Summary: Economics is one of the central sciences of our time, especially about one of the frontier subjects: the macroeconomic effect of debt. Yesterday’s post centered on a graph from Ed Dolan. Today we have a rebuttal by Prof William K. Black. There are few aspects of economic theory more important today.
This is the second in a series. Other posts are:
(1) America’s strength is an illusion created by foolish borrowing, 10 October 2012
(3) Ed Dolan talks to us about modern monetary theory. Can it save us?, 12 October 2012
(4) Ed Dolan Asks What Does it Mean for Fiscal Policy to be “Sustainable”? MMT and Other Perspectives, 30 November 2012
This discusses yesterday’s post, in particular the source of its centerpiece, a graph from “By One Key Budget Indicator, the Structural Primary Balance, Even Greece Is Doing Better Than the United States. Why That Should Worry Us.“, Ed Dolan (bio), Roubini’s Economonitor, 8 October 2012.
Contents
- Prof Black’s reply
- About the author
- Update: Ed Dolan replies
- About Modern Monetary Theory
- For More Information
(1) Prof Black’s reply
The argument that began the discussion relies on this fundamental assertion {from the post}:
“A fundamental measure of a nation’s financial condition is the structural primary budget balance. AKA the cyclically adjusted budget balance. As in this graph from “By One Key Budget Indicator, the Structural Primary Balance, Even Greece Is Doing Better Than the United States. Why That Should Worry Us.” by Ed Dolan. “
He is a very conservative scholar as you can see from his blogs and his associations with George Mason University and Cato. Dolan’s piece includes the admission that our present deficit
- is largely the product of the Recession and
- during the recovery from the Great Recession fiscal stimulus acts as an “automatic stabilizer,” i.e., a “counter-cyclical” policy that speeds recovery and reduces the severity of the recession.
Europe and Chile as economic experiments
Note that the world has provided a “natural experiment.” The EU responded to the Great Recession with austerity, a pro-cyclical policy that makes the recession more severe and longer. Moreover, EU and ECB leaders’ mantra is “there is no alternative” (a phrase that should send warning chills up any veteran’s spine) — because nations that joined the Eurozone gave up their sovereign currency they no longer have the ability to adopt rational automatic stabilizers. More precisely, they crippled the effectiveness of their automatic stabilizers through the limitations of their “Stability and Growth Pact.”
Note that this has not prevented budget deficits from occurring but it has greatly reduced fiscal stimulus.
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The result has been a gratuitous Eurozone recession and Great Depression levels of unemployment in Spain and Greece. Nations like Spain, Iceland, and Ireland did not run significant budget deficits in the lead-up to the crisis. Indeed, they often ran surpluses. Their “debt crisis” is a result, not cause, of the Great Recession (and dropping a sovereign currency). (Please read my colleague Stephanie Kelton’s work on why a nation in a severe recession cannot simply “choose” to end a budget deficit — the austerity measures that are purportedly put in place to reduce deficits can actually increase the deficit by throwing the nation back into a recession.)
Dolan argues, however, that once fiscal stimulus helps us recover from the Great Recession the U.S. will need to face a “structural” deficit problem that is not the product of the Great Recession. The structural deficit argument is that we face a spiraling, untenable deficit because of the interactions of tax cuts and increases in costs for social security/medicare/medicaid. He argues that if the national debt increases as a percentage of GDP it must become untenable and he discusses three means of preventing the national debt from increasing as a percentage of GDP.
He chooses Chile as his exemplar for the first means: “Chile has achieved excellent fiscal health by following the cyclically neutral pattern.” I begin with the preliminary observation that his example shows the grave limits of his concept of “excellent fiscal health.” Check out the Chilean statistics on unemployment, poverty, and inequality under Pinochet and the improvements under his socialist successor. A low budget deficit does not translate to a healthy economy or, from a military perspective, a stable economy.
Deficit bad, surplus good?
Then back up to Dolan’s fundamental assertion. In fact, the U.S. deficit has frequently increased as a percentage of GDP and it has never had such a ruinous result. Indeed, the increasing deficit typically had the opposite effect — it is associated with increased GDP growth in subsequent years. Conversely, every sharp, sustained drop in deficits and debt has been followed by a depression (or in the current case, a Great Recession). See the work of my colleague Randy Wray {see his articles at Roubini’s Economonitor}
Dolan writes:
“The chart shows a healthy surplus of the structural primary balance — 1.7% of GDP, on average – from 1994 to 2001. Over that period, net government debt, by the OECD’s measure, fell from 54.4% of GDP to 34.6%. Countercyclical considerations could justify the sharp reduction in the surplus during the brief and mild recession of March to November 2001, but after that, things went badly off course.”
His terms betray his “moralization” of finance in a manner that impedes sound fiscal policies. Note his use of the term “healthy surplus.” A budgetary surplus is supposedly “healthy.” A deficit, implicitly, must be “unhealthy.” The problem is understandable — everyone’s first instinct is to generalize from the only budget we really understand and live with our entire adult lives: the household budget.
One of the commentators asserts that a government with a sovereign currency is exactly like a household — except it is a thief. The commentator does not see how much his inaccurate gibe discloses. Who is the government “stealing” from when it creates a national currency? It is, of course, a trick question for their is no “theft,” but it is a question that will force the commentator to come up with a series of assertions that will share a common characteristic — the government is not like a private household.
Try the following as a thought exercise. Governments are also not “just like corporations,” but the corporation is at least a less obviously inappropriate comparison. As least corporations share the characteristic with government of being organized almost invariably for perpetuity. Why aren’t the deficit hawks demanding that U.S. corporations eliminate their debts? Why isn’t corporate debt viewed as “immoral?” Why is a corporation that has no debt not viewed as “healthy” by investors and corporations with substantial debt (e.g., the vast bulk of corporations) disdained by the financial markets as “unhealthy?” Why don’t potential CEOs campaign for promotion by promising to end the corporation’s debt and never borrow again?
That was just a thought exercise to try to end the autonomic response we all have on the basis of our experience with household debt that government debt must be bad, unhealthy, and immoral. Please read Randy Wray’s brief piece on why the government is nothing like a household. It’s concise and analytical. You may disagree with aspects of his analytics, but you will no longer find yourself making the mistake of simply extrapolating from your experiences with your household budget.
Back to Dolan’s “health surplus” language about the budget deficit. The Clinton/Republican grand bargain did produce a budgetary surplus. Indeed, go back to the transcript of the Lieberman v. Cheney VP debate on October 5, 2000 and see Lieberman’s statement:
“Al Gore and I are committed to balancing the budget every year. In fact, the paying off the debt by the year 2012, when by our calculation our opponent’s economic plan still leaves America $2.8 trillion in debt.”
The point is that running large surpluses and having as a goal “paying off the debt” is not in fact a “health” policy, particularly for a nation whose currency serves as the global reserve currency. Indeed, the policy can be downright unhealthy.
Modern Monetary Theory
Moving forward. Modern Monetary Theory (MMT) is in large part a description of how sovereign monetary operations actually function. That is one of the reasons that MMT has so many supporters among financial participants. The other reason is that MMT proponents have shown far greater predictive strength than other paradigms. MMT also leads to excellent policy recommendations that large numbers of Americans support.
Here are some of the things MMT’s academic proponents do not believe.
- They do not believe that national budget deficits inherently have no effect (for good or ill) on the world.
- MMT scholars emphasize the real economy and whether shortages are being created or assets allocated improperly as a result of fiscal flows.
- MMT scholars, and reality, have shown that nations with (a) sovereign currencies, (b) with freely floating exchange rates, and (c) that borrow in their own currency are not vulnerable to the “bond vigilantes” and have run deficits for decades that neo-classical economists have claimed were unsustainable without triggering high interest rates or hyper-inflation.
- MMT also stresses that it is possible for a government to adopt policies that produce hyper-inflation.
Note that MMT isn’t a partisan issue. There are conservative, liberal, and libertarian supporters of MMT and we criticize or support politicians because of their policies rather than their party affiliations.
We can strengthen the nation now by adopting a jobs guarantee program that provides jobs to those willing and able to work. Unemployment represents a massive waste of resources and the psychological and social harms of unemployment to the household are often devastating. It is obscene that returning veterans who wish to work are left without jobs. Unemployment has long been known to be one of the triggers of male suicide.
Closing Thoughts
We have tremendous areas of common ground. I’ll close in my areas of expertise.
It is the anti-regulatory policies of Cato and George Mason scholars that have been dominant since the start of the Clinton administration. The “competition in regulator laxity” with the City of London produced the inevitable “race to the bottom.” Consider what kinds of people will stay in a regulatory agency run by leaders who refuse to enforce the law. How many vigorous “troop” do you think will stay in a unit where the CO studiously avoids all contact with the enemy?
The result has been the removal of effective “regulatory cops on the beat.” When cheaters prosper, market forces become perverse and produce a “Gresham’s” dynamic in which “bad ethics drives good ethics from the marketplace.” Many military officers have substantial experience with this dynamic and how it harms military missions because they have served in nations where the Gresham’s dynamic is endemic (or in DOD procurement). They have seen the intersection of public and private sector “control fraud” — “crony capitalism” — and how destructive it is to commerce, ethics, and government.
If you are interested in our research on these issues please check my pieces on New Economic Perspectives (or SSRN for more classic academic articles).
(2) About the author
William K. Black is an Associate Professor of Economics and Law at the University of Missouri – Kansas City. From his faculty bio:
Professor Black was litigation director of the Federal Home Loan Bank Board, deputy director of the FSLIC, SVP and general counsel of the Federal Home Loan Bank of San Francisco, and senior deputy chief counsel, Office of Thrift Supervision. He was deputy director of the National Commission on Financial Institution Reform, Recovery and Enforcement.
His book, The Best Way to Rob a Bank is to Own One (2005), has been called “a classic.” Professor Black recently helped the World Bank develop anti-corruption initiatives and served as an expert for OFHEO in its enforcement action against Fannie Mae’s former senior management.
(3) Ed Dolan replies
See Ed Dolan’s reply in the comments here.
(4) About Modern Monetary Theory
This states that the government can print almost unlimted currency without ill consequences. It is the mirror image of the austerian (not Austrian) obsession with gold and inflation. They are bookends, in a sense. It is evidence of great social stress when such nonsense — fringe economic and political theories — become widely accepted. Afterwards, when the seas are calm again (as they will be, however horrific the storm), people look upon these as symptoms of the madness caused by the stress. But they seem logical at the time.
On the other hand, there are economists who advocate this theory. Such as my fellow author at Roubini’s Economonitor L. Randall Wray (Prof Economics at U of Missouri-Kansas City); see his articles here.
For a clear if somewhat long and technical explanation of Modern Monetary Theory, see:
- About MMT at New Economic Perspectives
- “
Understanding The Modern Monetary System” by Cullen O. Roche (professional money manager), 5 August 2011Now he’s a critic of MMT, with his own version.
Here are two clear explanations of MMT by Paul Krugman (also not a fan of MMT):
If you would like to really learn about MMT, here are two ebooks by Warren Mosler (hedge fund manager and banker), a founder of MMT:
- “Soft Currency Economics” — 32 pages
- Seven Deadly Frauds of Economic Policy (2010) — 63 pages
(5) For More Information
All posts about the euro-crisis are listed at the FM Reference Page Europe – on the road to division or unification.
How we got into this debt trap?
- A certain casualty of the recession: the US Government’s solvency, 25 November 2008
- Everything you need to know about government stimulus programs (read this – it’s about your money), 30 January 2009
- Government economic stimulus is financial heroin, 28 December 2009
How might this end: default or inflation?
- Inflation or Deflation? Nobody knows what path will we take., 21 July 2009
- Would a default by the US government help America?, 21 February 2010
- We might default on our governments’ debt in the future. Do you know how often we’ve done so in the past?, 5 March 2010
- Why the U.S. cannot inflate its way out of debt, 16 March 2010
- Governments cannot go bankrupt, 2 April 2010
- We can try to inflate away the government’s debt, but we’ll go broke before succeeding, 16 June 2010
About this economic cycle:
- Keynes comments on our new-found love of austerity, 21 June 2010
- The Titanic’s lessons for us about the coming economic crisis, 4 June 2012
- America is rich and powerful because we can borrow. Will this debt build a stronger America?, 5 June 2012
- US economic update. Everything that follows is a result of what you see here., 8 June 2012
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I appreciate you giving this reply the respect of a full repost, but I must take issue with the following points, which reduce the overall accuracy/integrity of your presentation of MMT:
(1) [MMT] states that the government can print almost unlimited currency without ill consequences.”
This is not what MMT claims. They claim there are limits to the amount of currency that can be printed without causing inflation (typically the limits of spare resource utilization, i.e. full employment). For more on this exact point, I recommend this post: “Deficits Do Matter, But Not the Way You Think“, L Randall Wray, 20 July 2010.
(2) Cullen Roche’s paper is not a description of MMT. It is very close, but he recently created his own school of thought (with some others) called Monetary Realism (MR), that has some nuanced but important distinctions to MMT. Hence, while his paper is very interesting and worth a read, it is not accurate to include it under a banner “descriptions of MMT.”
(3) Paul Krugman’s posts are both quite egregious misrepresentations of MMT, to the point of doing more harm than good in articulating their position. For more on this, I suggest reading these two direct rejoinders to his first and second post, respectively (the first being written by Roche before his split to MR):
For more on Prof. Krugman’s interactions with MMT, this is a very good summary: “MMT debates/Paul Krugman”
Thank you for engaging – it is refreshing to see the open-mindedness!
Or, thanks for your response! And especially for the additional references.
(1) “[MMT] states that the government can print almost unlimited currency without ill consequences.”
I think its a widespread belief because that’s what it sounds like MMT adherents are saying. When the discussion gets technical, they respond with discussions of limits: the value of the currency, inflation when pressed beyond resource constraints (eg, full employment) — which sound quite conventional. But the “deficits don’t matter” gets MMT the headlines.
Just look in the comments of this post about MMT! These people are not economists, but have eagerly absorbed the “deficits don’t matter” message. Where did they get it?
(2) “Cullen Roche’s paper is not a description of MMT. It is very close, but he recently created his own school of thought (with some others) called Monetary Realism (MR), that has some nuanced but important distinctions to MMT.”
That interesting! I thought MR was a subset of MMT (but I don’t follow this closely). He’s often referred to as an advocate of MMT (as you did when citing his rebuttal to Krugman). And he often refers to himself as an advocate of MMT (from memory, no cite handy on this).
I like his paper because it’s so clear, and I believe the differences between him and mainstream MMT are invisible to the non-expert. But I’ll happily substitute something better. Suggestions welcomed!
(3) “Paul Krugman’s posts are both quite egregious misrepresentations of MMT”
My primary point about MMT is that it’s a subject of debate. Hence I provide Krugman to show the other side, and clearly label him as “no fan of MMT”.
Hi,
Thanks for the response. Couple of replies:
“I think its a widespread belief because that’s what it sounds like MMT adherents are saying.”
This may be the case on the blogosphere, and as an autodidactic dilettante, I am sure I am responsible for perpetuating such inaccuracies myself. However, if you read the actual MMT literature by those responsible for creating it, you will not find that in their writing. So perhaps if you write “MMT is perceived to be saying” or “amateurs of MMT often mistakenly suggest,” that would be fair. As it stands, you are ascribing ideas to a group of professional idea-generators that they did not state, which is untrue and (although well-intentioned, it appears), intellectually dishonest.
They certainly get headlines for pointing out that fears of “running out of currency” are completely misguided, which is absolutely accurate. But the warping of that position into “deficits NEVER matter” is not one they have control over and shouldn’t be intentionally repeated in a way that tarnishes their reputation, in my opinion. In answer to your question of where people get it, I would say that *most* who say those things are talking in the immediate sense, where a deficit right now is not a problem. Larry Summers (i think it was him) said a while back something to the effect of “worrying about deficits now is like me worrying about anorexia.” I believe it is in this context that most people are getting on blogs ranting about deficits not mattering – they would say that if we had <2% unemployment and 10% inflation, then we could (and perhaps should) start talking about reducing the deficit. But even in that case, the deficit is an accounting afterthought – it does not *intrinsically matter. It is the inflation that matters.
Re: Cullen –
he was originally an advocate, and then had a falling out over proposals for direct-job creation programs, which he did not think should be necessarily associated with the other bundle of ideas that make up MMT. He later identified a number of other points of disagreement, such that MR now resembles a related cousin rather than subset of MMT. His paper is very clear, and as I said, worth a read, but there are some critical differences to MMT so it is worth distinguishing between when introducing the ideas.
For a clear exposition from one of the founders (that makes it very clear deficits DO matter), i would suggest this: “Debt, Deficits, and Modern Monetary Theory“, interview with Winston Gee, Harvard International Review, 16 October 2011.
Re: Krugman – I completely understand the value of putting the links in to provide context and alternative perspectives (that's why i linked to the wiki with the rest of the debates with him!). But it is unwise (in my humble opinion) to describe them as "clear explanations of MMT," any more than saying "one day a monkey gave birth to a slightly more human monkey, until we all became humans" is a clear explanation of evolution. His misrepresentations are fundamental and borderline dishonest.
Again, thanks for engaging!
Thanks for the additional detail. I’ve taken down Cullen, and added links to Mosler’s seminal articles.
The alleged increase in cost of social security is hypothetical. Social security costs have not increased radically, and are not projected to increase radically, over the foreseeable future. Minor adjustments in social security, including removing the cap on the income on which social security gets taxed, will eliminate any fiscal issues for the foreseeable future with social security (next 40 years).
Medicare remains a different matter. The costs of medical care have been exploding for decades; this is due to a combination of exponential improvements in medical technology, much better nutrition and sanitary conditions that allow people to live much longer lives (today we have no mass epidemics of cholera or typhus as in the 19th century and earlier, primarily because we no longer place our wells in proximity to our sewers, and also because all our food is pasteurized and our water is treated and filtered to remove bacteria and toxins), and a generally higher standard of living (studies have shown that increasing peoples’ income above the poverty level produces drastic improvements in health and a significant increase in overall lifespan). The cost of the American medical-industrial complex is not strictly speaking a fiscal budgetary issue. Rather, it involves whether America decides to change the structure of its health care delivery system to a model more in line with the rest of the developed world, which typically pays doctors around $80,000 per year as opposed to the $230,000+ America’s general MD’s get. The cost of simple medical services in the rest of the developed world (Spain, Germany, France, the Netherlands, etc.) is also much lower than in America (the exact same MRI using the exact same MRI machine costs $250 in Germany but $3500 in America; a routine doctor’s visit costs $190 in America but $20 in France, and so on) – and yet overall health outcomes in Europe and other developed countries like Japan are actually better than in the U.S. Lower infant mortality, fewer deaths as a result of complications during pregnancies, and so forth.
See “Health care: the disquieting truth,” Dr. Arnold Relman, The New York Review of Books, 30 September 2010, for more details.
In sum, Professor Black’s rejoinder appears to consist of a combination of the “bait and switch” (social security shows few signs of collapsing due to runaway costs) and the argument by non sequitur (medical costs in America represent a serious problem, but due to the structure of the way American health care is delivered, and this cannot be alleviated by attempting to restrict the delivery of health care services. The entire U.S. health care system must be overhauled — a job which the current president Obama is attempting to do and which Prof. Black’s arch-conservative funders at the Cato Institutue are trying to block at all costs.)
For the record, Roche has become a harsh critic of MMT. MR has evolved into something that doesn’t resemble or represent MMT. You might be interested in his comprehensive critique: “A Critique of MMT From the MR Perspective“, Pragmatic Capitalism, 7 September 2011.
Thanks for that update! I’ll update the post with that information.
Suggestions for a description of MMT to replace it, in addition to the one at New Econ Perspectives?
Warren Mosler is the founder of MMT. He wrote the seminal pieces.
This piece is pretty comprehensive on MMT ideas, participants and lineage: “Modern Monetary Theory (MMT) in a Nutshell“, {no author given}, Johnsville News, 29 June 2011 (via Mosler’s The Center of the Universe).
Cullen’s ‘critique’ of MMT is spiteful error-ridden nonsense, unfortunately. His paper describing “monetary realism” is also full of internal contradictions, errors, non-sequiturs, political bias and unfounded assumptions. This might sound like “the narcissism of small differences”, but it’s not.
mr, can you point us to a rebuttal of Cullen’s paper?
Thanks!
Spiteful? One of the opening lines in the paper is “we are critiquing what we view as one of the most complete and quality presentations of the monetary system that is presently available.”
MMTers are the ones who are spiteful and angry at everyone. You all have a well known reputation on the internet for lashing out, calling people names, embarrassing yourselves and just generally acting immature.
Please let’s drop — everybody — discussion of the emotional and expressive dimensions of debate about economic theory and practice. That’s not house practice here.
Whatever.
StanleyM12’s comment is the most insightful and quality comment I have ever read. However it is also completely wrong and a pack of lies purposefully designed to conceal his extreme political agenda. See, I can speak out of both sides of my mouth too.
Fabius, a couple of blog posts by bloggers have criticised bits and pieces. It’s not an academic paper, Cullen is a finance guy and a blogger/writer.
mr,
Thanks for raising that point about Cullen’s background. While that doesn’t mean he’s wrong, it is relevant to assessment of the credibility of his analysis.
That’s why I edit comments to add the source of posts, and when citing articles I give the affiliation of the author (as I did when posting links to Cullen’s articles).
Mosler, the founder of MMT is also a “finance guy” and blogger. But one thing you’ll discover about MMT is that they selectively choose when they want to like Mosler’s background (hedge fund manager and banker) and when they choose to ignore it.
Regardless, Cullen didn’t contribute most of the relevant subject matter to MR. That was done by economist Brett Feibiger. And Roche’s criticism is basically a longer and more detailed version of Feibiger’s criticism. They’ve all worked together according to the MR website.
Not to mention JKH, who everyone pretty much knows is that mastermind behind all of this. He understands MMT better than any MMTer does since he understands the accounting. And he hates MMT. Ramanan also sides with MR. These debates have all been hashed out before at times with MMT economists like Fullwiler and Wray looking very foolish in comments.
Fabius, if I had a recommendation for you it would be to stop interacting with MMTers. Not only are they extremely rude and self serving, but their theory is wrong.
(1) Who is the pseudonymous JKH?
(2) “Fabius, if I had a recommendation for you it would be to stop interacting with MMTers.”
These threads are tame compared to most of the active ones on the FM website. For intensity look at some of those about torture and climate scientists. Or in 2007 and early 2008, when I said there would be a massive crash in home real estate prices and deep recession — and high oil prices might spark debt deflation.
I have had guest authors quit in response to the hostile comments.
This is nothing. I haven’t even received any hate mail or threats.
He has some sort of central banking background I believe. He’s anonymous for professional reasons according to MR’s site. But everyone who interacts with him knows he’s pretty much the expert on all this. He regularly smacks down well known economists. Wish we knew who he was. I’m interested to know.
Mosler is also an economist. I’ve read Fiebiger’s criticism, and no Cullen’s is not just a longer and more detailed version of it. Fiebiger’s has some worth but is flawed. I’ve already described Cullen’s ridiculous “critique”.
JKH’s stuff is worth a read as a response to parts of MMT, but it also has some issues. Much of his criticism is based on semantic disagreements. JKH is an anonymous accountant.
The first two articles in “monetary realism’s” recommended reading list are pieces by Cullen. The other three are pieces by JKH in response to MMT. There are no pieces by anyone else on the “monetary realism” reading list, for some reason.
Mosler is not a trained economist. His highest level of education is undergrad from UConn. He has no formal economics education so you’re just wrong (again). As usual, you all like to pick and choose what you like and don’t like about Mosler’s background. And in this case, you even go so far as to misconstrue his actual credentials. You all will stop at nothing to spread your political agenda. Even if it means blatant lies.
The Economist magazine, CNBC and other media organisations all refer to Mosler as an economist, so I guess they’ll also stop at nothing to spread their political agenda, even if it means blatant lies. (Add to that other economists, academic journals, research institutions, universities, and academic conferences). Your comments are pitiable.
This is another thing that MMTers love to do. When it’s convenient you just change the definition of whatever you’re discussing so it fits your theory.
In this case, you’ve gone and changed the definition of “economist” to mean “anyone who has ever read an economics book”. Sorry, but your understanding of everything being discussed here is pitiable. An economist is someone with a PhD in economics. A trained professional. Do you call people without a professional degree in medicine a “doctor”? Do you call prople without a professional degree in law a “lawyer”? No, of course you don’t.
So anyone who refers to Mosler as an “economist” is wrong. And you are wrong. As usual, MMTers get everything wrong. And when they’re wrong they just change definitions and meanings to make it look like they’re not wrong. And when they get called out on that they just start getting angry and calling people names.
MMT has been debunked. So take your left wing agenda and go home.
(1) “This is another thing that MMTers love to do.”
There is an important distinction lost in this discussion. An important different between expert and lay debate is rigor (that’s a generalization, not a firm rule). This plagues open discussion on websites, often so that discussion breaks down like the great construction project at Babel. Lack of agreement — or even consistent use by one party — on definitions is a frequent problem. Trying to address this is often regarded as pedantry, interruppting the brawl which is point (enjoyment) of many participants.
The only help I’ve found for this is to ground the debate in references to professional journals. That’s worked well on the FM website in many topics, including both economics and climate science. I’m surprised that there are few (or none) in this very long debate. Has nobody written about MMT in professional (ie, peer-reviewed economics journals?
(2) “MMT has been debunked. So take your left wing agenda and go home.”
Only I get to say that, as one of the proprietors of the FM website. But I don’t, ever, excerpt for repeated and severe violations of the comment policy.
From his Wikipedia entry:
” An economist is someone with a PhD in economics.”
I think that’s too narrow a definition. Most dictionaries say something like “an expert in economics”; requiring a specific accredation or degree is too narrow for most of us. Demonstrated skill is just as useful an indication, perhaps even better.
From Wikipedia:
From their website:
Fabius,
“Has nobody written about MMT in professional (ie, peer-reviewed economics journals?”
there have been papers in the Journal of Post-Keynesian Economics, the Review of Political Economy, the Journal of Economic Issues, the Journal of Economic and Social Policy, Panoeconomicus, and numerous publications by the Levy Economics Institute.
The Centre for Full Employment and Price Stability recently hosted the 11th International Post-Keynesian Conference, the Centre of Full Employment and Equity (Australia) recently hosted the 18th National Unemployment Conference, a couple of MMT-related papers were recently presented at the INET conference in Berlin, and there is currently an MMT-related seminar series being held at Columbia Law School bringing together a range of economists: http://www.modernmoneyandpublicpurpose.com/
Yes, my comment was meant ironically. In my experience, a discussion this long about technical matters should be grounded in references to journal articles. That there are almost none in this thread is a red flag.
FM,
You’ll only find a handful of serious MMT critiques and debates in professional papers because the rest of the profession does not take MMT seriously. They get some very basic things wrong which totally defy logic. And even worse, they raise old ideas and repackage them as if they’re new while giving the impression that it’s all groundbreaking work that they’ve only just discovered. The reality is that MMT is just a bunch of old debunked theories crammed in together. Once you fully understand how it all comes together it becomes clear that there are hundreds of internal inconsistencies.
MMT has mostly grown in popularity on the internet where amateur economists have latched onto some of these very basic and easily misunderstood concepts.
FDO15,
That was my impression as well. That does not mean that they’re wrong, but it’s a red flat that the enthusiasm centered among amateurs. Esp when the enthusiasm results from their hearing a message they desparately want to hear: that deficits don’t matter.
Much of MMT is a development or synthesis of work by Keynes, Abba Lerner, George Knapp, Alfred Mitchell-Innes, Joan Robinson, Irving Fisher, Hyman Minsky, and Wynne Godley, and as such is pretty standard Post-Keynesian economics. The following economists are broadly supporters of MMT (or neo-chartalism), though there are some disagreements over certain aspects: James Galbraith, Mario Seccareccia, Charles Goodhart, Marc Lavoie, Michael Hudson, Steve Keen, Jan Kregel, Alain Parguez, Philip Harvey, Joan Muysken, Rob Parenteau, Matthew Forstater, Edward Nell.
Well, I hardly know where to start on this one. All I can say is that I absolutely don’t recognize myself in Prof. Black’s “rebuttal” of my post. In fact, some of his statements are so far off base as to make me doubt that he actually read it. Let me correct just a few misstatements, however.
1. “He is a very conservative scholar as you can see from his blogs and his associations with George Mason University and Cato.”
Aside from pointing out the obvious irrelevance of such any such ad hominem argument to the substance of my post, I should point out that my “associations” with George Mason and Cato are pretty tenuous, although they are both institutions that I admire. I taught at GMU as a part-time adjunct in the 1980s and have not visited the place since. I last wrote anything for Cato in 2006.
More importantly, to the extent the “associations” show anything, they would suggest that I am classical liberal or libertarian, not a conservative. Prof. Black evidently does not know the difference. I invite him to read Friedrich Hayek’s essay “Why I am Not a Conservative” (any search engine will take you to an on-line version). I cite that essay at every opportunity and agree with it passionately.
2. “Dolan’s piece includes the admission that our present deficit is largely the product of the Recession and during the recovery from the Great Recession fiscal stimulus acts as an “automatic stabilizer,” i.e., a “counter-cyclical” policy that speeds recovery and reduces the severity of the recession.
The whole point of my post is to emphasize that much of the current deficit is attributable to the recession. The whole purpose of looking at the SPD is to bring attention to the role of automatic stabilizers in determining the current deficit, and to isolate the part that is not attributable to the recession. The whole point of the post is that even after you correct for automatic stabilizers, the US deficit is bigger than than of any OECD country than Japan. These are not “admissions”–they are the main points I wanted to make.
3. “The EU responded to the Great Recession with austerity, a pro-cyclical policy that makes the recession more severe and longer.”
I couldn’t agree more, but Prof. Black somehow seems to think I am an advocate of euro-style austerity. Far from it. If he would read my piece with any care at all, he would see that I am highly skeptical of front-loaded austerity policies like the “cliff” and am much more favorable to prudent, back-loaded, policies like Simpson-Bowles. I am even more explicitly negative on the procyclical annual balanced budget approach.
4. “He chooses Chile as his exemplar . . . Check out the Chilean statistics on unemployment, poverty, and inequality under Pinochet and the improvements under his socialist successor.”
Well, duh! If Prof. Black had bothered to follow the link to my previous post on Chile, he would have learned that Chile’s current exemplary fiscal policy, which in part explains its present success, was brought in not by Pinochet but by his successors. The famed “Chicago boys” who ran Pinochet’s economic policy made a terrible mess of things, however well educated they may have been. (Prof. Black missed a great chance here to dig up my “association” with the “conservative” University of Chicago, where I taught for a while long ago.)
OK, I have some other things highlighted, but this is getting boring both for me an FM’s readers, so enough is enough.
Good post. It also shows a heavy dose of intellectual honesty to promote a critic’s comment to it’s own post. I’m impressed.
Re the line “deficits don’t matter”: “MMT enthusiasts” have commonly extrapolated this line from the writing of people at New Economic Perspectives and Billy Blog. It’s not quite accurate. Usually what these readers mean is that a rising budget deficit relative to GDP will not cause “bankruptcy”, and may not even generate inflation depending on the behavior of individual and institutional actors in the “private sector”.
If i were to tell you the budget deficit of a country 80 years ago, you would not be able to tell me much about the economic processes going on in that country. the unemployment rate, the level of capacity utilization, the rate of growth of wages and profits, the labor share of GDP, the rate of growth of productivity etc all tell you much more about what’s going on in that country. Once one has all that information, then the budget deficit becomes meaningful. If that country doesn’t have enough counter-cyclical stabilizers and the capacity utilization + unemployment rate is
highlow, it might make sense to increase tax rates or reduce discretionary spending. Whereas one might conclude that that same budget deficit (with the same ratio to GDP) was too low if the country had high unemployment and low levels of capacity utilization. That’s just an example. The budget deficit tells us nothing about what course future spending plans and tax rates should take.Oops! when i wrote “If that country doesn’t have enough counter-cyclical stabilizers and the capacity utilization + unemployment rate is high” I meant “If that country doesn’t have enough counter-cyclical stabilizers and the capacity utilization rate is high while the unemployment rate is low”.
Fix made!
These kind of slips are distressingly easy to make.
(1) Good post. It also shows a heavy dose of intellectual honesty to promote a critic’s comment to it’s own post. I’m impressed.
Thanks for the feedback. This is standard procedure here. We’re just looking for answers here. Most of the replies to comments concern either methodology (eg, bombastic statements, excessive certainty) or matters of fact.
(2) Re the line “deficits don’t matter”: “MMT enthusiasts” have commonly extrapolated this line from the writing of people at New Economic Perspectives and Billy Blog.”
I hope they read your words and respond. The people at NEP are among the best in MMT, and (as you note) there’s something wrong if readers are taking away such an important and incorrect message.
I honestly think that the distance between MMT advocates and standard Keynesians is not that great in practical functional terms. They both advocate counter-cyclical spending to help manage aggregate demand and the deflation / inflation nexus. They are both right in this IMO.
MMT is not in essence new and it was not invented by Mosler, Wray or others recently. Its intellectual pedigree may be traced from Chartalism (G. F. Knapp in 1895) and through Functional Finance ( Abba P. Lerner who was roughly contemporary with Keynes and may have had some Keynesian ideas before Keynes did.)
“I honestly think that the distance between MMT advocates and standard Keynesians is not that great in practical functional terms”
I too have wondered about this. Can anyone give a pointer to an article addressing this important question?
Here’s one: “Deficit Doves Meet the Deficit Owls“, Stephanie Kelton, New Economic Perspectives, 21 July 2010.
Ask MMT post-keynesians about their thoughts on the Clinton surpluses. I believe most “standard” (assuming “standard” is “New”) Keynesians would have differing opinions.
Thanks for posting that! I was thinking of that exact article, too.
As someone posted above, the real difference in Keyensians and MMTers is Warren Mosler’s “Soft Money Economics”, an inside look at central bank operations at the Fed. This spawned the realization that the money “borrowed” by the federal government is in reality a sosphisticated operation by which the government funds its own expenditures. Hence MMTers are adamant government cannot run out of money, which Keynesians have not recognized.
It does, I think, bear mentioning that Krugman has in the last year acknowledged the importance of a sovereign nation having its own currency in terms of debt crises, which I take as movement toward the MMT position.
“Hence MMTers are adamant government cannot run out of money, which Keynesians have not recognized”
That is an oversimplification. As seen in this thread.
All economists know that the US can just print money as needed, including to pay off debt.
Most, perhaps all, recognize limits to this ability. Most importantly, the dangers of collapsing the currency and inflation. As the citations given show, MMT advocates agree with this.
The debate concerns the details about these dynamics, and their practical applications.
This type of oversimplification plagues many discussions of politicalized science. Like climate science. Laypeople speak of believers and deniers among scientists. In fact, almost all (or all) agree the world has been warming during the past 2 centuries. The debate is about the relative weight of the many factors, natural and anthropogenic — and forecasts about the future.
Mr. Maximus,
With all due respect, all economists most certainly do not recognize that a sovereign government cannot run out of its own currency or become insolvent regarding liabilities in that currency. All, and I mean all, discussion of deficits and debt by mainstream economists begin and end with the assumption governments can become insolvent if they fail to balance their budgets; in fact the discussion will frequently reference the possibility of government “going broke” if deficits continue. When Chairman Bernanke speaks of mounting debts he does not discuss them in terms of limitations like inflation, he speaks of Ricardian equivalencies forcing governments to “cut back” to pay off debts. No acknowledgement of a government which has spent by crediting accounts for forty years is forthcoming, no admission the national debt is not a millstone hanging around the necks of our children.
The result is that the average American has absolutely no understanding of the monetary realities because the mainstream has trained them to think in terms of a household’s budget. Simplification is a necessity when helping people to undue their neo-liberal conditioning.
Finally, you write “All economists know that the US can just print money as needed, including to pay off debt.”
They may be aware of the capability. They are completely ignorant of the fact our government HAS been doing this since Bretton Woods collapsed in 1971-1972. This is what I would argue is the most important point Mosler’s work made: this isn’t a hypothetical, government has been doing this since before my own birth.
My guess is that Johannson knows little about what mainstream economists know or say, merely what he’s told by non-mainstream economists — or their non-economist cheerleaders.
(1) “all economists most certainly do not recognize that a sovereign government cannot run out of its own currency or become insolvent regarding liabilities in that currency. All, and I mean all, discussion of deficits and debt by mainstream economists begin and end with the assumption governments can become insolvent if they fail to balance their budgets; in fact the discussion will frequently reference the possibility of government “going broke” if deficits continue. ”
Cite an example, please. I believe you are picking this up from reading non-economists, like Wall Street investors and politicians. The discussion among economists revolves around the undesirable consequences of high debt loads. Such as monetization of debt, causing some combination of currency depreciation and inflation.
(2) “They are completely ignorant of the fact our government HAS been doing this since Bretton Woods collapsed in 1971-1972. ”
This is one of the most intensely studied aspect of monetary economics. Detecting monetization is not difficult. The statement is absurd.
These comments remind me of those on blogs discussing climate scientists, talking about what fools those climate scientists are that don’t agreee with “us”.
Fabius Maximus, before I discuss one illustrative critique of MMT, I need to say something about schools of economic thought and the idea that there is a “mainstream” of economic thought. Part of your bafflement comes, I think, from the unexamined assumption that economics has a single standard mainstream. At the risk of considerably simplifying, we can identify at least three “mainstreams” in economics, or more properly the subject of Political Economy. These are, from left wing to right wing, (1) Marxist, (2) Keynesian / Post Keynesian / Neo Keynesian and (3) Classical / Neoclassical / Monetarist. MMT descends from Chartalism and the Post-Keynesian school. What most people in the US today consider “mainstream” economics is either Friedman’s Monetarism or the Neo-Keynesianism of people like Stiglitz, Krugman and Mankiw.
Monetarism is the right wing of perceived mainstream economics in the US today and Neo-Keynesianism is sometimes called the left wing of perceived mainstream economics in the US. However, the political or political economy spectrum in the US is skewed to the right wing, compared to the full spectrum of global and historical thinking so that one should really call Neo-Keynesianism “middle of the road” and leave the “left wing” appellation to Post-Keynesianism and the “far left” appellation to Marxism. The differences between these schools are not just political. There are also logical-philosophical differences and profound methodological differences including the presence or absence of class theory and the choice of mathematical modelling frameworks. It is my personal belief that Keynes would have most approved of the Post-Keynesian stream today but which part of it I cannot say.
As I said above, the subject under study is really Political Economy and not Economics. The notion that economics can be separated from politics and sectional interests is fallacious. It is clear that power, laws and sectional interests condition economics. Any theory, justification or rationalisation that is created about law, power, economics or money and then enters into discourse or practice in the system changes the system. This illustrates that even apart from historical change, “known unknowns”, “unknown unknowns” and black swan events that the Political Economic system is so complex and so open to being changed from without by unknowns and from within by unknowns and by theories about itself that it never be made a science like physics. It will always present the character that even what feels dependable and known for half a lifetime (mainstream “truth”) can seep away beneath your feet and leave you questioning your lifetime assumptions to that point. All the great and dogmatic schools across the whole spectrum know less than they claim to know and are mostly unaware of this fact or too deceptive or narcissistic to admit it.
Here is one illustrative critique of MMT which might help locate it within Post-Keynesianism. Simple logical analysis can demonstrate that certain MMT views are not all that different from standard Keynesian or even some “common man” views on economics. Much of the difference is mainly one of emphasis rather than outright discrepancy. It leads one to wonder why MMT advocates are so keen to make odd-seeming claims to emphasise their difference from Keynesianism in general. Perhaps one can put it down to what Freud called the “narcissism of minor differences”.
A key MMT view is that taxes do not pay for expenditure. In one sense this is right. In another sense it is wrong but more of that later. MMT takes the view that the national budget creates all the dollars of expenditure for that year at the time the budget is brought down. MMT further states that taxes when collected extinguish the dollars thus collected. To the man in the street this sounds patently absurd. He believes, along with more orthodox economists, that taxes pay for government expenditure. Who is right?
The answer is that both views are right! Assume a balanced budget. If the annual budget outlay is 1 unit and taxes collected are 1 unit then the budget is balanced.
The man in the street sees the equation as;
1 unit collected – 1 unit spent = 0 net units (balanced budget).
The MMT advocate sees the equation as;
1 unit created – 1 unit extinguished = 0 net units (balanced budget)
The difference lies in the fact that the man in the street sees the event “unit collected” as coming first and the event “unit spent” as subsequent and dependent. However, the MMT theorist using what may be called “year one” fiat logic can say the following. Imagine a new nation commencing from scratch. They create a new currency called the Neo. At the start of year one there are no Neo units available from previous taxes because neither taxes nor Neos existed before year one. Therefore the first Neos have to be created by fiat. This proves the MMT theorist’s point that taxes do not enable fiat expenditure. The fiat creation, as an act of government expenditure, comes first.
Year one logic is fine (as far as it goes) but it ignores the real and complex history of the evolution of money. We cannot neatly refer to a point at which the day before no money existed and the day after pure fiat money existed. This simplifying attempt elides a complex history of evolving intermediate forms of money. Empirical history matters. Earlier extant forms of money matter as they mix together in the economy and circulate at any point in time.
But why are both equations equally logically possible? Let us review the equations
1 unit collected – 1 unit spent = 0 units remaining (balanced).
1 unit created – 1 unit extinguished = 0 units remaining (balanced)
Both equations are equally logically possible because money is a notional unit and not a real unit. Notional units can exist in the negative as well as the positive but real units can only exist in the positive. You can have a car but not a negative car. Notional units can be created out of thin air, real units cannot. A government can create fiat money out of nothing and then represent it by paper money or even electronic bits in a computer transaction deposited into an account.
Thus you can look at it either way. You can say fiat creation enables government expenditure or you can say taxation enables government expenditure. Year one fiat logic and deficit spending without previous surpluses (which can and does occur) both support the MMT view that fiat creation and circulation both precede taxation. However, taxation can be viewed as creating fiscal space for government expenditure to occur with creating excess inflation. Even if the government budget is in deficit in any one year, it is a very likely in any reasonably healthy economy that the one year deficit is a relatively low proportion of the total budget. Thus most of the budget still consists of government expenditure which has had fiscal room created for it by taxation; otherwise serious inflation would occur. In this quite proper and valid sense taxation, “pays” for government expenditure by creating the fiscal space.
Even all reasonable standard economists of either branch of the “mainstream”, excepting maybe doctrinaire Monetarists, know that in a fiat system you can and do create a portion of your fiat money ex nihilo (rather than “garner” it from existing taxes or bond operations) and feed it into the system. In fact, they know that in a growing economy there will be accumulative net deficit spending (creation of fiat money ex nihilo) as the years roll forward otherwise there would be a burgeoning money supply shortage with various deleterious effects especially on aggregate demand. So, in summary, MMT exponents are not all that different or original in the camp of Post-Keynesian thinking. They just like to think they are.
” I think, from the unexamined assumption that economics has a single standard mainstream. ”
There is a body of general agreement. It can be IMO operationally described in terms of a paradigm. It’s also a common expression by economists about their field.
Dear Ikonoclast,
You write, “At the risk of considerably simplifying, we can identify at least three “mainstreams” in economics, or more properly the subject of Political Economy. These are, from left wing to right wing, (1) Marxist, (2) Keynesian / Post Keynesian / Neo Keynesian and (3) Classical / Neoclassical / Monetarist. MMT descends from Chartalism and the Post-Keynesian school.”
For the sake of simplicity I use a structured method of response:
1. The mainstream is universally accepted to be neo-liberal, including New Keynesians such as Paul Krugman. All other schools of thought you list are referred to as “heterodox” by the mainstream and are barred from involvement with policy or any serious discussion.
2. I would suggest that to argue there was ever such a thing as a school of Chartalism is to do it too much credit. There was no coherent movement of chartalist economists and work was effectively limited to G.F. Knapp, though he was certainly an influence on Keynes.
3. There are two primary differences in MMT and post-Keynesianism: One is of course the work of Warren Mosler. The other is the work of Wynne Godley in pioneering the sectoral balances model, what I consider the greatest advance in economic forecasting in the last forty years. There is a great deal of crossover between the two schools, with MMTers like Fullwiler, Kelton and Wray considering themselves post-Keynesians, while Bill Mitchell and Warren Mosler refer to themselves exclusively as MMT proponents. It should be noted that Steve Keen, a noted post-Keynesian who has been a critic of MMT, is now working with MMTers to combine his own Minskyan model with the MMT/sectoral balances model to create the first real, coherent response to the current mainstream since it gained dominance in the 1970’s.
(1) “The mainstream is universally accepted to be neo-liberal, including New Keynesians such as Paul Krugman. All other schools of thought you list are referred to as “heterodox” by the mainstream and are barred from involvement with policy or any serious discussion.”
Policy influence comes from a sub-set of this group. Economists such as Paul Krugman and Nouriel Roubini have had little influence on policy, although that might be changing after their long series of successful forecasts.
(2) Division in economics
The field is fractured in several dimensions, common in fields undergoing a paradigm crisis. The “freshwater” and “saltwater” is IMO the major fissure in US economics. Among the other schools, IMO (guessing) the Austrian school probably has the greatest influence due to its strong presence in the finance and investing professions.
Mr. Maximus,
Well, you could try reading Mankiw, who writes, “For many years, our nation’s government has lived beyond its means. We have promised ourselves both low taxes and a generous social safety net. But we have not faced the hard reality of budget arithmetic.”
http://www.nytimes.com/2011/03/27/business/27view.html?_r=0
I can provide you a near-infinite number of other examples from such shining stars as Fama, Delong, the IMF, Ben Bernanke and an entire rogue’s gallery if you like, but you’re assertion I don’t know the difference between an economist and a financial analyst is quite obviously false.
“This is one of the most intensely studied aspect of monetary economics. Detecting monetization is not difficult. The statement is absurd.”
Really? I challenge you to find an academic paper from the mainstream which purports to recognize that this has been ongoing for decades which describes the process by which the central bank has been funding government expenditures, which describes that net financial assets collected via taxation are jot stored or spent, but destroyed.
(1) You are grossly misinterpreting what Mankiw says. In this brief NYT op-ed he does not discuss the various alternatives, esp why large-scale monetization is not a viable option in the scenario he describes. Try finding something a bit more relevant to make your point.
(2) “which describes the process by which the central bank has been funding government expenditures, which describes that net financial assets collected via taxation are jot stored or spent, but destroyed.”
Because none of those things are true in any meaningful sense (note: the Fed has been monetizing debt since 2008). I suggest going to the website of an economist and debating this with them. They have the time, interest, and resources to explain these things.
Ben Johannson says; “The mainstream is universally accepted to be neo-liberal, including New Keynesians such as Paul Krugman. All other schools of thought you list are referred to as “heterodox” by the mainstream and are barred from involvement with policy or any serious discussion.”
Yes they are currently barred but I beg to differ about everything else. The mainstream is not UNIVERSALLY accepted to be neo-liberal, including the New Keynesians. It is perhaps accepted as such now by about half of all economists, namely those in the very camp who call themselves orthodox and mainstream and who confer upon themselves the accolade of being the one true and correct school. This “mainstream” has been dominant since about 1970. Before that Keynesianism was dominant in the West at least from about 1935 or 1940 to about 1969. It temporarily eclipsed Classical Economics.
Classical economics staged a comeback as Neoclassical etc and this school is a revival of failed and incorrect Classical economics and other absurd theories like Monetarism. (A distorted form of Marxism called Communism but more properly called State Capitalism dominated the Soviet Union from 1917 to more or less the end of the Gorbachev era. A form of Marxism aslo took root in China.
You are wiping out much history and much history of economic thought if you take the recent 40 year reign of Neoclassical or Neoliberal Economics, in the West, to be the be-all and end-all of “mainstream” economic reality. In fact, this spurious “mainstream” is about to collapse in one big useless heap. If it persists it will destroy our economies and thus consequently itself, The other possibility is that we overthrow it before it destroys us. Either way, this giant dead-end in economic thought namely neoliberalismn or neoclassicism is about to go the way of the dinosaurs.
I appreciate Prof Black touching on a common problem in discussing fiscal policy, that of “moralizing” about the federal budget.
There’s nothing intrinsically good about a US federal budget surplus, or bad about a deficit. Reducing a deficit is not an appropriate objective for policy makers, and it gets in the way of pursuing meaningful policy objectives, such as full employment or modernization of infrastructure.
Right now, the US government should be buying goods and services from the non-governmental sector in whatever amount and for however long it takes to bootstrap a sustainable recovery in that sector. Instead, we’re talking about raising taxes and cutting spending, for no other reason than “reducing the deficit.”
As Japan showed us in the 90s, if we do that, recession will occur, tax revenues will plummet, and safety net expenditures will rise, making the deficit bigger still.
GMAT touches on something I — and others — have said since this crisis began. While fiscal deficits are all stimulators, they are not all equal in their long-term effects.
Borrowing at low interest rates to put unemployed people to work repairing and building vital infrastructure has a much better long-term effect than just blowing the money. As Japan has done. And which we are doing
If i may jump in at another point – one large distinction between MMT and the mainstream NK is that they stress that a regular dollar and a dollar of the “national debt” are functionally almost identical from a legal/accounting perspective. They are both liabilities of the federal government, albeit with different interest rates – Mosler et al liken it to the difference between a savings and checking account at a regular bank.
To that extent, “borrowing” in your own currency is an incoherent concept. A treasury security is a promise that the liability can be exchanged for a dollar in the future (or immediately at the Fed’s discount window), while a dollar is…a promise to be exchanged for a dollar in the future! One is a pure IOU, the other is an IOU for an IOU. It is like distinguishing between x and x^2 when x=1. The treasury could conceivably issue a superbond – i.e. a bond promising to pay a treasury bond in the future – and it would also have the same effect as just issuing a dollar (except for interest rates). It would be like x^3 when x=1.
So when someone talks about “borrowing” at low interest rates, what you’re really saying is “creating (printing?) a kind of liability at positive interest to put unemployed people to work.” The obvious questions are then 1. why create new liabilities (currency) at positive rather than zero interest? and 2. why would printing zero-interest currency (i.e. regular dollar bills) be inflationary compared to creating bonds with extra interest payment?
Sanjeev Kulkarni passed on a reference useful when trying to compare currency issuers like Iceland & the USA to currency users like Greece or Nebraska.
“Financial crises in Iceland and Ireland: Does EU and Euro membership matter?“, Center for Small State Studies, U of Iceland, November 2011.
That is an interesting and timely article. Thanks for posting it..
It’s from the Center for Small State Studies, U of Iceland, November 2011. Introduction:
The collapse of the banking systems in Iceland and Ireland in 2008, the impacts on economy and society of this collapse, and the measures taken by the political authorities in each country to deal with the crises, have all been the subject of extensive commentary (see for example, Krugman (2009, 2010) and O’Brien (2011c)).
Yet little attention has been devoted to the role that membership of the European Union (EU) and of the Euro played in the case of Ireland, contrasted with Iceland which is a member of neither. This is the purpose of this report.
It begins by situating the study in the political science literature on small states, framing it as testing the claim in this literature that small states prosper better by being members of multilateral organizations that provide them with a shelter, particularly valuable at a time of economic and political crisis. The report then examines the Irish and Icelandic cases under three headings – their respective economic booms before the crises, the trajectory of the crisis in each country, and the role of EU membership and of the Euro in the Irish case compared with its absence in the case of Iceland.
The report ends by using conclusions from these crises to re-assess the relevant claims in the small states literature.
Dolan isn’t getting anywhere near understanding MMT. He doesn’t even understand that for MMTer’s the word “deficit” is synonymous with a pool of money active in the economy and helping it grow and “deficit” therefore has a positive connotation. Dolan’s negative view of the word “deficit” is because he’s thinking of sovereign government created money as being like bank credit that has to be on a repayment timetable and owed to someone. It does not. That is its felicity!
This is a commonplace in debates in the sciences (and elsewhere). People use words to mean different things, not just in the narrow definition but the complex web of associations around it.
To understand these debates I strongly recommend reading Thomas Kuhn’s The Structure of Scientific Revolutions. I believe economics is in the early stages of a paradigm shift. That’s a good thing, a sign of progress.
I think there might be a take-away from all this that makes sense whether viewed from MMT, MR or post-Keynesian perspectives.
If we were assessing the financial health of a household, we would not imagine that it made no difference whether a sum of $1000 was spent on textbooks for students in the family or on a pleasant weekend in Vegas. We wouldn’t think that $7000 earned by working an extra part-time job was no different than $7000 earned by selling the family car. Numbers alone don’t tell us much.
However, households have a solvency constraint. Even if a farmer knows that selling a part of his land is a bad idea, if he has insufficient operating funds and cannot borrow at reasonable rates (or at all), he may be forced into a bad decision, because he literally cannot “spend money he doesn’t have.” So, a household (or a company, or a state dependent on a currency it does not control) must be wary of the numbers: even though “good” numbers don’t guarantee diligence, “zero” can always slap a big, fat veto on an otherwise rational course of action.
An independent government which operates in its own non-convertible currency does not have a solvency constraint. There is some debate as to whether, under certain circumstances, “bond vigilantes” could have the same effect, ultimately forcing a government to make poor economic choices because it has no other practical choices at all… but here is the point I take (which I hope others who know more than I can confirm or correct):
A country like the United States could reach such a point only from some combination of:
1. a dysfunctional and/or corrupt political system which is no longer trusted
2. a dysfunctional and/or corrupt financial system which is no longer trusted
3. a non-productive *real* economy (for example, an “imperialist economy” in which we push papers, enforce control and reap benefits while others do all the actual work—they might someday discover they no longer need us, and choose rebellion over servitude)
4. an overwhelming external shock (such as a plague that wiped out a quarter of the work force, or a military attack by a competent enemy)
We are, I think, terrifyingly far along on the first three factors. The fourth strikes me as unlikely and unpredictable (though given enough time the unlikely eventually will happen); but to the extent that we can prepare for it, the defense must lie in the first three factors, which we can—in principle—foresee and control.
In none of these cases would the public deficit or debt be the fundamental problem. Any such debt will always be manageable if the country’s real economy is strong and its institutions trustworthy; and no “debt reduction program” can do much to save a corrupt nation whose primary economic activity (primary in numbers of dollars, not numbers of people) has become placing bets and collecting tolls on the labors of others.
The public debt is a distraction. Like most distractions, it’s convenient for the wealthy and powerful; perhaps more than most, because it can be used to argue against expenditures and reforms that would clearly be of obvious benefit to the majority of the citizenry, were the issues not clouded with deficit hysteria.
“independent government which operates in its own non-convertible currency does not have a solvency constraint.”
That is a pretty limiting constraint, and de facto probably assumes a current account surplus. Certainly that does not apply to the US.
Also, inflation does not require bond vigilantes.
As has been said here many times, the currency and inflation are two constraints agreed upon by almost all schools of economics.
Mr. Maximus,
You write: “That is a pretty limiting constraint, and de facto probably assumes a current account surplus. Certainly that does not apply to the US.”
The sectoral balances model posits three broad sectors: the government, non-government, and foreign. The non-government, or private sector, is a currency user. The government sector is the currency issuer.
For the private sector to run surpluses (save) either the government or foreign sectors must run deficits (spend). If government is running balanced budgets or surpluses, then the private sector can still save if it runs a current account surplus. But at no time does this affect the capacity of the government sector to service its liabilities, which in our case are all in USD. This is a key point in MMT, that a monetarily sovereign government operates only in the currency it controls. This way it can never fail to meet its obligations, because it is the monopoly issuer of that currency.
“As has been said here many times, the currency and inflation are two constraints agreed upon by almost all schools of economics.”
This is not in contention. But the mainstream understanding of inflation rests on the equation MV=PQ. where (M) is the monetary aggregate, (V) is its velocity, or turnover rate, (P) is price level and (Q) is national output. The mainstream view is that velocity is fixed, while Q is always at full (yes, the equation denies the existence of unemployment). Having conveniently eliminated two variables the only effect on inflation remaining is the monetary aggregate. Recall how mainstream economists repeatedly warned in 2008-2009 that QE, stimulus and trillion dollar deficits would result in damaging inflation because the monetary aggregate would increase. But this did not occur.
MMT teaches us the mainstream understanding of inflation is fatally flawed, and that the real concern is the interaction between aggregate demand and a nation’s productive capacity.
Johannson,
(1) “But at no time does this affect the capacity of the government sector to service its liabilities, which in our case are all in USD. This is a key point in MMT, that a monetarily sovereign government operates only in the currency it controls.”
This is also a key point in Econ 101, and has been for almost … always. Almost every article about the euro-crisis starts with this as its starting point.
(2) “The mainstream view is that velocity is fixed while Q is always at full (yes, the equation denies the existence of unemployment).”
I cannot imagine where you are getting this stuff, but you really need to seriously upgrade your sources of information. That was as assumption of the monetarists in the 1970s. Velocity is not constant (see the below graph), one reason the experiment failed. As for Q, to say the equation “denies” embeds too many misunderstandings to bother with. As before, you assume that economists are stupid. They’re not.
.
“That is a pretty limiting constraint, and de facto probably assumes a current account surplus. Certainly that does not apply to the US.”
Probably that means I stated it poorly. I meant to exclude countries that don’t issue their own currency (like the Euro countries); countries whose currency is at a fixed peg to a commodity or to some other country’s currency; and countries whose real economy is so little diversified that they are dependent for their livelihood on the external market for a single product or a small range of products.
“Also, inflation does not require bond vigilantes.
As has been said here many times, the currency and inflation are two constraints agreed upon by almost all schools of economics.”
(I take it that “currency” in this context means the real value of our currency on the world market: essentially the same concern as inflation but relative to what a dollar can buy from other economies as opposed to what it can buy in our own. Doesn’t arbitrage in a free-floating currency regime cause that to track domestic inflation pretty closely, so that it really is the same problem? I mean, unless we radically change the current system, don’t currency values have to adjust so that if you exchange dollars for euros, or yen, or pounds sterling, the real value will be the same?)
My point/question remains… when and how would accumulated public debt (or, equivalently, past deficits) be a cause of inflation? When that would not be more correctly understood as the result of other conditions (such as I listed) that represent mismanagement in their own right, and need no public debt bogeyman to explain why they are bad?
*Current* deficits can represent a cause of *current* inflation, if the actual effects of spending and taxation aren’t reasonably well-calibrated to the current state of the economy. Even then, it’s not just the number you get from lumping all expenditures together, lumping all taxes together, and subtracting that matters: different taxes and expenditures have potentially vastly different effects. It’s an ongoing policy problem to balance those at any given time. Those policy choices affect the future, too; not through the numeric value of the public debt, but because they affect how we invest, *now*, in the material and human capital that will be available in subsequent years.
There, I think, is what drives one of the great divisions in economic talk (conservative/progressive?): there are a lot of folks who, on general political principles, really, *really* want for it to be unnecessary, and in fact inappropriate, for democratic institutions to make practical choices or value judgments about the economy, or to need to decide anything based on current real conditions (as opposed to a set of fixed rules and principles). Complex modern economies just don’t work that way.
The other division (MMT/MR against almost everyone else?) is to grasp that just because it’s obvious that there must be a limit to how much a government can spend (or tax) without deranging an economy, that doesn’t mean it faces the same limits, or even the same kind of limits, as in familiar household finance. Surely academics don’t really make that mistake, but it’s widely exploited at the political level.
That’s why this concerns me so much. Not that I expect to understand the intricacies of economic theory—like most of us, becoming reasonably competent at one thing is a life’s challenge, and economics was not that one thing for me. I know full well I’ll never be more than a dilettante… nor will most citizens; nonetheless, we will make political decisions based in part on what we do understand about economics. As best I can assess it—and I wish there were a striking consensus, but there almost never is about anything to which political agendas can be attached—the “common-sense” understanding of public debt and deficit is a myth, it’s greatly distorting important political debates, and it’s serving as a tool to validate policies that are against the best interests of the vast majority of American citizens.
(1) “when and how would accumulated public debt (or, equivalently, past deficits) be a cause of inflation?”
Monetization is one of the means by which a government can manage its debt. Others are financial repression, default (which comes in a wide range of flavors), managing the budget, and borrowing. Inflation is a potential consequence of monetization; if done on a sufficiently large scale results in hyperinflation.
(2) *Current* deficits can represent a cause of *current* inflation, if the actual effects of spending and taxation aren’t reasonably well-calibrated to the current state of the economy.”
Not really. Inflation is a monetary event, not a fiscal one. It’s the decision to monetize that creates the potential for inflation.
“Monetization is one of the means by which a government can manage its debt” – Please see my reply above – monetization is just replacing one form of debt with another, namely non-interest bearing in exchange for interest bearing.
A “default” on bonds is equivalent to announcing that “all dollar bills with barcode numbers ending with the number 8 are now no longer valid currency.” It involves selecting a particular type of government liability and announcing that it is no longer recognized as a liability. To suggest inflation is a potential consequence of monetization gets the causality mixed up. If QE lowers the interest rate, that may have an inflationary impact, but that is from the lowering of the interest rate not the “monetization” per se. And, as Mosler argues here, it’s unlikely that’s actually true given the amount of interest income that “monetization” removes from private sector pockets:
http://www.cnbc.com/id/46115110/The_Fed_is_Starving_Economy_of_Interest_Income
The one channel that “monetization” could have large inflationary effects at zero-bound/low interest rate environment would be expectations (if subsequently self-reinforced with poor policy), but there is no functional reason for those expectations – they would be purely irrational since very little was actually changing by the “monetization” of debts from a day-to-day perspective.
I’m curious why you think monetization creates potential for inflation – aren’t govt debts already held as assets on private balance sheets? What would be the huge inflationary impact of changing the word next to that number from “bond” to “reserves” ?
” I’m curious why you think monetization creates potential for inflation – aren’t govt debts already held as assets on private balance sheets?”
The difference is between transactional funds and assets. Like most distinctions, there are grey zones. But, to oversimplfy, increasing the money supply might increase the general price level ( aka inflation). Increasing the supply of assets does not.
If we turned North Dakota a into land like Ohio,that would increase the asset balance, but would not be deflationary. That’s not a good analogy, but I’m rushed at the moment.
Doesn’t the discount window make bonds completely fungible w reserves/cash, at least for banks (but also for others if the Fed wants to defend its target rate)? I understand your point and would say it would hold true if there weren’t a guarantee market all the time for treasury bonds, but unless you’re suggesting that someone could try to sell a bond tomorrow and wouldn’t be able to find a buyer, isn’t this difference insignificant?
I.e. I can’t spend directly out of my savings account, but I can transfer fund instantly to my checking account and spend from there. Is there any real difference in terms of inflationary potential?
Resp
Just to get everyone’s head spinning allow me to inject a little of Steve Keen’s competing world view. According to Keen:
1. Pure credit expansion by banks without regard for reserves (they find the reserves later) is necessary for economic growth. Schumpeter reached a similar conclusion as did Minsky who strongly influenced Keen.
2. This legitimate activity by banks is susceptible to a misdirection of credit expansion into a non-growth promoting lending of new credit money to asset price speculators.
3. This alternative role played by banks is self reinforcing. Small at first, the extension of credit to asset flippers creates, per se, an inflation in asset prices. This mechanism provides a positive feedback loop in which banks lend to speculators who buy assets hoping for price increases driving asset prices up inducing more banks to lend and so on.
4. This non-growth producing credit expansion can run exponentially and shows up in national economic data as an exponential increase in private debt as a percent of GDP.
5. In 2007 U.S. private debt reached an unprecedented multiple of GDP which triggered a “Minsky moment”, characterized by debt saturation of most sectors of the economy, and the beginning of a debt-deflation.
Keen suggests that one practical way out of this debt deflation is to target the private sector debt overhang directly because that is the crux of the problem. In that context, there is a convergence between Keen and MMT because MMT teaches that in order for the private sector to save (and pay down debt), the public sector must run deficits.
Keen suggests a politically palatable way to proceed is with a policy whereby govt. distributes equal amounts of printed money per capita (or per adult, or per household) with the constraint that its first use must be to pay down debt. Those with no debt would be free to spend on consumption. This is of course a form of wealth redistribution since significant capital is being given to people simply for being citizens.
Such a plan has a high probability of achieving robust growth if the economy is in fact plagued by a debt deflation. This is an alternative to austerity. Austerity is based IMO on a fairness argument. We may have to forego fairness in order to achieve growth. Mariner Eccles reached the same conclusion during the last Great Depression.
“MMT teaches that in order for the private sector to save (and pay down debt), the public sector must run deficits”
MMT teaches? This is Econ 101, assuming one ignores external flows (as a simplification). It’s arithmetic, definitional.
This is actually one point MMT gets completely wrong. MMT changes the definition of net saving from the traditional OECD definition of S = I + (G – T) to Saving Net of Investment or (S-I) = (G – T).
This is not an accurate accounting consistent view of the world. Yes, if you take the MMT definition then S-I has to equal G-T. But you can’t just net out investment since investment is where most of the private saving is accounted for. Most of the assets and saving in the economy occurs entirely within the private sector without the involvement of government spending (mainly through private borrowing, private spending and private investment).
That’s an interesting point, which I hadn’t picked up . It’s an interesting perspective.
Thanks for the note!
In my tribe of the Applied Mathematicians, we say it is axiomatic. And yet, surprisingly, many among us act as though this were not so.
Student debt cannot be discharged in bankruptcy. Without economic growth such debts can never be repaid. So what? Austerity? No deficits allowed? Good luck with that given the above noted axiom of sector accounting. The only hope in that scenario is someone does us the same favor we did for Germany. They conquer us, install a new government, and declare all private debts null and void.
Peterblogdanovich,
I don’t believe the austerians are as crazy as your imply. They’re assuming a period of no growth — or even negative growth — to restore the economy to balance and allow future growth. SOme people will suffer, but that collateral damage doesn’t both them. Any more than it bothers most Americans to contemplate the far worse collateral damage we inflict overseas.
It’s a blast from the past. President Hoover wrote in chapter 4 of Volume 3 of his Memoirs (1951) that his Secretary of the Treasury Andrew Mellon (a 2nd generation banker) had …
StanleyM12,
You write: “But you can’t just net out investment since investment is where most of the private saving is accounted for. Most of the assets and saving in the economy occurs entirely within the private sector without the involvement of government spending (mainly through private borrowing, private spending and private investment).”
MMT and post-Keynesians reject the loanable funds framework. According to the Theory of Endogenous Money savings are not necessarily the source for most investment, as banks are not reserve constrained. Rather the Federal Reserve, (because it always targets price) supplies banks with whatever reserves they require meaning banks do not rely on deposits for making loans. This is why a modern economy can take on more debt than it is able to service. Recall that Krugman used to argue private debt wasn’t a significant factor in the GFC, because, “for every borrower there’s a saver”. He has since modified this view.
Ben,
I am familiar with the PK position. MMT says that bank loans net to zero. But a bank does not dissave when it creates a loan. It creates the new loan independent of its reserve position and the new loan creates a new deposit. From the accounting perspective, this doesn’t add net financial assets, which is what MMT focuses on. But this misses the point. The bank creates the new deposit without dissaving and that allows the private sector to Invest which creates private financial assets.
For instance, say you take out a $1MM loan to build a house. Your loan is the banks asset and your liability. Likewise, you obtain a new deposit from thin air and the bank has a new liability (though it did not have to dissave to create this new deposit in the first place). The assets and liabilities net to zero. But then you build the house and repay the loan. After all this is done the economy is $1MM better off because there is a $1MM house in the economy that didn’t previously exist. And the loan netted out to zero. But MMT ignores this and says the economy is not better off because there was not net financial asset creation. But the reality is that the economy is wealthier even though there is not net new financial wealth and more real wealth.
MMT misconstrues the accounting by focusing only on the amount of financial wealth that is created (primarily through government spending in the form of net financial assets as t-bonds). This misses the entire point of the economy as most of our assets are made up of assets other than t-bonds and what MMT refers to as financial wealth. Not to mention they ignore the stock of financial assets created by the private sector like common stock and the like.
StanleyM12:
That is just Cullen-esque nonsense. Yes, if you attack straw men and completely mischaracterise what other people say then you can win an argument in your own head and convince those who don’t know any better. It’s a rhetorical technique, nothing more. If “monetary realism” stuck to developing its own ideas instead of constantly misrepresenting MMT and attacking straw men that would be better.
Cullen isn’t even the developer of MR. I believe JKH and Brett Feibiger developed most of it. And your answer is the standard MMT response when someone debunks your ideas. “Oh, they just don’t understand MMT”. Rubbish.
StanleyM12,
Thanks! That’s a useful comment. Knowing the origins and evolution of a theory helps understand it, IMO.
You haven’t debunked anything, you have attacked straw men and misrepresented other people’s arguments.
“Monetary realism” is basically stuff written by Cullen, with articles on specific topics by JKH (and one or two by Fiebiger). Cullen has an odd habit of referring to himself in the third person, saying “MR says” instead of “I say”. This confuses some people.
Perhaps Cullen is royalty?
Fabius,
Roche is not the mastermind behind MR. He’s not even an economist. JKH is the mastermind and everyone who’s been involved in these debates knows he’s the expert and understands all of this better than Mosler, Wray, Fullwiler, Roche, or Feibiger. He’s debated directly with Steve Keen and MMT economists and makes them look downright stupid.
All of the most relevant and detailed MR pieces are by JKH. See the following:
http://monetaryrealism.com/wp-content/uploads/2012/03/Microsoft-Word-Document-JKH-on-the-recent-MMR-MMT-Debates-_1_..pdf
http://monetaryrealism.com/saving-stockflow-consistency-and-kalecki/
http://monetaryrealism.com/treasury-and-the-central-bank-a-contingent-institutional-approach/
Synopsis: yes there are other “reference frames” and when we look from that perspective, other than mentioned above serious problems can be identified.
I disagree with the Monetary Realists critique of MMT because to me it is based on a misinterpretation or misunderstanding of the distinction between “net financial saving” and “saving in financial assets in general”. The MMT does not reduce everything to one equation with “sectoral balances”. I could agree that some of the economists involved with MMT have strong left-wing views. But equations and models are not left-wing or right-wing. Let’s concentrate on the descriptive part the theory which is to me a direct continuation of work of G.W. Knapp, J.M.Keynes, Abba Lerner and Michal Kalecki. This analysis will lead me to a very surprising finding. NB the diagnosis of the root causes of the current crisis is similar to what has been proposed by Steve Keen.
The key role of non-government sector leveraging in the period of “Great Moderation” leading to the crisis hes been explained clearly at a very early stage of the crisis, in 2009, by prof Mitchell:
“the dramatic shift from budget deficits to surpluses from the mid-1990s onwards has been mirrored by a corresponding deterioration in private sector indebtedness. The only way the Australian economy could keep growing in the period after 1996 was for the private sector to finance increased spending via increased leverage. As I have explained in other blogs, this is an unsustainable growth strategy. Ultimately the private deficits will become so unstable that bankruptcies and defaults will force a major downturn in aggregate demand. Then the fiscal drag compounds the problem. The solution is simple. The government balance has to be in deficit for the private balance to be in surplus given a relatively stable external balance. In terms of the slightly worsening current account deficit, we can interpret that as signifying an increased desire by foreigners to place their savings in financial assets denominated in Australian dollars.”
http://bilbo.economicoutlook.net/blog/?p=277
NB the looming crisis caused by private debt deleveraging has been called as early as in 2006 so Bill Mitchell was not any worse than Steve Keen in predicting the slowdown – see:
http://bilbo.economicoutlook.net/blog_archive/blog_entry.php?ID=5
Prof Mitchell clearly understands something what even Paul Krugman (and obviously all the neoclassicals) missed many times in his models that private sector credit creation creates new spending power “ex-nihilo” and private sector credit repayment destroys spending power. Prof Krugman analysis begins with “setting out a flexible-price endowment model in which “impatient” agents borrow from “patient” agents, but are subject to a debt limit.” see: http://www.newyorkfed.org/research/economists/eggertsson/EggertssonKrugmanR2.pdf
Bank do not re-lend “reserves” or “deposits”, this is just basic accounting. It is not true that “patient” agents lend money to “impatient” agents. “Impatient” agents borrow newly created deposit money from the banking sector and that money is saved by “patient” agents. When the “impatient” agents try to spend less than they earn and “patient” agents do not want to part with their savings, someone has to give in. Either some of the saving desires are frustrated because of the collapsing aggregate demand and falling GDP or the government has to step in with the increased deficit spending (I’m assuming no foreign sector)
This comes from Michal Kalecki, Polish socialist (not Marxist!) economist, from his derivation of the profits equation (1952):
“if some capitalists increase their investment by using for that purpose their liquid reserves, the profits of other capitalists will rise pro tanto and thus the liquid reserves invested will pass into the possession of the latter. If additional investment is financed by bank credit, the spending of the amounts in question will cause equal amounts of saved profits to accumulate as bank deposits. The investing capitalists will thus find it possible to float bonds to the same extent and thus to repay the bank credits. One important consequence of the above is that the rate of interest cannot be determined by the demand for and supply of new capital because investment ‘finances itself'”
(Theory of Economic Dynamics, Augustus M. Kelley Publishers, 1969)
So much for IS/LM…
But what about the structural deficit? If we average for the business cycle and exclude severe debt deleveraging episodes (“financial crises”) there can still remain a residual flow of money from the government to the private (and foreign) sectors. This is determined by 3 factors – the conditions enabling some economic agents to save, the willingness of some economic agents to save in financial assets and the willingness of the government to accommodate the saving desire (by running budget deficits large enough to allow for almost-full capacity utilisation).
As long as some influential economists believe that rising financial saving is a prerequisite to increased investment, the gap will grow. Prof Kazimierz Laski is not an MMTer, he is one of the last surviving collaborators of Michal Kalecki. His superb analysis highlights this point: http://www.wiiw.ac.at/modPubl/download.php?publ=WP45 (Do Increased Private Saving Rates Spur Economic Growth?)
Does it have anything to do with the old-good Keynesian spending propensity, high among the poor and low among the rich? The phenomenon of “financialisation” that is an unstoppable growth of the financial sector leads to even further polarisation of the income level between the rich and the poor. The poor save very little but the rich are increasingly tempted to make money by “investing” in financial assets. This only increases the aggregate demand leakage. Since the private sector leveraging phase is over, (S-I) can only come from (G-T). I would identify these factors as the root cause of the structural budget deficit in the US (together with the persistent trade deficit).
In that context and in that “reference frame” the structural deficit is indeed a symptom of a deeper problem but not because of the fact that the social security in the US will one day bankrupt the government. It is a symptom of financialisation, leading to increased redistribution of the income not towards the rich entrepreneurs investing in technological progress (what would be good) but towards the people spinning the wheel in the global financial casino. This in turn leads to financial instability. The problem is indeed “structural”.
Any attempt to cure the misdiagnosed malaise by turning off the tap of deficit spending (the so-called austerity) will only lead to lower aggregate demand, lower investment and as a consequence the lower rate of technological growth. It works in the way shown recently in the UK. As long as the West stays ahead in terms of technology, the current global structure is stable. The risk of the US being overtaken at some point of time in the near future is real. As an engineer I fully agree with Andy Grove, one of the smartest American entrepreneurs but also a person who escaped from Eastern Europe so he has a pretty broad perspective:
http://www.businessweek.com/magazine/content/10_28/b4186048358596.htm
This brings me back to prof Kazimierz Laski who wrote a book with another post-communist Polish economist (persecuted by the communists after 1968 for being a “Zionist” and later involved in a controversy surrounding his wife who had been involved in Stalinist persecution of Polish patriots in the 1950s), Wlodzimierz Brus. The book “From Marx to the Market” written in the late 1980s http://books.google.com.au/books/about/From_Marx_to_the_Market.html?id=WPAaFHcdsXMC&redir_esc=y outlines the exit route from the fossilized central-planning system towards a system which can be described as red-painted on the surface “state capitalism”. I started digging into these issues circa 2009 when I was trying to understand the root cause of the success of the Chinese model of growth. Please be aware that I lived until 2003 in Poland and I started my research looking from the European liberal position (something what would correspond to a moderately conservative position in the US) My enlightenment came with the following paper: http://books.google.com.au/books/about/From_Marx_to_the_Market.html?id=WPAaFHcdsXMC&redir_esc=y
So this is what powers the Chinese central “market” planners… Michal Kalecki, someone who inspired W. Brus and K. Laski. When I left Poland in 2003 the unemployment rate was 20%. It is true that communism had been a disaster but one may argue whether the development model based on application of the neoclassical economy was better for the society if 5% of that society just left the country after joining the EU. (From the geopolitical point of view the shock therapy in 1990 was probably the only option but this is another issue). The Chinese leaders may find a lot of pleasure in lecturing the Americans about the need for austerity and the need to be grateful for financing the American budget deficit but in fact they are very well familiar with the sectoral balances equation and the true direction of causality there.
Back to the question of the sustainability of high budget deficits. Apparently the true level of budget deficit in China (including local governments using state-owned “commercial” banks as the source of financing their investment) was in 2009 close to 15% – and we are talking about a country running a massive trade surplus.
http://blogs.reuters.com/breakingviews/2010/03/03/chinas-state-budget-deficit-is-tip-of-iceberg/
This is how much it takes to get close-to-full utilisation of productive capacities. Obviously the Chinese economy cannot function like this forever. But please be aware that:
1. We have to distinguish between primary issues (technological race, productive capacity utilisation), secondary issues (e.g. currency exchange rates) and non-issues (bond vigilantes will force the US government to stop spending)
2. The economic and technological “arms-race” is real and may lead to a strategic defeat of the US and the West in general if urgent corrective action is not undertaken
3. The US can adopt “Functional Finance” approach championed by Abba Lerner and finance massive investment in R&D to maintain and extend the technological gap. This “reference frame” worked quite well during the war. The inflation of the 1970s did not invalidate that approach despite all the Monetarist arguments. There are other than throttling the whole economy ways of controlling inflation.
4. Austerity and “fiscal cliffs” is exactly what the global competitors want the Americans to implement in order to change the geopolitical map of the world. Austerity will equally ruin workers and entrepreneurs. Austerity will weaken the state.
…and this is just the beginning
Correction: the reference to the paper about Chinese “market socialism” reforms
http://www.bm.ust.hk/~ced/iea/Wu%20Jinglian%20IEA%20paper.doc
I have been reading this lively thread with great interest. I do not think of myself as an MMT advocate, and I gather that most of the commenters agree, yet I keep seeing them passionately claim as uiquely “MMT” views that are completely commonplace and that I, as a “mainstream” economist, have always taught as obvious truths. For example, Ikonoclast writes:
“A key MMT view is that taxes do not pay for expenditure. In one sense this is right. In another sense it is wrong but more of that later. MMT takes the view that the national budget creates all the dollars of expenditure for that year at the time the budget is brought down. MMT further states that taxes when collected extinguish the dollars thus collected”
Well, it happens that I am in the middle of teaching a monetary economics course right now, and tomorrow’s lecture addresses just this subject. One slide in my lecture (a slide that has been there for years) contains a set of T-accounts that demonstrates precisely this point: Collection of taxes extinguishes money, spending by the Treasury creates money, and when you consolidate the two T-accounts, the two transactions net out to no change in money. In exactly that sense, as Ikonoclast points out, the “MMT” proposition is both right an wrong.
Surprise, surprise! I’ve been teaching MMT for years and didn’t even know it.
Ikonoclast is right on the mark in saying that we have to distinguish between mainstream economics–here I mean truisms like assets=liabilities+net worth–and “man on the street” (MoS) economics. The trouble is exactly that MoS does not understand economics of any kind very well, including the truisms.
Here is a perfect example: Sometimes I take my students to a “money museum” set up by the central bank of the country where I am teaching. Among other displays there is a cube, about 18″ on a side, that contains paper bills in the local currency amounting to 1 million currency units. When I get back to the classroom, I ask my students the following question: WHERE DO THE BANKNOTES IN THAT STACK IN THE MUSEUM APPEAR ON THE CENTRAL BANK’S BALANCE SHEET?
Now, these are undergraduate students, still teenagers, and most of their preexisting knowledge is of the MoS school. 90% of them answer that the banknotes in the museum should be entered on the CB’s balance sheet as a 1 million unit asset. The other 10 percent–the ones who know a little bit about how central banks work–answer that the banknotes should be entered as a 1 million unit liability. Of course, both are wrong! The correct answer is the the banknotes in the museum are just a stack of paper and do not appear on the CB balance sheet at all until they are issued to the public in some way, for example, through an open market operation, or transferred to the Treasury which subsequently spends them on goods and services.
I can see from the “taxes extinguish money” thread here that members of the “serious” subset of MMTers agree with me that banknotes stored by the Treasury or CB are neither assets nor liabilities of the government, they are “nonmoney”, just paper. What many contributors to this discussion thread fail to realize that us “mainstream” economists know that and have always known it, along with many other “uniquely MMT” propositions.
At the same time, I would be willing to bet a large stack of colorfully printed paper that many participants in this discussion would have given the wrong answer right to my trick question about the banknotes in the museum. Clearly, there is an MoS version of MMT as well as the serious version.
The same goes for the view of whether sovereign governments can “go broke.” I think all mainstream economists recognize that there is a sense in which the answer is yes and a sense in which it is no. In the sense that they can always create new money to settle any financial obligation that has a fixed nominal value in their own currency, the answer is, almost trivially, that no, they cannot go broke. On the other hand, they face the inflation constraint, and under conditions of hyperinflation, governments can “go broke” in the sense that the cease to be able to buy real goods and services with any finite nominal amount of currency.
Zimbabwe is a perfect case in point. It had a sovereign currency and did not blush to print octillion dollar banknotes, but eventually the people they tried to buy goods and services from just said “no thanks, I’d rather keep this loaf of bread than sell it to you for 1 octillion dollars.” Instead, they just turned their back on the government and used substitute currencies, mostly euros and rand, for day to day transactions. The government ranted “no, you can’t do that! This is our sovereign fiat currency! You have to use it!” No one paid any attention. The government ranted “you have to pay your taxes and you have to pay them in Zimbabwe dollars!” People just said, “why should we pay taxes to you bunch of clowns?” and turned their back again. So the Zimbabwe government went broke despite its mighty printing presses. Seriously, I’d be very interested to read a good MMT analysis of the Zimbabwe hyperinflation. Know of any?
Ikonoclast is again right on the mark when he writes “It leads one to wonder why MMT advocates are so keen to make odd-seeming claims to emphasise their difference from Keynesianism in general. Perhaps one can put it down to what Freud called the “narcissism of minor differences”.
MMTers seem to share this narcissism of minor differences with some other small schools of economics. For example, I have hung out a lot with members of the Austrian school, and even edited a book once called “Foundations of Modern Austrian Economics” (I think you can find the text on line if you Google it). I like these Austrian guys, they are smart and have good ideas, but wow, are they ever heavy into the narcissism of minor differences. The sad thing is, although it gives them some kind of boost to their self-esteem, it hurts their ability to convince the world at large of the validity of that subset of their ideas that are both sound and original.
In the above mentioned book, I cited Milton Friedman as saying “There is no such thing as Austrian Economics–only good economics and bad economics.” (Friedman did recognize that Austrians, for example his Chicago colleague Hayek, had many good ideas.) I would say very much the same thing about MMT.
best work ever on the zimbabwe hyperinflation: “Zimbabwe for hyperventilators 101“, Bill Mitchell, billy blog (“Modern Monetary Theory … macroeconomic reality”), 29 July 2009 — Opening:
“Zimbabwe is the new Weimar Republic. Not! Zimbabwe is the front-line evidence that shows that government deficits will generate hyper-inflation. Not! Zimbabwe is the demonstration of the folly of a fiat monetary system. Not! Zimbabwe is an African country with a dysfunctional government. Yes!”
In regards to your original piece and fiscal sustainability, there’s a “serious version of MMT” paper on that topic: “Interest Rates and Fiscal Sustainability” Fullwiller, 2006 (http://www.cfeps.org/pubs/wp-pdf/WP53-Fullwiler.pdf).
I would be interested to know if you consider the position staked out in that paper to be minor differences relative to your view or mainstream consensus because it seems to lead to very different, even mutually exclusive outcomes at the policy level.
I confess to knowing little or nothing about modern monetary theory. Is this generally recognized as a mainstream current of thought in contemporary economics, or does it occupy a fringe position? Is MMT based on Milton Friedman’s notions? If so, given the comprehensive failure of Friedman’s conceptions when they were applied in Chile, this would seem to bode ill — but perhaps I misunderstand, or simply lack the required knowledge to evaluate MMT.
Could someone please elucidate?
TM: I’ll leave others to answer the part about Friedman vs. MMT, but let me say from personal knowledge that Friedman was very upset with a lot of the things his former students did when they went back to Chile. Number one of those, very, very damaging, was their decision to fix the Chilean exchange rate.