Differentiating Social, Market, and Government Debts

{bit.ly/AZdebt} In a previous post on “ABC’s of MMT”, I explained the basics of MMT as a preliminary to a critique of Raghuram Rajan’s article on “How Much Debt is Too Much?”. A significant part of the discussion on this post consisted of debates over words and their meanings. My use of words like assets, savings, wealth, liability, and debt was contested, and alternative usages were offered. It seems necessary to pause for a discussion of these terminological confusions, prior to going on Rajan’s article. This is because part of the critique is about the terminology used by Rajan. Standard terminology is based on false analogy between the government and the household. In a previous post on “The Power of False Names”, I have explained how the use of misleading terminology can lead to severe misunderstandings and wrong policies.

A deeper understanding of contested meanings of debt, liability, assets, savings, wealth, and related terms, emerges from the study of the history of debt in David Graeber’s “Debt: The First Five Thousand Years”.  Graeber writes that “Arguments about who really owes what to whom have played a central role in shaping our basic vocabulary of right and wrong.” One of the key arguments of Graeber is that there are two kinds of debt. It is useful to name them as social-debt and market-debt. Every child who is born and nurtured is in social-debt to his parents, community, and the planet earth. This social-debt is so huge that we cannot even conceive of “repaying” it. Entirely distinct is market-debt which is quantifiable and must be repaid. Use of the same word for both concepts leads to profound moral confusion. Social debt is what binds communities together; as a community, we are all deeply in debt to each other, and this debt can never be repaid. Market debt, on the other hand, rips communities apart. Imperative needs force the weaker party to borrow from the wealthy and powerful creditor, often on unfavorable or even impossible terms. Repayment, or worse consequences (like enslavement) for failure to repay, can only be ensured by force. Thus market-debt goes hand-in-hand with the threat of violence essential for enforcement. Graeber’s book details the history of how the social-debt concept was transformed into market-debt, and the major harms that resulted from this transition. The following paragraph describes the nature of the book:  

The way violence, or the threat of violence, turns human relations into mathematics will crop up again and again over the course of this book. It is the ultimate source of the moral confusion that seems to float around everything surrounding the topic of debt. The resulting dilemmas appear to be as old as civilization itself. We can observe the process in the very earliest records from ancient Mesopotamia; it finds its first philosophical expression in the Vedas, reappears in endless forms throughout recorded history, and still lies underneath the essential fabric of our institutions today—state and market, our most basic conceptions of the nature of freedom, morality, sociality—all of which have been shaped by a history of war, conquest, and slavery in ways we’re no longer capable of even perceiving because we can no longer imagine things any other way.

Why Debt is Used in Two Opposite Ways

My goal is NOT to discuss this profoundly important 500+ page book of Graeber. Rather, I want to shed some light on the linguistic confusions regarding debt, liabilities, assets, savings, and wealth, that arose during the discussion of my initial post (ABC’s of MMT). Clarity on these terms will be essential in the planned discussion and critique of Rajan’s “How Much Debt is Too Much?”. To recapitulate the confusion regarding debt, note the following definition from the Oxford English Dictionary:

debt• noun 1 a sum of money owed. 2 the state of owing money. 3 a feeling of gratitude for a favour or service.

Both the hostile and violence-laden market-debt, and the friendly and community-building social debt, are included in the definition. Why do we use the same word for these two radically different concepts? Given that we do so, it is no wonder that confusion surrounds the meaning of other words built on this single word which combines opposite meanings. I will offer a hypothesis regarding the question of “Why this confusion exists” and also suggest how we can achieve clarity. Why does “debt” have a dual meaning? My explanation can be broken into the following steps:

  1. Man is inherently moral. Our actions are guided by a built-in moral compass. The scientific finding of Frans de Waal in “The Bonobo and the Atheist” are in perfect agreement with the teachings of Islam. Morality is built into our genes. All of the creation (animals, trees, planets, etc.) follows the laws of God (=morality). The unique feature of human beings is that we have been given the freedom to disobey, while the rest of the creation has no option but to follow the moral laws built into their nature.   
  2. When human beings act immorally, this distorts the inbuilt moral compass, and can eventually break it. However, our fundamental moral nature means that we always seek to justify our actions to ourselves and others in moral terms. Thus, when USA invaded Iraq, they did not say that we are powerful and need oil, while Iraq is weak and cannot protect their country and resources. Even though this is perfectly rational and logical, the action was given a moral cover: the war was to bring democracy to the Iraqi people, and protect the world from the threat of WMD’s in hands of an evil dictator.  

Graeber’s book shows that throughout history the powerful have appropriated the moral framework created by social-debt to provide a (pseudo) moral basis and justification for heinous actions. The necessity of putting a moral cover on an evil action is the source of this duality – the natural and beneficial social-debt framework is used to justify the evil and harmful market-debt. As Graeber writes: “If history shows anything, it is that there’s no better way to justify relations founded on violence, to make such relations seem moral, than by reframing them in the language of debt—above all, because it immediately makes it seem that it’s the victim who’s doing something wrong. Mafiosi understand this. So do the commanders of conquering armies. For thousands of years, violent men have been able to tell their victims that those victims owe them something. If nothing else, they “owe them their lives” (a telling phrase) because they haven’t been killed.

 Of the countless examples of this process cited in the book, we just provide one as an illustrative example:

Haiti was a nation founded by former plantation slaves who had the temerity not only to rise up in rebellion, amidst grand declarations of universal rights and freedoms, but to defeat Napoleon’s armies sent to return them to bondage. France immediately insisted that the new republic owed it 150 million francs in damages for the expropriated plantations, as well as the expenses of outfitting the failed military expeditions, and all other nations, including the United States, agreed to impose an embargo on the country until it was paid. The sum was intentionally impossible (equivalent to about 18 billion. dollars), and the resultant embargo ensured that the name “Haiti” has been a synonym for debt, poverty, and human misery ever since.

Ambiguity about use of debt exists because human beings universally acknowledge moral imperatives created by social debt. Framing market-debt in language of social-debt creates, on the surface, a moral justification for extracting property and service from other human beings. Graeber argues that there are two essential elements in being able to create this framing. One is the use of money for quantification of the debt, essential for markets. The other is the use of power and violence to ensure that debts are paid. Whereas social debts create intrinsic motivation (feelings of gratitude), market-debts must be enforced by external mechanisms: legal frameworks, threats of violence, and debt-prisons. This leads to the conclusion the market-debts quantified by money depend essentially on the government for enforcement. Thus, the idea of an opposition between markets and governments, as well as the idea of unregulated free markets is a myth – markets cannot exist without governments to enforce monetary contracts.  

How to Achieve Clarity

The path to achieving clarity about the usage of terms is to use different terms for different concepts. At a minimum, we need to differentiate between social-debt, market-debt, and government-debt. All three have radically different meanings. Once we realize this, then we need to make similar distinctions for all of the words listed earlier: assets, liabilities, savings, wealth, investment, etc. These all have multiple meanings, and confusion is created because of the use of one word for all of them. I will discuss three confusions, two of which emerged in the discussion of my previous post, and one which continues to be an unending source of debate.

  1. Is government issued currency a liability of the government?
  2. Are firm profits and household savings to be considered only in terms of money, or in terms of money and commodities acquired?
  3. Can there be debt-free money?

A1: In accounting terms, government currency goes on the liability side of the government balance sheets. Since it can be used to pay taxes, it is treated as a liability on the books. However, government IOU’s are radically different from IOU’s issued by firms or households. If a household issues an IOU for $1000 this is a liability — On demand, the household must provide goods and services (or equivalent cash) worth $1000 – this will reduce goods available to the household, and this limits the ability of the household to issue IOUs. If the household issues too much debt, it can go into bankruptcy, being unable to pay the liabilities generated by this debt. On the other hand, If the government issues a note saying I OWE the bearer of this note $1000, this is not a liability in the same sense. If the bearer goes to the government and demands payment, the government can print up another note and give it to him, essentially costlessly. There is no reduction in goods and services in possession of the government as a consequence of having issued the IOU (unlike households). Also, there is no limitation on the government in terms of how much debt it can issue – it is not constrained by what it owns or expects to earn in the future. The government can never go bankrupt by issuing IOUs in the sense of not having the resources to be able to pay the liabilities created by these IOUs. It is worth noting that this difference was created by the Nixon shock of 1971, which ushered in the era of floating currencies, without any backing (see my post on “On the Vital Importance of Understanding International Financial Architecture“). When currencies were backed by gold, governments were restricted in their ability to issue IOU’s, since they had to honor demands for conversion into gold. I believe that there would be no debate regarding the fact that government issued currency is a different type of liability from IOU’s of the private sector. So, instead of arguing whether or not it is a liability, we simply need to use different words for the two different concepts; for example, government issued currencies creates g-liabilities, while private debt creates p-liabilities.

A2: Over an accounting unit of time, say an year, the ownership of assets of firms and households changes due to economic activity. For a given unit (firm or household) suppose initial holdings were (M,C) and end-year holdings are different levels of money and commodities (M’,C’). How should the unit evaluate this outcome (as a gain or a loss)? To solve the apples and oranges problem in aggregating money and different commodities, we must convert all to a common unit. There are two different ways of aggregation, corresponding to the M-C-M’ and the C-M-C’ perspectives.  We can evaluate all thing in monetary terms by using monetary values of the commodities. This is the market value of the outcome. Or, we can evaluate all things in terms of utility to the consumer, which would give us the use value of the outcome to the firm or household. The market-value and the use-value are radically different. Conventional economics based on the Arrow-Debreu framework considers only the use value. Money is an intermediate good used for exchange of commodities and has no use-value. In this C-M-C’ framework, if a household has more money than it started with, this does NOT count as current savings. The money only has value in terms of its potential to purchase commodities in the future. The use value of the end-year bundle (M’,C’) is determined by the commodities C’, plus an estimate of the commodities that the M’ can buy in the future. On the other hand, in a monetary economy based on the M-C-M’ perspectives, commodities are valued only in terms of their market-value, the amount of money you can get for them. For a firm, the monetary profit would be the additional money earned, plus an estimate of how much could be earned by the commodities C’ through future sales. The M-C-M’ perspective makes sense for firms, while the C-M-C’ perspective makes more sense for households. The argument over whether we should count money and/or commodities within profits and/or savings can be eliminated by distinguishing the four different cases – firms or households and monetary or barter economies.

A3: The debate over debt-free money is very confusing due to failure to distinguish between g-liabilities (created by issuance of money by the government) and p-liabilities (created by private IOUs). There are three different ways to understand “debt-free money”. Some complain against the mindset (reflected in the Rajan article to be discussed on “How Much Debt is Too Much?”.) that the only way for government to finance spending is via taxes or borrowing – money creation by the government is ruled out of consideration. In this case, the only way for the government to create money is by borrowing from the financial sector, and so every dollar the government creates, creates a financial debt to the private sector. In practice, when the government borrows from the banks by selling them treasury bonds, the Central Bank prints the required amount of money and loans it to the banks at the going discount rate. The banks turn around and lend it back to the government at the T-bill rates, generally somewhat above the discount rates. Instead of this roundabout method of acquiring money, why not cut out the middleman? Let the Central Bank create money and just give it to the government? It is argued that this would create lack of fiscal discipline, with harmful economic consequences. A second, rather different, use of the term debt-free money involves the attempt to replace market-debt by social-debt. A variety of ideas and movements have proposed monetary reforms towards this goal. For example, the “social credit” of C H Douglass, and a variety of local currencies and  community currencies, attempt to create alternatives to debt-based money.  A third meaning is just commodity currency (gold, silver, or other), where the money itself is valuable and is not a token of debt of someone else. Debates and arguments over debt-free money often fail to specify which of the multiple alternatives is meant and hence multiply confusions.  

POSTSCRIPT: After I wrote the above, it became clear to me that one MORE distinction is essential. What I have called private-debt must be differentiated into two types – bank-debt which is based on money creation by the financial sector, and Household/Firm Debt, which is the debt of money in the real sector. When people borrow from banks, banks create the credit required for the lending, and this makes the dynamics of debt VERY different from what happens when people borrow from other people or firms. However, the essay is already too long, and the main point that I I wanted to make has been made with sufficient clarity, so I will postpone discussion of this finer point to a later time.

4 thoughts on “Differentiating Social, Market, and Government Debts

  1. Even if you borrow physical cash from other people, your obligation to pay back that cash is obvious asset to the lender, so how is that any different?

  2. Asad Zaman: I am glad that you see the importance of thinking about such things. Few do, not even most MMT thinkers and academics and followers. (Exceptions: Wray, Geoffrey Gardiner, Geoffrey Ingham first – Michael Hudson, John Henry, the rest of the Gang of Eight, not many more) Most are content to just learn things, learn how not to make mistakes, without understanding so well WHY the mistakes are mistakes, albeit natural ones.

    Yet like most – like myself ten years ago – you are beginning to go down the wrong road in places. [Down the right one in others. But this is already too long to discuss Graeber etc.] First, one can propound whatever theory one likes, but it is NOT CRICKET to put someone else’s patented and trademarked name “MMT” name on one’s theory. I know you have no intention of this, but frankly only because you don’t understand MMT well enough to see the difference between MMT and what you are saying. But if one has a theory that E= MC^2 is wrong, that actually E^2= MC, that’s fine, but you shouldn’t call it Einstein’s relativity. And that is what is being done when one disputes or adds vitiating qualifications to “money is credit and nothing but credit.”

    As I said, what you sketch has a name more or less or is at least a close cousin of, Schumpeter’s legal-tender chartalism. MMT says it’s half-way there, but it’s wrong. Schumpeter himself once told his students that he felt he was missing something. Dan Kervick is a philosopher who used to be one of the posters, not just commenters at NEP. He made the same errors you are beginning to make, saying that government money or bonds were (mere accounting) liabilities not debts, that the gov had magical power to create something which shouldn’t be thought of as a credit/debt. Stephanie Kelton replied – “aren’t debt & liability synonyms?”. Of course they are, that’s the naiveness of wisdom and experience. But Kervick kept going in the same vein, ended up nowhere and later abandoned MMT with some acrimony.

    Again, these are natural errors you are making. But they are known errors. They were a real part of the decline and fall of the Keynesian consensus. These things were well enough understood in the 30s and 40s for practical purposes. A 1951 passage from Abba Lerner combined with Mitchell-Innes is what made me begin to understand. But as Minsky said – the postwar era was an unusual time where one could safely ignore finance. Safely NOT think about such things. So people didn’t, their mental muscles in this area atrophied, they started going wrong and were convinced of anti-Keynesian nonsense from James Buchanan’s book on government debt etc. And here we are. Having to fight the battles of the 30s and 40s again.

    The core of MMT is that “money is credit and nothing but credit”. In terms of what was said here and in the last conversation, this means “money is colloquial liability and nothing but colloquial liability”. (or moral liability) To disagree is to say MMT is wrong. For reading the MMT classics it is clear that credit always fundamentally means “colloquial liability”, at this level of discussion and for these purposes, distinction is unimportant, and in any case one should ALWAYS think of whatever other meanings as derived, on top of, just variations of the “moral” “colloquial liability” sense which is always present and the most important.

    I suspect you and others think that the correct MMT statement ” government money is a liability in the same sense ” somehow contradicts much of what is said about government freedom of money creation. NO! Far from contradicting it, they are logical consequences of this correct MMT statement. Commodity money, gold standard thinking makes people see contradictions where there aren’t any, makes people make complete non sequiturs.

    So Instead of asserting dogmatically
    “If the government issues a note saying I OWE the bearer of this note $1000, this is not a liability in the same sense.”

    Recognize the point at issue is that MMT (& me) says this is WRONG: Government notes are debts, liabilities, colloquial liabilities, “liabilities in the same sense”, whatever. So I believe it is much more productive to frame things as questions in such a debate.

    E.g. instead of that, say:
    “I don’t see how government notes could be seen as liabilities in the same sense. How does one see them as that?”

    This does require some thought. My first answer right now- Read Mitchell Innes. Answering that question is the core of his papers. But one can’t even to begin to understand answers unless one asks the right questions. One can’t ask the right questions until one suspects that there might be something wrong with quick dogmatic answer/assertion like above. And Mitchell Innes has answers to any objections I’ve seen you or others make. It’s all there. And he wrote during the classical pre WWI gold standard, not just pre-1971 – debating what you wrongly asserted there could be no debate about then.

    My next answer is to find the old NEP post where Bishop Wray “deconstructs” and gives his nihil obstat and imprimatur to the “deconstruction” I made in a comment here at RWER – as I remember now – of basically this very same issue.
    After that, I will try to give a new explanation, hopefully I can think of something yet better. The more one wrestles with and explains such important trivial points, the more one gets an extra drop of insight.

    Finally, with all due respect, have people here read Mitchell-Innes? IMHO, it is impossible to understand these things correctly without doing so, and very carefully, printing it out, not just on a screen, reading it in bed and in the bathtub and making notes. It’s required reading. Not optional.

    1. Sorry, I read your post carefully twice, but could not make sense of it. Consider a gold-backed currency – When government issues a one pound note, it is obliged to produce one pound worth of gold on demand, especially to foreigners. Consider a fiat currency – when someone shows up at the Treasure to ask for “repayment”, the government says that you already have what is owed to you. Now you are telling me that these two situations are EQUIVALENT — in both cases the pound is a LIABILITY in the SAME sense of the word — I really cannot see what this could possibly mean —
      Separately, on a different point, I have never claimed to be an authority on MMT, or an official pundit who defines what MMT means — this post makes no mention of MMT, it just describes my understanding of sources of confusion in terminology.

  3. 1)
    Now you are telling me that these two situations are EQUIVALENT — in both cases the pound is a LIABILITY in the SAME sense of the word — I really cannot see what this could possibly mean —

    Good, we now agree on the point at issue. This is basically asking the necessary questions. So as I said, you should read Mitchell Innes. He explains what this means, how it works. He answers this very question in 1913 and answered all the objections you have made. That’s more or less the essence of his papers! That’s what makes his papers genuine “philosophy” – and which makes it necessary to read and reread them, make them go from “crazy and unintelligible” to “how could anyone have ever thought otherwise?”
    Michael Hudson has said that this is like getting your brain rewired. For as Wray has said, the mainstream gets everything backwards. One should expect and welcome a short bout of such cognitive dissonance.

    Contrasting gold to the present situation is looking at something superficial. What is of interest is what the situations have in common, not such superficial changes. How could they be so different if government throughout the ages have seamlessly gone on and off metal standards? The essence, what is really important, is usually NOT understood, is what doesn’t change. There’s always more confusing nuances, but one can say that a gold standard isn’t gold backing a currency – it’s the fiat currency backing gold. The basic point might also be said as that accounting liability is the same as moral, colloquial liability, etc contrary to Laurent Leduc’s teacher in the last thread. So using different words can add rather than remove confusion. As Innes said, there hasn’t been any change in the business of banking (on this level) for thousands of years.

    Ok, about MMT. My bad, here. Just continuing the discussion from the previous post. But a basic MMT goal is to clarify the terminology and remove confusions by making people think about things which are so familiar that they don’t understand them. It’s just Keynesian or Kaleckian economics – with the workings under the hood better understood so they can be souped up and so a lot of useless stuff can be removed too. A, maybe the main step that makes everything clear is to understand such equivalence as in the two cases you give above. That’s the great virtue of MMT, which like all fully developed mathematical and scientific theories, is completely trivial and largely just about removing confusion from terminology.

    I haven’t given what I would call a real explanation, only hinted at or referred to ones – but I have elsewhere. Getting tired. Been some years – I’ll look for the old post / comment of Wray’s & mine and repost it once I find it.

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