At various points in my shadowy, reclusive existence, I have studied economics, worked at the International Monetary Fund, and done mysterious things in the financial industry. I mention all this not to lay claim to being an economist, which I certainly am not, but merely to note that I have spent a fair amount of time in my life thinking and talking about economic theory.

And one thing I have learned is that most people simply do not understand fiat currency. They really, really don’t understand how our monetary system works, how our economy works, or how it all hangs together.

To be fair, many economists don’t seem to really understand it either. Or rather, they act like they don’t understand it. There isn’t an economist alive today who doesn’t know that we’re on a fiat currency, that we don’t need to dig metal out of a hole in the ground or mine it out of a mountain, that modern money is an imaginary unit of value, and that the U.S. government is sovereign in its own currency. They know all this. Yet they act as if we’re still on the frigging gold standard.

The economy is heading into a depression? Tax revenues are down? Oh noes! We must cut Social Security! We must cut spending! We must tighten our belts!

Oh, horseshit. It doesn’t work like that.

Consider taxation, for example. People talk about what their taxes are “paying” for, and whether or not the government has enough tax revenue to “pay” for various and sundry things. We all talk that way, just like we talk about the sun coming up tomorrow. But it’s not true. The sun doesn’t “come up,” and taxes don’t pay for anything. Money is a creation of the government. It’s an agreed-upon fictional unit of value. In a nation with sovereign currency, like the United States, the government can create as much of the stuff as it wants. We’re not dealing with finite gold reserves; the government doesn’t need to collect gold from the citizens in order to send the gold somewhere else. There is no gold. (Also, there is no spoon.)

If that’s the case, you might ask, then why do we have to pay taxes at all? And in fact economists were asking that question in the first half of the 20th century, as the world started sliding away from the gold standard and towards the realm of pure fiat currency. What is the role of taxation in a fiat currency? they wondered. What does it do? In a world where there is no spoon gold, what’s the point?

There are a few answers to that, and a few theories. The chartalist view is that in a sovereign currency, taxation is what gives value to money. The government prints dollars, but why should we use them? Because the government makes us use them, to pay taxes. Dollars are the only thing the government will accept. And the government’s ability to compel tax payments in its own currency is, at bottom, what gives that currency value.

Another purpose of taxation is to peg the rate of government spending to some real thing in the world: namely, the productive capacity of the economy. Back in the days of gold bullion, there was a clear physical connection between government spending, on the one hand, and a real pile of shiny metal on the other. Now that money is entirely a fictitious construct created by the government, what is it based on? What should it be based on? How much of the stuff should the government issue? What is the appropriate amount of money to have floating around to keep this imaginary exchange system going?

Everybody understands that the government mustn’t just print money at will: that would lead to massive devaluation of the currency, the imaginary system would collapse, and Keanu Reeves and Carrie-Anne Moss would fall to the bottom of the elevator shaft. So it needs to be tied to something. But what?

Milton Friedman had that whole automatic k-percent thing, but he was obsessed with keeping the government as powerless as possible, so his options were kind of limited. Also, his theoretical treatment of inflation basically amounted to the argument that modern fiat currency would, strangely enough, behave exactly like 18th-century Spanish doubloons. So, no help from Uncle Miltie.

Many theorists (post-Keynesians, chartalists/Modern Monetary Theorists) would say that the index for money creation/government spending needs to be something like the employment level. Unemployment indicates unused capacity in the economy, which means that the government can and should be spending to create wealth and inject stimulus. That makes sense to me, though the details are arguable.

The budgetary role of taxation in this scheme is to provide an index of the economy’s productive capacity, a guideline for how much money the government should be creating/spending. But notice: it’s a guideline. It’s just a proxy for the real thing — economic capacity — and there’s no reason to treat it like a real physical constraint. It should certainly never be treated as a real constraint when doing so means impoverishing the citizenry — which is what the deficit hawks want to do when they propose cutting Social Security in order to balance the imaginary budget that the government created to spend imaginary money created by the government and provided by imaginary taxes paid in imaginary money that the government created, ahem — and thus contracting the economy even further and diminishing wealth and, hello, future tax revenues.

Why is this so hard to understand? Maybe because it’s so new. The U.S. went off the gold standard less than 40 years ago. The generation of economists that should have been exploring the theoretical ramifications of modern fiat currency were instead in thrall to Ayn Rand novels and antiquated visions of private capital and money supply. It’s as if Darwin (read: Keynes) was followed by a bizarre interregnum when the creationists resumed control of everything and rewrote all the textbooks to say that evolution was wrong! wrong! wrong! and God really did create the world and us and all the animals, just like we used to think, and the sun really does come up and the earth is the center of the universe and fiat currency behaves exactly like currency based on a big pile of gold we dug out of the ground, because to imagine otherwise is too goddamn scary.

Okay, I’m ranting now. Shorter Violet: there is no spoon.

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