When I speak to other economists about how money and fiscal spending work, I often get strange looks: if what I say is true, than economists would have taught something that is wrong for the last couple of decades! That must be impossible. If I could name some historical sources to back up my claims? For the description of endogenous money I then refer to Knut Wicksell (and Irving Fisher), and when it comes to the deficit and public debt I refer to Abba Lerner’s Functional Finance. Now I have an even better source: non other than Richard Musgrave, the grandfather of public finance! Here is a paragraph from his 1959 book “The Theory of Public Finance” (International Student Edition), page 582:
Criteria of Policy
The government is never forced to borrow in the market or to maintain and service outstanding debts. There is always the option of monetizing the debt, that is, of printing money and purchasing the outstanding obligations. Whether this is done outright or through the open-market operations of the central bank need not concern us now. For purposes of the discussion, both central bank and Treasury are considered integral parts of one and the same public policy. If it is decided not to monetize the debt, there should be a good reason, since the servicing of the debt involves a cost to the government. This cost must be looked upon as the price paid for persuading people not to spend on consumption or private investment but to tie up their funds in the purchase of public assets. This purchase of nonspending, or illiquidity, serves to avoid the inflationary increase in private expenditures that could result if the debt were turned into money. It is this purchase of nonspending, or illiquidity, that is the crux of debt policy.
This, I think, is very enlightening. More than fifty years ago, students were informed in a completely different way about the mechanics of government debt. Today’s books are full of arithmetics, providing students with some “hard science” to calculate “sustainable” debt. Musgrave knew, and I am very sure that this is still true, that “government is never forced to borrow in the market or to maintain and service outstanding debts”.
Economics then has been in intellectual decline, probably for at least some decades. I am talking about the theories of money and public finance, which are at the core of economics. There has been some progress at the periphery, but the core is definitely rotten. It is time for a new generation of economists to provide a modern economics that integrates the insights of the past that are still important. There are many broad shoulders to stand on!