Credit Creation, Debt and the State with Special Reference to and Critique of Modern Money Theory.

Among other things, we try to establish a connection between the credit creation of private banks (and the central bank), general indebtedness and economic growth under capitalism, and all this with the inclusion of a critique of Modern Money Theory.
This theory has a clear link to Chartalism, according to which today’s monetary system is a result of the legal order of the state. Although Modern Money Theory’s very name advertises its modernity, this theory has roots that go back well over a century. Its earliest theoretical foundation is the state theory of money written in 1905 by the right-wing German economist Georg Friedrich Knapp (Knapp 1905). This argues that the state designates the currency by law and in practice only accepts tax payments in this currency. Today, money is put into circulation as the national currency either by the central bank or the Ministry of Finance or through public-private partnerships, and this (to a small extent) as central bank money (cash, reserves) and up to 90% as the private banks’ giro money (Giralgeld). There is a direct or at least indirect claim to control by the central bank or other state authorities.
The largest part of a country’s money thus exists today as giro money in the worldwide network of computers of private banks, while a small amount of money, varying from country to country, in the form of banknotes and coins makes up the rest of the national money supply. Banknotes and coins remain entirely within the jurisdiction of government agencies, while the bulk of money in circulation is subject only to indirect control by the state. The textbook theory is still that banks act as intermediaries between savers and borrowers, i.e. a bank merely takes deposits and lends a portion of these deposits to creditworthy borrowers. However, this theory cannot logically explain the expansion of the money supply. The second prevailing theory of fractional reserves states that a central bank injects money into an economy at a given point in time, leaving private banks free to expand the money supply because they are required by law to hold only a fraction of deposits in reserve. If one looks more closely at the mathematics of fractional reserve theory, it can only ever explain the re-circulation of money, like the very theory of banks as financial intermediaries, but not the creation of new money. Most theorists of Modern Money Theory ultimately adhere to this second position because it still indicates a strong influence of central banks on private banks. Of course, private banks have to back their money creation with a minimum reserve of central bank money, but Modern Money Theory then concludes that, via rationing, the central bank has at least an indirect say in how much money can be created. However, this formal influence has hardly any relevance in practice, because in cyclically stable cycles private banks pay little attention to the available balances on their central bank account when granting loans, because any need for additional funds can be immediately offset by the creation of new central bank money.
According to the publications by Werner (2014), the empirically valid and logically correct theory is the credit creation theory, which states that new giro money is created when private banks grant loans or financial investments to companies and households. In this process, the loan is recorded as an asset on the bank’s balance sheet, while the corresponding new money that is extended as a loan appears as a liability on the bank’s balance sheet. Thus, loans create deposits and not, as previously assumed, deposits create loans. And fiat money is created when banks deem a transaction profitable, i.e. it is lent to borrowers who promise the highest and safest returns. It is still important to note here that credit does not represent money; rather, on the one hand, the credit agreement and, on the other hand, the disbursement of the credit amount in the form of giral money or cash are two different dimensions, or, to put it another way, the money is recorded as debt and credit. (Huber 2021) Credit is thus also a legal relationship from the outset, whereas money enters the capitalist economy quasi blindly, but must be secured by state law in each case.
The empirical evidence for the credit creation theory can be found in the work of Werner (2014a) and in a statement by the Bank of England. The power of banks to create, as well as to charge fees for, banknotes in the form of loans to their customers represents an enormous structural, redistributive and allocative power of the private financial sector. It is this power of money creation as debt, together with the power of banks to shape the terrain of social reproduction, which dominant corporations then capitalise when they buy shares in the banking sector, for example.
It is thus the demand of non-monetary financial institutions, corporations and households that constitutes the bulk of the demand for money, which is matched by the creation of money by private banks. Similarly, most publicly issued securities are not owned by the central bank, and not even under the conditions of the central bank policy of quantitative easing, with which central banks have bought up enormous amounts of government bonds and provided banks with a lot of reserves. So most public securities are still owned by banks and investor funds. Private households directly own at most about one-sixth of government bonds, in most countries considerably less.
Now, if democratic governments took control of the creation of new money, the private banks would have little role to play, and their profitability and capitalisation would decline rapidly as their monopoly disappeared. The reasons for this monopoly, which is anchored in private property, are precisely legal; it is a historical legacy of the power relations by which international and national creditors have succeeded since the 17th century in subjecting state authorities to their monetary power (and not vice versa, as will be shown).
Of course, central banks also create money, albeit in smaller quantities than private banks. For example, the ECB created about €2.6 trillion with its bailouts between 2015 and 2018 by buying private investors’ and institutions’ securities on the secondary markets. The ECB can only issue the money to private companies, but not to state institutions, which means that direct financing of the state budget by the central bank is not possible, to which theorists of Modern Money Theory react with the thesis that state debt is identical to money creation, with the central bank taking on the role of a cooperating government body. Private banks appear here merely as auxiliary organs of the central bank and the state, which clearly downplays their important role in money creation.
Some theorists of Modern Money Theory assume (as do the Marxists) an endogenous theory of money, and in the course of Post-Keynesianism also a theory of endogenous money creation. According to this theory, money creation is driven by the demand for credit from private actors, such as companies and households. Thus, it is the endogenous economic demand for money that leads to money creation by the private banks, while the central bank exogenously engages in accommodative refinancing of those, i.e. the central bank acts as a bank of banks rather reactively to the private banks of a currency area, which at least structurally shape the economy through their lending and investment activities. However, this seems to be the opinion of a minority of authors, while the majority tends to neglect the role of private banks in money creation.
Huber rightly pointed out at this point that under the conditions of creating fiat money, central bank money is also endogenous, insofar as the central banks also react to the demand for money. He writes: “In fact, central banks today do this much more readily vis-à-vis banks than banks do vis-à-vis their customers, whose demand they meet very selectively and usually under not particularly advantageous conditions. So if one regards bank money (Giralgeld) as endogenous, then central bank money is equally endogenous; and if one regards central bank money as exogenous, the same must apply to bank money.” (Huber 2021) And he goes on to write: “‘The economy’ needs money and creates a corresponding demand for money, but does not itself create money, that is, commonly used means of payment for all kinds of transactions. Only the banks and the central bank do that. The so-called shadow banks do not create money either. However, they accelerate financial money circulation and provide loanable collateral that serves to create money.” (Ibid.)
Huber is right in that capital does not create money, but it does create a demand for money, but not only that, and this is to be objected to Huber here, capital is in a certain sense also jointly responsible for the supply of money. Here we already come to a point where Marxist economists are completely contrary to the theorists of Modern Money Theory, according to which the state does not need the money of capital enterprises at all, rather they need the money of the state. We will come back to this.
The coming short excursus on a Marxist theory of money does not interest the theorists of Modern Money Theory at all, because for them this money does not even exist in this form. And as Eske Bockelmann has written, this money comes into the world blindly, so to speak, with the existence of capital; no state ever created it that way. (Bockelmann 2020)
Money is to be understood as something principally non-contentual (it is non-material; it is therefore an un-thing rather than a thing and it always exists as a form qua representations), whereby all commodities are opposed to it as all contents; and thus commodities are precisely not money and money is not commodities. (Cf. Bockelmann 2004: 180f.) The indifference of money to commodities does not mean indifference here, but rather aims at the fact that the qualitative diversity of commodities is reduced to purely quantitative relations among themselves through their relation to money, i.e. that commodities are without exception related to money as economic quantities (price) and are then considered equal among themselves exclusively in this relation.
Money is recorded in numbers and sums on accounts, it exists in these pure numbers. At the same time, however, this money is endowed with a very special power, namely the power to be exchanged for any kind of something. As a quantified non-substantial thing, money is the comprehensive power of access to x-anything. Bockelmann writes: “It rather becomes itself the measure, a measure in itself, pure quantum as a purely for itself existing quantity between commodities. And money becomes this according to the following, by now well-known logic. Money, as the one and pure means of exchange, which is to be exchanged for virtually every commodity, can itself be determined only quantitatively, as pure quantity. And since it must stand in for virtually all goods, it must itself appear in virtually every possible quantity, it must be able to assume all numerical values in a freely scalable manner. And it results: – Money as the one thing – exchanged for virtually all goods – and therefore as a pure quantity in freely scalable numerical values.” (Bockelmann 2020: 215)
Money is nothing substantial and has no functions, but is the function means of exchange, as Bockelmann says, for us moreover the function measure. Capitalist money acquires its validity (in its first two functions as measure and means of circulation) as a marker that refers to purchasing power, insofar as money, as a system of writing and as a social fact due to a-thematic rules that are quasi-automatically followed by economic actors, is already “socially” recognised and so desired that it includes the expectation of the desire of others. Money is thus associated with the promise, if not the certainty (in view of an open future), that one will get something, whatever, in return. In its function as a measure, money functions as a reliable social fact within a socio-economic context (capital as a total complexion) that has the potential to integrate arbitrary monetary transactions and promises of payment. As such, money realises a kind of objectified, social relation.By virtue of its objective validity, money is potentially “everything to be had” (just as all obligations can be settled), precisely because it remains independent of the concrete means of satisfying needs and desires and is at the same time freed from the immediate power of disposal over products and services, and this corresponds on the one hand to its validity as capitalist money and on the other hand to its peculiar positioning vis-à-vis (capitalist) commodities. When Marx speaks of money as a “social relation”, this means that money has already achieved a supporting stability, a high degree of trust and a high degree of diffusion within the capitalist economy, i.e. it is generally accepted, coveted and recognised, or, to put it another way, it has an inherent deep network quality that points to comprehensive yet fragile and at the same time interdependent socio-economic relations and for this very reason plays an important role in the reproduction of the capital economy.
In order to be considered capitalist money, which is essentially “more” than just a numéraire, which is thus itself already inscribed with the more of capital and which is thus related to deep money and capital markets, for this there must also be a highly developed and densely interconnected payment and credit system, so that all money transactions; credits and promises to pay can be efficiently processed and, in particular, instructions on future payments and promises to pay (capitalisation) can also be realised. Capitalist money does not have to have a 100% stable standard of value as a measure (standard of value does not equal value), but the standard of value must not be too volatile either, otherwise its asset protection quality or its function for credit becomes problematic (inflation/deflation).
The validity of money always also marks a splitting off of money from commodities, whereby money is open to a development that aims at multiplication in primary potency. This potency to increase is not given with the exchange or with the circulation of money, but it necessarily presupposes the capital relation. Money, as a general equivalent and as a means of circulation, intrinsically possesses no value, so it cannot store any value either; rather, the “value” of money consists in nothing other than the presence of the capital relation, which, according to Marx, can be inscribed with the formula G-W-G`.
Modern Money Theory, on the other hand, assumes that in the last instance only the state is capable of creating money. Randall Wray, one of the main proponents of modern money theory, put it early on: “Money is, and always has been, a ‘creature of the state'”( (Wray 2000: 12). Thus, state governments determine the official currency for a country by accepting only this unit for the payment of taxes. And a “monetarily sovereign” government – the US is one, Greece, among others, is not because of the euro – can issue this currency indefinitely. As Wray goes on to write, “The government does not ‘need’ the ‘public’s money’ to spend; rather, the public needs the ‘government’s money’ to pay taxes. Once this is understood, it becomes clear that neither taxes nor government bonds ‘finance’ government spending.” (Ibid.)
As neo-Charalists, this is to undermine the metalist position that money arose from exchange. Neo-Charalists assert the former existence of book money, which was used to record credit and debt. Money is thus essentially a credit-debt relationship. But can’t money be both a general equivalent/pure medium of exchange and thus a condition of capital, and also a (partly) state-shaped credit-debt relation? And can it even be decided historically whether money was first a general equivalent or a credit-debt relation? We can confidently answer the first question in the affirmative and will return to it in our discussion of Geoffrey Ingham’s theory. We can say this much, however, that capitalist money is probably based more on the historically evolved economic conventions of capital-economy than on money created by the law of the state. See also John Milios’ study of the emergence of capitalism in Venice. (Milios 2018) Therefore, there is still no 100% valid legal definition of money to report. Who throws money into circulation, in what quantity and in what form, cannot be legally prescribed by the state, which can also be seen in the fact that the creation of money by private banks is still not subject to sufficient legal regulation; indeed, the money of the commercial banks is accepted by the state as a quasi-valid form of money, but is still officially not legal tender, although it functions like legal tender by convention or because of “good faith”.
This brings us to an important question: how does the state get into debt and what are the economic consequences? For a Modern Money Theory theorist, this is an almost nonsensical question, since the state can supposedly go into infinite debt because it has the infinite capacity to create money. But still. First, a government can borrow from private banks by selling them securities (the United States finances its deficits through Treasury bills, invoices and bonds), but this is in turn limited by how much government debt a private bank wants to hold in the first place. Since these investments usually yield lower returns than alternative financial investments or assets when the economy is good, banks limit the amount of government debt in their portfolios. So it also depends on how much government debt the commercial banks want to hold on their balance sheets and how creditworthy they think the government is. Nevertheless, the proponents of Modern Money Theory claim that government bonds cannot be a source of financing for the state, since banks can only lend the state the money they have previously received from it or its central bank (via minimum reserves). However, a private bank can in principle very well lend to the state without having “got” the money from it, and it thus extends the balance sheet and creates new money, for which the central bank is also not necessary. And a bank can buy bonds and thus exchange assets, this is then only under special circumstances an additional money creation.
Another way of borrowing is to sell securities to the capital markets or to institutional investors such as pension, hedge, sovereign and investment funds. These institutional investors can buy government bonds, but this transaction merely redistributes new money from actors who have already saved to the government. The first two possibilities of government financing – commercial and central bank lending to governments and redistributed money flowing into the economy in the case of institutional investors – lead to increasing government debt, which by extension usually guarantees corresponding government austerity policies: higher taxes, cuts in public spending, privatisation of public assets, etc.
Since borrowing from commercial banks and institutional investors is limited, there is a third way to create new money and this could be an important policy choice during severe financial and economic crises: The central bank could buy the government’s debt. While the first two options are theoretically limited, the third option to buy government debt is not, in principle, for now. The central bank could thus buy as much government debt as necessary to support the economy in times of crisis, as we find today.
This would then initially be a question of accounting. In the process, central banks do not “print” money, because the vast majority of new money creation is digital, that is, central banks credit the money to the government’s account through an entry in the computer. All the central bank has to do is accept the government’s promissory notes and in return make the deposit of money into the government’s account, which is held at the central bank because of the necessary balance sheet operations. In doing so, however, the balance sheet must be balanced: The crediting of money (extension of the liability side at the central bank) corresponds to a claim on the asset side against the government as debtor.
One can now say, as the Modern Money Theory theorists do, that it is clear from the outset that these claims will never be collected, but this then raises the question of how long creditors will trust the state with high debt. The central bank will of course want to continue to monitor inflation as the government spends the newly created money, with the strategy of distributing this fresh money being determined by the state’s policy. Today, however, direct financing in this form is not possible. The representatives of Modern Money Theory, who have gathered in Germany around the journal Makroskop /Makroskop 2021), point out at this point that money is always made available to a state by its central bank in the necessary quantity, think for example of Japan, the USA, Canada, etc., but it is important to point out that this is mostly done via the commercial banks, since in these countries too the formal independence of the central banks must be observed in order to limit state financing.
What does Modern Money Theory say about all these problems? Research claims that a sovereign state has only one source of financing, namely the money provided by its central bank in its account. But if 90% of the money is created by the private banking system and it buys government bonds, how can the state be financed solely by the central bank? Probably not. Theoretically, it could even be financed independently of its central bank, and this is at least partly the case, think again of Japan, where the central bank holds only about 50% of the government debt.
According to Modern Money Theory, it is the state that creates money when it issues government bonds or in the form of mortgage bonds. As a rule, however, when the state issues securities, it first increases its demand for money, which can lead to additional money creation by private banks (giro money) and the central bank (reserves, to a small extent exchanged for cash). Representatives of Modern Money Theory, however, do not see state bodies as actors that demand money, just as private companies do, but insist that the state creates money when it issues bonds.
More precisely, it is assumed that the central bank buys government bonds from banks and other financial institutions, i.e. indirectly, since the Fed in the USA, for example, is also prohibited from buying government bonds directly from the issuing agencies of the state. In this construction, the banks again appear as mere intermediaries and somehow remain absent, as if money creation were essentially a matter between the state/finance ministry and the central bank. Thus, the function of private banks and the financial system as a whole remains largely underexposed in Modern Money Theory. Huber goes on to write: “If the MMT account of the matter were correct, government debt on the one hand and government-issued securities held by the central bank on the other would have to correspond to each other. This is not the case. The public securities held by the Federal Reserve do not correspond to the national debt any more than the reserve balances of the state and banks at the Federal Reserve do. At the beginning of 2019, all reserve balances at the Federal Reserve amounted to about $1,600bn; the value of government-issued securities held by the Federal Reserve was $2,200bn; but government debt was $22,500bn. Banks’ excess reserves were 3-4 times higher than the government’s transaction balances at the Federal Reserve.” (Huber 2021)
So government demand for money is neither the only nor the largest trigger of money creation. Inspired by Knapp’s Chartalist theory, the role of private demand for credit as an engine of the economy is negated or downplayed; like Milton Friedman, it is believed that the government drives money creation. While Friedman names the central bank here, for Modern Money Theory it is government spending. In continuation of the assertion that government debt is equivalent to money creation, one then comes to the statement that government debt is in principle not debt at all, at least it is something different from private debt and must accordingly be analysed differently. Rather, it is money creation that can have a stabilising and expanding effect on the economy, which completely ignores the fact that today it is mainly the financial sector and the wealthy elites that profit from it, as will be seen.
So what is the real situation with debt, and especially public debt? In 2017, the world counted nearly $240 trillion in debt held by households, corporations, financial institutions and governments. This represents an increase of more than 170% since 2000. While government debt certainly gets most of the attention, it is primarily total debt that needs to be analysed. The fact that banks create money by lending raises two questions: First, how much interest does the issuance of credit generate, and second, who essentially benefits from that interest? The Australian economist Tim Di Muzio has studied this and comes to the following conclusion: in1969, interest as a share of GDP in the US amounted to about $126 billion, or a little less than 9% of national income. By 1982, interest payments amounted to over $1 trillion or about 30% of national income, Since the early 1980s, interest as a share of national wealth has fluctuated between 15% and 31%, but has averaged just over 25% of GDP since 1980, To illustrate the magnitude of this quite real transfer of wealth, it is important to remember that the amount of interest paid annually in the US has exceeded the amount of federal income taxes paid since 1978. (Di Muzio 2015/Di Muzio/Robbins 2016)
Tim Di Muzio further assumes that today every economic transaction, be it the purchase of a good, a rent or mortgage payment, or the payment for a service, must include interest on outstanding debt. This would indeed mean that part of the price of something x-anything that is purchased would be subject to interest. The question that now further arises is who primarily benefits from lending and the increasing capitalisation of commercial banks? Tim Di Muzio draws on the distribution of appropriated assets here and shows that the top 1% holds a significantly higher percentage of interest-bearing assets (53.2%) and a significantly lower percentage of debt (6.7%) than the bottom 90% (9.2% and 72.4% respectively). (Di Muzio 2015) Thus, by issuing credit, first to governments as a form of “public” debt and then to private individuals, private banks have created a financial system that provides them and private investors with a steady stream of capitalised income, which in turn conditions their power and the influence with which they can protect their various interests.
Money is thus both an important “medium” of the capitalist economy and a matter of state; moreover, it serves to redistribute wealth between different classes, as the Bichler/Nitzan studies have repeatedly shown. It has long been known that among institutional investors, the share of the 1% elite has grown significantly, especially since the 2007 crisis, while the share of pension funds owned more broadly has declined in recent decades (the share of mutual funds concentrated in the hands of the 1% elite of US households has also increased). For about 90% of the US population, financial markets and their assets have little meaning. Tim Di Muzio shows that 80% of the population in the US transfer their assets elsewhere because of their low share of interest-bearing assets, and only the top 10% have a significantly positive interest balance. (Di Muzio/Robbins: 2016: 115). The 1% elite also holds a larger share of government debt and a high share of interest-bearing financial assets.
This is also the result of a certain autonomy of private banks, which consists of being able to issue mortgages, personal loans, car loans, credit cards, home equity loans and business loans easily, if the demand for credit exists. Now the Modern Money Theory theorists, on the other hand, believe that the central bank is in complete control of all this and accordingly should keep interest rates as close to zero as possible. Mysteriously, they talk about “the” interest rate, but there are in fact many interest rates. And even long-term government bonds will almost always have higher interest rates than short-term ones because the future is uncertain and thus unpredictable things can happen before the bond reaches maturity. Without higher interest rates to compensate for the higher risk of default or longer maturities, there is unlikely to be anyone willing to buy the bonds or make loans. From the Modern Money Theory side, one would probably reply that the central bank could buy the bonds instead, but that might again mean taking the risk of runaway inflation.
The question that arises here is rather whether high rates of economic growth can or must potentially ever be used to repay outstanding debt. The first problem is that when banks lend, they do not merely generate the interest owed on the loan. Tim Di Muzio gives the following example: If a bank makes a $500,000 loan for a house at 5% interest over 25 years, it does not create the $625,000 needed to repay the interest because the borrower now owes $1,125,000 (if annual simple interest is applied). (Di Muzio 2020) It follows that in the capitalist economy there is always more outstanding debt than there is potential to repay it. (The capital relation is sui generis a debt relation, a socio-economic relation in which precisely the intentional negative – indebtedness – is to be understood as a positive condition for capitalist production, as the former GDR economist Peter Ruben points out). The only way to overcome this structural gap, at least temporarily, is for additional institutions to take out further loans with a later maturity date compared to the loans given to earlier institutions. This structural feature of outstanding debt permanently fuels competition for larger yield differentials so that debt can be repaid in the first place.
Moreover, there is always a difference between the total price of goods and services on the market and the available purchasing power, which in turn makes it necessary to expand lending if the economy is not to slide into recession. This in turn strengthens the power of commercial banks, since governments, most businesses and households can hardly survive without credit. If governments, businesses and individuals only spent what they earned, there would be a massive economic depression due to a lack of purchasing power.
A third dimension concerns the growth rate of the global economy that would be necessary to repay the outstanding debt, or at least to sustain the debt-based money flows.Tim Di Muzio points here to a 2015 report by the global consulting firm McKinsey, which calculated the growth rates necessary for some selected countries to start repaying their sovereign debt (other debtors such as consumer, corporate, municipal and financial were excluded from the study). (Di Muzio 2021) In doing so, the average of the growth rates (of a group of European countries, the US and Japan) showed that the real average growth rate was 1.67%, while countries would have had to grow at an average rate of 3.46% just to start repaying their sovereign debt. Since sovereign debt accounts for less than one-third of total global debt, one has to assume that servicing all outstanding debt would require growth rates approaching 15% per year. Yet virtually all estimates of national and global growth from the IMF to Piketty predict a further slowdown in growth rates accompanied by rising global debt. In a perverse way, Modern Money Theory is correct that debt cannot be repaid at the global level.
Going further, Modern Money Theory even claims that a sovereign state with its own currency cannot overindebted itself in this currency and thus cannot become insolvent, since the Ministry of Finance, in cooperation with the central bank, can create the necessary funds at any time. But every over-indebted government – one thinks recently of Argentina and Greece, for example – has had to experience the opposite at a certain point in its debt level (because of foreign debt in particular). And even strong domestic debt remains a huge problem, as Japan’s less-than-pleasing growth rates since the 1990s show. If, for example, the European Central Bank can only buy government securities issued in Europe on the secondary markets, EU member states and their fiscal policies remain more tied than ever to the price movements of the financial markets, and this in turn intensifies debt competition between EU states: too much debt leads to undesirable economic events such as inflation and/or asset inflation as well as the stagnation of real wages and mass purchasing power. The currency may depreciate, making imports more expensive and more difficult to finance in domestic currency. Foreign direct investment declines. Austerity policies are tightened. Many developing and emerging countries have had such experiences in the past decades.
On inflation, we will come back to this, one hears little from Modern Money Theory. According to this theory, government spending is considered non-inflationary because this spending supposedly flows mainly into the real economy and thus leads to an increase in economic capacity utilisation. In economic reality today, exactly the opposite is the case, because the majority of all financing does not flow into the real economy, but primarily into assets, i.e. real estate, shares, derivatives, etc. The majority of financing does not flow into the real economy, but into assets, i.e. real estate, shares, derivatives, etc. The majority of financing does not flow into the real economy. With regard to the so-called real economy, one must also distinguish between capital- and technology-intensive sectors and the less productive service sectors, whereby precarious, poorly paid jobs are the rule in the latter, and it is therefore quite unlikely that government spending can contribute anything to sustainable development here. In the “real economy”, it usually takes more than just money, because private companies only invest when a corresponding profit rate can be achieved or a corresponding output can be achieved. It depends on the expected net profitability compared to the current net profitability whether companies invest. In a boom phase, the expected profitability will be higher than the current net profitability, and vice versa in a recession, so that the two rates not only fluctuate closely around each other over longer periods, but tend to balance each other out. Supply-demand relations always remain related to this development of average profit rates. When growth stagnates, there tends to be no investment in fixed capital or machinery and fixed assets. If the state money is not specifically injected into technologies, qualification and know-how and thus increases the productivity and competitiveness of a company, the state money is not needed.
Instead, most of the state money today flows into higher incomes and thus partly supports the wealth accumulation of the elites and the middle class. So QE policies do not automatically lead to higher real economic growth, but they do accelerate the rise in stock prices and generally act as a monetary incentive system in times of recession for speculative capital to make increasingly risky trades with the inflowing money flows. At a certain stage, the Fed’s purchase programmes were no longer limited in terms of duration and volume. The Fed held 27% of all US Treasuries in 2012. Without the Fed’s policy, interest rates on US government bonds would be significantly higher. By lowering interest rates and freezing them at a low level, rich investors not only get money cheaply, but it is also meant to avoid the realisation of debt. The granting of cheap loans is called evergreening, which also supports companies that have hardly any chances on the market. Analysts at Deutsche Bank, for example, complain that the ECB’s monetary policy has “disproportionately benefited borrowers with the lowest credit ratings” and prevented the process of creative destruction. Low central bank interest rates also reduce government fiscal discipline, they lead to asset inflation, to the prolonged survival of unprofitable companies and the zombie banks, and finally to the discontent of savers.
Thus, massive purchases of government bonds and securities by central banks in secondary markets are taking place, replacing risky debt on commercial banks’ balance sheets with prime debt (reserves). Due to these purchase programmes, private banks are further inundated with reserves, so that normal monetary policy via repo (sale and repurchase agreement) no longer works. Already in 2009, the commercial banks were so saturated with reserves that an active monetary policy of the central banks via repo was hardly possible any more, and thus they have further lost their influence on the money creation of the commercial banks. In addition, central banks continue to provide cheap credit to commercial banks, which in turn buy higher-yielding government bonds or lend at high interest rates to the private sector so that they can recapitalise their companies and get their balance sheets in order. According to BaseI 3, the purchase of government bonds does not even have to be backed by equity capital.
Central banks have seen both the volume of long-term refinancing operations and the size of their balance sheets increase in recent years, and some of their purchases are backed by poor quality collateral. In the wake of the 2008 financial crisis, a large part of the bad mortgage-backed securities (MSBs) were deposited with the central banks. Moreover, the low interest rate policy and the purchase of government securities from their own currency area can lead to further money problems. As long as the financial sector absorbs the newly created money, credit creation only raises the prices of fictitious and speculative capital, not industrial goods.
Some proponents of Modern Money Theory do not even distinguish at this point between government spending in the financial sector and spending in the real economy for employment and production. (A distinction that is also nonsensical in itself, but appropriate in this case.) Without this analytical distinction, one does not see that asset inflation is being fuelled. Moreover, the low interest rate policy leads to the following: The interest rate and the price of the security thus behave inversely to each other. When interest rates are low, investors can borrow more and invest in assets, be it derivatives, real estate, jewellery, gold and shares, which of course further fuels asset inflation. There is now an implicit guarantee by central banks to hedge trading in securities, which is like a put option, whereby asset prices cannot fall below a certain level. Interesting in this context is the current zero interest rate policy (with a simultaneous increase in the government budget deficit), which in turn causes the prices of shares, bonds and real estate to rise. After the 2008 financial crisis, the US reduced key interest rates to zero, with the government deficit rising to 12% of GDP in 2009. While low-income populations hold most of their savings as bank deposits and are adversely affected by low interest rates, those who invest their assets in stocks, real estate and bonds benefit from low interest rates. But if the central bank imposes negative interest rates on commercial banks’ deposits so that they should lend their money to customers instead of giving it to the central bank, this does not necessarily have to happen. Even the cheap money of the central banks does not have to be accepted by the commercial banks.
So the bubbling flow of money and credit leading to debt has fuelled less consumer price inflation since the 1980s, but this is partly due to the fact that there has been massive low-wage competition from emerging markets on a global scale, but this too could change again if financial investment takes place in real estate, land acquisition, commodities and energy due to lower returns in the financial sector. Luxury consumption by the elites is having similar effects.
Moreover, it may look like the US can easily handle this kind of over-indebtedness dynamic. This has so far been the result of the privilege of the US dollar as the functioning reserve and world currency. Most international transactions in production, trade and finance are still invoiced in dollars and executed through the American financial system. Despite its decline in value, the dollar continues to be regarded as the leading reserve currency by a wide margin and the benchmark for all other currencies until further notice (think of China’s emerging competition). It costs Wall Street and Washington very little to create the dollars, while the rest of the world must deliver 100% equivalent value for every dollar.
Modern Money Theory here shows its affirmation of the perspective of the core capitalist countries and in particular it supports American exceptionalism, countries around the world hold their reserves in dollars, effectively making them a welcome market for US Treasury bonds. Moreover, key commodities like oil are still mostly priced in dollars, forcing countries to accumulate the currency to pay for key imports. This means that the United States can run huge deficits and borrow heavily without any constraints (so far).
Most emerging markets and the Tricont are dependent on foreign investors not dumping their bonds and thus lowering the value of their currency, which drives up interest rates and inflation. One thinks here of the example of Chile. In the 1970s, the government of Salvador Allende greatly increased government spending, thereby raising the incomes of the poor in Chile, which, after a working period, led to a rise in inflation. One knows the result.
Compared to the US, most countries enjoy less “monetary sovereignty”, which is a core concept of Modern Money theory. A Monetarily Sovereign State is one that can spend its currency almost at will in the form of Keystroke Capitalism. The US enjoys a high degree of monetary sovereignty, as do Canada, Japan and the UK, albeit to a lesser extent. These countries, for example, need to import things that are priced in dollars, such as oil, and the value of their currency has a direct effect on living standards, which is different in the US because they own the currency in which oil is priced. Brazil, for example, needs harder currencies like the dollar and the euro to import raw materials and manufactured goods. To buy important imports, poorer countries often have to borrow in these hard currencies. To repay the loans, they need to earn foreign exchange through exports.
Some post-Keynesians and also theorists of Modern Money Theory have proposed debt relief in this context, i.e. a capital cut. Today, as long as general accounting standards apply, debt forgiveness/capital cuts on a large scale are out of the question, because on a bank’s balance sheet this would mean writing off outstanding claims against debtors without at the same time being able to write off the associated liabilities, because these represent the non-bank’s fiat money. For non-monetary financial institutions, too, it is true that they can only write off claims against debtors to the extent that there are equity capital cushions on their balance sheets.
With the rise of capitalism came a particular configuration of money creation in which the relationship between the state and the financial sector became public-private partnerships over certain historical periods. Economist Geoffrey Ingham (Ingham 2008) identifies three main groups of actors here – states, private financial firms and households – who struggle over money, its effects and its redistributive powers. The starting point is a) money as a structural and systemic function in the context of capital accumulation, b) money as a public-private hybrid of circulating credit-debt relations, and c) money as monetary capital that realises assets of all kinds, derivatives and future promises to pay as returns. Ingham’s theory of money thus analyses money in the context of a fluctuating relationship of three actors, with money being constantly negotiated between these three groups in a web of all-round and mutual dependencies, think for example of interest rates, velocity of circulation, inflation rates, redistribution, etc. For Ingham, money comes into existence when it is accepted by the state either as a means of intervention in the market or as a means of paying taxes (Ingham prefers the latter).
In this context, A. Samuel Knafo has shown that the gold standard was in fact a technology of power actively shaped and used by the British state for its own purposes. (Knafo 2013: 176) Knafo writes that in 17th to early 20th century Britain, “the success of the dominant financiers resulted from their flexibility in adapting to new structures of governance” (ibid. 2013, 177). In contrast, Joseph Vogl, in line with Marxist research, speaks of “seigniorial power” of the dominant financiers with regard to the economised form of governance and lists the following genealogical features for this (Vogl 2015: 103ff.): (1) The transformation of state power into private capital power is characterised by the establishment of heterogeneous institutions in which the integration of legal rules, political intervention, economic infrastructure and diverse capital strategies occurs. (2) The state is increasingly subjecting itself to the power of private creditors by issuing government bonds. (3) The informal connection between state structures and private financialisation gradually solidifies, strengthening the credit system and creating stable infrastructures for the movement of money and capital that enable the trade of fictitious capital on a broad basis. In this context, the central bank represents a specific institution of political-economic governance that today remains more tied than ever to the cyclicality of capital accumulation.
While Ingham’s theory may provide important clues for a concept of the power relations between these three actors, their struggles and their fields, not least their institutionalisations, he seems to neglect the hierarchical and vertical structures in these fields, which are precisely then condensed into entrenched institutions.
Let us look, for example, at the condensation of the relationship between the state and financial capital. Today, the state confirms the legality and legitimacy of the financial industry’s business through a series of laws and rules, especially when the industry uses legal money as part of its own liquidity reserves. This kind of affirmation is extended today by the state not only assuming liability for the solvency of private banks in times of financial crises, but also rescuing them with enormous sums of money (bailout). In this process, the states, especially in the euro area, obtain the funds with which they save the banks by borrowing from the banks, while the latter continue to support their balance sheets in part with government bonds. By affirming the creation of credit by the commercial banks, the state leaves an important function in the economy to financial capital; it affirms in principle that the financial assets of the capitalist economy are, as far as possible, channelled into capital accumulation and that the private banks throw the fictitious and speculative capital into circulation at a profit. For the state, as the economic manager of a household, national capital accumulation is in fact the condition and resource for its own demand for money, with which the infrastructures, the public goods and the state apparatuses and their functions, institutions and operations are paid for.
The state balances its expenditure first and foremost by making its citizens debtors, that is, by levying taxes on them, and at the same time paying for the expenditure with the self-created means that can pay off debts, namely money. By virtue of the state’s disposal, legal money is also a means that, regardless of its own material worthlessness, legitimises the power of private property to access the capacities of a national economy. And it should be noted that any monetary debt can be repaid with legal money. But this is only one side of the coin: the determination of price values, which are merely represented by legal tender, results primarily from the movements of commodity, money and capital circulation itself. What the units of legal money, which are related to the priced commodities, are themselves “worth” depends precisely on capital accumulation and the ever-changing sums of capital-induced commodities and services, whose prices/exchange values are inscribed in legal units.
In the second part, we will focus more on the strategic and political positions of Modern Money Theory.

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Furthermore, Modern Money Theory claims that taxes do not serve to finance government spending, but rather that government spending creates the money with which taxes can be paid, i.e. taxes cannot be a source of financing for the state. Rather, the state must first have provided the citizens with money, with which the citizens are then put in a position to pay taxes afterwards. For the state, taxes serve at best to redistribute income between the classes and to keep inflation in check by siphoning off money that has an effect on demand.
So there is no need for nation states to levy taxes when it comes to maintaining their independence and solvency, at least since there has been a central bank whose currency does not have to be convertible into gold. It follows that, in principle, the state no longer needs to be tied to the money and capital markets to cover its financial needs, although today it still has to intervene via the secondary markets. According to the theorists of Modern Money Theory, this is to change in the future. Consistently, Flassbeck/Spieker then write: “This alimentation is blatant and absurd – as in the Eurozone – especially where the central bank is prohibited from directly financing the state. This prohibition forces the central bank to channel the money that the state receives for the credit-financed part of its fiscal policy through the banking sector. The state then pays a high margin to the private banks for the risk-free transmission of central bank money. This is really a scandal, because the state does not even use this fact as a means of pressure to force a completely different financial behaviour on the banks.” (Macroscope 2021) So the states do not really need the tax revenues, because they can simply generate the money digitally.
However, and this can also be derived historically, tax payments do not represent money in return for the state, but are to be understood as an inflow of funds for the state to at least partially finance current state expenditure. Government spending financed by taxes and the issuance of government bonds does not constitute money creation; rather, expanded government demand for money may entail expanded money creation by the private banking sector. If a bank buys bonds and thus exchanges assets, however, this is then an additional money creation only under special circumstances. Under certain conditions, of course, central banks also create money, albeit to a lesser extent than the private sector.
The state’s monetary needs are therefore initially financed through taxes and government bonds; the state pursues a flexible policy here by raising or lowering certain types of taxes, reducing public spending, carrying out privatisations and issuing new government bonds. The tax system is a relationship of domination and exploitation sui generis. The state – supported by its monopoly on the use of force – can finance its expenditure by ordering the collection of taxes from all members of the population who recognise precisely this form of levy, and thus citizens are transformed into debtors. The institutionalisation of taxes was the result of a civil war in which the exercise of physical violence by the state led to the taxation of the population, whereby physical violence must always legitimise or mask itself with symbolic violence There is a kind of circular causality between the military, tax administration and statistics.
If the state levies taxes, then despite the coercive relationship that implies them, they are usually paid voluntarily and belong exclusively to it. The basic legal text in Germany leaves no doubt about this: “Taxes are monetary payments that do not represent a consideration for a special service […]” (Tax Code §3,1) Only the state is able to finance itself through taxes, whereby these are first to be considered as a deduction from the profits of companies and from the wages of private households. Thus, taxes represent the hinge between the economy and politics or between money and law. Insofar as taxes are sums of money that do not function directly as capital accumulation, they are withdrawn from the direct power of disposal of capital, which the latter, however, regains in part through trading in government bonds.
Technically, it then looks like the tax revenues in most countries first flow into the bank accounts of the tax office, where they are transferred as payments in reserves to a state transaction account at the central bank. Huber writes: “Either way, the funds from tax payments remain in circulation – the reserves in interbank circulation, the giro money in public circulation. Reserve balances are not erased, as MMT often suggests. Reserves are only erased by payments from banks to the central bank, just as bank deposits are erased by payments from non-banks to banks… Reserve balances on government transaction accounts at the central bank, however, are not erased. They continue to exist and circulate through government spending to whomever. The deletion of these funds as ‘money in reflux’ can only be assumed if, like MMT, Treasury and Finance, you put government and central bank into a black hole called ‘public sector’ in terms of balance mechanics and also confuse the government’s central bank transaction accounts with central bank loan accounts or refinancing accounts of banks…. First, the new public debt issued in whatever form is not equal in quantity to the ongoing total expansion of the money supply, but only the smaller part of it. Second, the outstanding government debt accumulated over time tends to exceed current government budgets and, in some cases, current economic product.” (Huber 2021).
Since Modern Money Theory assumes that government spending is money creation, the question arises why a government should still issue government bonds or collect taxes at all. If the government spends money without taxing or borrowing, which does not happen in reality to this day, then what matters, according to some Modern Money Theory proponents like Stephanie Kelton, is which social group gets the money. If the elites get it, they would probably save it; if, on the other hand, poorer sections of the population get the money, it would stimulate demand for consumer goods, provided the economy can also satisfy this demand.
Moreover, if taxes are talked about, it is in terms of two functions. Progressive authors of Modern Money Theory repeatedly point to income redistribution, according to which the rich should be taxed more heavily, with figures like Ocasio-Cortez linking these tax increases to the Green New Deal. Kelton, on the other hand, claims that the government’s bank – in this case the Federal Reserve – will simply process payments by crediting digital dollars to the seller’s bank account. So, in principle, the government can pass any budget it wants and it pays for everything by creating new money. Today, however, the Fed is still prohibited by law from buying bonds directly from the Treasury. It is true that central banks buy huge amounts of government bonds in the course of quantitative easing (QE) policies, but only existing securities from private holders on the secondary markets. And at present, regular money creation, without increasing inflation, can finance at most 5% of total current government spending in developed countries at current growth rates and government spending ratios. Taxes and government bonds cannot be substituted with this.
A second function is to use taxes to recapture the money spent in such a way that no excessive inflation or asset inflation can occur. Nevertheless, the money collected continues to circulate and today we are dealing with a terrific asset inflation, although this is not directly due to the money creation of the government, but a) to that of the banking and financial sector, b) to the quantitative easing policy of the central banks, and c) to the over-indebtedness of public budgets. A central bank today is of course obliged to react to inflation and deflation, assuming that under conditions of private credit creation, interest rate policy interventions are largely ineffective in generating or containing inflation. Moreover, changes in the price level have long depended on more factors than just the supply of money. A Marxist theory of inflation knows this.
Nevertheless, the social effects of consumer inflation in particular should not be underestimated. The rise in inflation in the 1970s, culminating in the record 15 per cent, paved the way for Reagan. The extreme inflation of the Weimar Republic in the 1920s contributed to the rise of Hitler. Inflation peaked in Germany in October 1923 at 29,500 per cent, which meant prices were doubling every four days. The value of the mark collapsed from 320 per US dollar at the beginning of 1922 to over 4 trillion per dollar at the end of 1923, meaning that the mark lost 99.999999992 per cent of its value in one and a half years. The value of the real wage, if it can be measured at all with such rapid inflation, fell by over 80 per cent as wages lagged badly behind price rises. (Henwood 2019)
Modern Money Theory, after all, assumes, at least implicitly, a merging of monetary, fiscal and credit systems in the public sector to make it easier to realise expanded money, credit and debt financing. Therefore, direct monetary government financing is demanded, i.e. money creation by central banks for the purpose of directly financing intended government spending. Even Huber now admits that under certain conditions and according to certain monetary rules, monetary government financing can make sense and that the policy of the black zero is nonsensical. With regard to the real economy, however, nothing would really have been learned. Today’s quantitative easing (QE) would remain QE for finance, while QE for real economic stabilisation and growth in states and affected population strata would continue to be missing.
It should be noted, for example, with regard to the enormous state (German) rescue packages during the Covid 19 pandemic, that the aid for companies consisted mainly of loans. And, of course, one can foresee that weak companies will either not be able to repay the loans or other companies will not have received a loan in the first place due to a lack of creditworthiness. This in turn leads to a weakening of production potential and thus of gross domestic product (GDP).
The question remains, of course, why there is no investment in the real economy. If one looks at growth rates, profit rates and productivity rates under conditions of secular stagnation in industry, this answer is relatively easy. We have argued this at length in our texts on Smith and Benanav’s books.
The thesis of deindustrialisation in the developed countries states that a decline in the share of industrial employment in relation to total employment is to be assumed, which is also substantiated by all statistics since the 1970s. However, industrial output in absolute terms has not decreased in these countries, but rather increased, which does not allow the often cited conclusion that the productive capacities of industry have simply been outsourced to less developed countries. The increase in output is usually attributed to rising labour productivity rather than the import of low-cost materials and labour. At this point, Bananav, like Jason E. Smith, cites economist Robert Solow, who talks about seeing the computer age everywhere but in the productivity development statistics of the last forty years. Yet productivity statistics in the US show a steady increase of about 3% since the 1950s, with an assumed 10% rate in the electronic sector since 1987, consistent with the idea that the production of computers with higher processor speeds generally goes hand in hand with the production of more computers. But since 2010, productivity growth rates in US industries have collapsed, bringing the US close to such countries as Germany and Japan, which have been dealing with stagnant rates for some time, though they use more robots in industry than the US.
For Huber, the following questions arise with regard to direct government financing: “firstly, whether the funds for monetary government financing are to be made available for a limited period and on a limited scale under certain situational conditions, or whether it is to be an unlimited and, in principle, permanent practice; secondly, whether the decision on this is to be taken by the central bank according to criteria of monetary, financial and economic stability or by the government and/or parliament according to aspects of fiscal and political desirability. In the words of Wray, a creditary-fiscal synthesis as anticipated in its unreal sectoral balance mechanics as well as in the postulate that government spending finances taxes (and thus taxes could be replaced by monetary government financing).” (Huber 2021)
For Modern Money Theory, government debt (as a share of GDP) is generally not a problem, nor is the increased share of spending that must be devoted to servicing debt to private creditors Debt does, however, as Marxist James O’Connor says, increase the power of capital over the state: a government that does not pursue capital-friendly policies will have a hard time getting a loan. One could almost say that in principle, i.e. if the power of private banks is reduced, Modern Money Theory sees in today’s monetary system a perfectly functioning credit and debt machine that serves social justice. Therefore, their ideas about the future of money, banking and finance, or even their abolition, are structurally conservative.

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Translated by deepl

Foto: Bernhard Weber

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