fiscal policy

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The Fiscal Deficit, Modern Monetary Theory and Progressive Economic Policy

Published by Anonymous (not verified) on Tue, 14/07/2020 - 11:38pm in

Modern Monetary Theory or MMT has crept in from the academic margins to become an influential doctrine in progressive policy circles in the United States. Both Elizabeth Warren and Bernie Sanders drew on the ideas of MMT to shape their ambitious public spending platforms. MMT has been cited as one way to fund a Green New Deal, in combination with progressive tax reform.

It is safe to say that most Canadian progressives are not debating the finer points of monetary and fiscal policy. But it is useful to critically consider some of the most important pros and cons of MMT based on the new book by a leading US advocate, Stephanie Kelton. (The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy. Public Affairs. New York. 2020.) In a nutshell, MMT puts forward a powerful critique of mainstream macro-economic policy but discounts the need for truly radical change if the economy is to be regulated and managed for the public good.

Summer Statement: Why Rishi Sunak is skating on thin ice

Published by Anonymous (not verified) on Sat, 11/07/2020 - 2:00am in

The Chancellor, Rishi Sunak, is skating on incredibly thin ice. He is gambling that his £30 billion spending package will be sufficient to transition the furlough scheme to something like the full-employment economy which existed before the shut-down in March. But the odds against this happening are huge.

For one thing, as Labour’s Anneliese Dodds pointed out, COVID-19 has had worse health effects – and inflicted more damage – on the UK economy than in any of our comparators. The depletion of state capacity to respond effectively to the health crisis has left a legacy of mistrust and fear which will make it exceptionally challenging to “kick start” the economy quickly.

Let me concentrate on the most important aspect. Ending the furlough scheme in October means that the government will no longer pay the wages of nine million workers.  That means that either the firms on whose books they remain will have to start paying them, or they will be made redundant. Rishi Sunak has offered a “son of furlough” incentive to employers, so as to avoid mass redundancies. Until January, companies that pay the wages of furloughed workers will receive a £1000 bonus for each one.

However, whether it will be worth it for employers to resume paying their workforce (even with the £1000 bonus) will depend on the demand for their goods and services, that is, on what happens to consumption over the next few months.

And this depends on two things: how quickly the supply-side of the economy can be reopened and how soon people are ready to resume their old shopping and recreational habits. The two are of course connected: the easier it is for people to shop, go to pubs, cinemas, and theatres, stay in hotels and eat in restaurants, the more they will be ready to do so. But it also depends on their psychological willingness to risk infection.

The government’s ineptness in handling the health crisis will thus impact both the supply and the demand sides of the economy. The precautionary regulations affecting distancing, masks, crowd numbers and travel will still remain in place as long as the threat of new waves of infection remain: indeed the failure to develop a viable “test, track, and isolate” system means that the threat will stay longer than necessary. There will also be less appetite for some kinds of spending under these conditions. This means that even with the best will in the world, consumption will remain awkward and constricted in many sectors of the economy.

But the fear of contact, created by the propaganda which justified mass lockdowns, will also be a powerful limiting factor. A quarter of parents have said they will not send their children back to school in September. This fear of contact is bound to limit the business of all those companies whose industry depends on contact, especially hospitality, travel and recreation. Even £10 off the restaurant bill in August, as promised by the Chancellor today, is unlikely to induce a mass resumption of eating out in our large towns and cities.

The Chancellor’s measures, which include VAT reductions, and financial incentives for training, apprenticeships, house buying, and energy-saving are welcome. But they are a holding operation. I do not see how they can prevent a haemorrhage of jobs after October. The real choices will come with the Autumn Budget.

The choice will essentially be whether to continue with the financial orthodoxy of recent years which denied a state “mission” in investment or job creation or whether to use the immense fiscal power of the state, which, when circumstances demand, is perfectly capable of keeping households provisioned through a months-long standstill of private enterprise, to transform the subsidy culture into a new lasting partnership between the state and the people.

This piece is cross-posted from: Catholic Herald

Photo credit: Flikr/HM Treasury

The post Summer Statement: Why Rishi Sunak is skating on thin ice appeared first on The Progressive Economy Forum.

A New Reserves Regime? COVID-19 and the Federal Reserve Balance Sheet

Published by Anonymous (not verified) on Tue, 07/07/2020 - 9:00pm in

Gara Afonso, Marco Cipriani, Gabriele La Spada, and Will Riordan

Aggregate reserves declined from nearly $3 trillion in August 2014 to $1.4 trillion in mid-September 2019, as the Federal Reserve normalized its balance sheet. This decline came to a halt in September 2019 when the Federal Reserve responded to turmoil in short-term money markets, with reserves fluctuating around $1.6 trillion in the early months of 2020. Then, in response to the COVID-19 pandemic, the Federal Reserve dramatically expanded its balance sheet, both directly, through outright purchases and repurchase agreements, and indirectly, as a consequence of the facilities to support market functioning and the flow of credit to the real economy. In this post, we characterize the increase in reserves between March and June 2020, describing changes to the distribution and concentration of reserves.

The Expansion of the Federal Reserve Balance Sheet

The Federal Reserve balance sheet has increased dramatically since the onset of the COVID-19 pandemic, as shown in the chart below. In response to the pandemic, the Federal Reserve expanded its holdings of Treasury securities and agency mortgage-backed securities (MBS) to support the smooth functioning of these markets, established several new lending facilities to support the flow of credit to the real economy, and expanded swap lines with other central banks to ease strains in global U.S. dollar funding markets. Assets held by the Federal Reserve increased from $4.3 trillion in March to $7.2 trillion in June. More than 70 percent of this increase comes from an expansion of the Federal Reserve’s portfolio of Treasury securities (56 percent) and agency securities (16 percent), and around 20 percent comes from the facilities put in place. The central bank swap lines account for the vast majority of the balance sheet increase arising from the facilities. As the Federal Reserve expanded its asset holdings, reserves increased.

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Who Holds Reserves?

As the chart below shows, since mid-March, reserves increased by $1.5 trillion, reaching $3.2 trillion on June 10, almost half a trillion above the prior peak in August 2014. This increase was much more abrupt than the one observed in 2008, when the Federal Reserve expanded its balance sheet in response to the 2008-09 financial crisis; at that time, it took thirty-two months for reserves to increase by an amount similar to that of the last three months.

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During the 2008-09 financial crisis, the increase in reserves was largely absorbed by U.S. global systemically important banks (GSIBs) and branches of foreign banking organizations (FBOs), while non-GSIB domestic institutions, especially the smaller ones, increased their holdings at a much slower pace. As a result, the share of reserves held by non-GSIB domestic institutions dropped significantly; for example, domestic institutions with less than $50 billion in assets went from being the largest holders of reserves in 2007 (35 percent) to being the smallest holders in 2008 (10 percent).

In the first two years after the crisis, the share of reserves held by GSIBs dropped, as these institutions held a relatively constant level of reserves while aggregate reserves were increasing. The share of reserves held by GSIBs then slowly rebounded over 2012-18. In contrast, branches of FBOs almost tripled their reserve balances during 2009-12 and, as the chart below shows, their share of reserves continued to increase in the aftermath of the 2008-09 financial crisis, reaching 50 percent in 2011. As the Federal Reserve began normalizing its balance sheet in 2014, GSIBs and especially branches of FBOs absorbed the bulk of the decline in reserves. In contrast, non-GSIB large domestic institutions increased their reserve balances while aggregate reserves were decreasing, thereby almost doubling their share of reserves.

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The Federal Reserve increased its balance sheet again in response to the COVID-19 pandemic. As they had in 2008-09, GSIBs and branches of FBOs absorbed the majority of the increase in reserves during the initial stages of the balance sheet expansion. In contrast to the earlier episode, however, GSIBs continued to expand their reserve holdings until June, while branches of FBOs began reducing their balances in May (which led to a decline in the share of reserves held by branches of FBOs, as shown in the right panel of the chart). Moreover, unlike during the 2008-09 financial crisis, non-GSIB large domestic institutions also significantly expanded their reserve holdings, increasing their share of reserves from 13 percent to 20 percent over the last four months.

How Concentrated Are Reserves?

More than 5,000 institutions have accounts at the Federal Reserve. An intuitive way to look at the concentration of reserves is by calculating the share of reserves held by the largest reserve holders. Concentration increases as the share held by the largest entities rises.

The chart below shows the share of reserves held by the top reserve holders. In 2007, the five largest reserve holders in the United States held around 20 percent of reserves. This share increased substantially in the second half of 2008, when the Federal Reserve started expanding its balance sheet in response to the 2008-09 financial crisis, and fell back to just over 20 percent in 2012, as the proportion of reserves held by GSIBs declined and the share held by branches of FBOs increased. Then, as reserves shifted from branches of FBOs to GSIBs, concentration again rose between 2013 and 2018. We have observed a similar pattern since the COVID-19 outbreak, with the share of reserves held by the five largest reserve holders increasing by almost 10 percentage points since mid-March and now exceeding 35 percent.

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In response to the COVID-19 pandemic, the Federal Reserve has aggressively used its tools to keep markets functioning and credit flowing to the real economy. These actions have been supported by an expansion of the Federal Reserve’s balance sheet, leading to an increase in reserve balances. The increase has been absorbed mainly by GSIBs and to a lesser extent by non-GSIB large domestic institutions and branches of FBOs. As GSIBs have absorbed a larger share of the increase in reserves, the concentration of reserves has also increased.

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

Cipriani_marcoMarco Cipriani is an assistant vice president in the Research and Statistics Group.

Laspada_gabrieleGabriele La Spada is a senior economist in the Research and Statistics Group.

Will-RiordanWill Riordan is an assistant vice president in the Federal Reserve Bank of New York’s Markets Group.

How to cite this post:

Gara Afonso, Marco Cipriani, Gabriele La Spada, and Will Riordan, “A New Reserves Regime? COVID-19 and the Federal Reserve Balance Sheet,” Federal Reserve Bank of New York Liberty Street Economics, July 7, 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.

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.

Photo credit:

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.

We can get killed.....

Published by Anonymous (not verified) on Wed, 17/06/2020 - 2:16am in

The following are my notes for a contribution to the debate on the post-Coronavirus economy held in the European Union’s parliament on 15 June, 2020. (The Parliament was largely empty as many MEPs were still shielding or self-solating from the pandemic. ) Other contributors included: Pierre-Olivier Gourinchas, Professor of Global Management, University of California, Berkeley, Daniela Gabor, Professor of Economics and Macro-Finance, Lex Hoogduin, Professor at the University of Groningen; Gita Gopinath, IMF Chief Economist; Laurence Boone, Chief Economist OECD. Vladimiro Giacché, Chairman of the Centro Europa Ricerche, Roma
and yours truly: Ann Pettifor, Political economist, author and public speaker. The Chair was Irene Tinagli MEP


1.     We have learned from the coronavirus crisis that we can get killed if we are not better prepared for crises and shocks that scientists have warned us of – shocks like pandemics, climate breakdown and biodiversity collapse.

2.     We were warned of the inevitability of pandemics by, amongst others, experts at Oxford University – Prof Ian Goldin and Mike Mariathasan.

3.     We have learned from the coronavirus crisis that we can get killed if we do not respect nature and instead strip wildlife of a home to make way for farming, mining and housing. 

4.     We have learned that we can get killed if we do not work cooperatively; if we are not willing to make sacrifices; if we do not allow the best of our humanity – altruism and empathy with fellow human beings and with our fellow species – to take priority over greed and self-interest.

5.     We have learned that those who told us “there is no money” were misleading us. Perhaps deliberately.

6.     We have learned from the coronavirus crisis that central banks can mobilise up to $21 trillion in liquidity to support non-bank corporations and the financial sector: Wall St. the City and Frankfurt.

7.     We have learned that like homeowners wanting to invest in a home, governments first raise finance by issuing bonds via central banks, and because EU governments are on the whole strong economies –these bonds are trusted and valued. In fact, as Ms Gabor has explained, sovereign debt is the backbone of the private finance sector as bonds are in demand from banks and other institutions for use as sound, safe collateral.

8.     And like homeowners, governments spend the finance raised into the economy, and spending , as we saw in the case of coronavirus,s helps protects jobs and firms – in both the public and private sectors.

9.     And we all know from our own experience that jobs generate income.

10.  And that the income created by employment, is taxed by governments. And so full, well-paid and skilled employment helps governments pay down their debts, balance budgets, and fix the public finances.

11.  We have learned from the OECD that world economic output has collapsed 7.6% this year; that the OECD unemployment rate has nearly doubled.

12.  The Commission provides evidence that unemployment in Europe is very high – it is expected to be at about 20% in Greece, 18% in Spain, 12% in Italy, 10% in France. At least 14 million people are unemployed…and the crisis of coronavirus means that number is probably much higher.

13.  What high unemployment indicates is that there is a great deal of idle capacity in Europe.

14.  Given these high levels of idle capacity, it is dangerous for economists to raise the threat of inflation. Inflation occurs when the economy is either at full capacity, or exceding full capacity.

15.  Idle capacity determines the low rate of interest across Europe. The weakness of the European-wide economy explains why interest rates are so low. While ECB rates may be low, they have been lowered BECAUSE  of the weakness of the EU economy. ECB rates are not causal. They are a consequence

16.  We have learnt from the pandemic that governments lose tax revenues when unemployment rises. And conversely, governments benefit from full employment, because full employment generates the tax revenues they need for the repayment of bonds issued to finance job creation.

17.  Full employment generates the tax revenues needed to balance European government budgets. Governments have budget deficits BECAUSE of unemployment and unused capacity.

18.  We have learned that the best way to raise tax revenues is, not to increase taxes, but to create jobs.

19.  These are important lessons.

20.  Scientists know that human civilisation is at risk of collapse if temperatures rise above 1.5 degrees Celsius.

21.  Scientists know that temperatures are probably already higher than that.

22.  That as we march blindly towards weather extremes and climate catastrophes - the coronavirus crisis will have been just a minor skirmish.

23.  Economists know that the European Union is at risk of dissolution.

24.  Politicians know that the Green Deal is an attempt at consolidating the Union.

25.  Politicians know that the failure of the Green Deal to tackle climate breakdown in a way that is economically inclusive will risk the future of the European Union.

26.  As with the coronavirus crisis, countries will go it alone – in order to ensure their citizens survive.

27.  The stakes are high.

28.  Scientists know that the Green Deal’s emission reduction target of 55% by 2030 - which is three times faster than during 1990-2020 – is still too modest.

29.  It is a target that will get us killed.

30.  The EU needs a much more ambitious target.

31.  Politicians know that unless the EU is consolidated, the world will be dominated by the power of the United States

32.  Economists know that unless the EU consolidates, the world will continue to be subject to the US dollar as the world’s reserve currency.

33.  The first step the EU should take, as previous speakers have indicated, is to issue safe assets – European-wide bonds - demanded and needed by capital markets – to finance the Green Deal - a radical transformation of the EU economy to end our addiction to fossil fuels.

34.  These bonds can raise sums comparable to those raised to tackle the Coronavirus crisis, meaning it will not be necessary to raise taxes on European citizens.

35.  The second step is to abolish fossil-fuel subsidies to big corporations of 250 billion euros per year. As Professor Servaas Storm has shown, this will raise revenue for member states’ governments by an estimated 100 billion euros per year.

36.  The third step should be to introduce a tax on carbon of 75 euros per tonne of CO2. This will generate some 270 billion euros as annual tax revenue  - some of which can be used to compensate the poorest households for higher energy prices.

37.  Because corporations will benefit hugely from the stimulus of the Green Deal, the fourth step must be to raise the rate of corporate profit taxation back to the level of the late 1990s. This will raise annual tax revenues by 55 billion euros.

38.  Finally, let us not forget: lack of preparedness for crises predicted by scientists – will get us killed.