If you’ve been following along you’ll know that I’ve justified (for myself) the intervention by the government into the affairs of the economy. Any such intervention will have a cost. The question for today is: how will these costs be funded? The options seem to be a tax levied on actors or actions in the economy, borrowing from actors within the economy, or simply creating money (e.g. printing new notes, though that is an archaic way of thinking about money in the modern age).
I believe that all three of these may have their place, and the goal is to explain in what circumstances and in what manner each should be used.
Taxation
Imposing a tax on a population has a long history, dating back thousands of years. It may not always have been justified as a requirement for supporting the economy, though funding armies to keep the peace has likely often been part of it, and that can help the economy.
Imposing a tax is essentially a user-pays system. It can often be hard to work out exactly who the users are and how much each benefits, so taxes are not necessarily imposed fairly – thus it is often a “most users, and some others” pay system. This lack of fairness is not necessarily a bad thing. Determining exactly who benefits would be an administrative burden which would introduce more costs. Charging different individuals differing amounts would also also incur costs. It may well be that in a completely fair system, everyone would pay more. While it isn’t the only goal, simplicity in the tax system must be seen as a goal, both to reduce costs and to avoid encouraging distortion.
When you tax people differently, it creates an incentive for people to change their behaviour or circumstance so as to incur less tax. This can be both a good thing and a bad thing. It is good when the tax discourages socially harmful behaviour, such as consuming harmful drugs. A tax on tobacco, for example, can help discourage people form smoking, and can also help fund support for those who suffer from smoking.
Creating incentives for behavioural change is bad when it encourages socially harmful behaviour. While this can take several forms, the most common is finding loop-holes in complex tax law that allows money to be hidden from taxation. This is harmful if it results in people paying less tax than is commensurate with the benefit they get from the economy. This isn’t directly harmful, but can result in harm if it causes others to have to pay more than they would others, and this might increase hardship.
As a general rule, tax should be imposed in approximate proportion to the benefit people receive from the economy. This is typically measured based either on their income or their consumption. The more a person earns or spends, the more tax they can generally be expected to pay. In reality there may be multiple markets for both labour and commodities, and the government may find it appropriate to impose different taxes in different markets, either because there is less cost in a particular form of tax, or because the market is seen as needing more or less support. The exact details must be chosen and regularly reviewed on an ongoing basis. There is no perfect tax system. It will always be necessary to find a balance between the needs of the market, and the different options to fund those needs.
I think most that can be said, is that assessing tax based on measured benefit is the goal that can best guide these decisions.
Printing money
In an independent economy where the government issues a currency for use, the government can always issue more money, and spend it however it chooses. In fact a government could choose not to tax at all, but just to create money as needed to fund its activities. This probably wouldn’t be such a good idea.
The standard argument against printing money is that doing so creates inflationary pressure. If there is more money circulating than the value of goods and services that can be provided, people who hold that money will be willing to spend more to get what they want, and prices will go up. This price increase can be expected to flow through the economy where-ever demand exceeds supply and eventually all services and goods will have higher prices, and the government will need to print even larger amounts of money to command the labour to provide the services that it needs to provide.
A core point in the argument is that printing money allows demand to increase, and only when demand exceeds supply does inflation start becoming a problem. If the government only used newly minted money to purchase goods and services for which there was an excess of supply, there is no reason to expect inflation to follow. An obvious area where there is adequate supply is a labour market with a non-trivial level of unemployment.
If the government were to print money solely to pay a minimum salary to anyone who was out of work, that would not create any inflationary pressure. At lease, it wouldn’t if there was a legally mandated minimum wage, and such a minimum is necessary to ensure our goal of minimizing hardship. In fact, government guaranteed employment would be an effective way of enforcing a minimum wage – any employer not willing or able to pay more than the government gives, would not get any staff.
Of course, the money does stop with the employee. The money that is paid to these otherwise-unemployed will be spent, mostly on accommodation, food, clothing, and similar basic necessities. Ensuring that the market has a small surplus of these needs is something that would be part of the important government task of facilitating the economy. It may be necessary to strongly encourage those who work for the government to move to areas where housing is available, and to consume goods that are in easy supply, though keeping the income as a basic level is likely to encourage that anyway, providing such locations and goods can be made available.
There are likely other areas of expenditure where printing money will not increase demand above supply enough to trigger inflation, and it would be important for the government to find and facilitate these, if it would benefit the economy as a whole. Even where there is limited supply it might still be appropriate to spend printed money.
The effect of inflation is to reduce the value of the currency – not entirely uniformly, but fairly broadly. This means that people with a lot of money will lose more value than people with little money. This roughly aligns with the goals of taxation discussed above. As long as inflation doesn’t grow faster than its effects can spread across the whole economy, a modest inflation can be an effective tax on savings. It may be better to tax saving directly, but a modest level of inflation should be seen as one of the tools in its toolbox for providing services as a cost born mostly by those who benefit.
Borrowing.
Traditionally borrowing has been more popular with governments than printing money, though it isn’t immediately clear why. In order to borrow, the government creates “bonds” which entitle the bearer to a small interest payment every year, and a full return of the initial cost at maturity – which might be 10 years, or 30 years or some other number. These bond can be, and are, traded on a “secondary bond market”, so they can be converted to normal cash fairly easily. So is there really a difference between printing money, and printing bonds that can be converted to money?
When bonds are traded, you cannot be certain of getting the full value that you want. There may not always be people who want to buy your bonds, or who are willing to buy what you ask. Of course the people who buy these bonds in the first place – thus loaning money to the government – will know this and will only be willing to buy bonds that have an interest rate sufficient that there will likely be a market for them in the future.
From the governments perspective, it could be argued that it doesn’t matter who own the bonds – they still aren’t really money. But I think that misses that fact that even “real money” only has value because you can trade it. You cannot eat bonds or build houses from them, but neither can you eat or build houses from other currency.
So on balance, I cannot see the benefit of printing bonds over printing regular money. Neither can be done without due caution, and either can be used to fund the costs incurred by government. There may be other reasons that the government might choose to print bonds, just as there are other reasons, such as behaviour modification, that the government might choose to impose taxes. But it doesn’t seem necessary to fund spending.
Summary
So in summary: when there is full employment, when the economy is running well and there is demand to approximately match supply, the costs of facilitating the economy are best gathered by imposing a tax on actors or actions in the economy in a manner that is simple and approximately collects from each in proportion to the value they are realizing from that economy.
Where there is less than full employment, when there are needs that are not being met, or when supply and demand are substantially unbalanced, the government priority must be to redress these imbalances, and creating new currency to spend in focused ways in the areas of need, with the goal always to remove the need for such spending in the future, can easily be justified.
