Understanding Federal Government Deficit and Surplus
By Denis Hay
Introduction
Australia’s federal politicians often liken the national economy to a household budget, perpetuating myths about deficits and surpluses. This comparison misleads the public about how a sovereign government functions. Unlike a household, Australia’s government, as the issuer of its own currency, operates under different financial principles. This article explores the truths behind federal budget dynamics, debunking myths, and emphasizing the importance of Modern Monetary Theory (MMT) for Australia’s future.
Debunking Household Budget Myths
The Fallacy of Comparing National Economy to Household Budgets
Many politicians simplify the economy by comparing it to a household budget. This analogy misrepresents how a sovereign government functions. Households must balance their income and expenses, but a sovereign government that issues its own currency does not face the same constraints. This misconception limits public understanding of government spending and economic policy.
Real Differences Between Household and Government Budgets
– Household Budget: Limited by income, must borrow or cut spending to manage finances.
– Government Budget: Can issue currency, only constrained by inflation.
The household analogy does not account for the government’s ability to create money and manage the economy differently.
Misconceptions About Sovereign Currency Issuance
Australia’s Sovereign Currency Power
Australia’s government, as a sovereign currency issuer, creates the money used in the economy. Unlike households or businesses, it doesn’t rely on tax revenue or borrowing to fund its spending. The primary limit on its spending is inflation, not a lack of funds.
– Sovereign Currency: The government can issue its own money.
– Inflation Constraint: The only real limit to government spending.
Understanding these principles is crucial for grasping why the government doesn’t need taxes to spend.
Taxation’s True Purpose
Why the Government Doesn’t Need Your Taxes to Spend
Taxes are often seen as the primary source of government revenue, but for a sovereign government, this isn’t true. Instead, taxes serve to:
– Regulate Inflation: By reducing the amount of money in circulation.
– Redistribute Wealth: Ensuring a fairer society.
– Influence Behaviour: Through incentives or penalties (e.g., carbon taxes, taxes on cigarettes and alcohol).
Understanding these roles helps demystify the real purpose of taxation in a sovereign economy.
The Infinite Spending Capacity of Sovereign Governments
Unlimited Government Spending: Reality and Risks
A sovereign government can technically spend unlimited amounts of money. However, the challenge lies in balancing this spending to avoid inflation. When government spending plus private sector spending exceeds the economy’s capacity to produce goods and services, inflation occurs.
– Unlimited Spending: The government can create as much money as needed.
– Inflation Risk: Spending must be managed to avoid inflation.
The focus should be on the economy’s capacity rather than the government’s budget.
Deficits and Surpluses Explained
What Deficits and Surpluses Really Mean
A federal government deficit occurs when government spending exceeds its revenue. Contrary to wildly held belief, this isn’t inherently bad. In fact, a deficit can show a public sector surplus, helping the economy by:
– Stimulating Growth: Through increased spending on infrastructure, healthcare, and education.
– Supporting Welfare: Enhancing social services and job creation.
Conversely, a government surplus means the government is extracting more money from the economy than it is putting in, often leading to austerity measures.
– Deficit: More government spending than revenue, can boost the economy.
– Surplus: Less government spending than revenue, often leads to austerity.
Understanding these concepts clarifies how government spending affects the economy.
The Impact of Government Spending
Benefits of Deficit Spending
Deficit spending can drive economic growth by funding critical public services and infrastructure projects. Examples include:
– Infrastructure Projects: Roads, bridges, and public transport.
– Healthcare and Education: Improved services lead to a healthier, more educated workforce.
– Job Creation: Government projects can create employment opportunities.
These investments can have long-term benefits for the economy and society.
Advocating for Modern Monetary Theory (MMT)
The Future of Australia’s Economy with MMT
Modern Monetary Theory (MMT) offers a framework that aligns with Australia’s status as a sovereign currency issuer. MMT suggests that:
– Government Can Spend Freely: Within the limits of inflation.
– Focus on Real Resources: Rather than financial constraints.
– Public Welfare Priority: Using spending to improve societal well-being.
Adopting MMT principles can help create a fairer and prosperous economy.
Good vs. Bad Deficit Spending
Good Deficit Spending: Benefits for All Citizens
1. Investing in Public Infrastructure:
Roads, bridges, public transport.
Long-term economic growth and job creation.
2. Enhancing Healthcare and Education:
Better healthcare facilities and services.
Improved educational institutions and access.
Healthier, more educated population.
3. Social Welfare Programs:
Support for the unemployed and vulnerable.
Reduction in poverty and inequality.
Formula:
Good Deficit Spending = Infrastructure + Healthcare + Education + Social Welfare
Bad Deficit Spending: Benefits for the Few
1. Corporate Subsidies:
Benefits large corporations at the expense of public welfare.
2. Military Expenditures:
Excessive spending on defense, neglecting public needs.
3. Tax Cuts for the Wealthy:
Increases inequality, benefits a small segment of the population.
Formula:
Bad Deficit Spending = Corporate Subsidies + Military Expenditures + Tax Cuts for the Wealthy.
Why the Australian Government Prioritizes Bad Deficit Spending
Influence of Corporate Interests
1. Lobbying Power:
– Large corporations often have significant lobbying power.
– They influence policymakers to allocate funds in ways that benefit their interests.
2. Political Donations:
– Corporations and wealthy individuals often make substantial political donations.
– This can lead to policies that favor their interests over the public good.
Short-Term Political Gains
1. Visible Results:
– Corporate subsidies and tax cuts can produce immediate economic boosts.
– These visible results are attractive to politicians seeking re-election.
2. Defense Spending:
– High defense budgets can be politically advantageous.
– It allows politicians to appear strong on national security.
Ideological Beliefs
1. Neoliberal Economics:
– Belief in minimal government intervention and free markets.
– Emphasis on reducing public spending and promoting private sector growth.
2. Austerity Measures:
– Focus on reducing deficits through spending cuts and tax increases.
– Often results in underfunding of essential public services.
Consequences of Bad Deficit Spending
1. Increased Inequality:
– Benefits are concentrated among the wealthy and large corporations.
– Widening gap between rich and poor.
2. Neglect of Public Services:
– Underfunded healthcare, education, and infrastructure.
– Reduced quality of life for the general population.
3. Economic Instability:
– Short-term gains can lead to long-term economic issues.
– Lack of investment in essential services can hinder sustainable growth.
Summary
Understanding the dynamics of Australia’s federal government deficit and surplus is crucial for informed public discourse. Debunking myths about household budget comparisons, recognizing the true role of taxation, and appreciating the government’s capacity to manage inflation are key. Embracing Modern Monetary Theory can guide Australia towards a more compassionate and effective economic system.
Question for Readers
How do you think adopting Modern Monetary Theory could change Australia’s future?
Call to Action
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Social Sharing
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References
Federal Government Deficit and Surplus
Modern Monetary Theory and sovereign currency principles
This article was originally published on Social Justice Australia
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14 comments
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Don -
Andrew Smith -
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Denis Hay -
New England Cocky -
Arnd -
Steve Davis -
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Steve Davis -
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andyfiftysix -
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A Commentator
Return to home pageWhilever plant and raw materials are gathering rust and dust, including people, then the Federal Government is not spending enough. The RBA should not have an inflation target but an employment target, including under employment. The government must spend the currency into existence.
As far as Government spending is concerned, occasionally the truth is revealed, even if only for a short time.
Alan Greenspan was an American economist who served as chairman of the Federal Reserve Bank of the United States from 1987 to 2006. During his time as chairman he was called as an expert witness during a US Senate enquiry into the the sustainability of Social Security Funding by the US Government. Under oath, Alan Greenspan stated, “It doesn’t matter whether it is a question about Social Security, it could be about Defence Spending, it could be about Education Spending, it could be about Infrastructure Spending, it could be about Student Debt, it could be about anything. What matters is – there is nothing to prevent the Federal Government creating as much money as it wants.” The Federal Government has no financial constraints whatsoever. But the Federal Government total spending should only equal the productive capacity of the economy. Any further spending will not lead to any further output because when the productive capacity of the economy is reached, all resources are fully employed, including people who are willing to work. Any further spending will just cause inflation. It does not lead to an increase in real goods and services being produced because the economy has reached its productive capacity. If total spending is less than the productive capacity of the economy then there is no demand pull inflation but we will have unemployment and that has been the situation in Australia for many years during the last 50 years. Productive capacity, is often referred to as ‘The Full Employment Level of Income’. Demand Pull Inflation occurs when there is excessive government spending. Not because they are running out of money but because they are creating too much money and spending it into existence compared to the tax they are destroying.
Can one be directed to MMT models, actually in operation? Sounds attractive socially and politically, but… is not more PR?
Pitfalls?
Being adopted by nativists as a way to reject temporary immigrant churn e.g. international students, who like other temporary residents pay $billions in GST to support budgets in multiple nations (with more non tax paying retirees), can be replaced by MMT?
The obvious criticism, printing money, what happens if/when inflation spikes up? How do you control it without taxes?
Hope it’s not another faux ‘free market’ or libertarian trap, to up end the economy then to be reengineering for the <1%? (See UK Tories’ Truss/Kwarteng, Cameron/Osborne et al)
According to economics writer Noah Smith of centrist persuasion:
‘Examining an MMT model in detail. MMT, for those who aren’t familiar with it, is a small, cohesive group of people who go around telling the government to borrow more and spend more. It stands for “modern monetary theory”, which implies that there’s a theory of how the economy works. So far, when economists have looked into the MMT literature, they’ve concluded that it’s less of a cohesive theory than a meme — a set of arguments for a specific policy, rather than a fully laid-out description of how the economy works’
https://www.noahpinion.blog/p/examining-an-mmt-model-in-detail
@Andrew Smith, if it helps by having an actual example, have a look at Australian response to GFC, and Australian response to Coronavirus.
I don’t want to be technical at all, so let’s digest a couple of simple facts.
During GFC Australian Gov’t (Reserve Bank) released (printed??) billions of dollars and aimed at the unused part of the workforce – mainly building and construction, as the funds will do several circles through society when earnt and spent by the Architects and Tradies, etc. They need tools, transport, fuel, clothing, food, coffee, haircuts, etc, etc. Therefore the “Printed” money from the Gov’t will take up any slack due to lack of private investment funds as it goes round and round through the economy.
As western economies gradually recovered from GFC it was noted that the Australian response was one of the most successful. Very small and gradual inflation and most of the workforce survived.
Compare with Coronavirus Australian Gov’t response. Money was “Printed” and thrown around with gay abandon. There was no targetting of infrastructure of any sort, just hand the money to the Corporates and pretend they would behave responsibly. Obviously the Welfare increase was a necessary move, but basically the money was released and the current Inflation problem began it’s inexorable rise.
So now the current Feds have had to take on the job of running surpluses in an attempt to remove unproductive money from circulation.
As I said at the start, I don’t want to get into the to and fros of what is now being called MMT. I just wanted to provide you with a concrete example of “good” money printing, and “bad” money printing.
Don’t be scared of MMT, we already use it – but Gov’ts don’t want people to realise there is no reason to go without free healthcare, schooling, transport, etc.
Here is a link to some easy to understand videos about MMT: https://www.youtube.com/@PEGSInstitute
Denis Hay: FINALLY, an explanation about the pseudo-science of Economics that makes sense. This arfticle should be part of every school Economics curriculum.
NEC, I am sorry to rain on Denis’s parade, and to hose down what looks like your new-found enthusiasm …
… but I just had an exchange, right here on The AIMN, on the subject of why MMT is counterproductive trickery.
Please go have a look.
Arnd, on the positive side, people are starting to wake up to the sickness of the system.
But they are not yet at the point of saying that we need another system.
Years ago I had hopes for the Tobin Tax, but I know now that measures such as that just tinker at the edges.
You cannot reform a parasitic system.
Reforms can and will be rolled back, as we see right now.
I think a Tobin Tax could be one of a number of useful supplementary measures, but not the main tax reform. It’s not necessarily the revenue it raises, but the friction and gravitational stability it might lend to financial markets seeking ruthlessly to exploit the slightest value fluctuations of currencies or other financial instruments. Think of an empty ship taking on ballast water to dampen its bobbing around uncontrollably in choppy waters – the point is not to carry water from one port to the next, but to smooth the journey.
I would expect the comparatively slight improvement that such a tax might bestow on the dynamics of a capitalist market economy to become much more pronounced within the operation of a (hypothetical) socialist market economy.
I can see no use, need or room for application for MMT in such a hypothetical socialist market economy.
Arnd, unless a system has rigid, unremovable restrictions on the rise of oligarchs, no amount of reform will be permanent.
Steve, the systemic imposition of “rigid, unremovable restrictions” is not really my preferred strategy. In fact, I don’t think it is even possible to design and implement such (fool-proof?) restrictions – and even if it was, I know that I don’t like imposed restrictions, and I haven’t met too many people who do.
I rather think the solution lies in getting people to explore options, implications and preferences, and go about designing and applying the tools that we need to realise those preferences.
Rather than seeking to restrain people, I think it’s about empowering them (ourselves).
This attitude is risky. I can’t furnish conclusive proof that it will lead to the desired outcomes. But, having given these matters a lot of thought over the years, I have concluded that my outlook, if we could act on it, would be the least risky of them all.
No objections from me on that general outlook Arnd.
My “rigid unmovable restrictions” were intended to apply only to the activities of would-be oligarchs.
Funnily enough, China has managed to put in place a system where there is a lot of local autonomy, and controls on oligarchs.
I have some info on how China operates at the local level. Will dig it out.
so much hot air.
the reality is that the government finances are run on a priority system, not a demand or supply system.
if you add it all up, how much is spent on ideology and how much is spent fixing shit?
we elect governments and governments have their own agendas.
For example, to me defence is a futile spend if we are going to spend on a few tanks and a couple ships and subs. That money could be better spent elsewhere. NDIS is a wasteful spend if 2/3rds of the money goes into providers hands. Paying “for profit ” old age has been a less than failed experiment.
we have set up stuff like Superannuation and created another industry that has badly distorted the economy. It also sucks more money from government coffers. Double dipping the system yet doing not much for those on the bottom.
I would want to see a system that is more accountable, less blinkered view of human behaviour. Statements like private does it better need to be consigned to the dust bin. The money to make it a great society is there, just our priorities seem to be all over the place. And every 4 years, the agenda changes. This to me is the real issue not which monetary system is better. If we cant fix whats obvious and in our faces, i for one dont have any faith a new system will do any better……
To understand Macroeconomics a little better, you need to know about the “History of Modern Money Mechanics”
Between 1870 and 1914 there was a global fixed exchange rate. Currencies were linked to gold. This was known as the ‘Gold Standard’. With the start of World War 1, the gold standard was abandoned. At the end of World War 2, a conference was held at a resort (Bretton Woods) in New Hampshire, USA. In an effort to generate global economic stability and increase global trade, the basic rules and regulations governing International Exchange were established. As such, an international monetary system embodied in the International Monetary Fund (IMF), was established to promote foreign trade and to maintain the monetary stability of countries and therefore that of the global economy.
It was agreed that currencies would once again be fixed, or pegged, but this time to the U.S. dollar which in turn was pegged to gold at US$35 per ounce.
What this meant was that the value of a currency was directly linked with the value of U.S. dollar. So, if you needed to buy Japanese Yen, the value of the Yen would be expressed in U.S. Dollars, whose value in turn was determined in the value of gold. If a country needed to readjust the value of its currency, it could approach the IMF to adjust the pegged value of its currency.
The ‘peg’ was maintained until 1971, when the U.S. Dollar could no-longer hold the value of the pegged rate of US$35 per ounce of gold. From this point on, governments used fiat currency as the basis of the monetary system. This system had the defining characteristics – (a) Non-Convertibility; and (b) Flexible Exchange Rates. You need to recognize this major shift in history before you can understand why the economic policy ideas that prevailed in the previous monetary systems (based on convertibility) are no-longer applicable. You cannot assume that the logic that applied in the Fixed Exchange Rate – Convertibility days translates over into the fiat currency era. The fact is that it doesn’t.
Does anyone seriously think the deficit spending that occurred during COVID is sustainable or a model for prosperity?
Are the economies with higher public debt looking at the future with more confidence than those with lower debt?