Connect with us

Economics

Understanding The Non-Existence Of Financial Constraints

The idea that there is no financial constraint on a floating currency sovereign bothers some people. However, it makes sense when we realise that a constraint is a limitation that is always binding. For a floating currency sovereign, it appears to be w…

Share this article:

Published

on

This article was originally published by Bond Economics

The idea that there is no financial constraint on a floating currency sovereign bothers some people. However, it makes sense when we realise that a constraint is a limitation that is always binding. For a floating currency sovereign, it appears to be well accepted that it is not bound all the times by financial concerns. This is unlike a household, that has to remain within its spending capacity (as determined by its resources and ability to borrow) at all times.

In mathematics, a constraint is a mathematical statement (loosely speaking, an equation) that is added to a model to help pin down a solution. That is, there can be an infinite number of potential solutions, but the addition of a constraint pins it down to a single solution. The grand-daddy of financial constraints — the inter-temporal governmental budget constraint — meets this technical definition.
Otherwise, we have non-mathematical definitions, e.g., the inflation constraint, as described by Modern Monetary Theory (MMT). Although constraint in this context is less clearly defined, I would argue that a key property is that it is always binding, and must hold.
The received wisdom among Canadian elites at present is that although it would be a mistake to tighten the Federal fiscal stance now, tightening should be done later (e.g., these comments). (This folk wisdom is probably showing up in other developed countries, but not as repetitively.) These elites might not refer to a “financial constraint” on the Federal government, but it is clear that they are not worried now about the alleged negative effects of issuance. That is, if a financial constraint did exist, it can be ignored in recessions, but it pops back into existence later. It is clear that this does not meet any reasonable definition of “constraint,” it is a non-biding guideline of some sort.
This is unlike a household or a sovereign that borrows in a foreign currency, that always has to keep in mind the restrictions placed on it by creditors. (Yes, a floating currency sovereign has to service debt, but we are discussing the ability to add new debt.)
(c) Brian Romanchuk 2020

modern monetary theory
mmt
inflation

Share this article:

Economics

Study Shows 186 Banks Are On The Brink Of Failure

The Fed has done it again: raised their interest rates for the 9th time on March 22, 2023, by 25 basis points. This brings the fed fund rate to 4.75%-5%….

Share this article:

Continue Reading
Economics

‘What Lies Beneath’? Market Headlines Mask Mayhem Below The Surface This Week

‘What Lies Beneath’? Market Headlines Mask Mayhem Below The Surface This Week

At the macro level, strong PMI data today was the icing on the…

Share this article:

Continue Reading
Economics

Biden Says “Banks In Pretty Good Shape” As Small Banks See Biggest Deposit Outflow On Record

Biden Says "Banks In Pretty Good Shape" As Small Banks See Biggest Deposit Outflow On Record

The Fed just released its weekly commercial bank…

Share this article:

Continue Reading

Trending