WARREN MOSLER: I've described myself as a long time insider of monetary operations.
I was isolated at the time with that opinion, it was entire trading desk. I'd been there a year, everybody else dismissed it. Just a basic understanding of the logic behind the currency was something I was interested in very early.
The currency itself is a simple public monopoly. So, if somebody says to me, how do we pay for the Green New Deal? I said, well, Congress appropriates the money. And then the Treasury instructs the Fed to credit the appropriate accounts. And that's how it's paid for. And then the Green New Deal people go, yeah, that.
The cause of unemployment by design is taxation, for the further purpose of the government provisioning itself.
ED HARRISON: I'm really excited for this next interview with Warren Mosler, who I would call the godfather of modern monetary theory. He's really the individual who started the whole movement. The question is, is this economics theory, what is it? I know that Warren Mosler has described it as monetary operations, but what is it really? What can we do with it in terms of policy? What can we do with it in terms of investing? That's what we hope to get out of this next segment. We hope you'll like it. Let's get right to Warren.
Warren Mosler, it's very good to have you here at our studios in Real Vision, been trying to talk to you about MMT for a very long time, I think we're going to end up calling you the godfather of MMT for this particular video. And I wanted to start with, because MMT is a really hot topic now. And you were the progenitor of MMT? Are you very excited about the fact that it's been getting a lot of press? Or do you think that it's been misrepresented in the press, and that's giving you a difficult time?
WARREN MOSLER: Yeah. Well, I'm very pleased that it's gotten there at all. And yes, it gets misrepresented around the edges. And that's always going to happen, I can imagine Marx and Keynes feel much the same way about what's happened to it. But they've said and that's the way things are, that's the way the world works. But we've got a lot of good MMT proponents, they're called, people like Stephanie Kelton, Randy Ray, and Bill Mitchell, Carson or probably somebody else I should be naming but who've been with me for over 25 years, trying to get the word out, doing the research, writing the papers, and they're out there doing the best they can to keep the message on message and just very pleased with the way it's been going.
ED HARRISON: I was telling you before that I wanted to go full circle to where you were before MMT got about because my understanding is that you were a money manager who was looking at making money, doing trades, investing and MMT grew out of your desire to actually understand the mechanics of how the Treasury market work. Can you take us back to your trading days?
WARREN MOSLER: Right, so probably best to start at Bankers Trust in 1976, primary dealer. They brought me in from nowhere to be vice president of Ginnie Mae sales and trading or something like that. So, I was 27 years old. And being there on the money desk there, I was in the middle of all the discussions, the economists were near out and learner. Allen Rogers was the trading manager, Jay Pomerance was my mentor, he brought me in Ginnie Mae trader, and it was the beginning of derivatives. It was the beginning, we were the first to start making markets, forward markets. And we're Fed watchers, everybody was a Fed watcher, and you watch what they did.
I remember coming in every morning and looking to see how many bonds the Bank of England bought. What if the Bank of England doesn't buy the debt, what's ever going to happen to the United States? And then it moved on to- I don't know, Japan and the Saudis. And now, it's China, wherever. And of course, it's never made any difference. And I noticed that pretty quickly.
And so, you start thinking about why would it or would not matter whether the Bank of England bought the debt or whether the Fed came into the repose. What's that? What are they doing? They're buying securities. Well, why does that matter? What accounts are they debiting? What are they crediting? What's going on inside of monetary operations?
So, I've described myself as a long time insider of monetary operations themselves. And it's very revealing those types of things. So, I remember when they raised the reserve requirements back, it must have been 1977 or something, and a trading manager said, I hope the Fed doesn't just give the banks the money. Because the money is priced too high, they need to bring it down. And I said, well, they have to, because if they don't- in the first instance, it's going to be an overdraft if your reserve requirements are raised, I don't know how I knew that.
And then Cliff Heiner who became our partner later called, he was at Phoenix Mutual, and there was an article by Art Hyman at Morgan Stanley saying the same thing. The Fed shouldn't give the banks the money this time, we should let the money supply go down and I explained it to Cliff, and he called them back. And they gave him some double talk. And we discussed that. And he called them back. And he calls me, he says they withdrew their statement, they agree that the Fed will add reserves. Okay. And so, there was no name for that back then, except just understanding monetary operations.
And I was isolated at the time with that opinion, it was the entire trading desk. I'd been there a year, everybody else dismissed it. And so, just the basic understanding of the logic behind the currency was something I was interested in very early.
ED HARRISON: So, how did the whole MMT, the theory come about? How did it start out? Was it something that came from you? Or is it an economist, debt economist or what happened?
WARREN MOSLER: I have a BA in Economics from the University of Connecticut, but I started in Engineering. I was there for two years. Had a 1.8 average, I realized I needed to change course now or else I wasn't going to make it. So, I switched to economics, which was a whole lot easier for me, and I got out of there with a 2.5 average. So, I never been a student of economics, I never read Keynes, I read his quotes. I had to know anything about the history I thought. So, all I knew were monetary operations as I got started. And it grew over time.
So, came together in the early '90s when Italian bonds were yielding I'll say 12% for a given maturity, maybe a two-year. And you could borrow- and they were denominated in lira. And maybe it was '93, '92-'93. And you could borrow lira to pay for them from the banking system over there at 10%. So, those 200 basis points spread just for doing nothing, and the profit would be in lira. So, whether the currency went up or down didn't matter much, it would just affect the size of your profit. You don't have to put up any capital. But no one would do it because they were all concerned that Italy was going to default.
And so, if you come up with a reason they weren't going to default, there's a lot of money in that trade. And so, that's how we first started looking at that market. And I remember talking to Tom Shockey, my research guy there. And it just dawned on me, Tom, if the Fed sells us securities, or the Treasury sells us securities, it doesn't matter to us. We own the same thing, the money all goes to the same place. Yeah, they say one is for financing expenditures, the other is supporting rates, just a reserve drain, it's got to be the same thing. The difference it has can only be accounting on their side of the ledger, it can't be any actual difference. And then from that, it's obvious the whole thing is just a big reserve drain. The whole point of rates of Treasury securities is to support interest rates and not to finance expenditures.
ED HARRISON: To help the central bank hit its interest rates target?
WARREN MOSLER: Right, right, right. Because if it doesn't sell securities, when the government spends, it adds reserve balances. And back then, they didn't pay interest on reserves. And so, the policy rate would be zero if they didn't somehow give the holders of those balances an alternative place to put them, an alternative interest bearing account. Well, that was Treasury securities. So, the Treasury would sell securities and some of those funds would shift from reserve accounts to securities accounts and earn the interest rate. And then if there were any leftover, the Fed would have to come in and "mops" them up. It was called offsetting operating factors where they would sell securities one form or another, either overnight or for a term. And then that was to support rates.
And so, the whole point of these securities was to support interest rates and not to fund expenditures. Funding came simply from the Treasury instructing the Fed to credit an account. They just changed the number up. And more recently, Bernanke's, when he was asked where the money comes from, he said, we just use the computer to mark up the numbers in the accounts. But everybody in monetary operations and the Fed knows that. That's what they've always done.
So, that understanding is that comes out that they're spending first, okay, and then taxes get paid. They spend first and then the funds are there for bonds to be purchased. And again, inside the Fed, they say you can't do a reserve drain without doing reserve ad, otherwise, you get an overdraft which is a reserve ad. And so, just as a point of logic, when you're the source of something you spend first and then-
ED HARRISON: So yeah, tell me about that. In terms of being the source, how is it that- I think this is one of the big questions that people have about the operations and about MMT. One of the basic things is, how is it possible that the US government could spend first before it gets the money?
WARREN MOSLER: Right. So, that's like, if you go to the movie theater or the football stadium, nobody thinks they collect a ticket first before they sell it. Okay. So, it's the same thing. When you're the source of the thing, all the dollars to pay taxes can only come from the federal government or its agents, or else they're called counterfeit, you can't do that. And so they, as a point of logic, necessarily have to spend first before they can collect, or spend first before payments can be made back to them. And so, inside the Federal Reserve, it means you credit the account first and then you debit the account. Yeah. And it's that simple.
And the recognition at that time was also that the currency itself is a simple public monopoly that flows from that understanding that the Fed is the monopoly supplier of reserves. Everybody in Wall Street, they know that. That's why they have to vote on the interest rate. That's why there's no market for interest rate, because when you have a monopoly, you don't have a market. They supply the reserves, they're not going to earn interest unless they take some kind of action to see that those reserves can earn interest. And today, it's interest on reserves and securities. Back then it was just securities.
ED HARRISON: So, basically, modern monetary theory, from your view, the way it started was you could've called it monetary operation. Right. It's not like a political economic theory, it's really a description of how the system works.
WARREN MOSLER: So, once you understand this part, I had a reason to think about it because of the Italian trade. Now, when I see, okay, government bonds are the more public debt's going to drive up interest rates, it's like, no, it's not, because you're spending first. It's sitting there. It's going to earn whatever the Fed's policy rate decides it's going to earn. Nothing more than that. It has nothing to do with the process of setting rates. The Fed votes on rates. It's not market forces. Well, they're going to crowd out the borrowings taking money from somebody else, not when you're adding it first, and then you first you added to a reserve account then you shift it to a securities account. That's not taking anything from anybody, it's adding it first.
Once you're spending first, once you get the sequence right, all these other things that you hear are obviously wrong. And so back then, it was the Ross Perot phenomena, and with this huge deficit mania about what was the US going to do? We're going to go broke and the whole thing. We're looking at it and like this is like nonsense. They've got the sequencing backwards. Well, what if we can't borrow? Well, why is that like any imperative? You're spending first. If that person doesn't want to buy the securities, fine. They're just sitting with reserves. That's not the government's problem, that's their problem.
So, once you understand monetary operations, what was going on in the political debate was just an absurdity. And so, I wound up writing this paper called Soft Currency Economics, which still stands. I don't think there's been a word refuted, it's fairly short paper. And since 1993, or whenever I first printed it, self- published it. All of modern monetary theory is there in this short paper. And that's the source of it. And that's how it became political because it was pointing out the absurdity of the political debate, which was both sides. It wasn't just Republicans or just Democrats, it was both sides.
ED HARRISON: One of the questions I have is, how did this help you in terms of your money management in terms of trading? And how can it help other people in terms of understanding? As an example, in terms of QE, we talked about- what did it do for you back in the '90s? And what could it have done for people over time in Japan, in the United States?
WARREN MOSLER: Well, it certainly eliminated the potential of a lot of losses, okay. A lot of people were getting short Japan, they used to call it the widow maker trade, based on the idea that they're going to default. The debt's unsustainable and it's going to cause interest rates to go up. And we knew that was nonsense. And so, we just stayed away from that, and watch people lose a lot of money over the years on that trade.
So, in terms of the other way around, well we wind up being the largest holder of Italian bonds outside of Italy, ourselves and our clients. And that worked out well over the next couple of years as the spreads went away and narrowed. And we even went to Italy right before we put the trade on, met with a people at the Finance Ministry. We just went there and made sure they understood it, which they did after we discussed it. And so, that gave us the further confidence to know they weren't going to push the wrong buttons or something like that. Once they were sure they understood their own monetary operations.
And in fact, after we left, within a week, I think an announcement came out, they said all payments would be met, no extraordinary measures would be taken. And so, after that, the spread gradually went away. So, it was helpful in understanding the European situation where the European state nations turned themselves into what were US estates. And so, we understood immediately the difference in the dynamics between what they were and what they'd become, and the ramifications for the banking system deposit insurance.
ED HARRISON: Explain that a little bit. What is the difference? I have a pretty good understanding myself, but viewers might not. How is Europe? How are the European- what do you call it, the eurozone, member nations different from say, Australia or the US, for example?
WARREN MOSLER: Right. So, they were not different before when they had their own currencies. But when they got together and they created the new central bank, the European Central Bank, and their own central banks became branches of the European Central Bank, they were now in a position of US states, or Canadian territories, or somebody other than the issuer or the currency, they became users like you and I, where each member nation, by law, was required to have funds in their account before they could spend. Like you and I, they have to get the money first before they can spend it. ED HARRISON: And there was no backstop from the monetary authority because that was- WARREN MOSLER: Yeah. That's right. Initially, they were supposed to be on their own and independent. And then we looked at the debt ratios and people who are in that position, whether it's corporations, individuals, foreign countries borrowing in foreign currencies or the US states, once you get up to 15% debt to GDP, that's when California starts having trouble and can't fund themselves. Okay. So now, you got these European member nations turning themselves into US states, so to speak. And they're waltzing in with debt ratios of anywhere from 60 to 130, or 40%, 50% of GDP is like, this is insane. This cannot work. It'll work fine on the way up.
But as soon as you hit your first crisis, and then it- on top of that, deposit insurance was each country insured its own banks. So, can you imagine California ensuring Bank of America and New York ensuring Citibank and then you have a banking crisis and take the states down with it? They can't do that, okay, they don't have the capacity to do that. It's always going to be the federal government that does the deposit insurance. So, they didn't have that either. And so, what we did was, by understanding that, we, again, avoided a lot of the problems and also saw opportunities to do things along the way- credit default swaps, things like that. That understanding gave us, promoted, allowed us to do that.
When I ran my fund from 1982 to 1997, before I turned it over to- my control over to Cliff and the other partners, for 15 years, we didn't have a single losing trade the whole time. It was a zero duration, fixed income market mutual fund, so the returns weren't extraordinarily high. We had about a 6.5% percent alpha or something like that. So, but they were steady. And so, our risk adjusted returns were better than anyone for that entire period of time. And a lot of it was avoiding mistakes that others made by understanding these types of things.
ED HARRISON: Let's go back to that, like you were at Bankers Trust, you were at William Blair. So, what made you leave the banking community and go out on your own to your next venture?
WARREN MOSLER: So, when I went to William Blair, it was pretty much going out on my own. I was at Bankers Trust, they were a client, I was talking to Buzz Newton there, who's head of the corporate bond department. He never did anything