1. Why Government Deficits are
not a problem
John Bradford, Ph.D.

2. ‘Taxes Drive Money’
Fundamentals
• Money is fundamentally a unit of accounting; a
unit of measuring credits and debts.
• This unit is determined by a government that
issues currency denominated in this unit (e.g. US
Dollars).
• Money is valuable because governments accept
only their own currency as a means of payment
for taxes (and fees and penalties, etc.)
• Money is accepted as a means of exchange
because people need money in order to pay
taxes.

3. How Money Circulates
Historical Illustration
OCCUPIED
Rome issues (spends) coins VILLAGE
to Roman soldiers occupying
a village. Rome then
imposes a tax on the
villagers, and the tax can
only be paid in Roman coins!
Now, the villagers will
provision the Roman soldiers
with food, clothing, shelter,
etc. in exchange for these
coins, so that they can use
them to pay taxes to Rome.
ROME

4. Explaining Public Deficits
• Normally, tax revenue will $10
be less than total
government spending:
TAXES < SPENDING
Government Public
• Why? Governments
cannot collect more
money than they have
created!
TAXES <= $10

5. Is ‘Public’ Debt a Problem?
• A government cannot collect in taxes more
money than it makes available: if all ‘debts’
were paid off, there would be no money left in
circulation!
TAXES < SPENDING
• Deficits are normal, and budget surpluses are
necessarily temporary.
• Unlike households, currency-issuing
governments have no budget constraints.

6. Two Views on ‘Money and Taxes’
Conventional View
• Taxes finance government spending.
Whatever revenue isn’t collected in taxes
must be borrowed by issuing government
IOU’s (i.e. bonds).
‘Taxes-Drive-Money’ View
(Lerner 1943; Wray 1998)
• Governments do not need the public’s money
in order to finance their spending! Instead,
the public needs money issued by
government in order to pay taxes.

7. Is ‘Public’ Debt a Problem?
Two Views on ‘Austerity’
Conventional View
• Persistent deficits should be avoided
• Austerity is the inevitable result of
‘too much’ borrowing and spending,
and its ‘remedy’!
• NO PAIN, NO GAIN
‘Modern Money’ View
• Persistent deficits are normal.
• Austerity is unnecessary and self-
imposed.
• ALL PAIN, NO GAIN!
Austerity protests in Greece

8. Public Money vs. Private Credit
Public (State) Money Private (Bank) Credit
Currency created by state via Private credit created by
“deficit” spending private firms as loans,
Collected (or ‘destroyed’) Collected (or ‘destroyed’)
through taxation. through repayment of loans.
“Debtors” = tax payers; Debtors = borrowers; whoever
whoever has to pay taxes. is originally given the money
Locus of Debt is flexible Locus of Debt is fixed

9. Public Money vs. Private Credit
Public (State) Money Private (Bank) Credit
Value is relatively stable, based Value is volatile, based solely
on governments ability to on the expected ability of
collect taxes borrowers to repay original
loan, plus interest
Facilitates indirect, Generalized Facilitates direct, Dyadic
Exchange Exchange
Counteracts inequality Amplifies inequality

10. Accounting Fundamentals
• In the aggregate, financial assets always equal
financial liabilities.
• In other words,
TOTAL DEBTS = TOTAL CREDITS;
TOTAL DEBITS = TOTAL CREDITS; or lastly,
TOTAL BORROWING = TOTAL LENDING.

11. Accounting Fundamentals
• WHY? One person’s debt (liability) is another
person’s credit (asset).
$100
Banker IOU “Bob”
$100
ASSETS LIABILITIES ASSETS LIABILITIES
Bob’s IOU $100 cash $100 cash $100 DEBT
worth $100 (loaned to Bob)

12. Accounting Fundamentals
ASSETS LIABILITIES AND NET WORTH
Financial Assets (FA) Financial Liabilities (FL)
Real Assets (RA) Net Worth (NW)
ASSETS = LIABILITIES
• “Net worth” is a ‘residual’ category: NW = FA + RA - FL
• TOTAL Net financial wealth = the sum of all financial
assets less the sum of all financial liabilities, which always
nets to ZERO. Why? Because total financial assets = total
financial liabilities.
• However, nonfinancial or REAL assets (i.e. material
wealth) DO NOT SUM TO ZERO- i.e. ARE NOT OFFSET BY
ANOTHER’S FINANCIAL LIABILITY.

13. Accounting Fundamentals
ASSETS LIABILITIES AND NET WORTH
Financial Assets (FA) Financial Liabilities (FL)
Real Assets (RA) Net Worth (NW)
WHY DOES THIS MATTER?
• If total financial assets = total financial liabilities,
then the financial liability (DEBT) of government
must EQUAL the financial assets (SAVINGS) of
the non-governmental private sector!
• Summary: government debt = private savings!

14. Deficit Spending by the
Government => Net Saving in the
Private Sector
Government Net Liability = Private Net Assets

15. Accounting Fundamentals
• Here is what happens when $10 of interest is applied:
Banker’s assets increase $10, and “Bob’s” liabilities
increase $10. This is a net transfer of wealth of $10.
$100
Banker IOU “Bob”
$110
ASSETS LIABILITIES ASSETS LIABILITIES
Bob’s IOU $100 cash $100 cash $110 DEBT
worth $110 (loaned to Bob)

16. Accounting Fundamentals
• The application of interest makes the financial assets
of the banker and the financial liability of the
borrower GROW EXPONENTIALLY.
• Assets still equal Liabilities in the aggregate, but the
net financial wealth of the bank increases by the
same amount as the net financial wealth of the
borrower decreases.
Banker Net transfer “Bob”
of $10
ASSETS
LIABILITIES
Bob’s IOU
$110 DEBT
worth $110

17. Accounting Fundamentals
• Unlike governments and unlike banks, “Bob” can only
acquire the money to repay his liability from
somewhere else. From where?
• In the aggregate, all new money comes either from
the government (in the form of deficit spending) or
from banks (in the form of private loans’).
Banker Net transfer “Bob”
of $10
ASSETS
LIABILITIES
Bob’s IOU
$110 DEBT
worth $110

18. Linking Inequality and Debt
• New money (i.e. credit) is primarily loaned into
existence by private banks.
• Because of the application of interest, total debt
will always exceed the size of the existing money
supply to repay it.
(amount that
can be used to
pay debts)
< (TOTAL DEBT)

19. Linking Inequality and Debt
1. The current system functions like a
pyramid scheme: it is built on the
expectation of infinite,
exponential growth!
2. This is impossible, because
aggregate financial wealth always
nets to zero. (assets=liabilities).
3. Interest payments generally do
not recycle back into the general
population as earned income.

20. Linking Inequality and Debt
• COMPOUNDING INTEREST  INEQUALITY
• Compounding interest means that creditors
exponentially expand their claims on wealth.

21. Linking Inequality and Debt
• The debt pyramid is like a game of musical
chairs: in the aggregate, the total liability
of the borrowers can only be paid off
(cancelled) with the creation of new money,
• New (net) money comes from only two
possible sources:
1. Private banks, which will lend the money, thus
reinforcing the debt cycle, or
2. Government, which can deficit spend, i.e.
spend more than it collects in taxes, thus
adding net reserves to the system.

22. Money Creation in the U.S.
(standard view)
IOUs (Bonds)
Money as Debt
Federal Reserve Federal Reserve
prints money, from
US Treasury
nothing, and pays
Treasury.
Whatever bonds the other banks do not purchase, the Federal Reserve purchases.
The Federal Reserve can exercise a power that the Treasury cannot: it can simply
print the money from nothing! But it creates this money as public debt, i.e. the
government’s liability.

23. Money Creation in the U.S.
• In the US, the Federal Reserve
prints “Federal Reserve notes”
which function as legal tender
or fiat money.
• This money essentially
represents debt to the Fed, (i.e.
the government’s liability).
• US coins, however, are
produced by the US Treasury,
and do not represent debt to
private banks.

24. The United States does not “borrow”
Dollars from China
• The United States
cannot “borrow” dollars
from China because $USDollars
China does not produce
dollars!
• Instead, China trades
Chinese Goods
their goods in exchange
for US dollars.

25. The United States does not “borrow”
Dollars from China
• Next, China trades these
dollars for interest-
bearing IOU’s (bonds)
called Treasuries. IOU Dollars
• Treasuries are just (Treasuries)
promises to pay back
more dollars in the
future.
• This is basically like $US Dollars
moving one’s cash from a
checking account to a
savings account, that
earns interest.

26. The United States does not “borrow”
Dollars from China
• The bottom line: THE US
GOVERNMENT NEVER
NEEDS TO ‘BORROW’ THE
CURRENCY (MONEY) IOU Dollars
(Treasuries)
THAT IT CREATES IN THE
FIRST PLACE! (whether
from China, or anyone
else) $US Dollars
• Any currency-issuing
government can ‘afford’
anything sold in that
currency.

27. Holders of US Treasury Securities
2010
Other
2%
Here is some actual data Mutual Funds
on who holds US Pension 7%
Individuals
government debt. Funds
12% Banking
9%
More than half of the Institutions
public debt in the US is 3%
owned within the US. Insurance
Companies
Instead of borrowing the Federal Reserve
3%
funds, the Treasury could 11%
have 1. raised the money Foreign
through taxation, or 2. 47%
printed the money
itself, debt-free. State and Local
Govts
6%

28. The countries that own the 47% of foreign-
owned Treasuries
Major Foreign Holders of Treasury Securities 2011
Other
23%
China
Switzerland 26%
2%
Hong Kong
3% Russia
3%
Taiwan Japan
Carib 20%
4%
Bnkng Ctrs
4% Brazil United
4% Oil Exporters Kingdom
5% 6%