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An MMTer Explains MMT In 320 Words

Submitted by Eric Peters, CIO of One River Asset Management

“Imagine Congress appropriates $1BN to refurbish Air Force One,” said Warren Mosler, pioneer of Modern Monetary Theory.

We were discussing the financial architecture that allows the Fed to create money. “The Department of Defense hires General Dynamics to upgrade the airplane. The US Treasury instructs the Fed to credit General Dynamic’s account at JP Morgan with +$1bln.

The Fed simultaneously debits the US Treasury account with -$1bln and the books are balanced.” Notice, the government did not need to collect taxes or issue bonds.

“The US Treasury basically now has a -$1bln overdraft at the Fed. There’s no practical limit to how high the US Treasury overdraft at the Fed could become, but politicians don’t want the Treasury balance to be negative, so the Treasury issues $1bln in bonds, and deposits those proceeds at the Fed to eliminate its -$1bln overdraft.”

The $1bln the Fed created is trapped in the banking system and finds its way to purchase the $1bln in bonds the Treasury issued to balance its Fed account.

“Even if General Dynamics chooses to move the $1bln into Euros, it will do so by instructing JP Morgan to buy Euros from Deutsche Bank, which also has a Fed account. The Fed will debit JP Morgan’s account by -$1bln and credit Deutsche Bank’s account by +$1bln. The ECB will debit Deutsche Bank’s Euro account by -$1bln and credit JP Morgan’s.”

The dollar’s exchange rate may fall, but that’s what Washington wants.

“People misunderstand debt and money. Government debt is simply money the government has spent that hasn’t yet been used to pay taxes. Holders of that debt prefer saving over consuming or they wouldn’t own bonds. At some point, these people may choose to spend more than they save, and if that sparks excess demand and inflation (in Warren’s experience, large inflations are caused by other factors), then that’s easily dealt with. The government simply raises taxes or cuts spending.”

Easy eh?

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