1. Target Employment not Debt
The term ‘government debt’ is a misnomer at any rate. But the idea that the government can choose to have its budget in deficit or in surplus is demonstrably wrong. What the government can control is the level of unemployment (see below). It should target what it can actually control.
2. Employer of Last Resort (ELR)
Here is the easiest way to control it. Offer a job in the public service, at a living wage, to anybody who wants one. This is Bill Mitchell’s ‘Job Guarantee’ programme; it has also been promoted by Hyman Minsky, Warren Mosler, Randall Wray and others (Pavlina Tcherneva has done excellent work on it, including studies of real-life examples). The government shouldn’t, obviously, force anyone to work. Unemployment benefits should still be paid to those who are unable to find work appropriate to their needs and skills. But anyone who wants a job should be offered one in the public service.
Under our current system (neoliberalism), the state – with the collaboration of the central bank – controls inflation by forcibly keeping a portion of the workforce out of work. Tight monetary policy, fiscal austerity, and policies that favour non-productive finance work to limit economic production beneath capacity. Thus there are fewer jobs available than people who want them. Workers then have to compete for work, bidding down wages in the process.
The problem is that people who have been out of work for a long time are unattractive to employers, even if their price is low. By the time you get to third generation unemployment of the sort found in deprived parts of the UK there’s basically no hope.
If the state offered an ’emergency’ job to anybody who wanted one, it could have full employment without too much inflation or deflation. When wages fell, the emergency-job wage would provide a floor below which they couldn’t fall, since if employers paid less workers would just move into emergency jobs. When wages rose, workers could move out of emergency jobs and into the labour market, increasing the supply of labour and thus checking the rise in wages.
End of deflation; end of inflation; end of involuntary, non-structural unemployment. Simple. Notice any major parties supporting it?
3. Control House Prices on the Supply Side
The median house price usually grows much faster than earnings, pushing up rent as well. Basically, the market is terrible at supplying new homes. A house is worth whatever a bank will lend for it, so banks set house prices. As long as they keep them rising fast investors are better off buying existing properties than financing the building of new ones.
When prices rise faster than earnings for a sustained period the state should step in and finance the construction of affordable housing in desirable areas, selling it at cost or renting it an an appropriate rate. When house prices collapse, it should put a floor under the prices by buying up cheap housing and renting it out (a family in negative equity might have the government take over its mortgage and be given the option of renting back its home at subsidised rent). When prices pick up again, the homes would be bought off the government, checking the price-rise.
Like the job guarantee, this is a buffer stock policy, based on the recognition that the government can control price-volatility directly. In this case it can keep the price of accommodation in step with earnings.
4. Zero Interest Rates and the Elimination of Long-Term Bonds
Once the state has direct control over inflation, most central bank policy becomes unnecessary, especially interest rate targeting. The base rate could just be left at zero. While interest rates are often raised as an anti-inflationary measure, the evidence suggests that high rates can sometimes add to inflation. At any rate, the correlation between rates and inflation is too weak to justify the current policy of trying to control one via the other.
The rest of the spectrum of interest rates would be determined by the potential profitability and risk of various types of loans – as it should be, though the banks clearly need some help with their underwriting (see below).
With rates left at zero, there would be no point to government bonds. The government could just stop issuing them. Politicians could no longer bamboozle the public (and themselves) by talking about ‘out of control government borrowing’, ‘the debt we inherited from the last government’, and the rest of the nonsense that pours out daily.
There’s also just no need to pay people to save, nor to reward rich people for being rich by providing them with an extra income stream.
Issuing government bonds when you’ve got a floating, fiat currency is like wearing a helmet and goggles while driving a hard-top modern car.
5. Close Secondary Markets and Regulate Banks
Secondary markets for mortgages should be closed down. Bill Mitchell proposes that as compensation the government should offer free treatment for gambling addiction to those who participated in such markets. In general, banks should be able to make loans but not to sell them on to third parties.
If a bank issues a mortgage, it should be able to use as collateral only the current value of the home, or a valuation based on its rental income over 30 years. You should lend a mortgage to somebody because you think she can repay it, not because you think the collateral will appreciate.
Also banks shouldn’t be able to accept other financial assets as collateral, sell credit default insurance, trade in foreign exchange, and lots of other things they are currently, absurdly, able to do. There’s a nice bullet-point list here. See also here.
Basically, banks should profit by making loans that generate income streams, not by tricking other institutions into overpaying for assets.
When people talk about banking reform, they mostly discuss raising capital and reserve requirements. This would only increase the cost of lending. As long as financial fraud is an available antidote to low profitability, squeezing the profit margins of banks can only make things worse. Banks have to be regulated on the lending side; making it harder for them to borrow has never worked and will never work.