American corporations have over two trillion dollars stashed in foreign tax havens. Austerity, a drive to reduce the budget deficit, means that there are not enough United States government bonds for corporate treasurers to stash their money in until they decide to repatriate it. We have a government bond shortage. As a result of a lack of treasury bonds, money ultimately ends up as deposits by American and foreign banks with the Federal Reserve. This process has frozen so much money at the Fed that American is on the brink of deflation.
During the 2008 recession, and possibly up to today, the natural interest rate in the United States dropped below zero. Changes in interest rates reflect how quickly money moves around the economy. At lower interest rates more money is borrowed, resulting in money moving more quickly around the economy. Any given amount of GDP can be reflected as either more money moving slowly or less money moving quickly. In effect, the interest rate dictates the money supply. The natural rate of interest is the interest rate consistent with full employment and low inflation. A negative rate means that full employment is not possible through interest rate cuts alone.
In response to the sluggish economy the Federal Reserve embarked on a program of Quantitative Easing (QE). Under QE the Fed creates money then uses it to buy bonds to put the money into circulation. Unfortunately, this created a shortage of bonds. The results have been odd. Monetary base is defined as all currency plus deposits at the Federal Reserve. The M1 money supply is all currency in currency in circulation plus checking deposits. In normal times monetary base is less than M1. Starting during the 2008 financial crisis M1 – money in circulation – became less than monetary base, money sitting at the Fed. In effect, the Fed created money to buy bonds and most, but not all of it, got stuck at the Fed. I should note that money created during QE that did not get stuck at the Fed is a very large reason why the US economy is only doing poorly and is not it outright recession right now.
Currently Monetary Base, at four trillion dollars, is outrunning M1 by about 1 billion dollars. In normal times, M1 should be about 1.5 times larger than monetary base. Combine the two numbers and the shortfall becomes about 3 trillion dollars. Major American companies have been estimated to hold about 2.1 trillion dollars in offshore tax havens. www.accountingweb.com/... I suspect 2.1 trillion may underestimate the situation by about 900 billion.
Normally, money held offshore would be used to buy liquid assets, primarily safe US Government bonds. Buying bonds would put the offshore money back into the United States Economy. Instead, because of QE there is a shortage of bonds. Without another safe alternative, the money has ended up in major bank deposits at the Federal Reserve, where it receives a small interest rate. Money sitting at the Fed has not been used to build roads or run the government and is, for all practical purposes, out of circulation.
This should be a self correcting problem. The Fed buying bonds pushes interest rates down. Eventually, interest rates will become low enough that it makes sense for the Government to bring projects forward and borrow money now. This increases the supply of bonds, raises the interest rate paid on them, and stimulates the economy. Hopefully, whatever projects the government engages in will generate enough economic growth that the ratio of debt to GDP will either remain constant or fall.
This hasn’t happened. As a result, the bond shortage remains. Instead, no matter how good the deal, the Government refuses to substantially increase borrowing for infrastructure (or anything else!). Commodities prices, historically the first thing hit by deflation, are in the toilet. While lower gas prices are nice, lower gas prices as part of a deflationary cycle means few Americans have the money to enjoy the price break.
Worse, at least from the point of many readers at the DailyKos, we have entered into a self reinforcing cycle. Times are hard so many in the electorate vote for Republicans who promise to “make the hard choices.” Hard choices mean more cuts, further weakening the economy. A weak economy means hard times endure resulting in more hard choices and more Republicans. Cycles like this are generally associated with Dark Ages and other very bad things.