Modern Monetary Theory (MMT)

[Beet]

This is rather late to the game, but I thought we'd have a thread on this. There are many ways to approach modern monetary theory, but from a policy perspective, the implications on debt and deficits are perhaps the most significant:

http://hir.harvard.edu/debt-deficits-and-modern-monetary-theory

"The most important misperception is that MMT is in some way outlining an ideal or a new regime that could be introduced. The reality is that MMT just describes the system that most countries in the world live under and have lived under since 1971, when the US president at the time, Richard Nixon, suspended the convertibility of the US dollar into gold. At that point, the system of fixed exchange rates—in which all countries agreed to fix their currencies against the US dollar, which was in turn benchmarked in price against gold—was abandoned. So since that day, most of us have been living in what we call a fiat currency system.

In a fiat currency system, the currency has legitimacy because of legislative fiat: the government tells us that’s the currency and then legislates it as such. The currency has no intrinsic value. What gives it value, what motivates us to use the currency that the government suggests, is the fact that all tax obligations are denominated in and have to be extinguished with that currency. We have no choice. If you live in America, for example, you have to pay American taxes to the IRS with American dollars. So demand for the currency, otherwise worthless bits of paper, is driven by the fact that all tax obligations have to be extinguished with that currency. Once you consider that, then you immediately realize that the national government is the monopoly issuer of that currency. That means that the national government in such a system can never be short of that currency; it can never run out of money. It doesn’t need you or I to lend it money or you and I to pay taxes to get more money. It can never run out of money. That’s the first basic insight of MMT: governments are not constrained in their spending by a need to raise revenue.

If you extend that logic a little further, you might ask, “Well, don’t we pay taxes and buy bonds so that the government can spend?” Well, you first have to ask yourself the question, “Where do you get the money to pay taxes and buy bonds?” And the answer is that we can’t get our hands on the currency until the national government spends it. Spending is the prior act in a fiat monetary system; taxing and borrowing are following acts. In effect, the government is only taxing what it has already spent, and it’s only borrowing back money that it has already spent. Once you start pursuing this logic, you realize that most of the propositions that are occupying the current debate around the world are based upon false premises."

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I still don't know what to think of this (Krugman himself, who is to the left of Obama, won't accept MMT), but it certainly seems superior to the Bundesbank's thinking.

[Beet]

How does that belief square with a situation like the Eurozone or some other situation where the government doesn't have control of its own currency?

MMT assumes that issuance of currency is one of the inherent functions of a sovereign government. In other words, the Eurozone countries gave up a portion of their sovereignty and stopped functioning as fully sovereign governments the minute they joined the EZ. But the power to control currency still exists collectively within the EZ. It just sits with the ECB, and to some extent with the Bundesbank, rather than with national capitals.

[Beet]

Hyperinflation is a result of a government believing it can print as much as it wants and once begun it always ends far more disastrously for the economy that the troubles that occur because of an inability to raise revenue in the traditional sense.

Hyperinflation tends to be misused in debate. The most egregious examples of hyperinflation didn't happen in a vacuum, they happened at a time, or in the wake of, massive political upheaval. In the most egregious instances - such as Zimbabwe or Weimar Germany - political upheaval combined with a sharp drop in supply. The likelihood of anything approaching this happening in a modern advanced economy by an inadvertent 'mistake' in policy is virtually nil.

Yes, MMT proponents say the government can print as much as it wants, but that's hardly a controversial proposition. Centrists, conservatives, and even Ron Paul would agree that the government physically has the capability of printing as much as it wants. That is just a physical reality, not an economic theory. Where MMT is unique is that they see the trade-off between inflation and deficit spending as an explicitly policy decision.

MMT theorists would argue that they were simply describing reality as it has been for certain countries (the United States, to begin with) since 1971. Thus, MMT theorists would agree that there are limits to deficit spending-- however, they would argue that these limits are defined by inflation, and not by funding difficulty.

[Beet]

When the banks start lending again, is when the trouble really starts, as the cost of debt carry goes up exponentially, which at that point cannot be reduced simply by buying treasuries with fiat currency without sending inflation into the blast off mode.

At which point, if society chooses against inflation, it can simply execute austerity, or even induce a recession. That will get the banks to stop lending. The point is that it is a democratic choice, and not a false choice put by those who misunderstand and want democracies to be at the mercy of bond buyers.

[Beet]

Hyperinflation is a result of a government believing it can print as much as it wants and once begun it always ends far more disastrously for the economy that the troubles that occur because of an inability to raise revenue in the traditional sense.

Hyperinflation tends to be misused in debate. The most egregious examples of hyperinflation didn't happen in a vacuum, they happened at a time, or in the wake of, massive political upheaval. In the most egregious instances - such as Zimbabwe or Weimar Germany - political upheaval combined with a sharp drop in supply. The likelihood of anything approaching this happening in a modern advanced economy by an inadvertent 'mistake' in policy is virtually nil.

Fine, how about, rather than hyperinflation, severe chronic cases of regular inflation, like Brazil etc. throughout the 80s?

A real risk, particularly when there is an immature democracy and the money supply is in the hands of elected politicians. Inflation in Brazil rose sharply during that country's democratic transition. So it is something that should be watched for.

However, in terms of CPI, most developed countries today are far from that. More problematic, on the inflation front, is the amount of liquidity sloshing around in the financial system being used to speculate on things (such as oil) that poor people need to live.

However, none of that eliminates the principle, that for there to be true economic democracy, control of the money supply should be under democratic control, and the people should understand their role as guardians of the currency, both its power and its limitations.

[Beet]

However, none of that eliminates the principle, that for there to be true economic democracy, control of the money supply should be under democratic control, and the people should understand their role as guardians of the currency, both its power and its limitations.

But is economic democracy desirable?

Somewhat subjective, but democracy would hardly mean much without the economic dimension.