05 Mar 2019
“A sure sign of a crisis is the prevalence of cranks. It is characteristic of a crisis in theory that cranks get a hearing from the public which orthodoxy is failing to satisfy.” - Joan Robinson
Modern Monetary Theory (MMT) has stormed into the financial press since US Congresswomen Alexandria Ocasio-Cortez raised the possibility of its use in paying for a ‘Green New Deal’.
"Despite attempts at clarification, the MMT ‘debate’ has generated plenty of heat, but very little light.”
In the simplest version of MMT, a government with its own currency doesn’t need to issue debt or raise taxes - it can simply create and spend its own money.
In response to this, and without any attempt to engage with any of MMT’s academic literature, some big names in economics have queued up to denounce the concept. Each has taken a turn in knocking over a “strawman” of their own construction, proclaiming MMT to be “too good to be true”, “nonsense” and even “voodoo economics”. Even the chair of the Federal Reserve, the US central bank, has labelled it “just wrong”.
These critics warn of dangerous hyperinflation, collapsing currencies, oppressive burdens of public debt, and skyrocketing interest rates. Supporters argue critics are burning hapless strawmen, critics counter supporters are moving the goalposts.
Not to be outdone in disrespectfulness, devotees of MMT respond “with a conviction, a persistence and a devotion otherwise only found among the disciples of a new religion”. As economist Dennis Robertson described it: the “monetary cranks” of his day.
Overall, despite attempts at clarification, the MMT ‘debate’ has generated plenty of heat, but very little light. So, what’s it all about? is it even safe to proceed? is there anything to debate?
How do we pay for it?
Actually, MMT is a collection of old and new ideas that broadly track the ‘Keynesian’ prescription of government stimulus to ensure full employment. The old idea is that government deficit spending - not interest rate cuts - is the cure for an economy operating at below capacity.
One new idea - boosted by the apparently unlimited ability of central banks to ‘print money’ as demonstrated by quantitative easing which followed the 2008 financial crisis - is a government that issues its own currency does not need to borrow before spending. Another is that government deficits, contrary to mainstream economic thinking, are an addition to private sector wealth. No government, the argument goes, can be in debt for money it creates itself.
These ideas together mean the question “how do we pay for it?” should not prevent spending on such things like job guarantees, new infrastructure projects and climate-saving initiatives. As long as there is spare capacity in the economy, they can be paid for by newly created government money.
So there is a limit: once the economy reaches full capacity, government spending must be offset by taxes to prevent overheating and inflation.
Radical or not?
Conventional economics gives the central bank responsibility for price stability (and, either explicitly or implicitly, targeting full employment). The government’s job is to keep the public debt at a ‘sustainable’ level, mostly by reference to its relationship with GDP, even though no-one quite knows what this prudent ratio should be.
MMT largely swaps these allocations of responsibility over.
Under the MMT prescription, the government’s task is to ensure full employment and price stability by carefully balancing its spending and taxation. More spending and less taxation when the economy is weak, more taxation and less spending when inflation threatens.
It need not be concerned with the implications for the deficit or the size of the public debt - a government that produces its own money cannot default. The central bank’s role is reduced to minimising the interest payments on public debt with a policy of permanently low (even zero) interest rates.
Deserves a hearing
So, is this heated brouhaha really about a difference in the recommended allocation of policy instruments towards meeting rather orthodox goals? In that case, is there any reason for this ill-tempered shouting match?
Yes, for deep down the argument is really about the big unanswered questions at the heart of macroeconomics: the nature of money, and what effect its presence or absence has. It may seem surprising the questions of what causes inflation or determines interest rates still do not have universally agreed answers.
So, although many aspects of MMT are questionable, its challenge to conventional thinking deserves a hearing.
As American physicist Richard Feynman put it: “I would rather have questions that can't be answered than answers that can't be questioned.”
James Culham is Director, Institutional Portfolio Management at ANZ
The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.
05 Mar 2019
10 Sep 2018