In the midst of the Great Depression, John Maynard Keynes set out in his book, The General Theory of Employment, Interest and Money, the idea — radical at the time — that a struggling economy benefits when governments borrow and spend.
Of importance was the idea that spending be financed from borrowed funds in addition to tax receipts. This is to replace the savings leakages of others back into the spending stream. In turn, that government spending generates income to those who sold the goods to the government, and that newly generated income results in a chain of additional spending and income known as the multiplier.
This case for debt-financed spending, which Keynes euphemistically called “loan expenditures,” caused otherwise circumspect governments to do the unthinkable: to incur mountains of debt.
Not that debt-induced spending didn’t work to create a multiplier; we had the WWII era to prove that. But when debt accumulates from past stimulus, the spending benefits are ephemeral and spread out in a global economy, and the future reckoning is additional taxes that must be collected to cover at least the interest carry. Today, this is called “austerity,” and it’s playing havoc in Europe and Japan.
Beyond fiscal policy, Keynes also suggested that during economic slumps, the monetary authority provide easier and cheaper financing options to entice private “loan expenditures” through the banking system.
All in all, this was what was thought at the time among many in the governing and academic classes to be the enlightened notion that governments could stimulate an economy through monetary and fiscal policy.
Over the years, the distinction between the two has become blurred. Government deficit financing has, in the years of the Fed’s QE, been largely paid for by the central bank rather than by the savings of others.
But it is all in the spirit of The General Theory in which Keynes argues (p. 129):
“If the Treasury were to fill old bottles with bank notes, bury them at suitable depths in disused coal mines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again…, there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is. It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing.”
With this logic, governments resorted to enacting fiscal and monetary policy with each subsequent recession with little-to-no thought by the true believers that there are costs of running both the government and private debt meter.
And worse, in an open, global economy, the deficit-strapped economies undermine other trading partners as well when global purchasing power goes soft. That interaction now catches the US in the web of European and Japanese debt.
And there are also costs of too much money to entice “loan expenditures” from the private sector that the Fed is now belatedly thinking about.
Ceaseless monetary expansion in Keynes’ terms leads to the collapse of “capital wealth.” And the Fed is just belatedly taking asset-price bubbles under advisement, but is too late. The trap has been set, and they set it.
But that consideration didn’t stop the Japanese who, this past week, again resorted to an even larger QE, which leads one to the conclusion that desperate governments do desperate things.
Still, there is an inner logic to it. The Bank of Japan is again purchasing mountains of government debt that they themselves have demonstrated has but little effect on the economy. However, it does defease the government debt, which causes it to disappear from the market and from view in the vault of the central banks that dutifully reimburse the government the interest paid as owners of said debt.
All in all, if the governments stuck to Keynes’ notion of burying old bottles filled with bank notes (cash), we’d be less exposed to excess debt that needs excess future taxes and central bank-financed buying power to support the economy as extra taxes come due.
A more constructive alternative would be if Keynes’ buried money were newly printed central bank notes to be taken to the shopping malls and spent by the money-miners. It would be interest- and debt-free and would be funneled to goods markets instead of financial markets to create “capital wealth” without a risk of financial meltdown.
We are approaching a watershed moment when even governments are beginning to understand the game is up. This past week, the UK announced that it will (retire) some perpetuities (debt without maturity) originally issued to finance Word War I, not by a cash pay-off but by a refinancing. No, government debt doesn’t go away. All it does is accumulate, and that particular debt tranche has cost more than five times in interest what the original debt cost in the first place — and that’s just to date.
“Loan-expenditure” policies have come to a dead end.
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