Tuesday, March 30, 2021

Reaganomics With a Human Face, Continued

Warren Mosler, godfather of MMT, at his St. Croix home, with Bloomberg's headline, "A Hedge Fund Guy Lefties Can Love". Really?

Commenter Iain Bason had some very useful issues with the Modern Monetary Theory post.

Caveat: I am not an economist, so don't take anything I say as authoritative! My impression is that the academic MMT people are upset at those who distort the theory that way, but I can't remember where I read about that. Maybe Naked Capitalism?

At any rate, I think you're mistaken (or maybe just glossing over the complexity) about budget deficits not causing inflation, as well as about printing money causing inflation. Even without the Fed simply buying Treasury bonds and then essentially burning them, which I understand it can and does do, simply having the same quantity of dollars being used in more transactions looks very much like increasing the money supply; just as having the same quantity of dollars sitting in a vault and not being used at all looks very much like decreasing the money supply.

The key insight that I gleaned from dipping into MMT articles is that financial constraints are a matter of accounting, which means that we can change them by changing the rules. (Not that that's necessarily easy; and changing rules tends to cause problems; but it isn't absolutely impossible.) Physical constraints, on the other hand, cannot be avoided. If I'm elected ruler of the universe on the promise to give everyone a pony, I may find it difficult to come up with the money to fulfill that promise, but I will find it impossible to breed enough ponies. (That is not an original example, but again I can't remember where I read it.)

My idea was you didn't need to be an economist to understand where the pop-MMT argument was going wrong, that it was chiefly a matter of rhetoric, and I may have been wrong about that, in the sense that the good-economics is as odd, intuitively, as the bad-economics, and may take more preparation than I thought. The post itself could have been a lot better written, as a matter of fact, and I think some of these issues arise because of problems in the writing, so I'd like to do some clarification, though it may mean sounding a lot more like an economist (which I'm not) than I wanted to.

"the academic MMT people are upset at those who distort the theory that way"

Naked Capitalism seems to dwell firmly on the academic side and stay away from polemics on the issue (the linked post even says something nice about DeLong, as offering an alternative path to the desired goal), but yes, there is that, though I don't follow the details enough either. Wikipedia explains,

A 2019 survey of leading economists by the University of Chicago Booth's Initiative on Global Markets showed a unanimous rejection of assertions attributed by the survey to Modern Monetary Theory: "Countries that borrow in their own currency should not worry about government deficits because they can always create money to finance their debt" and "Countries that borrow in their own currency can finance as much real government spending as they want by creating money".[79][80] Directly responding to the survey, MMT economist William K. Black said "MMT scholars do not make or support either claim."[81] Multiple MMT academics regard the attribution of these claims as a smear.[82] 

But I get the impression the dismay is more directed at critics than supporters, or people like Stephanie Kelton, who plays both sides, a respectable economics professor by day and a New York Times Best Selling Author of those distortions by night, implying that the assertions are true—if you can borrow in your own currency then you never need to borrow at all, because you can create money (or your central bank can create it and give it or pantomime-loan it to you) instead, without any particular limit:

"The Canadian government never needs to borrow its own currency, ever," [Kelton] explained in a recent interview. Instead, the Bank of Canada could purchase our debt, interest-free, "move it onto their balance sheet, hold it to maturity, stop issuing bonds and you'll be done with the whole thing." (CBC Radio, June 2020)

So today, governments sell bonds to protect something more valuable than gold: a well-guarded secret about the true nature of their fiscal capacities, which, if widely understood, might lead to calls for “overt monetary financing” to pay for public goods. By selling bonds, they maintain the illusion of being financially constrained. In truth, currency-issuing governments can safely spend without borrowing. The debt overhang that many are worried about can be avoided. (Kelton in Financial Times, May 2020)

Listening to the lecture, there was lots of information to absorb, and I wasn’t sure I understood everything. So I sent Kelton an email asking: If the government can’t run out of money, why does it need revenue?

Her answer was startling, to my non-economist mind.

“The federal government does not need revenue,” she wrote. “It literally holds the super-patent (if you will) on the U.S. dollar, as Alan Greenspan has explained many times. The government doesn’t need our money. We need their money. Taxes do a lot of things, but providing the government with the money it needs in order to spend isn’t one of them.” (David McCann/CFO Magazine, November 2018)

Except that you shouldn't do it if it's going to cause excessive inflation, because that's a problem:

Since the government’s budget deficit is, by definition, the difference between what it spends and what it collects in the form of taxes and other payments to itself, it may seem reasonable to call it “overspending” when the government spends more than it takes in. But it’s not.

As every economist knows, inflation — not a budget deficit — is the tell-tale sign of an economy that is under pressure from excessive spending. If prices aren’t accelerating, you don’t have an inflation problem. And if you don’t have an inflation problem, you don’t have a spending problem.

But as she must know, inflation stopped being a problem 40 years ago, as Fed chairman Paul Volcker developed the tools to stop it, which have worked like magic in times of high deficits and low, during the tax cut–created deficits of the W Bush and Trump administrations and the public investment–created deficits of the early Obama administration, ever since (they're not magic).

Via Fred.

She's saying, effectively, that there aren't any real problems at all—especially in the current context, in a fourth year of deficits approaching or exceeding a trillion dollars since 2018, and inflation precisely on target.

"you're mistaken (or maybe just glossing over the complexity) about budget deficits not causing inflation, as well as about printing money causing inflation"

I should have said, "Deficits do not cause hyperinflation", and clearer about what I mean by "printing money".

First, one more time,

  • Money supply is just the number of dollars in the economy, without regard to how much a dollar is worth, and the Federal Reserve is in charge of ensuring that it's the right number—or three numbers, actually: the monetary base (MB: all physical currency plus all Federal Reserve Deposits, deposits banks keep with the Fed as their own bank); M1 (MB plus demand deposits, travelers checks and other checkable deposits); and M2 (M1 plus savings accounts, money market accounts, retail money market mutual funds, and certificates of deposit of under $100,000), of deciding how many dollars there should be and making sure that's how many dollars there are, through its tools of buying and selling federal securities and manipulating interest rates and so forth, in accordance with its two basic goals of maintaining inflation at a particular target rate (around 2%), which it does very well since the 1980s, and maintaining full employment, which it hasn't traditionally done so well
  • The value of the economy is what its financial transactions are worth, to which everybody contributes, public and private, by getting and spending and laying waste our powers, as the poet said, and unlike the money supply it can't be controlled at all (though the whole government is supposed to work together to try to make it a good number)—only crudely measured, e.g., by the Bureau of Economic Analysis in the Commerce Department, which is in charge of calculating constant-dollar GDP
  • Inflation is the process in which the dollar becomes less valuable, a completely normal part of the functioning of a healthy economy as economic activity creates money faster than it creates the stuff to spend it on. It is measured most typically in the US by changes in the Consumer Price Index as calculated by the Bureau of Labor Statistics, and controlled, as I said above, by the Federal Reserve, with considerable success starting with Volcker's time as Fed chair, especially in not letting it get too high—they had a good deal of trouble getting it high enough in most of the years after the 2008 financial crisis 


So another way of defining inflation would be that it takes place when the money supply is rising faster than the value of the economy. This isn't a fancy statement of the causes of inflation, just the math of what it is; there are all sorts of different possible causes. In the same way you wouldn't say having a temperature of over 99 degrees is the cause of a fever. And the corollary is that

  • covering government spending by selling bonds--that's what I mean by "deficits"—doesn't (in and of itself) change the M2 money supply—it takes money out (from the bond buyers) at the same time as it puts money in, and is therefore not inflation (but what the government spends the money on makes a difference: Keynesian deficit spending adds value to the economy, which indirectly expands the money supply at the same time, leaving the proportion between money supply and value about the same; spending on subsidizing industries that don't create value, like obsolete energy sources, decreases the value of the economy relative to money supply and could be inflationary).
  • covering government spending by creating fiat money—what I call "printing money"—to pay the bills does change the money supply, putting money in without taking any out, and therefore is inflation, whether it's the Fed buying bonds (they don't burn them, but may hold onto them until they mature and stop paying interest, which amounts to the same thing), to catch up with increasing value or cushion against liquidity shocks (Quantitative Easing after 2008), which is good, or President Maduro writing checks that would bounce if there was an independent banking system, which is bad.

"simply having the same quantity of dollars being used in more transactions looks very much like increasing the money supply; just as having the same quantity of dollars sitting in a vault and not being used at all looks very much like decreasing the money supply"

Not quite. Keep in mind that it's the transactions, preparing goods and services and trading them, that create the money, not the government. All Treasury does is to print and mint the banknotes and coins and distribute them to the banks, to represent your money in your pocket or the pocket of whomever you trade them to for the stuff you want.  The Fed creates a bit of fiat money (not banknotes and coins) on the side or destroys it, depending on the circumstances. to keep the value more or less stable in a much better way than gold and silver used to do back in the day, but it's an extremely modest proportion of the money that actually exists through the economic activity of the people.

Not sure what Iain's thinking about, anyway. If you could hold the number of dollars constant and increase the amount of activity, you would be increasing the value of each dollar, which would be the opposite of increasing the supply, a kind of virtuous deflation. I think that must be more or less what fiscal austerity aims at: making your debt more and more valuable to your creditor and more and more burdensome to you, because creditors run those governments. But generally, when things are going well, transactions increase the money supply and the value of the economy, both, which is what you really want, a little inflation running ahead of the value.

Generally dollars hidden in a vault or stuffed in a mattress aren't doing anything to contribute to economic activity, so they don't seem like a very useful part of the money supply, except insofar as they provide some disaster insurance, which might encourage the holder to venture out and take a risk or two. If we're thinking about Quantitative Easing programs, those aren't the "same quantity of dollars" but new dollars: fiat money created by the Fed in unusually large amounts, in the form of cash for banks in return for bonds, which was supposed to encourage the banks to lend more money in the last financial crisis, to venture out and take risks, in spite of interest rates being stuck around zero. It was certainly an increase in the money supply, and meant to push inflation back up toward the 2% target, which it did up through 2014 (upon which Bernanke cut the program and inflation dropped back almost instantly to 0%).

What the Fed has been doing during the pandemic, buying huge quantities of not just longer-term bonds but corporate securities, and not just from banks but traders as well, with fiat currency, even as the Treasury takes huge amounts of cash out of circulation by selling shorter-term, bonds, is a much magnified version of Quantitative Easing. It's an approach that's consistent with MMT thinking, and I don't like it because such a huge proportion of the cash thus created goes to the very richest, but as I was saying the other day, look, it's an emergency, and not a time to be fussy.

"financial constraints are a matter of accounting, which means that we can change them by changing the rules."

I think the message of MMT is a good deal less savory than that: they believe the rules of accounting are a joke, or a deception to cover "a well-guarded secret about the true nature of their fiscal capacities" as Kelton put it in the passage above from Financial Times, because the government just doesn't want you to have nice things.

Because, at the center, Kelton and the pop MMTers claim to believe that borrowing and taxation don't pay for government spending, since government cuts and sends the checks first and sells the bonds and collects the taxes afterwards. From an interview last summer in Dissent:

I realized that some of the more jarring parts of MMT—like the claim that the federal government doesn’t spend “taxpayer money”—were sound. I worked through the mechanics and I could see that Wray and Mosler had the sequencing right: the government spends first and then taxes or borrows. Taxes weren’t paying for anything! That was totally new to me. I had been trained to believe that the government needs our money, and that the purpose of taxing and borrowing was to help the government raise revenue to pay its bills. That’s how I was trained to think about these things. But once I persuaded myself that the sequencing that I had been taught was wrong, that the government (or one of its agents) has to spend or lend the dollars into existence before anybody can use them to pay taxes or buy government bonds, then it just flipped my worldview around. I started seeing the federal government as the issuer of the currency, and everything follows from that.

That seems just silly, but behind it is the more sinister idea that the whole apparatus of post–Bretton Woods fiscal and financial management, the separation of functions between a Treasury inside the government and a central bank outside, could be just a pantomime; is the Treasury actually borrowing money from itself, and issuing bonds and collecting taxes out of some diabolical monetary strategy, while the Fed ought by rights to be writing fiscal checks to them instead of to banks? They seem to know all the details about the form and timing of each gesture made at the Fed or in the Treasury, but to regard them all as meaningless rituals meant to conceal the simple fact that they can do whatever they want and just don't choose to, just because we went off the gold standard. That can't be what going off the gold standard meant!

I want a less paranoid understanding, in which at least some of what you see is what you get. I like the idea of taxes, whereby we finance the benefits governments provide us, and those who get more valuable benefits pay more (Warren Mosler, the former "Tea Party Democrat" godfather of MMT, does not like taxes, and lives in the Virgin Islands so he doesn't have to pay any). I also like one aspect of borrowing, in which we are the lenders, whether it's buying savings bonds or being Social Security recipients owning all the Treasury bonds in the Social Security trust fund, and I'd like a lot more of that; and I especially like borrowing from anybody right now, when interest rates have been low for such a long time that it really is free money, not "fiat currency" magically paying the bills, and will dislike borrowing it later, when the interest rates go back up, and rich bondholders here and abroad (including China!) will be eating up a huge portion of the budget (maybe we should be working toward a tax system where we won't need to borrow so much when the time comes—oh wait, maybe we are!). And I'm not worried about inflation, so if Stephanie Kelton tells me that's the only thing I have to fear, then I'm not scared of her.

I feel there is something huge missing from MMT, which is the concept of value itself, and it really gives me the willies. Thank you for coming to my TED talk.

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