In this post, I want to outline the promise of MMT for the US political economy while digging into several legislative and regulatory problems associated with enacting MMT policies long-term. I critique the MMT approach in the US because the movement has yet to adequately dissect what hurdles and limits keep the government from embracing MMT spending strategies. The major obstacles appear to be a series of legislative actions restricting deficit spending without corresponding borrowing through Treasury auctions.

The Case for MMT

Kelton drew on the observations of Warren Mosler, a former government bond trader who challenged the dominant understandings of government spending in his (1994) “Soft-Currency Economics.” Drawing on his first-hand experience in financial markets, he challenged traditional views of government spending, taxation, and monetary policy in the US, but also other sovereign countries with fiat currencies like the US dollar. And, as Mosler says on page 3/26, “Fiat money is a tax credit not backed by any tangible asset.”

Mosler’s core ideas emphasize that governments that issue their own currency operate under different rules than households or businesses. He argued governments that issue their own currency (like the US with the dollar) cannot “run out of money” in the same way a household or business can. Government’s constraints are not financial, but real resources such as labor and materials. Also, government spending does not depend on revenue from taxes or borrowing. Instead, the government spends money by crediting business and citizen bank accounts, and this process creates money.[1]

Government deficits are normal and not inherently harmful, in fact, they add net financial assets (money) to the private sector. Borrowing is a way to manage interest rates and not a necessity for funding the national government. Mosler acknowledges that government spending can be problematic if it causes inflation. This can happen when spending outstrips the economy’s capacity to produce goods and services.

Government borrowing through issuing bonds can provide a safe asset for investors and collateral for additional borrowing or obtaining cash liquidity. US treauries are a major source of stable collateral around the world that allow corporations and countries to acquire their dollar needs for international transactions. Eurodollar lending requires high quality collateral like US Treasuries to keep borrowing costs low.

Taxes create demand for the government’s currency, but also remove money from economic circulation. Following Mosler and Kelton, MMTers argued that since people need to pay taxes in the national denomination, it creates demand for the official currency. You need US dollars to pay US taxes. At the macroeconomic level, taxes remove money from economic circulation and can impede economic activities. Consequently, they provide a major tool to manage inflation. Taxes can also reduce demand for targeted goods and services. On the other hand, tax cuts can stimulate economic activity such as the Inflation Reduction Act’s (IRA) credits for renewable energies. In an era of international credit mobility, tax cuts can create surpluses that can be moved offshore.

Deficits are useful for the non-government sector (households and businesses) to accumulate savings. They inject money into the economy that help promote growth, especially when there is underutilized capacity. For example, capable and healthy people out of work is a waste of productive resources and government policies should aim to achieve full employment, including Job Guarantee programs that would provide a stable wage floor, reduce poverty, and help maintain price stability.

Following Mosler, Kelton argued that governments like the US legislate money into existence to introduce currency for the economy to thrive and fund the activities of the government. Governments need to spend first to generate an official economy. Spending comes first, taxing and borrowing come later after liquidity is added to the economy. Furthermore, national administrations that issue money do not really need to tax populations or borrow money to run the nation’s political economy. Only when they need to cool the economy or disincentivize certain activities.

MMT and Covid’s Pandemic-related Spending

But most of this argument runs against major narratives used by traditional economists and politicians, who often use US federal spending numbers to panic the public. Their fears were supported by what might be called a quasi-MMT experiment during the COVID-19 pandemic. Some $8 trillion dollars by Trump and Biden helped save the US economy and most of the world economy from a significant economic recession but added significantly to US deficit numbers. The accumulated US debt tally reached ($35 trillion in late 2024) as measured by the issuance of government financial instruments and continued to raise concerns.

This level of debt in the context of MMT raises several questions:

1) What are the limits, if any, to US government spending?
2) Can US spending be severed from current debt accounting metrics?
3) What are the optimum spending choices for MMT?

As popularly construed, the spreadsheet-tallied government debt and annual deficit numbers are angst-producing. The voting public is repeatably exposed to the narrative that the debt is unsustainable and a sign of inevitable US decline. They are constantly reminded that the national debt is like household debt, to be discussed over the kitchen table (or Zoom), with inevitable sacrifices to be made from the family budget. Bitcoiners and other “hard” money enthusiasts echo these myths, looking to cash in on panic trades for cryptocurrency or gold appreciation, for personal gain.

But Kelton and other MMTers argue that a national money issuer is a different animal, so to speak, with different objectives and responsibilities. They see that it can allow politicians to become more proactive in addressing social concerns. Climate resilience, healthcare, housing construction, income equality, and tax holidays can be deliberately addressed with less political noise and pushback. MMT can also support education and good jobs, particularly relevant in an age of expanding AI.[2]

The problem worth examining is that the US government has tied debt to borrowing over the years through several legal and legislative entanglements. This intertwining has meant that deficit expenditures are challenged by the requirements of borrowing through prescribed treasury auctions and the proceeds deposited in specific accounts at the Federal Reserve. The increasing accounting accumulations raise concerns, justifiably or not, about the dangers of the national government borrowing too much.

The US Spending Apparatus

Spending money is what governments do. They purchase goods and services by “printing” money that enters the economy, hopefully, as an acceptable currency, facilitating trade and savings. For example, the “greenback” emerged as the established US currency during the Civil War when Lincoln worked with Congress to pass the Legal Tender Act of 1862, which authorized the printing of $150 million in paper currency with green ink to finance the Union war effort and stabilize the economy.

Additional legislation authorized further issuances of greenbacks, bringing the total to about $450 million by the war’s end. The Funding Act of 1866 ordered the Treasury to retire them, but Congress rescinded the order after complaints from farmers looking for currency to pay off debts. As a result, the US “greenback” dollar stayed in circulation with a “Gold Room” set up on Wall Street to reconcile the price relationship between greenbacks and gold.

The US Constitution vested Congress with the power to create money and regulate its value. In 1789, George Washington was elected the first president and soon created three government departments, State (led by Thomas Jefferson), War (led by Henry Knox), and Treasury (led by Alexander Hamilton). The US Treasury was established on March 4, 1789, by the First Congress of the United States in New York. The institution has played a vital role in US monetary policy ever since, primarily through the use of the Treasury General Account (TGA) to requisition government operations and pay off maturing debt.[3]

The TGA is now located at the Federal Reserve Bank (Fed), which became the government’s banker due to the Federal Reserve Act of 1913. This Act established the Fed as a major manager of the country’s monetary policy. Over time, however, legislation tied spending from this account to the insertion of taxed revenues, tariffs, and the proceeds from issuing debt instruments.

So the TGA is the main account at the Fed that the Treasury uses to deposit its receipts and to make disbursements from the government for resources, services rendered, and social programs. Congress appropriates the money to spend through legislation, and the Treasury instructs the Fed to credit the appropriate accounts. The TGA handles daily financial operations, defense spending, and government obligations like Social Security.

The way the system actually works is that when the Treasury makes a payment, the Federal Reserve credits the recipient’s bank account, but also has to debit the TGA. When the Federal Reserve credits a bank account of a vendor or transfer payment recipient with digital dollars, it effectively increases the money supply. To balance this increase, bankers and monetary authorities have required that an equivalent amount be debited from another account with dollars garnered through taxes or borrowings, which reduces the money supply. The TGA is required to serve this dual purpose. Before 1981, the Treasury could often overdraw its account at the Federal Reserve; however, eliminating this privilege required the Treasury to ensure that sufficient funds from authorized sources were available in the TGA before making payments.[4]

No Deficit Spending without Borrowing

The requirement that the US Treasury issue securities when spending money beyond revenues is rooted in a combination of statutory authorities and legislative acts, primarily the Second Liberty Bond Act and its amendments in 1917. Financing for World War I established the legal framework for issuing various government securities, including Treasury bonds, notes, and bills – as well as the famous Liberty Loan Bonds. It has been continually amended to allow for offering different forms of securities, and to adjust borrowing limits.

Also, The Federal Reserve Act plays a crucial role in determining the government’s borrowing protocols and the issuance of securities. Specifically, Section 14 outlined the powers of the Federal Reserve Banks, including the purchase and sale of government securities. Notably, it prohibited the direct purchase of securities from the Treasury. The Federal Reserve could only buy government securities on the open market, not directly from the Treasury. This practice restricted the Treasury from directly monetizing the debt and set up practices that would later be used in monetary policy by the Fed’s Federal Open Market Committee (FOMC) and its computer trading operations at the New York Fed in Manhattan.

The Treasury-Federal Reserve Accord of 1951 reinforced the separation of the Fed and the Treasury and the need for the Treasury to issue securities to finance deficits. This Accord established a fundamental principle that continues to influence policy: the separation of monetary policy (managed by the Federal Reserve) and fiscal policy (managed by the Treasury). The agreement ended the practice of the Federal Reserve directly purchasing Treasury securities to help finance government deficits; this prevented the direct monetization of debt and curbing inflationary pressures. It reinforced the need for the Treasury to auction securities to finance deficits rather than relying on direct borrowing from the central bank.

President Nixon’s August 1971 decision to back the US out of the Bretton Woods dollar-gold convertibility set off several economic crises. These included a significant dollar devaluation, related hikes in oil prices, and a global debt crisis. Instead of returning gold to emerging manufacturing giants such as Japan and West Germany in exchange for goods such as Sony radios and BMWs, Nixon chose to sever the US dollar from a gold backing, making it a fiat currency. The immediate economic ramifications resulted in “stagflation,” a combination of stagnation and inflation and the rise of the petrodollar, OPEC dollars held in banks outside the US that were lent out as eurodollars worldwide. Rising prices became a high priority during the Ford and Carter administrations in the late 1970s, and they looked to the Federal Reserve to tackle the problem.

Carter’s Fed chairman pick, Paul Volcker, re-committed to not monetizing the debt, meaning it would not finance government deficits by increasing the money supply. This reinforced the need for the Treasury to rely on market-based financing through bond auctions and led to the transition at the Fed from managing the money supply to managing interest rates. It would do this by buying and selling government securities through its open market operations (OMO) at the New York Fed to produce the “Fed Funds Rate,” a benchmark interest rate that the banking industry uses to price loans for cars, mortgages, and later credit cards.

Enter Reaganomics

During Ronald Reagan’s presidency, significant changes were instituted in the financial sphere, largely influenced by his Secretary of the Treasury, Donald Regan, the former Chairman and CEO of Merrill Lynch. They saw the need to create a new economic paradigm, a new “operating system” for the global economy that still relied on the US dollar, but one not tied to gold. Several key measures were implemented in the early 1980s and advertised as strategies to reduce the federal deficit, control spending, and increase the dollar’s strength globally.

However, the US saw a significant increase in the US national debt over the next few years, mainly due to tax cuts, increased military spending, and related policy decisions. Instead of reducing spending, Reagan and Regan’s policies resulted in increased national debt and the export of US capital to China and other offshore manufacturing centers. Although they championed “supply-side” economics, promising that tax cuts and spending reforms would reduce deficits, the goal of debt reduction was never achieved and instead, it began a historic trend of increasing government deficits (Except in the later Clinton years as described below).

Supply-side economics, often termed “trickle-down” economics, was meant to increase capital investments in the US. But, it became “trickle-out” economics as new circuits of news and telecommunications facilitated a freer flow of information and capital to other countries. This left much of the US labor force in a tight situation while rewarding investors who owned productive facilities in other, lower cost, countries. The Economic Recovery Tax Act of 1981 lowered the top marginal tax bracket from 70% to 50%. The second tax cut in the Tax Reform Act of 1986 cut the highest personal income tax rate from 50% to 38.5%. They decreased again to 28% in the following years.

Consequently, the Reagan administration would grow government deficits and worked to ensure they were financed through the issuance of Treasury securities sold in computerized open market auctions. This change marked a significant modernization of government financing, with the Treasury shifting to more competitive and transparent auction processes. Initially, the Treasury used multiple-price auctions, where winning bidders paid the prices they bid. Later they experimented with uniform-price auctions, where all winning bidders paid the same price. These auctions became the primary method for raising funds to cover deficits.

Crucially, the Reagan administration further institutionalized the connection between government spending and the Treasury General Account through Title 31 of the US Code, which governs American money and finance. The US Code is the comprehensive compilation of the general and permanent federal statutes of the United States, comprising 53 titles. The Office of the Law Revision Counsel of the House of Representatives publishes it every six years. Section 31 was codified on September 13, 1982, and reinforced the need to issue bonds to finance deficits to avoid inflationary pressures that could arise from printing money (debt monetization) to cover shortfalls.[4]

Under 31 U.S.C. § 3121, the Secretary of the Treasury was authorized to issue securities to finance the public debt. Title 31 specifically mandates that the US government raise funds through Treasury auctions, subjecting the government’s borrowing to market scrutiny and investor expectations. By detailing the types of securities that can be issued and the procedures for their issuance, Title 31 prevents the direct monetization (printing) of debt.[5]

Finally, Public Debt Transactions (31 U.S.C. § 3121) authorizes the Secretary of the Treasury to issue securities to finance the public debt. It emphasizes that the Treasury must manage the public debt responsibly to ensure that the government can meet its financial obligations. The code specifies that the Treasury should issue securities in a manner that attracts investors and maintains confidence in the US government’s ability to manage its debt. This meant conducting auctions and selling securities to private investors. It details the types of securities that can be issued, including Treasury bonds, notes, and bills, as well as the terms, conditions, and procedures for the issuance.

This GOP regulatory framework stressed the importance of managing the federal debt in a way that reinforces market confidence and the perception of responsible fiscal policy. The separation of fiscal and monetary policy ensured political control over spending while maintaining the monetary independence of the Fed. The separation also maintains the narrative that financing deficits through borrowing from the private sector helps sustain confidence in the role of US treasuries in the global financial system.

Clinton-Gore and the Surplus Problem

While the Reagan-Bush administration sought to increase spending, especially deficit spending to produce financial instruments, the Clinton-Gore sought to bring down spending and balance the budget. Thanks to a booming “dot.com” economy and tax increases laid out in the Omnibus Budget Reconciliation Act of 1993 (OBRA 1993) they were quite successful. The administration worked with the Republican Congress to reduce spending on welfare through the Personal Responsibility and Work Opportunity Reconciliation Act. It reduced federal spending across the budget including military reductions, the so-called “peace dividend.” Some disagree over accounting techniques but, conservatively, surpluses of $69.2 billion in fiscal 1998, $76.9 billion in fiscal 1999, and $46 billion for fiscal year 2000 were achieved.

Did the Clinton surpluses contribute to the “dot.com” and Telecom crashes of 2000 and 2002? Probably not, but it did occur as cheap capital became less available. The Internet boom contributed substantially to the revenues that produced the surpluses but the economy was in decline when George W. Bush took office in 2001. The Bush-Cheney administration worked quickly to restore the deficits. Tax cuts, Medicare drug spending, and the invasion of Afghanistan and Iraq quickly erased the budget surpluses that were projected to continue for several more years.

In June 2001, the Economic Growth and Tax Relief Reconciliation Act was signed that particularly targeted the “death tax.” The Act lowered taxes across the board, including reducing the top rates of households making over $250,000 annually from 39.6 percent to 35 percent. It also dramatically increased the estate tax exclusions from $675,000 in 2001 up to $5.25 million for those who died during 2013.

In December 2003, President Bush signed the Medicare Prescription Drug, Improvement, and Modernization Act (MMA), a major overhaul of the 38-year national healthcare program. The law would add another half a trillion dollars to the decade’s deficits for the subsidization of prescription drugs; but also because a major objective of the legislation was to reduce the government’s bargaining positions in drug and healthcare negotiations. Medicaid and Medicare were significantly handcuffed in their ability to drive down costs by this legislation, adding billions more to the government debt.

The tragedies of 9/11 sent the US into a collective shock and led to two major wars in Afghanistan and Iraq. Costs would total over $1.4 trillion by 2013, with additional billions spent on homeland security and the global search for Osama bin Laden and other members of Al-Qaeda. The permanent war against communism was now replaced by a permanent war against Islamic fundamentalism. A 2022 Brown University report estimated the total cost of 20 years of the post-9/11 wars cost the US some $8 trillion.

Conclusion

MMT argues that the economy starts with government spending that puts currency into circulation and provisions the federal government. Debt is not necessarily a bad thing because debt instruments become another entity’s asset and adds to private savings. They also provide a valuable source of collateral. Treasury bills are just a different form of money; one that pays interest. In that regard, spending and borrowing is not just stimulative, but foundational.

Still, debt makes the populace nervous. Historical evidence from countries that have experienced severe debt crises or even hyperinflation after excessive money creation fuels skepticism about MMT’s long-term viability. Covid spending by both Trump and Biden administrations addressed important economic and social issues associated with its uneven recovery. Still, it was part of a “perfect storm” where stimulative spending combined with supply shocks and corporate pricing greed, was seen to increase inflation to over 8% percent by mid-2022.[6]

MMT’s limits are unclear. Recent studies of post-COVID inflation in the US point predominately to supply disruptions despite record deficit spending by both the Trump and Biden administrations. Tying deficit spending to borrowing statistics unnerves the financial markets that are adverse to inflation and the general populace, who are conditioned in the narrative that debt is bad. We should review the legislation on deficit spending while democratically obtaining a vision of where domestic and international spending (for the US) can achieve the most good. As mentioned in the beginning, addressing climate change and chaos is a worthy start.

Citation APA (7th Edition)

Pennings, A.J. (2024, Sep 29). US Legislative and Regulatory Restrictions on Modern Monetary Theory (MMT). apennings.com https://apennings.com/how-it-came-to-rule-the-world/digital-monetarism/us-legislative-and-regulatory-restrictions-on-modern-monetary-theory-mmt/

Notes

[1] Most money is still created by banks in the process of issuing debt, both domestically and internationally as eurodollars. Mosler’s contention that the government can spend without taxing or borrowing is the major focus of this post and why MMT is “theory.” It can, but the process is tangled up in legislation and codification. Yes, it spends money by crediting bank accounts, but is forced to debit Treasury account at the Federal Reserve. Read a pdf of Warren B. Mosler’s seminal Soft Currency Economics.
[2] Kelton followed up on financier’s Warren Mosler’s 1990s explanation with her book, The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy. (2020).
[3] When Congress appropriates funds for government activities and programs through the federal budget process, they are disbursed from the Treasury General Account (TGA) to pay for government operations and maturing debt. Tax revenues are deposited into this account as are government securities, such as bonds, notes, and bills. Fees and user charges, collected from various activities like passport issuance and spectrum licensing, are deposited into the TGA as are proceeds from the sale of government assets, royalties from natural resource use, and investment income. Emergency funds are allocated and held in the TGA during crises or emergencies to facilitate rapid responses, such as the recent 2024 hurricanes. Trust funds, such as the Social Security Trust Fund and the Highway Trust Fund, are also managed within the TGA but are held separately from the general operating budget. See Investopedia for more details.
[4] Title 31 was codified September 13, 1982 as “Money and Finance”, Pub. L. Tooltip Public Law (United States) 97–258, 96 Stat.
[5] Code of Federal Regulations (CFR), Title 31 – Money and Finance: Treasury.
[6] Brooks, R, Orszag, P.R. and Murdock III, R. (2024, Aug 15). COVID-19 Inflation was a Supply Shock. https://www.brookings.edu/ https://www.brookings.edu/articles/covid-19-inflation-was-a-supply-shock/
Note: Chat GPT was used for parts of this post. Several prompts were used and parsed.

© ALL RIGHTS RESERVED

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Anthony J. Pennings, PhD is a Professor at the Department of Technology and Society, State University of New York, Korea teaching financial economics and ICT for sustainable development. From 2002-2012 he was on the faculty of New York University where he taught digital economics and information systems management. When not in Korea he lives in Austin, Texas were he has also taught in the Digital Media MBA at St. Edwards University.

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Category: democratic political economies, digital monetarism, financial news, financial technology, geopolitical risk, smart new deal, sustainable development
Tags: Modern Monetary Theory (MMT) > Reaganomics > Title 31 of the U.S. Code > Treasury General Account (TGA) > Treasury-Federal Reserve Accord of 1951

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