Treasury Bonds Are Not Money


Modern Money Theory (MMT) is a description of how money works in a modern economy. A modern economy is one that is less than 6,000 years old. Before 6,000 years ago MMT does not claim to know how money, if there was the concept, worked.

To clarify the description, MMT introduces the concept of sector balances. The way to think about sector balances is to think of three sectors of the economy as pots of money as shown in Figure 1.


Figure 1. Three Pots representing the Sectors

Figure 1, as I have drawn it here, is a description of the situation in the USA. That is why one of the pots is labeled US Federal Government. The other two pots represent all other parts of the domestic economy and all other parts of economies in the rest of the world.

When talking about USA Treasury bonds, the MMT founders get loose with the sector balances by saying that treasury bonds are another form of money. Doing this confuses the situation that MMT is trying to explain. Let us admit that US Treasury securities (bonds) are not exactly the same as money. If they were exactly the same, why would there be two words for them? A USA treasury security is a promise to pay money, but it is not money. What makes the economy go round is money, not USA Treasury securities.

Now I can talk about money flows in the economy according to MMT, but applying a strict definition of sector balances. The pots are only accounting for deposits of money and its flow among the pots as signified by the labels on the flow arrows.

By the laws currently in effect in the USA, if the federal government wants to run a deficit, it must sell treasury securities to the non-government sectors. When this happens, money is taken from the non-government pots and flows into the the government pot. In exchange the entities that the pots represent are given Treasury Securities. When government spends the money, money flows back from the government pot into the non-government pots. When the government spends money that is called a deficit, no new net money is in the non-government pots. The money that is spent came from those pots.

If the Federal Reserve Bank (which is part of the government) buys bonds from the non-government sector, it is putting money into the non-government pots in exchange for the bonds that it has bought. If someone in the non-government sector buys bonds from someone else in a non-government sector, then no money flows from the government sector pot. The money is either just stirred around in the same non-government pot, or it flows from one non-government pot to the other non-government pot.

When the federal government spends money (except for the Federal Reserve Bank), it can only spend money it has taken in from taxes or from selling bonds. It does not create new money to put into the non-government sector. It only spends money it first took out of the non-government sector.

How does new money get into the non-government sector pots? The Federal Reserve Bank is the only entity in this economic universe that creates money. It can put the money into the non-government pots by lending it to the non-government banks, who then lend it to the people. The Federal Reserve Bank can also put money into the non-government pots by exchanging the money for USA Treasury securities owned by the non-government sectors.

The net growth of the non-government economy comes from the net amount of money flowing into (and out of) the non-government pots out of (and into) the Federal Government pot. The non-government pots have no way to tell if they contain new money or old money or what mixture of the two that they have. The technical term is that money is fungible.

With this description in mind, you can now judge whether a particular government action stimulates growth of the non-government economy or does the opposite.

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