Why the Government Must Keep Running Deficits. Forever.

Imagine an economy that consists of two households, one firm, one bank, and one government.

The government issues $50 to each household (maybe they do some work for it), crediting their bank accounts and running a $100 deficit. Voila! There’s money!

Now one household works for the firm, creating $50 in value, goods. The firm gives the household $50 in equity — company stock — basically a promise to give them some amount of money in the future. (The firm posts the $50 in newly created value as an asset on the lefthand side of their balance sheet, and $50 as shareholder equity on the righthand side — a liability).

The household can’t use that equity to buy a pack of gum today, so they want to monetize it — sell it to someone else. There’s only one “someone” — the other household.

But what if the other household doesn’t want to buy it because they’ve only got $50 and want hold it for the future? (It’s the babysitting coop dilemma.)

This is why in a growing economy where extra value is being created through people’s efforts, the government has to run deficits — creating money by crediting people’s/firms’ accounts with newly “printed” dollars.

If people can’t convert that extra value they’ve created into general-purpose “credit” (dollars) that can be exchanged for a variety of goods, they can’t spend. Which 1) gives them notably less incentive to create the value in the first place, and 2) prevents them from continuing the buying/selling log-rolling exercise that is our economy.

You’ve got a lot of newly created value/goods, but nobody with money to buy them.

Imagine if the cumulative government deficits today — the stock of money that government has spent into existence — were at the same level it was in 1900. The economy would be completely inoperable, locked up in primitive barter arrangements for lack of general-purpose money.

This is why government debt is not never, has not ever been, cannot ever be, paid off.

Another way to think about this: money — created, provided, by government as a public good — is a means for us to save consumption for the future. (“Saving consumption” is a funny concept, but it’s what we do when we put dollars under a mattress.) The only other way to do so is to create consumable real assets that will last, including those that can be used to create more consumables in the future (themselves being consumed in the process). It’s pretty impractical for a household to save all their consumption in this way, for all sorts of physical, personal, and logistical reasons.

Cross-posted at Asymptosis.

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