These are the themes of his new book, End This Depression Now. In old-fashioned Keynesian style he believes that the solution to insufficient market demand is for the government to run larger budget deficits. It should start by giving revenue-sharing grants of $300 billion annually to states and localities whose budgets are being squeezed by the decline in property taxes and the general economic slowdown.

All this is a good idea as far as it goes. But Mr. Krugman stops there – as if that is all that is needed today. So what he has done is basically get into a fight with intellectual pygmies. Thus dumbs down his argument, and actually distracts attention from what is needed to avoid the financial and fiscal depression he is warning about.

Here’s the problem: To focus the argument against “Austerian” advocates of fiscal balance, Mr. Krugman hopes that economists will stop distracting attention by talking about what he deems not necessary. It seems not necessary to write down debts, for example. All that is needed is to reduce interest rates on existing debts, enabling them to be carried.

Mr. Krugman also does not advocate shifting taxes off labor onto property. The implication is that California can afford its Proposition #13 – the tax freeze on commercial property and homes at long-ago levels, which has fiscally strangled the state and led to an explosion of debt-leveraged housing prices by leaving the site value untaxed and hence free to be pledged to banks for larger and larger mortgage loans instead of being paid to the public authorities. There is no hint in Mr. Krugman’s journalism of a need to reverse the tax shift off real estate and finance (onto income and sales taxes), except to restore a bit more progressive taxation.

The effect of Mr. Krugman’s suggestions is for the government to subsidize the existing financial and tax structures, leaving the debts intact and ignoring the largely regressive, unfair and inefficient system of taxation. It is unfair because the profits of the rich – and even worse, their asset-price (“capital”) gains are taxed at lower rates and riddled with tax loopholes and giveaways. The wealthy benefit from the windfall gains delivered by the public infrastructure investment advocated by Mr. Krugman, but there is not a word about the public recouping this investment. Governments are indeed able to create their own money as an alternative to taxing, but some taxes – above all, on windfall gains, like locational value resulting from public investment in roads or other public transportation – are justified simply on grounds of economic fairness.

So it is important to note what Mr. Krugman does not address these issues that once played so important a role in Democratic Party politics, before the Wall Street faction gained control via the campaign financing process – even before the Citizens United case. For over a century, economists have recognized the need for financial and fiscal reform to go together. Failure to proceed with a joint reform has led the banking and financial sector – along with its major client base, the real estate sector – to scale back property taxes and “free” the economy with taxes so that the revenue can be pledged to the banks as interest to carry larger loans. The effect is to load the economy at large down with private and public debt.

In Mr. Krugman’s reading, private debts need not be written down or the tax system made more efficient. It is to be better subsidized – mainly with easier bank credit and more government spending. So I am afraid that his book might as well have been subtitled “How the Economy can Borrow its Way Out of Debt.” That is what budget deficits do: they add to the debt overhead. In Europe, which has no central bank permitted to monetize the deficit spending, this pays interest to transfers to the bondholders (and their descendants). In the United States, the Federal Reserve can monetize this indebtedness – but the effect is to subsidize domestic debt service.

Mr. Krugman has become censorial regarding the debt issue over the last month or so. In last Friday’s New York Times column he wrote: “Every time some self-important politician or pundit starts going on about how deficits are a burden on the next generation, remember that the biggest problem facing young Americans today isn’t the future burden of debt.”

Unfortunately, Mr. Krugman’s failure to see today’s economic problem as one of debt deflation reflects his failure (suffered by most economists, to be sure) to recognize the need for debt writedowns, for restructuring the banking and financial system, and for shifting taxes off labor back onto property, economic rent and asset-price (“capital”) gains. The effect of his narrow set of recommendations is to defend the status quo – and for my money, despite his reputation as a liberal, that makes Mr. Krugman a conservative. I see little in his logic that would oppose Rubinomics, which has remained the Democratic Party’s program under the Obama administration.

Many of Mr. Krugman’s readers find him the leading hope of opposing even worse Republican politics. But what can be worse than the Rubinomics that Larry Summers, Tim Geithner, Rahm Emanuel and other Wall Street holdovers from the Democratic Leadership Committee have embraced?

Perhaps I can prod Mr. Krugman into taking a stronger position on this issue. But what worries me is that he has moved sharply to the “Rubinomics” wing of his party. He insists that debt doesn’t matter. Bank fraud, junk mortgages and casino capitalism are not the problem, or at least not so serious that more deficit spending cannot cure it. Criticizing Republicans for emphasizing structural unemployment, he writes: “authoritative-sounding figures insist that our problems are ‘structural,’ that they can’t be fixed quickly. … What does it mean to say that we have a structural unemployment problem? The usual version involves the claim that American workers are stuck in the wrong industries or with the wrong skills.”

Using neoclassical sleight-of-hand to bait and switch, he narrows the meaning of “structural reform” to refer to Chicago School economists who blame today’s unemployment as being “structural,” in the sense of workers trained for the wrong jobs. This diverts the reader’s attention away from the pressing problems that are genuinely structural.

The word “structural” refers to the systemic imbalances that neoclassical economists dismiss as “institutional”: the debt overhead, the legal system – especially unfair and dysfunctional bankruptcy and foreclosure laws, regulations against financial fraud, and wealth distribution in general. In 1979, for example, I juxtaposed economic structuralism to Chicago School monetarism in my monograph on Canada in the New Monetary Order. I have elaborated that discussion in my textbook on Trade, Development and Foreign Debt (new ed. 2010). The tradition is grounded in the Progressive Era’s reform program. Correcting such structural and institutional defects, parasitism and privilege seeking “free lunches” is what classical political economy was all about – and what the neoclassical reaction sought to exclude from the economic curriculum. But from the perspective of neoclassical writers through Rubinomics deregulators, the problem of massive, unpayably high debt expanding inexorably by compound interest (and penalty fees) simply disappears.

So the great problem today is whether to stop the siphoning off of income and wealth to financial institutions at the top of the economic pyramid, or reverse the polarization that has taken place over the past thirty years between creditors and debtors, financial institutions and the rest of the economy. I realize that it is more difficult to criticize someone for an error of omission than for an error of commission. But the distinction was erased a month ago when Mr. Krugman got lost in the black hole of banking, finance and international trade theory that has engulfed so many neoclassical and old-style Keynesian economists. Last month Mr. Krugman insisted that banks do not create credit, except by borrowing reserves that (in his view) merely shifts lending savings from wealthy people to those with a higher propensity to consume. Criticizing Steve Keen (who has just published a second edition of his excellent Debunking Economics to explain the dynamics of endogenous money creation), he wrote:

Keen then goes on to assert that lending is, by definition (at least as I understand it), an addition to aggregate demand. I guess I don’t get that at all. If I decide to cut back on my spending and stash the funds in a bank, which lends them out to someone else, this doesn’t have to represent a net increase in demand. Yes, in some (many) cases lending is associated with higher demand, because resources are being transferred to people with a higher propensity to spend; but Keen seems to be saying something else, and I’m not sure what. I think it has something to do with the notion that creating money = creating demand, but again that isn’t right in any model I understand.

Keen says that it’s because once you include banks, lending increases the money supply. OK, but why does that matter? He seems to assume that aggregate demand can’t increase unless the money supply rises, but that’s only true if the velocity of money is fixed;

But “velocity” is just a dummy variable to “balance” any given equation – a tautology, not an analytic tool. As a neoclassical economist, Mr. Krugman is unwilling to acknowledge that banks not only create credit; in doing so, they create debt. That is the essence of balance sheet accounting. But writing like a tyro, Mr. Krugman offers the mythology of banks that can only lend out money taken in from depositors (as though these banks were good old-fashioned savings banks or S&Ls, not what Mr. Keen calls “endogenous money creators”). Banks create deposits electronically in the process of making loans.

Mr. Krugman then doubled down on his assertion that bank debt creation doesn’t matter. People decide how much income they want to save, or decide how much to borrow to buy goods that their stagnant wage levels no longer enable them to afford. Everything is a matter of choice, not a necessity (“price-inelastic” is the neoclassical euphemism) said Krugman:

First of all, any individual bank does, in fact, have to lend out the money it receives in deposits. Bank loan officers can’t just issue checks out of thin air; like employees of any financial intermediary, they must buy assets with funds they have on hand.

So how much currency does the public choose to hold, as opposed to stashing funds in bank deposits? Well, that’s an economic decision, which responds to things like income, prices, interest rates, etc.. In other words, we’re firmly back in the domain of ordinary economics, in which decisions get made at the margin and all that. Banks are important, but they don’t take us into an alternative economic universe.

As I read various stuff on banking — comments here, but also various writings here and there — I often see the view that banks can create credit out of thin air. There are vehement denials of the proposition that banks’ lending is limited by their deposits, or that the monetary base plays any important role; banks, we’re told, hold hardly any reserves (which is true), so the Fed’s creation or destruction of reserves has no effect.

Not only do banks create new credit – debt, from the vantage point of their customers – but in the absence of government spending and regulation along more progressive lines, this new debt creation is the only way that the economy has avoided a sharp shrinking of consumption as real wages have remained stagnant since the late 1970s. The banks offer is one most people can’t refuse: “Take out a mortgage or go without a home,” or “Take out a student loan or go without an education and try to get a job at McDonald’s.” In other words, “Your money or your life.” It is what banks have been saying throughout the ages.

The difference is that they can now create credit freely – and as Alan Greenspan has pointed out to Senate committees, workers are so debt-burdened (“one check away from homelessness”) that they are afraid that if they complain about working conditions, ask for higher salaries (to say nothing of trying to unionize), they will be fired. If they miss a paycheck their credit-card rates will soar to about 29%. And if they miss a mortgage payment, they may face foreclosure and lose their home. So the banking system has cowed the population with its credit- and debt-creating power.

Mr. Krugman’s blind spot with regard to the debt overhead derails trade theory as well. If Greece leaves the Eurozone and devalues its currency (the drachma), for example, debts denominated in euros or other hard currency will rise proportionally. So Greece cannot leave without repudiating its debts in today’s litigious global economy. Yet Mr. Krugman believes in the old neoclassical nonsense that all that is needed is “devaluation” to lower the cost of domestic labor. It is as if he is indifferent to the suffering that such austerity imposes – as Latin American countries suffered at the hands of IMF austerity plans from the 1970s onward. Costs can “be brought in line by adjusting exchange rates.” The problem thus is simply one of exchange rates (which translates into labor costs in short order). Currency depreciation will (in Mr. Krugman’s trade theory) reduce labor’s cost and other domestic costs to the point where governments can export enough not only to cover their imports, but to pay their foreign-currency debts (which will soar in depreciated local-currency terms).

If this were the case, Germany could have paid its reparations debt by depreciating the mark in 1921. But it did so by a billion-fold and even this did not suffice to pay. Neither neoclassical trade theorists nor Chicago School monetarists get the fact that when public or private debts are denominated in a foreign (hard) currency, devaluation devastates the economy. The past half-century has shown this again and again (most recently in Iceland). Domestic assets are transferred into foreign hands – including those of domestic oligarchies operating out of their offshore dollar or Swiss-franc accounts.

Blindness to the debt issue results in especial nonsense when applied to analysis of why the U.S. economy has lost its export competitiveness. How on earth can American industry be expected to compete when employees must pay about 40 percent of their wages on debt-leveraged housing, about 10 percent more on student loans, credit cards and other bank debt, 15 percent on FICA, and about 10 to 15 percent more in income and sales taxes? Between 75 and 80 percent of the wage payment is absorbed by the Finance, Insurance and Real Estate (FIRE) sector even before employees can start buying goods and services! No wonder the economy is shrinking, sales are falling off, and new investment and hiring have followed suit.

How will the government running a larger deficit cope with today’s dimension of the debt problem – except by taking Mr. Krugman’s suggestion to enable states and localities to spend marginally more revenue and avoid further layoffs, while the military industrial complex steps up its “Pentagon capitalism”? So far, the great increase in recent government debt has been to bail out the banking sector, not to help the “real” economy recover.

Increasing the debt burden of European nations has the same dire consequences. Germany balks at bailing out Greece unless Greece moves to streamline its bloated government and inefficient bureaucracy, stop tax evasion by the wealthy, clean up corruption and, in a word, be more Germanic. The U.S. “Austerian” budget cutters whom Mr. Krugman criticizes likewise can point to wasteful government spending, failing to distinguish positive infrastructure investment from pork-barrel “roads to nowhere” and tax loopholes promoted by Congressional politicians whose campaigns are sponsored by special financial interests, real estate and monopolies.

But I fear that Mr. Krugman is being drawn into the gravitational pull of Rubinomics, the Democratic Party’s black hole from which the light of clarity dealing with the debt issue and bad financial and legal structures simply cannot escape. The only variables he admits are structure-free: The federal government can indeed spend more and reduce interest rates (especially on mortgages) so that the higher mortgage debt, student debt, personal debt and corporate debt overhead can be afforded more easily. No need to write any of these debts down. That seemingly obvious and sensible structural solution lies outside the scope of Mr. Krugman’s neoclassical economics. He fails to recognize that debts that can’t be paid, won’t be. This is the immediate problem facing the U.S. and European economies today – and the way in which it is resolved will shape the coming generation.

The problem with Mr. Krugman’s analysis is that bank debt creation plays no analytic role in Mr. Krugman’s proposals to rescue the economy. It is as if the economy operates without wealth or debt, simply on the basis of spending power flowing into the economy from the government, and being spent on consumer goods, investment goods and taxes – not on debt service, pension fund set-asides or asset price inflation. If the government will spend enough – run up a large enough deficit to pump money into the spending stream, Keynesian-style – the economy can revive by enough to “earn its way out of debt.” The assumption is that the government will revive the economy on a broad enough scale to enable the individuals who owe the mortgages, student loans and other debts – and presumably even the states and localities that have fallen behind in their pension plan funding – to “catch up.”

Without recognizing the role of debt and taking into account the magnitude of negative equity and earnings shortfalls, one cannot see that what is preventing American industry from exporting more is the heavy debt overhead that diverts income to pay the Finance, Insurance and Real Estate (FIRE) sector. How can U.S. labor compete with foreign labor when employees and their employers are obliged to pay such high mortgage debt for its housing, such high student debt for its education, such high medical insurance and Social Security (FICA withholding), such high credit-card debt – all this even before spending on goods and services?

In fact, how can wage earners even afford to buy what they produce? The problem interfering with the circular flow between producers and consumers (“Say’s Law”) is not “saving” as such. It is debt payment. And unless debts are written down, the U.S. economy will shrink just as will the economies of Greece, Spain, Portugal, Italy, Ireland, Iceland and other countries subjected to the Washington Consensus of neoliberal austerity.

Michael Hudson’s new book summarizing his economic theories, “The Bubble and Beyond,” will be available in a few weeks on Amazon.

Transcript

Headlines around the world greeted the election results in Greece and France as a rejection of austerity programs by the electors of those countries. Well, what can Americans learn from the results of these elections and from the crisis in the eurozone?

Now joining us to talk about all of this is Michael Hudson. Michael is a former Wall Street financial analyst, and he’s a distinguished research professor of economics at the University of Missouri–Kansas City. He has a new book coming out soon called The Bubble and Beyond. Thanks for joining us, Michael.

MICHAEL HUDSON, RESEARCH PROFESSOR, UMKC: Thank you, Paul.

PAUL JAY, SENIOR EDITOR, TRNN:: So what should Americans take away from the European elections?

HUDSON: The same thing is happening in Europe that’s happening here. Left-wing parties, socialist parties, labor parties all say that they’re going to preserve the social contract, and as soon as they get into power, they sell out to their financial backers, they doublecross labor. The socialist party in Greece fell from 44 percent to 14 percent because the last party simply [incompr.] the most vicious anti-labor measures in Europe. Same thing in France now. Hollande of the French socialists, before the election, said he was going to beg, ask Europe, will you please not insist that we roll back our social programs. And just this morning he said, well, I asked and they said no. I’m afraid that in order to preserve Europe, in order to preserve the idea of a political harmony, we’re going to have to go ahead and impose more austerity on the people. I’m terribly sorry. But if you don’t like it, you can vote for another party in four years. But there’s going to be austerity, and we’re going to have to lower wages here, and there’s nothing to do. If you don’t lose our campaign contributors, the banks could lose, and we couldn’t have that, because if the banks lose, they say that that’s intolerable to them.

JAY: So one of the arguments that’s made is that whatever Hollande, for example, or even Obama in the United States—but let’s talk about Hollande—whatever he may want to do, if he wanted to kind of defy the austerity programs more resolutely, that he really can’t, because the levers of power of the banks and the financial institutions and in European situation the German elite and German banks, they have so much power that if you actually really try to defy these austerity policies, they can simply—you know, they raid the currency, they drive up interest rates. They have so many levers of power that someone like a Hollande really can’t stand up to them. So unless there’s kind of a really major transformation of capitalism as we know it in Europe, there’s not a heck of a lot Hollande can do. Now, that’s an argument. What do you make of that argument?

HUDSON: The banks really have no power at all except the power to bribe, and in Europe—in South America, the power to assassinate, which they do quite frequently. All they can do is bribe. Remember, we had the same argument over here about three years ago, when Sheila Bair wanted to take over Citibank, and she said, look, we can foreclose on Citibank, we can close down all these big banks on Wall Street anytime. They’re insolvent. We can pay all the depositors. There’s no problem at all. It’s very much like the sheriff in Blazing Saddles saying, I’m going to shoot myself in the head if you don’t do what I want. If the government were to take over the banks, they can pay all the depositors. The only people who would lose would be the very wealthy, who have more money in the banks that are insured. Sheila Bair said the bank bondholders would suffer, the counterparties would suffer. The banks have no power at all. The problem is the corruption of the politicians, who are just demagogues pretending to oppose the banks while actually being in their pocket. The banks don’t have any [incompr.] power. They don’t have any economic power, except they can bribe politicians.

JAY: Now, that would be a start for really transforming or changing the course of things, because most of the banks, certainly American banks, and European, for that matter, as well, if it hadn’t been for the public bailout, goes the argument, they wouldn’t be around anyway.

HUDSON: That’s right. The government became the major shareholder of the insolvent banks here, like Citibank and Bank of America. The same thing in Europe. If Europe banks caused the crisis, the governments can simply say, okay, we’re taking over the banks. Now we own them. Now that we own the banks, we’re going to write down the mortgages to the price that people can pay, which is [incompr.] We’re not going to pay other rich people. But financial reform and tax reform have to go together. And they’d say, we’re actually going to roll back all the tax cuts for the 1 percent, and we’re going to the begin taxing real estate again, we’re going to tax monopolies, we’re going to reintroduce progressive taxation just like we had for 30 years ago. If capitalism worked 30 years ago with higher taxation, with strong labor power, with a good property tax, and with affordable houses, it can work again. All of this is unnecessary, except if they can [incompr.] the banks and their politicians can convince people that there is no alternative. So that’s really the banks’ argument.

JAY: And when you go, why did capitalism change to this extent over the last 30 years, I mean, isn’t it because in fact the finance sector has become that much more powerful, that much more dominant in the economy, somewhat as it was in 1932-33 when it was very dominant? And we know the consequences of that.

HUDSON: The change over the last 30 years has been a drive by the finance sector to become more dominant steadily. So the finance sector has started a lot of think tanks, they’ve funded the research institutes, and they’ve bought control of the public media, so that they’ve been able to convince people that there really isn’t an alternative, and only talk about whether there is more austerity or chaos. But, of course, the alternative to austerity isn’t chaos; its economic democracy, it’s progressive taxation, it’s taxing the rich, it’s writing down the debts. There are many alternatives. And what they’ve done is make sure that none of these alternatives get discussed in the public press or in the media. That’s why we’re on The Real News Network talking about it, not in The New York Times or the Fox media.

JAY: Now, in one of your recent pieces, you wrote that the kind of grab, wealth grab, I guess, that’s going on right now is something akin to the way feudalism developed. What did you mean by that?

HUDSON: The—1,000 years ago, it took a military army to come in and conquer a country and grab the land and charge the people rent, to take control of the monopolies and charge people huge markups from the monopolies, and to essentially shift the taxes off the wealthy, onto the population that was conquered. Now, in today’s world, they can’t afford an army anymore. The Vietnam War showed that no country can afford a military occupation anymore. So finance today is the means of conquering a country and getting what in the past took an army. Financial conquest is how you shift the taxes onto the population to pay the financial sector, how you load a population down with debt and make a population pay interest and amortization and penalties on debt service, you make a population pay for schooling instead of getting it free or a low price as used to be the case, you make a population take on a lifetime of debt in order to get a home that used to be affordable, you make the governments go into debt for the banks, so that in Europe governments can’t—don’t have a central bank to monetize their own deficits but actually have to borrow money from banks. You achieve—you essentially empty out an economy, and you take its economic surplus financially without an army, just by trying to promote what really is junk economics and junk politics, if the economics of Rubinomics in America under Clinton and Rubenomics in America under George Bush, and now with a vengeance under Obama—.

JAY: Just to conclude, let’s come back to America. What do you make of these elections? I’m a little perplexed how this goes. I mean, as critical as we are of President Obama and his policies and his connection to Wall Street and his neoliberal model and such, at least at a certain level he promises something that would be better for people’s well-being. He’s—more than the Republicans, would be on the side of some stimulus, extending unemployment insurance, certain kinds of benefits. You can say at least there’s some modicum of something there. My question is, from the Republican side, if you’re an ordinary person, I don’t understand how there’s anything in it for you. On the other hand, Romney is polling neck-and-neck with Obama. I mean, what’s your understanding of this?

HUDSON: I think the people who vote for Romney are the same people who voted in Europe for, essentially, throw the rascals out. When people are unhappy with an economic situation, they simply vote for the other party, whoever it is, and it’s a flip-flop back and forth. The Republicans very much want—the backers of the Republicans are the same backers who backed Obama. They’re the Wall Street people. They want Obama to come in for a second term and then really move against Social Security.

Obama’s the only person—only a Democratic president can swing a Democratic Congress or Senate over to the right wing. So you need the Republicans to make—go so far on the right that Obama, who in the past would have been looked at as a right-winger or Republican, you need to make him look reasonable. And if you can push the crazies, as the Republicans are doing, then Obama seems less bad than the alternative. In fact, he gave a campaign speech a month ago, and he said, well, look at the alternative. I’m better.

JAY: Well, there is some truth to that, in the sense that from the point of view of an ordinary person, if you look at Republican state governments, the Republicans state governments are worse. Even if the Democratic state governments aren’t good, the Republicans are—governments are—in terms of the interests of ordinary people, is, it seems, a heck of a lot worse.

HUDSON: Yup. Isn’t that crazy choice, to have to choose between these two, between an absolute terrible alternative and just a bad alternative? That’s the choice we have. Yes, please, or yes, thank you, to a choice that—you know, where is the left in America? Where is the left in Europe? Where is what used to be the left? I don’t see it anymore anywhere.

JAY: Well, there’s some left, I think, in America, but what—I think the question that needs to be asked is: where the heck are the leaders of the trade union movement in America? Not all but most of the main leadership are just—simply go out and campaign for whoever the Democratic Party leader is, and even though they get nothing—next to nothing when they’re elected, they’re back there out stumping for them again.

HUDSON: Oh, you’re such an young guy. Back in the 1950s, I used to go to socialist meetings, and people would say, why do the trade union people keep thinking they’re locked into the Democrats? And the answer is: well, that’s the two-party system. There isn’t really room for a third party here. And all the Republicans have to do is say, no, we’re worse, and it just scares people to actually vote for the Democrats. But people have been asking that question for 60 years, and nobody’s come up with a better answer since.

JAY: Well, what’s your answer?

HUDSON: I think you need a third party or you need to break away from the Democratic Party for people like Dennis Kucinich or the more progressive people. You need what was called 50 years ago realignment. And that realignment that people saw even then was necessary hasn’t occurred, and it hasn’t occurred in Europe either. That’s why everybody is so frustrated. In France and Greece and everywhere else in Europe, they’re equally frustrated. There doesn’t seem to be any alternative. And that’s exactly what Mrs. Thatcher liked to say, there is no alternative. And it’s just amazing when there really are so many alternatives that people can be convinced that there aren’t and become so dispirited they just give up. So the fact is that most Americans are going to vote with their backsides. They’re just not going to vote this November.

JAY: Right. Thanks for joining us, Michael.

HUDSON: Thank you, Paul.

JAY: And thank you for joining us on The Real News Network.

During the interview for the documentary Real Estate 4 Ransom, Prof Michael Hudson discusses Greenspan’s reputation in his formative days on Wall St, discussing a controversial 1966 incident.

Transcript

Why are real wages falling?

MH: They’ve (wages) been going down because essentially the economy shifted radically throughout the world, starting in 1979, when Margaret Thatcher was elected Prime Minister of England and Ronald Reagan was elected President of here (The USA) … claiming to defend capital. The Reagan Bush Administration in its 12 years, quadrupled American debt by slashing taxes on the upper brackets while sharply increasing taxes on labour.

They increased it largely by having Alan Greenspan create the Greenspan Commission to look at social security and pushing the myth that social security had to be funded out of pre savings, so American labour was essentially taxed 11% between itself and the employers to pay social security and this vast increase in social security taxes was used to lend to the Government(US) to provide it with enough money to slash taxes on the rich and that was Greenspan’s ploy.

He was rewarded by being made head of the Federal Reserve for his actual hatred of labour and his desire that you had to reduce living standards in order to increase the profits of capital.

When I was on Wall Street, Greenspan was hired as part of a study I was doing on the balance of payments of the Oil Industry. And one day my boss, John Deaver came into my office and said he really worried about Greenspan being a part of this report because he was known as a hack that always gave …his clients what they wanted instead of something actual.

So he (JD) gave me Greenspan’s figures on depreciation of oil producing refinery assets in Europe and asked me to find out where the faking is? He said he couldn’t believe that Greenspan by himself wouldn’t of just faked the figures and it took me about a week to figure out where the faking of the figures came out (from) and that was Greenspan had simply picked up depreciation rates relative to output for the United States and projected them onto Europe.

So I went over and talked to his assistant Lucille Woo and she said “it’s all implicit, all implicit” and I confronted her with it and she said “Yes that’s what we did”!

And so, Greenspan was indeed ‘talked off the study’ and we met… John Deaver, David Rockefeller and myself and I was told…Greenspan was such a little bastard that if they fired him, he’d hold a grudge against Chase Manhattan for years and they told me to be the guy to give him the news that we couldn’t use his (laughs) statistics on it and I was a 25 year old economist at the time and he hardly new me at all, so I was the guy that…subsequently became known as ‘the man who fired Alan Greenspan’.

Suppose you were alive back in 1945 and were told about all the new technology that would be invented between then and now: the computers and internet, mobile phones and other consumer electronics, faster and cheaper air travel, super trains and even outer space exploration, higher gas mileage on the ground, plastics, medical breakthroughs and science in general. You would have imagined what nearly all futurists expected: that we would be living in a life of leisure society by this time. Rising productivity would raise wages and living standards, enabling people to work shorter hours under more relaxed and less pressured workplace conditions.

Why hasn’t this occurred in recent years? In light of the enormous productivity gains since the end of World War II – and especially since 1980 – why isn’t everyone rich and enjoying the leisure economy that was promised? If the 99% is not getting the fruits of higher productivity, who is? Where has it gone?

Under Stalinism the surplus went to the state, which used it to increase tangible capital investment – in factories, power production, transportation and other basic industry and infrastructure. But where is it going under today’s finance capitalism? Much of it has gone into industry, construction and infrastructure, as it would in any kind of political economy. And much also is consumed in military overhead, in luxury production for the wealthy, and invested abroad. But most of the gains have gone to the financial sector – higher loans for real estate, and purchases of stocks and bonds.

Loans need to be repaid, and stocks and bonds receive dividends and interest. For the economy at large, people are working longer just to maintain their living standards, which are being squeezed. Women have entered the labor force in unprecedented numbers over the past half-century – and of course, this has raised the status of women. Mechanization of housework and other tasks at home has freed them for professional life outside the home. But on balance, work has increased.

What also has increased has been debt. When World War II ended, John Maynard Keynes and other economists worried that as societies got richer, people would save more. For them, the problem was to keep market demand high enough to buy all the output that was being produced.

And indeed today, markets are shrinking in many countries. But not because people are saving out of prosperity. The jump in reported “saving” in the National Income and Product Accounts (NIPA) in recent years has resulted from repaying debts. It is a negation of a negation – and hence, a statistical “positive.”

Paying off a debt is not the same as building up liquid savings in a bank. It reflects something that only a very few economists have worried about over the past century: the prospect of debts rising faster than income, leading to financial crashes that transfer property from debtors to creditors, and indeed polarize society between what the Occupy Wall Street movement calls the 1% and the 99%.

What also was expected universally fifty years ago – indeed, until about 1980 – was that governments would play an increasingly important economic role, not only as forward planners but as direct investors in infrastructure. To Keynesians, government spending served to pump money into the economy, maintaining demand and employment in cyclical downturns. And for hundreds of years, governments have undertaken basic infrastructure spending so that private owners would not use monopoly privileges to charge economic rent.

Nearly all observers expected the fruits of technology to trickle down, not be siphoned up to the top, to the banking sector whose “financial engineering” played no directly technological role in the production process. Textbook models describe – or rather, assume – that rising productivity will be passed on to labor in the form of lower prices (reflecting falling costs of production, enabling wages to buy more) or, if prices are “sticky,” higher wages.

According to what the textbooks called Say’s Law, there is a circular flow between producers and consumers. Workers must be able to buy the results of what they produce. This correlation between output and consumption goes back to the Physiocrats prior to the French Revolution, who created economics and account keeping. Their founder, François Quesnay, was a medical doctor and a surgeon. He created the basic format of national income accounting on the analogy of the circulation of blood within the body. An increase in production had to find its counterpart in increased consumption, creating its market by paying workers who spent their wages on buying the products they produced.

Working harder, producing more, but going into debt to buy it

After World War II many women stayed home and raised families. But since the 1950s they have been forced increasingly into the labour force for what are called two-job families – and now, three-job families (with only two family members). If you project labor participation rates, by the year 2020 every woman will have to work 18 hours a day or economic trends will falter.

What was applauded as a post-industrial economy has turned into a financialized economy. The reason you have to work so much harder than before, even when wages rise, is to carry your debt overhead. You’re unable to buy the goods you produce because you need to pay your bankers. And the only way that you can barely maintain your living standards is to borrow even more. This means having to pay back even more in years to come.

That is the Eurozone plan in a nutshell for its economic future. It is a financial plan that is replacing industrial capitalism – with finance capitalism.

Industrial capitalism was based on increasing production and expanding markets. Industrialists were supposed to use their profits to build more factories, buy more machinery and hire more labor. But this is not what happens under finance capitalism. Banks lend out their receipt of interest, fees and penalties (which now yield credit card companies as much as interest) in new loans.

The problem is that income used to pay debts cannot simultaneously be used to buy the goods and services that labor produces. So when wages and living standards do not rise, how are producers to sell – unless they find new markets abroad? The gains have been siphoned off by finance. And the financial dynamic ends up in austerity.

And to make matters worse, it is not the fat that is cut. The fat is the financial sector. What is cut is the bone: the industrial sector. So when writers refer to a post-industrial economy led by the banks, they imply deindustrialization. And for you it means unemployment and lower wages. 

Financial dynamics vs. industrial dynamics

The accumulation of payments on interest-bearing debt leads companies to search for new loan markets, just as industrialists seek out new markets for their expanding output. This search means looking for assets in place to be pledged as collateral. The largest asset in any economy is real estate – mainly the land’s site value. So about 80 percent of bank loans are mortgage loans. But by 1980 property prices had turned down as interest rates rose during the Vietnam War and the general Cold War buildup throughout the world. Overseas military spending obliged the Federal Reserve to raise interest rates to borrow abroad to prevent the dollar’s exchange rate from declining.

So in the 1980s banks found a new market: corporate raiders treated companies much like real estate, to be bought on credit and managed to create a capital gain. The rise in interest rates to 20 percent by 1980 forced most states to revoke their usury laws, and credit card companies played states against each other in a race to the bottom when it came to protecting consumer rights. So the high-interest junk bond was born, largely at the hands of Michael Milken’s gang at Drexel Burnham.

American industry began to be financialized (and in the process, criminalized). But running a company to make a financial gain is different from running an industrial firm to expand production. Cash flow that was not paid to bankers and bondholders for the credit to buy out stock holders was used for purposes other than direct capital investment – above all for stock buybacks to support their price, and for mergers and acquisitions to acquire yet more companies.

The aim was not to increase production but to increase balance-sheet wealth – while extracting revenue from companies much like landlords bleeding a building. That is the time frame of finance capital, in contrast to industrial capital. It is short-term, not long term. This is why it is extractive rather than productive. The revenue has no counterpart in new direct investment in output, but rather in overhead debt extracting a rising flow of interest from the economy.

“Wealth creation” by debt leveraging – that is, asset-price inflation – was celebrated as a post-industrial economy, as if this were a positive and natural evolution. But in reality it is a lapse back into a rentier economy, and even into a kind of neofeudalism. The post-2008 bailouts have vested a new rentier elite to lord it over the 21st century, thanks to the fact that most gains since 1980 have gone to the 1% – mainly the financial sector, not to the 99%.

In the end this shrinks the economy – and that means that more and more loans will go bad, until crisis levels are reached at the point where lenders realize that there is no more room to extract more, and stop lending. But in the absence of government budget deficits, bank lending is the only support for demand – so the financial rug is pulled out from under the economy. That is the point at which banks demand bailouts – giving them the money, rather than giving the economy the revenue to spend and pull itself out of depression. So government debt is increased by giveaways to the banks, not by spending into the “real” economy.

Economics textbooks teach supply and demand curves. Every marginal increase in supply lowers the price of what is being supplied. For the job market this means that the higher the unemployment rate, the lower wages will fall. Conversely, the more workers you hire, the more you have to pay to attract workers. Government officials and bankers are indoctrinated in these textbooks and conclude that the less employment there is, the more wages will fall – thereby presumably leaving a wider profit margin, assuming that the goods can still be sold at a steady price. So employers seek to earn more by keeping employment low enough to prevent wages from rising. This maximizes the power of wealth over labor.

Economists conclude that to make economies more competitive, they need to keep wages low so as to undersell other countries. So a race to the bottom develops. But what seems to help countries compete actually hurts their domestic market.

Back in the 19th century this was called the reserve army of the unemployed. Unemployment keeps labour down. And even more important, to the extent that incomes do rise, they are paid out as debt service. A dynamic is put in place in which debt keeps labor down – not only by eating up its wages in debt service, but in making workers suffer sharp increases in the interest rates they have to pay or even risk losing their homes if they miss a payment by going on strike or being fired. Alan Greenspan explained that unemployment was not needed to keep labor down these days. All that is needed is to traumatize and disable them politically by debt leverage. (Quote his Senate testimony)

This is why, despite the fact that productivity has risen so dramatically, the real economy and its wage levels have tapered off in an S curve. The magic of compound interest has increased debt (and the savings of the 1%) to more than absorb the productivity gains. And this financial overgrowth has accrued to the 1%, not to the 99%.

Finance is what makes today’s economy different from that of 1945. We are at the end of a long cycle. Back in 1945 the private sector in every country was relatively free of debt. There was little civilian output for consumers to buy during the wartime years. Companies had little reason to invest, except for the government’s military demand. So most families had little debt – and a lot of savings, and good job opportunities after the return to peace. But today the economy is in reverse. Savings have been run down and consumers, real estate and industry is left in debt.

Untaxing land rent and monopoly rent so that it can be paid to the bankers, not to government


To stop this reversal, it is necessary to understand its causes. They are not only financial. The banking interests have gained sufficient power to distort tax policy, creating a dual fiscal-financial problem. Taxes have been shifted off the major bank customers – real estate and monopolies – onto labor and consumers. In the United States, two-thirds of state and local tax revenues in the 1930s came from the property tax. Today the proportion has fallen to only one-sixth. States and cities replaced property taxes with income and sales taxes. Europe and the post-Soviet economies have adopted the most anti-labour tax of all – the value added tax.

The rationale is that it is easy to collect. But it falls on consumers, not on the economy’s free lunch of economic rent as advocated by classical free market economists. The value added tax adds to consumer prices and shrinks the market, preventing labor from buying the goods it produces. This is done simply to free more land rent, natural resource rent and monopoly rent from taxation so that it can be paid to bankers as interest.

When voters threaten to elect politicians to pursue less bank-friendly policies, the EU announces that the country needs a technocrat to impose more taxes to bail out the banks for their bad loans. It is all in vain without changing the system, because today’s financial business plan cannot work for more than a short time. Being extractive rather than productive, it leaves a swath of bankruptcy in its wake. Yet it is the banks that the technocrats are saving, not labor and industry, the “real” economy’s employment, social spending and public wealth.

Changing Social Security from being paid out of progressive taxation to a regressive labor tax

In 1982, bank lobbyist Alan Greenspan was appointed to head a U.S. commission to shift Social Security out of the public budget (where it was funded largely by progressive taxation) and fund it by user fees that fall on employees and employers. The aim was to privatize it Chilean style. Wall Street’s dream is to turn wage set-asides over to money managers to buy stocks and create a stock market boom (and in the end, siphon off commissions and push contributors into high-risk bets on the losing side of the deal with large financial institutions, Goldman Sachs style). In effect, Mr. Greenspan’s position was that Social Security should not be a public service. It should be a user fee, so that prospective retirees would pay for it in advance. Their savings were to be lent to the government to enable the Treasury to slash taxes on the higher income and wealth brackets. So the effect was to reverse the long trend toward progressive taxation.

The upshot of the Greenspan tax increases (only on labor, not on wealthy earners) was to create a budget surplus for the Social Security Administration, enabling the government to cut taxes on real estate, on finance, and for the rich in general. Capital gains taxes in particular were cut in half. And real estate investors (absentee owners, not homeowners) were allowed to pretend that the value of their holdings were depreciating rather than rising in price, by junk accounting based on junk economics.

The end game came when the Bush and Obama administrations announced, in effect, “We’re broke. So now we have to balance the budget by cutting social spending and raising the Social Security tax further. We’ve cut taxes on the rich by so much that the workers have not paid enough to cover this give-away, not to mention fighting the Bush-Cheney war in Iraq and the Obama Administration’s war in Afghanistan – or for that matter, the class war against labour.

Under Pension Fund Capitalism, employees are encouraged to think of themselves as capitalists in miniature – and provide for their retirement by employee stock ownership programs rather than saving up their wages themselves or having pensions financed on a pay-as-you-go basis out of future production. The idea is to make money from money (MM’), not by producing commodities (M-C-M’). In America, half the employee stock ownership plans (ESOPs) have gone bankrupt, mainly by being grabbed by the corporate employers. Corporate raiders borrow credit from bankers and bond investors to fund management buyouts. The plan is to buy out stockholders, pledging the earnings to pay out as interest. And not only earnings; they loot the employee pension plans. George Akerlof won the 20– Nobel Prize for describing this. But novelists have recognized it more than economists. It was Balzac who said that behind every great family fortune is a great theft, often long forgotten to be sure.

Today’s economy is based on theft under the euphemism of “free enterprise.” It’s sometimes called “socialism for the rich” because they receive most government subsidy. But it’s not the kind of socialism that people talked about a hundred years ago. It is a travesty of social democracy and socialism. In a word, it’s oligarchy. But we’re living in an Orwellian world. No party calls themselves fascist today, or even anti-labor. They call themselves social democracy. But it’s the opposite of what social democracy meant in the 19th and early 20th century.

Social Security has not yet been privatized, but education has – not only privatized, but financialized. Students no longer get free or low-priced education. In order to qualify for professional jobs in America, they have to take out loans that put them deeply in debt. Then, when it comes time to start a family, they have to take on a lifetime 30-year mortgage debt. They need to take out an auto loan to buy an automobile to drive to work, especially where public transportation has been dismantled as in Los Angeles. And when their paychecks are squeezed more, they can maintain their living standards and social status only by taking on credit card debt.

Paying the carrying charges on this debt diverts spending away from the goods and services that employees produce. The result is debt deflation. Employees have less and less ability to buy what they produce – except by taking on even more debt. That’s why banks and bondholders have ended up with the increase in productivity – almost synonymous with the 1%. They are the core of the Finance, Insurance, and Real Estate (FIRE) sector that now absorbs most of the economic surplus in the form of various types of economic rent: land and natural resource rent, monopoly privilege and financial overhead.

The inversion of classical free market reform to its diametric opposite

Classical political economy sought to mobilize democratic government to tax the rentiers: landlord, monopolists and bankers. The objective was to create an industrial surplus and, in the process, raise productivity, wage levels and living standards. To keep prices low and hence national economies competitive, governments were to undertake society’s largest spending programs: basic infrastructure such as transportation, power production, communications – all of which happen to be natural monopolies as well. So the aim was not only to provide basic infrastructure needs freely or at subsidized prices, but to prevent private owners from erecting tollbooths on roads and charging monopoly prices for power, phone systems (as in Telmex in Mexico or similar phone monopolies in the post-Soviet kleptocracies).

Post-classical economics (deceptively called neoclassical) seeks to untax the rentiers, and shift the costs of government onto labor and even onto industry. To achieve this, democracy is rolled back to oligarchies. But this time they are controlled not by landlords as in the case of Europe’s landed aristocracies, but bankers and financiers. And their aim is to privatize the public domain with its monopolies. Bankers advance the credit to buyers, who install tollbooths and raise prices for basic needs. By paying out their revenue in a tax-exempt form, as interest, they keep their income out of the hands of government – forcing national treasuries to tax labor and industry, consumers and producers rather than finance, insurance and real estate. Governments thus become the protectors of monopoly and its financing.

It is a short-term policy. By raising domestic price levels, financialized economies price themselves out of global markets – unless than can create a world order in which all economies are symmetrically debt-burdened. This is where the International Monetary Fund, World Bank and World Trade Organization are brought into play – to financialize globalization, excluding countries as pariahs if they do not join this self-destructive and self-terminating system.

An object lesson of the shift from classical democracy to post-classical oligarchy is a country that is held out to you as a success story: Latvia, where neoliberals had a completely free hand, as they did in Russia. What they call a neoliberal paradise turned out to be debt-ridden kleptocracy. The country has a set of flat taxes on employment of 59 percent – and only a 1 percent real estate tax.

You can imagine what happened with real estate taxed so low and labor taxed so high. Employment was high-cost – but there was a real estate bubble. When I was Research Director at the Riga Graduate School of Law, I visited the government agency in charge of property assessments, and asked how they got the 1 percent. I was told that they based it on the most recent real estate appraisal they had. This turned out to be back in 1917, before the Russian Revolution. (The lead assessor had written her doctoral dissertation on this survey.) Whatever the tax collector gives up and relinquishes in taxes, is available to be paid to the banks as interest. So housing prices are bid up in price – on credit – while the tax collector has to turn to labor and industry for the revenue that has been given up. Instead of paying taxes, new homebuyers pay interest to the bankers. The upshot is that the banks end up with the rent that used to accrue to the landed aristocracies of Europe. This is making bankers the new aristocracy.

When I headed an international investigative economic team in 2010, we visited Latvia’s bank insurance agency and were told that they had anticipated a collapse of the bubble. Their response was to advise banks to back their mortgage loans not only with the property as collateral, but to get as many family members as possible to co-sign the loan. That way, if and when default occurred, the parents, siblings or other relatives would be personally liable.


The bank regulators did not urge the government to tax real estate more. That would have squeezed homeowners on their bank loans – and left less new rental income to be capitalized into new bank loans. But it would have enabled the government to reduce its heavy taxes on employment. This was not the bank regulators’ concern – and bankers themselves saw their main business in lending to fuel real estate, not industry, given what the neoliberals did to Latvia’s economy and that of the other Baltic states!

Unfair? Economically polarizing and destructive? Of course. But the bank insurers said that their task was to protect bank solvency, not create an optimum economic structure.

One result is that a recent EU survey found that one-third of Latvia’s population between the age of 20 and 35 either had emigrated or was planning to do so. As of 2012 the country’s population recently has shrunk by 15 percent. Marriage and birth rates are falling off, as they are throughout the post-Soviet economies. After all, who can marry and buy a house when your wages are taxed at 59 percent and you have to take on a debt?

Iceland provides another object lesson. Even more than Latvia, it became a rogue banker’s paradise – and also one for vulture banks. Their loans are indexed to the consumer price index – which means in practice to the foreign exchange rate. The krónur plunged after the banks crashed in 2008. The result a 1,000 krónur debt has become perhaps 1,800 – against property that has fallen from the equivalent of 1000 krónur down to perhaps 400 krónur. This leaves many families in negative equity. And they are personally liable.

When the crooked banks of Iceland went under (and they’ve only recently begun to arrest some of the crooks) the government took them over and, on European advice, sold them to vulture investors, for around ten cents on the dollar. Despite the fact that Iceland’s constitution said that they were not allowed to increase debts by indexing, this is just what the banks did. If the government had taken over, it could have written down the debts to the ability to pay. But the new vulture banks have not done this. And the Social Democratic government backed their rights to make as much as they can, rather than giving priority to the welfare of the Icelandic people.

What I find so striking is how far to the right wing of the political spectrum the Social Democratic and Labour parties have moved. Iceland’s Social Democratic leadership explained that it wanted to be part of Europe. But this meant acting on behalf of the British and Dutch bankers, not democratically on behalf of Icelanders. They acted on behalf of the emerging financial oligarchy.

I’ve known many of the social democratic leaders of America and the world since I was a young boy. My father was a socialist labor leader and political prisoner from Minneapolis, which was the high point of American labor history as a result of its great General Strike in the 1930s. I was told by a Socialist Party leader (Terence McCarthy) in the early 1960s that the travel and hotel expenses of nearly every member of the Socialist International (the Second International, of which Dmitri Papandreou of Greece is President as of autumn 2011) was paid for by the CIA or its front organizations. I watched the Socialist Party in America come to support the Vietnam War, and Michael Harrington ban criticism of the war in its youth magazine – driving it to quickly lose most of its members.

Harrington and his mentor, Max Shachtman, took this position because they believed that the West could not be persuaded to be Marxist until the world was freed from the Stalinist travesty that claimed to be Marxist. So the Social Democratic Party of America joined the Cold War effort. Politics was turned upside down by the triangulation of socialism, Stalinism and the ability of the United States to back and finance European social democrats to support the banks and “centrists.” This became the tragedy of the old non-Stalinist left in America and other countries. So the Social Democratic leadership imagined (or simply sold out to pretend to believe) that “free financial markets” would lead the world into economic progress.

This was just the opposite from the Progressive Era and indeed, what industrial capitalism promised. The Social Democratic parties of Iceland, Britain, Greece, Scandinavia and other European countries have adopted the position that the way to re-employ labor is to impose austerity. Budgets are to be balanced by lowering wages by 30 percent, and shifting taxes off the finance, insurance and real estate sector onto consumers.

Taxes on labor add to its cost. So competitive power would be maximized by untaxing labor and consumer goods, by getting rid of the value-added tax. But not all taxes are bad. The classical free market economists endorsed taxes on unearned income: land rent and natural resources, monopoly rent and financial privilege. These categories of income have no counterpart in a cost of production undertaken by the rent recipient. The more that governments can shift the tax burden onto land and property, the lower housing prices will be – and the less governments will need to tax labor by income and sales taxes.

Bankers back anti-government ideology because they want to obtain all of the untaxed rental revenue as interest. So taxes that otherwise would be paid to the government will be paid to the bankers. The result – what you’re seeing today in Europe and North America – is an economic grab that is in many ways like that which gave birth to European feudalism. But this time around it is financial, not military.

Recorded March 7th

Listen to the interview recorded March 7th.

Transcription:

MH: Prof Michael Hudson, Distinguished Research Professor at the University of Missouri-Kansas City.
KF: Karl Fitzgerald

KF: Professor Michael Hudson, welcome back to the show! Our listeners certainly appreciate your time. Can you explain to us why economic growth is necessary?

MH: Well for one thing, populations grow and so you have to provide more goods and services. For another thing, people expect to have rising living standards. As long as technology is increasing productivity, people think it is fair that some of this productivity should be passed on to the workers and the population as a whole, rather than what occurs in the United States for the last 30 years, where almost of the productivity growth has been siphoned off by the financial sector, which causes great inequality as sucked up to the top of the pyramid and the bottom of the pyramid is impoverished.

You need growth in order to raise up the parts of the economy and the population that are less educated or less productive. You have to keep your economy growing to keep up with other countries that are introducing better technologies so that you do not fall behind and become dependent on them. So there are social welfare reasons and national security reasons, and the basic internal dynamic is that if you are going to have an economy that has to pay interest, you are going to have to have the economy grow by at least enough to carry its debts, otherwise there are going to be insolvencies and foreclosures and the kind of economy you have in the United States, Greece or Latvia.

KF: So how much of this growth mantra is reliant upon the ever-expanding money supply?

MH: By the money supply you really mean debt supply. You are making the difference in principle between the growth of financial wealth – the value of stocks, bonds and real estate – and the growth of productive capacity and real wealth. These two terms are very often used interchangeably, so that it is the money that increases the volume of debt – because money is debt – and the debt becomes parasitic and actually stifles growth. So if you have one kind of growth – booming financial fortunes in the stock market, higher real-estate prices and more expensive means of living – then you are going to have slower growth in the real economy because money is diverted from peoples’ pay-checks away from buying goods and services to just having to pay the banks.

KF: What about the role of compound interest?

MH: Well that’s the problem – compound interest keeps doubling and redoubling. Any interest rate is a doubling time. If you take the number 72, for instance, and take any given rate of interest – 5%, 6% or 7% – and you divide 72 by this number, you will get the number of years that it takes for a given amount of savings to double.

The fact is that no economy in history has ever grown as fast as its debts have grown. And that is why business cycles slow down – as debts grow faster than outputs, more and more money is diverted away from spending on goods and services, there is less direct investment, less new hiring and increased vacancies, and people have to pay more to the financial sector and that turns out to be a means of stifling growth.

KF: Can you outline when compound interest came into play and what some of the forces were behind it?

MH: It is first documented clearly in around 2400BC when the Sumerian city of Lagash went to war with Umma and it is said that Umma had to pay reparations at the going interest rate, which was one shekel per mina per month, which works out at 20% per year. The calculation ran into the millions of bushels of grain that Umma owed, and so Sumer erected a stone on the boundary between Lagash and Umma saying “You owe us this much money, and if you do not pay it we are going to go to war.” So the first compound interest on record was money owed by a city as war reparations to the victor.

KF: Surprise, surprise. And did that become a commonplace event from that point on?

MH: Yes – the scribes, who were the intellectuals (the people who wrote cuneiform in Sumer) wrote textbooks and we have the textbooks that they taught. What I’m amazed to find out is that the textbooks and the economic models that were taught in 2000BC are superior to any of the models – the mathematics – that win Nobel prizes today. The Sumerians were very clear on what the mathematics were, and they are easy enough that any high-school student can understand them. The Sumerians said “How long does it take one mina to double at the rate of 20% per year?” – and the answer is 5 years. Now no economy can grow that fast, and in fact the Sumerians and Babylonians also had mathematical models for how fast herds grow and other activities grow, and these are S-curves. So the real economy grows in an S curve, but exponential compound interest keeps on growing until the debts exceed the amount that can be paid. This became very clear to the Sumerians and, realizing this, when a new Sumerian, Babylonian or other near-Eastern ruler would celebrate the first year on the throne, they would cancel all of the consumer debts so that they could begin with a clean slate. They would liberate the bond-servants who had been pledged for debts and they would return the land, or the crop rights, to the families that had forfeited them to foreclosing creditors. The whole economy could start with everybody able to support themselves. Having land was a condition for being able to fight in the army and defend the country against other city states that were trying to invade it, so the idea of a clean slate was for military reasons as well for social justice and plain economic logic.

KF: So why have we been conned into believing that compound interest is a legitimate banking operation, and can you explain that within the realm of the social contract and the privilege of creating money or debt that bankers have?

MH: About a hundred years ago, the financial sector joined with the landlords in being the major donors to the business schools and also the major donors to the political campaigns, and they sponsored economics departments and the mass media to tell people that all of the debts could be paid and that economies automatically settled down to equilibrium, and as the Chicago school of monetarists said, debts do not really matter because we owe it all to ourselves.

Well, when someone says that an economy owes all the debts to itself, what they really mean is that 99% of the population owe the debts to 1% of the population. The financial sector has turned what used to be classical political economy into what really is junk economics, in which the real economic problems that we have today cannot exist in principle. Reality cannot exist according to the textbooks!

Instead what they teach students is a kind of happy-faced science fiction story, where everybody can pay the debts and everybody earns whatever they get. Classical economics was all based, for 800 years, on the principle that there is such a thing as unearned income – land rents, interest and monopoly rents all were not earned; they were the result of privilege. But the reaction against classical economics said “Everybody earns exactly what get.” So the national income accounts and product accounts that the governments publish all say that whatever the financial sector earns is providing a service of collecting the debt. Landlords provide a service by providing the land (that nature already provided, but somehow they interjected themselves right in between). One no longer hears words like rentier, or unearned income or unearned increment. And yet this is what 19th-century classical economics is all about, from the physiocrats to Adam Smith to John Stuart Mill.

KF: Can you explain then how this unreality in the financial sector has grown into this monstrous derivatives bubble?

MH: Well an unrealistic theory has real-world consequences. If people follow a false map, then they are acting in reality but the map is unrealistic. So what you have is that banks, instead of making money by lending money and collecting interest, have turned finance into what is called casino capitalism, and banks let people bet on which way interest rates will go (these are called forward options), or which way foreign exchange will go – so you can bet that the Australian dollar will go up or down against the US dollar. And all of a sudden you have turned the financial market into a kind of horse race or casino and people can bet enormous amounts on which way capital markets will go. None of these bets actually fund industrial investment or tangible investment. So we are brought back to the first point that you made at the beginning of the show, saying “What is wealth?” Is it the real means of production and consumption, or is it all the counters that the gamblers win in the derivatives casino on Wall Street?

KF: What is the big play going on between US banks and the euro in the world of shorting, and can you explain what shorting is?

MH: Shorting is when you promise to deliver a stock or a security or a bond at a given price. For instance, you can say “I will sell you a Greek bond that is 50 cents on the dollar.” That means that if the price of Greek bonds plunges and they default, you can buy them at 25 cents on the dollar and sell them at 50 cents on the dollar and make a mark-up. The way this plays out between America and Greece is that apparently, a few months ago, Europe had told Greece that Greece would have to write down the debts to about 25 cents on the dollar. The US Treasury Secretary, Timothy Geithner, went over to Europe and said that our US banks believed that Europe would bail out Greece and lend it the money to pay, so they have all made counter-parties to bet that Greece is going to pay 100 cents on the dollar. And your banks in Greece and France and Germany have all taken out insurance – they have bet that the price will go down, so if Greece defaults, we Americans are going to have to pay maybe $50 billion on losing bets. We would like you to please do what Europeans are supposed to do – will you commit financial suicide and will your leaders support the US banks against your own banks so that we will not lose money? Otherwise we will make sure that you do not win elections because we will pour American money into your opponents and we will put in a puppet government that does whatever we want. So it is your money or your life – you had better do what America tells you to do and bail out Greece. Well, I was told by German bankers that they told them, “Get the hell out of here!” And the result is that Greece is probably going to default in two days. So Mr Geithner said, “Look, if we go under, I’m going to make sure that we are really going to do everything we can to hurt you, but I’ll give you the money – we at the Federal Reserve will just print tens of billions of dollars and we will give you the money to bail out Greece at US taxpayers’ expense so that our main campaign contributors, the Wall Street banks, will not lose money.” So in other words you have the Obama administration and the Secretary of the Treasury, loading down the American taxpayers with debt in order for yet another give-away for the banks that have made really bad judgments, and they are trying to make Europe lose too. Today in America, the stock markets fell 200 points on the Dow Jones Average because they realized that the game is up and this rip-off is going to stop, and the Obama administration has just shamefully tried to double-cross the electorate to Wall Street, its campaign backers, yet again.

KF: Why is this going to happen in two days? I would have thought it might have happened closer to the end of the financial year for the banking sector to perhaps write off some of these losses.

MH: Because in two days, Greece sends out a tender asking all the banks that hold its bonds to save the American gamblers from losing by saying “Will you voluntarily write down the debts by 75%? Will you lose three-quarters of your money voluntarily so that the American banks won’t get angry and come over and shoot us?” That was the word used by the German bankers, that Americans will shoot them. They are afraid for their life – that is the real war going on and it frightens them. So the Greeks said, “Look, if you don’t voluntarily write down the bonds that we cannot pay to 25 cents on the dollar, we are going to announce that we are in default.” That happens on Thursday, and if that is in default, then all of the American casinos that have guaranteed against default are going to have to pay the German banks, the French banks, the Greek banks and the other European banks 100 cents on the dollar because that is what these banks have paid for – that is what a derivative and an insurance policy, or a credit default swap is, it is a guarantee. Like most American and British insurance companies, Wall Street does not want to pay. We have had pretty much a criminalization of the financial markets here in the United States, and actually, there has been a Nobel prize given to Akerlof for describing the financial sector as a criminalized sector, and that was an economics prize. So it is pretty much recognized in academia that Wall Street is corrupt, but this is not played up so much in the newspapers.

KF: So you have recently been in Germany and Italy and you had some private meetings with bankers – you are always called in as an adviser – is that where you found out this information on Geithner?

MH: Yes, from Frankfurt.

KF: What is your opinion about the role of the International Swaps and Derivatives Association, the ISDA, and their role in determining the definition of a default and how that would play out in the shorting swindle?

MH: Well for the last month there has been a decision – “Wait a minute – if Greece says ‘We cannot pay, will you lose 75% of your investment?’ is that really voluntary, or is it not voluntary?” Essentially they are saying to the banks, “Look, either you take 25 cents on the dollar, or you do not get anything.” That is what they said yesterday – that banks not exchanging their bonds will not get anything. This becomes a semantic issue – is this a default, or not? The ISDA is the official body deciding whether or not this a default. It is like the Oxford English Dictionary deciding whether a term is an English language word or not. They are deciding whether this is a default or not. US credit rating agencies like Standard and Poor, Moody’s and Fitch have already rated Greek bonds as junk. The trading on the derivatives market is already assuming that they are junk and that they will not get paid. And the question is, will the ISDA, made up of the large banks, decide that there is or is not a default. Well, obviously, banks that have taken out insurance will want to say “Yes, there is a default, we want to get paid.” And the insurance banks say, “No, no, no, there is no default, we do not have to pay.” So there is quite a bit of self-interest in this semantic determination of what is a default.

KF: Professor Hudson, you were recently in Italy, can you explain how and why you came to be there?

MH: Over 2100 Italians – regular, middle-class and working-class people all put up money, enough to bring four of us from the University of Missouri-Kansas City over. They brought me, the department chairman, Professor Bill Black and one of our bloggers, Marshall Auerbach, along with a Frenchman, Alan Parquez[?] to explain modern monetary theory to them and why Europe’s austerity is not necessary. What Europe needs is a kind of central bank, just as the United States, England and Australia have, that actually will fund and finance government deficits. The European Union pretends that it is wrong for a central bank to finance the government deficit. Rather than creating interest-free money, like other countries do, they force governments to borrow money from the banks at interest. This creates a lucrative market for the banks, but it forces the economy into depression because if the government does not run a deficit and build up its debt, then in a recession there is not going to be enough demand and purchasing power for the private sector to grow. So the European Union, the eurozone, is imposing austerity, suffering, poverty, bankruptcy, emigration and foreclosures on its populations needlessly. The Italians who brought us over said “Look, they are telling us that there is no alternative, that you have to give all the money to the rich, that you have to un-tax real-estate, that you have to untax wealth and you have to shift the taxes onto labor, that you need more unemployment and that this is a fact of nature. Is there an alternative?” And we were brought over to show them that, yes, there is an alternative. What they are doing in Europe is turning over central planning to the banks. Europe is more of a planned economy today than the Soviet Union was, in many ways, but the difference is that instead of being planned by government bureaucrats, it is planned by the bankers and the insurance companies. And if any of you have had to deal with an insurance company or a bank if you have had a complaint, you know what the problem is. As Professor Black pointed out, the behavior of economies run by banks is just as criminogenic as you had under Stalinism or centralized economies of that sort. That is what Europe is looting for – a corporatized, centrally-planned economy in the hands of bankers whose philosophy of growth is “We want your money.” The 1% wants whatever the 99% have, and they are going to force governments to borrow, families to borrow, they are going to charge for education and, especially, they are demanding that Greece privatizes its infrastructure so that new buyers can borrow the money and buy ports, sewer systems, water systems, land and real estate, and charge excess fees for these and turn Greece into a set of toll booths, and make a toll booth economy. That is what they call a free market – it is free for the landlords, free for the privatizers and free for finance to grab whatever they want from the rest of the economy. It is their freedom to reduce the rest of the economy to neo-serfdom and neo-feudalism.

KF: So in effect, monopoly is the new norm?

MH: That is what is called a free market in the European textbooks.

KF: Taxes since the great recession have not really switched onto labor through income taxes but they have through sales taxes. Can you discuss how that system is gamed by the upper echelons, because that is usually the argument, that the black market cannot avoid a sales tax and we cannot hide our money in a tax haven either.

MH: Well, of course, money can be held in tax havens and the European Union calculates that of the €50 billion that Greece owes, €45 billion is stashed away by wealthy people in Swiss banks alone, so of course the taxes can be avoided. The idea is that sales taxes are easy to collect. But the question is, what are you going to have? A tax system that is easy to administer, or a tax system that makes sense and has the economy grow. If you have a sales tax on consumer goods, then prices are going to go up. If you have income taxes on labor, the cost of labor and living costs go up. If you have a tax on, say, land, then you are going to have the price of houses and real estate come down, because there will be less land rent available to pledge to the banks to take out a loan again.

KF: That is what people do not get, though, they do not understand how a land tax fores land prices down.

MH: Well, this was the center of what classical economics is all about. And it’s amazing – a hundred years ago, people understood this fairly well by just studying rent theory. But rent theory has been dropped from the curriculum now, and people talk about ways that they can profit, but they do not talk about rent – economic rent –, which is what economists described as unearned income. It is income that does not have any corresponding cost of production, that is purely the result of privilege, and is price in excess of cost value. Now let us say that you have a property that rents out for, say, a million pounds per year. Somebody can say, “I am going to buy this big office building, and I am going to pay a million pounds to the bank and if they make a loan at, say, 5%, then I can borrow £20 million against it. But if half of the value of real estate is land and half is the buildings, the government can say, “Look, nature provides the land, and we increase the value of that by all of the public investment on infrastructure, transportation, electrification, roads, etc., so we are going to tax this £1 million rent that you get by £500,000 each year”. So the other £500,000 will represent the value of the building, and the landlord then can say, “OK, I can still borrow at 5% interest, and that means I can borrow £10 million against this but not £20 million,” – you can only borrow half as much. A property is worth whatever a bank will lend, and if a bank will not lend as much of a mortgage, then the price will be much lower. So the more that a government cuts the land tax, the more rent is available to be paid to the banks in the form of a loan. Now, people are going to pay the same rent, anyway – rent is set by the marketplace. It is set by location, where people want to live, how they want to define their status, or, in America, what schooling and public education is available near there. But the question is, how much of this is actually necessary to compensate for what it has cost to build the building, and how much of it really belongs to the public sector? Well, the situation gets even worse when you cut the tax on land, because if you cut the tax on land, then the government has to tax labor, or consumer goods through the sales tax as you mentioned, or capital by income taxation, and prices go up elsewhere. So the way to un-squeeze labor and industry, and to lower the cost of living and lower the cost of production is by a tax on rent – that is what classical economics was all about.

KF: Professor Hudson, thanks very much for joining us here on the Renegades.

A common denominator runs throughout recorded history: a rising proportion of debts cannot be paid. Adam Smith remarked that no government ever had repaid its debt, and today the same can be said of the overall volume of private-sector debt. One way or another, there will be defaults – unless debts are paid in an illusory fashion, simply by adding the interest charges onto the debt balance until the sums finally grow to so fictitious a magnitude that the illusion of viability has to be dropped.

But freeing an economy from illusion may be a traumatic event. The great policy question therefore concerns just how the various types of debts won’t be paid. The choice is between forfeiting property to foreclosing creditors, or writing debts down at least to the ability to pay, and possibly all the way down to make a fresh start. Somebody must lose, and their loss will appear on the other side of the balance sheet as another party’s gain. Debtors lose when they have to forfeit their property or cut back other spending pay their debts. Creditors lose when the debts are written down or go bad.

The balance of gains and losses in such foreclosures depends – in narrow accounting terms – on the value of collateral being transferred. But from an economy-wide perspective the resolution of a debt overhead needs to be looked at as a long-term dynamic. Any such analysis turns on the role of specific classes of debtors and creditors within the economy – the 99% and the 1%, the “real” economy and the financial sector. It is not simply a matter of what contracts say (“A debt is a debt, and all debts must be paid.”) The effect of debt on the economy’s overall cost structure is most important – including the international dimension cited earlier with regard to the extent to which debt service and debt-leveraged housing prices and other output increase the cost of living and doing business.

Writing down debts reduces the overall economy’s financial costs. Keeping debts on the books retains these costs. So when the financial sector (or the 1%) insists on maintaining the debts that have been run up – and supporting the debt-leveraged price of real estate pledged as collateral – securing its past “savings” gains are incompatible with maintaining a viable economy. The debt overhead becomes an expense that must be shed if the economy is not to shrink – and if it does shrink, more debts will go bad and a deteriorating spiral will set in.

Perception of this long-term macroeconomic dynamic is what has led the past few centuries of legal trends and political ideology to favor indebted labor and industry, and indebted governments as well. It explains why debtors’ prisons have been closed, and bankruptcy laws become increasingly humanitarian to enable debtors to make a fresh start. This idea of clean slates is only recently being extended to the economy-wide scale, starting with government debts to global creditors.

Today’s financial trend threatens to reverse this pro-debtor reform tendency. Without acknowledging the economic and social consequences, the “business as usual” approach is a euphemism for sacrificing economies to creditors. It seeks to legitimize the disproportionate gains of banks and their rentier partners who have monopolized the past generation’s surplus. And it is to protect these accumulations that the FIRE sector has spent part of these gains to become the dominant voice in government, including the courts, as well as academia. The aim in practice is to impose austerity and economic shrinkage on the private sector, while the public sector sells off its assets in a voluntary pre-bankruptcy.

The internal contradiction in this policy is that austerity makes the debts even harder to pay. A shrinking economy yields less tax revenue and has less ability to create a surplus out of which to pay creditors. Debt repayment is not available for spending on current goods and services. So markets shrink more.

This is not an inevitable scenario. Governments are sovereign with regard to their creditors. They still posses the alternative power to wipe out the debts – along with the savings that are their counterpart on the opposite side of the balance sheet. The German Currency Reform of 1948 remains a model. But it calls for creditors to take a loss.

This has happened again and again in history for the past five thousand years. Until recently it was the normal result of financial crashes – the final stage of the business cycle, so to speak. But as economies have been financialized, creditors have gained political power – and also the power to disable realistic academic discussion of the debt problem. What they fear most of all are thoughts of how to avoid today’s arrangements that have given them a free lunch at the rest of the economy’s expense.

Stephanie Kelton and Michael Hudson’s speeches at last month’s Modern Money Theory 2012 Summit (Rimini, Italy) have been transcribed by Media Roots. They provide extensive links in their transcription to assist in the educative process.

March 28, 2012

MEDIA ROOTS — Pacifica Radio’s Guns and Butter have faithfully broadcast another potent weekly installment of compelling discussions from last month’s Summit Modern Money Theory 2012 in Rimini, Italy, one of the more salient popular developments and signs of consciousness raising in recent history since Tahrir, Wisconsin, and the Occupy Movement. Join us, as we continue our exploration through the MMT school of economic thought and its implications for the world’s working-class, currently facing the worst economic recession since the Great Depression.

Media Roots previously featured the first, second, and third consecutive Guns and Butter broadcasts reporting back from the MMT Summit in Italy and have archived those broadcasts and transcripts as well. Here we present the most recent coverage of this important and inspiring international and grassroots economic summit.

Messina

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GUNS AND BUTTER — “MMT advocates a wide range of programmes. The most important is probably the Job Guarantee. Very briefly, the Job Guarantee is a programme that would allow the government to achieve what’s never been achieved before in any market economy—true full employment.

“The basic idea is that the government offers a wage and a benefits package to anyone who’s unemployed, but ready and willing and able to work.”

Bonnie Faulkner: “I’m Bonnie Faulkner. Today on Guns and Butter: Stephanie Kelton and Michael Hudson from the first Italian grassroots economic Summit on Modern Money Theory in Rimini, Italy, February 2012. Today’s show: Modern Money Theory and Private Banks.

“Stephanie Kelton is Associate Professor of Economics at the University of Missouri, Kansas City, Research Scholar at the Levy Economics Institute, and Director of Graduate Student Research at the Center for Full Employment and Price Stability.”

Dr. Stephanie Kelton (c. 1:37): “The next thing I want to do is talk to you about functional finance. It’s not a very interesting sounding topic. In English, the opposite of functional finance is dysfunctional finance. And that’s what, I would argue, most countries in the world deal with today. And I think the reason is because none of us that have sovereign currencies understand exactly what that means. And we act as if we face the same kinds of constraints—governments act that way—that households and businesses face. We’re told all the time that government should have sound fiscal policies, should live within its means, should exercise fiscal discipline just like a household must. But, hopefully, by now you understand that a country that operates with its own fiat currency, that is a non-convertible currency—government does not pledge to convert the currency into gold or into some other country’s currency—it doesn’t have to behave like a household. It can use its powers differently. And that’s what functional finance is all about.

(c. 3:02) “I mentioned this morning the name Abba Lerner. Abba Lerner wrote many important articles and books that influence the work that MMT economists do today. Most of Lerner’s early and important works were written as the world was fighting and battling the effects of the Great Depression. Lerner understood, as Keynes did, that unemployment was a normal feature of any money-using capitalist economy. For Lerner, unemployment wasn’t just something that countries needed to deal with when there was a great depression or a serious recession, but in normal times as well because the economy always operates with some level of unemployment.

(c. 4:03) “Lerner, as an economist, viewed the workings of the economic system very differently from the conventional classical economist who believes supply creates its own demand. Markets, naturally, tend to full employment. Governments just get in the way; intervention by government is unnecessary and destabilising. When something bad happens in the economy, the best course for government is to keep its hands off—laissez faire, let it be. Markets will fix themselves. They are self-correcting.

“Lerner didn’t accept this, and neither did Keynes. They both understood that market economies are complex, that the decisions taken by the producers are different and not coordinated with the decisions taken by consumers, foreigners, other businesses, government.

(c. 5:17) “Lerner did not believe there was a mechanism that would coordinate the spending decisions of all of us with the production decisions of the business sector in a way that kept the economy operating in a healthy manner, in a way that would provide full employment for everyone. Businesses have to produce, today, without knowing what the future demand for products will be. Maybe they produced too little and demand was higher than they expected. In that case, they see their inventories fall. And it’s a good sign to them; people want more output. They respond by producing more. But if businesses produce output and find that the demand is not there; their inventories begin to rise. The signal to them is: You’ve produced too much. What do they do?

(c. 6:24) “Conventional economic theory tells us: This is not a problem. If inventories build up, prices fall until there’s demand for everything produced. But in the real world we know better. We know how businesses respond; they respond when demand for their goods is falling. They respond by cutting back their production and laying off a part of their work force. It gives rise to unemployment. It’s natural. That’s the way market economies all operate. There isn’t a single capitalist economy anywhere in the world that achieves full employment and sustains it. Every market economy goes through a business cycle, an upswing where times are good and unemployment is low. And a downswing where times are not good and unemployment is rising. Lerner recognised that; and he called on the government to respond in a particular way.

(c. 7:27) “The conventional view is that if there’s unemployment, it simply means employers don’t want to hire the workers at such a high price. The solution to unemployment for most of the academic economists in the world is, therefore, lower wages, too much supply of labour. Unemployment must mean the price of labour is too high. So, the solution is to cut wages. If something goes wrong in markets, you let markets fix things. Keep government out!

(c. 8:07) “Sometimes, economists talk about structural problems in the labour market. Well, unemployment exists because the jobs that are available require certain skills that the unemployed don’t have. Therefore, they propose things like training programmes for the unemployed. All we need to do is get the unemployed together, train them, give them better skills, and they will go out and find jobs. The problems are almost always with the worker.

“Lerner and Keynes and the MMT school reject the notion that problem is with the worker. The problem is that there aren’t enough jobs.

“If you took 100 dogs and you buried 95 bones in a field and you told the dogs there job was to go out and find a bone, what’s the very best case scenario? The best you can possibly hope for is that 95 dogs come back with bones. Five dogs can’t get bones. More likely, some dogs will get lucky; they’ll stumble across a few extras. Some may have better skills; they’ll find three or four. So, the number of dogs that come back without bones may be ten or fifteen.

(c. 9:38) “The conventional economist would gather the dogs together, the ones that had no bones, and train them to sniff out bones more effectively. Then they would send those hundred dogs back out into the field and tell them to go come back with a bone. And, again, the best you can get is 95 dogs with bones. What’s wrong is that there aren’t enough bones. There’s nothing wrong with the dogs. The bones are the jobs. There’s nothing wrong with the unemployed. There simply aren’t enough jobs.

(c. 10:20) “Economists actually believe that unemployment is, not just unavoidable, but, actually, beneficial. They think that unemployment helps to discipline the worker because if you’re afraid of becoming unemployed, you’re more likely to work harder, do a better job for fear that you may lose your job. Economists believe in a trade off: We could have lower unemployment, but that would lead to inflation and that’s the worst possible evil in the world. So, we better keep some people unemployed, so the economy doesn’t operate at too high a level, so that we can keep prices from rising too rapidly. So, they actually define full employment, as the level of unemployment that helps you keep prices from rising. We define unemployment into our models. We accept it. It provides an excuse for not striving for more. We enshrine in it in our policies.

(c. 11:35) “The Maastricht Treaty does not place full employment as a goal at all for the central bank, for the ECB. It has a sole mandate, which means there is really only one cruel enemy in the world and that is inflation. The Federal Reserve, in the United States, has a dual mandate, at least in theory; the central bank in the U.S. is supposed to use policy to keep prices stable, but also to try to encourage high levels of growth and high levels of employment. At the end of the day, though, the Fed considers price stability the primary objective, probably recognising that there’s little the central bank can do, anyway.

(c. 12:33) “Employment policy does not belong with the central bank. It belongs with the national government, as part of its fiscal policy. And that’s where Lerner placed it.

“Unemployment is every bit as damaging to a society as inflation. The costs are tremendous. We know, and we talked this morning, about what some of those costs are. The direct costs are obvious. Anyone who is not working, not producing something, represents an economic waste, a loss of output for the whole of society and income that’s not produced. But there are other costs, maybe even more important, indirect costs. We talked this morning about some of these.

(c. 13:27) “What happens when you’re unemployed? Do you feel excluded from society? Your skills degrade. The longer you are employed, the longer your skills break down. The longer you are unemployed, the less employable you are. Businesses don’t wanna hire people who’ve been unemployed for months or, in the case of the U.S., years. Unemployment creates psychological harm, depression, anxiety, suicide rates increase. It may be great for the pharmaceutical companies, who sell anti-depressant drugs and make billions. But it’s very, very damaging for society. People lose their motivation. Family relations, divorce, spousal abuse, all become problems when unemployment is high.

(c. 14:24) “It’s difficult to measure these kinds of costs, but it can be done. Just this year, the White House put out a study that attempted to figure out exactly what are the costs of having a young person unemployed, not in school. What are the indirect costs that are borne by all of us? Crime goes up. You lose your job. You lose your health care. You get sick; health care costs increase because you don’t seek care until you’re quite ill. Spending on various social programmes increases because you don’t have an income to support yourself. The White House estimates that the cost of a single unemployed, out-of-school, young American is almost $38,000 per year.”

Bonnie Faulkner (c. 15:19): “You’re listening to professor and research scholar, Stephanie Kelton. Today’s show: Modern Money Theory and Private Banks. I’m Bonnie Faulkner. This is Guns and Butter.”

Dr. Stephanie Kelton (c. 15:34): “Now the direct costs, the loss of output and income from having someone sit on the sidelines, producing nothing, as opposed to being in a job producing a good or service in the economy. If you see the light grey line at the top it shows you what the path was for the U.S. GDP before the financial crisis and recession. If that had never happened, the estimate is we would’ve been up on that light grey line. But because of the financial crisis and the economic recession our GDP fell sharply. The difference between the blue line and the grey line is our GDP gap. It represents the lost income, the lost production from all of the additional unemployment. How much is that?

(c. 16:33) “Bill Mitchell, who is a major MMD figure has run the numbers. What he did was estimate the daily costs of unemployment in the U.S., the difference between the blue line and the grey line on a daily basis. And he concludes that the U.S. is sacrificing the equivalent of between $6 and $11 billion dollars every single day that we permit our unemployment level to remain elevated. So, Bill says—and he doesn’t mince words—he says, ‘Just say to yourself, every day the U.S. government is allowing 9.7 billion dollars to go down the drain in lost income just because they’re too stupid to create sensible job creation. What is sensible job creation?

(c. 17:38) “If you ask a technocrat or a member of the conservative party in the U.S., they’ll tell you that the key to job creation is creating a better environment for businesses. Okay. I agree. But what does creating a better environment mean? For them, it means lower taxes; it means less regulation. Those are the things that are really holding the employer back. That’s why they won’t hire and invest. It’s why the economy is not growing. But ask an employer what’s holding them back. Survey after survey, in the U.S., tells us that it’s not high taxes or burdensome regulation that’s primarily keeping them from adding to their workforce and increasing their investment spending, it’s poor sales. They don’t have customers. And the reason they don’t have customers is that we had a financial crisis that was fuelled by a huge debt bubble that crashed and left major portions of the U.S. population without the income to go shopping.

(c. 19:00) “The fundamental economics for a person like Lerner, Keynes, or an MMTer is simple. Sales create jobs. Employers hire workers when they are swamped with demand, not when they get a tax cut, not when regulations are eased. Customers create sales. But customers have to have income to spend. So, income creates sales. And spending creates income. Every time someone spends money someone else is on the receiving end. It becomes their income.

“If you think that you’re going to cut your way to prosperity, I think you’ve got your economics all backwards. Fiscal austerity, sound finance, as they call it, means cutting spending. But that means cutting income. But that means cutting sales. And that means losing jobs.

(c. 20:05) “So, what did Lerner suggest? Unemployment exists because there’s not enough spending in the economy. In any economy in the world, spending comes from one of four places: the household sector, the biggest and most important source of demand in the economy; business sector; the government sector; and the rest of the world, whatever they want to buy from you. What’s the problem today? Consumption spending is down because income is down. If people aren’t consuming, businesses don’t have customers, investment spending falls. So, two important components in the demand economy are massively depressed right now. Lerner’s recommendation is that you have to offset that with government spending. Functional finance is the term he gave to his proposal for the way the government should run its fiscal, macroeconomic policies.

(c. 21:11) “You have to have a sovereign currency in order to run functional finance. You cannot do it on a gold standard or fixed exchange rates. You can’t do it with the euro. The U.S. has a sovereign currency, but its finances are dysfunctional. Just because we can doesn’t mean we do. So, it’s not enough just to create the correct monetary system; you also have to create the correct macro policy.

“Abba Lerner wrote a very colourful article called ‘The Economics of the Steering Wheel.’ And in the beginning of the article he talks about this imaginary planet where the Martians drive around on this complicated interplanetary highway system. The cars don’t have steering wheels. The roadways have high curbs. The cars bounce from left to right, meandering around the path. Lerner says, ‘If someone from Earth visited this planet, they would take a look at this highway system and call it crazy. Wow, aren’t we clever? We put steering wheels in our cars. We don’t bounce around from curb to curb. We control our destiny.’

(c. 22:39) “And then he says, ‘Why aren’t we so smart when it comes to our economy? We give up the steering wheel. We let markets push us around. And we assume there’s nothing we can do.’ Laissez faire, let it be.

“So, what does Lerner want? Functional finance. The government’s job is twofold. One, the government has to keep the level of spending in the economy high enough maintain full employment. Two, the government uses its powers to adjust taxes, spending in order to achieve the first goal. You don’t target an arbitrary deficit level. You let the deficit go where it needs to go in response to what’s happening in the economy. Taxes don’t finance the government; they help to drive the monetary system. They get the government’s currency accepted. They give it value, but the government doesn’t need to get money from the private sector to spend. The government spends by issuing its own currency. The government doesn’t even need to borrow to do this. In fact, Lerner said it shouldn’t. Borrowing takes money from those that have it, when the goal is to let people spend as much as they will on their own to get to full employment. With a sovereign currency governments spend by directing their bank to credit someone else’s account. This almost always happens without the government even writing a check. In a modern era, governments spend with keystrokes. And you can’t run out of keystrokes.

(c. 24:31) “We sometimes say the government is like a scorekeeper. If you go to a football match and your team is doing really well, scoring goal after goal after goal after goal, do you sit in the audience and worry that the stadium is going to run out of points? It’s impossible. It’s also impossible for the government to run out of keystrokes. There’s no financial constraint on a government that issues its own currency. The only relevant constraints are real constraints, resource constraints. If you try to use more resources than there are available, you’ll push up the price of those resources and the result will be inflation.

“So, what should the government do? Use its powers to tax and spend to keep the economy operating at the right temperature. Lerner thinks of taxes and bonds, not as financing tools, but like a thermostat in your home. What do you do if it’s too cold? Turn up the heat. What do you do if you’re too warm? Turn down the heat. Same thing with the economy. If the economy is not operating at a high level, you cut taxes or increase spending. If the economy is operating too hot, you raise taxes. Or cut spending. These are tools to use to achieve the goals of the macroeconomic policy.

(c. 26:09) “Lerner recognised that deficits are normal. Government will almost always be in deficit; and that was okay for him. When it comes to the type of deficit, what should the government spend on? If it cuts taxes, who should benefit?

“MMT advocates a wide range of programmes. The most important is probably the Job Guarantee. Very briefly, the Job Guarantee is a programme that would allow the government to achieve what’s never been achieved before in any market economy—true full employment. The basic idea is that the government offers a wage and a benefits package to anyone who’s unemployed, but ready and willing and able to work. This programme acts as a buffer stock. It absorbs workers when the economy is weak; and it releases workers when the economy is strong. They flow in and out of the government employment programme, as the economy goes through natural cycles. The benefits of such a programme are many. And we probably can talk more specifically later this evening. Thank you. [Applause]”

Bonnie Faulkner: “You’ve been listening to professor and research scholar, Stephanie Kelton at the Summit on Modern Money Theory in Rimini, Italy. She is Creator and Editor of New Economic Perspectives. Her research expertise is in Federal Reserve operations, fiscal policy, social security, healthcare, international finance, and employment policy.

“We next hear from financial economist and historian Michael Hudson. Michael Hudson is a Wall Street financial analyst and distinguished Research Professor of Economics at the University of Missouri, Kansas City. Today’s show: Modern Money Theory and Private Banks. I’m Bonnie Faulkner. This is Guns and Butter.”

Dr. Michael Hudson: “One of the last questions, before lunch, this morning was, how is it that Italians are so poor and work so hard if Berlusconi can have so many girlfriends? [Laughter in Audience] So, just imagine how your world was back in 1945. Suppose you were alive in 1945 and somebody had told you about all of the new technology that would be invented between then and now. What if you were told about all of the computers, the internet, the communications and television, the jet air travel, the super trains, the increased gas mileage, the plastics, the medical breakthroughs? You would’ve imagined that we all would be living in a life of leisure society by this time. And, in fact, all of this was celebrated, as a post-industrial economy. And, indeed, productivity has grown so much that under all of the textbook models the idea was that rising productivity would be passed on to labour in the form of lower prices, so wages would go further or higher wages. The whole idea was: Who was to get the fruits of all of this productivity?

“And in all the textbooks there was what was called Say’s Law; workers had to be able to buy the results of what they produced. And this was a circular flow, the circular flow between producers and consumers. And this idea goes all the way back to the French Physiocrats, just before the French Revolution, who created economics and account keeping. The founder of Physiocracy, François Quesnay was a medical doctor and a surgeon. And he based the idea of national accounting on the circular flow within the body, between producers and consumers.

“So, the idea was that all of this increased production had to increase consumption. So, the idea was, as a variant of functional finance, that production creates its own market for consumption by paying workers, who’d then buy the products they produce. So, the question is: Why hadn’t this occurred? With all of this productivity since the end of World War II and, especially, since 1980, why aren’t you all rich and enjoying a leisure economy?

(c. 31:38) “After World War II, mainly the men worked and the women were at home. Since 1945, women have been forced into the labour force for what are called two-job families. And now there are three-job families. If you project labour participation rates, by the year 2020, every woman will have to work 18 hours a day and her children will have to begin working at age three to sustain their standard of living. If you are going to have children, you had better send them to work at the age of three or you will go broke. [Applause]

(c. 32:24) “Well, obviously, what has happened is that what was then applauded as the post-industrial economy has become the financialised economy. The reason you are working so much harder than you were before is because you are paying off your debts. You’re not buying the goods and services that you produce. You’re paying the banker because you can only maintain your consumption standards and keep on spending what you produce if you borrow to do it. That is the euro plan for you. That is how the euro plan is replacing industrial capitalism with finance capitalism.

(c. 33:13) “Wages and living standards have not risen. All of the gains have been siphoned off by finance. When they call for austerity, it is not the fat that they are cutting—the fat is the financial sector—it’s the bone; it’s the industrial sector. So, the post-industrial economy means deindustrialisation. It means unemployment for you. And unemployment means lower wages.

“In all of the economics textbooks in Economics 101, as you saw on the door, there are supply and demand curves. The idea is that the higher the employment rate, the more you have to pay labour to drive it into the labour force. So, the government officials and the bankers read these textbooks and they say, Ah! Okay. So, the less employment, the more wages go down! And the more we earn! And so we want unemployment in order to maximise the power of our wealth over labour.

(c. 34:34) “150 years ago, this was called the reserve army of the unemployed. You need unemployment to keep labour down. So, despite the fact that you have productivity rising since World War II, the real economy and you’re wages have become an S curve, tapering off. What has grown, in keeping with productivity, is the magic of compound interest. This growth in compound interest has absorbed all of the increase of productivity and it’s accrued to the 1% not to the 99%.

(c. 35:17) “So, when you understand this you have to understand how to answer the questions that were raised before lunch today. The key is to look at how the economy today is different from what occurred in 1945. And you’ll see that we are at the end of a long cycle. Back in 1945, in every country the private sector was relatively free of debt. There was very little for consumers to buy in the War. And companies had little reason to invest, except for the government. So, most families had very little debt, but they had a lot of savings. And today, the economy is the reverse. The savings have been run down. And the economy is in debt.

“It’s important to know how this occurs to stop the process that has taken place for the last 70 years. The reason is not only financial; it’s been fiscal. The taxes have been shifted off banks and their customers—mainly real estate and monopolies—onto labour. In the United States, for instance, in the 1930s, 70% of all state and local tax revenues came from real estate, from the property tax. Today, only 1/6 comes from that. States and cities have been convinced to lower the property tax burden and to take an income tax and a sales tax and the worst, most anti-labour, tax of all—your value added tax. Your value added tax is intruding onto the market and shrinking it and preventing you from buying the goods that you produce. And they are taking your value added tax and they are giving it to the bankers who control your governments and control your politicians. And when even your politicians can’t sell out, they then say, we need a technocrat to impose even more taxes to tax you—labour—more to give more to the banks to ‘bail’ them out because the plan they have for you doesn’t work; and it leaves somebody bankrupt; and it’s not going to be the banks because they are the ones who give us our jobs. [Applause]

(c. 38:08) “So, in the United States, for instance, one problem is that in 1982 Alan Greenspan, a free marketer, headed a social security commission and said, ‘social security should not be a public service. It should be a user fee. We have to make the private sector—the users, the labourers—pay for it. And they, not only, have to pay for it, they have to pay five times as much as they get for the banks because my clients—the bankers—we have overhead.’

(c. 38:57) “The saver in America, the pensions were paid by bankers saving the money in advance, creating a huge budget surplus, giving the budget surplus to the government, so that the government would cut taxes on real estate, cut taxes on finance, cut taxes on the rich, cut them in half, cut capital gains taxes, and then say, now, we’re broke; we have to increase the social security tax further because the workers have not paid enough to social security to give it enough money to fight the war in Iraq, to fight the war in Iran, to fight the war in Afghanistan, and most of all to fight the class war against labour. [Applause]

(c. 39:42) “So, the banks have become part and parcel of this Finance, Insurance, and Real Estate sector that I spoke about. We have what is called Pension Fund capitalism in America where the employees are supposed to become capitalists in miniature by employee stock ownership programmes. In America, one half of employee stock ownership programmes have gone bankrupt by being grabbed by the corporate employers, like I described Sam Zell of the Chicago Tribune today. Banks lend money to corporate raiders and to management buyouts to buy the company, to pledge all of the earnings as interest, to steal the employee pension plans, and, essentially, become a process of looting. So, you have the way to get fortunes today to be essentially by looting. They’ve given a Nobel Prize for the writer who described this, but it basically is what I talked about earlier today. But Balzac said, ‘Behind every great fortune is a great theft.’

(c. 41:08) “Today, the economy is being based on theft and that’s called ‘free enterprise.’ That’s called ‘social democracy.’ That’s called ‘socialism.’ But it’s not socialism and it’s not social democracy, as people were told a hundred years ago. It is a travesty of social democracy, a travesty of socialism. And we’re living in an Orwellian world where the politician’s names for their parties are the exact opposite. No party calls themselves fascist today. No party calls themselves anti-labour. They call themselves social democracy, but I get the idea you realise it’s not social democracy at all.”

Bonnie Faulkner: “You are listening to financial economist and historian Michael Hudson. Today’s show: Modern Money Theory and Private Banks. I’m Bonnie Faulkner. This is Guns and Butter.”

Dr. Michael Hudson (c. 42:08): “In America, in order to get a job, students now, instead of getting free education or low-priced education have to take out loans that put them in debt. To create a family, you have to take on a lifetime of 30-year mortgages in debt to pay a mortgage. You have to take out an auto loan to be able to buy an automobile to get to work. And then you have to take on credit card debt. When you pay this debt and the result is debt deflation, that’s why the workers do not have enough money to buy the things that they produce. That’s why the bankers have ended up with the increase in productivity.

(c. 42:54) “Now, I’ve spoken in generalities and principles so far. But it’s good to give an example of the country that is held out to you, as how you want to be. If Italy succeeds, what country should you be? You’re told: Latvia. Latvia is where the neoliberals had a completely free hand, as they did in Russia, as to what kind of an economy they were going to create. And they created a neoliberal paradise. Angela Merkel, Sarkozy: This is what we want for Europe. What they did in Latvia is have an employment tax of 59% for labour. They have a real estate tax of 1%. When I went there I asked how they got the 1%. They based it on the most recent real estate appraisal they had, which is in 1917 before the Russian Revolution. So, you can imagine that what happened was that with real estate taxed so low and labour taxed so high there was almost no employment. But there was a real estate bubble. People have blamed the real estate interests for making a ton of money and getting rich off absentee ownerships. But the principle of real estate speculation in America is that rent is for paying interest. Whatever the tax collector gives up and relinquishes in taxes, is available to be paid to the banks as interest. So, the banks end up with all the rent that used to accrue to the landed aristocracies of Europe. So, bankers have become the new aristocracy. And it is as hard as if there is feudalism.

(c. 45:04) “So, what you’re seeing today is the same economic grab that gave birth to European feudalism. And that grab is backed by the finance sector on behalf of its clients—the real estate sector, the monopolies, and the legal sector. The result is that 1/3 of Latvia’s population between the age of 20 and 35, either, has emigrated from the country or is planning to emigrate. The population has shrunken by 15% under neoliberalism. Lifespans are shortening. Marriage rates are falling off. Who can marry and buy a house when your wages are taxed at 59% and you have to take on a debt?

(c. 46:00) “Now, in Latvia a year ago I met with bank insurance agencies; and they saw that this was a problem. And they told the banks, you cannot collect from the value of real estate that you’re lending against. Their solution was not to have the government tax real estate more, so that there’s less available to pay the creditor. Their solution was to go to the banks and say, when somebody comes to borrow a mortgage you have to have their parents sign, their children sign, their aunts and their uncles sign, so that when we foreclose, we can not only foreclose on you, we can foreclose on the whole family. And we can make the whole family emigrate or be reduced to poverty.

“The same thing has happened to Iceland. Iceland’s debt, which is much worse, people have spoken to Iceland, as if it were a model of what should be. It was only a model of how the populations should vote against the banks. But Iceland, even more than Latvia, is a banker’s paradise and such a hell for workers that, as I said, 10% of the population—30,000 Icelanders—have emigrated to Norway and other countries. Icelanders have moved elsewhere. What Iceland has is what is planned as a model for you. The index that they owe to the bank of the debt is linked to the foreign exchange and the consumer price index. So, since the credit crash of 2008 from the crooked Icelandic banks that were looted, if you took out a €1,000 euro debt, you now owe €180 euros on it against property that has fallen from the equivalent of €100 euros down to €40 euros. So, you’re in negative equity. You’re personally liable. You’re family is liable. And the debt has gone up.

(c. 48:13) “Now, Paolo asked me earlier to talk about the vulture banks. When the crooked banks of Iceland went under—and they’ve just in the last few weeks begun to arrest the crooks—when the banks went under, the government took them over and, at European advice, saying, no matter what you have to pay the bankers, you have to punish labour, but you have to sell the banks to vulture investors. The vulture investors bought the banks at ten cents on the dollar. Under the constitution of Iceland, they were not allowed to increase the debts by indexing, but they did. Under the bank agreement, their promise was if you write down, if you buy a bank at ten cents on the dollar, you have to write down its debts by 90%. The banks promised to do this; they have not done it. The Icelandic people and economists have demanded that the government apply this. The social democratic government says: We don’t have to do what the people said. The people voted to send the power. And we work for the banks, not for the people. Social democracy means rule by the bankers. It means rule by a small number of families in Holland, in Germany. The social democratic government says: We’re part of Europe. We are not part of Iceland. We are not your democracy. We are the democracy of the European and German and French bankers and English bankers who’ve supported and put us in power. [Applause]

(c. 50:04) “So, when many of you asked, before lunch, what do we do in this situation? We want to do something about it. We want to be active. What can you do when the political system on both ends of the spectrum are so corrupt? To me, what is so amazing is how the social democratic parties that were supposed to begin on the Left side of the political spectrum have moved to the Right wing of the political spectrum.

“Now, I’ve known most of the social democratic leaders of America and the world since I was a little boy. In the 1960s, I was told that the travel and hotel expenses of every member of the Socialist International, the Second International, of which Dmitri Papandreou of Greece was the President, was paid for by the CIA. I watched the Socialist Party in America come to support the Vietnam War and to ban all criticism of the Vietnam War in its youth magazine. So, it lost 90% of its members. The theory was that you could not have Marxism until you freed the world from Stalinism. And to do that, the Social Democratic Party of America, the socialist party, joined the Cold War effort and became the supporters of the Johnson Administration and the Vietnam War. Politics was turned upside down by the triangulation of socialism and Stalinism and the ability of the United States to convince the social democrats of Europe that if it bribed them and paid them enough, they would be willing to support the banks, as a bulwark against communism and Stalinism. So, the Social Democrats sold out with great personal benefit to themselves and really believed that the way to finance industry, to oppose the industrial exploitation, was to support financial exploitation. They imagined that the banks would lead the world into economic progress, not in just the opposite direction of what the progressive era did.

(c. 52:38) “So, the result is that the Social Democratic parties of Iceland, of Latvia, of Scandinavia, and of other European countries, now believe the way to employ labour is by austerity. If you can only lower your wages by 30%, stop having children, and emigrate there will be equilibrium. This is the exact opposite of what industrial capitalism proposed. And, yet, it’s the dynamic that you have today. The alternatives—and I will just hint them for what I will be talking about in the next—not all taxes are bad. Taxes on labour add to the cost of labour. Of course, you want to untax labour, untax consumers, get rid of the value added tax. But there’s one kind of tax that’s good. And that’s the tax on unearned income, on land rent, and monopoly rent. The more you tax—you shift the tax system onto the land and property—the lower housing prices are; and the less you have to tax labour by income tax, the less there is for banks to collect in interest. The bankers are against government because they want all of the taxes that are now paid to the government to be paid to themselves as interest. I’ll expand that in the later versions tomorrow morning. Thank you.”

Paolo Barnard (c. 54:18): “Un applauso per i traduttori, per favore.”

Bonnie Faulkner: “You’ve been listening to financial economist and historian Michael Hudson at the Summit on Modern Money Theory in Rimini, Italy.

“Today’s show has been: Modern Money Theory and Private Banks.

“Dr. Hudson is President of The Institute for the Study of Long Term Economic Trend, a Wall Street financial analyst, and distinguished Research Professor of Economics at the University of Missouri, Kansas City. His 1972 book, Super Imperialism: The Economic Strategy of American Empire is a critique of how the United States exploited foreign economies through the IMF and World Bank.

“Please visit the University of Missouri, Kansas City New Economic Perspectives blog at www.NewEconomicPerspectives.org. Visit the website for the first Italian Summit on Modern Money Theory at www.DemocraziaMMT.info.

“Guns and Butter is produced by Bonnie Faulkner and Yara Mako. To leave comments or order copies of shows, email us at blfaulkner@yahoo.com. Visit our website at www.gunsandbutter.org.”

Rush transcript by Felipe Messina for Media Roots and Guns and Butter