Institutions, Monetary Operations and a Demand-Led Global Economy

Macroeconomic controversies usually center on causation. Two questions of significance for policymaking concern output and growth:

  • Is output demand or supply determined?
  • Is economic growth demand or supply led?

If demand is the driver of output and growth, there will be considerable scope for government spending to influence the economy’s trajectory. If, instead, supply-side factors are determining, fiscal policy will be impotent other than possibly temporarily. Recent history suggests – much like the earlier history of the Great Depression and Second World War – that fiscal policy is important to the performance of the economy, and that demand matters. In my view, the causal significance of demand follows quite strikingly from Modern Monetary Theory’s institutional analysis of sovereign currencies together with the fully compatible Post Keynesian analysis of banking and endogenous money. Before getting into that, a brief summary of opposing positions on output and growth determination is perhaps warranted.

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Is Public-Sector Labor ‘Productive’ in a State Money System?

An issue that troubles me in relating Marx to Modern Monetary Theory (MMT) is whether to apply the ‘productive/unproductive labor’ distinction to production that is monetized in a state money. Although I am not especially enamored of the distinction in general, it is particularly its application to public-sector activity in a state money system that strikes me as problematic. I ask the reader to countenance two propositions:

Proposition 1. All public-sector labor in a state money system is productive.

Proposition 2. Proposition 1, if true, would alter none of Marx’s central theoretical conclusions.

If the following argument is mistaken, maybe someone can set me straight, and it will then be clearer how to proceed in future.

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The Monetary Circuit & Compatibility of Marx, Kalecki and Keynesian Macro

There appears to be a considerable degree of compatibility between Marx and various Kalecki- and Keynes-influenced approaches to macroeconomics. Compatibility, of course, does not imply that all these theoretical approaches stand or fall together. It simply suggests, to the extent that the compatibility exists, that it is possible to see them all as fitting within an overarching, open analytical framework. In this post, the compatibility is considered in relation to the private-sector monetary circuit of a capitalist economy.

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Corporate Relocations of Production to Low-Wage Areas

In view of the xenophobia that seems to be rearing its ugly head in various parts of the world, I broach this topic with hesitation. To be very clear from the outset, I am not an opponent of international trade. I do think there need to be controls and safeguards, and the ideal should be ‘fair’ and ‘managed’ rather than so-called ‘free’ trade. I think it is in the interests of any nation to develop a broadly based network of production to enable self-sufficiency in the event of external conflict. And moves to weaken sovereignty and democracy (such as through the Trans-Pacific Partnership Agreement and similarly notorious “trade” deals) need to be resisted. When it comes to the negative impacts of global capitalism, I am not inclined to privilege the interests of disgruntled westerners over workers in lower-income countries. Many westerners, judging by post-Second World War voting patterns, appear to have thought it perfectly okay for much of the world to be poverty-stricken and war-ravaged just so long as they retained their relatively high-paid jobs. It’s not clear why the workers of any particular country have the right to a job or income over anybody else. If somebody is going to miss out, why not westerners who only now react against the social and ecological calamity that is global capitalism, and even then in a misguided manner? The problem is the existence of war and environmental destruction per se; poverty amidst plenty per se; exploitation per se; the fact that many who want decent living conditions and the opportunity to contribute to society in a meaningful way are denied their chance. The mistreatment of a westerner is abhorrent; the mistreatment of anybody else, equally so. Having spelled out my starting point, I want to comment on a statement tweeted out by Donald Trump (hat tip to Matt Franko, who reproduces the actual tweets in this post).

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Value Creation in the Context of Demand Determined Output and Employment

This post concerns total value creation (Marx) in a context of demand-determined output and employment (Kalecki, Keynes). A ‘macro rule’ employed by Marx seems central to this connection. Marx held that, in real terms, an hour of average living labor “always yields the same amount of value, independently of any variations in productivity” (Marx, 1990, Capital, Vol. 1, Penguin Edition, p. 137). Value in ‘real’ terms is expressed as an amount of socially necessary labor time, whereas ‘nominal’ value is expressed in terms of a monetary unit of account. If it is true, as Marx maintained, that an hour of average living labor always creates the same real value, then at the aggregate level, total ‘productive’ employment provides a straightforward measure of ‘new value added’.

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The Preferred Policy Instruments of Functional Finance

In a recent post, JW Mason draws an insightful comparison:

Conventional policy and functional finance represent two different choices about which instrument to assign to which target. The former says the interest rate instrument should focus on demand and the fiscal-balance instrument should focus on the debt-ratio target, the latter has them the other way around. … In this sense, the functional finance position is less radical than either its supporters or its opponents believe.

Scott Fullwiler has explained (for example, in this five-part series) that functional finance, far from being reckless or radical if assessed on orthodox criteria, turns out to be “ricardian” as that term is employed by the mainstream. So, the leading Modern Monetary Theorists would likely agree that functional finance is not radical in this sense. What is “radical” – for want of a better word – is that functional finance, like much of currently heterodox macroeconomics, turns the current conventional wisdom on its head.

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Competition, for Marx, was Not Neoclassical Perfect Competition

Sometimes the view is expressed that Marx’s theory, while perhaps applying to an earlier, competitive version of capitalism, has little relevance to the era of ‘monopoly capitalism’ in which we supposedly live today. This view seems to result from mistaking ‘competition’ in Marx – and classical political economy, more generally – with neoclassical ‘perfect competition’.

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Investment Creates Saving

In explaining why it is investment that creates saving, and not the other way around, different economists have offered different ways of looking at the matter. Keynes (see previous posts here and here) distinguished planned (ex ante) from actual (ex post) investment and saving to note the way in which planned saving adjusts to planned investment via changes in income. Kalecki (discussed previously here) emphasized the initiating role of decision making. Firms can decide how much to invest, but not how much profit they will make, because profit depends on the spending decisions of others. Post Keynesian analysis of institutions and monetary operations suggests an explanation summed up with characteristic insight and clarity by Warren Mosler in the short video embedded below. The purpose of the present post is just to flesh out the explanation a little and highlight a few of its implications.

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Government Spending Under Alternative Operational Arrangements in a Nutshell

Three previous posts (here, here and here) outlined the operational differences and similar macro effects of some alternative approaches to government spending; namely, bond issuance to the private sector, interest on reserves, and overt monetary financing. Since these posts were quite detailed, it might be worth spelling out the short answer to what is going on in each case. Further details can then be found in the earlier posts.

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‘Overt Monetary Financing’ Poses No Special Inflation Risk

As discussed in the previous post, the net impact on balance sheets of the various approaches to government spending – (A) overt monetary financing, (B) sale of bonds to the private sector and (C) interest on reserves – is the same. There is a direct and immediate increase in net financial assets held by non-government as well as a creation of income. Both effects are equal in size to the amount of government spending. But in the case of method B, these effects are achieved in an inefficient and convoluted way that obscures the origin of government money, which in reality is created through the act of government spending or lending rather than being “borrowed” from the private sector. Even so, in outdated textbooks, the practice of auctioning bonds to the private sector has often been rationalized on the supposed grounds that methods A and C are more expansionary in their demand effects than method B, and so are claimed to carry a greater inflation risk. In truth, there is no difference between the three methods when it comes to the expansionary impact or inflation risk of government spending. There is a different effect on the composition of net financial assets, but no difference in the private sector’s enhanced capacity to spend or the demand effects of the government spending.

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