LONDON (Reuters Breakingviews) - MMT may be on the road to economic respectability. However, most established economists are still not impressed by so-called modern monetary theory. A to-and-fro debate has erupted between Stephanie Kelton of Stony Brook University, an MMT proponent, and Paul Krugman, a Nobel Prize winner and “conventional Keynesian”.
Meanwhile Alexandria Ocasio-Cortez, a rising star of the U.S. political left, said MMT needed to be “a larger part of our conversation” about funding the proposed “Green New Deal” – a sweeping plan put forward by a group of Democrats to move America towards clean energy, universal healthcare and a bigger social safety net. The New York politician’s enthusiasm and economists’ sometimes overwrought sparring may have sown confusion. Five questions might help make things clearer.
1. WHAT IS THE ARGUMENT ABOUT IN THEORY?
Technically, the debate is about how to ensure that an economy has the right amount of money: enough to keep production high and unemployment low, but not so much as to cause undesired inflation. For the conventional consensus, the primary responsibility for regulating this falls on the banking system, which makes loans, and on the central bank, which sets a policy interest rate that encourages or discourages lending. For MMT, by contrast, government budgets play a crucial role.
The two sides duel with graphs and equations, but the underlying disagreement is as much political as conceptual. In the MMT world, the government should spend as much as needed to keep almost everyone employed, as long as it’s in productive work. Conventional economists have much less faith in governments in general. For them, the best way to deal with even high rates of unemployment is usually to let the market function, helped out by central-banking wizards and modest government nudges.
2. WHAT IS THE BIGGEST DISAGREEMENT IN PRACTICE?
Most economists on both sides of the debate would probably agree that the fundamental argument is about how the money system works. That may sound arcane, but the implications are concrete. In the MMT world, a government that runs very large fiscal deficits is not necessarily a problem. On the contrary, it can be good for the economy. To conventional economists, that is “voodoo” thinking, as former U.S. Treasury Secretary Larry Summers put it.
Those in Kelton’s camp believe that almost any size deficit is fine, as long as the government’s spending benefits the economy. So the Green New Deal includes a massive investment in solar power, for example. The goal is supposed to be important enough as a long-term investment in the greater good, economically and otherwise, to be worth diverting resources from other uses.
Aside from other objections, traditionalists see such huge government outlays as requiring unsustainable amounts of debt. That’s the main criticism Federal Reserve Chairman Jay Powell was willing to make about MMT in recent congressional testimony. But for the theory’s backers, borrowing is optional. Governments can simply create money directly. This isn’t unheard of, and in some cases it’s no longer even very controversial. It’s what central banks did to fund their purportedly economy-boosting programs of bond buying after the financial crisis a decade ago.
Modern monetary theorists agree with the conventional claim that creating too much money will eventually lead to rising inflation, which is a bad thing. The debate is over how much is too much.
3. HOW FAR APART ARE THE SIDES?
Technically, MMT and the mainstream are closer than the rhetoric and the taking of sides might suggest. There is agreement that the government does ultimately control money, that the money supply should grow roughly in line with the economy, and that fiscal deficits are acceptable in principle. There is, however, a serious conceptual disagreement about central banks’ policy interest rates. These are of primary importance in the conventional model, but quite secondary in MMT.
Where there is clear blue water is politics. As the Ocasio-Cortez endorsement suggests, MMT is undeniably a left-wing idea. It assumes that the market economy does not naturally tend towards a healthy equilibrium, so the government needs to play a bigger role. Also, MMT disrespects almost everything about the contemporary financial industry, including its fixation with policy interest rates.
In contrast, while conventional economists are sometimes centre-left politically, they typically think the private sector, guided by the appropriate interest rates, can keep the economy going at close to its full potential. Except in crises, they worry more about too much government than too little. And they do not share the MMTers’ allergy to Wall Street.
4. WHICH SIDE IS RIGHT ABOUT MONETARY POLICY?
The disagreement is pretty stark. Conventional economists have faith in more or less apolitical central bankers guiding the economy with carefully set interest rates. For MMT, monetary policy is inherently political and has relatively little impact on the productive economy.
Much of the MMT criticism is cogent. The level of interest rates clearly has a political element when, as in today’s United States, the distribution of financial assets is highly unequal. As for effectiveness, well, central banks did not manage either to prevent the 2008-2009 financial crisis or subsequently to reverse the global trend towards lower inflation rates. Maybe the standard theory really is, as Kelton says, “crude”. Economists should be looking for a better one, not settling for the status quo.
That said, MMT needs refinement. The power to print money has not always kept governments out of inflationary messes and debt crises. The United States, issuer of the world’s reserve currency, may be well placed to try out big fiscal deficits, but new policy approaches can have unanticipated side effects. A Green New Deal, if implemented, could prove an ill-managed fiasco, and the wasteful creation of money might not be stopped in time to keep inflation in check. Any serious advocate needs to tackle such concerns.
5. FINALLY, WHICH SIDE IS RIGHT OVERALL?
Neither side has a monopoly on truth. The conventional models put too much faith in central bankers and the self-correcting ability of markets. There is not enough worry about financial risks, hidden unemployment, industrial stagnation, the market’s inability to tackle long-term environmental problems, and income and wealth inequality.
On the other side, MMT is too confident that governments will generally be competent in their spending decisions. Ocasio-Cortez’s U.S. Congress is Exhibit A for the failure of lawmakers to make sensible, or indeed any, budget plans. Still, MMT deserves a serious hearing rather than knee-jerk rejection. Its attention to politics, a deep distrust of debt and the unwillingness to ascribe a quasi-magical motivating power to interest rates all speak in its favour.
Besides, if conventional monetary wisdom is jettisoned, it will not be the first time. From the gold standard to Keynesian fine-tuning, accepted truths have been replaced by something new and different. The current model does not look anything like the last word. MMT is an attractive starting place for a new approach.
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