British House of Lords inquiry into the Bank of England’s performance is a confusing array of contrary notions
On November 27, 2023, the Economic Affairs Committee of the British House of Lords completed…
While many mainstream economists have been coming out to defend their reputations against the growing awareness that Modern Monetary Theory (MMT) presents a direct challenge to their hegemony, some of the mainstream haven’t responded at all and continue to confirm what the standard mainstream macroeconomics is about and how far removed from MMT it really is. The MMT critics claim that there is nothing new in MMT (‘we knew it all along’) in one breathe, and then ‘MMT is crazy dangerous’ in another, without seemingly realising how conflicted that juxtaposition is. But when leading mainstreamers, who are not engaging with the public MMT discussion going on, publish their Op Ed pieces, we gain an insight into what the mainstream is really about despite all the attempts by other mainstreamers to co-opt as much of MMT as they can while still claiming it is crazy. A recent Op Ed article in the Wall Street Journal (March 20, 2019) – The Debt Crisis Is Coming Soon – by Harvard economics professor Martin Feldstein – is a great demonstration of the DNA of mainstream macroeconomics. MMT presents a diametrically opposed view to this standard mainstream analysis. There is no correspondence possible between the two positions.
The US Treasury Department released its – Monthly Treasury Statement – on March 22, 2019, which revealed that the US government recorded its largest monthly fiscal deficit in history – $US234 million.
The previous highest monthly deficit was in February 2012 (at the height of the crisis) – $US231.7 million.
Essentially, company taxes have fallen in the last several months, while public spending has risen somewhat.
Of course, claiming that the fiscal deficit is at record levels is rather misleading. It is the same sort of mistake as when politicians claim there is record employment.
In the former case, the size of the economy has probably risen and in the latter case (also impacting on the former), the overall population has probably risen.
The fact is that the fiscal deficit in February 2012 was slightly lower than the fiscal deficit in February 2019 (in $US millions) but over that span of time, nominal GDP has growth by 30 per cent.
Which is why making a song and dance about absolute values can be highly misleading.
The interesting point is that the so-called ‘independent’ central bank once against displayed that it is anything but – with the Chairman berating the government about fiscal matters.
At the most recent Federal Reserve Monetary Policy Committee press conference last week, Jerome Powell said:
I do think that deficits matter and do think it’s not really controversial to say our debt can’t grow faster than our economy indefinitely – and that’s what it’s doing right now … I’d like to see a greater focus on that over time.”
He declined to say when the debt would become a problem – “eventually” was all he said.
Perhaps he might consult the Japanese data. Since the March-quarter 1994, Total Japanese Government debt has risen by 314 per cent while nominal GDP has risen by only 18 per cent clearly violating his warning.
And over that time, the proportion of Bank of Japan holdings of that debt has risen from 11 per cent to 41.5 per cent in the December 2018.
Mainstream economists would have predicted:
1. Rising interest rates.
2. Rising inflation if not hyperinflation.
3. Falling bid-to-cover ratios at government debt auctions.
4. Rising bond yields.
None of which have occurred.
And we have been waiting nearly 3 decades. Are 3 decades, ‘eventually’?
Here is a graph showing the proportion of Japanese government debt held by the Bank of Japan from January 1985 to December 2018.
Yet, as we all know, Japan struggles to get inflation into positive numbers.
If you want to know why MMT is different just ask the mainstream economists to explain that situation.
I read a paper the other day that claiming MMT was deficient because we had no evidence to back up our propositions.
Well, Japan will do for a start before we move on to other nations.
And you know what happens when record players get stuck? Just an ugly crackling sound emanates.
I have considered Martin Feldstein views before (for example):
1. Martin Feldstein should be ignored (May 3, 2011).
2. Precarious private balance sheets driven by fiscal austerity is the problem (September 17, 2018).
The problem with Martin Feldstein, mainstream economist and sometime film actor, is that the record has been stuck for decades and he doesn’t see to get that all he produces is noise.
The reference to being a sometime film actor relates to his appearance in the investigative movie – Inside Job – which the Director Charles Ferguson said was about “the systemic corruption of the United States by the financial services industry and the consequences of that systemic corruption.”
As a reminder, I considered his qualification to comment on macroeconomics in this blog post – Martin Feldstein should be ignored (May 3, 2011).
Feldstein, a Harvard economics professor, was a board member of AIG, which was paying massive fees in that role. He was also a board member of the subsidiary company that made all the credit default swaps that bankrupted AIG.
His appearance on the Inside Job was a classic and emphatic example of the disgraceful hubris that the mainstream of my profession exuded then, and now.
No-one could take him seriously after that appearance.
He consistently writes these inflammatory Op Eds – which predict doom.
It seems that he has little memory for what he does write. Things never turn out the way he predicts, yet he bobs up sometime later, predicting the same and so it goes.
It is as of he just uses some search find/replace function to update the dates and some numbers – and out pops another Op Ed.
And time passes, his predictions are never realised, and so it goes.
His Op Eds also display a callous lack of empathy, which is somewhat characteristic of mainstream macroeconomics, when it is required to address human issues rather than those relating to their beloved ‘infinitely lived representative agent’.
For example, on July 22, 2010, when the world economy was mostly in recession or fragile recovery, the Financial Times published an Op Ed from Feldstein – A double dip is a price worth paying – where he defended the Eurozone austerity and argued that governments should be:
… seizing the current moment of crisis to take politically difficult budget actions.
I am sure he wouldn’t have been recommending this policy strategy had his job and pension entitlements been directly linked to the unemployment that the austerity caused, and which still endures.
Feldstein wrote (at the height of the crisis) that:
Immediate action is necessary to make future deficit cuts credible. And painful cuts in government pensions and in public payrolls as well as increases in personal taxes may only be possible while there is a sense of crisis throughout Europe.
Unfortunately, the front-loaded deficit reductions may push economically weak countries into recession for the next year or two. That is the cost of achieving the needed long-term deficit reduction in the current economic and political environment.
At least he understood that the narratives at the time put out by the European Commission, IMF and a range of economists that “the front-loaded fiscal deficit reductions will not weaken the economy in the short run” were probably wrong and that the likely result would be “double dip downturns that raise unemployment”.
But he was recommending that governments deliberately increase unemployment in order to move closer over time to some arbitrary fiscal number.
The concept of fiscal policy loses all meaning if governments use it in this way. Its purpose and strength is to ensure there is low unemployment among other things.
The actual numbers – of the deficit and the debt (if government maintain the historical convention) – are irrelevant if public welfare is being maximised.
The idea that a government would use its fiscal instruments to generate about the worst evil in our economic lives (unemployment) is so far removed from responsible and ethical conduct that one just shudders with the thought.
But Feldstein has made a career in recommending this sort of policy abuse.
At regular intervals in the period since he has written variations on that theme – that the public debt will explode and the deficits will become unfundable – and then all manner of pestilence will ensue.
He recently wrote a Wall Street Journal article (June 10, 2018) – The Fed Can’t Save Jobs From AI and Robots – which ran the line that Artificial Intelligence and Robots will create mass unemployment in the US (millions will become unemployed as a consequence) but the central bank should not deviate from maintaining low inflation.
His solution is that government should further deregulate the labour market (cut wages) rather than try to engage in demand stimulus to generate higher labour demand.
On September 17, 2018), he was mentioned in a news report – ‘We don’t have any strategy to deal with it’: experts warn next recession could rival the Great Depression – as saying:
We have no ability to turn the economy around … When the next recession comes, it is going to be deeper and last longer than in the past. We don’t have any strategy to deal with it … Fiscal deficits are heading for $US1 trillion dollars and the debt ratio is already twice as high as a decade ago, so there is little room for fiscal expansion.
Of course, none of this Feldstein nonsense ever turns out to be correct.
As I explained in these blog posts – There is no financial crisis so deep that cannot be dealt with by public spending – still! (October 11, 2010) and The government has all the tools it needs, anytime, to resist recession (August 20, 2016) – a currency-issuing government can always attenuate the impacts of a financial crisis that has its origins in a non-government spending collapse.
This capacity is independent of what policy positions the same government has run prior to the crisis. Any notion that a running a deficit now (of any scale) in some way reduces the capacity to run a similar scale deficit in the future is plain wrong.
There is not even a nuance that we can bring to that proposition – a conditionality. Plain wrong is plain wrong.
When Feldstein is saying that “there is little room for fiscal expansion” he is just rehearsing the fake knowledge of the mainstream economists who define fiscal space in circular terms.
Sort of like this:
1. Fiscal expansion can only occur if deficits and debt ratios are low.
2. Currently deficits and debt ratios are higher than they were at some point in the past.
3. Therefore we have run out of fiscal space.
A circular, self-referencing proposition. Which begins wrongly and thus concludes wrongly.
If there is a new crisis, then there will be massive fiscal space which will be defined by the idle resources in the non-government sector that have become unemployed because non-government spending collapses.
That is the only way in which we can talk about ‘fiscal space’. If there are productive resources that are idle and available to be brought back into productive use, then there is fiscal space.
The fact is that there is no crisis large enough that the government through appropriate fiscal policy implementation cannot respond to.
There is no non-government spending collapse big enough that the government cannot maintain full employment through appropriate fiscal policy implementation.
A currency-issuing government can always use that capacity to buy whatever idle resources there are for sale in the currency it issues, and that includes all idle labour.
A currency-issuing government always chooses what the unemployment rate will be in their nation.
If there is mass unemployment (higher than frictional – what you would expect as people move between jobs in any week), then the government’s net spending (its deficit is too low or surplus too high).
I explain the so-called helicopter money option in this blog (also cited above) – Keep the helicopters on their pads and just spend (December 20, 2012).
By way of summary (although I urge you to read that blog post if you are uncertain):
1. Introducing new spending capacity into the economy will always stimulate demand and real output and, as long as there is excess productive capacity, will not constitute an inflation threat.
2. When there is weak non-government spending, relative to total productive capacity (and unemployment) then that spending capacity has to come from government.
3. The government can always put the brakes on when the economy approaches the inflation threshold. I will consider the ‘government isn’t nimble enough’ myth, which is regularly wheeled out against MMT, in a forthcoming blog post.
4. A currency-issuing governments does not have to issue debt to match any spending in excess of its tax receipts (that is, to match its deficit) with debt-issuance. That is a hangover from the fixed-exchange rate, convertible currency era that collapsed in August 1971.
5. Quantitative easing where the central bank exchanges bank reserves for a government bond – is just a financial asset swap – between the government and non-government sector. The only way it can impact positively on aggregate demand is if the lower interest rates it brings in the maturity range of the bond being bought stimulates private borrowing and spending.
6. But non-government borrowing is a function of aggregate demand itself (and expectations of where demand is heading). When elevated levels of unemployment persist and there are widespread firm failures, borrowers will be scarce, irrespective of lower interest rates.
7. Moreover, bank lending is not constrained by available reserves. QE was based on the false belief that banks would lend if they had more reserves.
8. Governments always spend in the same way – by issuing cheques or crediting relevant bank accounts. There is no such thing as spending by ‘printing money’ as opposed to spending ‘by raising tax receipts or issuing debt’. Irrespective of these other operations, spending occurs in the same way every day.
9. A sovereign government is never revenue constrained because it is the monopoly issuer of the currency.
10. If the government didn’t issue debt to match their deficit, then like all government spending, the Treasury would credit the reserve accounts held by the commercial bank at the central bank. The commercial bank in question would be where the target of the spending had an account. So the commercial bank’s assets rise and its liabilities also increase because a deposit would be made.
11. Taxation does the opposite – commercial bank assets fall and liabilities also fall because deposits are reduced. Further, the payee of the tax has decreased financial assets (bank deposit) and declining net worth (a liability/equity entry on their balance sheet).
12. A central bank can always credit bank accounts on behalf of the treasury department and facilitate government spending. This is the so-called ‘central bank financing’ option in textbooks (that is, ‘helicopter money’). It is a misnomer.
And the point is that all this talk of sovereign debt crises and the central bank running out of firepower is actually raising the probability of a renewed financial crisis emanating from the non-government sector, which is clearly, despite all the myths that have been told, was the source of the GFC.
Fast track to last week.
Feldstein was at it again.
His Wall Street Journal Op Ed (March 20, 2019) – The Debt Crisis Is Coming Soon – To avoid economic distress, the government has to reduce future entitlement spending (you need a subscription) – ran the same flawed train of logic but this time was attacking pension and social security entitlements.
You start to see the pattern.
His Op Eds present the same faux crisis argument and then propose a solution ranging from making more people unemployment, cutting wages, cutting pensions, cutting welfare entitlements and so it goes.
Anything that helps ordinary workers endure capitalism is shunned as creating a crisis.
In his latest Op Ed, he says:
The most dangerous domestic problem facing America’s federal government is the rapid growth of its budget deficit and national debt.
The only crisis surrounding the fiscal aggregates is that they are so badly misunderstood and manipulated by the likes of Martin Feldstein to create austerity and poverty.
He tells his readers – in numbers how the deficit will rise on current indications “to about 5% of GDP 10 years from now” and the debt ratio will follow it up.
Is a 5 per cent fiscal deficit scary or bad?
Nothing can be said without a context.
If the non-government sector wanted to claim more of GDP via its spending decisions, than a 5 per cent fiscal deficit would allow, then that would imply that nominal spending in the economy would be too strong relative to available real output.
That would be problematic and would have to be resolved by reducing the non-government spending claim on available real goods and services and/or reducing the government claim.
Without the context, Op Eds that merely rehearse ‘big’ numbers are meaningless distractions.
He goes on to claim that in an environment of a rising debt ratio:
When America’s creditors at home and abroad realize this, they will push up the interest rate the U.S. government pays on its debt. That will mean still more growth in debt. A 1% increase in the interest rate the government pays on its debt would boost the annual deficit by more than 1%. The higher long-run debt-to-GDP ratio would crowd out business investment and substantially reduce the economy’s growth rate. That in turn would mean lower real incomes and less tax revenue, leading to-you guessed it-an even higher debt-to-GDP ratio.
And all the usual mainstream textbook mumbo jumbo fake knowledge.
The Federal Reserve sets the interest rate.
While the bond markets can set yields on government debt only if the government allows that to happen.
And crowding out is a mainstream concept that is logically incoherent and empirically bereft.
The Bank of Japan has not struggled to keep interest rates at zero even when the debt ratio escalated. All central banks have that capacity.
But the real agenda of the Op Ed is to advocate cuts in spending (raising taxes is eschewed) and because:
Defense spending and nondefense discretionary outlays can’t be reduced below the unprecedented and dangerously low shares of GDP that the CBO projects …the only option is to throw the brakes on entitlements.
So if Martin Feldstein had his way he would create a trail of unemployment, workers on poverty wages, and manifestly reduced and delayed pensions once they could no longer work.
Make America Great Again it seems.
I also note that the likes of Paul Krugman has even critised Feldstein in a four-Tweet response (you can go to his Twitter page if you care).
Well it wasn’t all that long ago that Paul Krugman was dishing up this stuff out too.
In the late 1990s, for example, Paul Krugman made embarassingly wrong statements about the Japanese economy.
He advised the Bank of Japan to embark on large-scale quantitative easing in order to increase the inflation rate.
As Richard Koo noted in his 2003 book – Balance Sheet Recession: Japan’s Struggle with Uncharted Economics and its Global Implications:
Western academics like Paul Krugman advised the BOJ to administer quantitative easing to stop the deflation. Ultimately – and reluctantly – the BOJ took their advice, and in 2001 the Bank expanded bank reserves dramatically from ¥5 trillion to ¥30 trillion.
Nonetheless, both economic activity and asset prices continued to fall, and the inflation projected by Western academics never materialized.
Paul Krugman’s diagnosis of the Japanese situation was completely wrong at the time.
I discuss those issues in this blog post – Balance sheet recessions and democracy (July 3, 2009).
So it is interesting that he is now trying to distance himself from the basic predictions that a New Keynesian macroeconomics framework would deliver (as in Feldstein’s Op Ed).
He is clearly trying to reposition what he sees as the mainstream macroeoconomics. But that process leaves him with little credibility given his past comments.
While key mainstream macroeconomists are trying to nuance their message in the face of the degenerative nature of their paradigm, the old guard, like Martin Feldstein, keep pumping out the basis theory and its predictions.
It allows us to see what the core theory without all the ad hoc qualifications and fudges is about.
And that allows us to see how different Modern Monetary Theory (MMT) is to the mainstream.
That is enough for today!
(c) Copyright 2019 William Mitchell. All Rights Reserved.