Here are the answers with discussion for this Weekend’s Quiz. The information provided should help you work out why you missed a question or three! If you haven’t already done the Quiz from yesterday then have a go at it before you read the answers. I hope this helps you develop an understanding of Modern…
Saturday Quiz – August 16, 2014
Welcome to the Billy Blog Saturday Quiz. The quiz tests whether you have been paying attention over the last seven days. See how you go with the following questions. Your results are only known to you and no records are retained.
Quiz #282
- 1. A currency-issuing government can always ensure there is first-class services to meet the demands of an ageing population
- False
- True
- 2. For a nation running a very small current account deficit (close to balance), the government fiscal balance will always be in deficit if the domestic private sector is spending less than it earns.
- False
- True
- 3. Ignoring laws to the contrary, a central bank currently targetting a 2 per cent short-term policy rate, cannot directly purchase treasury debt to facilitate the national governments fiscal deficit (that is, "monetise the deficit") and continue to maintain its policy rate at 2 per cent.
- False
- True
Sorry, quiz 282 is now closed.
You can find the answers and discussion here
It must be a fairly easy quiz this week – I managed three out of three.
One question I have with regards central banks and government debt: why on earth do governments and reserve banks issue debt? If I’m understanding things correctly, the government can pay for goods and services it needs by simply crediting accounts that the commercial banks have with the reserve bank, and once that’s happened the money will be spread around the rest of the economy until it’s collected in the form of taxes.
If I’m understanding government debt correctly, the reserve bank issues bonds, sells them to the public with the promise of buying them back later with interest, and then gives the proceeds to the government. Which then spends that money on goods and services. So it’s essentially a process of taking money out of the economy before putting it back in, with the added wrinkle of putting some extra money into the economy at the end thanks to the interest payments.
Why do these bonds exist? Why bother with this whole process when you could just credit bank accounts directly without having to worry about any of the accounting required for bonds, the interest payments, anything like that.
This is particularly hard to understand given the amount of crap that gets said about government debt and deficit and so forth. If they don’t actually /create/ any debt they won’t be increasing their debt, and it won’t make any difference to the economy at all, but somehow this idea never seems to occurr to them.
In any case, my basic question is why this whole government debt thing exists in the first place.
Simon
Its to drain away excess reserves from the banking sector.
I think Bill covers this point in:
https://billmitchell.org/blog/?p=381
Saying:
” Well it is rather to maintain these bank reserves such that a particular overnight rate can be defended by the central bank.”
“why on earth do governments and reserve banks issue debt?”
they do this to control interest rates. why they think they need to do that I haven’t quite figured out, I hope someone else can explain.
I was thinking they do this to take money out of circulation because they think they can reduce the money supply and therefore inflationary pressure, and when they issue fixed rate bonds they can control when that money is allowed to flow back into the economy, but what’s preventing someone who is holding government bonds from simply using them to backup borrowing the equivalent in bank money instead? is that regulated somehow?
I also got 3/3 although the last question almost tripped me up because it required me to negate a negative.
Bonds are issued to maintain the target interest rate which would otherwise collapse to zero. This rate is the “monetary policy lever” which neo-liberals believe is the only way govt. should influence the economy. It is supposed to target inflation. Actually it simply ensures that the banks lend to the private sector at higher rates. That would happen in a closed economy. However, I don’t understand why Australian banks can’t borrow USD from the Fed at zero interest, convert them to AUD and lend those to the private sector in Oz, at a massive profit. How do they justify the claim that they have to borrow at much higher rates than the RBA’s rate, and therefore they will not pass on the rate cuts to the mortgage holders here. This appears to be ripping off customers and would explain their obscene profits. Have I misunderstood something?
OK. I’ve got it. The guys left holding the USD will get Zero returns, so the only way they can counteract this is to sell the AUD at a substantial premium. That is why the AUD is so high! The banks who lend these AUD out at a rate higher than the RBA’s rate, will get their return but it will be counteracted by the fall in the AUD the moment the Fed raises interest rates. Please tell me I got it right.
On the other hand it would be interesting to find out how “Islamic banking” (zero interest rate always) works. I have no idea.