Friday, March 26, 2021

Reaganomics With a Human Face


Free lunch, photo by Bob Pennell, the Medford Mail Tribune, via USA Today.

I think I need to say something about "Modern Monetary Theory", in particular in its vulgar form, as the idea that, caricaturing a bit,

  • since we now know that deficit spending does not necessarily cause hyperinflation (at least since the gold standard for the US dollar was somewhat inadvertently dumped in decisions of the Nixon administration in 1971-73),
  • therefore, there is no reason to think about deficits at all, in planning increased social spending for the purposes of doing economic justice, and—oh, also, cutting, or not raising, taxes on the very well-to-do, no reason to worry about that either.

It's that last bit that got my attention, because I'm not an economist, like most of you, but an amateur human with some training in social science in general, who sometimes thinks about political economy and political morality, and my fondest dream has long been to work toward equalizing our situation, through the tax system, by getting the very rich to pay more. Lots more. Ever so much more, since the appearance of Thomas Piketty's Capitalism in the Twenty-First Century in English in 2014 gave me the courage. I told some relatively liberal online advocates of MMT about it, over the Twitter, some time ago: if there's no good economic reason for raising their taxes, how am I going to get it done? And they said, Don't worry about it! There are other reasons for taxing the rich! But they didn't offer me any reasons that would have any political weight.

That is—in other words—I started feeling as if the idea was being pitched as a justification for unlimited government spending on the poor, but was in fact a justification for not taxing the rich, a kind of Reaganomics with a smiling, liberal face, and I didn't want the economics to work out. And I really didn't like the thought that progressives like Senator Sanders and Rep. Ocasio-Cortez were looking warmly at it.

MMT-curious readers please note, I'm not turning into a deficit hawk! You haven't heard me complaining about 2020's $3.4 trillion deficit, or the additional $2-point-something trillion we're adding this year, and you won't! It wasn't even an economic feeling, in the first place, but a political one. But what I want politically is for the economic justification for the deficit to take a different form, in which the idea of taxing the rich and reducing inequality fits organically.

And I think at this point I'm comfortable talking about the economics in its own right, as a non-economist to non-economists,  as to whether the theory is or isn't correct. Which it really isn't, as I now confidently think. It's not a theory at all, in fact, at least in this form (and in its more respectable, academic form, I can't tell whether it's a familiar old theory in a lopsided perspective or just what Krugman calls it, Calvinball). 

It's a bamboozlement, in fact, based in the first place on fuzzy writing (which the staff at Rectification Central actually is kind of qualified to discuss, compared to most economists) including some very irresponsible blurring of two quite distinct things: 

  • the budget deficit, a shortfall of funds that must be made up for by borrowing through bonds issued by the Treasury department, which is definitely not inflationary, and 
  • the elimination of the deficit with "fiat currency" advocated by academic MMT, in which the Federal Reserve would simply write the Treasury a check to make up the shortfall, basically the way the Fed actually does write checks or "fiat money" to buy bonds from private sellers, to increase the base money supply, which is inflationary on purpose (it's part of how they drive the inflation rate up when they want to).

Inflation is when there is more money in circulation in a country than is needed for the level of its economic activity, decreasing the value of the money (and increasing the numbers on the price tags), and  one of the things that can traditionally bring it on is when the government puts too much money into circulation, especially by printing it (the original "fiat money"), in order to pay for its own expenses, or by borrowing it, creating a budget deficit. When you print enough of it, as in Germany in 1921 or Zimbabwe between 1998 and 2008, you create enough of a mismatch between the money supply and the economic activity as to bring on hyperinflation, a plunge in the value of the currency to worthlessness. When you borrow it, you don't directly affect the money supply at all (the federal government's liability for a Treasury bond is an asset for the owner of the bond, so it balances out). 

Treasury is an actor, affecting the value of the economy; The Fed is a mirror, reflecting the value. These functions can't be confused without distorting the whole (think not Weimar Republic or Venezuela but the old "we pretend to work and they pretend to pay us" Soviet bloc, where the government was also the capitalist, and the value of the currency was a complete illusion, where the exchange rate when you traded your marks or dollars for their crowns or rubles at the official place was completely unrelated to the black market rate in town, and being able to spend marks or dollars was the key to a whole world of luxury and color hidden in the Communist dean). 

Deficits DO NOT CAUSE inflation. Erasing the deficit MMT style, with the stroke of a pen, almost certainly would, just as much as the unrestrained use of a physical press to print physical banknotes and using them to buy everything in sight. But the MMT polemicists don't necessarily let you know that's what they're talking about. Thus Stephanie Kelton, the guru of the "progressive" MMT advocates, on the March 2020 stimulus:

In 2020, Congress has been showing us — in practice if not in its rhetoric — exactly how M.M.T. works: It committed trillions of dollars this spring that in the conventional economic sense it did not “have.” It didn’t raise taxes or borrow from China to come up with dollars to support our ailing economy. Instead, lawmakers simply voted to pass spending bills, which effectively ordered up trillions of dollars from the government’s bank, the Federal Reserve. In reality, that’s how all government spending is paid for.

But this is not what happened, at all. The Treasury department leapt immediately into borrowing many trillions of dollars by issuing securities
in order to finance the enormous addition to the deficit, while the Federal Reserve moved to buy enormous quantities of different securities, from private sellers, using "fiat money" as always, to beef up the money supply as Covid slowed the economy to a halt, so that both the amount of debt owned by the Fed and the amount of debt owned by the public increased spectacularly at the same time.

While investors (not as it happens the Chinese government, which was dumping them all year) acquired tons of new bonds from the Treasury at not very attractive interest rates but also tons of cash for their old bonds from the Fed, and of course Wall Street profits soared, as did poverty rates at the same time. Far from being the simple and beneficent. piece of financial legerdemain depicted by Kelton, it was a massive enrichment of the already wealthy at the expense of the already poor.

Which was not such a totally terrible thing, perhaps—the pandemic really was a dire emergency, and it wasn't a time for being choosy about methods of finding the money, and the more important thing to complain about is the stinginess of the spending side—but I'd prefer to see some taxes on the wealthy in the mix, as we will in Reconciliation II.

This confusion between what the Treasury does to finance deficits (not inflationary) and what the Fed does to regulate the money supply (as inflationary as it wants to be, meaning normally not at all), and focus on deficits in cases where they really aren't the issue, is all over the place in MMT publicity, as in the Twitter exchange with an MMT maven that got me going:

Note the inability to recognize that the deficits Krugman disapproves of are the ones created by W. Bush's and Trump's enormous tax cuts, and the ones he likes by Obama's big spending after the 2008 financial crisis. There are good deficits (public investment/decreasing inequality) and bad ones (transfer to the rich/increasing inequality). Meanwhile, you see the confusion between deficit spending and deficit erasure enshrined in Warren Mosler's language: "untaxed federal spending (money creation/deficit spending)".

Mosler, by the way, regarded as the father of the theory, was a Democrat at the time but also a hedge fund operator emerging from the 1997 Asian currency crisis, when he fell into some suspicious company:

Excited to share his various economic theories, Warren met economist Arthur Laffer through a referral from Donald Rumsfeld. At a meeting of Social Policy in NYC, William Vickrey suggested Warren to seek out postkeynesian economists L. Randall WrayBill Mitchell, and Stephanie Kelton to discuss his ideas.

I hate to practice guilt by association, but you can imagine Laffer thrilling to the idea of a new excuse for never raising taxes.

Our good friend Boswood, who I am trying to deprogram on this subject in the confidence that he's extremely intelligent and will eventually get it, brought inflation into the discussion

Etc. I don't lose the sense, at any point, that MMT adherents are looking for that fabled free lunch, where the poor can be taken care of without the rich making any sacrifice. The smushing of tax cuts and spending hikes as being the same thing is how they make the argument work, and it really is Reaganomics, or the "compassionate conservatism" of the following decade, and it can't work, except—

Something Brad DeLong just inserted in his SubStack a couple of days ago, about an actual free lunch being available, when interest rates are especially low:

  1. Suppose the real interest rate on government debt r is less than the proportional rate of growth of per capita income g (or, possibly, g+n, the sum of that growth rate g and the population growth rate n—it depends on your view of equity across generations and with respect to immigrants).

  2. Then the economy lacks sufficient safe assets with which to transfer wealth securely from the present into the future.

  3. And then there is no cost to government borrowing: rather than government borrowing being something that requires a government to offer value to its counterparties and thus draining resources for other uses, keeping its counterparties’ wealth safe is something the counterparties are willing to pay for, and is a profit center for the government, increasing the resources that it can use for other purposes.

The immediate and powerful implication is that there is a free lunch for the government to grasp by issuing debt, and continuing to issue debt unless and until such debt issue raises the real interest rate r on government securities up to the growth rate of per capita income (and perhaps the sum of that rate and the population growth rate).

You see what I'm thinking? If we could keep that particular r < g forever (tax policy could help by penalizing excessive gains! as it did in the postwar boom/trente glorieuses!) we could make that lunch, not exactly free for the wealthiest among us, last a very long time. Not sure that's what Professor DeLong was aiming at, but there's already more to it than fantasies about the Fed writing checks without asking what the consequences might be.

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