MMT

The Myth Of The Myth Of Monetary Sovereignty

Published by Anonymous (not verified) on Sun, 04/11/2018 - 4:10am in

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MMT

Frances Coppola recently wrote “The myth of monetary sovereignty,” that rehashes some old complaints about Modern Monetary Theory (MMT), which could be summarised as saying that MMT is only applicable for the United States. There are perhaps some claims within the article regarding developing economies that are worth debating, but they are not of interest to myself. My background and writing interests are in the analysis of the developed economies, and I largely stick to my knitting.

(As an update on "Inflation Breakeven Analysis": the book should be ready for ebook publication by next week, unless something else goes wrong with formatting.)
The Revenge of the External ConstraintA good portion of the article is the revival of the “Kaldor-ian” Post-Keynesian critique of MMT on the grounds of the external constraint. I wrote about that debate in an earlier article: "MMT and Constraints". So this is old ground. I want to just focus on some specific claims made by Coppola.

(Update) Frances Coppola was offended by this summary of her article. She argued that her article was about developing countries. We could summarise the position as "MMT does not apply to developing countries." This interpretation is not entirely consistent with the various absolute statements that I quote here, in which phrases like "any country" or where she uses Australia as an example. At the minimum, her article would need much more careful editing to limit the scope of her claims.

If we want to just focus on the developing countries, her argument might be summarised as:

  1. Most existing developing countries are not "currency sovereigns."
  2. There is no way that developing countries can become "currency sovereigns."

I would find the first point hard to argue with (although one may note that the largest developing countries probably fall under that category). The second point is a debate for experts on developing economies, which I am definitely not. In any event, that is an extremely narrow criticism of MMT.
I have left the rest of this article unchanged, as I am addressing direct quotes from her article. 

 Australian Current Account
UPDATE #2 (2018-11-04): I was informed on Twitter that a reference to the Australian current account was deleted. I have to get some work done, so I am not going to attempt to address whatever text she replaced it with. I deleted my original text here, which was based on the original article. I will leave the chart in place to illustrate a key point: countries can run current account deficits indefinitely. If the "external sector" limits "currency sovereignty," those limits can operate at a glacial pace for countries with robust financial systems.
The Currency ValueAny good description of MMT or Functional Finance notes that “inflation” limits government action. Although some people conflate “inflation” with something like the “rate of change of the CPI,” there is no reason to believe this. Most descriptions of Functional Finance are deliberately vague about what prices are included in “inflation.” In particular, one should include the external value of currency as one of the prices that are in the basket that we care about.

This is not enough for some people, including Frances Coppola (and Kaldor-ian Post-Keynesians). Apparently, it is necessary to invoke the totem words “external constraint” in every article one writes. Sorry, that ain’t gonna happen. There is no need to break out the value of the currency as a critical separate concern to be tracked.

The first objection is related to good policy: the smart policy is to not promise that any particular currency value will be defended. Otherwise, the nitwits in the private sector will start borrowing in foreign currency. Instead, borrowers must be taught to fear currency risk. (I will return to this topic later.)

The next problem is that the external value of the currency is related to capital market valuations, which are inherently unstable. This is not the 1960s, where capital controls had the side effect that trade flows determined currency values; in 2018, capital flows rule the developed country forex markets.

For example, Coppola writes:

Printing more dollars simply hastens the exchange rate collapse. After all, for you to buy dollars, someone has to be willing to buy your currency. And who in their right minds would buy a currency whose value in dollars was falling through the floor?

Who would buy a currency that is falling too far relative to fundamentals – such as wages, or purchasing power parity?

  • Pretty well any competent portfolio manager. Capitalism is a system that is based on capitalists employing workers to produce goods and services at a profit. If domestic wages collapse versus foreign competitors, prospective profits increase. The trade balance is the present; the capital markets are interested in the future.
  • Domestic pension (and insurance) funds have liabilities denominated in the local currency, and inflation protection offered by most pensions is derisory. A falling local currency creates an opportunity to repatriate offshore assets to meet liabilities.

Obviously, if policy settings are extremely inflationary, then the fundamentals will point to a much weaker currency. However, that is just Functional Finance.
Borrowing in Foreign CurrencyCoppola writes:

For most countries, the need for external borrowing crucially depends on the external balance. If the current account is balanced or in surplus, then they will earn the dollars they need to pay for essential imports. But any country that runs a current account deficit inevitably borrows dollars.

Although imports and exports may be denominated in dollars, this tells us very little for the developed countries. Forex flows are dominated by portfolio flows. If we look at the post-1990 period for floating currency developed sovereigns, I was unable to think of a single large default that was traced to the borrower borrowing in a foreign currency. (Derek Kaknes on Twitter pointed out Iceland; I am not familiar enough on what was happening in local Icelandic borrowing to disagree.) Borrowing is hedged by either cash flows, or via the currency swap markets. The only entities foolish enough to borrow in foreign currency are those based in countries with some form of an exchange rate peg, or recently left a currency peg system and did not know any better. (For example, the brain trust at the City of Montreal decided it was a good idea to borrow in Swiss francs in the 1970s.)

Current account surplus countries have no choice in the matter. Either they purchase the domestic currency denominated assets of the deficit countries, or they have to let their currencies appreciate until their surplus is closed.
Capital Controls and Fixed Exchange RatesAs based on Twitter debates, Coppola has conflated “fixed exchange rates” and “capital controls.” For some reason, she believes that MMT economists are against capital controls – when in fact, many of them support capital controls. It largely comes down to how she interprets “free floating currency” – apparently, she believes that the “free” implies “free markets.” In fact, the way the term is used, it just means that the value of the currency is not being pegged at any value.

Admittedly, the combination of capital controls and a fluctuating currency value is a rare combination. However, that is a weak argument – one could have argued against the possibility of fiat currencies during the gold standard era, since most countries pegged to gold.

Meanwhile, if we look at the pre-1914 gold standard, we did have a combination of fixed currency parities, and a relative lack of capital controls.

There is a reasonable debate on whether a developing country is better served by pegging its currency. However, a cynic may note that many of the “developing” countries are not in fact developing – even though they have embraced fixed exchange parities. That is a debate that I have little expertise (or interest) in.
Japan’s Domestic Debt HoldingsI was asked on Twitter to comment on this passage:

However, there is a hierarchy even among reserve currency issuers. High on the list comes Japan, because its debt is held almost exclusively by its own citizens (and its central bank), and investors regard it as a "safe haven" in troubled times. But the ostensibly similar Switzerland has less monetary sovereignty than Japan, because it has extensive trade and financial ties to its much larger neighbour the Eurozone.

The “Japan exception” is not the result of the mainly Japanese holdings of Japanese debt. Japan is in a strong position because Japanese nationals have massive claims on foreign countries.

If one is sufficiently pessimistic, one could imagine a major disruption to normal trade flows. (For example, Godzilla returns.) Japan is dependent upon many imported raw materials, and one could imagine that the yen would be under severe pressure. However, the holdings of Japanese debt are immaterial in this case: even if foreigners hold Japanese debt securities, their value will be deflating in nominal terms. Japanese nationals’ holdings of financial assets in commodity producing nations is what would provide Japan the financial firepower to import goods.
Concluding RemarksFrances Coppola’s concerns about fixed versus floating exchange rates for developing countries is presumably interesting to many, but it tells us little about the validity of MMT.

(c) Brian Romanchuk 2018

The myth of monetary sovereignty

Published by Anonymous (not verified) on Sat, 03/11/2018 - 2:48am in

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MMT, money, trade

How many countries can really claim to have full monetary sovereignty?
The simplistic answer is "any country which issues its own currency, has free movement of capital and a floating exchange rate." I have seen this trotted out MANY times, particularly by non-economists of the MMT persuasion. It is, unfortunately, wrong
This is a more complex definition from a prominent MMT economist:
1. Issues its own currency exclusively
2. Requires all taxes and related obligations to be extinguished in that currency
3. Can purchase anything that is for sale in that currency at any time it chooses, without financial constraints. That includes all idle labour
4. Its central bank sets the interest rate
5. The currency floats
6. The Government does not borrow in any currency other than its own.

This appears solid. But in fact, it too is wrong.  

The big hole in this is the external borrowing constraint - item 6 in the list. If a government genuinely could purchase everything the country needed in its own currency, then it would indeed be monetarily sovereign. But no country is self-sufficient. All countries need imports. So item 3 on the list is a red herring. A government may be able to buy anything that is for sale in its own currency, but that doesn't include oil, or gas, or raw materials for industrial production, or basic foodstuffs. To buy those, you need US dollars. Indeed, these days, you need dollars for most imports. Most global trade is conducted in US dollars. 
The only country in the world that can always buy everything the country needs in its own currency, and therefore never needs to borrow in another currency, is the United States, because it is the sole issuer of the US dollar. This is another way of expressing what is known as its "exorbitant privilege".

However, the dark side of this is that the US is obliged to run wide current account and fiscal deficits, because global demand for the dollar far exceeds US production. When it attempts to close these deficits, global trade and investment shrinks, causing market crashes and triggering recessions around the world. Sometimes, there is even a recession in the US itself. The US's last attempt to run a fiscal surplus ended in the 2001 market crash and recession:


MMT adherents like to cite this as evidence that eliminating the government deficit in any country will result in a recession. But this is stretching things considerably. FRED shows us that even in the U.S., only one recession in the last century has been preceded by a government surplus.

Of course, many developed countries do in practice pay for imports in their own currencies. Governments, banks and corporations meet dollar funding requirements by borrowing in their own currency and swapping into dollars in the financial markets. This diminishes the need for dollar-denominated borrowing, either by government or the private sector. These countries therefore have a considerable degree of monetary sovereignty. But it is not absolute as it is in the United States. It crucially depends on the stability of their currencies and the creditworthiness of their borrowers, both of which are a matter of market confidence.

For most countries, the need for external borrowing crucially depends on the external balance. If the current account is balanced or in surplus, then they will earn the dollars they need to pay for essential imports. But any country that runs a current account deficit inevitably borrows dollars. 
This doesn't necessarily mean that the government borrows dollars. Borrowing may be largely confined to the private sector, as (for example) it is in Turkey. But private sector FX borrowing is subject to the vagaries of capital markets. If the local currency depreciates significantly (see item 5 in the list), local banks and corporations can find themselves unable to service dollar debts, because dollars become far more expensive.

If banks stop lending cross-border, as they did in 2008, local banks and corporations can find themselves unable to refinance dollar debts. The world is littered with examples of countries that have had to run down public sector FX reserves to provide dollar liquidity to local banks and corporations after they are effectively shut out of global markets by local currency depreciation. If the public sector doesn't have sufficient dollar reserves, it must borrow them, or face financial crisis, widespread debt defaults and economic recession. In an FX crisis, private sector external debt becomes public sector external debt. 

Thus, when currencies are allowed to float freely (item 5), no government that runs a current account deficit can possibly guarantee that it will never borrow in any currency other than its own (item 6). The list therefore contains an internal contradiction. 
This could be resolved by adding another clause to the list:
7. The current account is maintained in balance or surplus at all times.  
Of course, not all countries can maintain the current account in surplus. We do not trade with Mars. So there will always be countries that lack monetary sovereignty even though they issue their own currency, have free movement of capital and a (theoretically) floating exchange rate. In particular, developing countries that have current account deficits and little access to dollar funding markets cannot afford to allow their currencies to collapse. For these countries, item 4 in the list may be true, but it will in practice be determined by the need to support the exchange rate. 
Additionally, many countries that maintain the current account, or at least the trade balance, in surplus are major exporters of commodities. The currency exchange rates of these countries typically track the global price of their primary export. The central bank may set the interest rate, but this tends to have little effect on the movement of funds in and out of the country. These countries do not have full monetary sovereignty. 
To explain why, consider what happens if the global price of the primary export falls. Commodity price collapses quickly wipe out the current account surpluses of commodity-exporting countries, forcing them to draw on FX reserves to pay for imports. Additionally, since a current account surplus does not mean there is no dollar debt, the public sector may need to provide dollar liquidity to distressed banks and corporations. Typically, the currency exchange rate collapses at the same rate as the primary export price. So the country has to run down FX reserves, and may need to borrow or buy more, just when dollars are becoming considerably more expensive. This way lies FX crisis. 
Admittedly, FX crisis arrives much more quickly for commodity exporters if the exchange rate is fixed. They can quickly burn through their FX reserves propping up the exchange rate and then, when the exchange rate inevitably crashes, find themselves shut out of dollar markets. But floating exchange rates are not a panacea. Falling exchange rates make dollars much more expensive. 
Some say that since a currency-issuing government can always print more of its own currency, it can always buy dollars, however low the exchange rate falls. This is the assumption behind items 1 and 5 in the list. It is, unfortunately, a fallacy. Printing more dollars simply hastens the exchange rate collapse. After all, for you to buy dollars, someone has to be willing to buy your currency. And who in their right minds would buy a currency whose value in dollars was falling through the floor?

Printing money to fund an external deficit in a foreign currency always ends with the country shut out of markets and facing a painful choice between an IMF programme and debt default, possibly accompanied by hyperinflation. This has just happened to Argentina. Argentina, a country which issues its own currency, has free movement of capital and a floating exchange rate, does not have monetary sovereignty. 
Monetary sovereignty is perhaps best regarded as a spectrum. No country on earth is completely monetarily sovereign: the closest is the US, because of its "exorbitant privilege", but even the US cannot completely ignore the effect of its government's policies on international demand for its currency and its debt. 
In general, the major reserve currency issuers tend to have more monetary sovereignty than other countries, because there is international demand for their currencies and their debt. The primary reserve currency issuer is the US, but the Eurozone (for which Germany is the primary safe asset issuer), the UK, Japan, Switzerland, Canada, and - now - China, all fall into this category.

However, there is a hierarchy even among reserve currency issuers. High on the list comes Japan, because its debt is held almost exclusively by its own citizens (and its central bank), and investors regard it as a "safe haven" in troubled times. But the ostensibly similar Switzerland has less monetary sovereignty than Japan, because it has extensive trade and financial ties to its much larger neighbour the Eurozone.

The Eurozone countries have relinquished their monetary sovereignty in the interests of developing ever-closer links. However, the Eurozone as a bloc has a high degree of monetary sovereignty, because its currency is the second most widely used currency for trade after the dollar.
Commodity exporting countries that maintain a diversified economy and don't let their fiscal finances become dependent on commodity prices also retain monetary sovereignty. Norway is perhaps the best example: the sovereign wealth fund took a beating when oil prices crashed, but the country itself didn't suffer much. Sadly, Norway's prudence has not been reflected in other countries. 
North Korea also has a high degree of monetary sovereignty, because it is autarkic. The price it pays for this is extreme poverty. Losing some degree of monetary sovereignty is surely a small price to pay for the openness to trade that brings prosperity.

Outside this somewhat exclusive club, monetary sovereignty becomes much diluted.

Few developing countries allow their currencies to float freely, and with reason. A floating exchange rate can be actively damaging to an economy if it is thinly traded and volatile, because the value of imports and exports varies so much: this is why the US dollar, and to a lesser extent the Euro, are so widely used in trade involving developing countries. For many developing countries, pegging to a stronger currency, or even adopting it outright, is the only way of creating sufficient stability for trade to develop.

Free movement of capital can also be extremely harmful to countries that don't have well-developed capital markets and strong institutions. The damage done by hot money flows in and out of developing countries that have prematurely opened their capital accounts is well documented.

Small countries that have close trade and financial links with much larger ones do not have monetary sovereignty, even if their currencies are floating and they have free movement of capital. Perhaps the best example of this is Kazakhstan, which in 2014 was forced to float its currency after the Russian central bank floated the ruble. Kazakhstan's close links with Russia made pursuing an independent monetary policy impossible.

For various reasons, therefore, most countries are not monetarily sovereign, even if they issue their own currencies and have floating exchange rates and open capital accounts. Sadly, if MMT's policy recommendations rely on there being monetary sovereignty, it can never safely be used in more than a handful of countries. Monetary sovereignty is largely a myth.  
Related reading:
Understanding balance of payments crises in a fiat currency systemRethinking government debtThe Pain of Original Sin - Eichengreen, Hausmann & PanizzaFear of Floating - Calvo & ReinhartArgentina and the Lure of Dollars - ForbesThe IMF has learned nothing from the Greek crisis - ForbesBanking, Trade, and the Making of a Dominant Currency - Gopinath & SteinDilemma not Trilemma: The Global Financial Cycle and Monetary Policy Independence - ReyWhat is the Economists "Trilemma", or Impossible Trinity? - American Express
This post has been updated to remove the incorrect suggestion that Australia runs a current accounts surplus. It generally runs a current account deficit and a trade balance surplus. The difference is explained by a very large deficit on primary and secondary income, reflecting Australia's relatively high interest rates which themselves are linked to its extractive industry dominance. This is a whole subject in itself which deserves a separate post. 

Pensions, Universal Credit and the IMF

Published by Anonymous (not verified) on Sat, 20/10/2018 - 5:23am in

Hands holding empty WalletThe IMF has been busying itself with the UK’s financial position, reported in the FT on the 10 October as “languishing close to the bottom of the international league table for the strength of its public finances (…) The UK’s poor position reflects the fact that the government owns few assets compared with other countries after a wave of privatisation in the 1980s and 1990s, but has big public debts and future pension liabilities to finance in the decades ahead.”

Considering the IMF’s role across the globe, especially in (but not limited to) developing countries, it must be tempting for the government to say, ‘but you told us to’. Indeed the change from full employment as the mainstay of public policy starting in 1976 was a direct result of the then Labour government’s acceptance of the punitive terms of an IMF loan. The IMF demanded a huge cut in public sector spending. It caused a major policy shift.

Since that period, privatisation has been the economic policy of successive governments. All the major infrastructure, utilities and manufacturing industries which had been brought into public ownership in the immediate post-war period have been sold off, as single share offers, wholesale private transfers, or partial staged transfers. And public services are following suit with the piecemeal privatisation of services and sale of public land.

The privatisation agenda and the austerity agenda have become the mainstream economic narrative. This ideology is guided by the notion that leaving the market to its own devices with minimal interference from Government will allow it to find its natural equilibrium and be positive for the economy and citizens alike.

The IMF also joined the clamour from right wing politicians and think tanks for scrapping the triple lock on the UK state pension. Quoting figures from the  Office for Budget Responsibility which suggests that public spending on health care and pensions will increase significantly between 2023 and 2043 it advised that ditching the triple lock could allow the government to make substantial savings on pensions. It also suggested that such savings could help to fund the NHS.

Last year the government announced plans to extend the retirement age to 68 which will affect millions of workers. The DWP claims that the changes will ‘save’ £74bn and aim to ‘maintain fairness between generations in line with continuing increases in life expectancy’. It claimed that ‘combined with our pension reforms that are helping more people than ever save into a private pension and reducing pensioner poverty to a near record low these changes will give people the certainty they need to plan ahead for retirement’. But a report published by the OECD in 2017 said that the British State Pension is now the worst in the developed world. Among those aged 75 and over, 18.5% have income levels below the poverty line, most of whom are women, for which the main reason was the low level of the state pension. Claims that private pensions will save the day for future generations does not alter the fact that is the State pension which provides the safety net in retirement, especially amongst low income groups.

Any claim that cuts to pensions were based on intergenerational fairness were contradicted as it was revealed that at the other end of the generational divide 4.3 million families were being left poorer by the government’s flagship policy Universal Credit. This appeared to be a cut too far even for some Tories.

According to the Resolution Foundation 3.2 million working families will lose money estimated to be about £48 per week and on top some 1.6 million working families, who currently receive benefits, will not get universal credit at all. The evidence is clear the Conservative slogan ‘work pays’ is hollow rhetoric. As the Child Poverty Action Group notes:
“While UC does represent a real advance on many aspects of the current benefits system, it has been designed against a backdrop of fiscal austerity and an increasingly dominant discourse which emphasises individuals’ responsibility for poverty. The reality is that cuts to the generosity of aspects of UC mean that it will not reduce child poverty and may even drive more children into poverty than ever before. (It) critically fails to deal with the issue of adequacy of benefits, while ignoring many of the key structural factors that contribute to child poverty.”

Universal Credit would seem to be less about making things easier for people and more about using it as a vehicle to cut the costs of social security to deliver a political agenda at the expense of lives. It is important to note also that with or without UC George Osborne’s cuts announced in 2015 would continue to have a destructive outcome for some of the poorest people in our communities.

With the Conservative flagship in doubt and Chancellor Philip Hammond’s plans to continue austerity and cuts to public spending (despite Theresa May’s assurances that austerity is over) the question is being asked where could the extra money come from to restore its credibility. Iain Duncan Smith, the architect of the scheme, has suggested that the Chancellor restore the £2bn of cuts made by George Osborne in 2015. Doubt has been cast too on his plans to cut taxes for millions, as the current economic policy has to restrict spending or increase tax in order to maintain budgetary control. In other words to keep the Universal Credit system afloat he needs either more tax or to scrap his plans to give the NHS more funding. With the concepts of balanced budgets and fiscal credibility limiting his options to pay more to Peter he has to rob Paul. Yet with the NHS on the brink of another crisis winter and in a time of economic uncertainty this would be a very bad move indeed and add to the country’s economic problems and human suffering.

The question being posed is the wrong one. In terms of delivering both adequate funding for essential public services and a level of social security income that does not impoverish those who need it, the government has the power to authorise whatever level of spending it the productive capacity of the country can support. Spending decisions should be based not only on real resource questions, but on moral questions too, in the allocation of those resources. If the pension age was maintained and the pension benefit increased and social security was either moved on to an efficient and adequate Universal Credit system or returned to being a tailored basket of payments what would be the effect on inflation (if any) and how would that best be countered? The same question would apply to the spending on public services.

Our state money system bears no resemblance at all to our own household budgets which are defined by our income and expenditure. The only measure by which any government should be judged is whether it has met the needs of its citizens to ensure their economic and social well-being by balancing the economy and not its budget. To ensure intergenerational fairness and to ensure there is no excessive private debt burden in the coming years, the government must use its spending power to maintain and improve standards of income and services. If it does not then millions of children will continue to be deprived of good, safe services and future generations can look forward to bleak prospects at the end of their working lives.

When Aneurin Bevan resigned from the government in 1951, over arguments about the budget, he said “The great difficulty with the Treasury is that they think they move men about when they move pieces of paper about. (…) It has been perfectly obvious on several occasions that there are too many economists advising the Treasury, and now we have the added misfortune of having an economist in the Chancellor of the Exchequer himself. (We should) put the Chancellor of the Exchequer in the position where he ought to be now under modern planning, that is, with the function of making an annual statement of accounts. Then we should have some realism in the Budget. We should not be pushing out figures when the facts are going in the opposite direction.”

The perspective that MMT gives into the functioning of government finances connects money with resources in a direct way. There is no question of confusing the moving of pieces of paper (or digits on a computer screen) with the effect on real lives. It’s a lesson we seem to have to learn over again. It’s time the government started to learn that too.

Intergenerational fairness improved by fiscal deficits – Professor Bill Mitchell

The rising future burden on our kids – Professor Bill Mitchell

 

 

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The post Pensions, Universal Credit and the IMF appeared first on The Gower Initiative for Modern Money Studies.

On Modern Monetary Theory and Some Odd Twists and Turns in the Evolution of Macroeconomics

Published by Anonymous (not verified) on Wed, 17/10/2018 - 2:41am in

Mainstream neoclassical economics is hooked on the idea of individual worker-savers as prime movers in capitalist market economies. As workers, individuals choose how much to work, determining the economy’s output; as savers, they determine how much of that output takes the shape of the economy’s capital investment. With banks as conduits channeling saving flows into investment, firms churn inputs into outputs that match worker-savers’ tastes. In this way, the neoclassical world gets shaped by what rational intertemporal utility-maximizing worker-savers wish it to be.

In its most fanciful version – erected on supposedly sound micro foundations and known as “real business cycle theory” (RBC) – the neoclassical fantasy world of intertemporally optimizing worker-savers is subject to exogenous shocks to tastes and technology. Random technology shocks may be either positive or negative, and as Edward Prescott—acclaimed RBC founding father, together with Fynn Kydland—famously explained, negative technology shocks arise whenever there is a traffic jam on some bridge (see Romer 2016). That’s truly creative: Imagine a couple of dancers receiving the Nobel prize in medicine for wildly hopping around a coconut tree while peeing on a rotten banana and screaming voodoo until they are blue in the face. Unlikely to happen in medicine, you might say, but in economics voodoo routines and hallucinations of this kind can still earn you a pseudo-Nobel prize properly known as “The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.”

There also exists a “New Keynesian” variety of mainstream neoclassical economics that accepts the RBC framework as its core but adds some “frictions” to the modeled worker-saver paradise that hinder continuous and smooth full-employment equilibrium. Both camps share a common modeling technique (or speak the same language) known as “Dynamic Stochastic General Equilibrium” (DSGE) methodology. The only thing “Keynesian” about the New Keynesian variety is that it provides a rationale for government stabilization policies.

Hardcore (“New Classical”) RBC proponents interpret the Great Depression as a worker-saver mass movement into the world of leisure. By contrast, New Keynesians offer an apology for why market economies might take their time in returning to full employment. Regaining full employment may then be accelerated by government intervention, preferably to be enacted by an independent central bank – with central bank independence being re-interpreted as “rules rather than discretion” in another extraordinarily muddled piece of obscurantism by said RBC-duo Kydland and Prescott (1977) (see Bibow 2001).

Needless to say, and obvious to any serious economist, the worker-saver fantasy world depicted in DSGE models has little in common with capitalism as we know it on this planet. In fact, modern mainstream macroeconomics has completely unlearned the “Keynesian revolution” and essentially turned macroeconomics into an especially shoddy version of microeconomics.

Keynes identified two key flaws in the mainstream neoclassical economics of his time. The first was a fallacy of composition regarding the working of the labor market: while the individual worker may price themselves into employment by accepting a lower wage, workers in the aggregate can only price the macroeconomy into debt deflation by going down that route. Keynes observed that the only reliable expansionary effect of a falling wage level arises through competitiveness gains and net exports. Writing at a time when the world was engaging in “beggar-thy-neighbor” competitive devaluations, that seemed hardly a promising strategy to rely on.

The second flaw Keynes identified concerns the neoclassical capital market supposedly channeling worker-savers’ saving flows into investment, with banks collecting loanable funds as deposits which they then lend out to investing firms. Keynes exposes a fatal neoclassical confusion between money and saving (Bibow 2009). In capitalism nothing much happens without money, so it’s money first, then saving – if money can make James Meade’s (1975) investment dog smile and wag its tail. In Keynes’s vision of capitalism, entrepreneurial investors and their financiers emerge as the prime movers, while worker-savers are largely relegated to a more passive role. They, too, try to optimize – but under the macroeconomic constraint posed by the level of effective demand.

Interestingly, Schumpeter’s vision of capitalism is quite similar to Keynes’s, with entrepreneurial-investors driving the never-ending process of “creative destruction” and banks acting as “ephor” (gatekeepers) of capitalist development. Schumpeter, too, understood the money-first principle and saw banks as money producers rather than loanable funds conduits. Minsky stood on both giants’ shoulders, elaborating on the central role of finance in capitalism and the endogenous emergence of financial fragility as the driving force behind boom-bust cycles. However, Minsky clearly leaned towards the Englishman rather than the Austrian regarding the role of government as a player in its own right potentially stabilizing the macro economy.

It was Abba Lerner (1943, 1944), who pushed Keynes’s macroeconomic insights to its logical conclusion with regard to fiscal policy. Lerner’s “functional finance” approach proposes that the government, not facing the usual monetary constraints that can hold back private actors, should let its budgetary position passively adapt to whatever may be required to achieve macroeconomic equilibrium.

Keynes responded to Lerner’s functional finance as a “splendid idea” but had reservations as far as putting it into practice was concerned: “functional finance is an idea and not a policy; part of one’s apparatus of thought but not, except highly diluted under considerable clothing of qualification, an apparatus of action. Economists have to try to be very careful, I think, to distinguish the two.”

It is here that “Modern Monetary Theory” (MMT) comes into the picture. As a recent conference held in New York City made clear, MMT is a call for action. It is a program to alert policymakers and the public that decisions about, for instance, infrastructure, the environment, or progressive social programs are nothing but political choices within the fiscal powers of sovereign states.

MMT’s theoretical roots reach back to Keynes, Lerner, and a less well-known German political economist with the name of Georg Friedrich Knapp (1905). The latter is known for his “state theory of money” (or: “chartalism”) emphasizing that money is a creature of the state rather than a convenient market invention to reduce transaction costs.

MMT features the money-first principle: the state has to first issue its money, either by literally spending it into existence or by having its central bank purchase (“monetize”) assets, for taxpayers to then send it back to the treasury as taxes. Seen in this way, taxes do not “finance” government spending. Rather, they are a means to contain inflation depending on the economy’s real resource constraints (as made clear in Keynes’s [1940] “How to pay for the war”). Similarly, government bond issuance – supposedly collecting loanable funds from worker-savers – is not a means to “finance” government spending either, but an instrument to manage interest rates (as Keynes made clear in his reflections on monetary policy and debt management during WWII).

These insights into modern money and state power are inconvenient from the perspective of those who favor a small state and unfettered finance (i.e., the powers of wealth). It is therefore somewhat ironic to see that the current U.S. government has embraced MMT with much enthusiasm.

Recall that the Republicans in Congress opposed the “Obama stimulus” in 2009 when a second Great Depression was looming. Recall also that in 2011 a Republican Congress engineered a grossly premature turn to fiscal austerity that pummeled the still shaky recovery and forced the Federal Reserve into extended monetary overdrive. Officially, both acts of folly were made in the name of “fiscal responsibility.” But Republican Senate leader Mitch McConnell made it public that his primary ambition was to wreck the Obama presidency and limit it to one term. Attempting to sabotage his black president and unnecessarily putting the economy and the well-being of his American compatriots in jeopardy did not make him a traitor, as one would think, but a Republican hero masterminding plenty more dirty work on behalf of his subversive party rather than the nation.

And here we are today. Imagine a populist takeover of the nation by a gang of ruthless kleptocrats. Confronting a society botched with income and wealth inequalities similar in degree to the time before the Great Depression, they go about filling their own pockets by squandering tax cuts on the super-rich without paying any attention to the budgetary consequences. Fiscal responsibility was yesterday. Today is self-indulgence without fiscal worries of any tomorrow.

Ironically, certain conservative economists had remarkably clear foresight of modern developments under conservative government. James Buchanan’s vision of public policy was inspired by little else but fears of plundering kleptocrats. Milton Friedman favored fixed rules for public policy precisely because he feared discretion in the hands of incompetent and/or corrupt policymakers. It is difficult to deny today that they had a point.

Today’s political realities probably also play a part in explaining why there is significant popular interest in MMT at the other end of the political spectrum. The speech in NYC by Stephanie Kelton titled “Mainstreaming MMT” highlighted that MMT has indeed made important inroads into public life, the media, and academia (excluding the neoclassical economics mainstream of course). Participants and activists present at the NYC conference were equally enthusiastic about conceiving an active role for the state for progressive causes – unhindered by “sound finance” myths.

One can rest assured that conservatives will rediscover their love for fiscal responsibility as soon as they lose their reach to the public purse. Crying “socialism” whenever responsible fiscal action on behalf of society gets discussed, they will once again demand nothing but “sound finance.” It would be a shame if, for a third time in a row, a government inheriting Republican fiscal wreckage declared “sound finance” as their policy priority. Instead, the next government might be well advised to set out and prove Buchanan and Friedman wrong by showing that honest, responsible, and competent “government of the people, by the people, for the people” is actually possible.

Sadly, kleptocrats’ imaginative powers never reach beyond their own pockets. Imagine a government that really cares about the environment, good infrastructure, and a healthy and well-educated society, a government that understands these political choices are possible here and now – if only we as a society went for it.

 

Bibow, J. (2009). Keynes on Monetary Policy, Finance and Uncertainty: Liquidity Preference Theory and the Global Financial Crisis, Routledge.

Bibow, J. (2001). Reflections on the Current Fashion for Central Bank Independence, Working Paper No. 334, Levy Economics Institute of Bard College. Updated here: (2004). Cambridge Journal of Economics, Vol. 28, No. 4, pp. 549-576

Keynes, J.M. (1940). How to Pay for the War: A Radical Plan for the Chancellor of the Exchequer, Macmillan.

Knapp, G.F. (1905). Staatliche Theorie des Geldes, Munich and Leipzig, Duncker & Humblot.

Lerner, A.P. (1943). Functional Finance and the Federal Debt, Social Research.

Lerner, A.P. (1944). The Economics of Control, Macmillan.

Meade, J.E. (1975). The Keynesian revolution, in M. Keynes ed. Essays on John Maynard Keynes, Cambridge, Cambridge University Press.

Romer, P. (2016) The Trouble with Macroeconomics, Commons Memorial Lecture of the Omicron Delta Epsilon Society delivered on January 5, 2016, New York University, manuscript, September 14.

Kydland, F.E. and Prescott, E.C. (1977). Rules Rather Than Discretion: The Inconsistency of Optimal Plans, Journal of Political Economy, vol. 85, issue 3, 473-91.

On Modern Monetary Theory and Some Odd Twists and Turns in the Evolution of Macroeconomics

Published by Anonymous (not verified) on Wed, 17/10/2018 - 2:41am in

Mainstream neoclassical economics is hooked on the idea of individual worker-savers as prime movers in capitalist market economies. As workers, individuals choose how much to work, determining the economy’s output; as savers, they determine how much of that output takes the shape of the economy’s capital investment. With banks as conduits channeling saving flows into investment, firms churn inputs into outputs that match worker-savers’ tastes. In this way, the neoclassical world gets shaped by what rational intertemporal utility-maximizing worker-savers wish it to be.

In its most fanciful version – erected on supposedly sound micro foundations and known as “real business cycle theory” (RBC) – the neoclassical fantasy world of intertemporally optimizing worker-savers is subject to exogenous shocks to tastes and technology. Random technology shocks may be either positive or negative, and as Edward Prescott—acclaimed RBC founding father, together with Fynn Kydland—famously explained, negative technology shocks arise whenever there is a traffic jam on some bridge (see Romer 2016). That’s truly creative: Imagine a couple of dancers receiving the Nobel prize in medicine for wildly hopping around a coconut tree while peeing on a rotten banana and screaming voodoo until they are blue in the face. Unlikely to happen in medicine, you might say, but in economics voodoo routines and hallucinations of this kind can still earn you a pseudo-Nobel prize properly known as “The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.”

There also exists a “New Keynesian” variety of mainstream neoclassical economics that accepts the RBC framework as its core but adds some “frictions” to the modeled worker-saver paradise that hinder continuous and smooth full-employment equilibrium. Both camps share a common modeling technique (or speak the same language) known as “Dynamic Stochastic General Equilibrium” (DSGE) methodology. The only thing “Keynesian” about the New Keynesian variety is that it provides a rationale for government stabilization policies.

Hardcore (“New Classical”) RBC proponents interpret the Great Depression as a worker-saver mass movement into the world of leisure. By contrast, New Keynesians offer an apology for why market economies might take their time in returning to full employment. Regaining full employment may then be accelerated by government intervention, preferably to be enacted by an independent central bank – with central bank independence being re-interpreted as “rules rather than discretion” in another extraordinarily muddled piece of obscurantism by said RBC-duo Kydland and Prescott (1977) (see Bibow 2001).

Needless to say, and obvious to any serious economist, the worker-saver fantasy world depicted in DSGE models has little in common with capitalism as we know it on this planet. In fact, modern mainstream macroeconomics has completely unlearned the “Keynesian revolution” and essentially turned macroeconomics into an especially shoddy version of microeconomics.

Keynes identified two key flaws in the mainstream neoclassical economics of his time. The first was a fallacy of composition regarding the working of the labor market: while the individual worker may price themselves into employment by accepting a lower wage, workers in the aggregate can only price the macroeconomy into debt deflation by going down that route. Keynes observed that the only reliable expansionary effect of a falling wage level arises through competitiveness gains and net exports. Writing at a time when the world was engaging in “beggar-thy-neighbor” competitive devaluations, that seemed hardly a promising strategy to rely on.

The second flaw Keynes identified concerns the neoclassical capital market supposedly channeling worker-savers’ saving flows into investment, with banks collecting loanable funds as deposits which they then lend out to investing firms. Keynes exposes a fatal neoclassical confusion between money and saving (Bibow 2009). In capitalism nothing much happens without money, so it’s money first, then saving – if money can make James Meade’s (1975) investment dog smile and wag its tail. In Keynes’s vision of capitalism, entrepreneurial investors and their financiers emerge as the prime movers, while worker-savers are largely relegated to a more passive role. They, too, try to optimize – but under the macroeconomic constraint posed by the level of effective demand.

Interestingly, Schumpeter’s vision of capitalism is quite similar to Keynes’s, with entrepreneurial-investors driving the never-ending process of “creative destruction” and banks acting as “ephor” (gatekeepers) of capitalist development. Schumpeter, too, understood the money-first principle and saw banks as money producers rather than loanable funds conduits. Minsky stood on both giants’ shoulders, elaborating on the central role of finance in capitalism and the endogenous emergence of financial fragility as the driving force behind boom-bust cycles. However, Minsky clearly leaned towards the Englishman rather than the Austrian regarding the role of government as a player in its own right potentially stabilizing the macro economy.

It was Abba Lerner (1943, 1944), who pushed Keynes’s macroeconomic insights to its logical conclusion with regard to fiscal policy. Lerner’s “functional finance” approach proposes that the government, not facing the usual monetary constraints that can hold back private actors, should let its budgetary position passively adapt to whatever may be required to achieve macroeconomic equilibrium.

Keynes responded to Lerner’s functional finance as a “splendid idea” but had reservations as far as putting it into practice was concerned: “functional finance is an idea and not a policy; part of one’s apparatus of thought but not, except highly diluted under considerable clothing of qualification, an apparatus of action. Economists have to try to be very careful, I think, to distinguish the two.”

It is here that “Modern Monetary Theory” (MMT) comes into the picture. As a recent conference held in New York City made clear, MMT is a call for action. It is a program to alert policymakers and the public that decisions about, for instance, infrastructure, the environment, or progressive social programs are nothing but political choices within the fiscal powers of sovereign states.

MMT’s theoretical roots reach back to Keynes, Lerner, and a less well-known German political economist with the name of Georg Friedrich Knapp (1905). The latter is known for his “state theory of money” (or: “chartalism”) emphasizing that money is a creature of the state rather than a convenient market invention to reduce transaction costs.

MMT features the money-first principle: the state has to first issue its money, either by literally spending it into existence or by having its central bank purchase (“monetize”) assets, for taxpayers to then send it back to the treasury as taxes. Seen in this way, taxes do not “finance” government spending. Rather, they are a means to contain inflation depending on the economy’s real resource constraints (as made clear in Keynes’s [1940] “How to pay for the war”). Similarly, government bond issuance – supposedly collecting loanable funds from worker-savers – is not a means to “finance” government spending either, but an instrument to manage interest rates (as Keynes made clear in his reflections on monetary policy and debt management during WWII).

These insights into modern money and state power are inconvenient from the perspective of those who favor a small state and unfettered finance (i.e., the powers of wealth). It is therefore somewhat ironic to see that the current U.S. government has embraced MMT with much enthusiasm.

Recall that the Republicans in Congress opposed the “Obama stimulus” in 2009 when a second Great Depression was looming. Recall also that in 2011 a Republican Congress engineered a grossly premature turn to fiscal austerity that pummeled the still shaky recovery and forced the Federal Reserve into extended monetary overdrive. Officially, both acts of folly were made in the name of “fiscal responsibility.” But Republican Senate leader Mitch McConnell made it public that his primary ambition was to wreck the Obama presidency and limit it to one term. Attempting to sabotage his black president and unnecessarily putting the economy and the well-being of his American compatriots in jeopardy did not make him a traitor, as one would think, but a Republican hero masterminding plenty more dirty work on behalf of his subversive party rather than the nation.

And here we are today. Imagine a populist takeover of the nation by a gang of ruthless kleptocrats. Confronting a society botched with income and wealth inequalities similar in degree to the time before the Great Depression, they go about filling their own pockets by squandering tax cuts on the super-rich without paying any attention to the budgetary consequences. Fiscal responsibility was yesterday. Today is self-indulgence without fiscal worries of any tomorrow.

Ironically, certain conservative economists had remarkably clear foresight of modern developments under conservative government. James Buchanan’s vision of public policy was inspired by little else but fears of plundering kleptocrats. Milton Friedman favored fixed rules for public policy precisely because he feared discretion in the hands of incompetent and/or corrupt policymakers. It is difficult to deny today that they had a point.

Today’s political realities probably also play a part in explaining why there is significant popular interest in MMT at the other end of the political spectrum. The speech in NYC by Stephanie Kelton titled “Mainstreaming MMT” highlighted that MMT has indeed made important inroads into public life, the media, and academia (excluding the neoclassical economics mainstream of course). Participants and activists present at the NYC conference were equally enthusiastic about conceiving an active role for the state for progressive causes – unhindered by “sound finance” myths.

One can rest assured that conservatives will rediscover their love for fiscal responsibility as soon as they lose their reach to the public purse. Crying “socialism” whenever responsible fiscal action on behalf of society gets discussed, they will once again demand nothing but “sound finance.” It would be a shame if, for a third time in a row, a government inheriting Republican fiscal wreckage declared “sound finance” as their policy priority. Instead, the next government might be well advised to set out and prove Buchanan and Friedman wrong by showing that honest, responsible, and competent “government of the people, by the people, for the people” is actually possible.

Sadly, kleptocrats’ imaginative powers never reach beyond their own pockets. Imagine a government that really cares about the environment, good infrastructure, and a healthy and well-educated society, a government that understands these political choices are possible here and now – if only we as a society went for it.

 

Bibow, J. (2009). Keynes on Monetary Policy, Finance and Uncertainty: Liquidity Preference Theory and the Global Financial Crisis, Routledge.

Bibow, J. (2001). Reflections on the Current Fashion for Central Bank Independence, Working Paper No. 334, Levy Economics Institute of Bard College. Updated here: (2004). Cambridge Journal of Economics, Vol. 28, No. 4, pp. 549-576

Keynes, J.M. (1940). How to Pay for the War: A Radical Plan for the Chancellor of the Exchequer, Macmillan.

Knapp, G.F. (1905). Staatliche Theorie des Geldes, Munich and Leipzig, Duncker & Humblot.

Lerner, A.P. (1943). Functional Finance and the Federal Debt, Social Research.

Lerner, A.P. (1944). The Economics of Control, Macmillan.

Meade, J.E. (1975). The Keynesian revolution, in M. Keynes ed. Essays on John Maynard Keynes, Cambridge, Cambridge University Press.

Romer, P. (2016) The Trouble with Macroeconomics, Commons Memorial Lecture of the Omicron Delta Epsilon Society delivered on January 5, 2016, New York University, manuscript, September 14.

Kydland, F.E. and Prescott, E.C. (1977). Rules Rather Than Discretion: The Inconsistency of Optimal Plans, Journal of Political Economy, vol. 85, issue 3, 473-91.

The Economics of Climate Change

Published by Anonymous (not verified) on Sat, 13/10/2018 - 7:30pm in

Following the very successful launch of GIMMS last week welcome to our second blog. The GIMMS team have been both delighted and excited by the response both on the day and subsequently.  Despite a few technical hitches the event exceeded our expectations and it was pleasing to see so many people.  The packed room and clear enthusiasm was our reward.  We’d like to thank our speakers Professor Bill Mitchell and the chief leader writer for the Guardian, Randeep Ramesh, for their insightful contributions to the day’s success not to mention our guests whose animated conversations during breaks showed their passion for the subject and a desire to make a real difference. 

We hope that the launch of GIMMS will prove to be an opportunity to start a real public conversation about how to create a society which puts public and social purpose at its heart.

Our weekly blog will aim to bring together the latest news and events analysed from an MMT perspective. Today it focuses on the IPPC report on climate.  Don’t forget to bookmark us, like our FB page and follow us on Twitter for all the latest.

 

Burning Earth in space with target

This week the United Nation’s Intergovernmental Panel on Climate Change (IPPC) released its comprehensive report on the state of the climate. Climate scientists are warning that we only have 12 years left to halt the worst effects of climate change and keep warming to a maximum of 1.5˚C. The planet is already 1˚C warmer than pre-industrial levels.

The evidence is stark, and the clock is ticking on the capacity of our natural world to support life. It is a wake-up call for humanity and our leaders need to react with urgency. Without a reduction in greenhouse gases the planet will face significant threats from drought, floods, extreme weather events, food and water shortages, rising sea levels and destruction of the natural environment. It will drive hundreds of millions of people into poverty and create further refugee crises.

In an age of endless consumption which keeps the economic wheels turning it is no surprise that our leaders have failed dismally to address adequately the very real and long-term global issues of climate collapse and it has been left for too long on the political backburner.

Do we still have time to change and prevent the worst effects of climate breakdown? Politicians must now open their eyes to the pressing challenges we face, and they need, crucially, to move beyond manifesto pledges to real action.

An understanding of monetary reality could prove a critical resource for politicians grappling to formulate an environmental strategy to deliver the fundamental change that is essential if we are to have half a chance of survival. A macroeconomic stability framework offers the possibility to develop practical solutions to the ecological challenges we face to deliver sustainable growth, a more equitable access to real resources by world citizens and support those nations who are already facing very real threats from climate change.

Governments with currency issuing powers already have a unique capacity to command and shape the profile of how national resources are used and allocated. This would be achievable through a combination of fiscal deficit investment in green technology alongside a more stringent legislative and tax framework to drive the vital behavioural change essential to addressing the life-threatening effects of climate change. In this way, and by moving the emphasis away from excessive consumption and its detrimental effects on the environment, governments could focus on the delivery of public and social purpose with more appropriate, fairer and efficient use of land, food and human capital in a sustainable way. The implementation of a Job Guarantee Programme could also play a pivotal role in reshaping our economy and making the necessary shift towards a greener and more sustainable future.

It is time to shift the narrative away from the ‘fake news’ fear of public debt and its hocus-pocus burden on future generations. The real threat to our grandchildren will come from depriving them of the life-sustaining benefits of our investment today. If we fail to make that transformation our children and grandchildren will most certainly face an uncertain future. Ultimately, the responsibility will lie with politicians to grasp the monetary realities and embrace the urgency of this task. It will require courage, creativity and determination by all of us from large corporations to individuals to achieve it.

Climate Devastation, Full Employment and GDP vs GPI – Drs Steven Hail and Phil Lawn

A Strategy for Developing Nations Caught in the Neoliberal Trap – Prof Fadhel Kaboub

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The post The Economics of Climate Change appeared first on The Gower Initiative for Modern Money Studies.

Launch of the Gower Initiative for Modern Money Studies

Published by Anonymous (not verified) on Fri, 05/10/2018 - 6:00pm in

The Gower Initiative for Modern Money Studies launches in London today.  We are looking forward to a full programme and are delighted to welcome our keynote speaker Professor William Mitchell, an Australian academic and author of the recently published ‘Reclaiming the State’, whose daily blog attracts a global following.

This exciting initiative, which has the support of leading MMT economists and forms part of a growing global network, shines a light on how money works in a modern economy and challenges the myths that form the basis of current public understanding.

Modern Monetary Theory (MMT) is not about how a future system would work, it is about how money works right now. With that knowledge in mind it offers a lens through which to see what is possible in public policy terms. It challenges the myth of ‘household budget’ economics and throws light on the consequences of the ‘free market’ ideology which has informed public policy for decades, takes no account of real resources and fails to recognise the harmful impact on citizens of successive governments’ public spending choices.

The Gower website will give people a vital opportunity to get to grips with the basics in an easy to read and factual way and show that economics has more to it than modelling and complicated equations. It will show how a government’s economic policies can affect people’s everyday lives for good and bad.  It will also offer those who want to explore the subject in more depth the information and tools to do so.  Website users will be able to get up-to-date comment on the latest political events whether domestic or international in scope, examined through the eyes of MMT, and the website will also give space for the work of guest contributors.

Via our miniblog we aim to show how an understanding of MMT changes the way the narrative around our economy and public finances is interpreted allowing the paradigm shift that is essential if we are to progress the public debate. Our future environment, prosperity and stability depend on it.

For all the latest and to learn more keep us bookmarked.

Follow us on Facebook @gowerinitiative

Twitter @gowerinitiative

Website GIMMS.org.uk

Instagram @gowerinitiative

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The post Launch of the Gower Initiative for Modern Money Studies appeared first on The Gower Initiative for Modern Money Studies.

MODERN MONEY THEORY: How I came to MMT and what I include in MMT

Published by Anonymous (not verified) on Tue, 02/10/2018 - 11:16am in

My remarks for the 2018 MMT Conference September 28-30, NYC L. RANDALL WRAY I was asked to give a short presentation at the MMT conference. What follows is the text version of my remarks, some of which I had to … Continue reading →

The post MODERN MONEY THEORY: How I came to MMT and what I include in MMT appeared first on New Economic Perspectives.


Modern Money Theory: How I Came to MMT and What I Include in MMT

Published by Anonymous (not verified) on Tue, 02/10/2018 - 6:17am in

My remarks for the 2018 MMT Conference, September 28-30, NYC.

I was asked to give a short presentation at the MMT conference. What follows is the text version of my remarks, some of which I had to skip over in the interests of time. Many readers might want to skip to the bullet points near the end, which summarize what I include in MMT.

******************************************************************************

As an undergraduate I studied psychology and social sciences—but no economics, which probably gave me an advantage when I finally did come to economics. I began my economics career in my late twenties, studying mostly Institutionalist and Marxist approaches while working for the local government in Sacramento. However, I did carefully read Keynes’s General Theory at Sacramento State and one of my professors—John Henry—pushed me to go to St. Louis to study with Hyman Minsky, the greatest Post Keynesian economist.

I wrote my dissertation in Bologna under Minsky’s direction, focusing on private banking and the rise of what we called “nonbank banks” and “off-balance-sheet operations” (now called shadow banking). While in Bologna, I met Otto Steiger—who had an alternative to the barter story of money that was based on his theory of property. I found it intriguing because it was consistent with some of Keynes’s Treatise on Money that I was reading at the time. Also, I had found Knapp’s State Theory of Money—cited in both Steiger and Keynes—so I speculated on money’s origins (in spite of Minsky’s warning that he didn’t want me to write Genesis) and the role of the state in my dissertation that became a book in 1990—Money and Credit in Capitalist Economies—that helped to develop the Post Keynesian endogenous money approach.

What was lacking in that literature was an adequate treatment of the role of the state—which played a passive role—supplying reserves as demanded by private bankers—that is the Post Keynesian accommodationist or Horizontalist approach. There was no discussion of the relation of money to fiscal policy at that time. As I continued to read about the history of money, I became more convinced that we need to put the state at the center. Fortunately, I ran into two people that helped me to see how to do it.

First, there was Warren Mosler, who I met online in the PKT discussion group; he insisted on viewing money as a tax-driven government monopoly. Second, I met Michael Hudson at a seminar at the Levy Institute, who provided the key to help unlock what Keynes had called his “Babylonian Madness” period—when he was driven crazy trying to understand early money. Hudson argued that money was an invention of the authorities used for accounting purposes. So over the next decade I worked with a handful of people to put the state into monetary theory.

As we all know, the mainstream wants a small government, with a central bank that follows a rule (initially, a money growth rate but now some version of inflation targeting). The fiscal branch of government is treated like a household that faces a budget constraint. But this conflicts with Institutionalist theory as well as Keynes’s own theory. As the great Institutionalist Fagg Foster—who preceded me at the University of Denver–put it: whatever is technically feasible is financially feasible. How can we square that with the belief that sovereign government is financially constrained? And if private banks can create money endogenously—without limit—why is government constrained?

My second book, in 1998, provided a different view of sovereign spending. I also revisited the origins of money. By this time I had discovered the two best articles ever written on the nature of money—by Mitchell Innes. Like Warren, Innes insisted that the dollar’s value is derived from the tax that drives it. And he argued this has always been the case. This was also consistent with what Keynes claimed in the Treatise, where he said that money has been a state money for the past 4,000 years, at least. I called this “modern money” with intentional irony—and titled my 1998 book Understanding Modern Money as an inside joke. It only applies to the past 4,000 years.

Surprisingly, this work was more controversial than the earlier endogenous money research. In my view, it was a natural extension—or more correctly, it was the prerequisite to a study of privately created money. You need the state’s money before you can have private money. Eventually our work found acceptance outside economics—especially in law schools, among historians, and with anthropologists.

For the most part, our fellow economists, including the heterodox ones, attacked us as crazy.

I benefited greatly by participating in law school seminars (in Tel Aviv, Cambridge, and Harvard) on the legal history of money—that is where I met Chris Desan and later Farley Grubb, and eventually Rohan Grey. Those who knew the legal history of money had no problem in adopting the MMT view—unlike economists.

I remember one of the Harvard seminars when a prominent Post Keynesian monetary theorist tried to argue against the taxes drive money view. He said he never thinks about taxes when he accepts money—he accepts currency because he believes he can fob it off on Buffy Sue. The audience full of legal historians broke out in an explosion of laughter—yelling “it’s the taxes, stupid.” All he could do in response was to mumble that he might have to think more about it.

Another prominent Post Keynesian claimed we had two things wrong. First, government debt isn’t special—debt is debt. Second, he argued we don’t need double entry book-keeping—his model has only single entry book-keeping. Years later he agreed that private debt is more dangerous than sovereign debt, and he’s finally learned double-entry accounting. But of course whenever you are accounting for money you have to use quadruple entry book-keeping. Maybe in another dozen years he’ll figure that out.

As a student I had read a lot of anthropology—as most Institutionalists do. So I knew that money could not have come out of tribal economies based on barter exchange. As you all know, David Graeber’s book insisted that anthropologists have never found any evidence of barter-based markets. Money preceded market exchange.

Studying history also confirmed our story, but you have to carefully read between the lines. Most historians adopt monetarism because the only economics they know is Friedman–who claims that money causes inflation. Almost all of them also adopt a commodity money view—gold was good money and fiat paper money causes inflation. If you ignore those biases, you can learn a lot about the nature of money from historians.

Farley Grubb—the foremost authority on Colonial currency—proved that the American colonists understood perfectly well that taxes drive money. Every act that authorized the issue of paper money imposed a Redemption Tax. The colonies burned all their tax revenue. Again, history shows that this has always been true. All money must be redeemed—that is, accepted by its issuer in payment. As Innes said, that is the fundamental nature of credit. It is written right there in the early acts by the American colonies. Even a gold coin is the issuer’s IOU, redeemed in payment of taxes. Once you understand that, you understand the nature of money.

So we were winning the academic debates, across a variety of disciplines. But we had a hard time making progress in economics or in policy circles. Bill, Warren, Mat Forstater and I used to meet up every year or so to count the number of economists who understood what we were talking about. It took over decade before we got up to a dozen. I can remember telling Pavlina Tcherneva back around 2005 that I was about ready to give it up.

But in 2007, Warren, Bill and I met to discuss writing an MMT textbook. Bill and I knew the odds were against us—it would be for a small market, consisting mostly of our former students. Still, we decided to go for it. Here we are—another dozen years later—and the textbook is going to be published. MMT is everywhere. It was even featured in a New Yorker crossword puzzle in August. You cannot get more mainstream than that.

We originally titled our textbook Modern Money Theory, but recently decided to just call it Macroeconomics. There’s no need to modify that with a subtitle. What we do is Macroeconomics. There is no coherent alternative to MMT.

A couple of years ago Charles Goodhart told me: “You won. Declare victory but be magnanimous about it.” After so many years of fighting, both of those are hard to do. We won. Be nice.

Let me finish with 10 bullet points of what I include in MMT:

  1. What is money: An IOU denominated in a socially sanctioned money of account. In almost all known cases, it is the authority—the state—that chooses the money of account. This comes from Knapp, Innes, Keynes, Geoff Ingham, and Minsky.
  2. Taxes or other obligations (fees, fines, tribute, tithes) drive the currency. The ability to impose such obligations is an important aspect of sovereignty; today, states alone monopolize this power. This comes from Knapp, Innes, Minsky, and Mosler.
  3. Anyone can issue money; the problem is to get it accepted. Anyone can write an IOU denominated in the recognized money of account; but acceptance can be hard to get unless you have the state backing you up. This is Minsky.
  4. The word “redemption” is used in two ways—accepting your own IOUs in payment and promising to convert your IOUs to something else (such as gold, foreign currency, or the state’s IOUs).

The first is fundamental and true of all IOUs. All our gold bugs mistakenly focus on the second meaning—which does not apply to the currencies issued by most modern nations, and indeed does not apply to most of the currencies issued throughout history. This comes from Innes and Knapp, and is reinforced by Hudson’s and Grubb’s work, as well as by Margaret Atwood’s great book: Payback: Debt and the Shadow Side of Wealth.

  1. Sovereign debt is different. There is no chance of involuntary default so long as the state only promises to accept its currency in payment. It could voluntarily repudiate its debt, but this is rare and has not been done by any modern sovereign nation.
  2. Functional Finance: finance should be “functional” (to achieve the public purpose), not “sound” (to achieve some arbitrary “balance” between spending and revenues). Most importantly, monetary and fiscal policy should be formulated to achieve full employment with price stability. This is credited to Abba Lerner, who was introduced into MMT by Mat Forstater.

In its original formulation, it is too simplistic, summarized as two principles: increase government spending (or reduce taxes) and increase the money supply if there is unemployment (do the reverse if there is inflation). The first of these is fiscal policy and the second is monetary policy. A steering wheel metaphor is often invoked, using policy to keep the economy on course. A modern economy is far too complex to steer as if you were driving a car. If unemployment exists, it is not enough to say that you can just reduce the interest rate, raise government spending, or reduce taxes. The first might even increase unemployment. The second two could cause unacceptable inflation, increase inequality, or induce financial instability long before they solved the unemployment problem. I agree that government can always afford to spend more. But the spending has to be carefully targeted to achieve the desired result. I’d credit all my Institutionalist influences for that, including Minsky.

  1. For that reason, the JG is a critical component of MMT. It anchors the currency and ensures that achieving full employment will enhance both price and financial stability. This comes from Minsky’s earliest work on the ELR, from Bill Mitchell’s work on buffer stocks and Warren Mosler’s work on monopoly price setting.
  2. And also, for that reason, we need Minsky’s analysis of financial instability. Here I don’t really mean the financial instability hypothesis. I mean his whole body of work and especially the research line that began with his dissertation written under Schumpeter up through his work on Money Manager Capitalism at the Levy Institute before he died.
  3. The government’s debt is our financial asset. This follows from the sectoral balances approach of Wynne Godley. We have to get our macro accounting correct. Minsky always used to tell students: go home and do the balance sheets because what you are saying is nonsense. Fortunately, I had learned T-accounts from John Ranlett in Sacramento (who also taught Stephanie Kelton from his own, great, money and banking textbook—it is all there, including the impact of budget deficits on bank reserves). Godley taught us about stock-flow consistency and he insisted that all mainstream macroeconomics is incoherent.
  4. Rejection of the typical view of the central bank as independent and potent. Monetary policy is weak and its impact is at best uncertain—it might even be mistaking the brake pedal for the gas pedal. The central bank is the government’s bank so can never be independent. Its main independence is limited to setting the overnight rate target, and it is probably a mistake to let it do even that. Permanent ZIRP (zero interest rate policy) is probably a better policy since it reduces the compounding of debt and the tendency for the rentier class to take over more of the economy. I credit Keynes, Minsky, Hudson, Mosler, Eric Tymoigne, and Scott Fullwiler for much of the work on this.

That is my short list of what MMT ought to include. Some of these traditions have a very long history in economics. Some were long lost until we brought them back into discussion. We’ve integrated them into a coherent approach to Macro. In my view, none of these can be dropped if you want a macroeconomics that is applicable to the modern economy. There are many other issues that can be (often are) included, most importantly environmental concerns and inequality, gender and race/ethnicity. I have no problem with that.

Modern Money Theory: How I Came to MMT and What I Include in MMT

Published by Anonymous (not verified) on Tue, 02/10/2018 - 6:17am in

My remarks for the 2018 MMT Conference, September 28-30, NYC.

I was asked to give a short presentation at the MMT conference. What follows is the text version of my remarks, some of which I had to skip over in the interests of time. Many readers might want to skip to the bullet points near the end, which summarize what I include in MMT.

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As an undergraduate I studied psychology and social sciences—but no economics, which probably gave me an advantage when I finally did come to economics. I began my economics career in my late twenties, studying mostly Institutionalist and Marxist approaches while working for the local government in Sacramento. However, I did carefully read Keynes’s General Theory at Sacramento State and one of my professors—John Henry—pushed me to go to St. Louis to study with Hyman Minsky, the greatest Post Keynesian economist.

I wrote my dissertation in Bologna under Minsky’s direction, focusing on private banking and the rise of what we called “nonbank banks” and “off-balance-sheet operations” (now called shadow banking). While in Bologna, I met Otto Steiger—who had an alternative to the barter story of money that was based on his theory of property. I found it intriguing because it was consistent with some of Keynes’s Treatise on Money that I was reading at the time. Also, I had found Knapp’s State Theory of Money—cited in both Steiger and Keynes—so I speculated on money’s origins (in spite of Minsky’s warning that he didn’t want me to write Genesis) and the role of the state in my dissertation that became a book in 1990—Money and Credit in Capitalist Economies—that helped to develop the Post Keynesian endogenous money approach.

What was lacking in that literature was an adequate treatment of the role of the state—which played a passive role—supplying reserves as demanded by private bankers—that is the Post Keynesian accommodationist or Horizontalist approach. There was no discussion of the relation of money to fiscal policy at that time. As I continued to read about the history of money, I became more convinced that we need to put the state at the center. Fortunately, I ran into two people that helped me to see how to do it.

First, there was Warren Mosler, who I met online in the PKT discussion group; he insisted on viewing money as a tax-driven government monopoly. Second, I met Michael Hudson at a seminar at the Levy Institute, who provided the key to help unlock what Keynes had called his “Babylonian Madness” period—when he was driven crazy trying to understand early money. Hudson argued that money was an invention of the authorities used for accounting purposes. So over the next decade I worked with a handful of people to put the state into monetary theory.

As we all know, the mainstream wants a small government, with a central bank that follows a rule (initially, a money growth rate but now some version of inflation targeting). The fiscal branch of government is treated like a household that faces a budget constraint. But this conflicts with Institutionalist theory as well as Keynes’s own theory. As the great Institutionalist Fagg Foster—who preceded me at the University of Denver–put it: whatever is technically feasible is financially feasible. How can we square that with the belief that sovereign government is financially constrained? And if private banks can create money endogenously—without limit—why is government constrained?

My second book, in 1998, provided a different view of sovereign spending. I also revisited the origins of money. By this time I had discovered the two best articles ever written on the nature of money—by Mitchell Innes. Like Warren, Innes insisted that the dollar’s value is derived from the tax that drives it. And he argued this has always been the case. This was also consistent with what Keynes claimed in the Treatise, where he said that money has been a state money for the past 4,000 years, at least. I called this “modern money” with intentional irony—and titled my 1998 book Understanding Modern Money as an inside joke. It only applies to the past 4,000 years.

Surprisingly, this work was more controversial than the earlier endogenous money research. In my view, it was a natural extension—or more correctly, it was the prerequisite to a study of privately created money. You need the state’s money before you can have private money. Eventually our work found acceptance outside economics—especially in law schools, among historians, and with anthropologists.

For the most part, our fellow economists, including the heterodox ones, attacked us as crazy.

I benefited greatly by participating in law school seminars (in Tel Aviv, Cambridge, and Harvard) on the legal history of money—that is where I met Chris Desan and later Farley Grubb, and eventually Rohan Grey. Those who knew the legal history of money had no problem in adopting the MMT view—unlike economists.

I remember one of the Harvard seminars when a prominent Post Keynesian monetary theorist tried to argue against the taxes drive money view. He said he never thinks about taxes when he accepts money—he accepts currency because he believes he can fob it off on Buffy Sue. The audience full of legal historians broke out in an explosion of laughter—yelling “it’s the taxes, stupid.” All he could do in response was to mumble that he might have to think more about it.

Another prominent Post Keynesian claimed we had two things wrong. First, government debt isn’t special—debt is debt. Second, he argued we don’t need double entry book-keeping—his model has only single entry book-keeping. Years later he agreed that private debt is more dangerous than sovereign debt, and he’s finally learned double-entry accounting. But of course whenever you are accounting for money you have to use quadruple entry book-keeping. Maybe in another dozen years he’ll figure that out.

As a student I had read a lot of anthropology—as most Institutionalists do. So I knew that money could not have come out of tribal economies based on barter exchange. As you all know, David Graeber’s book insisted that anthropologists have never found any evidence of barter-based markets. Money preceded market exchange.

Studying history also confirmed our story, but you have to carefully read between the lines. Most historians adopt monetarism because the only economics they know is Friedman–who claims that money causes inflation. Almost all of them also adopt a commodity money view—gold was good money and fiat paper money causes inflation. If you ignore those biases, you can learn a lot about the nature of money from historians.

Farley Grubb—the foremost authority on Colonial currency—proved that the American colonists understood perfectly well that taxes drive money. Every act that authorized the issue of paper money imposed a Redemption Tax. The colonies burned all their tax revenue. Again, history shows that this has always been true. All money must be redeemed—that is, accepted by its issuer in payment. As Innes said, that is the fundamental nature of credit. It is written right there in the early acts by the American colonies. Even a gold coin is the issuer’s IOU, redeemed in payment of taxes. Once you understand that, you understand the nature of money.

So we were winning the academic debates, across a variety of disciplines. But we had a hard time making progress in economics or in policy circles. Bill, Warren, Mat Forstater and I used to meet up every year or so to count the number of economists who understood what we were talking about. It took over decade before we got up to a dozen. I can remember telling Pavlina Tcherneva back around 2005 that I was about ready to give it up.

But in 2007, Warren, Bill and I met to discuss writing an MMT textbook. Bill and I knew the odds were against us—it would be for a small market, consisting mostly of our former students. Still, we decided to go for it. Here we are—another dozen years later—and the textbook is going to be published. MMT is everywhere. It was even featured in a New Yorker crossword puzzle in August. You cannot get more mainstream than that.

We originally titled our textbook Modern Money Theory, but recently decided to just call it Macroeconomics. There’s no need to modify that with a subtitle. What we do is Macroeconomics. There is no coherent alternative to MMT.

A couple of years ago Charles Goodhart told me: “You won. Declare victory but be magnanimous about it.” After so many years of fighting, both of those are hard to do. We won. Be nice.

Let me finish with 10 bullet points of what I include in MMT:

  1. What is money: An IOU denominated in a socially sanctioned money of account. In almost all known cases, it is the authority—the state—that chooses the money of account. This comes from Knapp, Innes, Keynes, Geoff Ingham, and Minsky.
  2. Taxes or other obligations (fees, fines, tribute, tithes) drive the currency. The ability to impose such obligations is an important aspect of sovereignty; today, states alone monopolize this power. This comes from Knapp, Innes, Minsky, and Mosler.
  3. Anyone can issue money; the problem is to get it accepted. Anyone can write an IOU denominated in the recognized money of account; but acceptance can be hard to get unless you have the state backing you up. This is Minsky.
  4. The word “redemption” is used in two ways—accepting your own IOUs in payment and promising to convert your IOUs to something else (such as gold, foreign currency, or the state’s IOUs).

The first is fundamental and true of all IOUs. All our gold bugs mistakenly focus on the second meaning—which does not apply to the currencies issued by most modern nations, and indeed does not apply to most of the currencies issued throughout history. This comes from Innes and Knapp, and is reinforced by Hudson’s and Grubb’s work, as well as by Margaret Atwood’s great book: Payback: Debt and the Shadow Side of Wealth.

  1. Sovereign debt is different. There is no chance of involuntary default so long as the state only promises to accept its currency in payment. It could voluntarily repudiate its debt, but this is rare and has not been done by any modern sovereign nation.
  2. Functional Finance: finance should be “functional” (to achieve the public purpose), not “sound” (to achieve some arbitrary “balance” between spending and revenues). Most importantly, monetary and fiscal policy should be formulated to achieve full employment with price stability. This is credited to Abba Lerner, who was introduced into MMT by Mat Forstater.

In its original formulation, it is too simplistic, summarized as two principles: increase government spending (or reduce taxes) and increase the money supply if there is unemployment (do the reverse if there is inflation). The first of these is fiscal policy and the second is monetary policy. A steering wheel metaphor is often invoked, using policy to keep the economy on course. A modern economy is far too complex to steer as if you were driving a car. If unemployment exists, it is not enough to say that you can just reduce the interest rate, raise government spending, or reduce taxes. The first might even increase unemployment. The second two could cause unacceptable inflation, increase inequality, or induce financial instability long before they solved the unemployment problem. I agree that government can always afford to spend more. But the spending has to be carefully targeted to achieve the desired result. I’d credit all my Institutionalist influences for that, including Minsky.

  1. For that reason, the JG is a critical component of MMT. It anchors the currency and ensures that achieving full employment will enhance both price and financial stability. This comes from Minsky’s earliest work on the ELR, from Bill Mitchell’s work on buffer stocks and Warren Mosler’s work on monopoly price setting.
  2. And also, for that reason, we need Minsky’s analysis of financial instability. Here I don’t really mean the financial instability hypothesis. I mean his whole body of work and especially the research line that began with his dissertation written under Schumpeter up through his work on Money Manager Capitalism at the Levy Institute before he died.
  3. The government’s debt is our financial asset. This follows from the sectoral balances approach of Wynne Godley. We have to get our macro accounting correct. Minsky always used to tell students: go home and do the balance sheets because what you are saying is nonsense. Fortunately, I had learned T-accounts from John Ranlett in Sacramento (who also taught Stephanie Kelton from his own, great, money and banking textbook—it is all there, including the impact of budget deficits on bank reserves). Godley taught us about stock-flow consistency and he insisted that all mainstream macroeconomics is incoherent.
  4. Rejection of the typical view of the central bank as independent and potent. Monetary policy is weak and its impact is at best uncertain—it might even be mistaking the brake pedal for the gas pedal. The central bank is the government’s bank so can never be independent. Its main independence is limited to setting the overnight rate target, and it is probably a mistake to let it do even that. Permanent ZIRP (zero interest rate policy) is probably a better policy since it reduces the compounding of debt and the tendency for the rentier class to take over more of the economy. I credit Keynes, Minsky, Hudson, Mosler, Eric Tymoigne, and Scott Fullwiler for much of the work on this.

That is my short list of what MMT ought to include. Some of these traditions have a very long history in economics. Some were long lost until we brought them back into discussion. We’ve integrated them into a coherent approach to Macro. In my view, none of these can be dropped if you want a macroeconomics that is applicable to the modern economy. There are many other issues that can be (often are) included, most importantly environmental concerns and inequality, gender and race/ethnicity. I have no problem with that.

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