Scenes like this soup line from the 1930s Great Depression highlight the devastating impact of economic mismanagement and misguided austerity. Understanding modern money creation and the role of federal deficits could prevent such widespread hardship, ensuring governments prioritize the well-being of all citizens over fear-driven policies

In This Article:

• What are federal deficits, and why are they misunderstood?
• Why do outdated ideas about money still dominate public opinion?
• How does modern money creation work, and why isn’t it a theory?
• Why paying off all federal debt isn’t wise for a modern economy.
• What role do deficits play in addressing future challenges like climate change?

Understanding Money, Misconceptions, and the Path to Prosperity

by Robert Jennings, InnerSelf.com

Why does the word "deficit" send shivers down the spines of citizens and politicians alike? It's a concept that feels ominous, like an unpaid credit card balance spiraling out of control. But what if much of what we believe about federal deficits is not just wrong but dangerously misleading? What if we could see federal deficits as potential tools for investment, rather than just a looming financial burden?

Federal deficits are profoundly misunderstood. Politicians weaponize them to push agendas that harm their constituents. The roots of this confusion lie in outdated 19th-century economic concepts tied to the gold standard, legislation from a bygone era, and banking systems that no longer exist. Yet, these misconceptions persist, shaping policy and public opinion in ways that block the path to progress. It's time to shift our focus from deficit fear to the pursuit of economic justice, where fair and equitable policies take precedence over misleading deficit narratives.

A Brief History Of Money

Money has evolved from its earliest forms as a barter system replacement, where goods like grain, livestock, or precious metals served as mediums of exchange, to the invention of coinage around 600 BCE in ancient Lydia. Coins standardized trade by providing a consistent measure of value, but their reliance on scarce metals like gold and silver often limited economic growth. The shift to paper money, pioneered in China during the Tang Dynasty and later adopted in Europe, marked a significant leap, enabling larger-scale trade and the development of banking systems that issued notes backed by reserves of precious metals.

The evolution continued in the 20th century with the advent of fiat money—currency backed by the authority of governments rather than physical commodities. This transition, cemented by the final abandonment of the gold standard in 1971, allowed modern economies to expand beyond the limitations of finite resources. Today, money is increasingly digital, with electronic transactions and cryptocurrencies reshaping how value is stored and exchanged. This journey reflects humanity's growing need for more efficient, adaptable systems to support complex and interconnected economies. Today's money is referred to as fiat money.

Why We Have and Need Fiat Money

Fiat money, which is essentially currency that is not backed by physical commodities like gold or silver, has been a cornerstone of modern economic stability. But to understand why we need fiat money, we must first look back at a time when economies relied on hard currencies and the global financial system was plagued by devastating boom-and-bust cycles.

Before the establishment of the Federal Reserve in 1913, the U.S. economy was a wild ride of unregulated banking and speculative excess. Boom periods often saw rapid economic growth fueled by speculative bubbles in land, railroads, or commodities, followed by catastrophic crashes.

Consider the Panic of 1837, a financial collapse driven by speculative lending practices and the tightening of credit. Banks failed en masse, businesses went bankrupt, and the nation spiraled into a deep depression that lasted years. Fast forward to the Panic of 1873, triggered by a railroad speculation bubble, which set off a global depression. Then came the Panic of 1907, where a frenzy of speculation in stocks and trusts led to widespread bank failures, nearly collapsing the entire U.S. financial system.

These cycles weren't anomalies—they were the norm. The problem lay in the reliance on hard money, tied to gold and silver, which severely limited the ability of governments and banks to respond to crises. The money supply couldn't expand when the economy boomed to match growth. When it collapsed, there was no mechanism to inject liquidity and stabilize the system.

The Federal Reserve was established to bring order to this chaos. Its mandate was to manage the money supply, provide liquidity in times of crisis, and stabilize the banking system. Theoretically, this central bank would prevent the worst excesses of the boom-and-bust cycle by acting as a lender of last resort.

But theory and practice don't always align. The early Federal Reserve faced its first major test during the extreme economic excesses of the 1920s. The post-World War I period saw an explosion of credit and speculative investment, particularly in the stock market. The Fed failed to recognize and curb this dangerous speculation. Instead, it kept interest rates low, fueling a bubble that would eventually burst in the Wall Street Crash 1929.

When the crash came, the Federal Reserve compounded the problem. Rather than expanding the money supply to stabilize the economy, it allowed the money supply to contract drastically. This contraction, known as a deflationary spiral, worsened the Great Depression, driving unemployment to unprecedented levels and causing widespread suffering.

Why did the Fed act this way? In part, it was because of lingering adherence to the gold standard. The central bank was constrained by the need to maintain gold reserves, limiting its ability to inject money into the economy. It also needed more experience and tools to understand its role fully. Central banking was still in its infancy, and the Fed's leaders hesitated to deviate from the conventional wisdom of the time.

The chaos of the Great Depression highlighted the limitations of a monetary system tied to gold. 1933, under Franklin D. Roosevelt, the U.S. took a significant step toward fiat money by abandoning the gold standard for domestic transactions. This allowed the government and the Federal Reserve to increase the money supply as needed, enabling a more flexible and responsive economic policy.

After World War II, the Bretton Woods system tied international currencies to the U.S. dollar, still backed by gold. But by 1971, under President Nixon, the U.S. abandoned the gold standard, ushering in the modern era of fiat money. This shift allowed governments and central banks to manage their economies without being constrained by physical reserves.

Fiat money isn't perfect, but it has allowed for more stable and predictable economic management. The Federal Reserve, once a fledgling institution struggling to understand its role, now plays a central part in ensuring financial stability. By expanding or contracting the money supply as needed, the Fed can respond to crises, combat inflation, and support growth—tools unthinkable in the gold-standard era.

The lesson is clear: tying money to physical commodities may feel secure, but it's a recipe for economic disaster. Fiat money, managed responsibly, is not just a convenience—it's necessary in a complex, modern economy.

19th-Century Thinking in a 21st-Century Economy

Federal deficits evoke fear because many people view them through a 19th-century lens. During that era, money was tied to tangible assets like gold and silver, creating a scarcity mindset. Governments could only spend what they could back with physical reserves, reinforcing the belief that money was finite.

This scarcity-driven approach shaped early U.S. laws on debt and deficits. Politicians feared insolvency and emphasized balanced budgets because exceeding gold reserves could destabilize the economy. These ideas were reasonable in a world bound by physical limitations, but they have no place in today's economy. Many people and politicians still think of money as if it were tied to gold, leading to outdated fears about deficits and debt.

One of the most persistent myths is the comparison of federal deficits to household debt. Politicians often claim that the government needs to "tighten its belt" just like a family does when money runs low. While this analogy is intuitive, it's completely wrong.

Compared to households, governments that issue their own currency (like the U.S.) must have money. They create money to fund programs, pay bills, and manage the economy. The real question isn't whether they can afford to spend but how spending affects resources like labor, materials, and infrastructure.

Deficits, far from being inherently harmful, often represent economic investments. Spending on infrastructure, healthcare, or education creates jobs, stimulates growth, and improves quality of life. Historically, programs like the New Deal were partially funded by deficits and have delivered enormous benefits.

Yet, deficits are routinely weaponized to justify austerity measures. Politicians who decry the "burden of debt" often push for cuts to social programs while advocating tax breaks for the wealthy. This narrative serves a specific agenda: preserving inequality and concentrating power.

Enter Modern Monetary Theory (MMT)

Despite its name, Modern Monetary Theory isn't a theory—it describes how money works now in sovereign economies. MMT explains that governments like the U.S., which issue their own currency, don't need to borrow or tax to spend. Instead, they create money as needed and use taxes to manage inflation and redistribute wealth.

Critics often dismiss MMT as radical or untested, but it reflects how modern economies already operate. For example, during the COVID-19 pandemic, the U.S. government created trillions of dollars to fund stimulus checks, unemployment benefits, and small business loans. This spending didn't bankrupt the nation; it stabilized the economy during a crisis.

One of MMT's key insights is that deficits don't matter in the way people think. The absolute limit on government spending isn't money—it's resources. Suppose the economy has unemployed workers, unused factories, and underdeveloped infrastructure. In that case, deficit spending can put those resources to productive use without causing inflation.

Inflation only becomes a concern when demand outpaces supply, but even then, the government has the tools to address it. Taxes, for example, can reduce excess demand and cool inflation without cutting vital programs.

During the Great Recession of 2008, the Federal Reserve deployed unprecedented methods to stabilize the banking system and prevent a collapse that could have rivaled the Great Depression. It slashed interest rates to near zero, making borrowing cheaper and encouraging economic activity. Additionally, the Fed launched massive liquidity programs, including the Troubled Asset Relief Program (TARP) and quantitative easing (QE). These measures pumped trillions of dollars into financial markets by purchasing government securities and toxic assets from struggling banks, ensuring they had enough capital to continue operating and lending.

Unlike the Great Depression, where the Fed allowed the money supply to contract, its actions during the Great Recession expanded the money supply significantly. This intervention stabilized the banking system and restored confidence among businesses and consumers. The Fed prevented a domino effect of bankruptcies and layoffs by directly addressing the liquidity crisis and backstopping failing institutions. These bold steps, though controversial, are credited with stopping the downturn from spiraling into another prolonged economic catastrophe.

The Federal Reserve, if granted the authority by Congress, could pay off the national debt immediately without causing inflation because the spending that created the debt has already been injected into the economy. The national debt represents past expenditures—on infrastructure, military, healthcare, and other public services—circulated through businesses and individuals.

Since this money is already part of the existing money supply, paying off the debt would not add new funds to the economy or increase demand, which are the typical triggers of inflation. This mechanism highlights the unique position of a sovereign currency issuer like the U.S., which can create money as needed without the constraints faced by households or businesses.

However, eliminating all national debt would be unwise, as it serves critical functions in a modern economy. U.S. Treasury securities are considered the safest investment globally, providing a stable store of value for individuals, institutions, and foreign governments.

They underpin the financial system by offering a low-risk benchmark for private lending rates, facilitating economic stability and growth. While concerns are often raised about the interest payments on the debt, these payments could be handled directly by the Federal Reserve instead of adding to the debt. This approach would maintain the benefits of having a debt market while addressing unnecessary fears about its cost, ensuring the economy continues to function smoothly without the constraints of misguided austerity policies.

Insights from Money From Nothing

In Money From Nothing, Robert Hockett and Aaron James build on these ideas, arguing that money should be understood as a public utility. They contend that federal deficits are not problems to be solved but tools to create collective wealth.

The authors propose a more active role for the Federal Reserve, suggesting that it directly fund public programs to stabilize inflation and deflation. This approach would bypass the outdated borrowing mechanisms from private markets, which often enrich financial elites at the expense of the public.

For example, during economic downturns, the Fed could issue direct payments to citizens, much like the Treasury did with stimulus checks during the pandemic. This would inject money into the economy where it's most needed, supporting families and small businesses while boosting demand.

Conversely, in periods of excessive inflation, the Fed could reduce spending or increase taxes to cool the economy. Hockett and James argue that these tools provide a flexible and democratic way to manage economic cycles without resorting to austerity or deep recessions.

Why the Public Struggles to Understand

If modern money creation is so straightforward, why do so many people misunderstand it? The answer lies in education, media, and psychology.

For decades, economic education has focused on outdated models, teaching students to think of money as a finite resource. This approach reinforces the household debt analogy and obscures the realities of fiat currency.

Media coverage compounds the problem by framing deficits as crises. Headlines scream about "record debt levels" without explaining that these numbers are meaningless in a fiat system. Sensationalism sells, but it also distorts public understanding.

Politicians exploit these misconceptions to push their agendas. By framing deficits as dangerous, they justify cuts to programs like Medicare, Social Security, and public education while protecting corporate subsidies and tax breaks for the wealthy.

Finally, there's a psychological barrier: fear. Large numbers—trillions of dollars—feel incomprehensible, and fear of the unknown makes people cling to simplistic solutions like austerity. This emotional response makes it easier for politicians to manipulate public opinion.

Why Deficits Don't Matter

The fixation on deficits distracts from what really matters: economic justice. Deficits are tools, not threats; their value lies in what they can achieve.

Investing in public goods—healthcare, education, renewable energy—can create a more equitable and sustainable economy. These investments often pay for themselves by generating growth, reducing inequality, and addressing urgent challenges like climate change.

The real danger isn't deficits—it's underinvestment. Failing to spend on critical needs perpetuates inequality, stifles innovation, and leaves future generations unprepared for the challenges ahead.

Inflation, often cited as a risk of deficit spending, is manageable with the right tools. Governments can control inflation without harming ordinary citizens by taxing excess wealth, regulating markets, and ensuring fair wages.

To move beyond the deficit myth, we need a cultural shift. Education is key: schools, universities, and public forums must teach the realities of modern money creation. Media outlets should prioritize accuracy over sensationalism, helping the public understand how deficits work and why they're not inherently harmful.

Politically, voters must demand leaders who prioritize public investment over austerity. This means rejecting fearmongering narratives and supporting policies that use deficits to create a fairer, more prosperous society.

The public also has a role in pushing for transparency and accountability. Deficits should serve the common good, not private interests. A strong, democratic Federal Reserve, as envisioned in Money From Nothing, can ensure that money creation benefits everyone.

Embracing the Reality of Money

Federal deficits are not the monsters we've been led to believe. They are powerful tools that, when used wisely, can transform society for the better. By understanding modern money creation and rejecting outdated myths, we can embrace a future where public investment drives progress, justice, and sustainability.

The challenges ahead are daunting. Climate change is accelerating the frequency and intensity of extreme weather events, leading to economic disasters and mass displacement. Rising sea levels, prolonged droughts, and catastrophic storms threaten to destabilize entire regions, creating food and water shortages and triggering mass migration.

At the same time, the insurance market faces collapse as it becomes financially unsustainable to cover the escalating costs of these disasters, leaving communities and individuals increasingly vulnerable. New pandemics, exacerbated by global travel and environmental changes, pose additional threats to health systems and economies already stretched thin.

Addressing these interconnected crises requires governments to pivot from serving the interests of a wealthy elite to prioritizing the needs of all people. The current system, too often shaped by lobbying and financial influence, cannot adequately respond to the scale of these challenges.

Public investments in renewable energy, universal healthcare, and resilient infrastructure are essential to protect vulnerable populations and stabilize economies. To achieve this, governance must become more inclusive, transparent, and focused on collective well-being, ensuring that resources are directed where needed rather than perpetuating inequality. We can only meet the existential threats of the 21st century by reshaping priorities.

It's time to see money not as a constraint but as a possibility—a way to build a better world for everyone. The question isn't whether we can afford to act but whether we can afford not to.

About the Author

Robert Jennings is co-publisher of InnerSelf.com with his wife Marie T Russell. He attended the University of Florida, Southern Technical Institute, and the University of Central Florida with studies in real estate, urban development, finance, architectural engineering, and elementary education. He was a member of the US Marine Corps and The US Army having commanded a field artillery battery in Germany. He worked in real estate finance, construction and development for 25 years before starting InnerSelf.com in 1996.

InnerSelf is dedicated to sharing information that allows people to make educated and insightful choices in their personal life, for the good of the commons, and for the well-being of the planet. InnerSelf Magazine is in its 30+year of publication in either print (1984-1995) or online as InnerSelf.com. Please support our work.

 Creative Commons 4.0

This article is licensed under a Creative Commons Attribution-Share Alike 4.0 License. Attribute the author Robert Jennings, InnerSelf.com. Link back to the article This article originally appeared on InnerSelf.com

References

1. Money From Nothing: Or, Why We Should Stop Worrying About Debt and Learn to Love the Federal Reserve

• Authors: Robert Hockett and Aaron James
• Description: This book challenges traditional notions of national debt, explaining how money is created by governments and central banks to support economic stability. It advocates for using money as a public utility to benefit society.
• Link: Money From Nothing - Amazon

2. The Deficit Myth: Modern Monetary Theory and the Birth of the People's Economy

• Author: Stephanie Kelton
• Description: Economist Stephanie Kelton explains Modern Monetary Theory (MMT), debunking common misconceptions about deficits and national debt. The book explores how governments with sovereign currencies can afford to invest in public needs.
• Link: The Deficit Myth - Amazon

3. Steve Keen’s Debunking Economics Podcast

• Host: Steve Keen
• Description: Economist Steve Keen discusses flaws in traditional economic theories, including the role of debt, banking, and money creation. He provides alternative perspectives based on modern research and historical analysis.
• Link: Debunking Economics Podcast

4. Modern Monetary Theory Explained

• Presenter: Warren Mosler
• Description: In this video, Warren Mosler, one of the founders of Modern Monetary Theory, explains the fundamentals of MMT and how governments can use their spending power responsibly.
• Link: MMT Explained - YouTube

5. The Economic Consequences of the Peace

• Author: John Maynard Keynes
• Description: A classic economic critique by Keynes, explaining how reparations and debts after World War I destabilized Europe. While not explicitly about modern deficits, it provides essential historical context.
• Link: 1686203985

6. Understanding Government Finance

• Host: Pavlina Tcherneva
• Description: Economist Pavlina Tcherneva discusses how government spending works in modern economies, focusing on fiscal policy, MMT, and economic justice.
• Link: Broadcasts

7. MMT Podcast with Patricia and Christian

• Hosts: Patricia Pino and Christian Reilly
• Description: This podcast explores Modern Monetary Theory in depth, featuring interviews with leading economists and discussions on real-world policy implications.
• Link: MMT Podcast

8. A History of Money: From Ancient Times to the Present Day

• Author: Glyn Davies
• Description: This comprehensive history of money provides insight into how monetary systems have evolved over time and how they influence modern economies.
• Link: A History of Money - 1783163097

9. The Price of Inequality: How Today’s Divided Society Endangers Our Future

• Author: Joseph E. Stiglitz
• Description: Nobel laureate Joseph Stiglitz discusses how inequality, debt, and financial mismanagement create systemic risks for society and the economy.
• Link: The Price of Inequality - Amazon

These references provide a comprehensive foundation for understanding modern monetary theory, the role of deficits, and alternative economic frameworks.

Recommended books:

Capital in the Twenty-First Century
by Thomas Piketty. (Translated by Arthur Goldhammer)

In Capital in the Twenty-First Century, Thomas Piketty analyzes a unique collection of data from twenty countries, ranging as far back as the eighteenth century, to uncover key economic and social patterns. But economic trends are not acts of God. Political action has curbed dangerous inequalities in the past, says Thomas Piketty, and may do so again. A work of extraordinary ambition, originality, and rigor, Capital in the Twenty-First Century reorients our understanding of economic history and confronts us with sobering lessons for today. His findings will transform debate and set the agenda for the next generation of thought about wealth and inequality.

Click here for more info and/or to order this book on Amazon.

---

Nature's Fortune: How Business and Society Thrive by Investing in Nature
by Mark R. Tercek and Jonathan S. Adams.

What is nature worth? The answer to this question—which traditionally has been framed in environmental terms—is revolutionizing the way we do business. In Nature’s Fortune, Mark Tercek, CEO of The Nature Conservancy and former investment banker, and science writer Jonathan Adams argue that nature is not only the foundation of human well-being, but also the smartest commercial investment any business or government can make. The forests, floodplains, and oyster reefs often seen simply as raw materials or as obstacles to be cleared in the name of progress are, in fact as important to our future prosperity as technology or law or business innovation. Nature’s Fortune offers an essential guide to the world’s economic—and environmental—well-being.

Click here for more info and/or to order this book on Amazon.

---

Beyond Outrage: What has gone wrong with our economy and our democracy, and how to fix it -- by Robert B. Reich

In this timely book, Robert B. Reich argues that nothing good happens in Washington unless citizens are energized and organized to make sure Washington acts in the public good. The first step is to see the big picture. Beyond Outrage connects the dots, showing why the increasing share of income and wealth going to the top has hobbled jobs and growth for everyone else, undermining our democracy; caused Americans to become increasingly cynical about public life; and turned many Americans against one another. He also explains why the proposals of the “regressive right” are dead wrong and provides a clear roadmap of what must be done instead. Here’s a plan for action for everyone who cares about the future of America.

Click here for more info or to order this book on Amazon.

---

This Changes Everything: Occupy Wall Street and the 99% Movement
by Sarah van Gelder and staff of YES! Magazine.

This Changes Everything shows how the Occupy movement is shifting the way people view themselves and the world, the kind of society they believe is possible, and their own involvement in creating a society that works for the 99% rather than just the 1%. Attempts to pigeonhole this decentralized, fast-evolving movement have led to confusion and misperception. In this volume, the editors of YES! Magazine bring together voices from inside and outside the protests to convey the issues, possibilities, and personalities associated with the Occupy Wall Street movement. This book features contributions from Naomi Klein, David Korten, Rebecca Solnit, Ralph Nader, and others, as well as Occupy activists who were there from the beginning.

Click here for more info and/or to order this book on Amazon.

---

---