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Municipal Debt Markets and the COVID-19 Pandemic

Published by Anonymous (not verified) on Tue, 30/06/2020 - 12:02am in

Marco Cipriani, Andrew Haughwout, Ben Hyman, Anna Kovner, Gabriele La Spada, Matthew Lieber, and Shawn Nee

In March, with the outbreak of the COVID-19 pandemic in the United States, the market for municipal securities was severely stressed: mutual fund redemptions sparked unprecedented selling of municipal securities, yields increased sharply, and issuance dried up. In this post, we describe the evolution of municipal bond market conditions since the onset of the COVID-19 crisis. We show that conditions in municipal markets have improved significantly, in part a result of the announcement and implementation of several Federal Reserve facilities. Yields have decreased substantially, mutual funds have received significant inflows, and issuance has rebounded. These improvements in municipal market conditions help ensure that state and local governments have better access to funding for critical capital investments.

Many Federal Reserve Facilities Include Municipal Securities

On March 23, partly as a response to the strains in the municipal markets, the Federal Reserve extended asset eligibility for the Money Market Mutual Fund Liquidity Facility (MMLF) and for the Commercial Paper Funding Facility (CPFF) to include certain short-term municipal securities. Then, on April 9, the Federal Reserve announced the establishment of the Municipal Liquidity Facility (MLF), which purchases short-term notes directly from municipal authorities. The MLF was designed not only to address the liquidity needs of municipal authorities but also with the explicit goal of supporting market functioning. In early June, Illinois became the first MLF borrower when it sold $1.2 billion of short term notes to the facility at a rate more than 1 percentage point below the rate at which it was previously able to access private markets in May. In addition, the Coronavirus Relief Fund, established through the CARES Act, provided $150 billion in federal fiscal support for state and local governments.

Secondary Market Conditions Have Stabilized

The chart below shows the yields on 30-year municipal bonds by credit rating. While Federal Reserve facilities focus on shorter-duration municipal securities, the 30-year yield is a common benchmark. Across all credit ratings, yields spiked up in mid-March: between March 2 and March 23, the yield on AAA securities jumped 1.8 percentage points.

Municipal Debt Markets and the COVID-19 Pandemic

For AAA and AA securities, yields have returned to their pre-pandemic levels and are now near all-time lows. Yields on lower-rated securities (BBB and to a lesser extent A) are still somewhat higher than pre-pandemic levels, though they have been steadily declining. As a result, the spread between lower-rated (A and BBB) and higher-rated (AAA and AA) municipal securities is still higher than it was in the first two months of the year, suggesting that investors have become more discriminating.

The path of yields shows the combined effects of two policy actions: changes in the level of interest rates and the impact of Federal Reserve facilities and other government interventions. To control for changes in the level of interest rates, we show the ratios of the yields on 10- and 30-year AAA muni bonds over the yields on Treasury bonds with the same tenor (see chart below). Until March 2020, these ratios hovered below 100 percent, which is typical as most municipal securities are tax-exempt. The yield ratios spiked in March, reaching peaks of 365 percent and 252 percent on March 23, reflecting the avalanche of selling by mutual funds triggered by sell-offs of risky assets in response to mounting COVID-19 concerns.

Municipal Debt Markets and the COVID-19 Pandemic

Yield ratios have now returned to close to their historical norms. Changes in secondary market yields are important because prices in the primary market are closely related to them. Facilities that support liquidity in money markets

(MMLF and CPFF) and the availability of a backstop facility (MLF) have all contributed to the improvements in market functioning, as has the general improvement in risk sentiment. However, it is hard to parse the effects that each facility has had in bringing about the improvement in market functioning, especially since changes in the terms of the facilities were also made after they were announced.

It is important to note, however, that yield ratios remain above 100 percent, reflecting both the historically low level of Treasury yields and the deterioration of municipal borrowers’ financial condition since the beginning of the year.

Outflows from Municipal Bond Mutual Funds Have Reversed

Mutual fund holdings of municipal securities account for almost a third of municipal securities outstanding; mutual funds are the largest buyers of long-dated municipal paper, which constitutes more than half of the market. Importantly, among the owners of municipal bonds, investors in mutual funds are the most sensitive to changes in market conditions. The chart below shows inflows (positive bars) and outflows (negative bars) for municipal bond mutual funds since January 2019. In the first two months of 2020, mutual funds investing in municipal securities received inflows totaling $22 billion. This continued a trend of record inflows experienced throughout 2019, when total inflows leapt to $90 billion, more than the combined inflows from the preceding four years. Inflows reversed suddenly in March, with municipal bond mutual funds experiencing outflows of $43 billion.

Municipal Debt Markets and the COVID-19 Pandemic

When funds experience outflows, fund managers must sell securities in order to have enough liquidity to meet redemptions. As a result, there was almost no demand for new issuance at the peak of the market disruption.
Outflows slowed down markedly in April, and municipal bond mutual funds have received net inflows each week since the first week of May. The behavior of municipal bond mutual funds is similar to that of municipal money market funds, which saw heavy redemptions in March that subsided after the expansion of the MMLF to include certain short-term municipal securities.

Issuance of Municipal Securities Has Picked Up

The chart below shows weekly issuance of municipal securities in 2020 (solid line) and the range of weekly issuance for the same weeks between 2014 and 2019 (shaded area). Ordinarily, municipal issuance builds through March before taxes are due in April. In 2020, issuance began close to the top of its historical range but dropped precipitously by the end of March, remaining low through much of April.

Municipal Debt Markets and the COVID-19 Pandemic

Issuance picked up again in May and June as financial market conditions improved; indeed, by the fourth week of May, cumulative issuance for the year to date exceeded (and still exceeds) its 2014-19 average. However, as the table below shows, although issuance of AAA and AA securities had recovered by May, issuance of securities rated A and below (a small fraction of overall issuance) was still below the 2014-19 average.

Municipal Debt Markets and the COVID-19 Pandemic

The pickup in issuance does not necessarily mean that spending by state and local authorities is at the socially efficient level. Unlike corporations, municipal governments typically operate under balanced budget requirements, which constrain or even prohibit the financing of deficits across fiscal years. Debt financing is almost exclusively reserved for capital infrastructure investments. Thus, improvements in muni debt markets are not necessarily sufficient to induce willingness to spend at the local level.

Historically, state and local governments respond to recessions by drawing down rainy day reserves, cutting expenses, and temporarily raising revenues, including taxes, rather than borrowing. While collectively these steps are contractionary from a macroeconomic perspective, individually they reflect sound fiscal policies and are one of the principal reasons for the very high credit quality of the municipal sector.

Recognizing these fiscal constraints, the federal government often responds with significant fiscal support for state and local governments, as Congress has previously done during the current crisis. Most state and local governments are currently developing their 2021 budgets with the expectation of additional federal fiscal support that would limit the extent of budgetary retrenchment and deficit borrowing.

Summing Up

Both the primary and secondary markets for municipal securities underwent considerable stress during the early stages of the COVID-19 pandemic in the United States. Market conditions for municipal securities have improved significantly since then: yields for most issuers have receded to below pre-pandemic levels, outflows from municipal bond mutual funds have turned into inflows, and issuance has picked up. However, conditions remain strained relative to the start of the year, especially given the uncertainty about the path of the COVID-19 pandemic, its impact on economic recovery, and the degree of fiscal support from the federal government following the significant revenue losses experienced by state and local governments. Remaining market strains are concentrated in the riskiest segments of the municipal debt market.

Marco Cipriani

Marco Cipriani is an assistant vice president in the Federal Reserve Bank of New York’s Research and Statistics Group.

Andrew Haughwout

Andrew Haughwout
is a senior vice president in the Bank’s Research and Statistics Group.

Ben Hyman

Ben Hyman is an economist in the Bank’s Research and Statistics Group.

Anna Kovner

Anna Kovner
is a vice president in the Bank’s Research and Statistics Group.

Gabriele La Spada

Gabriele La Spada is a senior economist in the Bank’s Research and Statistics Group.

Matthew Lieber

Matthew Lieber is a vice president in the Bank’s Markets Group.

Shawn Nee

Shawn Nee is a senior analyst in the Bank’s Markets Group.

How to cite this post:

Marco Cipriani, Andrew Haughwout, Ben Hyman, Anna Kovner, Gabriele La Spada, Matthew Lieber, and Shawn Nee, “Municipal Debt Markets and the COVID-19 Pandemic,” Federal Reserve Bank of New York Liberty Street Economics, June 29, 2020,


The views expressed in this post are those of the authors and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System. Any errors or omissions are the responsibility of the authors.

Fiscal Deficit and Public Debt too Large?

Published by Anonymous (not verified) on Thu, 25/06/2020 - 4:20am in

Funding Expenditures

As Britain enters a severe recession that will lead to large fiscal deficits and growing public debt, a question presents itself – when are deficits and debt too large?  The question has an apparently simple answer.  The fiscal deficit is too large when it results in the government finding it cannot sustain its servicing (interest charges plus repayment of principle).  That answer opens a further question, when is debt service unsustainable?

This question begins with the recent arguments that if governments have control of national currencies — sometimes called sovereign currencies — they can fund their expenditures through money creation.  This view derives from the argument that taxes do not directly fund spending.  This approach to public expenditure has limited applicability.  While possession of a national currency provides the necessary condition for governments to auto-finance their expenditures, it is not a sufficient condition as a moment’s reflection shows.

The International Monetary Fund has 189 members, 145 of which have national currencies.  Of those 145 no more than a dozen governments could safely and effectively fund their expenditures by money creation.  The ability to do so requires that the currency be safe from speculation against the exchange rate.  That requires either that the national currency serve as an international medium of exchange (reserve currency) or that the government possesses substantial foreign exchange reserves.  Both serve as protection against exchange rate speculation. 

Inspecting the Special Case

Among large countries only the United States and to a much less extent the United Kingdom have reserve currencies.  The Chinese and Japanese governments represent hybrid cases of partial reserve currencies, due to their large trade volumes and substantial foreign exchange reserves.  The Chinese government holds the world’s largest stock of reserves with Japan second, $3.1 and 1.4 trillion, respectively.  No other government holds as much as a trillion. 

A few governments of medium-sized and small countries possess reserves sufficient to protect against speculation, Norway, Saudi Arabia and Switzerland are among the few.  As I pointed out in my recent book, The Debt Delusion, the principle that governments with national currencies can borrow from themselves has such limited applicability that it does not involve theory.  Rather, it involves an empirical relationship of considerable importance but a special case. 

The vast majority of governments would invite fiscal disaster by borrowing from themselves.  Because of the structural characteristics of developing economies monetization of borrowing via selling bonds to the central bank or creation of credit lines in the central bank would provoke excess demand and inflation leading to exchange rate depreciation.  For that reason the vast majority of governments with national currencies borrow in financial markets, nationally and internationally.

Even for the handful of special cases a caveat applies, the sustainability of the debt service.  Further analytical discussion requires that we abandon generality and go directly to specific cases.  The British government can and has engaged in considerable deficit monetization because of two specific characteristics of the economy.  First, the large financial sector encourages capital inflow that weakens the destabilizing effect of exchange rate speculation.  Second, the lingering function of the pound as a currency of international exchange fosters holding of sterling as a reserve by many governments.

Even in the case of Britain, the sustainability of debt service requires the continuation of low interest rates on public bonds, now 0.5% for two year gilts, and a long maturity structure of UK bonds.  The latter at 15.4 years is the longest among OECD countries, all of which have an average of less than ten except for Britain.  The Debt Management Office in the Treasury maintains the stability provided by long maturity borrowing. 

However, interest rates at the present low level are not sustainable.  The British government can avoid speculation that would elevate interest rates because the Bank of England sets rates.  Public bonds serve as a major element in private pension funds, for wealthy and also for the middle class.  If interest rates remained permanently low, that would require a substantial restructuring of pension funds and private portfolios in general.

As a policy rule, the Bank of England should aim to sustain gilt rates in the long term near the economy’s sustainable expansion rate, about 2.5%.  Public debt service is manageable if it declines or maintains a steady share of public spending.  Calculating whether debt service is sustainable involves several key numbers: 1) the level of debt, 2) average interest rate on the debt, 3) fiscal deficit (which adds to the debt), 4) the size and growth of public expenditure, and 5) expansion rate of the economy.

As guidelines we set the economy’s expansion equal to the target gilt rate (2.5%) and set a guideline for public expenditure at 40% of GDP, the share for much of the post-WWII years.  Sustainability of public debt service then depends on two numbers, the fiscal deficit and the initial size of the public debt.  Should the covid-19 depression result in a debt to GDP ratio well over 100% and fiscal deficits to GDP in double figures, debt service sustainability could become a concern.


In principle governments with national currencies can fund expenditures through money creation.  In practice very few should do so, one of which is the United Kingdom.  We have an empirical possibility to consider, not a theoretical generalization.  At the beginning of 2020 the possibility of the British government incurring an unsustainable debt or deficit remained remote.  The covid-19 economic depression changes that.

Economic recovery will occur from an initial condition with a quite large public debt to GDP and double digit deficits.  When that recovery brings interest rates back to their historically typical level debt sustainability could become a concern.  This does not imply restraining expenditure but quite the contrary.  As shown when George Osborne was Chancellor, budget cuts reduce the Treasury’s tax take by slowing the growth of the economy.  Sustained recovery will require continued management of the maturity the debt and achieving a steady recovery, unlike the near stagnation during 2010-2020 abortive recovery.

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The post Fiscal Deficit and Public Debt too Large? appeared first on The Progressive Economy Forum.

Britain was not "nearly bust" in March

Published by Anonymous (not verified) on Wed, 24/06/2020 - 2:49am in

"Britain nearly went bust in March, says Bank of England", reads a headline in the Guardian. In similar vein, the Telegraph's Business section reports "UK finances were close to collapse, says Governor":Eh, what? The Governor of the Bank of England says the UK nearly turned into Venezuela? Well, that's what the Telegraph seems to think: 

The Bank of England was forced to save the Government from potential financial collapse as markets seized up at the height of the coronavirus crisis, Governor Andrew Bailey has said. In his most explicit comments yet on the country's precarious position in mid-March, Mr Bailey said 'serious disorder' broke out after panicking investors sold UK government bonds in a desperate hunt for cash. It left Britain at risk of failing to auction off the gilts needed to fund crucial spending - and Threadneedle Street had to pump £200bn into markets to restore a semblance of order.

Reading this, you would think that the UK government's emergency gilt issues had triggered a sterling market meltdown, wouldn't you? If this is indeed what happened, then the Bank of England has strayed far beyond its mandate and compromised its independence. Why on earth the Governor would voluntarily admit this surely requires some explanation. After all, if it is true, it could cost him his job. The source for the Telegraph's extraordinary claim is this 51-minute podcast from Sky News, in which Sky's economics editor Ed Conway and former Chancellor Sajid Javid grill the Governor on his handling of monetary policy during the coronavirus crisis. The particular part of the interview that has raised eyebrows is in this clip, which I have transcribed here:

Bailey: We basically had a pretty near meltdown of some of the core financial markets….I got to Wednesday afternoon, and the markets team came down here, and you know it’s not good when they turn up en masse, and you know it’s not good when they say “we’ve got to talk”, and it wasn’t good. We were in a state of borderline disorderly, I mean it was disorderly in the sense that when you looked at the volatility in what was core markets, I mean core exchange rates, core government bond markets, we were seeing things that were pretty unprecedented certainly in recent times, and we were facing serious disorder.

Conway: How scary was that? What would have happened if the Bank hadn’t stepped in?

Bailey: “Oh I think the prospects would have been very bad. We would have had a situation in which in the worst element the Government would have struggled to fund itself in the short run”. 

So no, the market meltdown was not triggered by high government spending. The market meltdown was because of investors panicking about Covid. It did, however, threaten to cause a government debt crisis.

Or - did it? Government struggling to fund itself "in the short run" simply means that it might have needed to pay out money before it could raise it. Normally it would cover short-term cash needs by issuing Treasury bills, which are short-dated, highly liquid bonds with very low interest rates. But when markets are malfunctioning, it can't do this. And high-interest gilts or pandemic bonds would take time to issue. So it could potentially find itself short of ready cash for urgent spending. However, as I have explained before, not being able to raise immediate funds for an urgent purchase is not insolvency, it is illiquidity. Relieving temporary illiquidity is what central banks do, and have done since the time of Bagehot. Historically they have done so not only for banks, but also for governments. And in the UK, the Bank of England still bears this responsibliity. The Ways and Means overdraft (which was extended in April) is the living evidence of the Bank of England's role as liquidity provider of last resort for the UK Government. But it is simply a working capital overdraft, such as any solvent business would have. Using this overdraft in no way implies that the Government is "insolvent", "bust", "bankrupt" or any of the other inflammatory headlines that journalists like to use. And nor does it mean the Bank of England is financing government deficit spending on anything other than a very short-term basis. It simply smooths out cash flow. Conway's assertion that the Government was "within a whisker of insolvency" is total nonsense, as is the Guardian's claim that "Britain nearly went bust in March". The Government was not shut out of markets long-term, as an insolvent sovereign would be. It had short-term cash flow problems solely because markets were malfunctioning.  Indeed, in another part of the interview Bailey said exactly this (my emphasis):

Conway: At the time you were nervous about government not being able to finance itself. 

Bailey: Yes, because of market instability.

Bailey went on to explain that the reason why the Bank intervened was not because the Government was having funding difficulties, but because market instability was driving up interest rates across the entire economy, and indeed across the whole world:

How would this have played out if we hadn’t taken the action that we and other central banks took? I think you would have seen a risk premium enter into interest rates, I think markets would have priced in a risk premium, and it could have been quite substantial given the degree of instability we were seeing. That would have raised the effective borrowing cost throughout the economy. In terms of the Bank of England's objectives, that would have made it harder for us to achieve our objectives, both in terms of inflation and in terms of economic stability.

The market meltdown was weakening central banks' hold on interest rates. They had to act, not to protect government finances but to prevent monetary conditions from tightening sharply, potentially triggering a dangerous debt deflationary spiral. The first responsibility of central banks in this crisis has been to prevent an exogenous shock to the real economy from triggering a financial crisis that would amplify the shock and significantly deepen the inevitable recession. That's what the exceptional interventions by central banks, including the Bank of England, since March have been all about. 
Bailey observed that although the UK Government was the largest borrower in the sterling market, it was far from the only one. Big corporations were borrowing enormous amounts, both in the market and from banks. Interest rates were rising on their bonds as well as government bonds. So the fact that the Government was the largest borrower was "actually largely irrelevant to that argument about a risk premium and an increase in the effective rate of interest."Bailey said that the £200bn of QE announced by the Bank of England the day after his crisis meeting with the markets team was to provide emergency liquidity to the whole market.  By injecting very large amounts of liquidity into the market, the Bank of England aimed to slake investors' thirst for cash and stop the fire sales that were driving up interest rates. And it succeeded. As a by-product of this action, the UK Government regained access to short-term market funding. But Bailey insists that ensuring the Government could fund itself was not the primary target. Regaining control of interest rates was. 
The market meltdown in March also affected banks. It's a measure of how far we have come since 2008 that Conway & Co made nothing of the fact that the Bank of England had to provide emergency liquidity support to banks. Keeping banks afloat when markets are melting down is all in a day's work for a central bank, these days. Nothing to look at at all. But if a central bank provides emergency liquidity support to a government struggling to raise short-term cash when markets are melting down, that means the government is bust, the central bank is captive and the country is Venezuela? How utterly absurd. 
I found the interviewers' constant focus on government financing a serious distraction from what was an important story about the Bank's vital responsibility for ensuring the smooth operation of financial markets. When financial markets melt down as they did in 2008, the whole world suffers. Central banks saw the same thing happening again in March 2020, and acted to stop it. And their action was extremely effective. It seemed to me that this was the story Bailey really wanted to tell, but the interviewers were intent on pushing him towards the issue of monetary financing and the Bank's independence. Sajid Javid, in particular, seemed to want Bailey to paint the Chancellor's handling of the crisis as irresponsible and profligate. Which genius at Sky News thought it was a good idea for the Chancellor who was forced out of his job without ever producing a Budget to discuss the performance of his successor with the Governor of the Bank of England?
Finally, it is extremely unfortunate that none of the media reports highlighted Bailey's strong endorsement of the Government's exceptional measures to support people through this crisis:

It's entirely necessary that the state has to step in at this point. In a shock of this nature, you can't leave it to individual citizens to find their way through it, "well, good luck" sort of thing. The state has to assert its role at this point, which it did. It wasn't easy, but it did it. 

Fiscal policy is pre-eminent. The Bank of England's job is to ensure the smooth functioning of markets and keep the economy as stable as possible so that the Government can support people through this crisis. And that is what it is doing - successfully. This, not "Britain nearly went bust", is what should be on the front page of every newspaper. 
Related reading:
Pandemic economics and the role of central banksThe End of Britain?

David Hulchanski class discussion

Published by Anonymous (not verified) on Mon, 22/06/2020 - 7:45am in

I recently participated in a panel discussion in David Hulchanski’s graduate-level social housing and homelessness course at the University of Toronto.

Points raised in the blog post include the fact that all English-speaking countries of the OECD have relatively low levels of public social spending, relatively low levels of taxation, and serious affordable housing challenges.

The link to the full blog post is here.

David Hulchanski class discussion

Published by Anonymous (not verified) on Mon, 22/06/2020 - 7:45am in

I recently participated in a panel discussion in David Hulchanski’s graduate-level social housing and homelessness course at the University of Toronto.

Points raised in the blog post include the fact that all English-speaking countries of the OECD have relatively low levels of public social spending, relatively low levels of taxation, and serious affordable housing challenges.

The link to the full blog post is here.

Michał Kalecki, From 1932, On Coordinated Fiscal Expansion

Published by Anonymous (not verified) on Wed, 17/06/2020 - 5:20am in

I came across this 1932 article by Michal Kalecki, Inflation And War, in which he talked of a coordinated fiscal expansion (although he was not optimistic that politicians might do it)!

He says:

What indeed could change the situation is fiscal inflation on large scale, for instance, by the government obtaining large credits from the central bank and spending them on massive public works of one sort or another. In this case the money no doubt would be spent and this would result in increased employment (combined with an overall reduction in wage rates). However, even such an intervention could be effective only if it were undertaken in a closed economy, e.g. in the capitalist system as a whole, embracing the whole world, where there is one exchange only and no tariff barriers. If fiscal inflation is carried out on a broader scale in one country alone it must cause disturbances in the rate of exchange. A rise in local output requires increased supplies of foreign raw materials and imports as well. At the same time, together with employment domestic prices rise which restricts exports. Consequently, the balance of payments deteriorates, an outflow of gold and foreign exchange follows, and the exchange rate falls.

In general, these processes will end earlier because in expectation of their development foreign capital will withdraw and local capitalists will purchase foreign exchange thus accelerating devaluation. This, in turn, will distort the fiscal inflation process because of rise in prices of foreign raw materials will add to a general price rise until the symptoms of hyperinflation, already known from our experience, appear. Therefore, a necessary condition for fiscal inflation to be effective is an international agreement of the capitalist powers, which is, of course, totally utopian. Thus, imperialism, which is an unavoidable phase in the development of capitalism, makes the ‘inflationary’ way of mitigating the crisis unavailable.

The article in available in his Collected Works, Volume VI, pages 175-179 and was originally written in Polish.

To Fight The IMF’s Dire Prediction We Need More Government Debt – 10 daily

Published by Anonymous (not verified) on Thu, 04/06/2020 - 2:29pm in

By Warwick Smith

This article was first published on April 15 2020 at 10daily, which has since shut down. I’m reproducing it here now partly to keep a record in case the web site ceases to exist.

Yesterday, the International Monetary Fund (IMF) released the latest World Economic Outlook, in which it predicted Australia’s economy would shrink 6.7 percent this year.

This would be the biggest single-year fall since 1930 at the height of the Great Depression. They expect unemployment to reach 7.6 percent this year and climb to 8.9 percent next year. Despite noting Australia’s very large government spending program, the IMF suggests that greater fiscal stimulus may be needed to avoid even worse outcomes.

Meanwhile, Australia’s major political parties are both stuck in misguided and outdated attitudes towards government debt and deficits. During last week’s parliamentary debate about the $130 billion JobKeeper legislation, Anthony Albanese said, “We are headed for a trillion-dollar debt… It is a bill that will saddle a generation.”

If this dangerous thinking is allowed to dominate both sides of the narrow political divide in Australia over the next few years, then we will see unnecessary hardship and further loss of jobs on the Australian people.

This misguided thinking comes from the notion that the federal government is like a nationwide household and that if we spend too much now, we, as a nation, will have to tighten our belts in the future to pay for it. This may make intuitive sense but much of the true nature of money is not intuitive.

Paying attention only to money and debt often causes people (including economists) to lose sight of the real economy. The real economy is the production and distribution of goods and services. Our material standard of living at any particular time depends almost exclusively on the goods and services we are able to produce (and purchase from overseas) at that time. Is it possible for future generations to send goods and services back in time to pay for the current COVID response expenditure? Of course not, that’s a ludicrous suggestion.

Okay, so if we focus on the real economy and forget about the money for a minute, what are the real future consequences of spending now to support businesses and households? The fewer businesses go broke now, the quicker the recovery and the more rapidly we can get back towards full employment. The closer we get to full employment (and the full use of our infrastructure, factories, equipment, etc) the more goods and services we can produce and the higher the material standard of living we can have.

So what about the trillion-dollar debt then?

We have a very clear historical precedent we can use to shed light on the impact of debt and on the choices that lie before us. The highest level of government debt Australia has ever had was accumulated during World War II.

(Image: Ashley Owen, Stanford Brown)

This debt, 120 percent of GDP, would be equivalent to a debt today of well over two trillion dollars. If Anthony Albanese and Josh Frydenberg are right about the current debt burden, then post-war generations must have really struggled under that debt burden, right?

As it turns out, the opposite is true. The 25 years following WWII are often referred to as the post-war boom. We had strong economic growth, high wage growth, rapidly increasing material standards of living and falling inequality.

During this period governments of both political persuasions ran near constant modest deficits and the level of government debt to GDP fell sharply. This counter-intuitive miracle occurred because governments weren’t focussed on paying off the debt but were instead focussed on productivity and full employment.

Policy thinkers in the Curtin government, trained in the new economics developed by John Maynard Keynes, had seen massive unemployment during the Great Depression and then zero unemployment during the war. They figured that if the government could bring about full employment during the war then they could bring about full employment during peace time. They laid out this plan in 1945 in a remarkable white paper, Full Employment in Australia, that’s still very much worth reading today.

Australia’s unemployment rate, 1901-2001. (Image: Australian Treasury)

Arguably the 20th century’s most influential economist, Keynes said, “Look after the unemployment and the budget will look after itself”. In the 25 years following WWII, unemployment in Australia averaged two percent and, as noted above, government debt to GDP fell sharply, despite governments continuing to run deficits.

The same could be true in the recovery from the COVID-induced recession — if only our politicians could understand it.

Falling debt to GDP while governments run deficits could occur because the combination of economic growth and inflation saw the economy outgrow the debt. The debt was never really paid off, but the Australian economy was fully employed and was producing enough goods and services to provide Australians with an increasingly higher standard of living.

As I’ve discussed elsewhere, Menzies very nearly lost the 1961 election because unemployment was creeping up towards three percent as a result of reduced government expenditure. Menzies, chastised by the result, immediately adopted Labor’s policy of intentionally running a deficit in order to reduce unemployment — and it worked.

The dangers of austerity

If we adopt the attitude currently dominant in both Labor and Coalition party rooms that this debt is a burden that must be paid off, we will have the opposite outcome. This could entail implementing so-called austerity policies, lifting taxes and/or cutting government expenditure in an effort to pay off the debt. Both increasing taxes and cutting government expenditure remove money from the non-government sector, right when they need it for the economic recovery.

Cutting government services, including health, mental health, education, research, environmental protection and more in order to pay off government debt will inevitably result in higher unemployment, worse health outcomes and worse economic outcomes. We know, both from sound economic theory and from the lessons of history, that we don’t need to focus on paying off the debt. This means, if we do suffer as a result of government debt repayments, that we are doing so as a political and ideological choice, not out of necessity.

Instead, we should focus on full employment and on the real economy and let the budget take care of itself.

Consumers Increasingly Expect Additional Government Support amid COVID-19 Pandemic

Published by Anonymous (not verified) on Wed, 27/05/2020 - 1:00am in

Gizem Koşar, Kyle Smith, and Wilbert van der Klaauw

Consumers Increasingly Expect Additional Government Support amid COVID-19 Pandemic

The New York Fed’s Center for Microeconomic Data released results today from its April 2020 SCE Public Policy Survey, which provides information on consumers' expectations regarding future changes to a wide range of fiscal and social insurance policies and the potential impact of these changes on their households. These data have been collected every four months since October 2015 as part of our Survey of Consumer Expectations (SCE). Given the ongoing COVID-19 pandemic, households face significant uncertainty about their personal situations and the general economic environment when forming plans and making decisions. Tracking individuals’ subjective beliefs about future government policy changes is important for understanding and predicting their behavior in terms of spending and labor supply, which will be crucial in forecasting the economic recovery in the months ahead.

The April SCE Public Policy Survey, which was fielded between April 2 and 30, shows large movements in consumers’ expectations regarding future changes in several assistance and social insurance programs as well as in taxes and fees. Starting with assistance programs, the chart below shows the average percent chance that respondents assign to an expansion over the next twelve months in affordable housing, federal student loan forgiveness, and the generosity of federal welfare benefits. All three series reached new highs in April, but the average likelihood of an increase in federal welfare benefits logged the biggest jump—around 20 percentage points—since December 2019. The large increases in the expected expansions for federal student loan forgiveness and welfare programs were broad-based across demographic groups. Interestingly, the change in expectations for a year-ahead expansion in affordable housing from December 2019 to April 2020 was much more muted for lower-income (less than $60,000) households at 4.9 percentage points, compared to higher-income households at 15.8 percentage points.

Consumers Increasingly Expect Additional Government Support amid COVID-19 Pandemic

Turning to social insurance programs, we observe a sharp increase in the average likelihood of a year-ahead increase in unemployment benefits, from 15.3 percent in December 2019 to 53.4 percent in April 2020, coupled with a decline in the average likelihood of a year-ahead decrease in unemployment benefits, from 19.4 percent in December 2019 to 13.6 percent in April 2020. The expectations for a year-ahead change in unemployment benefits were comparable across age, gender, income, and education groups. To the extent that respondents were aware that the CARES Act, signed into law on March 27, already included a federal top-up to the unemployment benefits and a thirteen-week extension among its provisions, responses from the April 2020 SCE Public Policy Survey indicate that consumers expect a further expansion of unemployment benefits. This anticipation might be influential in how households use the unemployment benefits and Economic Impact Payments they receive, in terms of saving, spending, and paying down debts.

Consumers Increasingly Expect Additional Government Support amid COVID-19 Pandemic

Regarding expected changes in tax policy, the April data show a 5.5 percentage point jump in the average likelihood of a year-ahead decline in gasoline tax and, similarly, a 6 percentage point increase in the average likelihood of a decline in the payroll tax over the next twelve months from December 2019 to April 2020. There was also a 6.8 percentage point increase in the average likelihood of an increase in the income tax rate for the highest income bracket over the next twelve months. At 29.8 percent, that reading is now at its highest level since August 2016. Regarding fees, we observe increases of around 4 percentage points in the average probabilities of year-ahead declines in public college tuition (in each respondent’s state) as well as in the cost of public transport. The size of these changes was greater among respondents with a college degree.

The SCE Public Policy Survey also collects information on what respondents think the household impact of various policy changes over the next twelve months would be. Unsurprisingly, given the COVID-19 outbreak and the business closures necessitated by social distancing measures, April data show a broad-based rise in the share of respondents that associate a positive impact with an increase in unemployment benefits—16.3 percent in April 2020, up from 5.6 percent in December 2019. Similarly, we see a reduction in the share of respondents who expect to be negatively affected by an increase in welfare benefits, from 19.9 percent to 11.0 percent. Finally, the share of respondents who expect to be positively affected by a decrease in the payroll tax rate increased from 47.0 percent to 52.6 percent.

The timing and strength of the economic recovery from the COVID-19 pandemic will largely depend on households’ economic decisions regarding spending, saving, and working. These decisions, in turn, are affected by the current and future policy environment. The results from the April 2020 SCE Public Policy Survey show that households increasingly anticipate further fiscal expansions in government support, with consumers assigning higher likelihoods to expansions in affordable housing, federal student loan forgiveness, and in the generosity of unemployment and welfare benefits. We will continue to monitor households’ public policy expectations as the pandemic and the policy responses to it evolve.

Gizem Koşar
Gizem Koşar is an economist in the Federal Reserve Bank of New York’s Research and Statistics Group.

Kyle SmithKyle Smith is a senior research analyst in the Bank’s Research and Statistics Group.

Wilbert van der Klaauw
Wilbert van der Klaauw is a senior vice president in the Bank’s Research and Statistics Group.

How to cite this post:

Gizem Koşar, Kyle Smith, and Wilbert van der Klaauw, “Consumers Increasingly Expect Additional Government Support amid COVID-19 Pandemic,” Federal Reserve Bank of New York Liberty Street Economics, May 26, 2020,


The views expressed in this post are those of the authors and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System. Any errors or omissions are the responsibility of the authors.

Joan Robinson On Public Sector Deficits And Debt

Published by Anonymous (not verified) on Sun, 24/05/2020 - 6:53am in

Some good quotes by Joan Robinson on deficits and debt:

In Introduction To The Theory Of Employment, Chapter 5, Change In Thriftiness, in the section A Budget Deficit, 1937:

A special kind of reduction in thriftiness is represented by a budget deficit. If the state is paying out more money in salaries to civil servant, commissions to contractors and so forth, than it is receiving in taxation, and is borrowing the difference by issuing Treasury bills or otherwise raising loans from the public, then it is in just the same position as an individual who is spending on current consumption more than his income, by means of drawing on past accumulated wealth or getting into debt. In short the state is dis-saving. The result is to increase incomes and expenditure all round. Suppose that the state keeps its outlay constant and remits taxation. Then out of the increased net income of taxpayers part will be spent, and this extra spending will raise the incomes of those on whose output the expenditure is made. Out of this extra income, again, a part will be spent; and so on. Just as in the case of investment, the extra expenditure will lead to such an increase in incomes that the public are saving more than they otherwise would have done at just the same rate the government is borrowing.

The idea that a budget deficit is good for trade is often found to be shocking, but it is a fact which has become obvious to the governments of the world since the great depression began in 1929. The argument used to be common, particularly in England, that a budget deficit upsets the confidence of entrepreneurs, and so does more indirect harm to employment than direct good. But this is a case where “thinking makes it so”, and it is found nowadays that a deficit accompanies by the right kind of propaganda can have a very beneficial effect.

The mere fact that a deficit is good for trade is not a sufficient argument for having a deficit, since other methods of improving trade may be preferable. It can, however, be regarded as a merciful dispensation that budgets have a tendency to come unstuck when trade is very bad. Taxes fail to yield as much as was expected, while expenses in connection with unemployment go up, and the government is forced to borrow to meet its current outgoings. This has the effect if preventing the decline in employment from going so far as it would if the budget were kept balanced.

In The Problem Of Full Employment, Chapter 9, Some Fallacies, 1943:

During the great slump it was the official view that Government investment cannot increase employment. The argument ran: there is a certain amount of saving going on at any time, and if more savings are invested by the Government, less will be available for private enterprise. This overlooks the fact that if there is more investment there will be a higher level of activity and of incomes and consequently more saving. The argument is so childish that it would not deceive anyone who had not a strong wish to believe it. Nevertheless, it was for many years the basis of Government policy, and was set out in a famous White Paper in 1929.

The National Government which was formed in 1931 went in for a great economy campaign. Local authorities were compelled to cease work on building schemes, roads, fen drainage, and so forth. An emergency budget was introduced, increasing taxation, cutting unemployment allowances and reducing the pay of public servants, such as teachers and the armed forces. Private citizens felt it was patriotic to spend less. Some Cambridge Colleges gave up their traditional feasts as a recognition of the crisis. All this helped to increase unemployment and make the economic situation of the country still more depressed. Nowadays there is considerably more understanding of how things work and it is unlikely that such a completely idiotic policy will be tried again.

The National Debt is often brought forward as an argument against public spending to create employment. There is a good deal of confusion between the National Debt and the debt of an individual. An individual who is in debt has to pay interest to someone else, and will be obliged to return the sum borrowed to the lender. A nation which is in debt has to pay interest to its own citizens (a foreign debt is a different story and is much more like a private debt). That is to say, the Government has to raise taxes from Peter and Paul and pay interest to Paul and Peter. Taking the country as a whole, there is no burden of the debt. Moreover, the debt need never be repaid. As one lot of bonds fall due to be redeemed a fresh lot can be sold to the public. If the debt is finally repaid, it is repaid out of the wealth of the citizens of the country, and this, like interest payments, is merely a swap round among the members of the community.

At the same time there are genuine objections to a large National Debt. It means that there is a large volume of rentier income (the interest on Government bonds), so that the active part of the population has to allot a large share of the proceeds of production to the mere owners of wealth. This objection is all the stronger if the holders of the National Debt are mainly the richer part of the community, while taxes to pay their interest are raised from the population as a whole. This drawback can be kept within bounds, first, by keeping interest rates low, and second, by arranging the tax system so that the same class which gets the interest has to pay the extra taxes. But however well the national finances are managed, some objection must remain.

This does not mean that fear of increasing the National Debt is a sound objection to having a full employment policy. The drawback of having a swollen rentier class is trivial compared to the loss of wealth and of happiness, and of life itself, which is entailed by unemployment.

If, however, we are to have a full employment policy in any case, the problem must be viewed in a different light. Government outlay covered by taxation on the rich is to be preferred to borrowing. A full employment policy conducted according to the rules of Sound Finance is far more radical than a policy of deficits, and Government loan expenditure can only be justified as a concession to the status quo.

Jan Kregel: Why Stimulus Cannot Solve the Pandemic Depression

Published by Anonymous (not verified) on Tue, 12/05/2020 - 5:13am in