Bill Gross: On the fiscal gap

[Gumby]

The lesson is that there's always enough money to buy the next round of debt. There's never a solvency issue in a fiat debt-based monetary system unless a government chooses to have one.

But is there enough money in the system to buy the exponetially compounding interest that overwhelms the principal?

Yes, because the Fed can lend the money to the Primary Dealers to buy the compounding bonds. The money to pay the Fed back is easily obtained on a Macro level as the government spends the money into the private sector and makes the interest payments into the private sector. Of course, the Primary Dealers could (and probably would) opt-out of this arrangement in a hyperinflation scenario, but the important thing to realize is that the mechanisms are in place to issue an infinite amount of debt.

[craigr]

but the important thing to realize is that the mechanisms are in place to issue an infinite amount of debt.

No money issuing entity can print money forever and buy their own debt. I don't care how it's being justified. Ultimately any kind of money is a confidence game of sorts. When the confidence ends, so does the game. The U.S. has been in a cat bird seat for many decades due to various historical events that put us there (namely WWII). But the idea that a country can endlessly run up their bills and not eventually pay a severe price is not supported by a single shred of historical evidence. These currency games and debt games can go awry quickly and send the economists that supported these odd theories running for cover.

[MediumTex]

I'm not taking anything away from Gross's talents as a bond fund manager and entertainer.  I just think that it would be reasonable for Gross to footnote his performance in recent years with something like "bailout assisted returns" in the same way that we might footnote Barry Bonds' home run stats from the later years of his career.

All of us need an footnote denoting "QE assisted returns" then too.  The 90's needs to have a footnote denoting "demographics (boomers) and technology advance assisted returns".   

Are you saying that you find Gross's argument persuasive?

I'm not saying that he doesn't have a good argument that is perfectly reasonable.  It's just that if you have humans involved in a market, consistently predicting outcomes is beyond the skill level of any individual market commentator.

I'm not against writing up interesting market commentaries like Gross has done for the same reasons that I'm not against horror movies.  I just think that people need to be reminded sometimes that the purpose of these pundits' efforts is to provide entertainment (and sell shares of their funds), not to peer into the future. 

[moda0306]

but the important thing to realize is that the mechanisms are in place to issue an infinite amount of debt.

No money issuing entity can print money forever and buy their own debt. I don't care how it's being justified.

Of course it can.  The fed could buy all treasury debt held by the private sector tomorrow if it wanted to.  Our constraint, of course, would be inflation... but interestingly even that massive of a QE probably wouldn't throw us into a huge inflationary event, as it doesn't change people's balance-sheets to a more positive state, and would result in less interest income in the private sector.  This is why so many people agree that The Ben Bernanke really can't do much right now to juice the economy.

The only thing that can improve those balance sheets is fiscal deficits, trade surpluses or business investment.  The last won't happen in aggregate until we're closer to productive capacity via consumer demand.

[craigr]

Our constraint, of course, would be inflation... but interestingly even that massive of a QE probably wouldn't throw us into a huge inflationary event, as it doesn't change people's balance-sheets to a more positive state, and would result in less interest income in the private sector.

You mean sweeping into the economy with $1,000,000 bills and buying up all issued Treasury debt or paying interest with that money won't have an effect? Are you sure those MMT guys know how many assets are backed with that debt? Are they also aware that those debt holders will start to panic when they think they are being short-changed and try to swap it out for something else?

I'm not looking to argue the point. I will simply remain in the camp nodding my head, smiling and making sure I stand far enough back while they are juggling their hand grenades just in case they explode. Sadly, when this kind of grenade goes off it's difficult to not get hit with the shrapnel.

[stone]

craigr

You mean sweeping into the economy with $1,000,000 bills and buying up all issued Treasury debt or paying interest with that money won't have an effect?

I think the key thing is that the "$1,000,000 bills" don't get to people who want to spend. Instead they are getting to savers.

[moda0306]

Craig,

It's a fun mental exercise, to be sure.  I don't intend on making large bets on my prediction.  However, let's look at whether these investors were "short-changed" and will have any reason to revolt?  When they held a bond, they held a paper asset w/ no intrinsic value, promising to pay you, in small amounts, paper assets w/ no intrinsic value, followed by one large lump sum in the form of a paper asset with no intrinsic value, all of which representing a financial asset on your balance sheet of a similar size.  When they buy that from you, what they've given you is a a paper asset w/ no intrinsic value, primising to pay you nothing of real value.

How can we say that trading one for the other would vastly reduce the value of our dollar (would it subsequently vastly increase the value of remaining debt in the economy, if we're using the "quantity logic"?  If so, that would mean the value of existing bonds would rise sharply, not fall, as the fed "destroys" US treasury bonds, though that doesn't make particular sense if hyperinflation would be simultaneously ensuing.  Of course, viewing it this way will leave us wrong, right along with Peter Schiff, because the gov't doesn't undermine the value of paper assets by swapping them for other paper assets... they undermine the value of the dollar if they do stupid things in the economy given what the private sector wants, or if they try to pull more and more real goods & services into the gov'ts cauffers beyond our economy's productive capacity (see Zimbabwe).

Basically, the issuer of a currency, much like the referee on a football field, does not have most of the same constraints as the rest of the players, even though it looks like he's running around awful hard and looks just as busy and tired as the players do.  As stone said, those trillions of dollars are simply replacing savings.  They're not helecopter drops.  They're confetti swaps.  We can all pontificate about what gives our confetti value in the economy (taxes?  gov't institutions such as property recognition), but we probably shouldn't consider swaps of one form of confetti to another some kind of massive, destabilizing event... at least we should maybe question what role bonds play by a currency issuer, much like we know that the ref's wear cletes not to outrun the wide receiver, but to keep up with him reasonably and call the play appropriately.

[craigr]

craigr

You mean sweeping into the economy with $1,000,000 bills and buying up all issued Treasury debt or paying interest with that money won't have an effect?

I think the key thing is that the "$1,000,000 bills" don't get to people who want to spend. Instead they are getting to savers.

Well if I was a saver and the Fed decided to buy up all my savings (along with everyone else's) with freshly printed money I'd be pretty upset. In fact, I'd be looking to dump that stuff ASAP and get into tangible or foreign assets.

Argentina can print their own money (and do). Would you want to buy Argentinian bonds if they said they'd print up some Pesos and you'd be Ok so don't worry about it?

Not trying to be hostile about this, just that I see this stuff posted on a forum dedicated to a lot of what Harry Browne advocated and I just think these ideas need to be questioned because I think they are silly.

The Fed thinks they are always in control, but the reality is they just have this big red knob that controls a complex nuclear reactor. On the knob it says "More" and "Less" and that's pretty much it. They can turn it one way or another, but they can't really be sure they won't cause a meltdown eventually.

[craigr]

Craig,

It's a fun mental exercise, to be sure.  I don't intend on making large bets on my prediction.  However, let's look at whether these investors were "short-changed" and will have any reason to revolt?  When they held a bond, they held a paper asset w/ no intrinsic value, promising to pay you, in small amounts, paper assets w/ no intrinsic value, followed by one large lump sum in the form of a paper asset with no intrinsic value, all of which representing a financial asset on your balance sheet of a similar size.  When they buy that from you, what they've given you is a a paper asset w/ no intrinsic value, primising to pay you nothing of real value.

The value comes from the limited supply and trust in the public. If the supply goes infinite then it has no value at all. That's the reason why we don't pay each other in grains of sand.

...they undermine the value of the dollar if they do stupid things in the economy given what the private sector wants, or if they try to pull more and more real goods & services into the gov'ts cauffers beyond our economy's productive capacity (see Zimbabwe).

The government does stupid things all the time. They are the pinnacle of incompetence in virtually everything they do. Why in the world would I want them controlling the most important thing in the economy: Money?

Basically, the issuer of a currency, much like the referee on a football field, does not have most of the same constraints as the rest of the players

Yes they do have the same constraints. The players can simply refuse to accept their calls or go on strike. You get these two teams of debtors and savers. The refs come in and give the debtors 100 free touchdowns. Your answer is "well it's all arbitrary" and the savers reply: "Screw you, we're not going to invest because you keep changing the rules."

Economists need to pull their noses out of their spreadsheets. Economics is a social psychology problem. If you want to understand why an economy is not growing, talk to businesses that want to invest and grow and find out what is spooking them. Don't talk to an economist. I can promise you if you tell a business that the government is going to come in and spend money at the expense of their own savings (e.g. "Stimulus") they will not want to risk growing. They will pull in their horns to see what happens. Yes some cronies will lap up that money, but others that are not on the gravy train will be very averse to taking any new risks.

[BearBones]

This is all VERY helpful. Thanks for putting in the time to explain your thoughts.

[clacy]

Are you saying that you find Gross's argument persuasive?

I'm not saying that he doesn't have a good argument that is perfectly reasonable.  It's just that if you have humans involved in a market, consistently predicting outcomes is beyond the skill level of any individual market commentator.

I'm not against writing up interesting market commentaries like Gross has done for the same reasons that I'm not against horror movies.  I just think that people need to be reminded sometimes that the purpose of these pundits' efforts is to provide entertainment (and sell shares of their funds), not to peer into the future.  

No.  I have no idea which economic regime is correct or if there will ever even be a clear winner in this debate (speaking of MMT vs Austrian).  Neither will likely be implemented correctly.

I can find very compelling advocates for both, and I am open minded to each camp.

I have no idea how it will all shake out.  I'm just debating, for the sake of debating I guess.

**Edit to say that I do hold a portion of my cash in BOND (ETF version of total return).  I feel like until they are done with QE, this is an acceptable form of cash.  It has very low volatility and until a significant deflationary event occurs it will be safe and provide superior to cash returns.  If PTTRX heads south of the 6 month SMA, I would convert that portion to SHY.  Over the past 20 years, that has only happened 4-5 times so it seems pretty solid to me.

[Gumby]

No money issuing entity can print money forever and buy their own debt. I don't care how it's being justified. Ultimately any kind of money is a confidence game of sorts. When the confidence ends, so does the game.

You've mischaracterized how debt is issued and purchased. In the United States, all money (except coins) comes from debt (or private credit). The US, along with Japan, has the mechanisms to issue an infinite amount of debt and have that debt willingly purchased by banks that are literally given the excess reserves to purchase that debt. There are mechanisms in place to prevent a solvency issue no matter how much debt the government wants to issue in order to spend.

Now that we've gotten that out of the way, it should be clear that while MMTers and Monetary Realists recognize that there is no solvency issue for Japan or the United States, they also realize that a country cannot print beyond its own productive capacity. Doing so would be highly inflationary, and that would not be good.

So, let's be clear. Nobody is advocating massive levels of debt beyond a country's productive capacity. But, with unemployment above 8% and 1 in 7 Americans on food stamps, there is little risk of printing beyond our productive capacity right now.

Argentina can print their own money (and do). Would you want to buy Argentinian bonds if they said they'd print up some Pesos and you'd be Ok so don't worry about it?

Not trying to be hostile about this, just that I see this stuff posted on a forum dedicated to a lot of what Harry Browne advocated and I just think these ideas need to be questioned because I think they are silly.

I think this is where it would help you to take the time to learn about Monetary Realism before mischaracterizing fiat currencies. Understanding Monetary Realism does not make you into a spending liberal dove. What it does is explain how modern monetary systems work. It allows you to take your politics out of the equation to make Macro judgements of various currencies.

For example...

Argentina is not like the United States because Argentina owed — and still owes — massive amounts of foreign-denominated debt. That may not seem like a big deal, and if you're Bill Gross you might just toss that little nugget of information aside as you put Argentina next to the United States on a chart comparing finances. But what MR tells us is that modern fiat monetary systems can only work when the following standards are met:

1) A currency is free floating (i.e. no pegs to other currencies or commodities)
2) A government is a currency issuer, not a currency user (US states and Euro countries are currency users)
3) A government owes no foreign-denominated debt.

Argentina's currency was pegged. They unpegged and then chose a strategic hyperinflation in order to temporarily get out of over $100 billion in foreign denominated debt. Their economy improved dramatically once that happened. And now, they have another set of massive foreign-denominated debts to get out of...

http://blogs.ft.com/beyond-brics/2012/0 ... ore-to-go/

So, let's not use Argentina as an example of a 'sovereign fiat currency with a free floating exchange rate and no foreign-denominated debts' because they do not fit that bill. Argentina has a huge dead-weight around its neck because it owes debts in a currency that it cannot print. Therefore, they must debase their own currency in order to pay down their foreign debts. So, the rules that we apply to the United States and Japan do not apply to Argentina, and vice versa.

The Fed thinks they are always in control, but the reality is they just have this big red knob that controls a complex nuclear reactor. On the knob it says "More" and "Less" and that's pretty much it. They can turn it one way or another, but they can't really be sure they won't cause a meltdown eventually.

The Fed doesn't do helicopter drops in the way you are suggesting. The Fed just swaps assets with Primary Dealers. That's not a very effective way to cause inflation because they don't get to change the amount of net financial assets in the private sector.

Nevertheless, I think we all agree that too much money, beyond productive capacity, would be a very bad thing.

[l82start]

"The manager of the planet Fintlewoodlewix explains that “since we decided to adopt the leaf as legal tender, we have all of course become immensely rich.  But we have run into a small inflation problem owing to high leaf availability. That means the current rate is something like three major deciduous forests buy one ship's peanut. In order to obviate this problem and revalue the leaf, we've decided on an extensive campaign of defoliation and burn down all the forests. I think that's a sensible move, don't you?”?

for some reason MMR discussions reminds me of Douglas Adams (hitchhikers guide) quotes

"This planet has - or rather had - a problem, which was this: most of the people living on it were unhappy for pretty much of the time. Many solutions were suggested for this problem, but most of these were largely concerned with the movements of small green pieces of paper, which is odd because on the whole it wasn't the small green pieces of paper that were unhappy."

[Gumby]

for some reason MMR discussions reminds me of Douglas Adams (hitchhikers guide) quotes

As humorous as Douglas Adams is, it's difficult to see how inflation is an immediate problem for a country that...

- is the sole issuer of the currency that its debts are denominated in
- has a free floating exchange rate
- has no foreign-denominated debts
- has 1 in 7 people on food stamps and unemployment is above 8%.

[l82start]

There are mechanisms in place to prevent a solvency issue no matter how much debt the government wants to issue in order to spend.

they also realize that a country cannot print beyond its own productive capacity. Doing so would be highly inflationary, and that would not be good.

for some reason MMR discussions reminds me of Douglas Adams (hitchhikers guide) quotes

As humorous as Douglas Adams is, it's difficult to see how inflation is an immediate problem for a country that...
- is the sole issuer of the currency that its debts are denominated in
- has a free floating exchange rate
- has no foreign-denominated debts
- has 1 in 7 people on food stamps and unemployment is above 8%.

yep we burn down the forest and don't let more trees grow than our productive capacity can sustain, it still makes me think we might be a bunch of phone booth sanitizers with a tree leaf based economy...

[moda0306]

Craig,

When the fed prints paper called reserves, it soaks up other paper called treasury bonds.  If we're using your quantity-based analysis of paper #1, then we have to use your quantity based analysis for paper #2.  If the fed were to print tons more QE, your real value drop prediction on fiat paper #1 would have to be offset with a real value boom for paper asset #2.  But this makes no sense now, does it?  The fact is these things are basically interchangeable, especially in an economy with low demand for loanable funds.  They do, however, affect the credit markets during times of high demand for loanable funds.  This is how QE and interest rates should be analyzed in a fiat world, not some kind of antiquated quantity-measure that is being incredibly wrong almost constantly.

Further you grossly exaggerate how bad our government is at doing things.  We sent a friggin' guy to the moon in 1969 as part of a government program, which hasn't been done since, and we also built a nuke in 1945.  More importantly, though, even libertarians entrust enormously important things to government.  The ability to go to war and allocate, recognize & defend private property & contracts is a very complex task these days, though judges and government employees do it every day.  Lastly, straight out of our constitution, the federal government has the power "to coin Money, and regulate the Value thereof."

The whole "printing money causes inflation," and "high deficits cause a default-spiral" line is being tested right in front of our faces right now and being proven quite a joke.  All in all, because our government is the issuer of our currency, the government bonds are really nothing more than representative as a savings account with the government... if you woke up tomorrow and found that the entire contents of your Wells Fargo savings account yielding .1% had been moved to your checking account, you might be a little annoyed or might not even notice... in no way, shape or form would you go out and spend like a drunken sailor and drive up inflation.

I don't need a spreadsheet to realize that while business owners have a lot of things on their mind, not the least of which is sometimes-burdensome taxes & regulation, the MAIN constraint of their growth is demand for their product or service, and the main reason demand is low is because our balance-sheets are horse$hit as consumers.  We can't slash spending and maintain the demand necessary (until balance sheets are repaired in the private sector) to keep businesses running near full capacity.  The stimulus was a stabilizer to that demand, and extremely important for businesses trying to keep their doors open.  You would agree with my uncle in law, who gets about 50% of his business through gov't contracts, makes 6-digits, and screams about how government spending is reducing his will to go to work in the morning.  We absolutely need economists, not business owners, looking at the machine as a whole, and not just trying to apply business solutions to non-business problems.  I can decide to work 80 hours a week and live off of cat food, but the entire economy simple can NOT do that... it's amazing to me that it's so hard for people to see that one person's expense is another person's income, and one person's liability is another person's asset, and in the end, for all its evils, steady consumer spending drives everything on the supply-side economy behind it, and that the consumer is just the opposite side of the coin as the producer.

[stone]

craigr

Economists need to pull their noses out of their spreadsheets. Economics is a social psychology problem. If you want to understand why an economy is not growing, talk to businesses that want to invest and grow and find out what is spooking them. Don't talk to an economist. I can promise you if you tell a business that the government is going to come in and spend money at the expense of their own savings (e.g. "Stimulus") they will not want to risk growing. They will pull in their horns to see what happens. Yes some cronies will lap up that money, but others that are not on the gravy train will be very averse to taking any new risks.

I totally agree with you that "gaming the system" through monetary manipulations can often just allow real problems to get side stepped until they snowball into even bigger problems.
I'm all for trying to have a much simpler monetary system that everyone fully understands. IMO that would bring the real issues into sharp focus and then people could decide what to do based on understanding rather than being bamboozled and herded by monetary manipulations.

[melveyr]

I'm all for trying to have a much simpler monetary system that everyone fully understands. IMO that would bring the real issues into sharp focus and then people could decide what to do based on understanding rather than being bamboozled and herded by monetary manipulations.

I think lots of people haven't fully internalized how much our monetary system has changed over the last hundred years.

To use a computer programming metaphor it's like we are inheriting source code that was first written 100 years ago. Some of the variables of totally changed in what they do, but they are still labeled the same thing. To make matters worse, other key functions have changed in huge ways, but the commenting in the code is still the same. Any programmer will tell you that no commenting in the code is better than outdated and or inaccurate commenting.

It's not surprising that our understanding of how the program works is total crap, because the program is extremely complicated and has been built over a long period of time and has had one thing bolted onto it after another. I think I complete rewrite from scratch makes total sense, with new variable names, unnecessary redundancies removed and perhaps key functions changed because the whole thing is a total mess and no one truly understands what the hell is going on. It would be a lot of work but we have done it before and if the results we are suffering through right now are not a big enough impetus then I am afraid to find out what calamity it would actually take before we think of structural redesign.

[craigr]

You've mischaracterized how debt is issued and purchased. In the United States, all money (except coins) comes from debt (or private credit). The US, along with Japan, has the mechanisms to issue an infinite amount of debt and have that debt willingly purchased by banks that are literally given the excess reserves to purchase that debt. There are mechanisms in place to prevent a solvency issue no matter how much debt the government wants to issue in order to spend.

The problem is that debt flows out and causes a ton of other problems. The recent housing debacle with cheap and easy credit is just one of many examples.

So, let's be clear. Nobody is advocating massive levels of debt beyond a country's productive capacity. But, with unemployment above 8% and 1 in 7 Americans on food stamps, there is little risk of printing beyond our productive capacity right now.

The MMT side assume a lot of altruistic motives in government. I don't.

People have imperfect knowledge, imperfect information and imperfect motives in how they make policy decisions. For the last point, I'd simply refer you to Nixon's discussions with then Fed chairman Arthur Burns to use monetary policy to further his re-election:

http://cba.unomaha.edu/faculty/mwohar/w ... n42006.pdf

I think this is where it would help you to take the time to learn about Monetary Realism before mischaracterizing fiat currencies. Understanding Monetary Realism does not make you into a spending liberal dove. What it does is explain how modern monetary systems work. It allows you to take your politics out of the equation to make Macro judgements of various currencies.

No I understand the ideas. But humans are not robots. They will make decisions that benefit their interests and they may not align with yours or even the entire good of everyone. In fact, they rarely ever do. Deficit spending economics provides a shield for big government spenders to hide behind in defense of their bad decisions.

...what MR tells us is that modern fiat monetary systems can only work when the following standards are met:

1) A currency is free floating (i.e. no pegs to other currencies or commodities)
2) A government is a currency issuer, not a currency user (US states and Euro countries are currency users)
3) A government owes no foreign-denominated debt.

And my own addition:

4) Governments never lie, politicians never use economic decisions to further their own careers, and that the easy money created doesn't flow out into a host of unintended consequences regardless of original intent.

Their economy improved dramatically once that happened. And now, they have another set of massive foreign-denominated debts to get out of…

I have friends who lived through Argentina's 2001 debacle. They get red-faced angry when people say the debt default fixed things. It is true that some numbers improved, but it wiped out a lot of life savings and moved many people from middle class to very poor almost overnight. Foreigners were able to go there and buy cheap goods, but for the person living in the situation it was not a good thing. When you can print money there is no natural limit in place to prevent politicians from making bad decisions to further their own agendas.

Further you grossly exaggerate how bad our government is at doing things.  We sent a friggin' guy to the moon in 1969 as part of a government program,

No I'm not exaggerating at all. Whatever they touch turns to lead most of the time. The Apollo program would never have happened were it not for private industry doing much of the design, production and implementation. The govt. did not build the spacesuits used (Playtex did), they did not build the Saturn V by themselves, it was done by Boeing and others. Etc.

Even in terms of humanitarian relief for its own citizens government stinks. When Hurricane Katrina struck Walmart had water and supplies to the area within 24 hours. FEMA however wouldn't let them into the affected area for some time as they managed things and the rest is, as we say, history.

which hasn't been done since, and we also built a nuke in 1945.  

Which is another point. Deficit spending allows government to grow exponentially without controls. It allows them to go war without facing immediate costs. It allows them to give high-end military hardware to local police militarizing them. It allows massive spying on citizens using the most advanced technology in the world (again, likely not invented by them). Deficit spending is a *threat* to freedom, not something to be welcomed. When government considers implementing a new spying program, bombing campaign, etc. I want them to say: "Well we can't afford that…" I don't want them to say: "Just print off some more debt and have the Fed buy it…"

the main reason demand is low is because our balance-sheets are horse$hit as consumers.

And how did the consumer balance sheets get so bad? Deficit spending and cheap credit.

So now you fix it by…deficit spending and cheap credit?

A few other points because there are other comments on this thread and I'd rather just answer here:

1) We have been deficit spending regardless of the gold standard for years. This pattern has been in place for almost 100 years but has accelerated greatly since 1971. The gold standard moderated the action until 1971, but since then it has provided virtually no control.

2) A huge assumption of MMT is that those in charge are always good actors, but history doesn't support that.

3) The US is not Japan. We have a large welfare class and they do not take kindly to having things taken from them. They can and will put that money into the economy so inflation can still be a problem with high unemployment. Comparing across cultures is a tremendously bad idea. Japanese views on savings, spending, society responsibilities, etc. are much different than Americans.

4) Banks also profit as they get zero interest money and make large profits on the spread in the current environment. They are not neutral in pushing for policies that can be a disaster long-term.

5) The 1970s saw bad inflation and high unemployment. The high unemployment doesn't create enough monetary demand argument already failed once. Why won't it again?

For the record, I stated in early 2008 that the housing collapse could be highly deflationary. So I get the arguments that de-leveraging is painful and not inflationary. But I will also state that I'm not so confident to say what will happen going forward with respect to the current policies. The situation could (and likely will) have unexpected consequences as they always do.

[MediumTex]

The 1970s saw bad inflation and high unemployment. The high unemployment doesn't create enough monetary demand argument already failed once. Why won't it again?

I would say that the key difference in the 1970s was that American households were not saturated with debt as they are today. 

In the 1970s, when new money came into the economy in the form of welfare, rising wages and other government spending, consumers spent the money, which set off an inflationary spiral.  If those same households had had underwater mortgages, home equity loans, student loans, and a pile of credit card debt they probably would have dedicated more of that new money to paying down debt, which would have dampened inflation a lot.

Inflation will come back, it's just a matter of when.  I just think that it might be a long time before we see it.

The key is to watch for rising wages.  No rising wages = no serious inflation.  Without rising wages people will simply run out of money to pay higher prices and the economy will slip into recession, which will place downward pressure on prices until supply and demand find a new equilibrium.

[craigr]

The key is to watch for rising wages.  No rising wages = no serious inflation.  Without rising wages people will simply run out of money to pay higher prices and the economy will slip into recession, which will place downward pressure on prices until supply and demand find a new equilibrium.

I question whether government assistance can't cause inflation with no rise in wages. Money is still being spent and with increases in assistance you have more bidders for products using money they were given.

In much the way that government assistance in helping people get cheap or no down-payment mortgages put more buyers in the market and pushed up housing prices for legitimate savers. For instance in 2007 if I was buying a house I would have been plenty upset to find out the guy bidding against me was using a zero-down HUD loan driving up the price. Effectively, using my own tax money against me forcing me to pay more.

[BearBones]

Now that we've gotten that out of the way, it should be clear that while MMTers and Monetary Realists recognize that there is no solvency issue for Japan or the United States, they also realize that a country cannot print beyond its own productive capacity. Doing so would be highly inflationary, and that would not be good.

So, let's be clear. Nobody is advocating massive levels of debt beyond a country's productive capacity. But, with unemployment above 8% and 1 in 7 Americans on food stamps, there is little risk of printing beyond our productive capacity right now.

In negating Bill Gross's statement in the original post, it would seem to me that some are, in fact, dismissing the link between massive levels of debt and a potential crisis.

From what you have said, it seems that much of the MMT argument depends on a delicate relationship between debt and production capacity, right? If so, this argument against the danger of escalating debt does not seem all that reassuring.

Finally, I still do not get the invariable relationship between lack of productive capacity and absence of inflation. Please explain. Even with unemployment of 8+%, if the government rains money upon the remaining 92%, can't this be inflationary? And if most of the large economies around the world are doing the same and we are all linked, can't this be inflationary?

[BearBones]

I would say that the key difference in the 1970s was that American households were not saturated with debt as they are today. 

But this assumes that all money coming into the economy is going to pay off debt, right? This is not invariably the case. If money goes toward construction of bridges and roads, manufacturing of new drones and smart bombs, more military personnel, more money for expensive medical procedures and pharmaceuticals, higher wages for teachers, more buyouts of bad mortgages, etc, how is this not inflationary?

[MediumTex]

I would say that the key difference in the 1970s was that American households were not saturated with debt as they are today. 

But this assumes that all money coming into the economy is going to pay off debt, right? This is not invariably the case. If money goes toward construction of bridges and roads, manufacturing of new drones and smart bombs, more military personnel, more money for expensive medical procedures and pharmaceuticals, higher wages for teachers, more buyouts of bad mortgages, etc, how is this not inflationary?

Because the deleveraging process sucks up a lot of that new money because these people have underwater mortgages, student loans, credit cards, etc. that must be serviced. 

When you have more debt than you can really afford, increases in wages often don't translate into increases in standard of living because much of any pay increase goes to servicing debt and replenishing the savings and investments that were hammered at the beginning of the financial crisis.

If people today suddenly began getting higher wages, I think a lot of the pay increases would be used to pay down debt and increase their savings.  If that's what happens to the new money, then I don't know what the catalyst for higher prices would be.

[Gumby]

The problem is that debt flows out and causes a ton of other problems. The recent housing debacle with cheap and easy credit is just one of many examples.

Agreed.

The MMT side assume a lot of altruistic motives in government. I don't.

Agreed.

People have imperfect knowledge, imperfect information and imperfect motives in how they make policy decisions.

No I understand the ideas. But humans are not robots. They will make decisions that benefit their interests and they may not align with yours or even the entire good of everyone. In fact, they rarely ever do. Deficit spending economics provides a shield for big government spenders to hide behind in defense of their bad decisions.

And my own addition:

4) Governments never lie, politicians never use economic decisions to further their own careers, and that the easy money created doesn't flow out into a host of unintended consequences regardless of original intent.

I think we can all agree that politicians can screw up any monetary system if they really want to. The whole point of Monetary Realism is just to understand the mechanisms of the fiat monetary system — not necessarily to approve of it.