Krugman Mentions MMT Again …

In “What are Taxes For?”, Paul Krugman chooses to mention MMT again, though only in passing on this occasion. Krugman’s post follows recent consideration of MMT by Brad DeLong, Nick Rowe and Steve Randy Waldman. Much of the disagreement expressed by these economists appears to stem from misunderstandings of monetary operations, but implicit assumptions over long-run employment determination and the nature of interest also seem to contribute to the differences in perspective. In this post, I want to explore these points a little, using Krugman’s brief remarks as a springboard for the discussion.

 
Operational Aspects of Deficit Spending

Krugman’s remarks seem to reflect a simple misunderstanding of monetary operations. Bill Mitchell has already provided a response at billy blog, as has Tom Hickey here. I haven’t had a chance to check everywhere yet, so apologize if I’ve missed others.

Krugman writes:

So taxes are, first and foremost, about paying for what the government buys (duh). It’s true that they can also affect aggregate demand, and that may be something you want to do. But that really is a secondary issue.

Krugman seems stuck on the notion that taxes “fund” government expenditure, when it is clear that this is operationally impossible for a sovereign currency issuer. The act of government spending results in a net increase in financial assets held by the non-government. The government subtracts back out some of the net financial assets it has already created through taxation.

If this point is all that is preventing Krugman from “getting” MMT, simply reading Warren Mosler and Mathew Forstater’s A General Analytical Framework for the Analysis of Currencies and Other Commodities would presumably clarify the matter.

For a currency issuer, taxes are not first and foremost (in fact, not at all) about funding but about ensuring a demand for the currency. If there were no tax obligation, there would be no imperative for the non-government to get hold of the currency and little reason for the non-government to part with real goods or services in exchange for seemingly worthless pieces of paper or credits in bank accounts. In short, without the tax obligation, there would be no compelling reason for the non-government to transact with government. Once a tax-driven demand for the currency is established, taxes can then function as a moderator of demand (but never a source of funding).
 

Appropriate Level of Deficit Spending

Upon noting that a currency user such as a state government in a federal system must fund its spending, Krugman writes:

Does the same thing hold true for the federal government? Well, the feds have the Fed, which can print money. But there are constraints on that, too — they’re not as sharp as the constraints on governments that can’t print money, but too much reliance on the printing press leads to unacceptable inflation.

The operative words here are “too much reliance”. Nobody – certainly not MMT economists – argues for excessive government net spending. Rather, they argue that the budget deficit should be consistent with full employment and price stability. (See Krugman and Galbraith on Deficits.)

When the government spends on real goods and services, the act of spending is at the same time a transferral of real resources to the public domain. This transfer of real resources is independent of tax measures (provided there is already a tax-driven demand for the currency) and occurs even if government tax revenues remain constant. The question then becomes, will this transfer of real resources be inflationary? After all, some resources that might have been purchased by the private sector have been purchased by the government.

The answer, of course, as both MMT economists and Krugman would agree, is that the spending will only be inflationary if the additional demand exceeds the capacity of the economy to respond at current prices. At full employment and full capacity, the transfer of real resources to the public sector would leave less resources available for purchase by the non-government. If there was no extra taxing alongside the additional expenditure to subtract non-government spending power, inflation would occur.

But if, instead, as is currently the case, there is unemployment and excess capacity, it is more likely that the additional government expenditure will simply induce greater output at current prices. Under competitive conditions, firms with excess capacity will tend to respond in this way. The transfer of some resources to the public sector, in these circumstances, will not prevent the non-government from obtaining what it demands.

Now, as noted, Krugman would agree with this. He has consistently argued for stimulus to make up for weak private demand, and also recognizes the fallacy of composition in expecting wage reductions to generate employment, although in orthodox fashion he links this to a so-called liquidity trap in which interest rates have reached a lower bound.

 
Controversy Over Long-run Employment Determination

So what is the source of disagreement when it comes to the long-run effects of budget deficits? On one level, it may just be a matter of Krugman being unfamiliar with the monetary operations. But there are also other fundamental differences between Post Keynesianism (including MMT) and the orthodoxy that might be impeding understanding.

Most notably, as has recently been emphasized by John T. Harvey, the presence or otherwise of a long-run automatic tendency to full employment is a central point of contention. The orthodoxy implicitly assumes that the economy gravitates to the level of real output associated with the so-called NAIRU in the long run. In this view, the price mechanism will eventually ensure full employment irrespective of non-government net saving decisions. In particular, it is implied that once the economy escapes the liquidity trap, private investment will respond to price signals and real interest rates in such a way as to ensure this gravitation.

Now, if the economy were really predestined to return to full employment in the long run, as the orthodoxy implicitly supposes, then any budget deficit would merely be delivering the same employment outcome that would eventually be achieved without fiscal stimulus, only with a higher proportion of public-sector demand. In the absence of this deficit expenditure, the orthodoxy implicitly assumes that interest-rate adjustments would eventually induce sufficient private investment to generate full employment. But if deficit expenditure were used to establish full employment instead, there would be less room for private investment and a need to raise taxes to avoid inflation.

This supposed automatic tendency to full employment is essentially Say’s Law for the long run, in which orthodox causation goes from saving to investment, leakages to injections and supply to demand, even though the orthodoxy does acknowledge Keynesian causation (the reverse) in the short run. In this view, full employment is guaranteed irrespective of fiscal policy, which will only influence prices. An implication is that the amount of real consumption that will be undertaken now and for all time is fixed and that all we are doing when the government increases net spending is altering the intertemporal pattern of that consumption through time.

But if, in reality, there is no automatic tendency to full employment, this is not the case. It becomes clear that there is unemployment now and quite possibly unemployment in the future, and therefore real consumption possibilities both now and in the future may be forgone because of insufficient demand. If there is no automatic tendency to full employment, restricting demand now through fiscal austerity will do nothing to increase future real consumption possibilities, and in fact will reduce them by causing missed investment opportunities in the present.

In contrast to the neoclassical orthodoxy, Post Keynesian (and MMT) economists do of course reject the notion of an automatic tendency to full employment, including in the long run. It is a fallacy of composition to think that the price mechanism can guarantee a particular level of output and employment, even with flexible real wages and interest rates. This was the position of Keynes and Kalecki. Their arguments did not depend on wage or price stickiness. Further, the capital debates made clear that real interest rates cannot be relied upon to induce private investment consistent with full employment, quite apart from any liquidity trap.

Instead, it is non-government net saving behavior that determines the appropriate level of the budget deficit. This behavior, in turn, primarily depends on political, institutional and distributive factors, not interest rates. From a Keynesian perspective, interest rates can influence the form in which savings are held but not the level of saving in any direct or predictable way. Institutional factors include properties of the welfare system – e.g., the presence or absence of universal pensions, unemployment benefits, health care services, etc. – which can all be expected to influence the desire to net save. Different propensities to spend among various income groups mean that distribution will also clearly impact on net saving desires. There are no grounds for expecting interest-rate movements to induce a net saving desire consistent with a particular deficit/GDP or debt/GDP ratio.

Over the long run, different societies will exhibit different saving behaviors, and the same society can exhibit different behavior under different institutional settings and political circumstances. On the demand side, what matters for employment and price stability is the size of the deficit in relation to non-government net saving behavior. If, as Post Keynesian and MMT economists suppose, there is no guarantee of full employment in the absence of appropriate fiscal policy, it makes no sense to claim discretionary fiscal actions today inevitably require reversal tomorrow. The appropriate level of taxes will vary over time with movements in private-sector demand and net saving behavior.
 

Controversy Over Interest

Related to the orthodox notion of an automatic tendency to full employment is a flawed conception of interest rates. For the orthodoxy, the interplay of real factors (productivity and thrift) is conceived to determine the real rate of interest in the long run. Excess saving will supposedly bring about lower real interest rates and induce stronger private investment. Post Keynesian and MMT economists, in contrast, point out that there is no mechanism in a modern monetary system akin to a ‘loanable funds market’ determining the real rate of interest on the basis of productivity (marginal product of ‘capital’, well known to be an invalid construct) and thrift. Rather, interest rates are a distributive variable and ultimately subject to policy control (see Scott Fullwiler’s Interest Rates and Fiscal Sustainability, or for an informal discussion Interest, Money and Crisis.)

MMT economists recognize that the short-term nominal interest rate is set exogenously as a matter of policy. Irrespective of the chosen interest-rate target, demand-pull inflation can result only if fiscal policy is too expansionary relative to the capacity of the real economy to respond to all demand at current prices. Since, in this view, inflation is controllable through the fiscal stance, and the short-term interest rate is set exogenously, the real short-term rate of interest is ultimately controllable by policymakers, not markets or real factors.

Rather than having a natural determination, the choice of interest rate is above all a distributive (political) decision. It concerns the degree to which income is to be transferred from producers (real economy) to non-producers (rentiers, pensioners, savers, etc.). For that matter, the existence of interest itself is purely a political choice. The transfer from producers to non-producers could be carried out in alternative ways that involve no creditor-debtor relationship, for instance through direct fiscal transfers carrying no interest obligation. Longer “investment rates” are also a function of a particular social arrangement in which the risk and benefits associated with innovation and economic development are not fully socialized.

The capital debates demonstrated that there is no basis for expecting interest rates to reflect productive contributions in the sense supposed in neoclassical theory. The very notion of the price mechanism providing a natural measure of productive contribution based on the marginal product of ‘capital’ is completely without basis (see Nobel-nomics). Ultimately, the rate of interest targeted by the central bank as part of the consolidated government sector over the long run reflects ideology and power. It does not determine the level of demand, output or employment independently of fiscal policy, if in fact it has much impact on these variables at all. Its impact is primarily distributive.

Share

79 thoughts on “Krugman Mentions MMT Again …

  1. I think the following argument should put a nail in the coffin of the idea that taxes fund spending for the currency issuer:
    It is possible to imagine a state of the world in which the govt spends without ever taxing. And there being no inflation if all the spending is absorbed by savings and increased productivity. But it is impossible for households and the rest of non-govt sector (i.e, any currency user) who have to obtain funding first and spend later.

    Regarding interest and investment, I found this in the NYTimes, (from U of Chicago prof, nonetheless!):

    Our findings for the business sector are quite different from the usual story. Chart 2 compares the profitability of business capital to the inflation-adjusted return on Treasury bills, and the correlation is negative.
    […]
    The evidence in Charts 1 and 2 suggests that the housing market can be stimulated by easy monetary policy, at least in the short run. But the link between monetary policy and the business sector is much weaker, and our data are consistent with the view that, holding constant the rate of inflation and the amount of banking regulation, monetary policy does not have a discernible effect on the cost of business capital.

    What do you think?

  2. Peter,

    In the last MMT debate on Krugman’s blog (“Deficits and the Printing Press”), Jim Baird at Comment 133 made the following point:

    “Which lead to the second point: your concern about bond vigilantes bidding up interest rates misses the dynamics of a fiat money system. Briefly, government spending adds reserves to the banking system, which can only be drained by government action (either Treasury or Fed): any non-government transactions merely move reserves from one owner to another. This is unlike the debt of say, a U.S. state or a Eurozone country, for which there are always substitutes – people have a choice about where they can put their money. There is no such choice in the case of Treasury debt. Ultimately, Treasury bond holders must accept any rate the government offers, or hold non interest paying cash instead.”

    I was wondering if you could elaborate on this point. Here is my interpretation of what Jim is saying: Even though an individual can choose to invest his cash in something other than a Treasury (such as a stock or corporate bond or a mutual fund), once cash has been injected into the economy through government spending, the economy as a whole, at the macro level, has no choice other than to invest in a Treasury bill, note or bond if it does not wish to be invested in cash. This is because the cash remains in the nongovernment sector unless and until it is removed from the nongovernment sector in a transaction with the government (either the government taxes it away or exchanges it for a Treasury). An individual can get rid of the cash by investing, for example, in a stock, but then the seller of the shares of stock ends up with the cash. That person could, in turn, get rid of the cash by investing, for example, in a corporate bond, but then the person who sold him the bond ends up with the cash. In other words, at the macro level the cash will ultimately still wind up as a deposit in a bank account somewhere in the system (and a corresponding reserve account at the Fed). Ultimately that money will end up purchasing Treasury debt, as that is the only alternative to holding non-interest paying cash. Looked at from this perspective, this really means that any talk about the US losing access to the bond market is complete nonsense. It’s not possible. Do I have any of this right or am I missing something here?

  3. Peter D: Thanks for your interesting comment.

    I think the clearest point to communicate is that it is impossible for anyone to pay taxes until the government spends simply because taxes must be paid in the currency of issue. People have to get hold of the government’s fiat money (which requires some people in the private sector to transact with government) before taxes can be paid.

    Regarding the thought experiment of a system with government spending but no taxes, it’s hard to see how a mixed economy could operate without taxes, unless some other form of compulsion was involved in transferring resources from the private to public domain. The taxes are needed to drive demand for the currency. I suppose taxes could conceivably be zero for a period of time provided there was the expectation of taxes being re-imposed at a later date, since then there would be impetus to get hold of the currency for the purpose of future tax payments.

    In a socialist society with purely public provision of goods and services, the absence of taxes is definitely conceivable, but then so too is the absence of money.

  4. Joe: Excellent comment. I think your interpretation of Jim Baird’s point is correct. It is clear that, in aggregate, the non-government cannot rid itself of reserves without transacting with government. And I agree with you completely that talk of bond vigilantes is nonsense. You may have seen this post at billy blog:

    Who is in charge?

  5. Joe, that is correct except that the government could pay interest on reserves. In fact at the moment cash has a higher yield than short term treasury bonds. A nice little gift for the banks.

  6. @peterc:

    >Regarding the thought experiment of a system with government spending but no taxes, it’s hard to see how a mixed economy could operate without taxes, unless some other form of compulsion was involved in transferring resources from the private to public domain. The taxes are needed to drive demand for the currency.

    The idea was to refute what I see as Krugman’s point that one way or another taxes pay for the govt expenses (a similar point made by Nick Rowe, I think (Nick Rowe invokes IGBC, but it is related). I say, there is a state of the world where the govt taxes 0 but is able to spend. Hence taxation is not a necessary condition for spending.
    Now, while taxation (or, more precisely, the ability to enforce taxation) is a sufficient condition for creating demand for currency, it is not a necessary one. Or, once the initial demand for currency is established, other factors such as convenience can kick in and substitute for the taxation. Again, it all depends on the state of the world. Theoretically, we could have any debt-to-GDP ratio if saving desires were high enough. A point explored to some extent on Winterspeak

  7. “Krugman seems stuck on the notion that taxes “fund” government expenditure, when it is clear that this is operationally impossible for a sovereign currency issuer.”

    .. is precisely wrong because taxes fund government expenditure!

    The fact that government’s expenditure can/should/is higher than tax receipts is a slightly different statement.

    Lets talk operational realities … taxes paid in the US go the Treasury’s TTL account and the Treasury moves the funds to the TGA before spending.

    Operationally too, taxes fund expenditure!

  8. “Operationally too, taxes fund expenditure!”

    They don’t.

    The float buffer funds government expenditure.

    If taxes funded government expenditure, the government would regularly run out of money before the twice yearly tax payment periods.

    As Warren puts it, the expenditure part of government doesn’t ring up the debt management office before they issue welfare cheques.

  9. “As Warren puts it, the expenditure part of government doesn’t ring up the debt management office before they issue welfare cheques.”

    The debt management office checks up regularly with the tax offices and expenditure offices (whatever they are called). I am sure they send reports to each other regularly.

    Governments do keep an eye on the public debt/gdp ratio as can be observed so clearly. So government expenditure can be thought of as dependent on this and not independent of it. This can be clearly seen in the US and the UK.

    Its a different matter to say that they don’t need to do so and things along those lines.

    There are sophisticated way of putting the punch across .. such as … unlike the expenditure of the the household sector, which depends on its income (and wealth), the government’s expenditure should be thought of differently.

    However, its a bit complicated and unfortunately doesn’t appeal to everyone. But doesn’t mean one can resort to “duh” (as per Krugman).

    “If taxes funded government expenditure, the government would regularly run out of money before the twice yearly tax payment periods.”

    Not really, the government finances the difference by borrowing from the markets and can take a draft at the central bank in certain circumstances (such as extreme market conditions)

    I know the punch, but I am sure it gets lost if presented this way… such as “shredding notes” which ontologically does not happen. (only to the extent that the notes are worn out, but no connection with taxes really)

  10. Taxes only need to fund govt expenditure ex post, and as such cannot really be thought of as “funding”, which for everybody else is ex ante. That’s one. The other thing is, Ramanan, we’re getting again into the general vs. specific territory here. MMT says that the govt can spend even without taxes if the non-govt sector is willing to either save the currency or tolerates inflation. The fact that today there is a sophisticated smokes and mirrors that is fooling everybody into believing that taxes fund govt expenditure (with bonds picking up the slack) is understood.

  11. “and can take a draft at the central bank in certain circumstances (such as extreme market conditions)”

    If they take a draft they are printing money to spend it. The government owns the central bank…


  12. “and can take a draft at the central bank in certain circumstances (such as extreme market conditions)”

    If they take a draft they are printing money to spend it. The government owns the central bank…

    Sorry what ?

  13. “The fact that today there is a sophisticated smokes and mirrors that is fooling everybody into believing that taxes fund govt expenditure (with bonds picking up the slack) is understood.”

    Yeah but whats wrong with it ? The government borrowing requirement is equal to the difference between expenditure and income.

    I understand that there is a smokes and mirrors … and one can choose one kind of language … however, if another person uses the standard language .. one shouldn’t be offended by it … because taxes funding the government is not wrong usage.

  14. So, Ramanan, “don’t pay attention to the man behind the curtain”?
    I mean , this is like saying that brakes allow a car to move.
    Taxes “funding” govt spending creates the wrong impression that the govt cannot spend without taxing. The correct way would be something like: “taxes counteract the inflationary effect of govt spending”. Or “taxes allow the govt to spend without causing too much inflation”.

  15. Taxes fund government would true at the macro level if the people who want a government so small that only banks created money. Then the taxes would have to come from nongovernment money creation. However, with the present system, taxes come from net financial assets created by government expenditure, which must be present before taxes are paid.

    We had this discussion in depth in Marshall’s latest at Warren’s, and the MMT economists pointed out there and later elsewhere the difference between temporal priority, to which Ramanan and Anon refer, and logical priority, which MMT’ers assert.

    I have seen nothing new added since then, just the different parties repeating their respective positions. Let’s move on a step or agree that we disagree. This is going nowhere.

  16. Tom, if one defines what “fund” means exactly then there shouldn’t be a problem of misunderstanding, I think. It is the fuzzy language that causes the confusion. When by “funding” people mean something other than “the need to obtain funds first to be able to spend later”, or, similarly, when by “solvency” people mean “debasement”. Etc.

  17. “I have seen nothing new added since then, just the different parties repeating their respective positions. Let’s move on a step or agree that we disagree. This is going nowhere.”

    While I agree this argument goes nowhere with the Neochartalists, they have to realize it themselves -that’s the point. I am merely pointing out the inherent pitfalls in the usage of such anti-language. This becomes obvious when they quote someone who uses such language and the narrative even goes to the extent of trying to prove that its “operational reality” by giving examples that tax payments by cash is shredded.

    Its an overkill. And the overkill is counterproductive.

    “When by “funding” people mean something other than “the need to obtain funds first to be able to spend later”

    There goes the gold-standard anti-analogy for a toss then 😉 Governments had overdrafts at the central bank then and would spend by overdrafts.

    Anyway I am done for now.

  18. Ramanan, MMT economists, specifically Scott and Bill, have explicitly rejected this view as stated so far. They aren’t going to “realize it.” They don’t accept the argument, and they have put forth reasons that you do not accept. It is a fundamental disagreement.

  19. “They aren’t going to “realize it.””

    Yes of course I know ;-).

    The point is that the matter doesn’t end there.

    There is however a definite change of language at Billy Blog as Anon has pointed out … instead of saying “just credits bank accounts” (which implies an explicit overdraft spending), it has changed to “… if it chooses to …”

  20. Ramanan, I still fail to see the core of your objection. I’ve seen people claim that since the Fed is a private institution, one cannot consolidate Tsy+Fed. OK, but Krugman, for one, doesn’t seem to subscribe to that view, since he explicitly stated in his posts that “of course, we can always print money”. So, his objection, for example, comes not from the fact that operational realities do not allow spending not backed by taxation+bonds, but that such spending will reach “a limit of seignorage”, which is why taxes “fund” spending in this fuzzy use of the term “fund”. Which, again, to my ears is just like saying that a car cannot move without brakes – of course it can, it is just not a prudent thing to do.

  21. “Which, again, to my ears is just like saying that a car cannot move without brakes”

    Neo-classical economics is just like driving with the brakes permanently applied – which again isn’t a prudent thing to do.

  22. Peter D,

    I understand the government’s virtually unlimited capacity to create credit (in the closed economy case, in any case – at least for me).

    The Fed is not a private institution, it describes itself as “independent within the government” and is true because it really did a lot to save the financial system, including the financial system of other nations without any government intervention or permission. Describe it that way.

    I have no objection to consolidating the Fed and the Treasury’s balance sheets and in fact sometimes like it that way. (such tricks are seen in Godley-Cripps’ 1983 book)

    However if one messes up saying that in case there are big auction failures, there are excess reserve balances, then its plainly wrong. See comments here http://neweconomicperspectives.blogspot.com/2011/04/s-downgrade-much-ado-about-nothing.html

    As far as taxes are concerned, while it is true that taxes regulate aggregate demand, it was true in the Bretton-Woods era as well. But you frequently see something like .. pre-1971 taxes funded but post 1971, they don’t ….

    There are distributional issues involved here. For example, the government of a poor nation may want to increase expenditures since the nation is dying of poverty, and to spend more, it could increase tax rates. The increase in tax rates would allow the government to spend more. Also, in spite of increasing the tax rate, the government could achieve an increase in demand. And many such scenarios.

    There are zillions of things which affect demand. Fiscal policy is one way but is not sufficient. For a given fiscal policy, entrepreneurs may increase private investment because of higher animal spirits leading to higher demand.

    There are many scenarios one can construct – such as … the government may receive tax payments from foreigners (such as a foreign bank with branches – doing business in a country) … this helps the nation reduce its indebtedness to the rest of the world. Foreigners may not be spending on the domestic products of the nation which is under discussion in this para… So do you not tax the foreigners ?

  23. Ramanan, all good and well, I don’t dispute almost anything of what you’re saying (except to maybe clarify that taxation – including that of the foreigners – is fiscal policy, is it not?) But all that does not justify to continue to support an illusion that taxes fund spending in the strict sense that without taxation spending is impossible.
    And again, I am talking general case here, while in specific case there might be institutional arrangements that prevent that – that’s all right, but it is again like a car that is wired not to move unless the driver puts his foot on a brake: that is to say, in general, we know cars can move without that, but in a specific case at hand somebody jerry-rigged a car not to move without the driver braking at the same time. I am not really interested in the debate between those like you who are saying that current arrangements are actual binding constraints and those like Wray who are saying that they are mostly meaningless, as this is a debate about a specific case (and I don’t know enough about the operational stuff.) Seems to me this is a separate debate from the one that concentrates on the potential – the Platonic ideal, if you will – of fiat regimes.

    As far as taxes are concerned, while it is true that taxes regulate aggregate demand, it was true in the Bretton-Woods era as well. But you frequently see something like .. pre-1971 taxes funded but post 1971, they don’t ….

    As I understand it, the correct way to say it is that pre-1971 the specific constraints were more binding because convertibility was more binding. It was still true that taxes needed to “fund” the expenditure only ex post. If, for example, nobody ever exercised the right to convert reserves into gold, then the Tsy could still spend regardless of tax receipts.
    Your IMF convertibility to me seems similar to gold standard only even less binding.

  24. Ramanan:

    “For example, the government of a poor nation may want to increase expenditures since the nation is dying of poverty, and to spend more, it could increase tax rates. The increase in tax rates would allow the government to spend more.”

    Right, if you are assuming the poor nation economy was working already with full capacity and employment, otherwise tax increase wouldn’t be necessary.

  25. “Right, if you are assuming the poor nation economy was working already with full capacity and employment, otherwise tax increase wouldn’t be necessary.”

    Well, capacity utilization is itself endogenous and not fixed.

    Its never true that inflation cannot happen before full employment is reached. India has a lot of inflation … and the employment situation is pathetic here.

    While capacity constraints is one thing, wage increases is also contributory to inflation. Wages can start exploding well before full employment is reached.

    There are some complicated dynamics there … which cannot be argued out so simply.

    Taxing is an excellent redistribution mechanism. People don’t mind because their quality of life is improving. Of course people complain a lot but its still its a successful system.

  26. “Well, capacity utilization is itself endogenous and not fixed.”

    Right, and that’s what knowledgeable government would follow and assist in the pursuit of public purpose – full employment and price stability.

    “Its never true that inflation cannot happen before full employment is reached. ”

    Supply side inflation can occur any time; for example when the Saudis decide to increase the oil price – full employment or not, I agree. But you can’t say this about demand side inflation.

    “Wages can start exploding well before full employment is reached.”

    Why should they, because of the labor market, or because of the strong unions?

  27. Its never true that inflation cannot happen before full employment is reached. India has a lot of inflation … and the employment situation is pathetic here.

    Right. Inflation will be driven by people with money and if some part of the population has no money (and unemployed) they don’t participate in bidding up of prices. But in normal functioning economies – the efficient ones, so to speak – this shouldn’t really happen, since increase in demand should translate first and foremost into increased supply. All, of course, conditional on real resource constraint not kicking in.

  28. Peter D,

    Lets leave aside convertibility questions aside, and I believe these things are complicated and I believe the “MMT” description of the Gold Standard is Monetarist. (e.g., their description that central bank controlled money etc).

    I will also not go much into the car analogy.

    Again, I understand the punch .. its okay if you want to use catch-phrases such as “taxes do not fund anything” .. however if you insist that the other person’s stand that taxes fund government expenditure is wrong .. then problems start to arise. I mean its a bit of a waste of time I believe.

    Consider the following statement “The point is that taxes do not “provide the revenue which the government needs in order to pay its bills”.”

    Now, there is some disliking for the word”revenue” here … etc … so why stop here .. why not rename each and every item on the government’s balance sheet and transaction flow accounts ?

    Such as Anti-NFA for public debt instead of debt ?

    The reason I take effort in this is that minor overkill at zillions of places add up to reach conclusions which are debatable to say the least!

    I also understand where you are coming from – people do not know simple things etc … and it is important to educate them by saying that the “consensus” that governments need to balance budgets is non-sense etc.

  29. “Why should they, because of the labor market, or because of the strong unions?”

    The 70s inflation was cause due to a wage-price spiral.

    Also, the ECB Chairman Trichet mentioned this in an interview last month (not the 70s inflation but the wage-price spiral).

  30. “The 70s inflation was cause due to a wage-price spiral.”

    Okay – supply side.

  31. “But in normal functioning economies – the efficient ones, so to speak – this shouldn’t really happen, since increase in demand should translate first and foremost into increased supply. All, of course, conditional on real resource constraint not kicking in.”

    The reason we see low inflation these years is because the capitalist class is powerful and the workers’ bargaining power is low. Wages, markups etc can cause inflation independent of supply factors (wage – i.e., labour itself is supply side).

    Firms markup a price over costs and wage costs are highly important. So here is an inflation dynamic … wages rise .. firms increase prices to recover costs .. they need not increase markups (as in % not $) .. price rise causes higher wage bargaining and this goes into a spiral….

    … I agree increase in demand leads to an increase in supply …

  32. “Okay – supply side.”

    Well yes and no.

    In the 70s, when Milton Friedman rose to power, his policies caused a tremendous loss to demand and hence the bargaining power of the working class.

    As one approaches full employment .. maybe due to higher demand, the bargaining power starts to increase .. so its a mix of supply and demand side ..

    Lots of digression from “taxes don’t fund anything”

  33. As long as everybody is employed (:)) and payments to seniors are indexed, what real harm is inflation of even 10% p.a.? I is just price adjustment resulting form the fact that people like being paid more in nominal terms, even if nothing changes in real terms. The only downside I can see is instability and the potential for nasty positive feedbacks getting out of hand.
    Am I right?

  34. Peter D,

    Yes nothing wrong with high inflation by itself. However note that it has an effect on stocks as well – wealth in particular.

    Yes things can get out of hand and there can be a spiral.

    Back to tax increases not being necessary … there is nothing preventing a government to increase tax rates and expenditures at the same time and create more demand – certainly demand is not a monotonic function of taxes because it depends on other things as well. In this scenario, the tax rate has increased and government gets to spend more which the government could not have in the absence of tax rate increases.

    “Taxes don’t fund ” is not even a quibble.

  35. Forgot to add .. it happened in India around 2004 … there was a minor increase in taxes called “education cess”

  36. the tax rate has increased and government gets to spend more which the government could not have in the absence of tax rate increases

    This should read:

    the tax rate has increased and government gets to spend more which the government could not have in the absence of tax rate increases without potentially causing inflation

    🙂

  37. Stephanie Bell (now Kelton), Can Taxes and Bonds Finance Government Spending?

    Abstract

    This paper investigates the commonly held belief that government spending is normally financed through a combination of taxes and bond sales. The argument is a technical one and requires a detailed analysis of reserve accounting at the central bank. After carefully considering the complexities of reserve accounting, it is argued that the proceeds from taxation and bond sales are technically incapable of financing government spending and that modern governments actually finance all of their spending through the direct creation of high-powered money. The analysis carries significant implications for fiscal as well as monetary policy.

    Stephanie Kelton, Limitations of the Government Budget Constraint: Users vs. Issuers of the Currency

    Abstract

    The financial crisis and ensuing economic meltdown has led to sharp increases in the deficits and debt levels of many advanced economies. The run-up in public sector indebtedness helped to restore private sector balance sheets, laying the foundation for economic recovery in these regions. But the so-called “sovereign” debt crisis in the Eurozone has undermined the fiscal resolve that has, thus far, kept truly sovereign governments from slipping into a bona fide depression. Fearful of becoming the next Greece, governments that could allow an unlimited fiscal adjustment to restore full employment, are methodically weakening their fiscal support mechanisms and setting themselves on a path to becoming the next Japan.

  38. Tom, I am sure Ramanan is familiar with the first paper.
    I think his objection is that “funding” is a useful illusion. It should be retained because MMT paradigm shift is too much (for whatever reason.)
    Am I right, Ramanan?

  39. Tom Hickey says:
    5 May 2011 at 8:20 PM,

    I am very familiar with the first paper. There was a paper by LRW and SBK in JPKE after that as well. Precisely quoted the NEP link because of that.

    The abstract is precisely wrong because technically taxes and bonds finance government expenditures!

    (See the assertion at NEP that if auctions fail, it is asserted excess reserves stay – which is incorrect).

    Proceeds from bonds move this way Deposits -> TGA -> TTL -> TGA -> Deposits … haven’t seen the precisely movements of funds in this way in the MMT lit.

    Its straightforward to simply state the overdraft constraint and then argue that since the budget deficit is the mirror of the other sectors’ NAFA, deficits lead to higher saving and the government has no issues in financing deficits. It still opens the possibility of auction failures and the government has the power to change the law and take an overdraft.

    Instead most arguments seem to much like sneaking in. Its like what Joan Robinson said (on something else of course)

    “After putting the rabbit into the hat in the full view of the audience, it does not seem necessary to make so much fuss about drawing it out again”

  40. There are two objections to fiat, the first is to maintain the myth, and the second is that political restraints are actually operational constraints.

    Samuelson put forward the first.

    L. Randall Wray, Paul Samuelson on Deficit Myths

    PS: “I think there is an element of truth in the view that the superstition that the budget must be balanced at all times [is necessary]. Once it is debunked [that] takes away one of the bulwarks that every society must have against expenditure out of control. There must be discipline in the allocation of resources or you will have anarchistic chaos and inefficiency. And one of the functions of old fashioned religion was to scare people by sometimes what might be regarded as myths into behaving in a way that the long-run civilized life requires. We have taken away a belief in the intrinsic necessity of balancing the budget if not in every year, [then] in every short period of time. If Prime Minister Gladstone came back to life he would say “uh, oh what you have done” and James Buchanan argues in those terms. I have to say that I see merit in that view.”

    Jesse the second:

    As you may recall, the basis for the unilateral departure of the US from the Bretton Woods regime and the gold standard under Nixon was that the full faith and credit of the US Treasury, with an independent Fed as guardian of the realm, would force the Dollar to act as though it were still externally constrained, as in the case of a gold standard. As Greenspan said, the dollar works as long as it acts as though it were on a gold standard.

    This is why, as I recall, the Fed is prohibited by statute and custom from buying debt directly from the Treasury. It must first pass through the public markets at auction, in the belief that market discipline will prevent excess money creation by legitimate price discovery and higher interest rates as required.

    It might be useful to consider at this time a different definition for monetization, that is not the archaic ‘printing of money.’ Monetization might best be described as those actions which consciously misprice the decreasing value and prospects of money, normally a currency, and by corollary the associated risk and returns. As you can see this includes the debasement of specie money through various means, but also the more modern method of egregiously tinkering with interest rates beyond merely policy rate adjustments.

    As I have pointed out previously, to circumvent market discipline merely requires a Fed with the will to do it, and a few complicit primary dealer banks to play along with it. This can work well as long as no one with sufficient sovereign standing calls them on it, or the people who are the users of the currency rise up en masse against it. This is convenient arrangement amongst regulators and market fixers is merely an impasse, and is not sustainable in a floating exchange rate system. The arrangement requires ever increasing duplicity and threat of force. After these many years, the dollar is now literally hanging on to its value with its reserve currency nails.

    Modern Monetary Theory: The Sophistry of the US Dollar

  41. “It should be retained because MMT paradigm shift is too much (for whatever reason.)”

    Well the MMTers can think that its in paradigm to say taxes do not fund … No issues they can continue to talk like that.

    But spending too much time saying Krugman doesn’t get it because he says taxes funds etc .. is a waste of time …

    And why do I take so much time on this .. and I think it is counterproductive … its when one starts arguing that “operational reality shows … ”

    The operational reality is that central banks *are* divorced from the governments.

  42. Ramanan,

    The government owns the central bank. Therefore a charge between the central bank and the government is an artificial balance sheet adjustment for internal purposes only.

    It’s just like cost centres within large companies – for budgeting purposes only.

    The operational reality of a central bank is that it is not capital constrained and therefore can expand its balance sheet infinitely and since the government is a 100% owner the cost of any loan from the central bank to the government is always eliminated on the consolidated balance sheets. Moreover as 100% owner the government can instruct the bank to lend to them whatever the circumstances.

    Anything else is very simply an accounting fiction.

    The most appropriate mental model is that the government spends on a central bank provided charge card with no limit and no payment period.

    In cash terms Taxes merely reduce the balance on that charge card – although with no constraints there is no need for them to do that.

    And since there is no need for Taxes to reduce the balance on the charge card, and taxes are confiscation you need to have another reason why they exist *at all*.

    That reason is of course that they can be used to manage excessive aggregate demand and create space for the government to use its charge card.

    The debate can then move onto how you determine when aggregate demand is excessive and how that then affects taxation or spending.

    Using the ‘taxes fund things’ argument is very simply the wrong mental model that prevents the debate moving forward. It is precisely that model that is causing people to start talking about deficits and debts – when they are completely the wrong metric to be focussing on.

    I’m sorry but we need to win the ‘government has infinite fiscal capacity, the only constraints are real’ argument. Everything depends on it.

  43. Neil,

    Good points. And I completely understand the underlying philosophy. People tend to think that if the government debt is large then the debt is passed on the grandchildren and have confusions such as that.

    However, one should start describing the institutional setups as Gosbank .. this will continue to come in your way.

    If “operational realities” are to be discussed, its important to state upfront … governments do not have overdrafts at the central bank .. highly forbidden etc.

    I don’t like analogies too much but in the case .. if you want to think of it that way – yes government reduces it liabilities when it receives taxes.

    “Moreover as 100% owner the government can instruct the bank to lend to them whatever the circumstances.”

    Well, if the law allows but such things are highly forbidden.

    “Anything else is very simply an accounting fiction.”

    I don’t like this way of presenting. The accounting terminologies are more than useful. One can easily argue that if one sector’s income is higher than expenditure, other sectors’ expenditure should be higher etc. The terminologies are fantastic. Why would one want to give them up ?

    Instead, one can present it by saying that the government’s expenditure can be higher than income typically.

    The view taxes don’t fund doesn’t rhyme well with government’s objective of trying to find more places to tax. It needs to tax the rich higher. There are things which simply go untaxed – long term capital gains in some countries for example …

  44. “However, one should start describing the institutional setups as Gosbank ”

    sorry meant shouldn’t

  45. “Well, if the law allows but such things are highly forbidden.”

    Only by the politics, not by the economics, the accounting or the mathematics.

  46. But that is a proposal Neil.

    One should make a distinction between how the economy works and how the economy should work. This looseness becomes even more apparent when the Chartalists start describing open economy macroeconomics. Imports *are not* benefits. The benefits are just the flipside. Since it leads to the loss of employment (which they agree), I do not understand how they are benefits. They are benefits only if the government continuously compensates for the drain of demand by relaxing its policy (assuming it can).

    They are benefits only if agents on both sides achieve a balance of trade in which case its mutually beneficial to both.

    Okay, shouldn’t talk too much about this, since I have already talked a lot.

    Back to overdrafts and seignioraging …

    It is against the concept of a monetary economy. You should read Sergio Rossi’s Money and Payment Systems in Theory and Practice. The reason we have notes (which are ultimately liabilities of the central bank) is that the notes were created on demand, not by simply spending by currency creation. Graziani’s concept of money applies well to the government itself:

    i) since money cannot be a commodity, it can only be a token money;
    ii) the use of money must give rise to an immediate and final payment and not a simple commitment to make a payment in the future; and
    iii) the use of money must be so regulated as to give no privilege of seignoriage to any agent

    The seigniorage which the government gets is due to a demand process in which agents hold money by their own volition.

    At any rate, that is my understanding .. but the fact that overdrafts are forbidden should be made crystal clear in the beginning itself instead of describing as if the government has an overdraft.

    The reason government gets around borrowing cheaply is that it can temporarily be rescued by the central bank if need be and more importantly its the biggest sector in the economy! Even private sector can be deficit spending and it creates surplus for other sectors. In spite of having restrictions on central bank overdrafts, it gets away easily: higher deficits means higher surpluses for the private sector. More properly, expansionary fiscal policy means higher income and wealth.

  47. They are benefits only if the government continuously compensates for the drain of demand by relaxing its policy (assuming it can)

    This is a strong MMT claim. MMT admits that the constraints are price stability, exchange rate, and rea resources. The claim is that when real resources are idle (workers), fiscal policy can fill the demand leakage underlying it without exceeding the constraints of price stability and currency stability. Warren has made that pretty clear at his place in the comments, and no one has yet convinced him to the contrary.

  48. Tom Hickey,

    Sorry what? The point I am making is that only if the government compensates the leakage in demand due to the external sector, can imports be considered benefits.

    In the present world, governments do not do so. Only in the Neochartalist hypothetical world is it so (that imports are benefits).

    Didn’t want to go into the external sector – its a digression here but just pointing to the major mixup – the “blur”.

  49. Marshall and I agree with you that imports are only a benefit at full employment. I would go further and agree with you that balanced trade is preferable cet. par. since both parties gain in real terms and it is hardly a benefit if one country gains at the expense of another in a global economy. But all things are not equal, and there is a desire to save in dollars because the USD is the global reserve currency, so there is a bias toward a US CAD.

    Why I said the above is because MMT (Wray) does mention these three constraints, and the exchange rate does explicitly bring in the external sector. As I have said before, perhaps in an ideal work, floating rates would automatically adjust, but in the real world there are a lot of factors involved, e.g., currency pegs and CB’s intervening.

    I think we are in agreement with the Post Keynesian view that the global problem is demand. While each country or in the case of the EZ currency zone is responsible for managing its own demand in relation to output potential and expansion, there is the additional problem of balancing global demand with need, first, and then potential to improve life style in a sustainable fashion.

    That will require greater coordination and cooperation than is presently being exhibited. In the meanwhile many people are failing to meet their material potential, and many are suffering and even dying.

  50. “… that imports are only a benefit at full employment.”

    Friedman type confession ? Milton Friedman described economies in which the central banks controlled the money supply. He found that they do not and exerted power to make the somehow achieve this. He didn’t change his theory though. “Imports are benefits” without any qualifier sounds so Friedmanish. Friedman also “blurred”

    “Why I said the above is because MMT (Wray) does mention these three constraints”

    Maybe in recent blogs – hadn’t seen this earlier. At least not presented as “constraints”. What is this constraint exactly ?

    “loating rates would automatically adjust”

    Adjust to ?

    “there is the additional problem of balancing global demand ”

    What is balancing global demand ?

    ” a desire to save in dollars because the USD is the global reserve currency, so there is a bias toward a US CAD.”

    Hardly a terminology “save in dollars”. National accountants do not use this terminology. Better phrase is accumulate dollar-denominated assets. “Bias” ??

    “That will require greater coordination and cooperation than is presently being exhibited.”

    What coordination and cooperation ? Reference please. Both blogs and Paper(s).

  51. “… that imports are only a benefit at full employment.”

    I am not an economist and don’t read economics outside of MMT since I don’t have the time to do so. These are simply my views as a layperson and former trader observing the world. The US is leaking high-paying manufacturing jobs while enjoying low prices. That doesn’t seem to be such a great benefit to me. There needs to be either balanced trade, a trade deficit at full employment, or some form of protectionism, as I see it. But I take more a political stance than a purely economic one. One of the above is going to happen, because the current couse looks to be politically unsustainable in the US. Unemployment is now rising in the US again.

    “Why I said the above is because MMT (Wray) does mention these three constraints”

    I saw this in a recent blog but I don’t have the reference handy.

    “Adjust to”

    adjust to reflect the markets assessment of relative value of currencies based on current conditions.

    What is balancing global demand ?

    Direction toward global full employment

    Hardly a terminology “save in dollars”. National accountants do not use this terminology. Better phrase is accumulate dollar-denominated assets. “Bias” ??

    This is what MMT’ers use in the context of sectoral balances and demand leakage. Saving, both Domestic and foreign saving constitutes a source of demand leakage, along with taxes.

    “That will require greater coordination and cooperation than is presently being exhibited.”

    Seoul, Doha, Kyoto and Copenhagen

  52. Tom,

    “I am not an economist and don’t read economics outside of MMT since I don’t have the time to do so.”

    You have been hit by a filter bubble 😉 http://www.ted.com/talks/eli_pariser_beware_online_filter_bubbles.html

    For I believe, Neochartalism is highly short sighted and deeply flawed about the external sector. It is “Normative Economics” http://en.wikipedia.org/wiki/Normative_economics

    “I saw this in a recent blog but I don’t have the reference handy.”

    Yes even I noticed this recently. And I have gone through their papers with a lot of time at my hand to say that such things do not appear somewhere (the exchange rate risk). If you find let me know. For example there is a paper in which Thirlwall’s Law is accepted but then it is said that exchange rates will take care of it. The problem is that asking the markets to correct is like chasing a mirage.

    Same applies to the government debt operations. It helps to simply state the no-overdraft laws or practices forbidding the central bank from financing the government upfront and then show the reader that in spite of this, the government facing no issues. Instead one sees a lot of critique of mainstream saying something like “they allege that the government borrows” or something of that sort. Its a completely roundabout way of stating/proving certain things.

    The divorce between the central bank and the Treasury will remain as long as there is distrust on the government. Of course, the two interact on a daily basis but those are to ease operations. The Fed is neutralizing the impact on reserves due to flows of funds in and out of the TGA.

    They can of course co-ordinate policies. That is a recommendation. It shouldn’t be happening that the central bank is increasing rates and the government is doing a fiscal expansion. Maybe in some situations like when the lending boom picked up big time around early 2000s, that was what was needed.

    Plus since its doesn’t matter, then why have an overdraft ? Also setting rates to either zero or issuing only 3m T-bills is against the principles of liability management. The fact that under extreme market conditions, the Treasury may face some pressures and at that time, the central bank can cooperate and provide a draft.

    “Seoul, Doha, Kyoto and Copenhagen”

    Yes, I know but I was asking for reference in the Neochartalist literature.

  53. A lot of the discussion here and other places seems to revolve around whether we can say the government is constrained or not due to institutional arrangement x. From my understanding I think these discussions miss the point. Feel free to point out my mistakes.

    I think its important to get beyond the institutional arrangement and consider the structural characteristics of various institutional systems (e.g. the government). What MMT is saying is that at a structural level if the government hasn’t announced that it is maintaining fixed convertible of its liabilities into something else, then the government at a structural (or in its very essence, if you will) is a currency monopolist and hence faces no financial constraint on its spending, regardless of the institutional setup.

    re gold standard. I haven’t thought this out clearly, but I don’t entirely agree with how MMT has characterised the operations of the government. In such as system the government has announced that its liabilities are convertible into x. This places a binding financial constraint upon the government, as it must allow its liabilities to be convertible into commodity x. the behaviour of such as system is then to defend this ratio. Taxation and bonds operate to reduce government currency so as to

    ultimately though I don’t think its a system that can work for long. THe logic of the system is that so long as there is demand for the government currency, then this component will continue to expand endogenously. In order to defend the ratio, the government has the option of either increasing taxation or issuing bonds, but I would imagine that there would be some limit to this. The other option requires the government to accummulate good x. But if good x is in fixed supply (such as gold), then eventually a limit will be hit, and it will become harder and harder to defend the ratio.

    This is similar to why Bretton woods collapsed. In such a system -as soon as the productive capacities of Europe had been restorted – it was is inevitable that America would be running trade deficits, the ROW desires to save in America dollars, being the clearing unit and most liquid asset. These deficits increased the American dollars – which were convertible at a fixed ratio to gold – placing continued pressure upon the ratio and making it harder and harder for the US to defend the ratio. If my memory is correct this is essential what Triffin suggested (Triffin Dilemma).

    IRC, the Post Keynesian camp is also divided on whether money is endogenous in such a system. Some PKs suggest that money is endogenous in our current monetary system due to insitutional arrangements, whilst others suggest that money is always endogenous regardless of the institutional framework. I imagine that the distinction between the two is how they define the essence of money, which is similar to the current debates on whether the institutional arrangements place financial constraints upon a government’s ability to spend.

  54. MDM,

    While I agree with some parts of your second last para, I do not agree with your depiction of the gold standard. I will talk mostly of gold-exchange standards such as Bretton-Woods.

    Bretton-Woods had official convertibility similar to what exists now with Gold instead of SDRs. http://www-bcc.imf.org/external/pubs/ft/aa/aa08.htm#4

    Governments and central banks would tighten policy if there are gold losses. Note gold losses need not arise due to trade deficits. There can be large inflows for example.

    NAFA was still equal to PSBR plus BP 😉

    However the fiscal policy reaction function and the central bank reaction function would depend on Gold.

    While there is no gold in the so called “non-system”, governments still do demand management depending on the balance of payments situation. This is because a large indebtedness to the rest of the world doesn’t impress the markets.

    The BW system did not have any way to resolve trade imbalances but neither does the present system have.

    In addition to pressures from supply side – inflation etc, nations still have a balance of payments constraint. Its a supreme constraint. Heard of Thirlwall’s law ?

  55. Ramanan, as I said am more interested in the politics than the economics. Politics determines policy, not economics. Economic arguments are used to justify policy choices, but the argument that the public sees are simplistic.

    I think that MMT economists would agree that they present a very watered down version of MMT. They write papers to interact with other economists, as is the custom. Even economists are not going convince each other in verbal debate other than by referring to papers and are presumed read by professionals.

    This is true in every field, since most fields are highly technical and can only be understood by experts in terms of the ongoing debate in the field that takes place in the professional literature.

    I only started to get interested in economics recently, when it was obvious that there was a major screw up that led to the GFC that mainstream economist could not explain. I actually happened on MMT serendipitously, when I read a comment you had posted somewhere citing references. After reading some of the references, including Randy’s book, it made sense to me. That’s how I got here.

    Do I think that MMT is a magic wand for policy? Of course not. There are no magic wands. But the MMT’s have a reasonable narrative and the mainstream has been totally discredited and they are continuing to prove that their policy recommendations are bonkers. Following them we’ll end up in GFC 2 which will look the first round look mind. So I’m willing to give MMT a chance as the best option out there.

    I think that MMT has it right in focusing on demand and unemployment while admitting that price stability has to be included as a top priority. But as far as I can see, MMT’ers are willing to tolerate more inflation that the mainstream, which is about preserving wealth and letting people starve to do so.

    Is MMT normative? MMT’ers are up front about it. The mainstream pretends that they are “scientists” and not normative, which anyone can see is BS. They are pushing their class interests in their assumptions, which function as norms instead of being empirically derived or even testable. There is no science of economics.

    I am totally uninterested in the “science” of economics. If economics does not result in policy tools that meet political objectives, which are necessarily normative — that’s why there are different parties — then it is a waste of time for non-economists, because it is not yet a mature science. I’ll choose to let the economists get their act together before they roll it out. Right now they have a flop ton their hands that is clearly worse the useless, it is dangerous.

    MMT doesn’t say much about the global economy and that is also one of my concerns. I cited Seoul, etc., based on my perception of lack of coordination and cooperation in outcomes, in spite of the fine words. I have not seen any MMT professionals mention any of this.

  56. Tom,

    Much of “MMT” is new wine in old bottles.

    So I understand Keynesian demand management well, and one doesn’t need to know MMT to understand that – there exists literature from the 70s/80s/90s in PKE for that. Neither sectoral balances nor Horizontalism nor stock-flow consistency is original to MMT.

    The part about MMT I keep writing about are i) the insistence that the US Treasury spends by overdrafts without overdrafts ii) the external sector where the kind of causality is just orthogonal to everything that has ever been written!

    Whatever (i) means but recent comments at NEP pin point to the complains commentators have been making.

    Of course there are others things such as (iii) JG & (iv) no-bonds and so on …

    Won’t write on (iii) for now but (iv) is completely misguided.

    More importantly, whatever rhetoric is carried out by the “MMTers”, money is an asset without a liability in their description.

    I understand Peter D’s points that there is an attempt to reach a broader audience etc and that there are more myths. However I believe this myth-bursting adds more myths 🙂

  57. Ramanan,

    It’s unfortunate that detractors do not present their arguments in a careful, thoughtful manner and instead choose to seize upon obviously careless mis-statements and present them as real MMT positions. For example: “money is an asset without a liability.” I think you are usually more careful than this Ramanan.

    After reading your comments for a number of months, I believe I can understand your concern regarding the external sector. My rebuttal is that at the point where the external sector becomes a real constraint we are no longer talking about an economic issue. It is instead a national sovereignty issue.

    Any country critically dependent on trade from the external sector has ceded some degree of sovereignty (and this to organisations backed by unelected, unaccountable international capital, but that is a separate issue.) The solution to this issue is to take the steps necessary to regain this sovereignty. It is not to allow such international agreements to dictate domestic policy in perpetuity.

    Countries that are not dependent on external sector trade can easily disengage from international agreements regarding such trade if doing so is deemed to be in the public interest. Sanctions aren’t going to hurt that much if there are no dependencies (and the international community respects the notion of national sovereignty – another issue again.)

  58. “For example: “money is an asset without a liability.” I think you are usually more careful than this Ramanan.”

    I wrote whatever rhetoric is carried out. “Debt is not debt” haven’t you heard.

    Double entry book-keeping. If a nation has a negative net asset position, it is indebted to the rest of the world. Don’t think “MMTers” use such language.

    “Any country critically dependent on trade from the external sector has ceded some degree of sovereignty”

    “It is not to allow such international agreements to dictate domestic policy in perpetuity.”

    177 nations have signed the Article VIII, Section 4. There goes sovereignty for a toss.

    “Countries that are not dependent on external sector trade can easily disengage from international agreements regarding such trade if doing so is deemed to be in the public interest”

    Which country ? Heard of Thirlwall’s law ?

    “Sanctions aren’t going to hurt that much if there are no dependencies (and the international community respects the notion of national sovereignty – another issue again.)”

    While I agree somewhat, its not MMT where imports are benefits and exports costs.

  59. Ramanan,

    If a detractor is not careful and thoughtful with his criticisms, why should careful and thoughtful proponents bother to respond?

    By the way, I’m not claiming to be one of those careful and thoughtful proponents. It is just that I can see a few occurrences of carelessness in presentation which render all subsequent discussion meaningless. There are certainly plenty of MMT proponents who aren’t careful – myself included. Usually I soon regret any postings I make on the subject.

    I don’t see why a sovereign nation that decides to conduct its economic policy a certain way cannot also choose what international trade agreements it maintains. The problems come when resource needs can’t be met internally, but then you’re no longer talking about a democracy – not that anyone has one of those now.

  60. “I don’t see why a sovereign nation that decides to conduct its economic policy a certain way cannot also choose what international trade agreements it maintains.”

    Alternative world – not the world we live in. Notice the “Blur”

    MMTers have an innuendo “not a problem” for current account deficits. A nation can certainly take protectionist measure but that is against the *spirit* of MMT. Nations can withdraw membership from the IMF and make their currencies non-convertible but MMT asserts that currencies *are* nonconvertible.

    “If a detractor is not careful and thoughtful with his criticisms, why should careful and thoughtful proponents bother to respond?”

    I believe I have been extremely careful about my criticisms and ultra careful. For example, I showed how “the only thing we owe China is a bank statement” is entirely incorrect by quoting the Article VIII, Section 4 of the IMF Articles of Agreement. Just one example. Others include how currencies have plunged to quoting Post Keynesians themselves.

    Part 2:

    “If a detractor is not careful and thoughtful with his criticisms, why should careful and thoughtful proponents bother to respond?”

    Well, the ones that you meet online are the neoclassical ones and Austrians/Monetarists. These folks have no clue of central bank operations. Fortunately, I understand Post Keynesianism – sectoral balances, stock-flow consistency, horizontalism really well. (You can see me discussing technical points in the blogs). Its the utter confusion around the balance of payments constraint I observe here that I pursue relentlessly about.

    Imports are purchased on credit. Straightforward double entry bookkeeping – if a nation has a negative net asset position it is indebted to the rest of the world. MMT is just a quibble that such a nation shouldn’t be considered a debtor nation.

  61. Ramaman,

    I’m in agreement with your description of how individual nation-states operated in terms of managing their external balances. My point re bretton woods was how America operated and why the system could never work. In sum, if you’re going to have one single unit and whoever issues that unit better be prepared for that unit to continually increase because the ROW will want to save in that unit.

    >The BW system did not have any way to resolve trade imbalances but neither does the present system have.

    Agree with the former. The idea of the latter is that exchange rates adjustments are meant to resolve these imbalances, but of course, in reality this doesn’t seem to be the case, and exchange rates seem to be more sensitive to the interest rates of countries (among other factors).

    The imbalances obviously matter for a Bretton Woods system, but why are we to be concerned with the imbalances in the current system? global demand deficiencies? For most OECD countries they should be able to manage their internal demand to remain close to full employment. It is a different story for developing countries, but I imagine part of the problem with them is following ‘free market’ policies rather than protecting their developing industries, and corrupt political institutions ruled by a very elites.

    re PKE. Can you please direct me to current disagreements among PKE re MMT. My impression as a student with several professors whom describe themselves as PKE and through interactions is either, 1. not 100% familiar with it but agree in principle, 2. very familiar with it. 3. familiar but disagree. The third case is only a minority.

    For instance, a lot of circuitists appear to be onboard (but then, there really isn’t that much disagreement, only over policy).

  62. mdm,

    An outsider really but you may be interested in the work of Kaldorians – for example their stress on the balance of payments constraint.

    http://books.google.com/books?id=nxsP8ygXff4C&printsec=frontcover&dq=economic+growth+and+the+balance+of+payments+constraint&hl=en&src=bmrr&ei=LAjJTe6eHIX4vwP987DlBQ&sa=X&oi=book_result&ct=result&resnum=1&ved=0CDUQ6AEwAA#v=onepage&q&f=false

    I do not know of disagreements, but different people have different say on the external world.

    So MMT wonders “but why are we to be concerned with the imbalances in the current system?” . I think they are clueless.

    Its difficult for governments to pursue their objective of full employment since the balance of payments constraint is very strong. A fiscal expansion increase national income but comes with increased indebtedness to the rest of the world unless exports improve. This process can’t go on forever since indebtedness to the rest of the world cannot keep growing. Hence nations do not expand (one of the reasons).

  63. Ramanan,

    “Alternative world – not the world we live in.”

    Any prospective change to the way things are is an alternate world. Current policy is not conducted in a manner enlightened by sectoral balances and stock / flow consistency – so discussing this as a possibility is also an alternate world.

    What is the significance that MMT asserts that currencies are non-convertible while the IMF agreement you mention appears to say otherwise? I don’t understand what difference it makes in the real world no matter which turns out to be true. The real world is full of examples where IMF agreements are broken or disregarded.

  64. Jeff65,

    “What is the significance that MMT asserts that currencies are non-convertible while the IMF agreement you mention appears to say otherwise?”

    It does. Because the basic assumption itself is wrong. IMF calls currencies convertible. The real world is full of examples in which the IMF has bullied nations.

    “The real world is full of examples where IMF agreements are broken or disregarded.”

    The real world is full of examples where traffic rules are also broken.

    “Any prospective change to the way things are is an alternate world.”

    Its really important to distinguish between how the world works and how under some proposed policies it may work.

  65. Ramanan,

    There is very little consequential difference between the real world and some alternate worlds. In an alternate world, my fence might be painted red instead of green but this wont affect any economic outcomes.

    I think what we’re all waiting to hear from you is the specific consequences you see resulting from the failure to make the fine distinctions you are making. Until do that you are just going to be seen as picking nits.

  66. Ramanan,

    Unless the muddle is shown to have a consequence, pointing it out IS picking nits! Tell us why it is important.

    Let’s say I agree that the IMF says currencies are convertible. So what? How should this alter my thinking regarding MMT?

    I think you are debating MMT slogans which do not accurately represent MMT. The guys that know this stuff can’t help what language others use to represent MMT.

  67. Jeff65,

    Unfortunately you are taking the road of accusations and is counterproductive. Get technical!

    MMTers do not understand the balance of payments constraint. Thats my point. Now its a bit complicated and one has to write a lot – check my comments at Billy Blog in posts on open economies and also at WM’s blog.

  68. “MMTers do not understand the balance of payments constraint. ”

    Or there isn’t one and you’re flat wrong. Given that you have no evidence, I’m going with that.

  69. “Given that you have no evidence, I’m going with that.”

    Thirlwall’s Law! See the link @ 10 May 2011 at 9:54 AM

  70. Neil Wilson,

    There is enough evidence in the work of Thirlwall (later, earlier) and the book too has evidence.

    Now do careful research before you attempt to debunk something – even Randy Wray seems to accept Thirlwall’s Law: http://www.cfeps.org/pubs/wp-pdf/WP51-Wray.pdf

    Jesus Felipe has also analyzed it and supported it http://www.adb.org/Documents/Working-Papers/2009/Economics-WP160.pdf

    Of course, the US and Japan are exceptions. The US because of the dollar’s status as the reserve currency (and being a creditor of the rest of the world and huge amount of revaluation gains of assets held abroad) and Japan (maybe because it hasn’t realized the advantage of being a strong exporting nation).

    “It is not possible for all countries simultaneously to expand their export growth rate, unless there is more rapid growth of global AD. Subsequent development of Kaldor’s theory has led to Thirlwall’s “Balance-of-Payments-Constraint Growth” (BPCG), theory, and “Thirlwall’s Law.” “Thirlwall’s Law” demonstrates that when countries each use their own currencies in international trade, the rate of growth of each country’s income is bounded by the rate of growth of the demand for its exports and the income elasticity of its demand for imports. By endogenizing income elasticities for imports and exports, the output path in the BPCG model can be rendered more chaotic”

    – Basil Moore, Shaking The Invisible Hand.

  71. “Of course, the US and Japan are exceptions”

    Point proved I think.

    I’ll leave it there Ramanan. You’re just like Vincent and his Hyperinflation obsession.

  72. I have to say Ramanan has valid points (and he has won a part of my mind on this:)) that MMT, intentionally or not, downplays the importance of the external constraint. MMT says that fx-rates take care of it. The problem is that typically it is *income* that adjusts and not fx-rates. That was the case under the gold standard and that is the case today. And empirical data is clear. The conflict arises because MMT says that any financially non-constrained government can always support domestic income and compensate for any loss of it and by doing this it can retain the level of employment which is the ultimate goal of MMT. This policy does not guarantee anything else (like quality of life due to lower and more expensive imports) but then this anything else is within the paradigm of other theories. MMT is fully focused on employment and is very-very likely to succeed in this goal. What Ramanan says is that the cost of this success can be too high if measured on other metrics. I think it is a very valid point and is definitely worth additional analysis. However, like MMT probably overkills on operational realities Ramanan also overkills on IMF convertibility 🙂

  73. Sergei,

    Thanks a mill.

    Btw, I know operational realities too well. Apologies for being immodest but I really think MMTers get fixed exchange rate “operational realities” wrong. (Of course, that doesn’t mean I advocate it).

    More importantly, the reason I stress so much on “official convertibility” is to make some progress on highlighting the fact that as a matter of accounting, a negative net international investment position means indebtedness to the rest of the world.

    The “balance of payments constraint” comes from none other than the “Kaldorians” who knew every aspect of national accounting since the 1960s! Nicholas Kaldor himself described how the monetary system functions to supreme accuracy.

    In fact, the external sector decides the fate of nations! No wonder we frequently hear talks of currency wars and protectionism and things such as that. Policy makers are not so silly.

  74. The fundamental problem is capital, “the scarcest resource.” Net exporters are net importing capital to increase investment and net importers are net exporting capital by spending on consumption. This is an unsustainable process.

    The problem the US is facing is that the NFA it is injecting through deficit expenditure is being exported to investment in fast-growing EM’s instead of finding its way into domestic investment, which is showing up as unemployment, underemployment, non-participation, and an increase in low wage service jobs with high wage jobs being cut, or their wage reduced substantially. The result of this is lower incomes and either lower effective demand or increasing domestic private indebtedness.

    In my view, the free market, free trade, and free capital flow model is not working for the developed countries. It was fine as long it as it provided them an advantage, but if it ceases to do that, they will abandon it.

Leave a Reply

Your email address will not be published. Required fields are marked *