Deadly Innocent Fraud #2:

With government deficits we are leaving our debt burden to our children..

Fact: Collectively, in real terms, there is no such burden possible. Debt or no debt, our
children get to consume whatever they can produce.

This deadly innocent fraud is often the first answer most give to what they perceive to be the main
problem associated with government deficit spending.
Borrowing now means paying for today's spending later. Or, as commonly seen and heard in the
media:

“Higher deficits today mean higher taxes tomorrow.”

And the numbers are staggering!

But, fortunately, like all of the 7 deadly innocent frauds, it is all readily dismissed in a way that all can
understand.
In fact, the idea of our children being somehow necessarily deprived of real goods and services in
the future because of what's called the national debt is nothing less than ridiculous.
Here's a story that illustrates the point.
Several years ago I ran into former Senator and Governor Lowell Weicker of Connecticut and his
wife Claudia on a boat dock in St. Croix. I asked Senator Weicker what was wrong with the country's
fiscal policy. He replied we have to stop running up these deficits and leaving the burden of paying for
today's spending to our children.
So I then asked him the following questions to hopefully illustrate the hidden flaw in his logic:
“When our children build 15 million cars per year 20 years from now, will they have to send them
back in time to 2008 to pay off their debt?”
“Are we still sending real goods and services back in time to 1945 to pay off the lingering debt from
World War II?”
And today, running for the US Senate in Ct., nothing has changed. The ongoing theme of the other
candidates is that we are borrowing from the likes of China to pay for today's spending and leaving our
children and grandchildren with the bill.

Of course, we all know we don't send real goods and services back in time to pay off federal
government deficits, and that our children won't have to do that either.
Nor is there any reason government spending from previous years should prevent our children from
going to work and producing all the goods and services they are capable of producing. And in our
children's future, just like today, whoever is alive will be able to go to work and produce and consume
their real output of goods and services, no matter how many US Treasury securities are outstanding.
There is no such thing as giving up current year output to the past, and sending it back in time to
previous generations. Our children won't and can't pay us back for anything we leave them, even if they
wanted to.
 Nor is the financing of deficit spending anything of any consequence. When government spends, it
just changes numbers up in our bank accounts. More specifically, all the commercial banks we use for
our banking have bank accounts at the Fed called reserve accounts. Foreign governments have reserve
accounts at the Fed as well. These reserve accounts at the Fed are just like checking accounts at any
other bank.
When government spends without taxing all it does is change the numbers up in the appropriate
checking account (reserve account) at the Fed. That means when the government makes a $2,000 social
security payment to you, for example, it changes the number up in your bank's checking account at the
Fed by $2,000 which also automatically changes the number up in your account at your bank by $2,000.

Next you need to know what a US Treasury security actually is. A US Treasury security is nothing
more than a savings account at the Fed. When you buy a treasury security, you send your dollars to the
Fed and some time in the future they send the dollars back plus interest. The same holds true for any
savings account at any bank. You send the bank dollars and you get them back plus interest.
So let's say your bank decides to buy $2,000 worth of Treasury securities. To pay for those Treasury
securities, the Fed reduces the number of dollars your bank has in its checking account at the Fed by
$2,000, and adds $2,000 to your bank's savings account at the Fed. (I'm calling the Treasury securities
savings accounts, which is all they are.)
In other words when the US government does what's called 'borrowing money,' all it does is move
funds from checking accounts at the Fed to savings accounts (Treasury securities) at the Fed. In fact, the
entire $13 trillion national debt is nothing more than the economy's total holdings of savings accounts at
the Fed.
And what happens when the Treasury securities come due, and that 'debt' has to be paid back? Yes,
you guessed it, the Fed merely shifts the dollar balances from the savings accounts at the Fed (Treasury
securities) to the appropriate checking accounts at the Fed (reserve accounts). Nor is this anything new.
It's been done exactly like this for a very long time, and no one seems to understand how simple it is and
that's it never can be a problem.

Federal Government Taxing and Spending Does Influence Distribution

Distribution is about who gets all the goods and services that are produced. In fact, this is what
politicians do every time they pass legislation. They redirect real goods and services by decree, for better
or for worse. And the odds of doing it for better are substantially decreased when they don't understand
the 7 Deadly Innocent Frauds. Each year, for example, Congress discusses tax policy, always with an eye
to the distribution of income and spending. Many seek to tax those 'who can most afford it' and direct
federal spending to 'those in need.' And they also decide how to tax interest, capital gains, estates, etc. as
well as how to tax income. All of these are distributional issues.
In addition, Congress decides who the government hires and fires, who it buy things from, and who
gets direct payments. Congress also makes laws that directly affect many other aspects of prices and
incomes.
Foreigners who hold US dollars are particularly at risk. They earn those dollars from selling us
real goods and services, yet have no assurance they will be able to buy real goods and services from us in
the future. Prices could go up (inflation) and the US government could legally impose all kinds of taxes
on anything foreigners wish to buy from us, which reduces their spending power.
Think of all those cars Japan sold to us for under $2,000 years ago. They've been holding those
dollars in their savings accounts at the Fed (they own US Treasury securities), and if they now wanted to
spend those dollars they would now probably have to pay in excess of $20,000 per car to buy cars from
us, if they even wanted to. What can they do about the higher prices? Call the manager and complain?
They've traded millions of perfectly good cars to us in exchange for credit balances on the Fed's books
that can buy only what we allow them to buy. And look at what happened recently--the Federal Reserve
cut rates, which reduced the interest Japan earns on its US Treasury securities. (This discussion
continues in a subsequent innocent fraud.)
This is all perfectly legal and business as usual, as each year's output is 'divided up' among the
living. None of the real output gets 'thrown away' because of outstanding debt, no matter how large.
Nor does outstanding debt reduce output and employment, except of course when ill informed policy
makers decide to take anti deficit measures that do reduce output and employment. Unfortunately, that
is currently the case, and that is why this is a deadly innocent fraud.
Today (April 15, 2010), it's clear Congress is taking more spending power away from us in taxes
than is needed to make room for their own spending. Even after we spend what we want and the
government does all of its massive spending, there's still a lot left unsold in that big department store
called the economy.
How do we know that? Easy! Count the bodies in the unemployment lines. Look at the
massive amount of excess capacity in the economy. Look at what the Fed calls the 'output gap' which is
the difference between what we could produce at full employment and what we are now producing. It's
enourmous.
Sure, there's a 'record deficit and national debt,' which now you know means we all have that
much in savings accounts at the Fed called Treasury securities. And, incidentally, the cumulative US
budget deficit, adjusted for the size of the economy, is still far below Japan's, far below most all of
Europe, and very far below the World War II US deficits that got us out of that depression with no debt
burden consequences, of course.
And if you've gotten this far into this book you may already know why the size of the deficit
isn't a financial issue. And hopefully, you know that taxes function to regulate the economy, and not to
raise revenue the way Congress thinks.
When I look at today's economy, it's screaming at me that the problem is people don't have
enough money to spend. It's not telling me they have too much spending power and are over spending.
Who would not agree?
Unemployment has doubled and GDP is more than 10% below where it would be if Congress
wasn't over taxing us and taking so much spending power away from us.
And when we operate at less than our potential--less than full employment--then we are
depriving our children of the real goods and services we could be producing on their behalf. When we
cut back on our support of higher education we are depriving our children of the knowledge they'll need
to be the very best they can be in their future. When we cut back on basic research and space
exploration we are depriving our children of all the fruits of that labor we are instead transferring to the
unemployment lines.
So yes, those alive get to consume this year's output, and also get to decide to use some of the
output as 'investment goods and services, ' which should increase future output.
And yes, Congress has a big say in who consumes this year's output. And potential distributional
issues due to previous federal deficits can be readily addressed by Congress and distribution can be
legally altered to their satisfaction.

So How Do We Pay Off China?

Those worried about paying off the national debt can't possibly understand how it all works at
the operational, nuts and bolts, debits and credits level. Otherwise they would realize that question is
entirely inapplicable.
What they don't understand is that both dollars and US Treasury debt (securities) are nothing
more than 'accounts' which are nothing more than numbers that the government makes on its own
books.
 So let's start by looking at how we got where we are today with China. It all started when China
wanted to sell things to us and we wanted to buy them.
For example, let's suppose the US Army wanted to buy $1 billion worth of uniforms from
China, and China wanted to sell $1 billion worth of uniforms to the US Army at that price. So the Army
buys $1 billion worth of uniforms from China.
First, understand both parties are 'happy.' There is no 'imbalance.' China would rather have the
1 billion US dollars than the uniforms or they wouldn't have sold them, and the US army would rather
have the uniforms than the money or it wouldn't have bought them. The transactions are all voluntary,
and all in US dollars. But back to our point- how does China get paid?
China has a reserve account at the Federal Reserve Bank. To quickly review, a reserve account is
nothing more than a fancy name for a checking account. It's the Federal Reserve Bank so they call it a
reserve account instead of calling it a checking account.
So to pay China, the Fed adds 1 billion US dollars to China's checking account at the Fed. It
does this by changing the numbers in China's checking account up by 1 billion US dollars. The numbers
don't come from anywhere any more than the numbers on a scoreboard at a football come from
anywhere.
China then has some choices. It can do nothing and keep the $1 billion in its checking account
at the Fed, or it can buy US Treasury securities.
Again, to quickly review, a US Treasury security is nothing more than a fancy name for a savings
account at the Fed. The buyer gives the Fed money, and gets it back later with interest. That's what a
savings account is--you give a bank money and you get it back later with interest.
So let's say China buys a one year Treasury security. All that happens is that the Fed subtracts $1
billion from China's checking account at the Fed, and adds $1 billion to China's savings account at the
Fed.
And all that happens a year later when China's one year Treasury bill comes due is the Fed
removes that money from of China's savings account at the Fed (including interest) and adds it to
China's checking account at the Fed.
Right now China is holding some $2 trillion of US Treasury securities. So what do we do when
they mature and it's time to pay China back? We remove those dollars from their savings account at the
Fed and add them to their checking account at the Fed, and wait for them to say what, if anything they
might want to do next.
This is what happens when all US government debt comes due, which happens continuously.
The Fed removes dollars from savings accounts and adds dollars to checking accounts on its books. And
when people buy Treasury securities, the Fed removes dollars from their checking accounts and adds
them to their savings accounts. So what's all the fuss?
It's all a tragic misunderstanding.
China knows we don't need them for 'financing our deficits' and is playing us for fools. Today
that includes Geithner, Clinton, Obama, Summers and the rest of the administration. It also includes
Congress and the media.
Now let me describe this all a bit more technically for those of you who may be interested.
When a Treasury bill, note, or bond is purchased by a bank, for example, the government makes
two entries on its spreadsheet we call the 'monetary system.'
First, it debits (subtracts from) the buyer's reserve account (checking account) at the Fed. Then
it increases (credits) the buyer's securities account (savings account) at the Fed.
As before, the government simply changes numbers on its own spread sheet, one number gets
changed down and another gets changed up. And when the dreaded day arrives, and the Treasury
securities Chinas holds come due and need to be repaid, the Fed again simply changes two numbers on
its own spread sheet.
The Fed debits (subtracts from) China's securities account at the Fed. And they credit (add to)
China's reserve (checking) account at the Fed. That's all--debt paid!
 China now 'has its money back.' It has a (very large) US dollar balance in its checking account at
the Fed. If it wants anything else- cars, boats, real estate, other currencies- it has to buy them at market
prices from a willing seller who wants dollar deposits in return. And if China does buy something the
Fed will subtract that amount from China's checking account and add that amount to the checking
account of whoever China bought it all from.
Notice too, that 'paying off China' doesn't change China's stated $US wealth. They simply have
dollars in a checking account rather than US Treasury securities (a savings account) of equal dollars. And
if they want more Treasury securities instead, no problem, the Fed just moves their US dollars from their
checking accout to their savings account again, by appropriately changing the numbers.
Paying off the entire US national debt is but a matter of subtracting the value of the maturing
securities from one account at the Fed, and entering adding that value to another account at the Fed.
These transfers are non events for the real economy, and not the source of dire stress presumed by the
mainstream economists, the politicians, business people, and the media.
One more time:
To pay off the national debt the government changes two entries in its own spreadsheet, a
number that says how many securities are owned by the private sector is changed down, and another
number that says how many $US are being kept at the Fed in reserve accounts is changed up.
Nothing more. Debt paid, all creditors have their 'money back'. What's the big deal?

So what happens if China refuses to buy our debt at current low interest rates paid to them?
Interest rates have to go up to attract their purchase of the Treasury Securities, right? Wrong!
They can leave it in their checking account. It's of no consequence to a government that
understands its own monetary system. The fundes are not 'used' for spending, as we previously
described. There are no negative consequences of funds being in a checking account at the Fed rather
than a savings account at the Fed. What happens if China says-I don't want to keep a checking account
at the Fed any more? Pay me in gold or some other means of exchange!
They simply do not have that option under our current “fiat currency” system as they knew
when they sold the uniforms to the US Army and had the money put into their checking account at the
Fed. If they want something other than dollars they have to buy it from a willing seller, just like the rest
of us do when we spend our dollars.
And some day it will be our children changing numbers on what will be their spread sheet, just as
seamlessly as we did, and our parents did, though hopefully with a better understanding!
But for now, the deadly innocent fraud of leaving our debt to our children continues to drive
policy, and keeps us from optimizing output and employment.
The lost output and depreciated human capital is the real price we and our children are paying
for now that diminishes both the present and the future. We make do with less than what we can
produce, and sustain high levels of unemployment (and all the associated crime, family issues, and
medical issues) while our children are deprived of the real investments that would have been made on
their behalf if we knew how to keep our human resources fully employed and productive.