Yes Virginia, there really is Modern Monetary Theory | FT Alphaville

Yes Virginia, there really is Modern Monetary Theory

A five-page article in the Washington Post by Dylan Matthews over the weekend, finally thrust the theory of Modern Monetary Mechanics into the mainstream.

This was exciting news for fans of the alternative economic school, more popularly known as MMT, which asks people to think of money, credit and tax in a completely different way to what is usually considered conventional in economics.

All in all, we have to say, the article did a good job, at least when it comes to explaining the origins and basics of the theory. As a primer it worked well.

Though, as might be expected, especially when communicating new economic theories to the masses, the article did gloss over some elementary points, and sided with what might be considered ‘safer’ middle ground conclusions.

MMTers have understandably rushed to point out the article’s shortcomings.

Stephanie Kelton, a key advocate of the theory at the University of Missouri-Kansas City, for example, responded as follows:

It was very nice to see Dylan Matthews, who is a young journalist and not an economist, recognize the growing influence of MMT. The piece does get a number of things wrong (perhaps inevitably, given the sheer volume of work we have produced over the last 10-15 years).

We’ll be working to clear things up on our various websites (including: new economic perspectives and via our Twitter feed @deficitowl). We hope readers will not jump to erroneous conclusions about MMT. We have gotten a great deal right over the years (the S&P downgrade, the Eurozone debt crisis, QE, US interest rates, inflation, etc.). While the Austrians screamed, “Zimbabwe”, we explained that QE is nothing but an asset swap and that idle reserves — whatever their magnitude — will not “chase” any goods.

And while “Keynesians” worried about the impact that large deficits would have on US interest rates, we calmly explained the flaws in the loanable funds framework and insisted that rates would remain low as long as the Fed was committed to low rates (as the Bank of Japan has shown for decades). And while Nobel laureates, like Robert Mundell, were espousing the virtues of a common currency in Europe, we warned that the new design would put bond markets in charge of government policies. At some point, being right should actually count for something.

Michael Hudson, President of The Institute for the Study of Long-Term Economic Trends (ISLET), who happens to be an expert in the economic origins of civilization, put out an even punchier retort via the following message board:

I was appalled at the ignorant article in the Washington Post on MMT. It repeated the usual canards. Most serious are the following:

“With it (a federal budget deficit), inflation would rise, and so would the prospects of hyperinflation.”

No. Look at the mental switch here: Inflating BOND prices by bidding them up (thus lowering interest rates) is assumed to inflate CONSUMER prices and COMMODITY prices. But interest rates are an ELEMENT of price, so this element of their cost comes DOWN.

The past 30 years – since interest rates peaked at over 20% in 1980 – have seen the largest bond market rally in history. But consumer and commodity prices have NOT followed suit.

The Bailout created the greatest jump in public debt in American history. But again, consumer prices and wages did NOT rise. The aim of the bailout was to support the price of real estate, and especially that of packaged junk mortgages.

That is the basic failure of MV=PT. The “P” refers to consumer prices. Where are asset-prices? Where is the role of asset-price inflation? There is no market in financial securities, no WEALTH in the junk-Keynesian, crypto-neoclassical view of Samuelson etc. He is applauded precisely for NOT understanding that there is a financial sector and that 99% of money is spent on financial instruments (bonds, mortgages, packaged bank loans, stocks, and now derivatives). He focuses on 1% of the money supply, and acts as if the economy indeed still operates on barter.

But even in the Stone Age and Bronze Age it operated on credit, not barter. So we are not even talking of an anachronistic theory here, but a parallel universe that never existed – and when you think about it, never COULD have come into being. I think Milton Friedman once said that his theory really would work only for a Communist economy – that is, one without speculation in financial claims on wealth.

Jared Bernstein, chief economist and economic adviser to vice president Joe Biden, while pleased that MMT was finally getting a public airing, expressed that some points had been clearly misrepresented — that’s despite the fact that he himself questions some of the MMT thesis:

This emphasis on using the tools of government, including the ability to print money and run large budget deficits in times of market failure, is MMT’s most important contribution to the current debate. On specifics, I thought the piece intimated that MMT’ers’ fiscal policy operates largely through tax cuts and increases. I don’t think that’s correct—I know for a fact that Jamie G, for example, favors investment in public infrastructure. That’s important, because while tax cuts are a breeze politically, they’re less effective relative to most other types of stimulus, and they’re awfully hard to unwind (this is a political flaw to MMT, btw…they seem to believe they can reverse the potential inflationary impacts of printing money by raising taxes on a dime).

You get the drift.

The reaction, of course, is interesting because it shows to what degree MMT really does represent a paradigm shift in economics. If you can’t flip your brain into MMT mode, try as you might, you’ll never really understand what they’re going on about.

In fact, we think it’s a bit like feeling ‘the force’ or being able to see the image in an autostereogram (you know, the one you’re supposed to stare at until a 3D image pops out in front of your eyes).

Hence all the confusion and misunderstanding. More on how we interpret things in our follow up post.

Related links:
On misunderstanding QE – FT Alphaville
Modern Monetary Theory’s Big Weekend: The Problem with Surpluses