MONEYLESS: Deflation (Or, "too little money")

FOFOA’s argument against modern money theory can be summarized as follows:

A staggeringly massive hyperinflationary event is already latent in the global economy. The dollars currently in circulation only retain their purchasing power because of the function of money as medium for the circulation of commodities. Modern money theory, which proposes the fascist state faces no monetary constraint on spending in excess of its ability to tax or issue debt, is making an argument for monetary policies that will only exacerbate the latent hyperinflation already present in the economy. The problem posed by hyperinflation, “too little money”, is not mitigated when the state creates new currency out of nothing. Rather, the case is the reverse: emitting new dollars does not create additional purchasing power; it simply dilutes the purchasing power of the dollars already in circulation, adding to the implosive potential of the inevitable hyperinflationary event.

According to FOFOA, the hyperinflationary event has been held back so far by the self-interested action of Europe, Japan, and China; who have recycled their dollars back to the US to buy its debt over the past thirty years. This recycling of dollars into US debt has supported the purchasing power of the dollar, but it has reached its limit. The dollar is now suffering a credibility crisis among US creditors, that must lead to an effort by these creditors to exchange their dollars for real, not fictional, assets. With the US’s creditors losing faith in the stability of dollar purchasing power, and boycotting the purchase of US debt, the US is actually engaged in wholesale creation of dollars out of nothing to fund its operations, driving the dollar into actual hyperinflation.

This latter scenario, the impending and irreversible loss of dollar credibility, is where FOFOA badly stumbles in his argument against the advocates of modern money theory.

If I understand FOFOA’s chain of reasoning here, logic dictates a loss of credibility for the dollar would first be expressed, not when it comes time for commodity sellers to save wealth in a more stable form, but earlier when it was time to sell those commodities in the first place. As I have shown in the case of Zimbabwe, in hyperinflationary episodes, the catastrophic loss of currency purchasing power is accompanied by a general replacement of the collapsing currency with alternative currencies as medium of exchange and by barter.

So, facing a loss of faith in the stability of the dollar, commodity sellers immediately will be confronted with the problem of seeking out a new source of money demand for their commodities — a source of demand in an alternative currency that is both more stable than the dollar and sufficiently liquid to serve as medium of circulation. Exporters like China and Germany will need a new market for their commodities or an alternative currency within existing markets that can serve to purchase them. It is not likely the US will voluntarily adopt an alternative currency and lose the economic power it is able to exert through the dollar. And, it is equally unlikely that a new market will emerge that can replace the US market’s chronic and deliberate industrial insufficiency.

Which is to say, the hyperinflationary event, insofar as it expresses a crisis of “too little money” should first be expressed as a lack of an alternative to the dollar as medium by which the commodities can circulate. However, this logic is missed by FOFOA in his argument against the modern money school. FOFOA is correct to state the “value” of the dollar is not intrinsic, but arises from its use as medium of circulation. But he incorrectly attributes this “value” to the support provided to the dollar when these nations purchase US debt, not when they accept dollars in exchange for their commodities.

Moreover, unfortunately for his argument, FOFOA also overlooks the fact that “too little money” does not necessarily express itself as hyperinflation. According to Wikipedia, “too little money” can also be expressed as deflation.

In mainstream economics, deflation may be caused by a combination of the supply and demand for goods and the supply and demand for money, specifically the supply of money going down and the supply of goods going up. Historic episodes of deflation have often been associated with the supply of goods going up (due to increased productivity) without an increase in the supply of money, or (as with the Great Depression and possibly Japan in the early 1990s) the demand for goods going down combined with a decrease in the money supply. Studies of the Great Depression by Ben Bernanke have indicated that, in response to decreased demand, the Federal Reserve of the time decreased the money supply, hence contributing to deflation.

The Wikipedia lists “too little money” as one of the causes of deflation like the one seen in the Great Depression. Bourgeois economists generally hold to the idea that the Great Depression was caused by a lack of money to serve as medium of circulation that was expressed as a general deflation of prices, not a hyperinflation.

At the outset of the Great Depression, gold served to limit the quantity of currency that could be created by the state. To abolish this limitation, Washington asserted a monopoly on the ownership of gold, and devalued the currency — in 1933 by Roosevelt in Executive Order 6102, and later made law in 1934. The purchasing power of the dollar was devalued against gold by 69%, from $20.67 per ounce to $35 per ounce. The devaluation took place in 1933, and the contraction phase of the Great Depression ended almost immediately. This monetary devaluation of capital, however, did not end the depression. It took an actual “devaluation” of capital via World War II. This physical “devaluation” occurred in, not one, but two forms: first, war production; second, leveling Europe and Asia.

The point is not to rehash history, but to refute FOFOA’s implicit suggestion — even frm the standpoint of bourgeois political-economy — that “too little money” must result in hyperinflation. The real takeaway from FOFOA’s argument is not that “too little money” leads to hyperinflation, but that printing currency does not cure the problem of “too little money”.

However, I also want to suggest something of deeper monetary significance. The fact that dollar denominated prices were tied to gold before 1933 has a special significance for the present crisis. Since the dollar is world reserve currency and is not itself backed by a commodity money it appears there is no standard of prices. This is true insofar as we are discussing dollar denominated prices; it is not true, however, for prices denominated in all other currencies. As world reserve currency, the dollar also serves as the standard of prices for all other currencies. Moreover, today all other currencies are effectively tokens of the dollar in much the same way they were tokens of gold before the Great Depression.

I admit this idea sounds absurd on its face: I am arguing a thing having no value of its own can serve as standard of world prices. But, it is the direct and logical extension of Marx’s argument that the combined activities of producers creates money. Moreover, it is the logical extension of FOFOA’s own argument that the purchasing power of the dollar results from the interests of exporters. Paraphrasing L. Randall Wray’s argument regarding the Weimar Republic, FOFOA says the US dependence on imports is as dangerous for the US as the reparations burden was for Weimar Republic Germany:

…I want to try a little word replacement game with Wray’s Weimar description. Let’s replace Germany with the USG and the war reparations debt with a trade deficit addiction and see how it looks. Other than these few substitutions, I’ll leave Wray’s descriptive words alone:

“The USG had endured 30 years of foreign-supported trade deficit and developed an addiction to free stuff. To make matters worse, much of its productive capacity had been shipped overseas during this time period. The US private sector could not possibly support the USG’s addiction to real goods.

The nation’s productive capacity was not even sufficient to satisfy domestic demand, much less to support USG demand. Government knew that it was not only economically impossible but also politically impossible to impose taxes at a sufficient level to move resources to the public sector to satisfy the USG’s insatiable addiction. So instead, it relied on deficit spending through raw base money creation. This meant government competed with global demand for a limited supply of importable goods—driving prices up. At the same time, the US private sector had to pay the same higher prices without the benefit of issuing its own currency to buy needed imports. Rising import prices forced the US economy to consume more of its own domestic goods, which increased USG’s reliance on imports, and since foreign imports cost more in terms of the domestic currency, this increased the cost of the USG’s addiction in terms of domestic currency.”

FOFOA concludes from this that the US trade deficit will eventually cause the dollar to tip into hyperinflation.

Now I want you to think especially hard about that last line, “…this increased the cost of the USG’s addiction in terms of domestic currency.” This is the key to understanding why we are headed toward all-out, balls-to-the-wall, in-your-face wheelbarrow hyperinflation. This is it, the point I’m trying to get across to you.

That inflow of free goods that is structural to the status quo operation of the US government is more dangerous to a monopoly currency issuer than the war reparations debt in Weimar Germany. The USG is incapable of reducing that inflow of real goods voluntarily and so the non-hyperinflation of the dollar requires it to flow in for free. And it has been, up until recently.

However, as I argued above, the most likely trigger of a monetary event in FOFOA’s scenario is not loss of dollar credibility to savers, but to exporters. This is because it is not savers who give the dollar its purchasing power, but exporters, who, by accepting dollars in return for their commodities provide the dollar its purchasing power. For their own interest export surplus nations have been taking advantage of the loss of US industrial capacity by selling into the US market. Indeed, much of the loss of US industrial capacity result from corporations moving their capacity offshore and exporting back into the US. The loss of US industrial capacity and dependence of exporters on the US market are the same thing: the export of US capital. In these circumstances, the danger is not that exporters will stop selling their goods into the US market, but that the US will stop creating worthless dollars to pay for these commodities.

The currency price of a commodity at the time of sale is not determined by the country where the commodity is produced, but by the currency of the market where they will be sold. No matter the costs incurred in the production of the commodity in the home currency, the price realized is in the currency of the export market. The dollar as the world reserve currency means much more than simply being able to create debt at will to buy the commodities of exporters. It means also that the dollar serves as the preeminent standard of prices in the world market; it is “the money” for all other currencies. To the extent the commodities of exporters has to be exchanged for dollars, they can only be realized as values in the form of dollars.

While a triggering event for hyperinflation or deflation of the dollar is “too little money”, the bar for triggering an event for all other currencies is simply “too few dollars”. I would suggest this is what is reflected in euro-zone event right now; and why the Fed greatly expanded dollar swap line on November 30.