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Deficit Easing

Richard Douthwaite of Feasta supports Mosler and Auerback conclusions about the best solution to the Irish debt problem, but from a different starting point to Modern Money Theory. He has invented the useful term ‘deficit easing’ for the new policy to express both the similarity and difference to ‘quantitative easing’.  He also describes in plain language how the problem is not just foolish borrowing but also foolish lending.  Karl Whelan has made a similar case in more circumspect language.  No eurozone member state is blameless and neither is any European Member State, including the UK, immune from the coming implosion.

Download the full paper here: Deficit easing – an alternative to severe austerity programmes in the eurozone (with graphs and diagrams!).

Frequently asked questions about deficit easing

1. Would injecting debt-free money into the eurozone economy via deficit easing be inflationary?

There is no risk at all of a significant inflation developing. This is because if prices began to rise at an unacceptably high rate, no further debt-free money would be issued. This would be enough to prevent further price rises unless private-sector borrowing had really taken off and, as a result, conventionally-issued debt-money was causing the inflation problem. In this case, governments could use conventional methods of control such as increasing taxation in order to run a budget surplus, or raising the banks’ capital-adequacy ratios.

If the injection of debt-free money caused the exchange rate of the euro to fall, it would raise the cost of imports and this would have a mildly inflationary effect. On the other hand, exports would rise and there would be more eurozone production for eurozone use, thus increasing incomes and employment. This would give most people, but perhaps not particular groups, the resources to cope with the slightly higher prices and any seriously disadvantaged groups could be protected since the money would be there. After all, which is better, the present problem of dealing with constant prices out of declining incomes, or a possible future problem of dealing with slowly rising prices out of rising incomes?

The overall point needs to be made – there is a lot of surplus capacity in the eurozone economy and consequently, a lot of additional spending will have to take place before shortages bad enough to start driving prices up begin to appear. It would therefore be a long time before any general inflation happened. By that time, private borrowing should have resumed and allowed the introduction of debt-free money to be phased out.

2. How would savers be affected?

Those who save would do very well from a deficit-easing approach. At present, their money is probably held in shares and bank deposits, either personally or through their pension funds. Their shares would do well if the eurozone economy improved as a result of the monetary injections. Their bank deposits would be much safer than they would be under the austerity programme because, if the latter caused some eurozone countries to default, the banking systems in all eurozone countries would be endangered and their governments might not have the resources either to bail them out or to honour the deposit guarantees they have given. Moreover, if a saver lives in a country that decides to distribute some of the debt-free money to reduce personal debt, all the payment he/she receives would be available to invest in an low carbon-related project. This payment should more than offset any erosion of the purchasing power of the savings they held in the bank.

3. Who would lose out under a deficit-easing approach?

It is hard to see how anyone would lose out. At present, everyone is losing because resources are being wasted, whether these are the human resources of people who are under/ unemployed or the lost production of under-used factories. Issuing debt-free money to put these resources to use would stop the losses. So we are not in a zero-sum game. No one has to be worse off for others to gain. Everyone could benefit if the arrangements were well designed. .

This question points to a major difficulty that has to be overcome before deficit easing can be adopted. Not only will most people believe that someone has to lose as a result of the proposal but they will also feel that the promised results are too good to be true. It can’t be that easy to get the eurozone economies into shape, they will think. They will also feel that money can’t be created out of nothing and just given away, that there has to be something more substantial to money than that. But the fact is, of course, that the only thing that gives a euro its value is that someone else will accept it from the holder and give them something of value for it. And the person accepting the euro only does so because he or she knows that someone else will give them something of value for it too. As a result, since the new, debt-free euros will be indistinguishable from the debt-based ones, not only can they be created out of nothing but they can work just as well.

4. Why should public money be given away in the eurozone to allow private debts to be reduced?

Private debt is damaging economically even if it is owed to creditors in the eurozone because if the eurozone carries more debt in relation to its GDP than its competitors, it will have higher costs. This is because if the rate of interest is the same in both economies, businesses in the more heavily indebted one will have to allow for higher interest charges per unit of output than the other when calculating their operating costs and prices. Any additional interest costs therefore affect the eurozone’s international competitiveness in exactly the same way as would higher wages. Indeed, they are the wages of what a Marxist would call ‘the rentier class’; a class to which anyone who, directly or indirectly, has interest-bearing savings belongs. Using money created out of nothing to pay down private debt is a rapid, cost-free free way of making the eurozone economy more efficient, just as cleaning away weed and barnacles improves the speed of a ship.

5. Will deficit easing give rise to moral hazard?

No, it will not. No country is rewarded for having been profligate in managing its affairs because each one gets exactly the same payment per head of its population. Countries with low deficits and low levels of public sector debt will still be able to use the funds they get through deficit–easing to their citizens’ long-term advantage.

6. What is the difference between quantitative- easing and deficit- easing?

Both approaches involve central banks creating money. With quantitative easing, the new money is generally used to buy securities from the banking system, thus providing the banks with more money to lend. Unfortunately that is where problems have been arising in the US and the UK. Because the public has been unwilling to borrow, or the banks have been unwilling to lend, quantitative easing has not increased the supply of money in circulation in the US, where M3 began to decline in the second half of 2009 and was still falling a year later. In the UK, M4 (a version of M3 but with additional categories of money) increased by only 0.9% in the same period and actually fell by 0.3% during September 2010.

Deficit-easing avoids this ‘won’t-borrow-won’t-lend’ bottleneck by giving the new money to governments to spend into use, or to pass on to their citizens to reduce their own debts or to invest in approved ways.

But quantitative easing has not failed to work completely in Britain and America. It has lowered interest rates and weakened both currencies, thus improving the countries’ international competitiveness. The relative strength of the euro as a result of the ECB’s refusal to run a quantitative easing programme along similar lines is handicapping the eurozone’s recovery. (The ECB launched an asset purchase scheme called the Securities Market Programme in May 2010 but denied that this was quantitative easing because it promised to use other programmes to remove the liquidity this injected.)

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