons:
*FICA is the most regressive tax in American history, widening the Gap by punishing the low and middle-income groups, while leaving the rich untouched, and
*The federal government, being Monetarily Sovereign, neither needs nor uses FICA to support Social Security and Medicare.
This article addresses the questions:
*Does the economy benefit when the rich afford better health care than the rest of Americans?
*Aside from improved health care, what are the other economic effects of “Medicare for everyone?”
*How much would it cost taxpayers?
*Who opposes it?”
3. PROVIDE AN ECONOMIC BONUS TO EVERY MAN, WOMAN AND CHILD IN AMERICA, AND/OR EVERY STATE, A PER CAPITA ECONOMIC BONUS (The JG (Jobs Guarantee) vs the GI (Guaranteed Income) vs the EB) Or institute a reverse income tax.
This article is the fifth in a series about direct financial assistance to Americans:

Why Modern Monetary Theory’s Employer of Last Resort is a bad idea. Sunday, Jan 1 2012
MMT’s Job Guarantee (JG) — “Another crazy, rightwing, Austrian nutjob?” Thursday, Jan 12 2012
Why Modern Monetary Theory’s Jobs Guarantee is like the EU’s euro: A beloved solution to the wrong problem. Tuesday, May 29 2012
“You can’t fire me. I’m on JG” Saturday, Jun 2 2012

Economic growth should include the “bottom” 99.9%, not just the .1%, the only question being, how best to accomplish that. Modern Monetary Theory (MMT) favors giving everyone a job. Monetary Sovereignty (MS) favors giving everyone money. The five articles describe the pros and cons of each approach.
4. FREE EDUCATION (INCLUDING POST-GRAD) FOR EVERYONEFive reasons why we should eliminate school loans
Monetarily non-sovereign State and local governments, despite their limited finances, support grades K-12. That level of education may have been sufficient for a largely agrarian economy, but not for our currently more technical economy that demands greater numbers of highly educated workers.
Because state and local funding is so limited, grades K-12 receive short shrift, especially those schools whose populations come from the lowest economic groups. And college is too costly for most families.
An educated populace benefits a nation, and benefiting the nation is the purpose of the federal government, which has the unlimited ability to pay for K-16 and beyond.
Even were schooling to be completely free, many young people cannot attend, because they and their families cannot afford to support non-workers. In a foundering boat, everyone needs to bail, and no one can take time off for study.
If a young person’s “job” is to learn and be productive, he/she should be paid to do that job, especially since that job is one of America’s most important.
Corporations themselves exist only as legalities. They don’t pay taxes or pay for anything else. They are dollar-tranferring machines. They transfer dollars from customers to employees, suppliers, shareholders and the government (the later having no use for those dollars).
Any tax on corporations reduces the amount going to employees, suppliers and shareholders, which diminishes the economy. Ultimately, all corporate taxes come around and reappear as deductions from your personal income.
7. INCREASE THE STANDARD INCOME TAX DEDUCTION, ANNUALLY. (Refer to this.) Federal taxes punish taxpayers and harm the economy. The federal government has no need for those punishing and harmful tax dollars. There are several ways to reduce taxes, and we should evaluate and choose the most progressive approaches.
Cutting FICA and corporate taxes would be an good early step, as both dramatically affect the 99%. Annual increases in the standard income tax deduction, and a reverse income tax also would provide benefits from the bottom up. Both would narrow the Gap.
There was a time when I argued against increasing anyone’s federal taxes. After all, the federal government has no need for tax dollars, and all taxes reduce Gross Domestic Product, thereby negatively affecting the entire economy, including the 99.9%.
But I have come to realize that narrowing the Gap requires trimming the top. It simply would not be possible to provide the 99.9% with enough benefits to narrow the Gap in any meaningful way. Bill Gates reportedly owns $70 billion. To get to that level, he must have been earning $10 billion a year. Pick any acceptable Gap (1000 to 1?), and the lowest paid American would have to receive $10 million a year. Unreasonable.
9. FEDERAL OWNERSHIP OF ALL BANKS (Click The end of private banking and How should America decide “who-gets-money”?)
Banks have created all the dollars that exist. Even dollars created at the direction of the federal government, actually come into being when banks increase the numbers in checking accounts. This gives the banks enormous financial power, and as we all know, power corrupts — especially when multiplied by a profit motive.
Although the federal government also is powerful and corrupted, it does not suffer from a profit motive, the world’s most corrupting influence.
10. INCREASE FEDERAL SPENDING ON THE MYRIAD INITIATIVES THAT BENEFIT AMERICA’S 99.9% (Federal agencies)Browse the agencies. See how many agencies benefit the lower- and middle-income/wealth/ power groups, by adding dollars to the economy and/or by actions more beneficial to the 99.9% than to the .1%.
Save this reference as your primer to current economics. Sadly, much of the material is not being taught in American schools, which is all the more reason for you to use it.

The Ten Steps will grow the economy, and narrow the income/wealth/power Gap between the rich and you.

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