In our system, spending is determined in the political process at the federal level. We elect people, they go into government, and they determine spending. They can decide to spend more than tax receipts. The government is the only entity that can create our physical currency (most money in the system is created by private banks, but that is another issue all together). The Fed with dollars, the Treasury with coins, although the Treasury can also create, and has in the past created, paper money. So, does the government need to borrow a currency that only it can create? Does that make an ounce of logical sense? Does JP Morgan create US dollars, or the Fed? Does Wells Fargo create coins? No, the Treasury does. So, does the federal government need to borrow a currency it only creates? Of course not.
The spending is determined independent of tax receipts, and the spending occurs before taxes are paid and bonds are issued. In fact, if we didn’t know the size of the deficits first, we wouldn’t know how many bonds to issue thereafter, and the spending itself is used to buy those bonds and to pay taxes.
Think of it this way, if we formed a government today, this second, could the state issue bonds or ask you to pay taxes? Of course not, because there is no money in the economy to buy those bonds and to pay those taxes. The state needs to first spend that money before you can pay taxes and buy those bonds. That is the case now. Huge implications, as it becomes clear that issuing bonds thereafter is a choice and that the federal government isn’t really borrowing money in the way we think it is. It isn’t tax and spend, it is spend and then tax. When there is a deficit, the Federal Reserve Act requires the federal government to issue bonds, that is why we do it. We don’t have to issue bonds; it is a way we have chosen to manage the money supply. Many MMT economists like Randal Wray want the federal government to stop issuing bonds all together, and to manage the money supply basically through taxes. But what is called public debt is actually the amount of money that the federal government has created since the early 19th century that remains out there in the economy. So, a part of the national debt can be traced back to the 19th century. It does get rolled over, and the state could pay it off if it wanted to, but I don’t see any logical reason why it would or why people would want to trade in US bonds, which accrue interest and are the safest investments in the world, for something that doesn’t like cash.
Local and state governments are constrained in ways that the federal government isn’t, because the state of California cannot create US dollars and coins like the federal government can, and neither can the city of Los Angeles. And there are obviously limits to how much money the federal government can create. If too much money is created and not enough stuff is being produced to match that, then high amounts of inflation will likely follow. The issue is how much stuff can be produced to match the increase in dollars, whether we are at full employment and full productive capacity, which we are not.
“BUT-- what happens when other nations, who were tied to the U.S. dollar, decide that they are tired of America’s rules , and these people form their own money system minus the dollar?”
Well, the British Pound used to be what the dollar is now. The dollar took over as the dominant currency. Did the British Pound thereafter collapse in value? No, it did require the Brits to wind their empire down, and to make changes, but that is inevitable anyway as is the changes coming for us. The Euro isn’t the world’s reserve currency, but it is still a powerful currency and is still accepted basically everywhere. We will still have things people want to buy (goods, resources, land, buildings, all that), and so there will always be some demand for the US dollar in the same way people still demand Pounds, Euros and RMB, even though they aren’t THE dominant currencies. And the value of dollars will also be maintained as well in part by the fact that we need to obtain dollars to pay taxes. There are other things to consider too, like the role of the Fed in being the buyer of last resort of US bonds on the secondary market, and it being required by law to work with the Treasury to make sure there are no issues, but I won’t go on. Read Stephanie Kelton, Sanders’ old economic adviser. She’s an expert on this stuff.
