Decouple Spending From Bond Sales

Government bonds for funding are well understood to be an unnecessary, vestigial custom for currency-issuers.* There has been discussion of eliminating them as they serve no funding purpose.

An argument in favor of eliminating bonds is that they are the foundation for the widely held yet false belief that a “national debt” limits what public projects can be carried out. Eliminate bonds associated with “funding” and we achieve a more transparent, easy-to-understand system with no “national debt” for the media to discuss. This in turn enables the media and public to see the logic in optimizing spending up to the public’s own desired resource use for their own wellbeing (healthcare, education, a job guarantee) and in turn electing representatives who will do so.

Reasons often given for maintaining bond sales

The first objection to stopping bond sales is that bonds stop spending from being inflationary whereas direct spending would be inflationary. This is simply bad accounting.** That even “professionals” can fall for this highlights the need for making the system more understandable for the general public .

There are three further reasons commonly given for not eliminating government bond sales:

1. government bonds have come to be relied on in pension programs

2. it became customary to believe that their effects on interest rates are beneficial (stopping bond issuance would stop their “reserve drain” effect, causing base rates to fall permanently to 0 unless other government interest rate support policies were implemented, such as interest on reserves, time deposits, or reverse repos)

3. the accounting for spending with and without bonds is the same, it is just more complex with bonds. Thus the political capital needed to have the system changed is not worth the effort. It is better to use that political capital on trying to get the public to understand spending for the public purpose under the existing system. (Most “MMT” economists follow this approach.)  The political capital argument is also reinforced by (1) and (2); belief in both the utility of the pension fund purpose and interest rate effect of bonds each independently have immense support. Overcoming even one of these objections would be almost impossible, much less both of them at the same time.

So we soldier on with a byzantine system that allows the narrative that there is a “national debt” to impede us from spending more on healthcare, infrastructure, social security, pure research, and employment, and to dominate in the media and among the public. The public continue to vote for representatives (in all major parties) that promise to reduce a “national debt” and “balance the books” (even as I write, this popped up in The USA Today: “The national debt wasn’t a big issue this midterm election, but it’s still a big problem” .)

Decoupling Spending From Bond Sales

There is no structural reason that the debate has to be either to maintain the system as it is or eliminate bond sales altogether. We could separate bond sales from the spending process without eliminating them.*** (This has been pointed out before; I am merely reiterating the usefulness of doing so).

This would allow the merits of each reason for bonds to be judged independently. (spending, interest rate policy, vehicles for safe savings).

Benefits: 

This would allow for the transparent spending procedure many have argued for (direct spending of tax-credits, whether from the treasury or central bank, it makes no difference; Overt Monetary Financing is a common term for one method). It becomes obvious there is no structural limit as tax-credits are merely ledger entries and have nothing to do with annuity issuance.

It would become straightforward to explain to the media and public that the only limit is the real resources that they themselves decide to dedicate to public projects (via their representatives), best measured and limited by the price index. The current Fed/Treasury system is so complex in the US that it is almost impossible to explain clearly even to advanced economics students, and is widely misunderstood even by professional economists. With this complexity comes opportunity for those who do not want spending for public purpose. The revised system would be understandable in televised debates, popular political barometers such as USA Today, etc. The inherent logic of functional finance would be much easier to get across to the public and subsequently acted on in Congress.

No debates necessary with the entrenched interests and customary beliefs of (1) and (2) above

“Bond” (actually annuity) sales could remain the same in quantity and quality as now.***

However, separating them from “funding” is in line with the reality that bond sales have no real connection to funding decisions; it more accurately reflects the real accounting decisions involved.

It makes clear that “bond” sales are just boring annuities for willing savers.

That they are voluntary and there are no “bond vigilantes.”

There are potentially long-run advantages for pensions as well. For example, Richard Murphy argues we have far too few safe assets that pay interest (UK context), that there should be more bonds sold. That debate can happen based purely on the merits of bonds  for the pension system, uncoupled from debates on the budget. It becomes obvious that savers who buy annuities are just that – merely savers, funding nothing.

Once their role as primarily annuity and retirement vehicles is isolated, it also becomes evident that that system can be optimized. We could increase the amount or change the types of securities to better serve pensions, without becoming bogged down with discussions of funding. Eventually, it might be realized that using public bonds to back complex, often private pension plans isn’t the optimal system, but that can be an entirely separate, and future, debate. (Just one possible example: government tontines as discussed in The University of Pennsylvania Law Review, see here, here, and here as well).

Relatedly, there are many good reasons to believe that interest rate manipulation is not useful for improving the economy (e.g., here ****). But that debate can also be had entirely separately from the tax-credit spending system. My suspicion is that the low, steady interest rate structures that prove most beneficial to pension plans will prove to be the most beneficial for overall “interest rate policy” anyway.

Overall, there is no structural reason to bind together discussions of spending, government annuities, and interest rate support as we do in the current system. 

Those who argue that eliminating bonds would take too much political capital may well be right. However, the primary benefit (public understanding of spending) is achievable merely by separating funding, annuity issuance, and interest rate policy. This is relatively easy to achieve politically as doing so would not need to bring about opposition based on pensions or those who believe interest rate policies are useful. Simply allow Overt Monetary Funding, still sell annuities, and, independent of funding, allow whatever interest rate support methods are deemed desirable. There is much to be gained from this and no obvious downside, regardless of one’s views on spending, pensions, or interest rate policy.

NOTES

* It is also vestigial that savers have access to tax-credits as cash, but not on ledgers, and cannot save and transact via ledgers in tax-credits($, £ etc). They are needlessly forced to convert savings to bonds if they wish to personally save tax-credits safely on the government’s ledger. This is vestigial and easily fixed. The US Treasury, for example, already keeps accounts for savings-bond holders and could do so for tax-credits; the IRS easily tracks all the tax-credits in the nation; private banks have of course easily kept track of private debt for centuries; and public postal banks have existed in various countries. There is no technical obstacle to easily allowing the public to save and transact in real tax-credits (as opposed only in bank credit-money units) via a (digital) ledger system.

** This is based on the same bad accounting that allows the belief that bonds fund spending. Currency-issuers always spend by crediting accounts; the changing of already saved government tax-credits by savers into government bonds does nothing to change the impact of government spending. The buyers are already eager savers, and bonds can be liquified easily anyway, or used as collateral.

*** For currency-issuers, all spending methods shake out to be the same. So it might be argued that allowing bond sales to be continued under another name and separate from spending achieves nothing. And that if interest is paid on bonds (or interest rates are supported by interest on reserves, reverse repos etc.) then there is still a “national debt”. However, separating bonds from any discussion of funding better reflects reality. If the government voluntarily chooses to pay savers an annuity, that is clearly different than what the public now perceives as a “national debt” to private banks, foreign countries, and/or future generations, which is clearly what impedes much of the public now from voting for representatives who will fund “do-able,” publicly desired, welfare-enhancing projects now.

**** A few more reasons often given for why interest rate policy is not effective:

• Changing saved tax-credits ($, £ etc)  into treasuries/gilts doesn’t affect the ability to spend since bonds are easily sold or used as collateral (I.e., there is no inflation control effect).
• Interest rate effects are slower and less precise than fiscal automatic stabilizers
• Business investment is inelastic to interest rates (although housing and consumption is not)
• Interest rate policy is technocratic, by unelected officials, who further may have conflicts of interest
• Protecting true small savers is relatively easily achieved in other ways; institutional investors should make their money and protect it in the market, there is no justification for “protecting” their savings from inflation
• “Interest rate policy is used as an excuse to avoid the hard questions of taxing and spending; we shouldn’t let the government off the hook in making key decisions about economic policy”

Many of these issues are already laid out and usefully clarified by Brian Romanchuk and comments on Mosler, and by Neil Wilson and others, over at Bond Economics.

References

Forman, Johnathan Barry and Michael J. Sabin, 2015. “Tontine Pensions” University of Pennsylvania Law Review, Vol. 163: 755-831 .