Seize the Means of Production of Currency – Part 2

Last week, Thomas Fazi and I had a response to a recent British attack on Modern Monetary Theory (MMT) published in The Tribune magazine (June 5, 2019) – For MMT. The article we were responding to – Against MMT – written by a former Labour Party advisor. In – Part 1 – we considered how the MMT critique was not really about MMT at all. We provided a more accurate summary of what MMT is and what it is not. In this second Part we consider the way the former advisor’s article misrepresented MMT authors on issues such as taxes, inflation and democracy. Not that this three-part series is not just a point-by-point response to the attack on MMT noted above. In part, that article was not really about MMT but some concoction the author created to make his argument easier to sustain.

In – Seize the Means of Production of Currency – Part 1 (June 11, 2019) – we provided a coherent summary of what MMT is rather than what the critics claim it is.

It is impossible to tell whether their misrepresentations are deliberate to set up the ‘straw person’, a product of ignorance and lack of research, or plain stupidity – or a combination of all three.

In Part 1, we got up to the question of taxes. And so we resume …

Does this mean that taxes are not necessary?

Of course not. Taxes, in part, serve a functional role in depriving the non-government sector of purchasing power, which, in turn, frees up the goods and services that would otherwise have been used by the non-government sector for public use.

In other words, taxes help to free up real resource space to allow governments to spend without invoking the inflation risk.

Does this mean that we shouldn’t ‘tax the rich’?

The present authors’ values indicate we are all for taxing the rich. But not to get their money.

Rather, the rich should pay higher taxes in order to deprive them of their purchasing power, which translates into economic and political power.

This is not a minor issue.

Ultimately, fuelling the notion that we need the rich folk’s money to ‘[pay for] our schools and our caring services’, as the likes of Jeremy Corbyn and John McDonnell never tire of repeating, is a dangerous and misguided narrative for progressives to engage in.

Not only because it fuels damaging myths about how the monetary system works, but also because it elevates the rich and high-income earners to an indispensable status that is unwarranted.

As Pavlina Tcherneva, from the Levy Economics Institute, notes in her excellent response to Doug Henwood’s rather loopy attack on MMT – MMT Is Already Helping (February, 27, 2019):

I would say that Henwood (like other “tax-the-rich-to-pay-for-progress” lefties) is tethered to the wealthy by an imaginary umbilical cord that holds his progressive agenda hostage to his oppressors. To me, this is the definition of a self-induced paralysis.

Time to cut the cord. MMT has a profound emancipatory power and the Left would do well to awaken to its potential.

Progressives should come to terms with the fact that the incomes and taxes paid by the rich do not enhance the capacity of a currency-issuing government to provide first-class public services and infrastructure.

If the reader finds all this perplexing, it is because for the past forty or so years policymakers and mainstream economists and commentators have peddled a series of false myths about how modern monetary systems work.

For example, politicians seek to relate our own experiences as households managing financial constraints with the opportunities available to government even though the comparison is false at the most elemental level: households use the currency the government issues.

They blur that difference and attack government welfare programs using terms such as ‘maxing out the credit card’ to amplify this misunderstanding.

They also know that rising public debt can be politically manipulated and demonised in order to get citizens and workers to accept – demand even – policies that are not in their class interest. Even though they know that governments do not issue debt to fund government spending.

To be clear, politicians and central bankers know full well how the system works.

Indeed, governments already operate according to the framework offered by MMT.

As a recent article in FT Alphaville – America has never worried about financing its priorities (January 16, 2019) – by Brendan Greeley noted:

When Washington wants something – to fight a war, to cut taxes – it appropriates. And so arguments about balancing budgets aren’t actually about constraints. They’re about priorities. Important programs get appropriations, full stop. Unimportant programs need to be paid for with taxes.

Or, in Washington: “We can’t afford that” actually just means “I don’t think that’s very important.”

The same can be said for the UK.

As of March 2006, approximately £4.5 billion had been spent by the UK in Iraq, enough to pay for the building of around 44 new hospitals and to fund the recruitment and retention of over 10,300 new teachers for ten years.

Yet, there was never any debate about how the UK would ‘fund’ the war. The same goes for the massive post-crisis financial bailouts.

Unfortunately, the mainstream macroeconomic narrative continues to infest large swathes of the Left, particularly in Europe.

Meadway’s article is representative.

He writes that (about MMT):

This article aims to concentrate instead on the practical and political implications, why they are wrong – and why Labour’s own economic programme makes more sense.

In that sense, he is really talking about some conception of the application of MMT understandings according to some value set, rather than MMT itself, although he clearly doesn’t understand the difference.

There is no MMT program!

The “Labour’s own economic programme” will be implemented, if they gain office, in the context of a monetary system that is best understood through the MMT lens and the principles outlined in – Seize the Means of Production of Currency – Part 1 (June 11, 2019).

Trying to set up a comparison to show “Labour’s own economic programme” is superior or more sensible demonstrates Meadway’s complete lack of understanding of what MMT is.

It is such a basic error that he should disqualify himself from further discussion until he takes the time to understand this key difference between a ‘lens’ that allows for understanding and a policy program.

The inflation bogey

The knee jerk reaction to MMT is that government deficits will be inflationary, especially if they are not accompanied by debt issuance.

The critics characterise MMT as being about ‘monetary financed deficits’ (and they usually slip the ‘printing’ word in here because that is the paradigm these sorts of criticisms are stuck in).

Meadway is no exception.

He recognises that:

As a technical detail, modern governments do not have to collect taxes before they can spend: they can also borrow the money, or create and spend that money directly. On a day-to-day basis, these three things can (and often do) all happen at once. Unfortunately, what holds as a technical description of how governments pay for their daily operations does not apply over the longer term. The grave danger from issuing money, in particular, is that it will lead to a general rise in prices, known as inflation, something readily acknowledged by academic MMT supporters. They often argue that governments should use taxes to deal with this problem: taxes take money out of wider circulation, and by reducing the amount of money chasing goods and services, you reduce the pressure on prices.

His claim that this description of the monetary system is “readily acknowledged by academic MMT supporters” is a blatant misrepresentation of the MMT position. There is no such acknowledgement.

That aside, Meadway’s claim can be distilled down to the classic Monetarist assertion that increasing the ‘money supply’ in the economy reduces its value (via inflation).

First, Meadway’s mainstream textbook characterisation is not an accurate description of how government spending enters the system.

As noted in Part 1, government spending enters the economy via the central bank crediting the relevant bank accounts to facilitate the spending requirements of the treasury.

This process is not dependent on whether the fiscal position is in deficit or surplus and occurs whether the government issues debt or not.

To distinguish, as Meadway seems to, between spending that is “issuing money” from spending that is, presumably, “not issuing money”, is nonsensical.

All government spending involves currency entering the non-government sector, irrespective of what other operations might accompany it (such as issuing bonds).

Second, it is the government spending itself that carries the inflation risk.

Indeed, all spending (private or public) is inflationary if it drives nominal aggregate spending faster than the real capacity of the economy to absorb it. There is nothing particular about government spending in this regard.

But if the net government spending is purchasing real goods and services that are, for example, idle (which means there is no demand for them from the non-government sector, then such spending is unlikely to trigger inflation. A growing economy requires a growing volume of currency.

Further, there will be times that a policy ‘program’ does run into resource constraints – given there is sometimes likely to be a mismatch of idle capacity and required capacity.

For example, if the government pursues a major infrastructure project then they will likely need skilled tradepersons in the construction sector and the unemployed and under-employed might not have those skills.

So on those occasions, the government ambitions may require productive resources being diverted from current uses to government use, which requires additional policies to accompany the spending plans (taxes, regulation, etc).

These spending offsets are not related to the ‘funding’ of the spending, as might be popularly conceived (by Meadway and others), but are related to the fact that government spending is subject to real resource constraints (rather than financial constraints).

Further, these decisions then will reflect political judgements on what is best for the nation and have nothing to do with the capacity of the government to spend its own currency.

Third, what happens if the government issues debt to match the deficit?

All that happens is that the non-government sector exchanges cash for an interest-bearing asset. The central bank records this as a decline in the reserves held in the banking sector and an increase in another ‘account’ – government debt liabilities.

When the debt is repaid the numbers are reversed.

Fourth, issuing debt does not reduce the inflation risk attached to the spending despite what Meadway (channelling orthodox textbooks) suggests.

The funds to buy the debt were held in a wealth portfolio and were not being spent anyway.

If those funds were being spent by the non-government, then it is likely the required fiscal deficit to support well-being and high levels of employment would be smaller.

Further, in the event that the government spending hits resource bottlenecks, as noted above, issuing debt or not, does not alter the demand squeeze that the bottlenecks will create.

Fifth, what would happen if the government did nothing other than instruct the central bank to credit bank accounts to facilitate its spending plans?

This option has been referred to, unfortunately, as overt monetary financing (OMF) and has been advocated in recent years even by mainstream economists such as Ben Bernanke, former governor of the Federal Reserve, and Adair Turner, former chair of the British Financial Services Authority.

There would be no heightened inflation risk. The risk is in the spending.

The claim that Meadway makes – that the crediting of bank accounts by the central bank on behalf of the government is inevitably inflationary without accompanying debt issuance – has been thoroughly discredited by the evidence.

Central banks have created trillions of pounds/dollars/euros since the financial crisis, with little or no impact on inflation.

All that happens is that the net financial assets created by the deficits in the banking sector cannot be held in the form of interest-bearing bonds.

What happens if inflation accelerates?

Meadway introduces another straw person accusation: he claims that the only solution proposed by MMT to deal with inflation is:

… that governments should use taxes to deal with this problem: taxes take money out of wider circulation, and by reducing the amount of money chasing goods and services, you reduce the pressure on prices.

In this scenario, far from the transformative claims made by its online fans, we have ended up in a place remarkably similar to the hated mainstream of economics. Mainstream economics also acknowledges that inflation is an issue, but instead of saying taxes should be used to control it, its adherents, known as neoclassical economists, propose interest rates as a remedy.

First, there is nothing mainstream about dealing with inflation; on the other hand, obsessing about it, like Meadway does, is very mainstream indeed.

Second, it is remarkable that he holds himself out as a progressive, yet has been part of a policy-making team, that has designed the British Labour Party’s Fiscal Credibility Rule – which gives primacy to the Monetary Policy Committee – as the arbiter of when and if the Rule can be suspended in bad times.

The MPC sets interest rates to control inflation – which Meadway says is a hallmark of “neoclassical” economics – the “hated mainstream of economics”. But as we will see in Part 3, he holds this privileging of the MPC of the Bank of England out as the exemplar of fiscal credibility.

Somewhat ridiculous really – a very confused position.

Meadway also misuses literature when he writes:

But as two left-wing economists sympathetic to MMT, Arjun Jayadev, and J. W. Mason, have recently argued, this means that the only meaningful difference in policy terms between MMT and the mainstream on the central issue of managing inflation is whether the government should use taxes or interest rates.

I considered that particular article (Jayadev and Mason) in these blog posts:

1. The divide between mainstream macro and MMT is irreconcilable – Part 1 (September 10, 2018).

2. The divide between mainstream macro and MMT is irreconcilable – Part 2 (September 11, 2018).

3. The divide between mainstream macro and MMT is irreconcilable – Part 3 (September 12, 2018).

One of the points I made was that the authors were not discussing MMT at all despite their article being titled “Mainstream Macroeconomics and Modern Monetary Theory: What Really Divides Them?”

After that three-part response to their article, one of the authors (JW Mason) admitted via Twitter (December 31, 2018) that:

In August INET published “Mainstream Macroeconomics and Modern Monetary Theory: What Really Divides Them?” In retrospect we should have used different title, simce focus was on fiscal policy, not MMT generally. But I still think it moved convo forward.

In other words, trying to use this article as a source of commentary on MMT, as Meadway does, is dishonest. Even the authors (Mason’s tweet was retweeted by Jayadev) had to concede they had misrepresented what their article was about when it was first published.

Third, in fact, MMT identifies that if the inflation is due to excessive growth in aggregate spending (which is only one way inflation can arise), then that growth has to be attenuated.

There are a number of ways that attenuation can occur, tax rises being one of them. The government might choose to also cut spending in some areas.

As Scott Fullwiler, Rohan Grey and Nathan Tankus noted in their recent Financial Times article – An MMT response on what causes inflation (March 1, 2019):

When MMT says that a major role of taxes is to help offset demand rather than generate revenue, we are recognising that taxes are a critical part of a whole suite of potential demand offsets, which also includes things like tightening financial and credit regulations to reduce bank lending, market finance, speculation and fraud.

Further, they wrote:

Assessing the potential inflationary effect of new spending proposals also requires seriously assessing how underutilised our existing resources are. This requires detailed, expert analysis from a range of industry analysts; not just statistical regressions on aggregate economic data by macroeconomists.

That is, an MMT understanding also requires governments to be continually analysing real resource constraints ex ante and avoiding stimulus beyond those limits.

But if there is a need to attenuate spending growth in the economy, then MMT analysis demonstrates the superiority of an employment buffer stock approach (which is denoted the Job Guarantee) to replace the current unemployment buffer stock approach to inflation control.

When the government currently seeks to constrain spending growth, it creates unemployment to discipline wage demands.

Under neoliberalism, unemployment ceased to be a policy target (lower the better) and has become a policy tool to control inflation.

This is incredibly costly both in terms of income and personal losses.

MMT proponents advocate that the government would, instead, offer a public sector job at a socially inclusive minimum wage to anyone who seeks to work.

Redistributing labour from the inflating sector to the fixed price sector ensures price stability and avoids costly mass unemployment.

Why didn’t Meadway acknowledge this central aspect of MMTs approach to inflation?

After all, the Job Guarantee, the integral macroeconomic stability framework within MMT, is the only policy option that can be considered pure MMT.

Fourth, Meadway also compounds these errors by asserting that MMT is anti-democratic because:

… three pro-MMT academics writing recently in the Financial Times, who called for an ‘administrative agency’ to take responsibility for managing inflation via ‘aggregate demand’. So whilst the mainstream wants central banks to be ‘independent’ of democratic government when setting the interest rate, MMT expects an ‘administrative agency or agencies’ to do the same thing when setting taxes. Either way, democracy misses out.

The FT article referred to is the Fullwiler et al. article linked to above.

In fact, the Fullwiler article did not reach that conclusion.

Inasmuch at there was discussion of the possibility that we could replace one unaccountable technocracy (central bank) with an unaccountable fiscal agency, there was no hint that this was a core MMT proposition.

The authors were presenting their own opinion about this matter.

There is nothing in the core body of MMT work that would lead to outsourcing fiscal policy to a bunch of unelected technocrats.

That is a straightforward misrepresentation and lie from Meadway.

I considered the issue of creating independent fiscal authorities in Parts 2 and 3 of the blog posts cited above.

Further, their opinion expressed in the FT article runs counter to the views of the current authors (Thomas and I).

… to be continued.

Conclusion

In Part 3 we enter the murky world of politics – the British Fiscal Credibility rule (again) and more.

That is enough for today!

(c) Copyright 2019 William Mitchell. All Rights Reserved.